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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
/X/ Annual Report pursuant to Section 13 or 15(d)of the Securities Exchange Act
of 1934 (Fee required).
/ / Transaction report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 (No fee required).
For the fiscal year ended _______December 31, 1997________________________
Commission file number _______0-20766_____________________________________
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HCC Insurance Holdings, Inc.
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(Exact name of registrant as specified in its charter)
Delaware 76-0336636
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
13403 Northwest Freeway, Houston, Texas 77040-6094
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(Address of principal executive offices) (Zip Code)
(713) 690-7300
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(Registrant's telephone number, including area code)
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Securities registered pursuant to Section 12 (b) of the Act:
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TITLE OF EACH CLASS NAME OF EACH EXCHANGE OF WHICH REGISTERED:
COMMON STOCK, $1.00 PAR VALUE New York Stock Exchange
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Securities registered pursuant to Section 12 (g) of the Act: NONE
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 (Section229.405 of this chapter) 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. / /
The aggregate market value on March 13, 1998, of the voting stock held by
non-affiliates of the registrant was approximately $869.2 million. For purposes
of the determination of the above stated amount, only directors and executive
officers are presumed to be affiliates, but neither the registrant nor any such
person concede that they are affiliates of the registrant.
The number of shares outstanding of the registrant's Common Stock, $1.00 par
value, as of March 13, 1998 was 47,827,789.
Documents incorporated by reference: Information called for in Part III of this
Form 10-K is incorporated by reference to the Registrant's definitive Proxy
Statement to be filed within 120 days of the close of the Registrant's fiscal
year in connection with the Registrant's annual meeting of shareholders.
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TABLE OF CONTENTS
HCC INSURANCE HOLDINGS, INC.
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PART I.
ITEM 1. Business........................................................................ 3
ITEM 2. Properties...................................................................... 24
ITEM 3. Legal Proceedings............................................................... 24
ITEM 4. Submission of Matters to a Vote of Security Holders............................. 24
PART II.
ITEM 5. Market for the Registrant's Common Equity and Related Stockholder Matters....... 25
ITEM 6. Selected Financial Data......................................................... 26
ITEM 7. Management's Discussion and Analysis of Financial Condition and Results of
Operations...................................................................... 28
ITEM 7A. Quantitative and Qualitative Disclosure About Market Risk....................... 35
ITEM 8. Financial Statements and Supplementary Data..................................... 35
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosures..................................................................... 35
PART III.
ITEM 10. Directors and Executive Officers of the Registrant.............................. 36
ITEM 11. Executive Compensation.......................................................... 36
ITEM 12. Security Ownership of Certain Beneficial Owners and Management.................. 36
ITEM 13. Certain Relationships and Related Transactions.................................. 36
PART IV.
ITEM 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................. 36
SIGNATURES.............................................................................................. 37
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This report on Form 10-K (this "Report") contains certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended,
which are intended to be covered by the safe harbors created thereby. Investors
are cautioned that all forward-looking statements necessarily involve risks and
uncertainty, including, without limitation, the risk of a significant natural
disaster, the inability of the Company to reinsure certain risks, the adequacy
of its loss reserves, the financial viability of reinsurers, the expansion or
contraction in its various lines of business, the impact of inflation, changing
licensing requirements and regulations in the United States and in foreign
countries, the ability of the Company to integrate its recently acquired
businesses, the effect of pending or future acquisitions as well as acquisitions
which have recently been consummated, general market conditions, competition,
licensing and pricing. All statements, other than statements of historical
facts, included or incorporated by reference in this Report that address
activities, events or developments that the Company expects or anticipates will
or may occur in the future, including, without limitation, such things as future
capital expenditures (including the amount and nature thereof), business
strategy and measures to implement such strategy, competitive strengths, goals,
expansion and growth of the Company's businesses and operations, plans,
references to future success, as well as other statements which includes words
such as "anticipate", "believe", "plan", "estimate", "expect", and "intend" and
other similar expressions, constitute forward-looking statements. Although the
Company believes that the assumptions underlying the forward-looking statements
contained herein are reasonable, any of the assumptions could over time prove to
be inaccurate and therefore, there can be no assurance that the forward-looking
statements included in this Report will themselves prove to be accurate. In
light of the significant uncertainties inherent in the forward-looking
statements included herein, the inclusion of such information should not be
regarded as a representation by the Company or any other person that the
objectives and plans of the Company will be achieved.
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PART I
In accordance with the pooling-of-interests method of accounting, the
financial information of HCC Insurance Holdings, Inc. and its subsidiaries set
forth in this Form 10-K has been restated to include the accounts and operations
of AVEMCO Corporation and LDG Management Company Incorporated.
ITEM 1. BUSINESS
GENERAL
HCC Insurance Holdings, Inc. ("HCC") is a Delaware corporation with
principal and executive offices located at 13403 Northwest Freeway, Houston,
Texas 77040. HCC and its consolidated subsidiaries are collectively referred to
herein as the "Company" unless the context otherwise requires. HCC, through its
subsidiaries, provides specialized property and casualty insurance coverages,
managing general agency services and insurance related services both to
commercial customers and individuals. The Company's insurance products are
underwritten on both a direct and reinsurance basis and are marketed by the
Company itself and through a network of independent and affiliated agents and
brokers. The Company's principal insurance company subsidiaries are Houston
Casualty Company ("HC"), U.S. Specialty Insurance Company ("USSIC") and
Trafalgar Insurance Company ("TIC") in Houston, Texas; and AVEMCO Insurance
Company ("AIC") in Frederick, Maryland. Until recently, the Company operated IMG
Insurance Company Ltd. ("IMG") as a separate company in Amman, Jordan and
London, England. The Company is in the process of consolidating IMG's operations
with those of HC and on a going forward basis, IMG will be operated as a branch
of HC in the same locations. The Company's principal agency subsidiaries are LDG
Management Company Incorporated ("LDG") in Wakefield, Massachusetts; HCC
Underwriters, A Texas Corporation ("HCCU") in Houston, Texas; The Kachler
Corporation ("Kachler") in Houston, Texas; North American Special Risk
Associates, Inc. ("NASRA") in Northbrook, Illinois; Aviation & Marine Insurance
Group, Inc. ("AMIG") in Dallas, Texas; and Guarantee Insurance Resources, Inc.
("GIR") in Marietta, Georgia.
Since its founding in 1974, the Company and its predecessor companies have
been consistently profitable, generally reporting annual increases in gross
written premium ("GWP"), net written premium ("NWP"), management fee and
commission income and total revenue. During the period 1995 through 1997, the
Company's insurance company subsidiaries had an average combined ratio of 82.3%
versus the less favorable 106.1% recorded by the U.S. property and casualty
insurance industry overall (1995-1996). During the same period, the Company's
GWP increased from $283.5 million to $346.4 million, an increase of 22%,
although growth has slowed recently; management fee and commission income
increased from $35.9 million to $75.9 million an increase of 112%; and net
earnings increased from $26.1 million to $49.8 million, an increase of 91%.
The Company's insurance companies' underwriting activities are focused on
providing aviation, marine, offshore energy, property, accident and health, and
lenders single interest insurance and reinsurance on a worldwide basis. As an
insurer, the Company operates on a surplus lines or a non-admitted basis through
HC and TIC and on an admitted basis through AIC and USSIC.
The Company's domestic insurance company subsidiaries are rated "A+"
(Superior) by A.M. Best Company ("A.M. Best"). HC is rated "Aq" and AIC is rated
"AAq" by Standard & Poor's Corporation ("S&P"). An A.M. Best or S&P rating is
intended to provide an independent opinion of an insurer's ability to meet its
obligations to policyholders and should not be considered as an investment
recommendation.
The Company also underwrites on behalf of non-affiliiated insurance
companies through its managing general agency operations. These agency
operations specialize in domestic general aviation insurance, medical stop-loss
coverage for employee sponsored self-insured health plans, occupational accident
coverage for self-insured truckers, and a variety of accident and health related
insurance and reinsurance products. Beginning in 1996, in an effort to further
diversify its operations to enhance the Company's
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ability to anticipate and capitalize on opportunities resulting from changing
market conditions in the insurance industry, the Company commenced a strategy of
acquiring through merger or purchase, a number of privately held companies whose
business was managing general agency activities, primarily in the medical
stop-loss and domestic general aviation insurance businesses. As a result of
these acquisitions and internal growth, since 1995, the Company's management fee
and commission income has increased from $5.9 million (prior to both
poolings-of-interests restatements) to $75.9 million. The managing general
agency operations generated $518.2 million in premium during 1997, an increase
of 55% since 1995. The Company will continue to review possible acquisition
candidates in the insurance agency and services sectors in order to further the
Company's growth in this area.
STRATEGY
The Company's operating philosophy as an insurer is to maximize underwriting
profit while preserving the integrity of shareholders' equity. The Company
concentrates its writings in selected, narrowly defined lines of business in
which it believes there is a substantial opportunity to achieve underwriting
profits. The Company primarily underwrites first party coverages and lines of
business which have relatively short lead times between the occurrence of an
insured event and the reporting of claims to the Company. The Company's
insurance products are marketed both directly by the Company and through
independent and affiliated agents. With respect to the underwriting management,
marketing and related services, the Company seeks to offer quality underwriting,
decision-making, support and reinsurance capacity and financial and other
resources to take advantage of market opportunities for the development of new
products.
The property and casualty insurance underwriting business has historically
been cyclical (though not seasonal) and within the overall cycle of the
industry, particular lines of business experience their own cycles. These cycles
are characterized by periods of excess capital and significant competition in
policy pricing, terms and conditions, followed by periods of capital shortages,
typically resulting from adverse loss experience, which leads to decreased
competition, higher premium rates and stricter underwriting standards.
The position of a particular line of business in its respective underwriting
cycle depends on prevailing premium rates, availability and cost of reinsurance,
and other market conditions. The Company considers each of these factors in
determining when to increase or decrease premium volume in each line. With this
approach, the Company focuses on increasing net earnings rather than premium
volume or market share.
The Company purchases a substantial amount of reinsurance to limit its net
loss from both individual and catastrophic risks. The degree to which the
Company reinsures varies by, among other things, the particular risks inherent
in the policies underwritten, pricing of available reinsurance and competitive
conditions within the relevant line of business.
In its insurance company operations, the Company believes its operational
flexibility, experienced underwriting personnel, and access to and expertise in
the reinsurance marketplace allow the Company to implement its strategy of
emphasizing more profitable lines of business during periods of increased
premium rates and de-emphasizing less profitable lines of business during
periods of severe competition. In addition, through its acquisition and
ownership of insurance agency businesses, the Company believes that it has
demonstrated that those service based businesses can both complement the
Company's underwriting activities and serve as a source of revenue which may not
be subject to the same level of volatility as traditional underwriting revenues.
Many of the Company's insurance agency and services subsidiaries act as an agent
on behalf of, or provide services to, the Company's insurance company
subsidiaries as well as to non-affiliated insurers. The ability of the Company's
insurance company subsidiaries to utilize an affiliated insurance agency or
services provider, and the corollary ability of such insurance agency and
services subsidiaries to place business with, or provide other services to, an
affiliated
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insurer, permits the Company to capture a greater portion of the total income
derived from generated premium.
The Company's business plan is to expand its underwriting activities and
continue the growth of its insurance agency and services operations. However,
the Company's business plan is shaped by its underlying operating philosophy,
which is to maximize underwriting profit opportunities, while preserving the
integrity of shareholders' equity. The Company expects to continue to seek to
acquire complementary businesses with established management and reputation in
the insurance industry, whose business, the Company believes, can be enhanced
through the synergism created by the Company's underwriting capabilities and its
other owned insurance related businesses. As a result, the Company's primary
interests are not necessarily in expanding market share or GWP, but rather in
increasing net earnings. To accomplish this objective, the Company: (i) has been
and is prepared to emphasize or reduce underwritings in certain lines of
business as premium rates, the availability and cost of reinsurance and other
market conditions warrant; (ii) will continue to attempt to limit its downside
net loss exposure through the effective, prudent and conservative use of
reinsurance; (iii) will, as conditions warrant, continue to emphasize the growth
of its insurance agency and services operations, which can be expected to result
in continuing growth of management fee and commission income as a portion of
total revenues; and (iv) will continue to review the possible acquisition of
other specialty insurance companies.
INDUSTRY SEGMENT INFORMATION
Financial information concerning the Company's operations by industry
segments is set forth in the Consolidated Financial Statements and the Notes
thereto.
RECENT ACQUISITIONS
On May 24, 1996, the Company issued 6,250,000 shares of its Common Stock to
acquire all of the outstanding shares of LDG. LDG underwrites on behalf of
insurance and reinsurance companies and conducts its business in two areas: (i)
insurance underwriting management and (ii) reinsurance underwriting management
and intermediary services. LDG underwrites insurance and/or reinsurance in the
following lines of business: medical stop-loss insurance for employer sponsored
self-insured health plans, accident and health special risks, workers'
compensation and alternative workers' compensation. LDG generally concentrates
on lines of business that have relatively short lead times between the
occurrence of an insured event and the reporting of claims.
On November 27, 1996, the Company issued 1,136,400 shares of its Common
Stock and paid $1.7 million in cash to acquire all of the outstanding shares of
NASRA. NASRA provides underwriting management and claims administration services
to insurance and reinsurance companies primarily for occupational accident
insurance for self-employed truckers and alternative workers' compensation
insurance.
On January 24, 1997, the Company issued 266,667 shares of its Common Stock
and paid $6.6 million in cash to acquire all of the occupational accident
business of TRM International, Inc. This acquired business was consolidated with
the operations of NASRA and effectively doubled NASRA's business.
On April 30, 1997, the Company issued 725,000 shares of its Common Stock to
acquire all of the outstanding shares of Interworld Corporation ("Interworld"),
the parent corporation of AMIG. AMIG provides underwriting management services
for general aviation risks, with special emphasis on private and corporate
aircraft and small to medium size airports and commercial operators.
On June 17, 1997, the Company issued 8,511,625 shares of its Common Stock
and 604,575 options to purchase its Common Stock in order to acquire all of the
outstanding shares and options to purchase shares of AVEMCO Corporation
("AVEMCO"), the parent corporation of a group of insurance and insurance
services companies. AVEMCO, through its insurance company subsidiaries, provides
property
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and casualty insurance in the general aviation, lenders single interest,
short-term health and pleasure-craft marine lines of business. AVEMCO's primary
insurance company subsidiaries were AIC and USSIC. Following the acquisition,
the operations of USSIC have been relocated to Houston, Texas and it has become
a subsidiary of HC. AIC and USSIC operate on an admitted basis throughout the
United States and AIC also operates as an admitted insurer in Canada (except
Quebec).
AVEMCO's principal insurance agency and services operations are focused in
five areas: (i) underwriting management services for lenders single interest
coverage for banks and other financial institutions; (ii) underwriting
management services for short-term health and travel insurance marketed to
foreign students resident in the United States; (iii) claims management services
primarily on behalf of AIC; (iv) worldwide multilingual emergency assistance and
evacuation arrangement services for individuals traveling abroad; and (v)
insurance related computer products, software and services for property and
casualty insurance companies throughout the United States.
On June 26, 1997, the Company issued 98,003 shares of its Common Stock and
paid $3.6 million in cash to acquire all of the outstanding shares of Managed
Group Underwriting, Inc. ("MGU"). MGU provides underwriting management services
for medical stop-loss insurance for employer sponsored self-insured health
plans.
On July 31, 1997, the Company issued 17,354 shares of its Common Stock and
paid $2.8 million in cash to acquire all of the outstanding shares of
Continental Aviation Underwriters, Inc. ("Continental"). Continental provides
underwriting management services for general aviation risks, with special
emphasis on commercial agricultural operators.
On August 8, 1997, the Company issued 225,000 shares of its Common Stock to
acquire all of the outstanding shares of Southern Aviation Insurance
Underwriters, Inc. and Aviation Claims Administrators, Inc. (collectively,
"Southern"). Southern provides underwriting management and claims administration
services for general aviation risks, specializing in antique and vintage
military aircraft.
The operations of each of Continental and Southern have been consolidated
with those of AMIG in Dallas, Texas, which exercises overall responsibility for
underwriting management and claims administration services for the Company's
agency produced, domestic general aviation business.
On February 27, 1998, the Company issued 1,600,000 shares of its Common
Stock to acquire all of the outstanding shares of The Kachler Corporation
("Kachler"). Kachler is a retail insurance agency specializing in life, accident
and health insurance for employee benefit plans of large commercial customers
throughout the United States.
Effective as of February 28, 1998, the Company issued 29,029 shares of its
Common Stock and paid $21.4 million in cash to acquire all of the outstanding
shares of Insurance Alternatives, Inc. and the assets and liabilities of
Guarantee Insurance Resources, a general partnership (collectively, "GIR"). GIR
provides underwriting management services for medical stop-loss insurance for
employer sponsored self-insured health plans.
PENDING ACQUISITIONS
There are currently no acquisitions pending; however, the Company is
evaluating a number of possible acquisition candidates and expects to complete
one or more acquisitions during the remainder of 1998. The Company believes
these future acquisitions will expand and strengthen its existing lines of
business and perhaps provide access to additional specialty sectors, which
management expects will contribute to the growth of the Company.
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INSURANCE COMPANY OPERATIONS
The Company's property and casualty insurance company businesses specialize
in the direct underwriting, including facultative (individual policy)
reinsurance of aviation, marine, offshore energy, property, accident and health,
and lenders single interest risks and to a lesser extent, treaty reinsurance
(contractual arrangements relating to specific types of risks) on both a
proportional (where the reinsurer shares proportionately in premiums and losses)
and an excess of loss (where only losses above a fixed point or percentage are
reinsured) basis in these same lines of business.
LINES OF BUSINESS
The following table sets forth the Company's insurance company subsidiaries'
GWP by line of business and the percent to total GWP for the periods indicated:
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FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
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1997 1996 1995
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Aviation................................................. $ 164,519 47% $ 140,725 42% $ 132,690 39%
Property................................................. 85,379 25 118,154 35 124,336 37
Accident and health...................................... 43,232 12 13,004 4 10,897 3
Marine................................................... 22,847 7 32,433 10 37,321 11
Lenders single interest.................................. 21,878 7 22,870 7 16,646 5
Offshore energy.......................................... 7,469 2 8,496 2 14,893 4
Excess of loss........................................... 386 -- 734 -- 1,877 1
Miscellaneous............................................ 689 -- 862 -- 445 --
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Total GWP.............................................. $ 346,399 100% $ 337,278 100% $ 339,105 100%
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The following table sets forth the Company's insurance company subsidiaries'
NWP by line of business and the percent to total NWP for the periods indicated:
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FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
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1997 1996 1995
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Aviation................................................. $ 75,518 53% $ 104,964 56% $ 95,488 52%
Accident and health...................................... 28,165 20 12,851 7 10,794 6
Marine................................................... 17,271 12 25,918 14 32,855 18
Lenders single interest.................................. 11,097 8 19,726 10 14,600 8
Property................................................. 8,838 6 21,534 11 24,186 13
Offshore energy.......................................... 1,495 1 3,472 2 5,115 3
Excess of loss........................................... 300 -- (1,047) -- 833 --
Miscellaneous............................................ 688 -- 857 -- 454 --
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Total NWP.............................................. $ 143,372 100% $ 188,275 100% $ 184,325 100%
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UNDERWRITING
DIRECT--The Company underwrites direct business produced through independent
agents and brokers, affiliated intermediaries, and by direct marketing efforts,
particularly in small general aviation business.
REINSURANCE--The Company engages in reinsurance underwriting on a periodic
basis when market rates and other conditions make it profitable to do so, to
access business not readily available to the Company on a direct basis and to
provide reciprocity to non-affiliated insurance companies. The Company
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began writing treaty reinsurance in 1984, but had dramatically reduced its book
of business by 1992, due to the deterioration in market conditions.
The Company's current reinsurance underwriting activities are primarily in
accident and health lines of business where the Company's insurance company
subsidiaries participate in various insurance and reinsurance underwriting pools
managed by one of its subsidiaries and facultative reinsurance, particularly in
the aviation and property lines of business.
The Company previously wrote excess of loss reinsurance, typically aviation,
marine and non-marine catastrophe exposures. In 1992, due to a general market
contraction of available reinsurance for excess of loss business, the Company
was unable to purchase adequate protection at a reasonable cost and, therefore,
elected not to continue writing this class other than selectively on a net
basis. The run-off of this line of business continues profitably on a net basis.
The Company underwrites proportional treaty reinsurance on a selective
basis. The exposures reinsured are typically the same type of risks that the
Company underwrites on a direct basis.
The Company underwrites facultative reinsurance in most of its lines of
business. Typically, this is on international business in order to comply with
local licensing requirements or as reinsurance of captives, and usually can be
considered direct business, as the Company maintains underwriting and claims
control. However, all of this business is recorded under the caption of
"Reinsurance Assumed".
AVIATION--Aviation underwriting presently represents the Company's largest
overall line of business and in recent years the Company has grown into a market
leader in the aviation insurance industry. The Company insures, on both a direct
marketed and independent agency produced basis, general aviation risks,
including private aircraft owners and pilots, fixed base operations, rotor wing
aircraft, corporate aircraft, cargo operations, commuter airlines and similar
operations, many on both a domestic and international basis. At this time, the
Company does not generally insure major domestic trunk airlines, major
manufacturers or satellites. The coverages underwritten include hull (including
engines, avionics and other systems), liabilities, war, cargo and various
ancillary coverages.
The Company has been underwriting aviation risks since 1981 through HC. AIC
has been insuring aviation risks since 1959. GWP has risen consistently since
1995, increasing from $132.7 million to $164.5 million in 1997. This growth has
occurred due to internal growth, particularly internationally. Although, due to
market conditions, domestic risks had not been a focus for the Company since the
early 1990's, HC resumed writing domestic general aviation risks late in 1996
and with the acquisition of AIC and USSIC in mid-1997, the Company assumed the
role of a major participant in the domestic general aviation insurance market.
The Company's position in the domestic general aviation market is further
enhanced by its aviation managing general agency operations and the Company
estimates that it presently underwrites on behalf of affiliated and
non-affiliated insurance companies approximately 25% of the overall domestic
general aviation market. The Company expects that general aviation insurance
will continue to play a key role in the Company's near-term operations. In 1997,
the Company experienced a decline in NWP due to the implementation of the
Company's reinsurance program at AIC. The Company expects its overall increases
in GWP and NWP to slow during 1998 as a result of the Company's already
substantial market share and increased competition.
Treaty reinsurance is maintained on both a proportional and an excess of
loss basis to protect the Company against individual risk severity of loss and
catastrophe exposure. Management believes that the aviation risks underwritten
by the Company carry a relatively low level of catastrophe exposure.
MARINE--The Company underwrites marine risks for ocean going vessels ("Blue
Water"), inland and coastal trading vessels ("Brown Water"), fishing vessels and
to a limited extent, pleasure-crafts. The coverages written include hull and
machinery, liabilities (including protection and indemnity), marine cargo and
various ancillary coverages.
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The Company has underwritten marine risks since 1984. Premium rates were
adequate during 1995 and 1996 but competition has created downward pressure on
these rates causing a reduction in the Company's GWP from $37.3 million in 1995
to $22.8 million in 1997 and a corresponding decrease in NWP from $32.9 million
to $17.3 million for the same period. The Company believes these rates will
remain soft during 1998.
Treaty reinsurance is maintained on an excess of loss basis to protect the
Company against individual risk severity of loss and catastrophe exposure.
Management believes that the marine risks underwritten by the Company carry a
relatively low level of catastrophe exposure.
OFFSHORE ENERGY--The Company has been underwriting offshore energy risks
since 1988. Offshore energy risks include drilling rigs, production and
gathering platforms, and pipelines. Coverages underwritten include physical
damage, liabilities, business interruption and various ancillary coverages.
Rates have declined significantly during the past few years to levels where
profitability is unlikely. Underwriting has been on a very selective basis,
striving for quality rather than quantity, which has resulted in a continued
reduction in GWP from $14.9 million in 1995 to $7.5 million in 1997. The Company
anticipates little growth in GWP and NWP during 1998 as severe competition is
expected to continue.
Treaty reinsurance is maintained on both a proportional and an excess of
loss basis to protect the Company against individual risk severity of loss and
the catastrophic exposure that exists, for example, from a hurricane in the Gulf
of Mexico.
PROPERTY--The Company specializes in writing catastrophe exposed risks in
general and the property risks of large multinational corporations, covering
such commercial risks as hotels, office buildings, retail locations, factories,
industrial plants, utilities, refineries, natural gas facilities and
petrochemical plants. Coverage includes business interruption and physical
damage, including flood and earthquake.
The Company has written property business since 1986. GWP grew to $124.3
million in 1995 as premium rates increased following the Northridge earthquake
in 1994. During 1996, premium rates began to soften and this trend has continued
throughout 1997 due in a large part to excess capacity and the absence of
significant catastrophe losses. GWP has declined from $124.3 million in 1995 to
$85.4 million in 1997. NWP also declined from $24.2 million to $8.8 million in
the same period. Property NWP will always be substantially less than GWP due to
the amount of reinsurance purchased to protect the Company's catastrophe
exposure. In the absence of a major catastrophe loss, which could be expected to
have a positive impact on pricing in the sector, the Company expects both GWP
and NWP to decline further during 1998 as premium rates continue to soften.
Considerable treaty reinsurance is maintained on both a proportional and an
excess of loss basis to ensure adequate protection, particularly against
catastrophic exposures. The Company conservatively estimates its aggregate
exposure in any individual catastrophe zone and maintains catastrophe
reinsurance to cover its exposure to any one occurrence.
ACCIDENT AND HEALTH--The Company began underwriting accident and health
risks through HC during 1996. These risks are produced primarily by the managing
general agencies which were acquired by the Company during that year. The risks
underwritten include medical stop-loss insurance for employer sponsored
self-insured health plans; reinsurance in the medical, accident and health
special risks, workers' compensation and alternative workers' compensation
areas; and occupational accident insurance for self-employed truckers. The
Company underwrites in this area on both a direct and reinsurance basis. The
Company's GWP increased from $13.0 million in 1996 to $43.2 million in 1997. The
Company expects its overall GWP and NWP to continue to increase significantly
during 1998, primarily due to the Company's anticipated utilization of AIC as a
primary insurer of medical stop-loss products underwritten by the Company's
accident and health agency operations.
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Management believes that its accident and health business carries a
relatively low level of catastrophe exposure.
LENDERS SINGLE INTEREST--USSIC began writing lenders single interest risks
in 1984. GWP increased from $16.6 million in 1995 to $21.9 million in 1997,
however, due to the implementation of a reinsurance program when USSIC was
acquired in June, 1997, NWP decreased from $14.6 million in 1995 to $11.1
million in 1997. This coverage is marketed to banks and other financial
institutions and addresses risks of physical loss or damage to the property
securing installment loans (primarily automobiles). All of the lenders single
interest risks underwritten by the Company are produced by the Company's
subsidiary, Matterhorn Bank Programs, Inc. ("Matterhorn"). GWP is expected to
grow during 1998 but NWP will remain unchanged as the new reinsurance program
will be in effect for the entire year.
Treaty reinsurance is maintained on a proportional basis to protect against
frequency of loss. Management believes that its lenders single interest business
carries a relatively low level of catastrophe exposure.
INSURANCE COMPANY SUBSIDIARIES
HOUSTON CASUALTY COMPANY--HC, the Company's principal insurance company
subsidiary, is rated A+, VIII by A.M. Best and operates worldwide in all of the
lines of business in which the Company specializes (except lenders single
interest). HC's business is produced by independent agents and brokers, the
group's agency subsidiaries, AIC, USSIC, TIC, and other insurance and
reinsurance companies worldwide. HC has a highly experienced staff of
underwriters trained to deal with the high value, complicated exposures
prevailing in many of the lines of business in which the Company specializes. As
of December 31, 1997, HC had statutory policyholders' surplus of $233.0 million.
TRAFALGAR INSURANCE COMPANY--TIC, which was organized in 1993, is a wholly
owned subsidiary of HC. TIC is an Oklahoma domiciled property and casualty
insurance company, is rated A+, VI by A.M. Best and currently underwrites
domestic property risks and allows HC to offer insurance on a surplus lines
basis in certain jurisdictions where HC is not otherwise permitted to do so.
Applications for surplus lines approval are pending in many additional states
and TIC will expand its operations as approvals are received. As of December 31,
1997, TIC had statutory policyholders' surplus of $30.9 million.
U.S. SPECIALTY INSURANCE COMPANY--USSIC is a Maryland domiciled property and
casualty insurance company and former subsidiary of AIC which became a
subsidiary of HC in December, 1997. The Company is in the process of effecting
the re-domestication of USSIC from Maryland to Texas, which, pending regulatory
approval, is expected to be completed during the second quarter of 1998. USSIC
is rated A+, VII by A.M. Best and has historically been an underwriter of
general aviation, pleasure-craft marine and lenders single interest risks
through a network of independent agents. USSIC operates on an admitted basis
throughout the United States (except Hawaii). The Company expects to continue
USSIC's operation primarily as a general aviation and lenders single interest
underwriter. During December, 1997, the Company increased the policyholders'
surplus of USSIC by $38.4 million and as of December 31, 1997, USSIC had
statutory policyholders' surplus of $50.1 million.
IMG INSURANCE COMPANY LTD.--Organized in September, 1991, as a Jordanian
Exempt Company ("JEC"), IMG conducts substantially all of its business outside
of Jordan and has been principally engaged in insuring and reinsuring large
commercial risks in substantially the same lines of business as HC. In
connection with IMG's business, the Company has agreed to unconditionally
guarantee certain of the insurance and reinsurance business of IMG. As of
December 31, 1997, IMG had policyholders' surplus of $28.5 million. During 1998,
the operations of IMG, through its Amman, Jordan and London, England offices,
were consolidated with the operations of HC and HC is in the process of assuming
all of IMG's existing insurance obligations. On a going forward basis, IMG will
operate as a branch of HC. Management believes that this action can be expected
to enhance the direct presence of HC in the Middle Eastern,
10
<PAGE>
African and London insurance markets and is expected to lead to increased
underwriting opportunities for the Company in those and other international
markets.
AVEMCO INSURANCE COMPANY--AIC was organized in 1959 and became a subsidiary
of the Company in June, 1997. AIC is a Maryland domiciled property and casualty
insurer, is rated A+, VII by A.M. Best and operates primarily as a direct market
writer of general aviation and pleasure-craft marine business on an admitted
basis throughout the United States and Canada (except Quebec). In addition, as a
part of the Company's overall operations, it is anticipated that AIC will become
a primary insurer of medical stop-loss products underwritten by the Company's
accident and health managing general agency subsidiaries and of lenders single
interest risks underwritten by another subsidiary of the Company. At December
31, 1997, AIC had statutory policyholders' surplus of $67.9 million.
INSURANCE AGENCY AND SERVICES OPERATIONS
The Company's insurance agency subsidiaries act on behalf of insurance and
reinsurance companies, conducting business in the areas of insurance and
reinsurance underwriting management and claims administration. The insurance
services operations provide insurance related services including intermediary
services. The insurance agency and services subsidiaries do not assume any
insurance or reinsurance risk themselves and the revenues generated are based
entirely on management fees, commissions and profit commissions. As a result of
their operations, these subsidiaries are in a position to direct and control
such insurance premiums.
LDG, GIR and MGU act as underwriting managers providing medical stop-loss
and excess coverage insurance products principally to employer sponsored
self-insured health plans. Other areas of business include medical, accident and
health special risks, workers' compensation and alternative workers'
compensation insurance. In 1997, these operations generated approximately $442.0
million in premium, the majority of which was underwritten on behalf of
non-affiliated insurance companies.
AMIG, acquired by the Company in April, 1997, has provided the base, along
with the Company's insurance company subsidiary AIC, around which the Company
has rapidly developed a significant presence in the domestic general aviation
market. The underwriting management operations of AMIG have been consolidated
with those of Continental, acquired in July, 1997, Southern, acquired in August,
1997 and certain operations of USSIC, acquired in June, 1997. This combined
operation provides underwriting management services on behalf of affiliated and
non-affiliated insurance companies in the areas of private and corporate
aircraft, commercial agricultural aircraft, antique and vintage military
aircraft, small to medium sized airports, and commercial operators. During 1997,
the combined AMIG operation generated approximately $87.5 million in premium,
the majority of which was underwritten on behalf of non-affiliated insurance
companies.
NASRA acts as an underwriting manager providing occupational accident
(similar to workers' compensation) insurance to self-employed truckers and
generated approximately $46.9 million in premium in 1997, the majority of which
was underwritten on behalf of non-affiliated insurance companies.
Matterhorn acts as an underwriting manager providing lenders single interest
coverage to banks and other financial institutions. During 1997, Matterhorn
generated approximately $21.9 million in premium, all on behalf of affiliated
insurance companies, primarily USSIC.
Kachler, which was acquired in February, 1998, is a retail insurance agency
specializing in life, accident and health insurance for employee benefit plans
of large commercial customers throughout the United States. The Company intends
to increase Kachler's revenues substantially through the acquisition of similar
businesses during 1998 and 1999.
11
<PAGE>
HCCU is an intermediary specializing in marketing and servicing large,
complicated insurance and reinsurance programs placed on behalf of multinational
clients operating in the same lines of business that the Company underwrites.
This business is placed with domestic and international insurance companies,
including affiliated insurance companies, on a direct basis and through other
intermediaries. In addition, HCCU acts as a reinsurance intermediary on behalf
of affiliated and non-affiliated insurance companies.
The Company's overall revenue from insurance agency and services operations
is composed of management fee and commission income which increased 77% to $75.9
million in 1997 from $42.8 million in 1995. The Company's premium from managing
general agency operations was $518.2 million in 1997 an increase of 55% from
$334.7 million in 1995. Management expects continued growth in management fee
and commission revenue in 1998, both from existing operations and additional
acquisitions in this sector.
COMBINED INSURANCE COMPANY AND INSURANCE AGENCY OPERATIONS
The Company's combined GWP was over $850.0 million in 1997, with its
insurance company operations underwriting $346.4 million and its managing
general agency operations underwriting $518.2 million, primarily on behalf of
non-affiliated insurance companies. The substantial premium base underwritten
and controlled by the Company's managing general agency operations is expected
to increase both internally and by acquisition during 1998 and will provide a
basis for significant growth for the Company's insurance company operations as
business is transferred from non-affiliated insurance companies.
REINSURANCE CEDED
The Company principally utilizes reinsurance to reduce its net liability on
individual risks, to protect against catastrophic losses and to achieve a
desired ratio of NWP to policyholders' surplus. Various intermediaries,
including HCCU, facilitate the placement of this reinsurance coverage on behalf
of the Company and are compensated, directly or indirectly, by the reinsurers.
Reinsurance is ceded under reinsurance treaties on both a proportional and
an excess of loss basis. The Company also reinsures large individual risks on a
facultative basis. Management believes that the Company reinsures its risks to a
greater extent than most of its competitors and most other insurance companies.
This strategy greatly reduces the likelihood of a significant net loss from
insurance company operations and protects the integrity of the Company's
shareholders' equity. Under its current reinsurance protections, the Company has
limited its net retained loss, across any single line of business, to a maximum
of approximately $500,000 for any one risk, but significantly less on most
risks.
The type, cost and limits of reinsurance purchased can vary from year to
year based upon the Company's desired retention levels and the availability of
adequate reinsurance at a reasonable price. The majority of the Company's
reinsurance programs are renewed on a calendar year basis. For 1998, the Company
has been successful in renewing its reinsurance protections at reduced costs to
1997.
The Company structures a specific reinsurance program for each line of
business it underwrites. This reinsurance is placed in order to protect the
Company from unreasonable exposure to foreseeable events. The Company places
reinsurance proportionally to cover loss frequency and for catastrophe coverage,
on an excess of loss basis to cover individual risk severity of loss and on a
catastrophe basis to cover losses involving multiple risks, such as those
resulting from a hurricane or an earthquake. The Company does not intend to
expose itself to a net loss from an individual risk in excess of its reinsurance
protection.
The Company writes business in areas exposed to catastrophic losses and has
significant exposures to this type of loss in California, the Atlantic Coast of
the United States, certain United States Gulf Coast states, particularly in
Florida and Texas, the Caribbean and Mexico. The Company carefully assesses its
overall exposures to a single catastrophic event and applies procedures that it
believes are more conservative than are typically used by the industry to
ascertain the Company's probable maximum loss ("PML") from any
12
<PAGE>
single event. The Company maintains reinsurance protection which it believes is
sufficient to cover any foreseeable event.
The Company receives an overriding (ceding) commission on the premium ceded
to reinsurers which compensates the Company for the direct costs associated with
the production of the premium, the servicing of the business during the term of
the policies ceded, and the costs associated with the placement of the related
reinsurance. In addition, certain of the Company's reinsurance treaties allow
for a sharing with the Company, by the reinsurers, of the net profits generated
under such treaties.
The ceding of reinsurance does not discharge the Company from liability to
its policyholders. The Company is required to pay losses even if the reinsurer
fails to meet its obligations under the reinsurance contract. To minimize its
exposure to reinsurance credit risk, the Company places its reinsurance with a
diverse group of financially sound reinsurers. The Company's 1998 treaty
reinsurance program was placed with more than 57 domestic and foreign
reinsurers. As of December 31, 1997, the total amount recoverable from
reinsurers was approximately $203.3 million, of which $50.5 million represents
paid losses recoverable (in the ordinary course of business) and $155.4 million
represents outstanding losses recoverable, less a $2.5 million reserve for
uncollectible reinsurance. In addition, ceded unearned premium was $84.6
million. The Company held $93.9 million of irrevocable letters of credit and
$8.6 million in cash to collateralize a portion of the total amount recoverable
and had other payable balances due to its reinsurers of $116.6 million as
potential offsets against reinsurance recoverables. The estimated duration for
the Company's outstanding losses is 2 years, as the majority of the Company's
business has historically had shorter lead times between the occurrence of an
insured event and final settlements.
Prior to the Company's acquisition of AVEMCO, AIC retained a greater
percentage of overall premiums written than HC and TIC. Following the
acquisition, the Company implemented a program of reinsurance for AIC which is
more consistent with the reinsurance programs utilized by the Company's other
insurance company subsidiaries. The effect of this change was to limit the net
retained exposure of AIC and to reduce the effect on net earnings of large
losses and high frequency of losses.
Due to the Company's financial analysis of active and potential reinsurers
and its conservative strategy of diversifying its reinsurers, the Company has
never incurred a significant loss on recoverables from reinsurers. The Company
has established a reserve of $2.5 million as of December 31, 1997, to reduce the
effects of any recoverable problem.
OPERATING RATIOS
PREMIUM TO SURPLUS RATIO
The following table shows, for the periods indicated, the ratio of statutory
GWP and NWP to statutory policyholders' surplus for the Company's property and
casualty insurance company subsidiaries:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
----------------------------------------------------------
1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
GWP.................................................. $ 346,094 $ 340,367 $ 338,753 $ 283,530 $ 205,905
NWP.................................................. 143,068 189,022 184,028 133,143 101,015
Policyholders' surplus............................... 331,922 288,863 251,125 206,596 175,637
GWP ratio............................................ 104.3% 117.8% 134.9% 137.2% 117.2%
GWP industry average (1)............................. * 179.9 194.0 221.8 224.4
NWP ratio............................................ 43.1% 65.4% 73.3% 64.4% 57.5%
NWP industry average (1)............................. * 105.2 113.0 129.7 132.6
</TABLE>
- ------------------------
* Not available
(1) Source: A.M. Best.
13
<PAGE>
While there is no statutory requirement regarding a permissible premium to
surplus ratio, guidelines established by the National Association of Insurance
Commissioners ("NAIC") provide that a property and casualty insurer's annual
statutory GWP should not exceed 900% and NWP should not exceed 300% of its
policyholders' surplus. In keeping with its philosophy of protecting its
shareholders' equity and limiting its aggregate loss exposure, the Company
maintains premium to surplus ratios significantly lower than such guidelines,
and, as indicated above, below industry norms.
COMBINED RATIO
The underwriting experience of a property and casualty insurance company is
indicated by its combined ratio. The Company's insurance subsidiaries' loss
ratio, expense ratio and combined ratio, determined on the basis of statutory
accounting principles ("SAP"), are shown in the following table:
<TABLE>
<CAPTION>
1997 1996 1995 1994 1993
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Loss ratio............................................................. 61.6% 64.4% 66.4% 62.5% 66.3%
Expense ratio.......................................................... 17.2 19.2 18.1 20.4 23.7
--------- --------- --------- --------- ---------
Combined ratio......................................................... 78.8% 83.6% 84.5% 82.9% 90.0%
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Industry average (1)................................................... * 105.8% 106.4% 108.4% 106.9%
</TABLE>
- ------------------------
* Not available
(1) Source: A.M. Best.
The SAP basis ratio data is not intended to be a substitute for results of
operations on the basis of generally accepted accounting principles ("GAAP").
The difference between SAP and GAAP are shown in Note (15) of the Company's
consolidated financial statements. Including this information on a SAP basis is
meaningful and useful to allow a comparison of the Company's operating results
with those of other companies in the insurance industry. A.M. Best reports on
insurer performance on a SAP basis to provide for more standardized comparisons
among individual companies, as well as overall industry performance.
RESERVES
Applicable insurance laws and regulations require that reserves be
maintained for the payment of loss and loss adjustment expense ("LAE") with
respect to both reported and incurred but not reported ("IBNR") claims under
insurance and reinsurance policies issued by the Company. In most cases, the
Company establishes reserves through an evaluation of individual claims. In some
types of aviation claims, an average reserving method is utilized until more
information becomes available which will permit a more specific individual
evaluation of claims. In the case of direct and facultative reinsurance
business, loss reserves are determined by evaluating reported claims on the
basis of the type of loss, jurisdiction of the occurrence, knowledge of the
circumstances surrounding the claim, severity of injury or damage, potential for
ultimate exposure, experience with the insured and the line of business and
policy provisions relating to the particular type of claim. The Company
establishes loss reserves for excess of loss and proportional reinsurance claims
based on information and reports received from ceding companies. Loss reserves
for IBNR losses are determined in part on the basis of statistical information
and in part on industry experience with respect to the probable number and
nature of claims arising from occurrences which have not been reported. The
Company does not discount any of its loss reserves.
With respect to some classes of risks, the period of time between the
occurrence of an insured event and the final settlement of a claim may be many
years, and during this period it often becomes necessary to adjust the claim
estimates either upward or downward. Certain classes of marine and offshore
energy insurance underwritten by the Company have historically had longer lead
times between the occurrence of an insured event, reporting of the claim to the
Company, and final settlement. In such cases, the Company is forced to estimate
reserves over long periods of time, with the possibility of several adjustments
to
14
<PAGE>
reserves. Other classes of insurance, such as most aviation, property and
accident and health business the Company underwrites, historically have shorter
lead times between the occurrence of an insured event, reporting of the claim to
the Company, and final settlement. The reserves with respect to such classes
are, therefore, less likely to be adjusted. The classes of insurance with
shorter lead times currently represent the majority of the risks underwritten by
the Company's insurance company operations.
The reserving process is intended to provide implicit recognition of the
impact of inflation and other factors affecting loss payments by taking into
account changes in historical payment patterns and perceived probable trends.
However, there is no precise method for the subsequent evaluation of the
adequacy of the consideration given to inflation, or to any other specific
factor, some of which are interdependent.
The Company underwrites, directly and through reinsurance, risks which are
denominated in a number of foreign currencies, and therefore establishes and
maintains loss reserves with respect to these policies in the respective
currencies. These reserves are subject to exchange rate fluctuations, which may
have an effect on the Company's earnings. From time to time, the Company may
attempt to limit its exposure to future currency fluctuations through the use of
foreign currency forward contracts.
The following loss development triangles show changes in reserves in
subsequent years from the prior loss estimates based on experience as of the end
of each succeeding year on the basis of GAAP. The estimate is increased or
decreased as more information becomes known about the frequency and severity of
losses for individual years. A redundancy means the original estimate was higher
than the current estimate; a deficiency means that the current estimate is
higher than the original estimate.
The first line of each loss development triangle presents, for each of the
years indicated, the gross reserve liability including the reserve for IBNR
losses. The first section of each table shows, by year, the cumulative amounts
of loss and LAE paid as of the end of each succeeding year. The second section
sets forth the re-estimates in later years of incurred losses, including
payments, for the years indicated. The "cumulative redundancy (deficiency)"
represents, as of December 31, 1997, the difference between the latest
re-estimated liability and the reserves as originally estimated.
[THE REMAINDER OF THIS PAGE LEFT INTENTIONALLY BLANK]
15
<PAGE>
The following loss development triangle shows development in loss reserves
on a gross basis:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
----------------------------------------------------------------------
1997 1996 1995 1994 1993 1992
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balance sheet reserves:.......................... $ 275,008 $ 229,049 $ 200,756 $ 170,957 $ 144,178 $ 129,503
Cumulative paid as of:
One year later................................. 119,453 118,656 97,580 82,538 83,574
Two years later................................ 167,459 143,114 126,290 130,379
Three years later.............................. 166,541 157,509 158,973
Four years later............................... 176,472 182,193
Five years later............................... 192,512
Re-estimated liability as of:
End of year.................................... 275,008 229,049 200,756 170,957 144,178 129,503
One year later................................. 252,236 243,259 186,898 163,967 162,827
Two years later................................ 248,372 207,511 183,015 176,817
Three years later.............................. 214,738 203,137 194,419
Four years later............................... 211,546 215,531
Five years later............................... 222,746
Cumulative redundancy (deficiency)............... $ (23,187) $ (47,616) $ (43,781) $ (67,368) $ (93,243)
</TABLE>
During 1997, the Company had gross loss and LAE deficiency of $23.2 million
compared to deficiencies of $42.5 million in 1996 and $15.9 million in 1995. The
gross deficiency comes from two primary sources. Firstly, the development of
several large claims on individual policies which were either reported late or
reserves were increased as subsequent information became available, however, as
most of these policies were substantially reinsured, there was no material
effect to the Company's net earnings. Secondly, the run-off of the
retrocessional excess of loss business which the Company underwrote between 1988
and 1991. This development, $1.6 million in 1997 compared to $11.3 million in
1996 and $9.8 million in 1995, is due primarily to the delay in reporting of
catastrophe losses by the London insurance market, coupled with the
unprecedented number of catastrophes during the period in which the Company
underwrote this business. This business is also substantially reinsured, thereby
not having a material effect on the Company's net earnings.
[THE REMAINDER OF THIS PAGE LEFT INTENTIONALLY BLANK]
16
<PAGE>
The following loss development triangle shows development in loss reserves
on a net basis:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
---------------------------------------------------------------------------
1997 1996 1995 1994 1993 1992 1991
--------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Gross reserves for loss and LAE.................. $ 275,008 $ 229,049 $ 200,756 $ 170,957 $ 144,178 $ 129,503 $ 123,248
Less reinsurance recoverables.................... 155,374 111,766 101,497 95,279 82,289 81,075 83,727
--------- --------- --------- --------- --------- --------- ---------
Reserves for loss and LAE, net of reinsurance.... 119,634 117,283 99,259 75,678 61,889 48,428 39,521
Cumulative paid, net of reinsurance as of
One year later................................. 47,874 41,947 36,500 29,258 18,978 18,416
Two years later................................ 56,803 49,283 41,207 32,733 23,057
Three years later.............................. 56,919 46,576 36,536 31,903
Four years later............................... 51,536 38,480 33,875
Five years later............................... 40,327 34,970
Six years later................................ 36,203
Seven years later..............................
Eight years later..............................
Nine years later...............................
Ten years later................................
Re-estimated liability, net of reinsurance as of
End of year.................................... 119,634 117,283 99,259 75,678 61,889 48,428 39,521
One year later................................. 113,509 94,322 72,912 59,659 45,812 38,575
Two years later................................ 93,550 74,836 60,079 44,964 38,656
Three years later.............................. 76,423 62,224 46,129 39,176
Four years later............................... 64,377 48,993 40,407
Five years later............................... 50,785 43,418
Six years later................................ 45,142
Seven years later..............................
Eight years later..............................
Nine years later...............................
Ten years later................................
Cumulative redundancy (deficiency)............... $ 3,774 $ 5,709 $ (745) $ (2,488) $ (2,357) $ (5,621)
<CAPTION>
1990 1989 1988 1987
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Gross reserves for loss and LAE.................. $ 108,027 $ 96,477 $ 76,754 $ 86,101
Less reinsurance recoverables.................... 60,194 45,160 30,481 37,971
--------- --------- --------- ---------
Reserves for loss and LAE, net of reinsurance.... 47,833 51,317 46,273 48,130
Cumulative paid, net of reinsurance as of
One year later................................. 23,450 22,660 18,414 23,476
Two years later................................ 33,815 34,300 27,698 29,440
Three years later.............................. 35,912 40,806 33,601 32,820
Four years later............................... 42,465 41,878 36,256 35,713
Five years later............................... 43,422 46,734 36,045 36,992
Six years later................................ 43,690 47,164 37,718 36,490
Seven years later.............................. 44,611 47,229 38,338 37,567
Eight years later.............................. 47,928 38,415 38,074
Nine years later............................... 39,006 38,180
Ten years later................................ 38,750
Re-estimated liability, net of reinsurance as of
End of year.................................... 47,833 51,317 46,273 48,130
One year later................................. 44,887 49,475 43,362 45,267
Two years later................................ 45,435 47,313 42,463 42,526
Three years later.............................. 44,689 48,085 40,352 40,699
Four years later............................... 45,507 47,884 40,937 39,688
Five years later............................... 46,805 47,933 40,384 40,207
Six years later................................ 48,932 48,086 40,071 39,737
Seven years later.............................. 50,190 49,392 39,880 39,341
Eight years later.............................. 50,324 40,587 39,217
Nine years later............................... 41,014 39,983
Ten years later................................ 40,360
Cumulative redundancy (deficiency)............... $ (2,357) $ 993 $ 5,259 $ 7,770
</TABLE>
17
<PAGE>
The following table provides a reconciliation of the gross liability of loss
and LAE on a GAAP basis for the three years ended December 31, 1997 (dollars in
thousands):
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
Reserves for loss and LAE at beginning of year............................... $ 229,049 $ 200,756 $ 170,957
Reserves acquired with purchase of subsidiary................................ 1,919 -- --
Provision for loss and LAE for claims occurring in the current year.......... 269,505 185,502 195,019
Increase in estimated loss and LAE for claims occurring in prior years (1)... 23,187 42,503 15,941
---------- ---------- ----------
Incurred loss and LAE........................................................ 292,692 228,005 210,960
---------- ---------- ----------
Loss and LAE payments for claims occurring during:
Current year............................................................... 129,199 81,056 83,579
Prior years................................................................ 119,453 118,656 97,582
---------- ---------- ----------
Loss and LAE payments........................................................ 248,652 199,712 181,161
---------- ---------- ----------
Reserves for loss and LAE at end of the year................................. $ 275,008 $ 229,049 $ 200,756
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------------
(1) Changes in loss and LAE reserves on a GAAP basis, for losses occurring in
prior years, reflect the gross effect of the resolution of losses for other
than the reserve value and the subsequent adjustments of loss reserves.
The following table provides a reconciliation of the liability for loss and
LAE, net of reinsurance ceded, on a GAAP basis for the three years ended
December 31, 1997 (dollars in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ---------
<S> <C> <C> <C>
Reserves for loss and LAE at beginning of year................................. $ 117,283 $ 99,259 $ 75,678
Reserves acquired with purchase of subsidiary.................................. 1,919 -- --
Provision for loss and LAE for claims occurring in the current year............ 100,288 119,401 108,140
Decrease in estimated loss and LAE for claims occurring in prior years (2)..... (3,774) (4,937) (2,766)
---------- ---------- ---------
Incurred loss and LAE.......................................................... 96,514 114,464 105,374
---------- ---------- ---------
Loss and LAE payments for claims occurring during:
Current year................................................................... 48,208 54,493 45,291
Prior years.................................................................... 47,874 41,947 36,502
---------- ---------- ---------
Loss and LAE payments.......................................................... 96,082 96,440 81,793
---------- ---------- ---------
Reserves for loss and LAE at end of the year................................... $ 119,634 $ 117,283 $ 99,259
---------- ---------- ---------
---------- ---------- ---------
</TABLE>
- ------------------------
(2) Changes in loss and LAE reserves on a GAAP basis, for losses occurring in
prior years, reflect the net effect of the resolution of losses for other
than the reserve value and the subsequent adjustments of loss reserves.
Although the Company experienced a gross loss deficiency during 1997, 1996
and 1995, because the business is substantially reinsured in the lines where
adverse development has occurred, there is no material adverse effect on a net
loss basis.
During 1997, the Company had net loss and LAE redundancy of $3.8 million
relating to prior year losses compared to redundancies of $4.9 million in 1996
and $2.8 million in 1995. The Company believes it has materially provided for
all net incurred losses.
18
<PAGE>
AIC, acquired in June, 1997, recorded a $10.0 million increase in loss and
LAE reserves during December, 1997, predominately related to 1995 and 1996
claims incurred prior to the Company's acquisition of AIC. This deficiency is
included in the net redundancy recorded for 1997. This increase in reserves was
made in an effort to bring AIC's reserving practices consistent with the more
conservative method used by the Company's other insurance company operations.
The Company expects the increase in loss reserves to be adequate to cover any
subsequent adverse development of AIC's prior losses.
The Company has no material exposure to environmental pollution losses, as
HC only began writing business in 1981 and policies issued by HC normally
contain pollution exclusion clauses which limit pollution coverage to "sudden
and accidental" losses only, thus excluding intentional (dumping) and seepage
claims. Policies issued by AIC and USSIC, because of the types of risks insured,
principally general aviation, are not considered to have significant
environmental exposures. Therefore, the Company should not experience any
material development in reserves from environmental pollution claims.
INVESTMENTS
Insurance company investments must comply with applicable laws and
regulations which prescribe the type, quality and concentration of investments.
In general, these laws and regulations permit investments, within specified
limits and subject to certain qualifications, in Federal, state and municipal
obligations, corporate bonds, preferred and common equity securities. As of
December 31, 1997, the Company had $523.3 million of investment assets, the
majority of which were held by insurance company subsidiaries.
The Company's investment policy is determined by the Company's Board of
Directors and is reviewed on a regular basis. Pursuant to its investment policy,
the Company concentrates its investments in obligations of states,
municipalities and political subdivisions, the interest income from which is
predomi-
nantly exempt from Federal income tax. The interest rates on these securities
are normally lower than rates on comparable taxable securities. The Company's
portfolio of fixed income securities available for sale principally consists of
intermediate term, tax-exempt securities. The Company generally intends to hold
such securities to maturity. However, the Company regularly re-evaluates its
position based upon market conditions, which may cause the Company to
restructure its portfolio and realize gains or losses in order to maximize its
total return on investments. Accordingly, all fixed income securities are
classified as available for sale and are recorded at market value.
The Company's financial statements reflect an unrealized ("mark-to-market")
gain on fixed income securities available for sale as of December 31, 1997, of
$14.6 million. Since the Company's intention is to hold these securities until
maturity, it does not currently expect to realize any significant gain or loss
on these investments.
The Company has maintained a substantial level of cash and liquid short-term
instruments in order to maintain the ability to fund large physical damage
losses of the Company's insureds, should they occur. As of December 31, 1997,
the Company had cash and short-term investments of approximately $112.6 million.
The following tables reflect the investments of the Company (dollars are
expressed in thousands). The table set forth below reflects the average amount
of investments, income earned, and the yield thereon for the three years ended
December 31, 1997:
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
Average investments.......................................................... $ 496,010 $ 461,778 $ 401,545
Net investment income........................................................ 27,718 23,595 21,748
Average yield (1)............................................................ 5.6% 5.1% 5.4%
Average tax equivalent yield (1)............................................. 7.3 6.9 7.1
</TABLE>
- ------------------------
(1) Excluding realized and unrealized capital gains and losses.
19
<PAGE>
The table set forth below summarizes, by type, the investments of the
Company as of December 31, 1997:
<TABLE>
<CAPTION>
AMOUNT PERCENT OF TOTAL
---------- -----------------
<S> <C> <C>
Short-term investments................................................................ $ 105,255 20%
U.S. Treasury securities.............................................................. 12,214 2
Obligations of states, municipalities and political subdivisions...................... 180,028 35
Special revenue....................................................................... 216,259 41
Other fixed income securities......................................................... 1,200 --
Marketable equity securities.......................................................... 8,339 2
---------- ---
Total investments................................................................... $ 523,295 100%
---------- ---
---------- ---
</TABLE>
The table set forth below indicates the expected maturity distribution of
the Company's fixed income securities as of December 31, 1997:
<TABLE>
<CAPTION>
AMOUNT PERCENT OF TOTAL
---------- -----------------
<S> <C> <C>
One year or less...................................................................... $ 13,151 3%
One year to five years................................................................ 126,691 31
Five years to ten years............................................................... 132,278 32
Ten years to fifteen years............................................................ 102,064 25
More than fifteen years............................................................... 35,517 9
---------- ---
Total fixed income securities....................................................... $ 409,701 100%
---------- ---
---------- ---
</TABLE>
BANK LOAN
Effective as of December 30, 1997, the Company entered into a $120.0 million
revolving credit facility (the "Facility") with a group of banks. Borrowings
under the Facility may be made by the Company until the expiration of the
Facility on December 30, 1999, at which time all principal is due. The Facility
is collateralized by the stock of HC and AIC. The Facility agreement contains
certain restrictive covenants, including, without limitation, minimum net worth
requirements for the Company and certain subsidiaries, restrictions on certain
extraordinary corporate actions, notice requirements for certain material
occurrences, and required maintenance of specified financial ratios. Management
believes that the restrictive covenants and other obligations of the Company
which are contained in the Facility agreement are typical for financing
arrangements comparable to the Facility. The initial funding was used, among
other things, to refinance existing indebtedness of the Company. As of March 13,
1998, the Company had outstanding indebtedness under the Facility in the amount
of $102.0 million.
FOREIGN EXCHANGE
From time to time, the Company enters into foreign currency forward
contracts as a hedge against foreign currency fluctuations, primarily British
Pound Sterling ("GBP"). The Company's balances denominated in foreign currency
fluctuate as transactions are recorded and settled. During 1997, the average GBP
liability, for subsidiaries whose functional currency was the United States
dollar, was approximately L793,000 ($1.3 million at December 31, 1997, rate of
exchange) which was hedged by an average open forward contract balance of
approximately L125,000 ($206,000 at the December 31, 1997, rate of exchange).
There are no open foreign currency forward contracts as of December 31, 1997.
The Company may continue to limit its exposure to currency fluctuations through
the use of foreign currency forward contracts.
The Company utilizes these foreign currency forward contracts strictly as a
hedge against existing exposure to foreign currency fluctuations and it does not
do so as any form of speculative or trading investment.
20
<PAGE>
COMPETITION
The insurance business is generally highly competitive. The Company faces
competition from domestic and foreign insurers and agency operations, many of
whom are larger and have greater financial, marketing and management resources
than the Company. The Company's profitability is affected by many other factors,
including rate competition, severity and frequency of claims, interest rates,
state regulations, court decisions, the judicial climate and general business
conditions, all of which are outside the control of the Company. Although as an
insurer, the Company's underwriting strategy is to concentrate its writings in
selected, narrowly defined lines of business, the Company faces competition in
these selected lines of business both from other specialty insurance companies
as well as larger, more diversified insurance companies which underwrite
multiple lines of business, including the lines of business underwritten by the
Company. The Company's medical stop-loss business involves a diversified field
of participants from small, start-up operations to large, well-established
organizations. Significant growth in the number of medical stop-loss insurance
underwriters and underwriting managers in the past several years has increased
the level of competition in this area of the Company's business. The Company
also faces intense and growing pressure in this area from alternatives to
employer sponsored self-insured health plans, such as fully-insured plans, HMOs
and Point of Service plans, as well as from large well established direct
insurers and competing underwriting managers providing similar medical stop-loss
products to those offered by the Company to employer sponsored self-insured
health plans.
Competition in the reinsurance marketplace is primarily due to an increase
in the number of reinsurers participating in the market as well as a tendency by
reinsureds to retain a greater percentage of their own risk. The Company
competes with other reinsurance underwriting managers and domestic and
international reinsurance companies. The Company's results of operations may
also be affected by the competition for reinsurance business between broker
reinsurance markets and direct marketing reinsurance companies. The Company also
competes with many reinsurance intermediaries in the broker reinsurance market,
some of which are affiliated with primary insurance brokers with substantial
financial resources. In its insurance agency and services operations, the
Company competes with a large number of publicly traded and private firms which
operate as independent insurance agencies or insurance services providers as
well as with insurance companies which market insurance products directly
through their employees or affiliated insurance agencies. In each of the
business areas in which the Company is engaged, a significant number of the
Company's competitors have financial resources, employees, facilities, market
recognition, marketing, management, experience, and other resources
substantially greater than those of the Company. In addition to competition in
the operation of its business, the Company faces competition from a variety of
sources in attracting and retaining qualified employees.
REGULATION
The activities of the Company are subject to licensing requirements and
extensive regulation under the laws of the United States and its various states,
territories and possessions, as well as the laws of other countries in which the
Company's subsidiaries operate. Currently insurance companies are generally not
subject to any Federal regulation of their insurance business because of the
existence of a Federal law commonly known as the McCarran-Ferguson Act, which
provides the insurance industry with immunity from certain aspects of the
Federal anti-trust law and exempts the business of insurance from Federal
regulation. Therefore, in the United States, the Company's operations are
regulated primarily at the state level. The Company's business depends on the
validity of, and continued good standing under, the licenses and approvals
pursuant to which it operates, as well as compliance with pertinent regulations.
The Company therefore devotes significant efforts toward obtaining and
maintaining its licenses and compliance with a diverse and complex regulatory
structure.
The Company's insurance subsidiaries, in common with other insurers, are
subject to regulation and supervision by the states and by other jurisdictions
in which they do business. Within the states, the method of such regulation
varies but generally has its source in statutes that delegate regulatory and
supervisory
21
<PAGE>
powers to an insurance official. The regulation and supervision relates
primarily to approval of policy forms and rates, the standards of solvency that
must be met and maintained, including risk based capital measurements, the
licensing of insurers and their agents, the nature of and limitations of
investments, restrictions of the size of risks which may be insured under a
single policy, deposits of securities for the benefit of policyholders, methods
of accounting, periodic examinations of the affairs of insurance companies, the
form and content of records of financial condition required to be filed, and
reserves for unearned premiums, losses and other purposes. In general, such
regulations are intended primarily for the protection of policyholders rather
than shareholders. Compliance is monitored by the state insurance departments
through periodic regulatory reporting procedures and periodic examinations. The
quarterly and annual financial reports to the regulators in the United States
utilize accounting principles which are different from the GAAP used by the
Company in its reports to shareholders. The SAP, in keeping with the intent to
assure the protection of policyholders, are generally based on a liquidation
concept while GAAP is based on a going-concern concept.
In addition to the regulatory supervision of the insurance company
subsidiaries of the Company, as an insurance holding company, the Company is
subject to regulation under the insurance holding company system regulatory acts
in the states of California, Maryland, Missouri, Oklahoma and Texas, which
contain certain reporting requirements including registration and the filing of
annual reports. In such registration and annual reports, the Company is required
to provide current information regarding its capital structure, general
financial condition, ownership, management, and the identity of each member of
its insurance holding company system. The Company is also required to provide
prior notice to insurance regulatory authorities of certain agreements and
transactions between the Company and its affiliates. These agreements and
transactions must satisfy certain standards set forth in the insurance laws and
regulations of such states. Insurance holding company laws also regulate the
payment of dividends and other distributions by insurance companies to their
shareholders.
Additionally, the insurance agency and services operations of the Company
are subject to state insurance laws and regulations which require the licensing
of insurance agents, brokers, reinsurance intermediaries, reinsurance
underwriting managers, third party administrators and managing general agents
and which regulate certain aspects of their business. These laws and regulations
may include requirements for certain provisions in contracts entered into
between the Company and various insurers or reinsurers, record keeping and
reporting requirements, limitations on authority, advertising and business
practice rules, and other matters. The manner of operating the Company's agency
activities in particular states may vary according to the licensing requirements
of the particular state, which may require, among other things, that a firm
operate in the state through a local corporation. In a few states, licenses are
issued only to individual residents or locally-owned business entities. In such
cases, the Company has arrangements with residents or business entities licensed
to act in the state.
There can be no assurance given that the Company has all such required
licenses, approvals or complying contracts or that such licenses, approvals or
complying contracts can always be obtained or continued. In all jurisdictions,
the applicable laws and regulations are subject to amendment or interpretation
by regulatory authorities. Generally, such authorities are vested with
relatively broad discretion to grant, renew and revoke licenses and approvals,
and to implement regulations, and licenses may be denied or revoked for various
reasons, including the violations of such regulations, conviction of crimes and
the like. In some instances, the Company follows practices based on its
interpretations, or those that it believes may be generally followed by the
industry, of laws and regulations, which may be different from the requirements
or interpretations of regulatory authorities. Accordingly, the possibility
exists that the Company may be precluded or temporarily suspended from carrying
on some or all of its activities or otherwise penalized in a given jurisdiction.
Such preclusion or suspension could have a materially adverse effect on the
business and results of operations of the Company.
HC is domiciled and licensed as an admitted insurer in Texas, is an
accredited reinsurer in 30 states (including Texas), and is an approved surplus
lines insurer or is otherwise permitted to write surplus lines
22
<PAGE>
insurance in 46 states, three U.S. territories and the District of Columbia.
When a reinsurer obtains accreditation from a particular state, insurers within
that state are permitted to obtain statutory credit for risks ceded to the
reinsurer. Surplus lines insurance is offered by non-admitted (unlicensed)
companies on risks which are not insured by admitted (licensed) companies. All
surplus lines insurance is written through licensed surplus lines insurance
brokers, who are required to ensure that no licensed admitted insurer will write
a particular risk prior to placing that risk with a surplus lines insurer.
Additionally, HC through its operations in Amman, Jordan (formerly IMG), is able
under Jordanian law to directly underwrite non-Jordanian risks and reinsure
Jordanian risks. HC is in the process of seeking regulatory approval with the
appropriate English authorities to operate a formal branch office in London,
England. Such approval, if granted, will impose additional regulatory
requirements on HC, but management expects that such approval will also permit
HC to take advantage of increased opportunities in the London insurance market,
a historical focal point for specialty property and casualty risks. TIC is
domiciled and licensed as an admitted insurer in Oklahoma, is an accredited
reinsurer in three states (including Oklahoma), and is an approved surplus lines
insurer or is otherwise permitted to write surplus lines insurance in 28 states
and the District of Columbia. AIC is domiciled and licensed as an admitted
insurer in Maryland and operates as a licensed admitted insurer in 49 other
states, the District of Columbia, and all Canadian provinces (except Quebec).
USSIC is domiciled and licensed as an admitted insurer in Maryland and operates
as a licensed admitted insurer in 48 other states and the District of Columbia.
The Company expects, pending regulatory approval, to re-domesticate USSIC from
Maryland to Texas in 1998.
Under the laws of the State of Texas, HC must maintain minimum statutory
capital of $1.0 million and minimum statutory surplus of $1.0 million and may
only pay dividends out of its statutory earned surplus. The maximum amount of
dividends that HC may pay without prior regulatory approval in any 12 month
period is the greater of its statutory net investment income for the prior year,
or 10% of its statutory policyholders' surplus as of the prior year end, which
at December 31, 1997, was $23.3 million. Under the laws of the State of
Maryland, AIC and USSIC may only pay dividends out of its statutory earned
surplus. The maximum amount of dividends that AIC and USSIC may pay without
prior regulatory approval in any 12 month period is the greater of its statutory
net income or 10% of its statutory policyholders' surplus, which at December 31,
1997 was $6.8 million for AIC. However, on December 30, 1997, AIC paid an
extraordinary dividend of $13.7 million, which was approved by the Maryland
Insurance Administration and which represented a dividend of USSIC to AIC's
parent, the result of which is that USSIC has become a wholly owned subsidiary
of HC. As a result of this transaction, any dividends by AIC during the period
ending December 30, 1998 would require the prior approval of the Maryland
Insurance Administration. The maximum amount of dividends USSIC may pay HC
during 1998 is $5.0 million. Under the laws of the State of Oklahoma, TIC may
only pay dividends out of surplus funds. The maximum amount TIC may pay HC
without prior regulatory approval is the greater of statutory net income
excluding realized capital gains or 10% of statutory capital and surplus, which
at December 31, 1997 was $3.1 million.
The NAIC has developed a formula for analyzing insurance companies called
risk-based capital. The risk-based capital formula is intended to establish
"minimum" capital threshold levels that vary with the size and mix of a
company's business. It is designed to identify companies with the capital levels
that may require regulatory attention. As of December 31, 1997, each of the
Company's domestic insurance company subsidiaries' total adjusted capital is
significantly in excess of the NAIC authorized control level risk-based capital.
PENDING LEGISLATION
In recent years, state legislatures have considered or enacted laws that
modify and, in many cases, increase state authority to regulate insurance
companies and insurance holding company systems. The majority of state insurance
regulators are members of the NAIC, which seeks to promote uniformity of, and to
enhance the state regulation of, insurance. In addition, the NAIC and state
insurance regulators, as part of the NAIC's state insurance department
accreditation program, have re-examined existing laws and
23
<PAGE>
regulations, specifically focusing on insurance company investments, issues
relating to the solvency of insurance companies, licensing and market conduct
issues, interpretations of existing laws, the development of new laws, and the
definition of extraordinary dividends. Also, Congress and certain Federal
agencies have conducted investigations of the current condition of the insurance
industry in the United States to determine whether to impose Federal regulation
of insurers and reinsurers. In the past several years there have been a number
of recommendations that the McCarran-Ferguson Act (which generally exempts the
insurance business from Federal regulation) be repealed entirely or modified to
remove the industry's anti-trust exemption and subject it to Federal regulation.
The Company is not aware of any such legislation that is currently pending. If
the McCarran-Ferguson Act were to be repealed or modified, state regulation of
the insurance business would continue. This could result in an additional layer
of Federal regulation. Also from time to time, Congress and certain states have
considered various legislative proposals which would provide for governmental
earthquake insurance coverage. The Company does not know at this time the extent
to which any or all such Federal or state legislative or regulatory initiatives
will or may be adopted, and no assurance can be given that they would not, if
adopted, have a material adverse effect on the Company.
EMPLOYEES
As of December 31, 1997, the Company had 929 employees, which included five
executive officers, 46 senior management, 94 management and 784 other personnel.
Of this number, 306 were employed by the Company's insurance subsidiaries, 499
were employed by the Company's insurance agency subsidiaries and 124 were
employed by the Company's insurance services subsidiaries. The Company is not a
party to any collective bargaining agreement and has not experienced work
stoppages or strikes as a result of labor disputes. The Company considers
relations with its employees to be good.
ITEM 2. PROPERTIES
The Company's principal and executive offices are located in Houston, Texas,
in an approximately 54,000 square foot building owned by HC. LDG's principal
facility is leased office space in Wakefield, Massachusetts consisting of
approximately 34,000 square feet, which lease terminates on October 31, 2001.
AIC's principal facility is an approximately 40,000 square foot office building
owned by an AVEMCO subsidiary and located in Frederick, Maryland. AMIG's
principal facility is leased office space in Dallas, Texas consisting of
approximately 36,000 square feet, which lease terminates on August 31, 2002. The
Company owns a 48,200 square foot office building and storage complex in St.
Peters, Missouri. The Company also maintains sales and administration offices or
other facilities in over 30 locations elsewhere in the United States and in
England, Turkey and China. The majority of these additional locations are in
leased facilities.
ITEM 3. LEGAL PROCEEDINGS
The Company is a party to numerous claims and lawsuits which arise in the
normal course of its business. Many of the pending lawsuits involve claims under
policies underwritten or reinsured by the Company, the liabilities for which
management believes have been adequately included in its established loss
reserves. The Company believes the resolution of these lawsuits will not have a
material adverse effect on its financial condition, results of operations or
cash flows.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the
fourth quarter of 1997.
[THE REMAINDER OF THIS PAGE LEFT INTENTIONALLY BLANK]
24
<PAGE>
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
MARKET INFORMATION
The Company's Common Stock trades on the New York Stock Exchange ("NYSE")
under the symbol "HCC".
The high and low closing sales prices for quarterly periods during the
period January 1, 1996 through December 31, 1997, as reported by the NYSE were
as follows:
<TABLE>
<CAPTION>
1997 1996(1)
--------------------- --------------------
HIGH LOW HIGH LOW
---------- --------- --------- ---------
<S> <C> <C> <C> <C>
First quarter......................................................... $ 29 1/2 $ 22 1/2 $ 23 1/4 $ 14 1/2
Second quarter........................................................ 28 5/8 21 1/2 25 1/2 19 1/8
Third quarter......................................................... 32 11/16 23 1/4 32 3/4 22 1/8
Fourth quarter........................................................ 29 3/8 18 1/8 29 1/4 23 1/8
</TABLE>
- ------------------------
(1) The above prices have been retroactively adjusted to reflect the effects of
the five-for-two stock split, payable as a 150% stock dividend to
shareholders of record April 30, 1996. On March 13, 1998, the closing sales
price of one share of the Company's Common Stock as reported by the NYSE was
$22 1/8.
SHAREHOLDERS
The Company has one class of authorized capital stock: 100,000,000 shares of
Common Stock, par value $1.00 per share. As of March 13, 1998, there were
47,827,789 shares of issued and outstanding Common Stock held by 1,158
shareholders of record; however, the Company believes there are in excess of
15,000 beneficial owners.
DIVIDENDS
On April 19, 1996, the Company announced that the Board of Directors had
declared a five-for-two stock split in the form of a 150% stock dividend,
payable to shareholders of record as of April 30, 1996 and that it would
purchase, for cash, any fractional shares issued in connection with this split.
Beginning in June, 1996, the Company announced a planned quarterly program
of paying cash dividends to shareholders. The Company paid a cash dividend in
July, 1996 of $0.02 per share and in each succeeding quarter until the first
quarter of 1997. The Company increased the cash dividend to $0.03 per share in
April, 1997 and to $0.04 per share beginning in April, 1998. The Company
presently plans to continue to pay a $0.04 per share dividend in future
quarters. The Board of Directors may review the Company's dividend policy from
time to time, and any determination with respect thereto will be made in light
of regulatory and other conditions then existing, including the Company's
earnings, financial condition, capital requirements, loan covenants, and other
related factors. Under the terms of the Company's December 30, 1997 Facility,
the Company is prohibited from paying dividends in excess of an agreed upon
maximum amount in any fiscal year. Such limitation will not affect the ability
of the Company to pay dividends in a manner consistent with its past practice
and current expectations.
25
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data set forth below has been derived
from the Consolidated Financial Statements. All information contained herein
should be read in conjunction with the Consolidated Financial Statements, the
related notes thereto and Management's Discussion and Analysis of Financial
Condition and Results of Operations included elsewhere in this Report.
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)(1)(2)
----------------------------------------------------------
1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
STATEMENT OF EARNINGS DATA
Revenue
Net earned premium................................ $ 163,090 $ 175,309 $ 159,588 $ 122,352 $ 95,365
Management fee and commission income.............. 75,867 51,356 42,786 35,722 30,900
Net investment income............................. 27,718 23,595 21,748 17,778 14,458
Computer products and services.................... 7,064 8,471 8,227 8,153 7,453
Net realized investment gain (loss)............... (329) 8,341 1,636 434 10,583
Gain on sale of subsidiary........................ -- 3,307 -- -- --
---------- ---------- ---------- ---------- ----------
Total revenue................................. 273,410 270,379 233,985 184,439 158,759
Expense
Loss and LAE...................................... 96,514 114,464 105,374 75,898 62,712
Operating expense
Policy acquisition costs........................ 59,110 47,512 42,357 35,234 24,056
Compensation expense............................ 44,634 37,102 43,110 38,142 29,823
Other operating expense......................... 31,042 25,797 25,868 20,922 19,944
Merger expense.................................. 8,069 26,160 -- -- --
Ceding commissions.............................. (45,011) (34,053) (30,767) (24,834) (15,771)
---------- ---------- ---------- ---------- ----------
Net operating expense......................... 97,844 102,518 80,568 69,464 58,052
Interest expense.................................. 6,004 4,993 6,471 5,697 3,513
---------- ---------- ---------- ---------- ----------
Total expense................................. 200,362 221,975 192,413 151,059 124,277
---------- ---------- ---------- ---------- ----------
Earnings before income tax provision.............. 73,048 48,404 41,572 33,380 34,482
Income tax provision.............................. 23,297 9,874 9,884 7,328 6,269
---------- ---------- ---------- ---------- ----------
Net earnings.................................. $ 49,751 $ 38,530 $ 31,688 $ 26,052 $ 28,213
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
BASIC EARNINGS PER SHARE DATA:
Earnings per share (3)............................ $ 1.10 $ 0.89 $ 0.77 $ 0.72 $ 0.83
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
Weighted average shares outstanding (3)........... 45,395 43,195 40,977 36,370 34,138
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
DILUTED EARNINGS PER SHARE DATA:
Earnings per share (3)............................ $ 1.07 $ 0.87 $ 0.76 $ 0.71 $ 0.81
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
Weighted average shares outstanding (3)........... 46,609 44,443 41,513 36,929 35,040
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
Cash dividends declared, per share.................. $ 0.12 $ 0.06
---------- ----------
---------- ----------
</TABLE>
26
<PAGE>
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)(1)(2)
----------------------------------------------------------
1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Total investments................................... $ 523,295 $ 468,725 $ 454,831 $ 348,259 $ 312,297
Reinsurance recoverables............................ 203,300 132,328 117,700 116,365 96,944
Premium, claims and other receivables............... 251,477 167,168 154,084 132,799 76,063
Ceded unearned premium.............................. 84,610 71,758 78,460 65,595 32,727
Total assets........................................ 1,222,763 964,099 894,834 751,213 563,819
Loss and LAE payable................................ 275,008 229,049 200,756 170,957 144,178
Unearned premium.................................... 152,094 156,268 151,976 114,347 68,120
Total debt.......................................... 80,750 72,917 71,628 99,508 83,444
Shareholders' equity................................ 365,480 296,413 255,425 168,758 146,204
Net tangible book value per share (3) (4)........... $ 7.16 $ 6.43 $ 5.59 $ 4.04 $ 4.05
Book value per share (3) (4)........................ $ 7.92 $ 6.72 $ 5.91 $ 4.41 $ 4.08
</TABLE>
- ------------------------
(1) On May 24, 1996, the Company acquired 100% of the outstanding common stock
of LDG and on June 17, 1997 the Company acquired 100% of the outstanding
common stock and options of AVEMCO. These business combinations have been
accounted for as poolings-of-interests and, accordingly, the consolidated
financial data shown in this table has been restated to include the accounts
and operations of LDG and AVEMCO for all periods presented.
On November 27, 1996, the Company acquired 100% of the outstanding shares of
NASRA, on April 30, 1997, the Company acquired 100% of the outstanding
shares of Interworld Corporation and on August 8, 1997, the Company acquired
all of the outstanding shares of Southern and Aviation Claims
Administrators, Inc. These combinations have been accounted for as
poolings-of-interests. However, the Company's consolidated financial
statements have not been restated due to immateriality.
(2) The 1996 and prior financial statements of AVEMCO, which was acquired in
1997, have been restated prior to their inclusion in the Company's
historical consolidated financial statements to reflect certain prior period
adjustments discovered in 1997. The selected financial data in this table
has been restated to reflect these adjustments. The adjustments were for
periods prior to HCC's ownership and relate to a restatement of the method
of accounting for certain short-duration insurance contracts and to the
correction of accounting errors. The adjusted consolidated financial
statements of AVEMCO and its subsidiaries were utilized to restate the
Company's financial statements for AVEMCO's acquisition in a
pooling-of-interests transaction. (See Note 1 above and Note 1 of the Notes
to Consolidated Financial Statements.)
(3) These amounts have been adjusted to reflect the effects of the three-for-two
stock split payable as a 50% stock dividend to shareholders of record March
15, 1994, and the five-for-two stock split payable as a 150% stock dividend
to shareholders of record April 30, 1996.
(4) Book value per share is calculated by dividing shares outstanding into total
shareholders' equity. Net tangible book value per share uses total
shareholders' equity less goodwill as the numerator.
27
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THIS REPORT CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE
SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, WHICH ARE INTENDED TO BE COVERED BY
THE SAFE HARBORS CREATED THEREBY. INVESTORS ARE CAUTIONED THAT ALL FORWARD-
LOOKING STATEMENTS NECESSARILY INVOLVE RISKS AND UNCERTAINTY, INCLUDING, WITHOUT
LIMITATION, THE RISK OF A SIGNIFICANT NATURAL DISASTER, THE INABILITY OF THE
COMPANY TO REINSURE CERTAIN RISKS, THE ADEQUACY OF ITS LOSS RESERVES, THE
FINANCIAL VIABILITY OF REINSURERS, THE EXPANSION OR CONTRACTION IN ITS VARIOUS
LINES OF BUSINESS, THE IMPACT OF INFLATION, CHANGING REGULATIONS IN FOREIGN
COUNTRIES, THE ABILITY OF THE COMPANY TO INTEGRATE ITS RECENTLY ACQUIRED
BUSINESSES, EFFECT OF PENDING OR FUTURE ACQUISITIONS AS WELL AS ACQUISITIONS
WHICH HAVE RECENTLY BEEN CONSUMMATED, GENERAL MARKET CONDITIONS, COMPETITION,
LICENSING AND PRICING. ALL STATEMENTS, OTHER THAN STATEMENTS OF HISTORICAL
FACTS, INCLUDED OR INCORPORATED BY REFERENCE IN THIS REPORT THAT ADDRESS
ACTIVITIES, EVENTS OR DEVELOPMENTS THAT THE COMPANY EXPECTS OR ANTICIPATES WILL
OR MAY OCCUR IN THE FUTURE, INCLUDING, WITHOUT LIMITATION, SUCH THINGS AS FUTURE
CAPITAL EXPENDITURES (INCLUDING THE AMOUNT AND NATURE THEREOF), BUSINESS
STRATEGY AND MEASURES TO IMPLEMENT SUCH STRATEGY, COMPETITIVE STRENGTHS, GOALS,
EXPANSION AND GROWTH OF THE COMPANY'S BUSINESSES AND OPERATIONS, PLANS,
REFERENCES TO FUTURE SUCCESS, AS WELL AS OTHER STATEMENTS WHICH INCLUDES WORDS
SUCH AS "ANTICIPATE", "BELIEVE", "PLAN", "ESTIMATE", "EXPECT", AND "INTEND" AND
OTHER SIMILAR EXPRESSIONS, CONSTITUTE FORWARD-LOOKING STATEMENTS. ALTHOUGH THE
COMPANY BELIEVES THAT THE ASSUMPTIONS UNDERLYING THE FORWARD-LOOKING STATEMENTS
CONTAINED HEREIN ARE REASONABLE, ANY OF THE ASSUMPTIONS COULD OVER TIME PROVE TO
BE INACCURATE AND THEREFORE, THERE CAN BE NO ASSURANCE THAT THE FORWARD-LOOKING
STATEMENTS INCLUDED IN THIS REPORT WILL THEMSELVES PROVE TO BE ACCURATE. IN
LIGHT OF THE SIGNIFICANT UNCERTAINTIES INHERENT IN THE FORWARD-LOOKING
STATEMENTS INCLUDED HEREIN, THE INCLUSION OF SUCH INFORMATION SHOULD NOT BE
REGARDED AS A REPRESENTATION BY THE COMPANY OR ANY OTHER PERSON THAT THE
OBJECTIVES AND PLANS OF THE COMPANY WILL BE ACHIEVED.
GENERAL
The Company's primary sources of revenue are earned premium and investment
income derived from its insurance company operations, and management fee and
commission income generated from its insurance agency and services operations.
The Company's core underwriting activities involve providing aviation, marine,
offshore energy, property, accident and health, and lenders single interest
insurance, which is underwritten on both a direct and a reinsurance basis,
marketed directly by the Company and produced by independent agents. The Company
concentrates on first party, physical damage coverages and lines of business
which have relatively short lead times between the occurrence of an insured
event and the reporting of claims to the Company.
During recent years, the Company has substantially increased its capital and
surplus through the issuance of equity securities, incurrence of debt, and
earnings, thereby enabling it to increase the underwriting capacity of its
insurance company subsidiaries. The Company has utilized this additional capital
by increasing underwriting activity across many of its core lines of business,
emphasizing lines of business and individual opportunities with the most
favorable underwriting characteristics at a particular point in time. In each
line of business, the Company also cedes premium through the purchase of
reinsurance in types and amounts appropriate to the line of business, market
conditions and the Company's desired net risk retention profile.
The Company's insurance agency operations underwrite and service domestic
general aviation, medical stop-loss, lenders single interest, occupational
accident, and accident and health insurance and reinsurance business. They also
place reinsurance for the Company's insurance company operations and other
non-affiliated insurance companies.
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<PAGE>
Since 1996, the Company has focused its acquisition activities on expanding
its insurance agency and services operations for three principal reasons.
Firstly, is an attempt to increase the management fee and commission income
revenue component of the Company's total revenue, which management believes to
be a more predictable and more stable source of revenue than the potential
underwriting gain from insurance company operations. Secondly, is an effort to
insulate the Company from a decline in its net earnings growth rate as insurance
premium rates become more competitive in the lines of business in which the
Company specializes in and the Company becomes more selective in its
underwriting approach, resulting in reduced written premium. Thirdly, is to
provide a future source of premium revenue to the Company's insurance company
subsidiaries.
RESULTS OF OPERATIONS
The following table sets forth certain premium revenue information for the
three years ended December 31, 1997 (dollars in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
Direct..................................................................... $ 177,728 $ 178,969 $ 191,068
Reinsurance assumed(1)..................................................... 168,671 158,309 148,037
----------- ----------- -----------
Gross written premium.................................................... 346,399 337,278 339,105
Reinsurance ceded.......................................................... (203,027) (149,003) (154,780)
----------- ----------- -----------
Net written premium...................................................... 143,372 188,275 184,325
Change in unearned premium................................................. 19,718 (12,966) (24,737)
----------- ----------- -----------
Net earned premium......................................................... $ 163,090 $ 175,309 $ 159,588
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
The following table sets forth the relationships of certain income statement
items as a percent of total revenue for the three years ended December 31, 1997:
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
Net earned premium................................................................ 59.7% 64.8% 68.2%
Management fee and commission income.............................................. 27.7 19.0 18.3
Net investment income............................................................. 10.1 8.7 9.3
All other income.................................................................. 2.5 7.5 4.2
----- ----- -----
Total revenue................................................................... 100.0 100.0 100.0
Loss and LAE...................................................................... 35.3 42.3 45.0
Net operating expense............................................................. 35.8 37.9 34.4
Interest expense.................................................................. 2.2 1.8 2.8
----- ----- -----
Earnings before taxes........................................................... 26.7 18.0 17.8
Income taxes...................................................................... 8.5 3.7 4.3
----- ----- -----
Net earnings.................................................................... 18.2% 14.3% 13.5%
----- ----- -----
----- ----- -----
</TABLE>
- ------------------------
(1) Reinsurance assumed includes all reinsurance business written, including
facultative reinsurance.
YEAR ENDED DECEMBER 31, 1997 VERSUS YEAR ENDED DECEMBER 31, 1996
Total revenue increased to $273.4 million in 1997 from $270.4 million in
1996. GWP increased to $346.4 million in 1997 from $337.3 million in 1996, due
primarily to increased aviation and accident and health premiums offset by
decreased property and marine premium. NWP for 1997 decreased to $143.4 million
from $188.3 million in 1996, due to an increase in the amount of ceded
reinsurance. Net earned premium decreased to $163.1 million in 1997 compared to
$175.3 million in 1996 reflecting the
29
<PAGE>
reduction in NWP and the reduced retentions of the Company. The Company expects
GWP to increase during 1998 primarily due to internal growth as the Company's
managing general agency subsidiaries transfer business from non-affiliated
insurance companies to the Company's insurance company operations. However, NWP
and net earned premium will be unchanged as the Company does not intend to
increase its retentions at this time.
Management fee and commission income in 1997 increased 48% to $75.9 million
from $51.4 million in 1996, reflecting internal growth and the acquisition of
several agencies in 1997. The Company expects management fee and commission
income to continue to increase due to the effect of recent and future
acquisitions and internal growth. Net investment income increased 17% to $27.7
million in 1997 from $23.6 million in 1996 reflecting a higher level of
investment assets.
Net realized investment losses from sales of equity securities were $155,000
during 1997, compared to gains of $8.3 million in 1996. During 1996, the Company
systematically liquidated the majority of its equity portfolio. Net realized
investment losses from disposition of fixed income securities were $174,000
during 1997, compared to gains of $29,000 in 1996. During 1996, AVEMCO
consummated the sale of National Assurance Underwriters, Inc., which was a
subsidiary of AVEMCO prior to the pooling-of-interests combination with the
Company. This sale generated an after tax gain of $2.2 million or $0.05 per
share.
AIC, acquired in June, 1997, recorded a $10.0 million increase in loss and
LAE reserves during December, 1997, predominately relating to 1995 and 1996
claims incurred prior to the Company's acquisition of AIC. This increase in
reserves was made to bring AIC's reserving practices consistent with the more
conservative method used by the Company's other insurance company operations.
The Company expects the increase in loss reserves to be adequate to cover any
subsequent adverse development of AIC's prior losses.
Loss and LAE decreased $18.0 million in 1997, to $96.5 million, reflecting
the increased use of reinsurance, despite the $10.0 million reserve
strengthening charge taken by AIC. During 1997, the Company had net loss and LAE
redundancy of $3.8 million relating to prior year losses compared to a
redundancy of $4.9 million in 1996. During 1997, the Company had gross loss and
LAE deficiency of $23.2 million compared to a deficiency of $42.5 million in
1996. The gross deficiency comes from two primary sources. Firstly, the
development of several large claims on individual policies which were either
reported late or reserves were increased as subsequent information became
available, however, as most of these policies were substantially reinsured,
there is no material effect to the Company's net earnings. Secondly, is the
run-off of the retrocessional excess of loss business which the Company
underwrote between 1988 and 1991. This development, $1.6 million in 1997
compared to $11.3 million in 1996, is primarily due to the delay in reporting of
catastrophe losses by the London insurance market, coupled with the
unprecedented number of catastrophes during the period in which the Company
underwrote this business. This business is also substantially reinsured, thereby
not having a material effect on the Company's net earnings. The Company
continues to believe it has materially provided for all net incurred losses.
Compensation expense increased $7.5 million or 20% in 1997, to $44.6 million
due to the increase in personnel resulting from acquisitions completed during
1997, along with an increase in management personnel hired to oversee the
integration of the Company's many acquisitions.
Other operating expense increased 20% to $31.0 million in 1997. These
expenses reflect increased expenditures required to meet the overall growth in
business and from acquisitions. Currency conversion losses amounted to $884,000
in 1997, compared to losses of $181,000 in 1996.
Merger expense represents non-recurring items incurred to consummate the
acquisitions and mergers which are accounted for as poolings-of interests. The
amounts incurred during 1996 were due to the combination with LDG and included a
compensatory stock grant of $24.0 million to certain key LDG
30
<PAGE>
employees immediately prior to the merger. The amounts incurred during 1997 were
due to the combinations with AVEMCO, Interworld and Southern.
The 1996 and prior financial statements of AVEMCO were restated prior to
their combinations with those of the Company. See Note 1 to the Consolidated
Financial Statements for the reasons for and the effects of this restatement.
Interest expense during 1997 increased 20% to $6.0 million from $5.0 million
during 1996 due to the increased level of indebtedness primarily to fund the
cash portion of acquisitions.
Income tax expense was $23.3 million in 1997, compared to $9.9 million in
1996. The 1996 amount included a deferred tax benefit of $9.6 million which was
recorded in connection with the compensatory stock grant to certain key LDG
employees. The compensation expense was a non-cash item; however, $9.6 million
of actual cash tax savings will be recognized beginning from the grant date.
Most of the other merger expenses are not deductible for income tax purposes.
Also, as an S Corporation, LDG was exempt from Federal income taxes through May
21, 1996. Had LDG been subject to Federal income tax during the period January
1, 1996 to May 21, 1996, additional income tax expense of $2.3 million would
have been recorded in 1996.
Net earnings increased 29% to $49.8 million in 1997 from $38.5 million in
1996. Diluted earnings per share increased 23% to $1.07 in 1997 from $0.87 in
1996.
The Company's insurance company subsidiaries' statutory combined ratio was
78.8% for 1997 compared to 83.6% in 1996. The Company's combined ratio remains
significantly better than the industry average.
YEAR ENDED DECEMBER 31, 1996 VERSUS YEAR ENDED DECEMBER 31, 1995
Total revenue during 1996 increased 16% to $270.4 million from $234.0
million in 1995. 1996 GWP decreased to $337.3 million from $339.1 million in
1995, while NWP increased from $184.3 million in 1995 to $188.3 million in 1996.
The decrease in written premium was a result of the planned exit from the
offshore energy business as a result of increased competition that has driven
rates below acceptable levels, as well as the softening in marine rates and,
more recently, property rates. Net earned premium in 1996 increased from $159.6
million to $175.3 million, reflecting the large increase in written premium
during 1995.
Management fee and commission income in 1996 increased 20% to $51.4 million
from $42.8 million in 1995, reflecting internal growth. Net investment income
increased 8% to $23.6 million in 1996 from $21.7 million in 1995 reflecting a
higher level of investment assets.
Realized investment gains from sales of marketable equity securities were
$8.3 million during 1996 compared to $1.3 million during 1995. Realized
investment gains from dispositions of fixed income securities were $29,000
during 1996, compared to gains of $371,000 during 1995. During 1996, the Company
liquidated most of its equity security portfolio and re-deployed those
investment assets into fixed income securities. During 1996, AVEMCO consummated
the sale of National Assurance Underwriters, Inc., which was a subsidiary of
AVEMCO prior to the pooling-of-interests combination with the Company. This sale
generated an after tax gain of $2.2 million or $0.05 per share.
Loss and LAE increased $9.1 million in 1996, to $114.5 million, reflecting
the overall increase in business. During 1996, the Company had net loss and LAE
redundancy of $4.9 million relating to prior year losses compared to a
redundancy of $2.8 million in 1995. During 1996, the Company had gross loss and
LAE deficiency of $42.5 million compared to a deficiency of $15.9 million in
1995. The gross deficiency comes from two primary sources. Firstly, the
development of several large claims on individual policies which were either
reported late or reserves were increased as subsequent information became
available, however, as most of these policies were substantially reinsured,
there is no material effect to the
31
<PAGE>
Company's net earnings. Secondly, is the run-off of the retrocessional excess of
loss business which the Company underwrote between 1988 and 1991. This
development, $11.3 million in 1996 compared to $9.8 million in 1995, is due to
the delay in reporting of catastrophe losses by the London insurance market,
coupled with the unprecedented number of catastrophes during the period in which
the Company underwrote this business. This business is also substantially
reinsured, thereby not having a material effect on the Company's net earnings.
The Company continues to believe it has materially provided for all net incurred
losses.
Compensation expense decreased $6.0 million or 14% in 1996, to $37.1 million
due primarily to changes in compensation to LDG's previous principal
shareholders.
Merger expense represents non-recurring items incurred to consummate the
acquisitions and mergers which are accounted for as poolings-of-interests. The
amounts incurred during 1996 were due to the combination with LDG and included a
compensatory stock grant of $24.0 million to certain key LDG employees
immediately prior to the Company's May, 1996 merger with LDG.
The 1996 and prior financial statements of AVEMCO were restated prior to
their combinations with those of the Company. See Note 1 to the Consolidated
Financial Statements for the reasons for and the effects of this restatement.
Interest expense during 1996 decreased 23% to $5.0 million from $6.5 million
during 1995 due to the reduced level of indebtedness as a portion of the
proceeds of a June, 1995, public offering of Common Stock which was used to
retire debt.
Income tax expense remained unchanged at $9.9 million in 1996, compared to
1995 despite higher pretax income in 1996. This was a result of a deferred tax
benefit of $9.6 million which was recorded in connection with the compensatory
stock grant to certain LDG employees. The compensation expense was a non-cash
item; however, $9.6 million of actual cash tax savings will be recognized
beginning from the grant date. Also, as an S corporation, LDG was exempt from
Federal income taxes through May 21, 1996. Had LDG been subject to Federal
income taxes for both years, additional income tax expense of $2.3 million and
$722,000 would have been recorded during the years ended December 31, 1996 and
1995, respectively.
Net earnings increased 22% to $38.5 million in 1996 from $31.7 million in
1995. Diluted earnings per share increased 14% to $0.87 in 1996 from $0.76 in
1995.
The Company's insurance company subsidiaries' statutory combined ratio was
83.6% for 1996 compared to 84.5% in 1995. The Company's combined ratio remains
significantly better than the industry average.
LIQUIDITY AND CAPITAL RESOURCES
HCC completed an initial public offering of 1,437,500 shares of Common Stock
during October, 1992 and secondary public offerings of 1,254,200 shares of
Common Stock in September, 1993 and 2,012,500 shares of Common Stock in June,
1995. The offerings significantly improved the capital resources of the Company.
The net proceeds of the offerings have been used to reduce the Company's
indebtedness and to contribute capital to its insurance company subsidiaries. HC
now has more than $233.0 million in policyholders' surplus. This additional
capital enables HC to write significantly more premium and to have sufficient
financial size and strength to operate in the current insurance industry
environment.
The Company receives substantial cash from premiums and reinsurance
recoverables, and, to a lesser extent, investment income, proceeds from sales
and redemptions of investment assets and management fee and commission income.
The principal cash outflows are for the payment of claims and LAE, payment of
premiums to reinsurers, purchase of investments, debt service, policy
acquisition costs, operating expenses, income and other taxes and dividends.
32
<PAGE>
During 1997, HC renewed its existing credit facility (the "HC Facility")
which provides for a $12.0 million bank line of credit for the issuance of
letters of credit and for short-term borrowings at the prime rate of interest.
The HC Facility is collateralized by securities with a market value equal to
125% of the total sum of the letters of credit issued and cash advances
outstanding. The HC Facility matures on April 30, 1998. As of December 31, 1997,
letters of credit in the amount of $10.3 million were issued on behalf of HC to
collateralize certain reinsurance obligations.
Effective December 30, 1997, the Company executed a $120.0 million revolving
credit facility (the "Facility") with a group of banks. Borrowings under the
Facility may be made by the Company until the expiration of the Facility on
December 30, 1999, at which time all principal is due. Outstanding loans under
the Facility bear interest at the Company's option at either the prime rate
(8 1/2% at December 31, 1997) or at the current London Interbank Offering Rate
("LIBOR") (5.72% at December 31, 1997) plus 1%. The Facility is collateralized
by the common stock of HC and AIC. The agreement contains restrictive covenants,
including without limitation, minimum net worth requirements for the Company and
certain subsidiaries, restrictions on certain extraordinary corporate actions,
notice requirements for certain material occurences and required maintenance of
specified financial ratios. The initial funding from the Facility was used,
among other things, to refinance HCC's then existing outstanding loans.
The Company maintains a substantial level of cash and liquid short-term
investments which are used to meet anticipated payment obligations. As of
December 31, 1997, the Company had cash and short-term investments of
approximately $112.6 million. The Company's consolidated investment portfolio of
$523.3 million as of December 31, 1997 (of which $105.3 million is short-term
investments), is available to provide additional liquidity and cash for
operations.
Property and casualty insurance companies domiciled in the State of Texas
are limited in the payment of dividends to their shareholders in any 12 month
period, without the prior written consent of the Commissioner of Insurance, to
the greater of net investment income or 10% of statutory policyholders' surplus.
HC paid no dividends in 1997 to HCC. During 1998, HC's ordinary dividend
capacity will be approximately $23.3 million.
The Company believes that its operating cash flows, short-term investments
and the bank lines of credit will provide sufficient sources of liquidity to
meet its anticipated needs for the foreseeable future.
At December 31, 1997, the Company had a net deferred tax asset of $6.6
million compared to $12.6 million at December 31, 1996. Due to the Company's
history of consistent earnings, strong operating cash flows and expectations for
the future, it is more likely than not that the Company will be able to realize
the benefit of its deferred tax asset.
As of December 31, 1997, the domestic insurance company subsidiaries' total
adjusted capital is significantly in excess of the NAIC authorized control level
risk-based capital.
Industry and regulatory guidelines suggest that a property and casualty
insurer's annual statutory GWP should not exceed 900% of its statutory
policyholders' surplus and NWP should not exceed 300% of its statutory
policyholders' surplus. The Company's insurance company subsidiaries maintain a
premium to surplus ratio significantly lower than such guidelines, and for the
year ended December 31, 1997, their annual statutory GWP was 104.3% of their
statutory policyholders' surplus and their NWP was 43.1% of their statutory
policyholders' surplus.
IMPACT OF INFLATION
The Company's operations, like those of other property and casualty
insurers, are susceptible to the effects of inflation, as premiums are
established before the ultimate amounts of loss and LAE are known. Although
management considers the potential effects of inflation when setting premium
rates for competitive reasons, such premiums may not adequately compensate the
Company for the effects of inflation. However, as the majority of the Company's
business is comprised of lines which have short lead times
33
<PAGE>
between the occurrence of an insured event, reporting of the claims to the
Company and the final settlement of the claims, the effects of inflation are
minimized.
A significant portion of the Company's revenue is related to healthcare
insurance and reinsurance products which are subject to the effects of the
underlying inflation of medical costs. Such inflation in the costs of healthcare
tends to generate increases in premiums for medical stop-loss coverage,
resulting in greater revenue, but also higher claim payments. Inflation may have
a negative impact on insurance and reinsurance operations by causing higher
claim settlements than may originally have been estimated without an immediate
increase in premiums to a level necessary to maintain profit margins. No express
provision for inflation is made, although trends are considered when setting
underwriting terms and claim reserves. Claim reserves are subject to a
continuing review process to assess their adequacy and are adjusted as deemed
appropriate. In addition, the market value of the investments held by the
Company varies depending on economic and market conditions and interest rates,
which are highly sensitive to the policies of governmental and regulatory
authorities. Any significant increase in interest rates could therefore have a
material adverse effect on the market value of the Company's investments.
EXCHANGE RATE FLUCTUATIONS
The Company underwrites risks which are denominated in a number of foreign
currencies. It establishes and maintains loss reserves with respect to these
policies in their respective currencies. These reserves are subject to exchange
rate fluctuations which can have an effect on the Company's net earnings. The
Company's principal area of exposure is with respect to fluctuation in the
exchange rate between the major European currencies and the United States
Dollar. For the years ended December 31, 1997, 1996 and 1995, the loss from
currency conversion was $884,000, $181,000 and $209,000, respectively.
From time to time the Company enters into foreign currency forward contracts
as a hedge against foreign currency fluctuations, primarily GBP. The Company's
balances denominated in foreign currencies fluctuate as transactions are
recorded and settled. During 1997, the average GBP liability, for subsidiaries
whose functional currency was the United States dollar, was approximately
L793,000 ($1.3 million at the December 31, 1997, rate of exchange) which was
hedged by an average open forward contract balance of approximately L125,000
($206,000 at the December 31, 1997, rate of exchange). There were no open
foreign currency forward contracts as of December 31, 1997. The Company may
continue to limit its exposure to currency fluctuations through the use of
foreign currency forward contracts.
The Company utilizes these foreign currency forward contracts strictly as a
hedge against existing exposure to foreign currency fluctuations and it does not
do so as any form of speculative or trading investment.
EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS
In June, 1997, the Financial Accounting Standards Board issued SFAS No. 130
"Reporting Comprehensive Income" and SFAS No. 131 "Disclosures about Segments of
an Enterprise and Related Information". Both statements are effective for fiscal
years beginning after December 15, 1997. These SFAS's require that additional
information be included in a complete set of financial statements, but will have
no effect on the Company's net earnings, shareholders' equity or cash flows. The
Company does not expect to change its definition of segments when SFAS No. 131
is adopted.
YEAR 2000
The Year 2000 issue is the result of computer programs being written using
two digits rather than four digits to define the applicable year. If not
corrected, computer applications could fail or create erroneous results by or at
the Year 2000.
The Company, together with outside vendors engaged by the Company, has made
assessments of the Company's potential Year 2000 exposure. The Company believes
that with modifications to existing
34
<PAGE>
software and in connection with planned conversions to new software, the Year
2000 issue will be mitigated. The Company has implemented a plan to mitigate its
Year 2000 exposure, including the identification, selection and implementation
of a new Year 2000 compliant software system at an insurance company subsidiary.
Management believes that the plan is progressing such that Year 2000 exposures
will be mitigated prior to any critical date and by October, 1998 with respect
to the insurance company subsidiary where the Company's major Year 2000 risk
exists.
The Company is utilizing and will continue to utilize both internal and
external resources to reprogram or replace its computer systems such that the
reprogrammed or new systems will cause the Company to be Year 2000 compliant in
advance of respective critical dates. The total estimated remaining cost of
modification of existing software and new Year 2000 compliant systems is
$4,600,000 which includes, $4,400,000 attributable to the planned purchase and
implementation of new systems, principally to replace the above mentioned
insurance company subsidiary's system. The cost of this new software will be
capitalized. The remaining estimated cost of $200,000 will be expensed as
incurred over the next two years. The level of expense is not expected to have a
material effect on results of operations. The cost of modification of existing
systems to become Year 2000 compliant and of the new Year 2000 compliant
software is to be funded out of operating cash flow, which is sufficient to
provide the funding. The cost estimates are management's best estimates based
upon assumed future events which could change.
In 1997, the Company expensed $11,000 with respect to Year 2000 compliance
and capitalized $550,000 with respect to new Year 2000 compliant software
purchases and installations. The Company does not believe that it has
significant Year 2000 exposure with respect to its vendors and the Company's
software vendor subsidiary's products are Year 2000 compliant.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The information required by the Item is set forth under the heading
"Business--Foreign Exchange" and in Note 1 of the Notes to Consolidated
Financial Statements.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements required in response to this section
are submitted as part of Item 14 of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES
None.
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<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
For information regarding Directors and Executive Officers of the
Registrant, reference is made to the Registrant's definitive proxy statement for
its Annual Meeting of Shareholders, which will be filed with the Securities and
Exchange Commission within 120 days after December 31, 1997, and which is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
For information regarding Executive Compensation, reference is made to the
Registrant's definitive proxy statement for its Annual Meeting of Shareholders,
which will be filed with the Securities and Exchange Commission within 120 days
after December 31, 1997, and which is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
For information regarding Security Ownership of Certain Beneficial Owners
and Management, reference is made to the Registrant's definitive proxy statement
for its Annual Meeting of Shareholders, which will be filed with the Securities
and Exchange Commission within 120 days after December 31, 1997, and which is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
For information regarding Certain Relationships and Related Transactions,
reference is made to the Registrant's definitive proxy statement for its Annual
Meeting of Shareholders, which will be filed with the Securities and Exchange
Commission within 120 days after December 31, 1997, and which is incorporated
herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) EXHIBITS
The exhibits listed on the accompanying Index to Exhibits are filed as part
of this Report.
(b) FINANCIAL STATEMENT SCHEDULES
The financial statements and financial statement schedules listed in the
accompanying index are filed as part of this Report.
(c) REPORTS ON FORM 8-K
No reports on Form 8-K were filed by the Company during the fourth quarter
of 1997.
36
<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.
HCC INSURANCE HOLDINGS, INC.
(Registrant)
By: /s/ STEPHEN L. WAY
------------------------------------------
(Stephen L. Way)
CHAIRMAN OF THE BOARD
Dated: March 27, 1998 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>
NAME TITLE DATE
- ------------------------------ --------------------------- -------------------
<C> <S> <C>
Chairman of the Board of
/s/ STEPHEN L. WAY Directors and Chief
- ------------------------------ Executive Officer March 27, 1998
(Stephen L. Way) (Principal Executive
Officer)
/s/ JAMES M. BERRY*
- ------------------------------ Director March 27, 1998
(James M. Berry)
/s/ FRANK J. BRAMANTI
- ------------------------------ Director and Executive Vice March 27, 1998
(Frank J. Bramanti) President
/s/ PATRICK B. COLLINS*
- ------------------------------ Director March 27, 1998
(Patrick B. Collins)
/s/ J. ROBERT DICKERSON*
- ------------------------------ Director March 27, 1998
(J. Robert Dickerson)
Senior Vice President and
/s/ EDWARD H. ELLIS, JR. Chief Financial Officer
- ------------------------------ (Chief Accounting March 27, 1998
(Edward H. Ellis, Jr.) Officer)
/s/ EDWIN H. FRANK, III*
- ------------------------------ Director March 27, 1998
(Edwin H. Frank, III)
/s/ ALAN W. FULKERSON*
- ------------------------------ Director March 27, 1998
(Alan W. Fulkerson)
/s/ WALTER J. LACK*
- ------------------------------ Director March 27, 1998
(Walter J. Lack)
</TABLE>
37
<PAGE>
<TABLE>
<C> <S> <C>
/s/ STEPHEN J. LOCKWOOD*
- ------------------------------ Director and Vice Chairman March 27, 1998
(Stephen J. Lockwood)
/s/ JOHN N. MOLBECK, JR.*
- ------------------------------ Director and President March 27, 1998
(John N. Molbeck, Jr.)
/s/ PETER B. SMITH, JR.*
- ------------------------------ Director and Executive Vice March 27, 1998
(Peter B. Smith, Jr.) President
/s/ HUGH T. WILSON*
- ------------------------------ Director March 27, 1998
(Hugh T. Wilson)
</TABLE>
*By: /s/ FRANK J. BRAMANTI
-------------------------
Frank J. Bramanti, March 27, 1998
ATTORNEY-IN-FACT
38
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
<TABLE>
<S> <C>
Reports of Independent Accountants................................................... F-1
Consolidated Balance Sheets at December 31, 1997 and 1996............................ F-3
Consolidated Statements of Earnings for the three years ended December 31, 1997...... F-4
Consolidated Statements of Changes in Shareholders' Equity for the three years ended
December 31, 1997.................................................................. F-5
Consolidated Statements of Cash Flows for the three years ended December 31, 1997.... F-8
Notes to Consolidated Financial Statements........................................... F-9
SCHEDULES:
Reports of Independent Accountants........................................ S-1
Schedule 1 Summary of Investments other than Investments in Related Parties........ S-3
Schedule 2 Condensed Financial Information of Registrant........................... S-4
Schedule 3 Supplementary Insurance Information..................................... S-8
Schedule 4 Reinsurance............................................................. S-9
</TABLE>
Schedules other than those listed above have been omitted because they are
either not required, not applicable, or the required information is shown in the
Consolidated Financial Statements and related notes thereto.
39
<PAGE>
INDEX TO EXHIBITS
(ITEMS DENOTED BY A LETTER ARE INCORPORATED BY REFERENCE TO OTHER DOCUMENTS
PREVIOUSLY FILED WITH THE SECURITIES AND EXCHANGE COMMISSION AS SET FORTH AT THE
END OF THIS INDEX. ITEMS NOT DENOTED BY A LETTER ARE BEING FILED HEREWITH.)
<TABLE>
<CAPTION>
EXHIBIT
NUMBER
- ------------
<C> <S>
(A)3.4 --Bylaws of HCC Insurance Holdings, Inc., as amended.
(J)3.7 --Restated Certificate of Incorporation of HCC Holdings, Inc., filed with the Delaware Secretary of
State on July 23, 1996.
(A)4.1 --Specimen of Common Stock Certificate, $1.00 par value, of HCC Insurance Holdings, Inc.
(A)10.17 --Cost Allocation Agreement dated September 1, 1991, by and among HCC Holdings, A Texas Corporation,
Houston Casualty Company, Trafalgar Reinsurance Company Ltd., Houston Re Corporation and HCC
Underwriters, A Texas Corporation
(A)10.19 --Agreement for Allocation of Federal Income Tax dated November 29, 1991, by and among HCC Holdings,
Inc., Houston Casualty Company, SBS Insurance Holdings, Trafalgar Reinsurance Company, Ltd., HCC
Underwriters and Houston Re Corporation
(A)10.23 --HCC Insurance Holdings, Inc. 1992 Incentive Stock Option Plan
(A)10.24 --Program License Agreement dated April 29, 1992, by and between EPG America, Inc., and HCC Holdings,
Inc. pertaining to license for the computer services described therein
(B)10.227 --Loan Agreement dated August 24, 1993 in the original principal amount of $29,250,000 executed by HCC
Insurance Holdings, Inc., payable to First Interstate Bank of Texas, N.A. together with Promissory
Note and Commercial Pledge Agreement relating thereto.
(B)10.227.1 --Change in Loan Agreement dated February 7, 1994 between HCC Insurance Holdings, Inc. and First
Interstate Bank of Texas, N.A. relating to the $29,250,000 loan.
(B)10.228 --Promissory Note dated February 25, 1994 in the original principal amount of $12,000,000 executed by
Houston Casualty Company, payable to First Interstate Bank of Texas, N.A. together with Commercial
Pledge Agreement relating thereto.
(C)10.302 --Aircraft Dry Lease Agreement effective January 4, 1995 between SLW Aviation, Inc. and HCC Insurance
Holdings, Inc.
(C)10.303 --Stock Purchase Agreement effective January 1, 1994 between River Investments Limited and HCC
Underwriters, A Texas Corporation related to the acquisition of 25% of Middle East Insurance Brokers
Ltd.
(C)10.304 --Stock Purchase Agreement effective October 1, 1994 between various shareholders of Middle East
Insurance Brokers Ltd. and HCC Insurance Holdings, Inc. related to the acquisition of 75% of Middle
East Insurance Brokers Ltd.
(C)10.305 --Stock Purchase Agreement effective October 1, 1994 between various shareholders of International
Marine & General Insurance Company Ltd. and HCC Insurance Holdings, Inc. related to the acquisition
of 100% of International Marine & General Insurance Company Ltd.
(C)10.306 --Loan Agreement dated November 29, 1994 in the original principal amount of $20,000,000 executed by
HCC Insurance Holdings, Inc., payable to First Interstate Bank of Texas, N.A. together with the
Promissory Note.
</TABLE>
40
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER
- ------------
<C> <S>
(D)10.320 --Promissory note dated April 30, 1995, in the original principal amount of $12,000,000 executed by
Houston Casualty Company, payable to First Interstate Bank of Texas, N.A.
(E)10.324 --HCC Insurance Holdings, Inc. 1994 Non-employee Director Stock Option Plan.
(F)10.325 --HCC Insurance Holdings, Inc. 1995 Flexible Incentive Plan.
(H)10.326 --Agreement and Plan of Reorganization dated February 22, 1996 between various shareholders of LDG
Management Company Incorporated and affiliated companies and HCC Insurance Holdings, Inc. related to
the acquisition of 100% of the common stock of LDG Management Company Incorporated and affiliated
companies.
(I)10.327 --Agreement and Plan of Reorganization dated February 28, 1997 between AVEMCO Corporation and HCC
Insurance Holdings, Inc. related to the intent to merge in a stock for stock transaction.
(J)10.328 --HCC Insurance Holdings, Inc. 1996 Non-employee Director Stock Option Plan.
(K)10.329 --HCC Insurance Holdings, Inc. 1995 Flexible Incentive Plan.
(L)10.330 --Agreement and Plan of Reorganization dated November 27, 1996 between various shareholders of North
American Special Risk Associates and affiliated companies and HCC Insurance Holdings, Inc. related to
the acquisition of 100% of the common stock of North American Special Risk Associates, Inc. and
affiliated companies.
(L)10.331 --Agreement of Purchase and Sale dated January 23, 1997, between TRM International, Inc., Unicover
Manager, Inc., North American Special Risk Associates, Inc. and HCC Insurance Holdings, Inc.
(L)10.332 --Revolving Line of Credit Note dated October 7, 1996, in the original principal amount of $12,000,000
executed by Houston Casualty Company, payable to Wells Fargo Bank (Texas), National Association
together with Credit Agreement and General Pledge Agreement and Amendment relating thereto.
(L)10.333 --Revolving Line of Credit Note dated January 10, 1997, in the original principal amount of $10,000,000
executed by HCC Insurance Holdings, Inc., payable to Wells Fargo Bank (Texas), National Association
together with Credit Agreement and General Pledge Agreement relating thereto.
(N)10.334 --Agreement and Plan of Reorganization dated April 30, 1997 among Interworld Corporation, Aviation &
Marine Insurance Group, Inc., various shareholders of those companies and HCC Insurance Holdings,
Inc. related to the acquisition of 100% of the common stock of Interworld Corporation.
(O)10.335 --Stock Purchase Agreement dated June 27, 1997 between Sandra L. Ruder and HCC Insurance Holdings, Inc.
related to the purchase of 100% of the common stock of Managed Group Underwriting, Inc.
(P)10.336 --Stock Purchase Agreement dated July 31, 1997 between Continental Aviation Underwriters, Inc., the
shareholders thereof, and HCC Insurance Holdings, Inc. related to the purchase of 100% of the common
stock of Continental Aviation Underwriters, Inc.
(P)10.337 --Acquisition Agreement dated August 8, 1997 between Southern Aviation Insurance Underwriters, Inc.,
Aviation Claims Administrators, Inc., the shareholders thereof, and HCC Insurance Holdings, Inc.
related to the acquisition of 100% of the common stock of Southern Aviation Insurance Underwriters,
Inc. and Aviation Claims Administrators, Inc.
</TABLE>
41
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER
- ------------
<C> <S>
(P)10.338 --Line of Credit Agreements payable to Wells Fargo Bank (Texas), National Association executed by HCC
Insurance Holdings, Inc., Houston Casualty Company and IMG Insurance Company, Ltd. together with the
Credit Agreements and Security Agreements related thereto.
(Q)10.339 --Loan Agreement ($120,000,000 Revolving Loan Facility) dated as of December 19, 1997 among HCC
Insurance Holdings, Inc. as Borrower, Wells Fargo Bank (Texas), National Association, as Agent and as
a Lender, NationsBank of Texas, N.A. as Documentation Agent and as a Lender, and the Other Lenders
Now or Hereafter Parties Thereto.
10.340 --Agreement and Plan of Reorganization dated as of February 27, 1998 among HCC Insurance Holdings, Inc.
and various shareholders of The Kachler Corporation related to the acquisition of 100% of the common
stock of The Kachler Corporation.
10.341 --Purchase Agreement dated as of February 28, 1998, among HCC Insurance Holdings, Inc., Bethany A.
Belanger, the partners of Guarantee Insurance Resources and others related to the acquisition of 100%
of the partnership assets and liabilities of Guarantee Insurance Resources and 100% of the common
stock of Insurance Alternatives, Inc.
(M)10.342 --HCC Insurance Holdings, Inc. 1997 Flexible Incentive Plan.
12 --Statement Regarding Computation of Ratios
21 --Subsidiaries of HCC Insurance Holdings, Inc.
23 --Consent of Independent Accountants--Coopers & Lybrand L.L.P. dated March 27, 1998.
23.1 --Consent of Independent Accountants--KPMG Peat Marwick L.L.P. dated March 26, 1998-- included at page
S-2.
24 --Powers of Attorney
27 --EDGAR Financial Data Schedule--December 31, 1997
27.1 --EDGAR Financial Data Schedule--Restated December 31, 1996
27.2 --EDGAR Financial Data Schedule--Restated September 30, 1997, June 30, 1997, September 30, 1996 and
June 30, 1996
27.3 --EDGAR Financial Data Schedule--Restated March 31, 1997 and March 31, 1996
</TABLE>
- ------------------------
(A)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Registration Statement (Registration No. 33-48737) filed October 27, 1992.
(B)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-K for the fiscal year ended December 31, 1993.
(C)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-K for the fiscal year ended December 31, 1994.
(D)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-Q for the fiscal quarter ended March 31, 1995.
(E)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Registration Statement on Form S-8 (Registration No. 33-94472) filed July 11,
1995.
(F)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Registration Statement on Form S-8 (Registration No. 33-94468) filed July 11,
1995.
42
<PAGE>
(G)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-K for fiscal year ended December 31, 1995.
(H)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Registration Statement (Registration No. 333-3652) filed April 15, 1996.
(I)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.
Preliminary Registration Statement filed March 7, 1997.
(J)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Registration Statement on Form S-8 (Registration No. 333-14479) filed October
18, 1996.
(K)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Registration Statement on Form S-8 (Registration No. 333-14471) filed October
18, 1996.
(L)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-K for fiscal year ended December 31, 1996.
(M)Incorporated by reference to Exhibit A to the HCC Insurance Holdings, Inc.
Proxy Statement for the May 22, 1997 Annual Meeting of Shareholders filed
April 30, 1997.
(N)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-Q for the fiscal quarter ended March 31, 1997.
(O)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-Q for the fiscal quarter ended June 30, 1997.
(P)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 10-Q for the fiscal quarter ended September 30, 1997.
(Q)Incorporated by reference to the Exhibits to HCC Insurance Holdings, Inc.'s
Form 8-K filed January 6, 1998.
43
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
HCC Insurance Holdings, Inc.
We have audited the accompanying consolidated balance sheets of HCC
Insurance Holdings, Inc. and Subsidiaries as of December 31, 1997 and 1996, and
the related consolidated statements of earnings, changes in shareholders'
equity, and cash flows for each of the three years in the period ended December
31, 1997. These financial statements are the responsibility of HCC Insurance
Holdings, Inc.'s management. Our responsibility is to express an opinion on
these financial statements based on our audits. We did not audit the 1996 and
1995 consolidated financial statements of AVEMCO Corporation, which statements
reflect total revenues constituting 43.7 percent and 45.6 percent and net
earnings constituting 24.0 percent and 23.2 percent of the related consolidated
financial statements totals for the years ended December 31, 1996 and 1995,
respectively. Those statements were audited by other auditors whose report dated
January 31, 1997 except for Note 12 of which the date is February 28, 1997 and
except for Note 14 of which the date is February 18, 1998, has been furnished to
us, and our opinion, insofar as it related to data included for 1996 and 1995 is
based solely on the report of the other auditors.
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 and the report of the other auditors provide a
reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other auditors,
the consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of HCC Insurance
Holdings, Inc. and Subsidiaries as of December 31, 1997 and 1996, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended December 31, 1997, in conformity with generally
accepted accounting principles.
COOPERS & LYBRAND L.L.P.
Houston, Texas
March 26, 1998
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholder
AVEMCO Corporation:
We have audited the consolidated balance sheet of AVEMCO Corporation and
subsidiaries as of December 31, 1996, and the related consolidated statements of
income, stockholders' equity and cash flows for each of the years in the
two-year period ended December 31, 1996 (not included separately herein). These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of AVMECO
Corporation and subsidiaries as of December 31, 1996, and the results of their
operations and their cash flows for each of the years in the two-year period
ended December 31, 1996, in conformity with generally accepted accounting
principles.
KPMG Peat Marwick LLP
Washington, D.C.
January 31, 1997
(February 28, 1997, as to note 12
and February 18, 1998, as to note 14)
F-2
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------
<S> <C> <C>
1997 1996
---------------- --------------
ASSETS
Investments:
Fixed income securities, at market
(cost: 1997 $395,121,000; 1996 $371,844,000)............................... $ 409,701,000 $ 377,555,000
Marketable equity securities, at market
(cost: 1997 $10,221,000; 1996 $12,661,000)................................. 8,339,000 12,477,000
Short-term investments, at cost, which approximates market................... 105,255,000 78,693,000
---------------- --------------
Total investments........................................................ 523,295,000 468,725,000
Cash........................................................................... 7,324,000 9,171,000
Restricted cash and cash investments........................................... 60,063,000 44,363,000
Reinsurance recoverables....................................................... 203,300,000 132,328,000
Premium, claims and other receivables.......................................... 251,477,000 167,168,000
Ceded unearned premium......................................................... 84,610,000 71,758,000
Deferred policy acquisition costs.............................................. 21,604,000 24,809,000
Property and equipment, net.................................................... 19,842,000 16,665,000
Deferred income tax............................................................ 6,639,000 12,636,000
Other assets, net.............................................................. 44,609,000 16,476,000
---------------- --------------
Total assets............................................................. $ 1,222,763,000 $ 964,099,000
---------------- --------------
---------------- --------------
LIABILITIES
Loss and loss adjustment expense payable....................................... $ 275,008,000 $ 229,049,000
Reinsurance balances payable................................................... 70,249,000 45,449,000
Unearned premium............................................................... 152,094,000 156,268,000
Deferred ceding commissions.................................................... 19,553,000 16,901,000
Premium and claims payable..................................................... 237,770,000 123,118,000
Notes payable.................................................................. 80,750,000 72,917,000
Accounts payable and accrued liabilities....................................... 21,859,000 23,984,000
---------------- --------------
Total liabilities........................................................ 857,283,000 667,686,000
SHAREHOLDERS' EQUITY
Common Stock, $1.00 par value; 100,000,000 shares authorized;
(issued: 1997 46,158,929 shares; 1996 47,416,643 shares)..................... 46,159,000 47,417,000
Additional paid-in capital..................................................... 156,089,000 139,971,000
Retained earnings.............................................................. 155,232,000 162,163,000
Unrealized investment gain, net................................................ 8,306,000 3,623,000
Foreign currency translation adjustment........................................ (306,000) (91,000)
Treasury stock, at cost (1996 3,301,741 shares)................................ -- (56,670,000)
---------------- --------------
Total shareholders' equity............................................... 365,480,000 296,413,000
---------------- --------------
Total liabilities and shareholders' equity............................... $ 1,222,763,000 $ 964,099,000
---------------- --------------
---------------- --------------
</TABLE>
See Notes to Consolidated Financial Statements.
F-3
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------------------
<S> <C> <C> <C>
1997 1996 1995
-------------- -------------- --------------
REVENUE
Net earned premium.............................................. $ 163,090,000 $ 175,309,000 $ 159,588,000
Management fee and commission income............................ 75,867,000 51,356,000 42,786,000
Net investment income........................................... 27,718,000 23,595,000 21,748,000
Computer products and services.................................. 7,064,000 8,471,000 8,227,000
Net realized investment gain (loss)............................. (329,000) 8,341,000 1,636,000
Gain on sale of subsidiary...................................... -- 3,307,000 --
-------------- -------------- --------------
Total revenue............................................. 273,410,000 270,379,000 233,985,000
EXPENSE
Loss and loss adjustment expense................................ 96,514,000 114,464,000 105,374,000
Operating expense:
Policy acquisition costs...................................... 59,110,000 47,512,000 42,357,000
Compensation expense.......................................... 44,634,000 37,102,000 43,110,000
Other operating expense....................................... 31,042,000 25,797,000 25,868,000
Merger expense................................................ 8,069,000 26,160,000 --
Ceding commissions............................................ (45,011,000) (34,053,000) (30,767,000)
-------------- -------------- --------------
Net operating expense..................................... 97,844,000 102,518,000 80,568,000
Interest expense................................................ 6,004,000 4,993,000 6,471,000
-------------- -------------- --------------
Total expense............................................. 200,362,000 221,975,000 192,413,000
-------------- -------------- --------------
Earnings before income tax provision...................... 73,048,000 48,404,000 41,572,000
Income tax provision............................................ 23,297,000 9,874,000 9,884,000
-------------- -------------- --------------
Net earnings.............................................. $ 49,751,000 $ 38,530,000 $ 31,688,000
-------------- -------------- --------------
-------------- -------------- --------------
BASIC EARNINGS PER SHARE DATA:
Earnings per share.............................................. $ 1.10 $ 0.89 $ 0.77
-------------- -------------- --------------
-------------- -------------- --------------
Weighted average shares outstanding............................. 45,395,000 43,195,000 40,977,000
-------------- -------------- --------------
-------------- -------------- --------------
DILUTED EARNINGS PER SHARE DATA:
Earnings per share.............................................. $ 1.07 $ 0.87 $ 0.76
-------------- -------------- --------------
-------------- -------------- --------------
Weighted average shares outstanding............................. 46,609,000 44,443,000 41,513,000
-------------- -------------- --------------
-------------- -------------- --------------
</TABLE>
See Notes to Consolidated Financial Statements.
F-4
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
FOREIGN
ADDITIONAL UNREALIZED CURRENCY
COMMON PAID-IN RETAINED INVESTMENT TRANSLATION
STOCK CAPITAL EARNINGS GAIN (LOSS) ADJUSTMENT
------------- -------------- -------------- ------------- -----------
<S> <C> <C> <C> <C> <C>
BALANCE AS OF DECEMBER 31, 1994............. $ 16,385,000 $ 91,222,000 $ 114,501,000 $ (6,143,000) $ (219,000)
61,996 shares of Common Stock issued for
exercise of options, including tax benefit
of $252,000................................ 62,000 855,000 -- -- --
Net earnings................................ -- -- 31,688,000 -- --
2,012,500 shares of Common Stock issued in
public offering, net of costs.............. 2,013,000 45,957,000 -- -- --
Dividends to shareholders of pooled
companies prior to merger.................. -- -- (5,848,000) -- --
Repurchase of 83,480 shares of common stock
by pooled company prior to merger.......... -- -- -- -- --
Unrealized investment gain on fixed income
securities net of deferred tax charge of
$6,055,000................................. -- -- -- 11,391,000 --
Unrealized investment gain on marketable
equity securities, net of deferred tax
charge of $2,120,000....................... -- -- -- 4,048,000 --
Other....................................... -- 50,000 -- -- 33,000
------------- -------------- -------------- ------------- -----------
BALANCE AS OF DECEMBER 31, 1995......... $ 18,460,000 $ 138,084,000 $ 140,341,000 $ 9,296,000 $ (186,000)
<CAPTION>
TOTAL
TREASURY SHAREHOLDERS'
STOCK EQUITY
-------------- --------------
<S> <C> <C>
BALANCE AS OF DECEMBER 31, 1994............. $ (46,988,000) $ 168,758,000
61,996 shares of Common Stock issued for
exercise of options, including tax benefit
of $252,000................................ -- 917,000
Net earnings................................ -- 31,688,000
2,012,500 shares of Common Stock issued in
public offering, net of costs.............. -- 47,970,000
Dividends to shareholders of pooled
companies prior to merger.................. -- (5,848,000)
Repurchase of 83,480 shares of common stock
by pooled company prior to merger.......... (3,582,000) (3,582,000)
Unrealized investment gain on fixed income
securities net of deferred tax charge of
$6,055,000................................. -- 11,391,000
Unrealized investment gain on marketable
equity securities, net of deferred tax
charge of $2,120,000....................... -- 4,048,000
Other....................................... -- 83,000
-------------- --------------
BALANCE AS OF DECEMBER 31, 1995......... $ (50,570,000) $ 255,425,000
</TABLE>
See Notes to Consolidated Financial Statements.
F-5
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
FOREIGN
ADDITIONAL UNREALIZED CURRENCY
COMMON PAID-IN RETAINED INVESTMENT TRANSLATION
STOCK CAPITAL EARNINGS GAIN (LOSS) ADJUSTMENT
------------ ------------- ------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
BALANCE AS OF DECEMBER 31, 1995..................... $ 18,460,000 $ 138,084,000 $ 140,341,000 $ 9,296,000 $(186,000)
27,688,869 shares of Common Stock issued for 150%
stock dividend..................................... 27,689,000 (27,689,000) -- -- --
132,108 shares of Common Stock issued for exercise
of options, including tax benefit of $366,000...... 132,000 837,000 -- -- --
Net earnings........................................ -- -- 38,530,000 -- --
Cash dividends declared, $0.06 per share............ -- -- (2,104,000) -- --
Compensatory grant of pooled company stock prior to
merger............................................. -- 23,682,000 -- -- --
Dividends to shareholders of pooled companies prior
to merger.......................................... -- -- (7,705,000) -- --
Capitalize undistributed earnings of pooled company
upon conversion from S Corporation................. -- 3,840,000 (3,840,000) -- --
1,136,400 shares of Common Stock issued for NASRA
combination........................................ 1,136,000 -- (1,452,000) -- --
Repurchase of 520,000 shares of common stock by
pooled company prior to merger..................... -- -- -- -- --
Unrealized investment loss on fixed income
securities, net of deferred tax benefit of
$857,000........................................... -- -- -- (1,594,000) --
Unrealized investment loss on marketable equity
securities, net of deferred tax benefit of
$2,144,000......................................... -- -- -- (4,079,000) --
Other............................................... -- 1,217,000 (1,607,000) -- 95,000
------------ ------------- ------------- ----------- -----------
BALANCE AS OF DECEMBER 31, 1996................. $ 47,417,000 $ 139,971,000 $ 162,163,000 $ 3,623,000 $ (91,000)
<CAPTION>
TOTAL
TREASURY SHAREHOLDERS'
STOCK EQUITY
------------- -------------
<S> <C> <C>
BALANCE AS OF DECEMBER 31, 1995..................... $ (50,570,000) $ 255,425,000
27,688,869 shares of Common Stock issued for 150%
stock dividend..................................... -- --
132,108 shares of Common Stock issued for exercise
of options, including tax benefit of $366,000...... -- 969,000
Net earnings........................................ -- 38,530,000
Cash dividends declared, $0.06 per share............ -- (2,104,000)
Compensatory grant of pooled company stock prior to
merger............................................. -- 23,682,000
Dividends to shareholders of pooled companies prior
to merger.......................................... -- (7,705,000)
Capitalize undistributed earnings of pooled company
upon conversion from S Corporation................. -- --
1,136,400 shares of Common Stock issued for NASRA
combination........................................ -- (316,000)
Repurchase of 520,000 shares of common stock by
pooled company prior to merger..................... (7,909,000) (7,909,000)
Unrealized investment loss on fixed income
securities, net of deferred tax benefit of
$857,000........................................... -- (1,594,000)
Unrealized investment loss on marketable equity
securities, net of deferred tax benefit of
$2,144,000......................................... -- (4,079,000)
Other............................................... 1,809,000 1,514,000
------------- -------------
BALANCE AS OF DECEMBER 31, 1996................. $ (56,670,000) $ 296,413,000
</TABLE>
See Notes to Consolidated Financial Statements.
F-6
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY--(CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
FOREIGN
ADDITIONAL UNREALIZED CURRENCY
COMMON PAID-IN RETAINED INVESTMENT TRANSLATION
STOCK CAPITAL EARNINGS GAIN (LOSS) ADJUSTMENT
------------- -------------- -------------- ------------- -----------
<S> <C> <C> <C> <C> <C>
BALANCE AS OF DECEMBER 31, 1996............. $ 47,417,000 $ 139,971,000 $ 162,163,000 $ 3,623,000 $ (91,000)
726,898 shares of Common Stock issued for
exercise of options, including tax benefit
of $1,725,000.............................. 727,000 9,743,000 -- -- --
382,024 shares of Common Stock issued for
purchased companies........................ 382,000 9,805,000 -- -- --
950,000 shares of Common Stock issued for
Southern and Interworld combinations....... 950,000 -- (1,507,000) -- --
Net earnings................................ -- -- 49,751,000 -- --
Cash dividends declared, $0.12 per share.... -- -- (5,219,000) -- --
Repurchase of 14,895 shares of common stock
by pooled company prior to combination..... -- -- -- -- --
Retirement of 3,316,636 shares of treasury
stock...................................... (3,317,000) (3,430,000) (50,247,000) -- --
Unrealized investment gain on fixed income
securities, net of deferred tax charge of
$3,104,000................................. -- -- -- 5,765,000 --
Unrealized investment loss on marketable
equity securities, net of deferred tax
benefit of $616,000........................ -- -- -- (1,082,000) --
Other....................................... -- -- 291,000 -- (215,000)
------------- -------------- -------------- ------------- -----------
BALANCE AS OF DECEMBER 31, 1997......... $ 46,159,000 $ 156,089,000 $ 155,232,000 $ 8,306,000 $ (306,000)
------------- -------------- -------------- ------------- -----------
------------- -------------- -------------- ------------- -----------
<CAPTION>
TOTAL
TREASURY SHAREHOLDERS'
STOCK EQUITY
-------------- --------------
<S> <C> <C>
BALANCE AS OF DECEMBER 31, 1996............. $ (56,670,000) $ 296,413,000
726,898 shares of Common Stock issued for
exercise of options, including tax benefit
of $1,725,000.............................. -- 10,470,000
382,024 shares of Common Stock issued for
purchased companies........................ -- 10,187,000
950,000 shares of Common Stock issued for
Southern and Interworld combinations....... -- (557,000)
Net earnings................................ -- 49,751,000
Cash dividends declared, $0.12 per share.... -- (5,219,000)
Repurchase of 14,895 shares of common stock
by pooled company prior to combination..... (324,000) (324,000)
Retirement of 3,316,636 shares of treasury
stock...................................... 56,994,000 --
Unrealized investment gain on fixed income
securities, net of deferred tax charge of
$3,104,000................................. -- 5,765,000
Unrealized investment loss on marketable
equity securities, net of deferred tax
benefit of $616,000........................ -- (1,082,000)
Other....................................... -- 76,000
-------------- --------------
BALANCE AS OF DECEMBER 31, 1997......... $ -- $ 365,480,000
-------------- --------------
-------------- --------------
</TABLE>
See Notes to Consolidated Financial Statements.
F-7
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------------
<S> <C> <C> <C>
1997 1996 1995
-------------- -------------- ---------------
Cash flows from operating activities:
Net earnings...................................................... $ 49,751,000 $ 38,530,000 $ 31,688,000
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Change in reinsurance recoverables.............................. (70,972,000) (14,628,000) (1,335,000)
Change in premium, claims and other receivables................. (84,309,000) (13,084,000) (21,285,000)
Change in ceded unearned premium................................ (12,852,000) 6,702,000 (12,865,000)
Change in deferred policy acquisition costs, net................ 5,857,000 (3,379,000) (1,092,000)
Change in deferred income tax, net of tax effect of unrealized
gain or loss.................................................. 3,475,000 (7,430,000) (1,955,000)
Change in loss and loss adjustment expense payable.............. 45,959,000 28,293,000 29,799,000
Change in reinsurance balances payable.......................... 24,800,000 (28,061,000) (81,000)
Change in unearned premium...................................... (4,174,000) 4,292,000 37,629,000
Change in premium and claims payable, net of restricted cash.... 98,952,000 2,483,000 7,711,000
Change in accounts payable and accrued liabilities.............. (2,794,000) 248,000 2,546,000
Net realized investment (gain) loss............................. 329,000 (8,341,000) (1,636,000)
Gain on sale of subsidiary...................................... -- (3,307,000) --
Non-cash compensation expense................................... -- 24,176,000 --
Depreciation and amortization expense........................... 5,163,000 4,029,000 3,343,000
Other, net...................................................... (5,068,000) (1,060,000) 864,000
-------------- -------------- ---------------
Cash provided by operating activities......................... 54,117,000 29,463,000 73,331,000
Cash flows from investing activities:
Sales of fixed income securities.................................. 27,090,000 24,399,000 44,706,000
Maturity or call of fixed income securities....................... 19,173,000 17,573,000 21,389,000
Sales of equity securities........................................ 17,656,000 41,202,000 24,150,000
Proceeds from sale of subsidiary.................................. -- 13,957,000 --
Change in short-term investments.................................. (26,562,000) (7,296,000) (15,413,000)
Cash paid for companies acquired.................................. (12,948,000) (1,753,000) --
Cost of investments acquired...................................... (87,084,000) (97,909,000) (156,898,000)
Other, net........................................................ (6,718,000) (2,762,000) (4,683,000)
-------------- -------------- ---------------
Cash used by investing activities............................. (69,393,000) (12,589,000) (86,749,000)
Cash flows from financing activities:
Proceeds from notes payable....................................... 97,500,000 44,000,000 11,700,000
Sale of Common Stock, net of costs................................ 10,470,000 969,000 48,887,000
Payments on notes payable......................................... (89,667,000) (42,711,000) (39,580,000)
Dividends paid.................................................... (4,550,000) (9,092,000) (5,526,000)
Repurchase common stock........................................... (324,000) (7,909,000) (3,582,000)
-------------- -------------- ---------------
Cash provided (used) by financing activities.................. 13,429,000 (14,743,000) 11,899,000
-------------- -------------- ---------------
Net change in cash............................................ (1,847,000) 2,131,000 (1,519,000)
Cash at beginning of year..................................... 9,171,000 7,040,000 8,559,000
-------------- -------------- ---------------
Cash at end of year........................................... $ 7,324,000 $ 9,171,000 $ 7,040,000
-------------- -------------- ---------------
-------------- -------------- ---------------
</TABLE>
See Notes to Consolidated Financial Statements.
F-8
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
HCC Insurance Holdings, Inc. and its subsidiaries (collectively, "the
Company" or "HCC"), include domestic and foreign property and casualty insurance
companies and managing general agents, surplus lines insurance brokers and
wholesale insurance and reinsurance brokers. HCC, through its subsidiaries,
provides specialized property and casualty insurance to commercial customers
worldwide, underwritten on both a direct and reinsurance basis, in the areas of
aviation, marine, property, offshore energy, accident and health, and lenders
single interest. The principal insurance company subsidiaries are Houston
Casualty Company ("HC"), U.S. Specialty Insurance Company ("USSIC"), Trafalgar
Insurance Company ("TIC") in Houston, Texas and AVEMCO Insurance Company ("AIC")
in Frederick, Maryland. The agency subsidiaries provide underwriting management
and intermediary services for insurance and reinsurance companies, primarily in
the accident and health and aviation areas, but also in the same lines of
business that the insurance subsidiaries operate. The principal agency
subsidiaries are LDG Management Company Incorporated ("LDG") in Wakefield,
Massachusetts; Aviation and Marine Insurance Group ("AMIG" formerly Interworld
Corporation) in Dallas, Texas; HCC Underwriters, A Texas Corporation ("HCCU") in
Houston, Texas; North American Special Risk Associates, Inc. ("NASRA") in
Northbrook, Illinois and Middle East Insurance Brokers, Ltd. ("MEIB") in Amman,
Jordan.
The preparation of financial statements in conformity with generally
accepted accounting principles ("GAAP") requires management to make estimates
and assumptions. This affects amounts reported in the financial statements and
the disclosure of contingent assets and liabilities. Actual results could differ
from those estimates.
A description of the significant accounting and reporting policies utilized
by the Company in preparing the consolidated financial statements is as follows:
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation. The business combinations
with AVEMCO Corporation ("AVEMCO"), LDG, NASRA, Interworld and Southern Aviation
Insurance Underwriters, Inc. ("Southern") have been recorded as
poolings-of-interests. The Company's financial statements have been restated to
include the accounts and operations of AVEMCO and LDG for all periods presented.
The financial statements have not been restated to include Interworld, Southern
and NASRA due to immateriality. (See Note 2.)
INVESTMENTS
Fixed income securities and marketable equity securities are classified as
available for sale and are carried at quoted market value, if readily
marketable, or at management's estimated fair value, if not readily marketable.
The change in unrealized gain or loss with respect to these securities is
recorded as a direct increase or decrease to shareholders' equity, net of
related deferred income tax, if any. Fixed income securities available for sale
are purchased with the original intent to hold to maturity, but they may be
available for sale if market conditions warrant, or if the Company's investment
policies dictate, in order to maximize the Company's investment yield.
Short-term investments and restricted short-term investments are carried at cost
which approximates market value.
The realized gain or loss on investment transactions is determined on an
average cost basis and included in earnings on the trade date. When impairment
of the value of an investment is considered other
F-9
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
(CONTINUED)
than temporary, the decrease in value is reported in earnings as a realized
investment loss and a new cost basis is established.
PROPERTY AND EQUIPMENT
Property and equipment are carried at cost, net of accumulated depreciation.
Depreciation expense is provided using the straight-line method over the
estimated useful lives of the related assets. Amortization of leasehold
improvements is provided using the straight-line method over the term of the
respective lease. Upon disposal of assets, the cost and related accumulated
depreciation are removed from the accounts and the resulting gain or loss is
included in earnings.
Costs incurred in developing or purchasing management information systems
are capitalized and included in property and equipment. These costs are
amortized over their estimated useful lives from the dates the systems are
placed in service.
EARNED PREMIUM, DEFERRED POLICY ACQUISITION COSTS AND CEDING COMMISSIONS OF
INSURANCE COMPANY SUBSIDIARIES
Written premium, net of reinsurance, is generally included in earnings on a
PRO RATA basis over the lives of the related policies. Policy acquisition costs,
including commissions, taxes, fees and other direct costs of underwriting
policies, and ceding commissions allowed by reinsurers, including expense
allowances, are deferred and charged or credited to earnings generally on a pro
rata basis as the premium is earned. Historical and current loss and loss
adjustment expense experience are considered in determining the recoverability
of deferred policy acquisition costs.
MANAGEMENT FEE AND COMMISSION INCOME
Management fee and commission income is recognized on the revenue
recognition date, which is the later of the effective date of the policy, the
date when the premium can be reasonably estimated, or the date when
substantially all required services relating to the insurance placement have
been rendered to the client. Commission income relating to additional or return
premiums or other policy adjustments is recognized when the events occur and the
amounts become known or can be estimated.
PREMIUM AND OTHER RECEIVABLES
The Company has adopted the gross method for reporting receivables and
payables on brokered transactions. Management reviews the collectibility of its
receivables on a current basis and provides an allowance for doubtful accounts
if it deems that there are accounts which are doubtful of collection. The amount
of the allowance at December 31, 1997 and 1996, is not material.
LOSS AND LOSS ADJUSTMENT EXPENSE PAYABLE OF INSURANCE COMPANY SUBSIDIARIES
Loss and loss adjustment expense payable is based on undiscounted estimates
of payments to be made for reported and incurred but not reported ("IBNR")
losses, net of reinsurance and anticipated salvage and subrogation receipts.
Estimates for reported losses are based on all available information, including
reports received from ceding companies on assumed business. Estimates for IBNR
are based both on the Company's and the industry's experience. While management
believes that amounts included in the
F-10
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
(CONTINUED)
accompanying financial statements are adequate, such estimates may be more or
less than the amounts ultimately paid when the claims are settled. The estimates
are continually reviewed and any changes are reflected in current operations.
REINSURANCE
The Company records all reinsurance recoverables and ceded unearned premiums
as assets and deferred ceding commissions as a liability. All such amounts are
estimated and recorded in a manner consistent with the underlying reinsured
contracts. Management has recorded a reserve for uncollectible reinsurance based
on estimates of collectibility.
GOODWILL
In connection with the Company's acquisitions of subsidiaries accounted for
as purchases, the excess of cost over fair value of net assets acquired is being
amortized using the straight-line method principally over twenty years for
acquired agency operations and forty years for acquired insurance company
operations. Managements of the acquired businesses have successfully operated in
the Company's markets for a number of years and, with the additional capital
provided by the Company, will be positioned to take advantage of increased
opportunities.
The Company has no reason to expect major changes in the business conditions
in which the acquired companies operate which might affect the recoverability of
the recorded intangibles. However, in the event business conditions change, the
recoverability will be re-evaluated based upon revised projections of future
undiscounted operating income and cash flows and, if impaired, the balances will
be adjusted accordingly. Amortization charged to income for the years ended
December 31, 1997, 1996 and 1995, was $1.6 million, $684,000 and $672,000,
respectively.
CASH AND SHORT-TERM INVESTMENTS
Cash consists of cash in banks, generally in operating accounts. The Company
classifies certificates of deposit, corporate demand notes receivable,
commercial paper and money market funds as short-term investments. Short-term
investments are classified as investments in the consolidated balance sheets as
they relate principally to the Company's investment activities.
In 1997, in connection with the acquisition of AVEMCO in a transaction
accounted for as a pooling-of-interests, the Company conformed its accounting
policies between itself and AVEMCO such that changes in cash flows from
operating, investing and financing activities are reconciled to the change in
cash in the consolidated statements of cash flows. In prior years, the Company
reconciled to the change in cash and short-term investments. Management now
deems its consolidated short-term investing to be predominately an investing
activity, not a cash management activity. Accordingly, short-term investments
are now classified as investments in the consolidated balance sheets rather than
with cash. The conforming change was made retroactively and had the effect of
increasing (decreasing) cash utilized in investing activities and (increasing)
decreasing the change in cash by ($3.4 million) and $10.8 million in 1996 and
1995, respectively, in the consolidated statements of cash flows. The conformity
change had no effect on the results of operations or shareholders' equity.
F-11
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
(CONTINUED)
The Company generally maintains its cash deposits in major banks and invests
its excess cash with major banks and in investment grade commercial papers and
repurchase agreements. These securities typically mature within 90 days and,
therefore, bear minimal risk. The Company has not experienced any losses on its
cash deposits or its short-term investments.
RESTRICTED CASH AND CASH INVESTMENTS
In conjunction with the management of reinsurance pools, the Company's
agency subsidiaries withhold premium funds for the payment of claims. These
funds are shown as restricted cash and cash investments on the consolidated
balance sheets. The corresponding liability is included within premium and
claims payable in the consolidated balance sheets. These amounts are considered
fiduciary funds, and interest earned on these funds accrues to the benefit of
the members of the reinsurance pools. Therefore, the Company does not include
these amounts as cash or cash equivalents in the consolidated statements of cash
flows.
FOREIGN CURRENCY TRANSLATION
The functional currency of most foreign subsidiaries is the United States
dollar. Assets and liabilities recorded in foreign currencies are translated
into United States dollars at exchange rates in effect at the balance sheet
date. Transactions in foreign currencies are translated at the rates of exchange
in effect on the date the transaction occurs. The Company's foreign currency
transactions are principally denominated in British Pound Sterling ("GBP") and
other European currencies. From time to time the Company enters into foreign
currency forward contracts as a hedge against foreign currency fluctuations.
Gains or losses in the market value of foreign currency forward contracts are
recognized in the statements of earnings concurrently with the gains and losses
on the hedged balances. For the years ended December 31, 1997, 1996 and 1995,
the loss from currency conversion was $884,000, $181,000 and $209,000,
respectively.
Some foreign subsidiaries or branches have a functional currency of either
the GBP or the Canadian Dollar ("CAD"). Cumulative translation adjustment,
representing the effect of translating these subsidiaries' or branches' assets
and liabilities into United States dollars is included in the foreign currency
translation adjustment within shareholders' equity.
COMPUTER PRODUCTS AND SERVICES
Revenue from custom software products is recognized using the percentage of
completion method of accounting. Other software contracts are recognized when
delivery has occurred, other remaining vendor obligations are no longer
significant, and collectibility is probable. Revenue from the sale of computer
hardware is recognized when delivery has occurred. Maintenance support is
recognized PRO RATA over the term of the maintenance agreement.
INCOME TAX
The domestic companies and the foreign insurance company subsidiaries (which
have all elected to be taxed as domestic companies) file a single consolidated
Federal income tax return and include the foreign subsidiaries' income to the
extent required by law. Deferred income tax is accounted for using the liability
method, which reflects the tax impact of temporary differences between the bases
of assets and liabilities
F-12
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
(CONTINUED)
for financial reporting purposes and such bases as measured by tax laws and
regulations. LDG was an S Corporation prior to its reorganization and merger
with the Company. Therefore, Federal income tax expense was not provided for
LDG's earnings until the S Corporation election was terminated on May 22, 1996.
EARNINGS PER SHARE
In December, 1997, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 128. Earnings per share have been restated for all
periods presented. Basic earnings per share are based on the weighted average
number of common shares outstanding during the year divided into net earnings.
Diluted earnings per share are based on the weighted average number of common
shares outstanding plus the potential common shares outstanding during the year
divided into net earnings. The shares issued in connection with the combinations
with AVEMCO and LDG are included in outstanding shares for all periods
presented. Outstanding common stock options, when dilutive, are considered to be
potential common stock for the purpose of the diluted calculation. The treasury
stock method is used to calculate potential common stock due to options.
STOCK SPLIT
In April, 1996, the Board of Directors declared a five-for-two stock split
in the form of a 150% stock dividend on the Company's $1.00 par value Common
Stock, payable to shareholders of record April 30, 1996. The par value of the
Company's Common Stock remains unchanged. All per share, weighted average shares
outstanding and option data presented in the consolidated financial statements
and the notes thereto have been retroactively adjusted to reflect the effect of
the split.
PRIOR PERIOD ADJUSTMENTS OF AVEMCO
The 1996 and prior financial statements of AVEMCO, which was acquired in
1997 in a transaction accounted for as a pooling-of-interests (See Note 2), have
been restated prior to their inclusion in the Company's historical consolidated
financial statements to reflect certain prior period adjustments discovered in
1997. The adjustments were for periods prior to HCC's ownership and relate to a
restatement of the method of accounting for certain short-duration insurance
contracts and to the correction of accounting errors. The adjustment had the
following effects with respect to amounts previously reported in AVEMCO's 1996
and prior consolidated financial statements for the years ended December 31,
1996 and 1995:
<TABLE>
<CAPTION>
1996 1995
------------- ------------
<S> <C> <C>
Earnings before income tax provision as previously reported...... $ 15,962,000 $ 9,102,000
Effects of adjustments........................................... (4,185,000) (821,000)
------------- ------------
Earnings before income tax provisions, as restated........... $ 11,777,000 $ 8,281,000
------------- ------------
------------- ------------
Net earnings as previously reported.............................. $ 12,288,000 $ 7,918,000
Effects of adjustments........................................... (3,056,000) (567,000)
------------- ------------
Net earnings, as restated.................................... $ 9,232,000 $ 7,351,000
------------- ------------
------------- ------------
</TABLE>
F-13
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) GENERAL INFORMATION AND SIGNIFICANT ACCOUNTING AND REPORTING POLICIES
(CONTINUED)
AVEMCO's retained earnings as of December 31, 1994 was decreased by
$1,226,000, net of a $233,000 tax effect, as a result of the adjustments. These
adjustments decreased the Company's basic and diluted earnings per share by
$0.07 and $0.01 for the years ended December 31, 1996 and 1995, respectively.
EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS
In June, 1997, the Financial Accounting Standards Board issued SFAS No. 130
"Reporting Comprehensive Income" and SFAS No. 131 "Disclosures about Segments of
an Enterprise and Related Information". Both statements are effective for fiscal
years beginning after December 15, 1997. These SFAS's require that additional
information be included in a complete set of financial statements, but will have
no effect on the Company's net earnings, shareholders' equity or cash flows. The
Company does not expect to change its definition of segments when SFAS No. 131
is adopted.
RECLASSIFICATIONS
Certain amounts in the 1996 and 1995 consolidated financial statements have
been reclassified to conform with the 1997 presentation. Such reclassifications
had no effect on the Company's shareholders' equity, net earnings or cash flows,
except for the conforming change in cash and short-term investments which
affected the classification of cash flows.
(2) ACQUISITIONS
LDG
On May 24, 1996, the Company issued 6,250,000 shares of its Common Stock to
acquire all of the outstanding common stock of LDG. The former majority
shareholder of LDG is a director of the Company. This business combination has
been accounted for as a pooling-of-interests. The Company's consolidated
financial statements have been restated to include the accounts and operations
of LDG for all periods presented.
NASRA
On November 27, 1996, the Company acquired all of the outstanding shares of
NASRA by issuing 1,136,400 shares of its Common Stock and a payment of $1.7
million in cash to one dissenting shareholder. This combination has been
accounted for as a pooling-of-interests. However, the Company's consolidated
financial statements have not been restated due to immateriality.
TRM
On January 24, 1997, the Company acquired all of the occupational accident
business of the TRM International, Inc. group of companies in exchange for
266,667 shares of the Company's Common Stock and $6.6 million in cash. This
acquisition has been accounted for as a purchase and results of operations of
the business acquired have been included in the consolidated statements of
earnings beginning in January, 1997. Cost in excess of net assets acquired
(goodwill) of approximately $13.5 million was recorded from this acquisition.
Goodwill is being amortized over twenty years. The results of operations of TRM
for the periods prior to the acquisition are immaterial to the Company's
consolidated results of operations.
F-14
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(2) ACQUISITIONS (CONTINUED)
INTERWORLD
On April 30, 1997, the Company acquired all of the outstanding shares of
Interworld Corporation in exchange for 725,000 shares of the Company's Common
Stock. This combination has been accounted for as a pooling-of-interests.
However, the Company's consolidated financial statements have not been restated
due to immateriality.
AVEMCO
On June 17, 1997, the Company issued 8,511,625 shares of its Common Stock
and 604,575 options to purchase its Common Stock to acquire all of the
outstanding common stock and options of AVEMCO. This business combination has
been accounted for as a pooling-of-interests and, accordingly, the Company's
consolidated financial statements have been restated to include the accounts and
operations of AVEMCO for all periods presented.
Separate total revenue and net earnings amounts of the merged entities are
presented for the periods prior to the merger in the following table:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER
FOR THE SIX MONTHS 31,
ENDED JUNE 30, ------------------------------
1997 1996 1995
------------------ -------------- --------------
<S> <C> <C> <C>
Total revenue:
HCC....................................................... $ 81,598,000 $ 152,245,000 $ 127,209,000
AVEMCO.................................................... 59,446,000 118,134,000 106,776,000
------------------ -------------- --------------
Total revenue........................................... $ 141,044,000 $ 270,379,000 $ 233,985,000
------------------ -------------- --------------
------------------ -------------- --------------
Net earnings:
HCC....................................................... $ 21,295,000 $ 29,298,000 $ 24,337,000
AVEMCO (See Note 1)....................................... 718,000 9,232,000 7,351,000
------------------ -------------- --------------
Net earnings............................................ $ 22,013,000 $ 38,530,000 $ 31,688,000
------------------ -------------- --------------
------------------ -------------- --------------
</TABLE>
MGU
On June 26, 1997, the Company acquired all of the outstanding shares of MGU
in exchange for 98,003 shares of the Company's Common Stock and a cash payment
of $3.6 million. This acquisition has been accounted for as a purchase and the
results of operations have been included in the consolidated statements of
earnings beginning in July, 1997. Cost in excess of net assets acquired
(goodwill) of approximately $6.2 million was recorded from this acquisition.
Goodwill is being amortized over twenty years. The results of operations of MGU
for the periods prior to the acquisition are immaterial to the Company's
consolidated results of operations.
CONTINENTAL
On July 31, 1997, the Company acquired all of the outstanding shares of
Continental Aviation Underwriters, Inc. in exchange for 17,354 shares of the
Company's Common Stock and a cash payment of $2.8 million. This acquisition has
been accounted for as a purchase and the results of operations have been
included in the consolidated statements of earnings beginning in August, 1997.
Cost in excess of net assets acquired (goodwill) of approximately $3.4 million
was recorded from this acquisition. Goodwill is being
F-15
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(2) ACQUISITIONS (CONTINUED)
amortized over twenty years. The results of operations of Continental for the
periods prior to the acquisition are immaterial to the Company's consolidated
results of operations.
SOUTHERN
On August 8, 1997, the Company acquired all of the outstanding shares of
Southern and Aviation Claims Administrators, Inc. in exchange for 225,000 shares
of the Company's Common Stock. These business combinations have been accounted
for as poolings-of-interests. However, the Company's consolidated financial
statements have not been restated due to immateriality.
KACHLER
On February 27, 1998, the Company acquired all of the outstanding shares of
The Kachler Corporation ("Kachler") in exchange for 1,600,000 shares of the
Company's Common Stock. This business combination will be accounted for as a
pooling-of-interests. Total revenue and net earnings of Kachler are immaterial
to the Company's results of operations.
GIR
Effective February 28, 1998, the Company acquired all of the outstanding
shares of Insurance Alternatives, Inc. and all of the assets and liabilities of
Guarantee Insurance Resources (collectively, "GIR") in exchange for 29,029
shares of the Company's Common Stock and a cash payment of $21.4 million. This
acquisition has been accounted for as a purchase and the results of operations
will be included in the consolidated statements of earnings beginning in March,
1998.
F-16
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(3) INVESTMENTS
Substantially all of the Company's fixed income securities are investment
grade; most are A rated or better. No high-yield corporate bonds are owned or
contemplated. The amortized cost, gross unrealized gain or loss and estimated
market value of investments in fixed income and marketable equity securities,
all of which are classified as available for sale, are as follows:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAIN LOSS VALUE
-------------- ------------- -------------- --------------
<S> <C> <C> <C> <C>
December 31, 1997:
Marketable equity securities................... $ 10,221,000 $ 140,000 $ (2,022,000) $ 8,339,000
Redeemable preferred stock..................... 788,000 7,000 -- 795,000
US Treasury securities......................... 11,807,000 410,000 (3,000) 12,214,000
Obligations of states, municipalities and
political subdivisions....................... 382,108,000 14,883,000 (704,000) 396,287,000
Other.......................................... 418,000 -- (13,000) 405,000
-------------- ------------- -------------- --------------
Total securities............................. $ 405,342,000 $ 15,440,000 $ (2,742,000) $ 418,040,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
December 31, 1996:
Marketable equity securities................... $ 12,661,000 $ 378,000 $ (562,000) $ 12,477,000
Redeemable preferred stock..................... 8,060,000 81,000 (31,000) 8,110,000
US Treasury securities......................... 11,808,000 234,000 (17,000) 12,025,000
Obligations of states, municipalities and
political subdivisions....................... 351,581,000 6,777,000 (1,393,000) 356,965,000
Other.......................................... 395,000 60,000 -- 455,000
-------------- ------------- -------------- --------------
Total securities............................. $ 384,505,000 $ 7,530,000 $ (2,003,000) $ 390,032,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
</TABLE>
The amortized cost and estimated market value of fixed income securities at
December 31, 1997, by contractual maturity, are shown below. Expected maturities
may differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
ESTIMATED
AMORTIZED MARKET
COST VALUE
-------------- --------------
<S> <C> <C>
Due in 1 year or less............................................................ $ 13,126,000 $ 13,151,000
Due after 1 year through 5 years................................................. 123,137,000 126,691,000
Due after 5 years through 10 years............................................... 127,270,000 132,278,000
Due after 10 years through 15 years.............................................. 97,341,000 102,064,000
Due after 15 years............................................................... 34,247,000 35,517,000
-------------- --------------
Total fixed income securities................................................ $ 395,121,000 $ 409,701,000
-------------- --------------
-------------- --------------
</TABLE>
As of December 31, 1997, the Company's insurance company subsidiaries had
deposited fixed income securities with an amortized cost of approximately $16.7
million (market: $17.3 million) to meet the deposit requirements of various
insurance departments.
F-17
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(3) INVESTMENTS (CONTINUED)
The sources of net investment income for the three years ended December 31,
1997, are detailed below:
<TABLE>
<CAPTION>
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Fixed income securities............................................. $ 20,937,000 $ 19,140,000 $ 16,668,000
Short-term investments.............................................. 5,672,000 3,900,000 4,129,000
Equity securities................................................... 711,000 1,114,000 1,361,000
Other............................................................... 445,000 18,000 152,000
------------- ------------- -------------
Total investment income........................................... 27,765,000 24,172,000 22,310,000
Investment expense.................................................. (47,000) (577,000) (562,000)
------------- ------------- -------------
Net investment income............................................. $ 27,718,000 $ 23,595,000 $ 21,748,000
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
All investments in fixed income securities were income producing for the
twelve months preceding December 31, 1997.
Realized pre-tax gain (loss) on the sale of investments is as follows:
<TABLE>
<CAPTION>
GAIN LOSS NET
------------ ------------- ------------
<S> <C> <C> <C>
For the year ended December 31, 1997:
Fixed income......................................................... $ 68,000 $ (242,000) $ (174,000)
Equity securities.................................................... 113,000 (268,000) (155,000)
------------ ------------- ------------
Realized gain (loss)............................................... $ 181,000 $ (510,000) $ (329,000)
------------ ------------- ------------
------------ ------------- ------------
For the year ended December 31, 1996:
Fixed income securities.............................................. $ 543,000 $ (514,000) $ 29,000
Equity securities.................................................... 9,002,000 (690,000) 8,312,000
------------ ------------- ------------
Realized gain (loss)............................................... $ 9,545,000 $ (1,204,000) $ 8,341,000
------------ ------------- ------------
------------ ------------- ------------
For the year ended December 31, 1995:
Fixed income securities.............................................. $ 1,005,000 $ (634,000) $ 371,000
Equity securities.................................................... 2,257,000 (994,000) 1,263,000
Other................................................................ 2,000 -- 2,000
------------ ------------- ------------
Realized gain (loss)............................................... $ 3,264,000 $ (1,628,000) $ 1,636,000
------------ ------------- ------------
------------ ------------- ------------
</TABLE>
F-18
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(4) PROPERTY AND EQUIPMENT
The following table summarizes property and equipment at December 31, 1997
and 1996:
<TABLE>
<CAPTION>
ESTIMATED
1997 1996 USEFUL LIFE
------------- ------------- ----------------
<S> <C> <C> <C>
Buildings and improvements....................................... $ 13,291,000 $ 12,733,000 30 to 45 years
Furniture, fixtures and equipment................................ 13,203,000 11,285,000 3 to 10 years
Management information systems................................... 13,684,000 9,665,000 3 to 7 years
------------- ------------- ----------------
Total property and equipment................................. 40,178,000 33,683,000
Less accumulated depreciation and amortization................... (20,336,000) (17,018,000)
------------- -------------
Property and equipment, net.................................. $ 19,842,000 $ 16,665,000
------------- -------------
------------- -------------
</TABLE>
Depreciation and amortization expense on property and equipment was
approximately $3.5 million, $3.4 million and $2.7 million for the years ended
December 31, 1997, 1996 and 1995, respectively.
(5) NOTES PAYABLE
Notes payable at December 31, 1997 and 1996 are shown in the table below.
The estimated fair value of the notes payable at December 31, 1997 and 1996,
which is based on current rates offered to the Company for debt with similar
terms, approximates the carrying value.
<TABLE>
<CAPTION>
1997 1996
------------- -------------
<S> <C> <C>
First note......................................................................... $ -- $ 16,250,000
Second note........................................................................ -- 3,667,000
Line of credit..................................................................... -- 53,000,000
Facility........................................................................... 80,750,000 --
------------- -------------
Total notes payable............................................................ $ 80,750,000 $ 72,917,000
------------- -------------
------------- -------------
</TABLE>
The first note was payable to a bank in quarterly installments of $1.5
million plus interest increasing to quarterly installments of $1.8 million plus
interest as of October 1, 1997. Interest was payable quarterly at the prime
rate. During February, 1994, the first note was amended changing the interest
rate to a fixed rate of 6 1/2% until February 7, 1997. The rate reverted back to
the prime rate after such date or could be set at London Interbank Offering Rate
("LIBOR") plus 2 1/4% at the Company's discretion. The note was collateralized
by all of the Common Stock of HC. The loan agreement contained certain
restrictive covenants, including restrictions on certain transactions in the
Company's capital stock or the capital stock of HC and the maintenance of
required financial ratios.
The second note represented a $10.0 million unsecured five-year term loan
with a bank. The loan was being repaid in 60 monthly principal installments of
$166,667, plus interest. Interest was payable on a fluctuating basis equal to
LIBOR plus 1.65%.
The outstanding advance at December 31, 1996, on the line of credit, was
owed to a bank that allowed AVEMCO to borrow up to $60.0 million through April
30, 1997. Interest was payable at the lower of the bank's floating prime rate or
the daily LIBOR plus 1.45%. The Company also had the option, at any time, to
convert any portion of the outstanding principal balance of the loan into term
notes, which could be amortized over any period not to extend beyond December
31, 2000. The line of credit facility required AVEMCO to maintain a consolidated
net worth, as defined, of $48.9 million. Other covenants provided for
F-19
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(5) NOTES PAYABLE (CONTINUED)
certain limitations on AVEMCO's liability to net worth ratio, cash flow to
current portion of long term debt, the acquisition, disposition and pledging of
assets, incurring of indebtedness, and required its insurance subsidiary to
maintain a certain statutory policyholders' surplus and net premium written to
policyholders' surplus ratio.
All of the above notes were repaid during 1997. Effective December 30, 1997,
the Company executed a $120.0 million revolving credit facility ("Facility")
with a group of banks. Borrowing under the Facility may be made by the Company
until the expiration of the Facility on December 30, 1999, at which time all
principal is due. Outstanding loans under the Facility bear interest at the
Company's option of either the prime rate (8 1/2% at December 31, 1997) or at
the current London Interbank Offering Rate ("LIBOR") (5.72% at December 31,
1997) plus 1%. The loan is collateralized in part by the common stock of HC and
AIC. The agreement contains restrictive covenants, including minimum net worth
requirements for the Company and certain subsidiaries, restrictions on certain
extraordinary corporate actions, notice requirements for certain material
occurrences and the maintenance of required financial ratios. The initial
funding from the Facility was used, among other things, to refinance the then
existing outstanding loans.
At December 31, 1997, HC maintained a revolving line of credit with a bank
in the maximum amount of $12.0 million available through April 30, 1998.
Advances under the line of credit are limited to amounts required to fund draws,
if any, on letters of credit issued by the bank on behalf of HC and short-term
direct cash advances. The line of credit is collateralized by securities having
an aggregate market value of up to $15.0 million, the actual amount of
collateral at any one time being 125% of the aggregate amount outstanding.
Interest on the line is payable at the bank's prime rate of interest (8 1/2% at
December 31, 1997). At December 31, 1997, letters of credit totaling $10.3
million had been issued to insurance companies by the bank on behalf of HC, with
total securities collateralizing the line of $12.9 million.
(6) INCOME TAX
Several of the Company's foreign subsidiaries are not subject to foreign
income taxes and no material foreign income tax expense was incurred for the
three years ended December 31, 1997. United States Federal income taxes are
provided on all foreign earnings. As of December 31, 1997 and 1996, the Company
had income taxes receivable (payable) of $3.7 million and ($1.3 million),
respectively. For Federal income tax purposes, LDG has approximately $11.4
million of net operating loss carry forwards which will expire in the year 2010.
The components of the income tax provision for the three years ended December
31, 1997, are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Current............................................................. $ 19,367,000 $ 17,709,000 $ 11,769,000
Deferred:
Change in net deferred tax at current enacted tax rate............ 4,074,000 (7,835,000) (1,868,000)
Change in deferred tax valuation allowance........................ (144,000) -- (17,000)
------------- ------------- -------------
Total income tax provision...................................... $ 23,297,000 $ 9,874,000 $ 9,884,000
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
F-20
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(6) INCOME TAX (CONTINUED)
The composition of deferred tax assets and liabilities and the related tax
effects as of December 31, 1997 and 1996, are as follows:
<TABLE>
<CAPTION>
1997 1996
------------ -------------
<S> <C> <C>
Tax net operating loss carry forward................................................. $ 4,806,000 $ 7,820,000
Excess of financial unearned premium over tax........................................ 4,944,000 7,472,000
Effect of loss reserve discounting and salvage and subrogation accrual for tax....... 4,398,000 4,144,000
Bad debt and accrued expenses, deducted for financial over tax....................... 3,258,000 2,313,000
------------ -------------
Total assets..................................................................... 17,406,000 21,749,000
Excess of financial over currently taxable earnings from foreign subsidiaries........ 821,000 421,000
Unrealized gain on increase in value of securities available for sale (shareholders'
equity)............................................................................ 4,455,000 1,903,000
Deferred policy acquisition costs, net of ceding commissions, deductible for tax..... 3,136,000 5,091,000
Property and equipment depreciation and other items.................................. 2,355,000 1,698,000
------------ -------------
Total liabilities................................................................ 10,767,000 9,113,000
------------ -------------
Net deferred tax asset........................................................... $ 6,639,000 $ 12,636,000
------------ -------------
------------ -------------
</TABLE>
Changes in the valuation allowance account applicable to the net deferred
tax asset are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
---------- --------- ---------
<S> <C> <C> <C>
Balance, beginning of year...................................................... $ 54,000 $ -- $ 17,000
Increase charged (decrease credited) to income.................................. (144,000) -- (17,000)
Valuation allowance acquired.................................................... 188,000 54,000 --
---------- --------- ---------
Balance, end of year........................................................ $ 98,000 $ 54,000 $ 0
---------- --------- ---------
---------- --------- ---------
</TABLE>
The following table summarizes the differences between the Company's
effective tax rate for financial statement purposes and the Federal statutory
rate:
<TABLE>
<CAPTION>
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Statutory tax rate........................................... 35.0% 35.0% 35.0%
Federal tax at statutory rate................................ $ 25,567,000 $ 16,941,000 $ 14,550,000
Nontaxable municipal bond interest and dividends received
deduction.................................................. (6,065,000) (5,792,000) (4,672,000)
State income taxes........................................... 2,242,000 102,000 430,000
Tax exempt status of S Corporation........................... -- (1,617,000) (722,000)
Deferred taxes at date of S Corporation conversion........... -- (680,000) --
Other, net (primarily non deductible expenses)............... 1,553,000 920,000 298,000
------------- ------------- -------------
Income tax provision..................................... $ 23,297,000 $ 9,874,000 $ 9,884,000
------------- ------------- -------------
------------- ------------- -------------
Effective tax rate....................................... 31.9% 20.4% 23.8%
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
F-21
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(7) SEGMENT AND GEOGRAPHIC DATA
The Company classifies its activities into two core business segments: 1)
property and casualty insurance company operations and 2) insurance agency and
brokerage operations. Corporate includes general corporate items, other
operations and inter-segment eliminations. The following table shows information
by business segment and geographic location:
<TABLE>
<CAPTION>
CORPORATE
COMPANY AGENCY AND OTHER TOTAL
-------------- ------------- -------------- --------------
<S> <C> <C> <C> <C>
For the year ended December 31, 1997:
Revenue:
Domestic....................................... $ 171,713,000 $ 74,411,000 $ 8,616,000 $ 254,740,000
Foreign........................................ 14,967,000 3,703,000 -- 18,670,000
Inter-segment.................................. 1,380,000 4,280,000 (5,660,000) --
-------------- ------------- -------------- --------------
Total revenue................................ $ 188,060,000 $ 82,394,000 $ 2,956,000 $ 273,410,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
Net earnings:
Domestic....................................... $ 34,367,000 $ 20,726,000 $ (12,081,000) $ 43,012,000
Foreign........................................ 6,333,000 406,000 -- 6,739,000
-------------- ------------- -------------- --------------
Total net earnings........................... $ 40,700,000 $ 21,132,000 $ (12,081,000) $ 49,751,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
Depreciation and amortization.................... $ 1,453,000 $ 2,815,000 $ 895,000 $ 5,163,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
Capital expenditures............................. $ 2,838,000 $ 3,416,000 $ 464,000 $ 6,718,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
For the year ended December 31, 1996:
Revenue:
Domestic....................................... $ 186,272,000 $ 46,388,000 $ 13,267,000 $ 245,927,000
Foreign........................................ 20,730,000 3,722,000 -- 24,452,000
Inter-segment.................................. 600,000 763,000 (1,363,000) --
-------------- ------------- -------------- --------------
Total revenue................................ $ 207,602,000 $ 50,873,000 $ 11,904,000 $ 270,379,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
For the year ended December 31, 1996:
Net earnings:
Domestic....................................... $ 35,610,000 $ 149,000 $ (2,422,000) $ 33,337,000
Foreign........................................ 6,151,000 (958,000) -- 5,193,000
-------------- ------------- -------------- --------------
Total net earnings........................... $ 41,761,000 $ (809,000) $ (2,422,000) $ 38,530,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
Depreciation and amortization.................... $ 1,583,000 $ 1,378,000 $ 1,067,000 $ 4,029,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
Capital expenditures............................. $ 617,000 $ 1,818,000 $ 468,000 $ 2,903,000
-------------- ------------- -------------- --------------
-------------- ------------- -------------- --------------
</TABLE>
F-22
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(7) SEGMENT AND GEOGRAPHIC DATA (CONTINUED)
Non-recurring compensation expense of $24.0 million (pre-tax) caused a net
loss for the agency segment during 1996.
<TABLE>
<CAPTION>
CORPORATE
COMPANY AGENCY AND OTHER TOTAL
-------------- ------------- ------------- --------------
<S> <C> <C> <C> <C>
For the year ended December 31, 1995:
Revenue:
Domestic........................................ $ 164,051,000 $ 38,185,000 $ 11,816,000 $ 214,052,000
Foreign......................................... 16,545,000 3,388,000 -- 19,933,000
Inter-segment................................... 474,000 383,000 (857,000) --
-------------- ------------- ------------- --------------
Total revenue................................. $ 181,070,000 $ 41,956,000 $ 10,959,000 $ 233,985,000
-------------- ------------- ------------- --------------
-------------- ------------- ------------- --------------
Net earnings:
Domestic........................................ $ 25,108,000 $ 4,367,000 $ (3,487,000) $ 25,988,000
Foreign......................................... 5,240,000 460,000 -- 5,700,000
-------------- ------------- ------------- --------------
Total net earnings............................ $ 30,348,000 $ 4,827,000 $ (3,487,000) $ 31,688,000
-------------- ------------- ------------- --------------
-------------- ------------- ------------- --------------
Depreciation and amortization..................... $ 1,072,000 $ 1,275,000 $ 996,000 $ 3,343,000
-------------- ------------- ------------- --------------
-------------- ------------- ------------- --------------
Capital expenditures.............................. $ 2,411,000 $ 1,306,000 $ 1,311,000 $ 5,028,000
-------------- ------------- ------------- --------------
-------------- ------------- ------------- --------------
</TABLE>
Identifiable assets by business segment and geographic location are shown in
the following table:
<TABLE>
<CAPTION>
CORPORATE
COMPANY AGENCY AND OTHER TOTAL
-------------- -------------- ------------- ----------------
<S> <C> <C> <C> <C>
December 31, 1997:
Domestic..................................... $ 811,462,000 $ 270,691,000 $ 42,874,000 $ 1,125,027,000
Foreign...................................... 66,572,000 31,164,000 -- 97,736,000
-------------- -------------- ------------- ----------------
Total identifiable assets.................. $ 878,034,000 $ 301,855,000 $ 42,874,000 $ 1,222,763,000
-------------- -------------- ------------- ----------------
-------------- -------------- ------------- ----------------
December 31, 1996:
Domestic..................................... $ 666,117,000 $ 136,553,000 $ 37,625,000 $ 840,295,000
Foreign...................................... 98,863,000 24,941,000 -- 123,804,000
-------------- -------------- ------------- ----------------
Total identifiable assets.................. $ 764,980,000 $ 161,494,000 $ 37,625,000 $ 964,099,000
-------------- -------------- ------------- ----------------
-------------- -------------- ------------- ----------------
</TABLE>
During the years ended December 31, 1997, 1996 and 1995, one broker in
London, England, produced gross written premium ("GWP") to the Company of
approximately $42.8 million, $25.7 million and $31.2 million, respectively. This
represents 12%, 7% and 11% of the Company's total GWP for those years.
F-23
<PAGE>
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(7) SEGMENT AND GEOGRAPHIC DATA (CONTINUED)
The Company has insureds and/or reinsureds in approximately 100 countries
world-wide. The following table shows the geographical distribution of GWP
written by the domestic insurance company subsidiaries based on location of the
insureds and reinsureds for the three years ended December 31, 1997:
<TABLE>
<CAPTION>
1997 1996 1995
--------------------------- --------------------------- ---------------------------
<S> <C> <C> <C> <C> <C> <C>
GWP % GWP % GWP %
-------------- ----------- -------------- ----------- -------------- -----------
United States........................ $ 224,833,000 68% $ 194,546,000 62% $ 187,826,000 59%
Europe............................... 24,581,000 7 39,135,000 12 47,022,000 15
South America........................ 24,492,000 7 26,033,000 8 30,093,000 9
Central America...................... 15,109,000 5 19,253,000 6 22,241,000 7
Other................................ 42,316,000 13 36,525,000 12 33,269,000 10
-------------- --- -------------- --- -------------- ---
Total GWP........................ $ 331,331,000 100% $ 315,492,000 100% $ 320,451,000 100%
-------------- --- -------------- --- -------------- ---
-------------- --- -------------- --- -------------- ---
</TABLE>
(8) REINSURANCE
In the normal course of business the Company's insurance company
subsidiaries cede a substantial portion of their premium to non-affiliated
domestic and foreign reinsurers through quota share, surplus, excess of loss and
facultative reinsurance agreements. Although the ceding of reinsurance does not
discharge the primary insurer from liability to its policyholder, the
subsidiaries participate in such agreements for the purpose of limiting their
loss exposure and diversifying their business. Substantially all of the
reinsurance assumed by the Company's insurance company subsidiaries was
underwritten directly by the Company but issued by other non-affiliated
companies in order to satisfy local licensing or other requirements. The
following table represents the effect of such reinsurance transactions on net
premium and loss and loss adjustment expense:
<TABLE>
<CAPTION>
LOSS AND LOSS
ADJUSTMENT
WRITTEN PREMIUM EARNED PREMIUM EXPENSE
--------------- --------------- ---------------
<S> <C> <C> <C>
For the year ended December 31, 1997:
Direct business............................................ $ 177,728,000 $ 174,533,000 $ 126,861,000
Reinsurance assumed........................................ 168,671,000 180,339,000 165,831,000
Reinsurance ceded.......................................... (203,027,000) (191,782,000) (196,178,000)
--------------- --------------- ---------------
Net amounts.............................................. $ 143,372,000 $ 163,090,000 $ 96,514,000
--------------- --------------- ---------------
--------------- --------------- ---------------
For the year ended December 31, 1996:
Direct business............................................ $ 178,969,000 $ 186,417,000 $ 122,940,000
Reinsurance assumed........................................ 158,309,000 146,606,000 105,085,000
Reinsurance ceded.......................................... (149,003,000) (157,714,000) (113,561,000)
--------------- --------------- ---------------
Net amounts.............................................. $ 188,275,000 $ 175,309,000 $ 114,464,000
--------------- --------------- ---------------
--------------- --------------- ---------------
For the year ended December 31, 1995:
Direct business............................................ $ 191,068,000 $ 173,012,000 $ 131,255,000
Reinsurance assumed........................................ 148,037,000 128,924,000 79,705,000
Reinsurance ceded.......................................... (154,780,000) (142,348,000) (105,586,000)
--------------- --------------- ---------------
Net amounts.............................................. $ 184,325,000 $ 159,588,000 $ 105,374,000
--------------- --------------- ---------------
--------------- --------------- ---------------
</TABLE>
F-24
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(8) REINSURANCE (CONTINUED)
The table below represents the composition of reinsurance recoverables in
the accompanying consolidated balance sheets:
<TABLE>
<CAPTION>
1997 1996
-------------- --------------
<S> <C> <C>
Reinsurance recoverable on paid losses....................... $ 50,461,000 $ 22,977,000
Reinsurance recoverable on outstanding losses................ 140,516,000 102,350,000
Reinsurance recoverable on IBNR.............................. 14,858,000 9,416,000
Reserve for uncollectible reinsurance........................ (2,535,000) (2,415,000)
-------------- --------------
Total reinsurance recoverables........................... $ 203,300,000 $ 132,328,000
-------------- --------------
-------------- --------------
</TABLE>
The insurance company subsidiaries require reinsurers not authorized by
their respective states of domicile to collateralize their reinsurance
obligations to the Company with letters of credit or cash deposits. At December
31, 1997, the Company held letters of credit and cash deposits in the amounts of
$93.9 million and $8.6 million, respectively, to collateralize certain
reinsurance balances. The Company has established a reserve of $2.5 million as
of December 31, 1997, to reduce the effects of any recoverable problem.
In order to minimize its exposure to reinsurance credit risk, the Company
evaluates the financial condition of its reinsurers and places its reinsurance
with a diverse group of financially sound companies. The following table shows
reinsurance balances relating to the reinsurers with a total recoverable balance
greater than $10.0 million and the collateral and potential offsets held by the
Company as of each year end:
<TABLE>
<CAPTION>
REINSURANCE LETTERS OF
RECOVERABLES AND CREDIT, CASH
CEDED UNEARNED DEPOSITS AND
REINSURER LOCATION PREMIUM OTHER PAYABLES
- -------------------------------------------------------- ------------------- ---------------- ----------------
<S> <C> <C> <C>
December 31, 1997:
Underwriters at Lloyd's............................... London, England $ 31,687,000 $ 17,778,000
Underwriters Indemnity Company........................ Houston, TX 28,925,000 6,825,000
Reinsurance Australia Corporation, Ltd................ Sydney, Australia 28,921,000 31,965,000
SCOR Reinsurance Company.............................. New York, NY 23,625,000 10,707,000
AXA Reinsurance Company............................... Wilmington, DE 21,004,000 7,790,000
GIO Insurance Limited................................. Sydney, Australia 18,610,000 20,551,000
New Cap Reinsurance Corporation, Ltd.................. Sydney, Australia 18,496,000 16,295,000
Reliance Insurance Company............................ Philadelphia, PA 10,991,000 1,553,000
December 31, 1996:
Underwriters at Lloyd's............................... London, England $ 28,987,000 $ 18,446,000
GIO Insurance Limited................................. Sydney, Australia 25,204,000 26,106,000
Reinsurance Australia Corporation, Ltd................ Sydney, Australia 20,562,000 19,332,000
Underwriters Indemnity Company........................ Houston, TX 12,531,000 5,934,000
SCOR Reinsurance Company.............................. New York, NY 11,105,000 2,428,000
AXA Reinsurance Company............................... Wilmington, DE 10,402,000 2,759,000
</TABLE>
Approximately $2.2 million in recoverables is due from reinsurers that are
either under regulatory supervision or insolvent. The Company holds letters of
credit and cash deposits totaling $2.0 million to collateralize these balances
plus other credits of $1.1 million available for potential offset. The Company
is
F-25
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(8) REINSURANCE (CONTINUED)
involved in a dispute with two reinsurers over coverage and other issues. The
Company believes the reinsurers' positions are without merit and all amounts due
from the reinsurers will be recovered. The total amount in dispute is
approximately $3.5 million.
(9) COMMITMENTS AND CONTINGENCIES
LITIGATION
The Company is a party to numerous lawsuits arising in the normal course of
business. Many of the pending lawsuits involve claims under policies
underwritten or reinsured by the Company, which management believes have been
adequately included in its established loss reserves. The Company believes the
resolution of these lawsuits will not have a material adverse effect on its
financial condition, results of operations or cash flows.
FOREIGN CURRENCY FORWARD CONTRACTS
From time to time the Company enters into foreign currency forward contracts
as a hedge against foreign currency fluctuations, primarily GBP. The Company's
balances denominated in foreign currency fluctuate as transactions are recorded
and settled. During 1997, the average GBP liability, for subsidiaries whose
functional currency was the United States dollar, was approximately L793,000
($1.3 million at the December 31, 1997, rate of exchange) which was hedged by an
average open forward contract balance of approximately L125,000 ($206,000 at the
December 31, 1997, rate of exchange). There are no open foreign currency forward
contracts as of December 31, 1997. The Company may continue to limit its
exposure to currency fluctuations through the use of foreign currency forward
contracts.
The Company utilizes these foreign currency forward contracts strictly as a
hedge against existing exposure to foreign currency fluctuations and it does not
do so as any form of speculative or trading investment.
LEASES
The Company leases administrative office facilities under long-term
non-cancelable operating lease agreements expiring at various dates through
November, 2005. The agreements generally require the payment of utilities, real
estate taxes, insurance and repairs. The Company has recognized rent expense on
a straight-line basis over the terms of these leases. In addition, the Company
leases computer equipment and automobiles under operating leases expiring at
various dates through the year 2002. Rent expense under these leases amounted to
$3.7 million, $2.5 million and $2.0 million for the years ended December 31,
1997, 1996 and 1995, respectively.
F-26
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(9) COMMITMENTS AND CONTINGENCIES (CONTINUED)
At December 31, 1997, future minimum annual rental payments required under
the long-term non-cancelable operating leases, excluding certain expenses
payable by the Company, are as follows:
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31, AMOUNT DUE
- --------------------------------------------------------------------------------------------------- -------------
<S> <C>
1998..................................................................................... $ 4,189,000
1999..................................................................................... 3,917,000
2000..................................................................................... 3,618,000
2001..................................................................................... 3,112,000
2002..................................................................................... 1,747,000
Thereafter......................................................................................... 1,212,000
-------------
Total future minimum annual rental payments due.................................................... $ 17,795,000
-------------
-------------
</TABLE>
SYSTEMS SOFTWARE
The Company is committed to purchase and install major new systems software,
principally at its insurance company subsidiaries, in 1998. The approximate cost
of that software is $4.4 million.
CATASTROPHE EXPOSURE
The Company writes business in areas exposed to catastrophic losses and has
significant exposures to this type of loss in California, the Atlantic Coast of
the United States, certain United States Gulf Coast states, particularly Florida
and Texas, the Caribbean and Mexico. The Company carefully assesses its overall
exposures to a single catastrophic event and applies procedures that it believes
are more conservative than are typically used by the industry to ascertain the
Company's probable maximum loss ("PML") from any single event. The Company
maintains reinsurance protection which it believes is sufficient to cover any
foreseeable event.
(10) RELATED PARTY TRANSACTIONS
Certain of the Company's directors are officers, directors or owners of
business entities with which the Company transacts business. Balances with these
business entities and other related parties included in the accompanying
consolidated balance sheets are as follows:
<TABLE>
<CAPTION>
1997 1996
------------- ------------
<S> <C> <C>
Reinsurance recoverables............................................................. $ 21,191,000 $ 3,472,000
Premiums, claims and other receivables............................................... 2,677,000 2,250,000
Ceded unearned premium............................................................... 7,734,000 9,059,000
Other assets, net.................................................................... 2,892,000 773,000
Loss and loss adjustment expense payable............................................. 661,000 663,000
Reinsurance balances payable......................................................... 5,564,000 3,780,000
Premium payable...................................................................... 1,754,000 1,532,000
Accounts payable and accrued liabilities............................................. 325,000 --
</TABLE>
F-27
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(10) RELATED PARTY TRANSACTIONS (CONTINUED)
Transactions with these business entities and other related parties included
in the accompanying consolidated statements of earnings are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
------------ ------------ ----------
<S> <C> <C> <C>
Gross earned premium..................................................... $ 672,000 $ 871,000 $ --
Ceded earned premium..................................................... 16,041,000 12,050,000 1,194,000
Commission income........................................................ 1,267,000 1,249,000 --
Investment income........................................................ 405,000 -- --
Gross loss and loss adjustment expense................................... 671,000 661,000 106,000
Ceded loss and loss adjustment expense................................... 17,868,000 5,852,000 185,000
Other operating expense.................................................. 807,000 1,011,000 758,000
</TABLE>
During 1995, $63,000 was paid to a related party for construction management
services related to improvements to the Company's offices in Houston, Texas.
During 1997, the Company committed to invest $5.0 million in an investment
partnership managed by a related party. At December 31, 1997, no amount had been
invested under this commitment.
(11) EMPLOYEE BENEFIT PLANS
The Company has defined contribution retirement plans under Section 401(k)
of the Internal Revenue Code which cover substantially all of the domestic
employees who meet specified service requirements. The Company's contributions
of these plans are based on varying percentages of the employees' contributions,
up to varying maximum levels. The Company contributed $858,000, $997,000 and
$1,113,000 to the plans for the years ended December 31, 1997, 1996 and 1995,
respectively, which is included in compensation expense in the accompanying
consolidated statements of earnings.
AVEMCO had a non-contributory defined benefit retirement plan covering
substantially all of its employees who met specified age and service
requirements. Benefits were based on years of service and final average
compensation and were integrated with the provisions of the Federal Insurance
Compensation Act (Social Security), as provided for in the plan. Pension plan
assets are a diversified mix of stock and bond mutual funds. AVEMCO's funding
policy was to contribute amounts that met minimum funding requirements, but
which did not exceed the maximum funding limits as currently determined under
applicable tax regulations. This plan was terminated at December 31, 1997, at
which time the participants' accounts became fully vested. At December 31, 1997,
the vested benefits, calculated utilizing an interest rate of 7.25%, amounted to
$6.0 million and the fair value of the assets of the plan was $8.1 million. In
accordance with applicable regulations, the plan's assets will be distributed to
participants during 1998. The Company is not obligated for contributions to the
plan subsequent to December 31, 1997. It is expected that the assets of the plan
will be sufficient to cover the vested benefits which are to be paid to the
participants.
Total pension expense (credit) under the AVEMCO plan amounted to $0,
($590,000), and $512,000 for the years ended December 31, 1997, 1996 and 1995,
respectively. A curtailment gain of $1,044,000 was recognized in the 1996
pension credit as a result of AVEMCO's decision to eliminate certain future
service time credits.
F-28
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(12) SHAREHOLDERS' EQUITY
Under the Texas Insurance Code, HC must maintain minimum statutory capital
of $1,000,000 and minimum statutory surplus of $1,000,000, and can only pay
dividends out of surplus funds. In addition, HC is limited in the amount of
dividends which it may pay in any twelve month period, without prior regulatory
approval, to the greater of statutory net investment income for the prior
calendar year or ten percent (10%) of statutory capital and surplus as of the
prior calendar year end. During 1998, HC's ordinary dividend capacity will be
approximately $23.3 million.
AIC is limited by the state of Maryland in the amount of dividends which it
may pay in any twelve month period, without prior regulatory approval, to the
greater of statutory net income for the prior calendar year or ten percent (10%)
of statutory capital and surplus as of the prior year end. On December 30, 1997,
AIC paid an extraordinary dividend of $13.7 million, which was approved by the
Maryland Insurance Administration. AIC needs prior regulatory approval for all
dividends until December 30, 1998, at which time AIC's ordinary dividend
capacity will become approximately $6.8 million.
As of December 31, 1997, all of the domestic insurance company subsidiaries
total adjusted capital greatly exceeded the NAIC authorized control level
risk-based capital.
(13) STOCK OPTIONS
The Company has five option plans, the 1994 Non-employee Director Stock
Option Plan, the 1996 Non-employee Director Stock Option Plan, the 1992
Incentive Stock Option Plan, the 1995 Flexible Incentive Plan, and the 1997
Flexible Incentive Plan. All plans are administered by the Compensation
Committee of the Board of Directors. Each option may be used to purchase one
share of Common Stock of the Company. As of December 31, 1997, 5,987,251 shares
of Common Stock were reserved for the exercise of options, of which 3,508,226
shares were reserved for options previously granted and 2,479,025 shares were
reserved for future issuances of options.
Options generally vest over a one, three or five year period and expire ten
years after grant date. All options have been granted at fixed exercise prices,
generally at the market price of the Company's Common Stock on the grant date.
Any excess of the market price on the grant date over the exercise price is
recognized as compensation expense in the accompanying consolidated financial
statements. During 1996, such compensation expense amounted to $494,000. If the
fair value method of valuing compensation related to options would have been
used, pro forma net earnings and pro forma diluted earnings per share would have
been $43.8 million, or $0.94 per share for the year ended December 31, 1997, and
$37.5 million, or $0.84 per share, for the year ended December 31, 1996. The pro
forma compensation cost for the year ended December 31, 1995, is less than
$100,000. The fair value of each option grant was estimated on the grant date
using the Black-Scholes single option pricing model with the following weighted
average assumptions: a) risk free interest rate of 6.2% for 1997, 5.6% for 1996
and 6.6% for 1995, b) expected volatility factor of .3, c) dividend yield of
.56% for 1997, .3% for 1996 and 0% for 1995, and d) expected option life of five
years for 1997 and six years for 1996 and 1995.
F-29
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(13) STOCK OPTIONS (CONTINUED)
Stock option activity is shown below after adjustment for the effects of the
five-for-two stock split payable as a 150% stock dividend to shareholders of
record April 30, 1996 (See Note 1.)
<TABLE>
<CAPTION>
1997 1996 1995
------------------------------------ ---------------------------------- -----------------------
AVERAGE AVERAGE AVERAGE AVERAGE
NUMBER OF EXERCISE AVERAGE NUMBER OF EXERCISE FAIR NUMBER OF EXERCISE
SHARES PRICE FAIR VALUE SHARES PRICE VALUE SHARES PRICE
---------- ----------- ----------- ---------- ----------- --------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Outstanding, beginning of
year......................... 3,124,793 $ 13.03 2,935,863 $ 11.71 2,076,212 $ 10.76
Granted at market value........ 1,301,500 22.88 $ 7.98 292,500 23.63 $ 9.87 1,078,751 12.29
Granted below market value..... -- -- -- 60,000 13.01 11.51 16,000 7.70
Cancelled...................... (123,700) 24.37 (12,250) 11.51 (77,184) 7.54
Exercised...................... (530,542) 12.80 (120,420) 4.52 (147,191) 3.92
AVEMCO option activity prior to
combination:
Granted at market value........ -- -- -- 45,600 15.25 4.69 9,000 16.44
Cancelled...................... (1,375) 15.84 (61,850) 20.02 (11,925) 20.10
Exercised...................... (262,450) 16.00 (14,650) 8.54 (7,800) 11.15
---------- ----------- ---------- ----------- ---------- -----------
Outstanding, end of year....... 3,508,226 $ 16.22 3,124,793 $ 13.03 2,935,863 $ 11.71
---------- ----------- ---------- ----------- ---------- -----------
---------- ----------- ---------- ----------- ---------- -----------
Exercisable, end of year....... 1,230,145 $ 11.60 1,491,792 $ 12.72 1,167,342 $ 12.29
---------- ----------- ---------- ----------- ---------- -----------
---------- ----------- ---------- ----------- ---------- -----------
<CAPTION>
AVERAGE
FAIR VALUE
-----------
<S> <C>
Outstanding, beginning of
year.........................
Granted at market value........ $ 4.99
Granted below market value..... 5.70
Cancelled......................
Exercised......................
AVEMCO option activity prior to
combination:
Granted at market value........ 4.91
Cancelled......................
Exercised......................
Outstanding, end of year.......
Exercisable, end of year.......
</TABLE>
Options outstanding at December 31, 1997, are shown on the following
schedule:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
----------------------------------------
AVERAGE -----------------------
REMAINING AVERAGE AVERAGE
NUMBER OF CONTRACTUAL EXERCISE NUMBER OF EXERCISE
RANGE OF EXERCISE PRICES SHARES LIFE PRICE SHARES PRICE
- ---------------------------------------------------------- ---------- --------------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C>
Under $10.00.............................................. 743,829 4.63 years $ 6.26 459,615 $ 5.52
$10.01--$15.00............................................ 1,006,747 7.89 12.39 511,130 12.36
$15.01--$21.00............................................ 160,300 4.95 17.11 120,300 16.50
Over $21.00............................................... 1,597,350 8.75 23.18 139,100 24.70
---------- --------------- ----------- ---------- -----------
Total options............................................. 3,508,226 7.46 years $ 16.22 1,230,145 $ 11.60
---------- --------------- ----------- ---------- -----------
---------- --------------- ----------- ---------- -----------
</TABLE>
F-30
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(14) EARNINGS PER SHARE
The following table provides reconciliation of the denominators used in the
earnings per share calculations for the three years ended December 31, 1997:
<TABLE>
<CAPTION>
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Net earnings........................................................ $ 49,751,000 $ 38,530,000 $ 31,688,000
------------- ------------- -------------
------------- ------------- -------------
Reconciliation of number of shares outstanding:
Shares of Common Stock outstanding at year end...................... 46,159,000 44,115,000 17,299,000
Changes in Common Stock due to issuance............................. (764,000) (920,000) (908,000)
Effect of five-for-two stock split.................................. -- -- 24,586,000
------------- ------------- -------------
Weighted average Common Stock outstanding......................... 45,395,000 43,195,000 40,977,000
Additional dilutive effect of outstanding options (as determined by
the application of the treasury stock method)..................... 1,214,000 1,248,000 215,000
Effect of five-for-two stock split.................................. -- -- 321,000
------------- ------------- -------------
Weighted average Common Stock and potential common stock
outstanding....................................................... 46,609,000 44,443,000 41,513,000
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
As of December 31, 1997, there were 142,183 options that were not included
in the computation of diluted earnings per share because to do so would have
been antidilutive.
(15) STATUTORY TO GAAP RECONCILIATIONS
Reconciliations of statutory policyholders' surplus as of December 31, 1997
and 1996, and net income for the three years ended December 31, 1997, of the
Company's insurance company subsidiaries included
F-31
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(15) STATUTORY TO GAAP RECONCILIATIONS (CONTINUED)
in those companies' respective filings with regulatory authorities to the
amounts shown in the accompanying consolidated financial statements on the basis
of GAAP are as follows:
<TABLE>
<CAPTION>
1997 1996
-------------- --------------
<S> <C> <C>
Statutory policyholders' surplus................................................. $ 331,922,000 $ 288,863,000
Difference in carrying value of fixed income securities.......................... 11,970,000 4,519,000
Difference in unearned premium................................................... 1,653,000 (4,309,000)
Assets non-admitted for statutory reporting...................................... 4,390,000 3,770,000
Deferred policy acquisition costs net of deferred ceding commissions capitalized
for GAAP....................................................................... 2,713,000 7,303,000
Deferred income taxes recorded for GAAP.......................................... 3,899,000 5,175,000
Statutory provisions for reinsurance, net of GAAP reserve for uncollectible
reinsurance.................................................................... 5,838,000 2,904,000
Excess of statutory reserves over statement reserves............................. -- 2,511,000
Other............................................................................ -- (2,662,000)
-------------- --------------
Shareholder's equity of insurance company subsidiaries on basis of GAAP........ 362,385,000 308,074,000
Equity attributable to non-insurance company parent and subsidiaries, net of
elimination entries in consolidation......................................... 3,095,000 (11,661,000)
-------------- --------------
Total shareholders' equity per accompanying consolidated financial
statements................................................................... $ 365,480,000 $ 296,413,000
-------------- --------------
-------------- --------------
</TABLE>
<TABLE>
<CAPTION>
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Statutory net income................................................ $ 56,626,000 $ 45,079,000 $ 31,102,000
Difference in unearned premium...................................... 285,000 (4,175,000) (881,000)
Deferred income tax benefit not recorded for statutory purposes..... 380,000 552,000 1,886,000
Change in deferred policy acquisition costs and deferred ceding
commissions capitalized for GAAP.................................. (5,647,000) 3,279,000 503,000
Gain on transfer of subsidiary, eliminated for GAAP................. (4,663,000) -- --
Provision for reinsurance not expensed for statutory purposes....... -- 100,000 (900,000)
Other, net.......................................................... (30,000) 195,000 517,000
------------- ------------- -------------
Net income of insurance company subsidiaries on basis of GAAP..... 46,951,000 45,030,000 32,227,000
Net income (loss) attributable to non-insurance parent and
subsidiaries...................................................... 2,800,000 (6,500,000) (539,000)
------------- ------------- -------------
Net earnings per accompanying consolidated financial statements... $ 49,751,000 $ 38,530,000 $ 31,688,000
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
F-32
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(16) SUPPLEMENTAL CASH FLOW INFORMATION
Supplemental cash flow information for the three years ended December 31,
1997, is summarized below:
<TABLE>
<CAPTION>
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Interest paid....................................................... $ 6,712,000 $ 5,027,000 $ 6,344,000
Income tax paid..................................................... 24,132,000 16,426,000 10,747,000
Dividends declared but not paid at year end......................... 1,386,000 717,000 --
</TABLE>
The unrealized gain or loss on securities available for sale, deferred taxes
related thereto, and the issuance of the Company's Common Stock for the purchase
of subsidiaries are non-cash transactions which have been included as direct
increases or decreases in shareholders' equity. During the year ended December
31, 1995, non-cash contributions to LDG's additional paid-in capital of $50,000
were recorded by a reduction in certain payable balances.
(17) LIABILITY FOR UNPAID LOSS AND LOSS ADJUSTMENT EXPENSE
The following table provides a reconciliation of the liability of loss and
loss adjustment expense ("LAE"), for the three years ended December 31, 1997:
<TABLE>
<CAPTION>
1997 1996 1995
-------------- -------------- --------------
<S> <C> <C> <C>
Reserves for loss and LAE at beginning of the year.............. $ 229,049,000 $ 200,756,000 $ 170,957,000
Less reinsurance recoverables................................... 111,766,000 101,497,000 95,279,000
-------------- -------------- --------------
Net reserves at beginning of the year....................... 117,283,000 99,259,000 75,678,000
Net reserves acquired with purchase of subsidiary............... 1,919,000 -- --
Provision for loss and LAE for claims occurring in the current
year.......................................................... 100,288,000 119,401,000 108,140,000
Increase (decrease) in estimated loss and LAE for claims
occurring in prior years...................................... (3,774,000) (4,937,000) (2,766,000)
-------------- -------------- --------------
Incurred loss and LAE, net of reinsurance..................... 96,514,000 114,464,000 105,374,000
-------------- -------------- --------------
Loss and LAE payments for claims occurring during:
Current year.................................................... 48,208,000 54,493,000 45,291,000
Prior years..................................................... 47,874,000 41,947,000 36,502,000
-------------- -------------- --------------
Loss and LAE payments, net of reinsurance..................... 96,082,000 96,440,000 81,793,000
-------------- -------------- --------------
Net reserves at end of the year................................. 119,634,000 117,283,000 99,259,000
Plus reinsurance recoverables................................... 155,374,000 111,766,000 101,497,000
-------------- -------------- --------------
Reserves for loss and LAE at end of the year................ $ 275,008,000 $ 229,049,000 $ 200,756,000
-------------- -------------- --------------
-------------- -------------- --------------
</TABLE>
F-33
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(18) QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>
FOURTH QUARTER THIRD QUARTER SECOND QUARTER FIRST QUARTER
1997 1997 1997 1997
-------------- ------------- -------------- -------------
<S> <C> <C> <C> <C>
Net earned premium................................ $ 38,659,000 $31,622,000 $ 48,134,000 $ 44,675,000
Management fee and commission income.............. 25,722,000 17,946,000 16,142,000 16,057,000
Net investment income............................. 7,294,000 7,695,000 6,526,000 6,203,000
Total revenue..................................... 73,294,000 59,072,000 72,519,000 68,525,000
Loss and loss adjustment expense.................. 25,977,000 14,467,000 29,452,000 26,618,000
Merger expense.................................... 487,000 305,000 5,404,000 1,873,000
Total expense..................................... 59,202,000 33,548,000 57,779,000 49,833,000
Earnings before income tax provision.............. 14,092,000 25,524,000 14,740,000 18,692,000
Income tax provision.............................. 3,472,000 8,406,000 5,758,000 5,661,000
-------------- ------------- -------------- -------------
Net earnings...................................... $ 10,620,000 $17,118,000 $ 8,982,000 $ 13,031,000
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Basic earnings per share data:
Earnings per share................................ $ 0.23 $ 0.37 $ 0.20 $ 0.29
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Weighted average shares outstanding............... 46,096,000 45,831,000 45,120,000 44,515,000
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Diluted earnings per share data:
Earnings per share................................ $ 0.23 $ 0.36 $ 0.19 $ 0.28
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Weighted average shares outstanding............... 47,036,000 47,122,000 46,383,000 45,848,000
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
</TABLE>
A charge of $10.0 million (pre tax) for reserve strengthening was recorded
during the fourth quarter of 1997.
F-34
<PAGE>
HCC INSURANCE HOLDINGS,INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(18) QUARTERLY FINANCIAL DATA (UNAUDITED) (CONTINUED)
<TABLE>
<CAPTION>
FOURTH QUARTER THIRD QUARTER SECOND QUARTER FIRST QUARTER
1996 1996 1996 1996
-------------- ------------- -------------- -------------
<S> <C> <C> <C> <C>
Net earned premium................................ $ 49,673,000 $41,394,000 $ 41,953,000 $ 42,289,000
Management fee and commission income.............. 12,082,000 13,143,000 13,750,000 12,381,000
Net investment income............................. 6,269,000 5,892,000 5,742,000 5,692,000
Total revenue..................................... 71,426,000 67,841,000 67,506,000 63,606,000
Loss and loss adjustment expense.................. 30,652,000 30,155,000 26,421,000 27,236,000
Merger expense.................................... -- -- 24,984,000 1,176,000
Total expense..................................... 51,637,000 49,268,000 72,333,000 48,737,000
Earnings (loss) before income tax provision....... 19,789,000 18,573,000 (4,827,000) 14,869,000
Income tax provision (benefit).................... 5,495,000 5,394,000 (4,354,000) 3,339,000
-------------- ------------- -------------- -------------
Net earnings (loss)............................... $ 14,294,000 $13,179,000 $ (473,000) $ 11,530,000
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Basic earnings (loss) per share data:
Earnings (loss) per share......................... $ 0.33 $ 0.31 $ (0.01) $ 0.27
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Weighted average shares outstanding............... 43,365,000 42,986,000 43,097,000 43,333,000
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Diluted earnings (loss) per share data:
Earnings (loss) per share......................... $ 0.32 $ 0.30 $ (0.01) $ 0.26
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
Weighted average shares outstanding............... 44,718,000 44,356,000 44,263,000 44,384,000
-------------- ------------- -------------- -------------
-------------- ------------- -------------- -------------
</TABLE>
All amounts have been restated to include the accounts and operations of LDG
and AVEMCO (See Note 2). All share and per share data have been retroactively
adjusted to reflect the effects of the shares issued in connection with the
combination with LDG and AVEMCO (See Note 1).
F-35
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
Our report on the consolidated financial statements of HCC Insurance
Holdings, Inc. and Subsidiaries is included on page F-1 of this Form 10-K. Such
report states that for the years ended December 31, 1996 and 1995, our opinion,
insofar as it relates to data included for AVEMCO Corporation for 1996 and 1995,
is based solely on the report of the other auditors. In connection with our
audits and the report of other auditors, we have also audited the related
financial statement schedules listed in the index of this Form 10-K. Our opinion
on the financial statement schedules, insofar as it relates to data included for
AVEMCO Corporation for 1996 and 1995, is based solely on the report of the other
auditors.
In our opinion, based on our audits and the report of other auditors, the
financial statement schedules referred to above, when considered in relation to
the basic financial statements taken as a whole, present fairly, in all material
respects, the information required to be included therein.
COOPERS & LYBRAND L.L.P.
Houston, Texas
March 26, 1998
S-1
<PAGE>
INDEPENDENT AUDITORS' CONSENT AND REPORT ON SCHEDULES
The Board of Directors and Shareholder,
AVEMCO Corporation:
The audits referred to in our report dated January 31, 1997 (February 28,
1997, as to note 12 and February 18, 1998, as to note 14) include the related
financial statement schedules as of December 31, 1996 and for each of the years
in the two-year period ended December 31, 1996, not included separately herein.
These financial statement schedules are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statement schedules 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.
We consent to incorporation by reference in the registration statements
(Nos. 33-94472, 33-94468, 333-14479, 333-14471, and 333-88664) on Form S-8 of
HCC Insurance Holdings, Inc. of our report dated January 31, 1997 (February 28,
1997, as to note 12 and February 18, 1998, as to note 14), relating to the
consolidated balance sheet of AVEMCO Corporation and subsidiaries as of December
31, 1996, and the related consolidated statements of income, stockholders'
equity, and cash flows for each of the years in the two-year period ended
December 31, 1996, and all related schedules, which reports appear in the
December 31, 1997 annual report on Form 10-K of HCC Insurance Holdings, Inc.
KPMG PEAT MARWICK LLP
Washington, D.C.
March 26, 1998
S-2
<PAGE>
SCHEDULE 1
HCC INSURANCE HOLDINGS, INC.
SUMMARY OF INVESTMENTS
OTHER THAN INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 1997
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D
- ---------------------------------------------------------------- -------------- -------------- --------------
<S> <C> <C> <C>
AMOUNT AT
WHICH
SHOWN IN THE
BALANCE
TYPE OF INVESTMENT COST VALUE SHEET
- ---------------------------------------------------------------- -------------- -------------- --------------
Fixed maturities:
Bonds--United States government and government agencies and
authorities................................................. $ 11,807,000 $ 12,214,000 $ 12,214,000
Bonds--states, municipalities and political subdivisions...... 173,620,000 180,028,000 180,028,000
Bonds--special revenue........................................ 208,488,000 216,259,000 216,259,000
Bonds--Canadian government.................................... 343,000 329,000 329,000
Bonds--corporate.............................................. 75,000 76,000 76,000
Redeemable preferred stocks................................... 788,000 795,000 795,000
-------------- -------------- --------------
Total fixed maturities.................................... 395,121,000 $ 409,701,000 409,701,000
-------------- -------------- --------------
--------------
Equity securities:
Common stocks--banks, trusts & insurance companies............ 8,228,000 $ 6,582,000 6,582,000
Common stocks--industrial..................................... 986,000 723,000 723,000
Non-redeemable preferred stocks............................... 1,007,000 1,034,000 1,034,000
-------------- -------------- --------------
Total equity securities................................... 10,221,000 $ 8,339,000 8,339,000
-------------- -------------- --------------
--------------
Short-term investments.......................................... 105,255,000 105,255,000
-------------- --------------
Total investments......................................... $ 510,597,000 $ 523,295,000
-------------- --------------
-------------- --------------
</TABLE>
S-3
<PAGE>
SCHEDULE 2
HCC INSURANCE HOLDINGS, INC.
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
<S> <C> <C>
1997 1996
-------------- --------------
ASSETS
Cash............................................................................. $ 192,000 $ 202,000
Short-term investments........................................................... 1,200,000 3,990,000
Investment in subsidiaries....................................................... 404,013,000 309,403,000
Intercompany loan to subsidiary.................................................. 41,250,000 --
Deferred Federal income tax...................................................... 5,174,000 9,999,000
Other assets..................................................................... 696,000 205,000
-------------- --------------
Total assets................................................................. $ 452,525,000 $ 323,799,000
-------------- --------------
-------------- --------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Notes payable.................................................................... $ 80,750,000 $ 16,250,000
Payable to subsidiaries.......................................................... 4,755,000 8,636,000
Accounts payable and accrued liabilities......................................... 1,540,000 2,500,000
-------------- --------------
Total liabilities............................................................ 87,045,000 27,386,000
Total shareholders' equity................................................... 365,480,000 296,413,000
-------------- --------------
Total liabilities and shareholders' equity................................... $ 452,525,000 $ 323,799,000
-------------- --------------
-------------- --------------
</TABLE>
See Note to Condensed Financial Information.
S-4
<PAGE>
SCHEDULE 2
HCC INSURANCE HOLDINGS, INC.
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF EARNINGS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
-------------------------------------------
1997 1996 1995
------------- ------------- -------------
<S> <C> <C> <C>
Equity in earnings of subsidiaries.................................. $ 56,016,000 $ 41,853,000 $ 33,909,000
Interest income..................................................... 24,000 41,000 36,000
Interest expense.................................................... 1,904,000 1,110,000 2,196,000
Merger related expenses............................................. 3,326,000 907,000 --
Other operating expense............................................. 2,032,000 1,832,000 784,000
------------- ------------- -------------
Earnings before income tax benefit.............................. 48,778,000 38,045,000 30,965,000
Income tax benefit.................................................. 973,000 485,000 723,000
------------- ------------- -------------
Net earnings.................................................... $ 49,751,000 $ 38,530,000 $ 31,688,000
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
See Note to Condensed Financial Information.
S-5
<PAGE>
SCHEDULE 2
HCC INSURANCE HOLDINGS, INC.
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------------------
1997 1996 1995
-------------- -------------- --------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net earnings................................................... $ 49,751,000 $ 38,530,000 $ 31,688,000
Adjustment to reconcile net earnings to net cash provided
(used) by operating activities:
Undistributed net income of subsidiaries....................... (56,016,000) (41,853,000) (33,909,000)
Change in deferred Federal income tax, net of tax effect of
unrealized gain or loss...................................... 197,000 (5,423,000) (1,546,000)
Amortization and other non-cash expenses....................... 30,000 29,000 10,000
Change in payable to subsidiary and other...................... (533,000) 8,971,000 230,000
-------------- -------------- --------------
Cash provided (used) by operating activities................. (6,571,000) 254,000 (3,527,000)
Cash flows from investing activities:
Cash contributions to subsidiaries............................. (62,442,000) -- (24,072,000)
Purchase of subsidiaries....................................... (6,483,000) (1,753,000) --
Change in short-term investments............................... 2,790,000 (3,206,000) (784,000)
Intercompany loan to subsidiary................................ (41,250,000) -- --
Cash dividends from subsidiaries............................... 43,526,000 5,180,000 7,102,000
-------------- -------------- --------------
Cash provided (used) by investing activities................. (63,859,000) 221,000 (17,754,000)
Cash flows from financing activities:
Proceeds from note payable..................................... 97,500,000 -- --
Payments on notes payable...................................... (33,000,000) -- (28,000,000)
Sale of Common Stock, net of costs............................. 10,470,000 843,000 48,799,000
Dividends paid................................................. (4,550,000) (1,387,000) --
-------------- -------------- --------------
Cash provided (used) by financing activities................. 70,420,000 (544,000) 20,799,000
-------------- -------------- --------------
Net decrease in cash......................................... (10,000) (69,000) (482,000)
Cash at beginning of year.................................... 202,000 271,000 753,000
-------------- -------------- --------------
Cash at end of year.......................................... $ 192,000 $ 202,000 $ 271,000
-------------- -------------- --------------
-------------- -------------- --------------
</TABLE>
See Note to Condensed Financial Information.
S-6
<PAGE>
HCC INSURANCE HOLDINGS, INC.
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
NOTE TO CONDENSED FINANCIAL INFORMATION
The accompanying condensed financial information should be read in
conjunction with the consolidated financial statements and the related notes
thereto of HCC Insurance Holdings, Inc. and Subsidiaries. Investments in
subsidiaries are accounted for using the equity method.
S-7
<PAGE>
SCHEDULE 3
HCC INSURANCE HOLDINGS, INC.
SUPPLEMENTARY INSURANCE INFORMATION
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN F COLUMN G COLUMN H
------------ --------------- ------------- ----------- ----------- --------------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
(1) (1) (2)
<CAPTION>
DECEMBER 31,
------------------------------------------- FOR THE YEARS ENDED DECEMBER 31,
FUTURE POLICY -----------------------------------------
BENEFITS, BENEFITS,
LOSSES, CLAIMS,
DEFERRED POLICY CLAIMS LOSSES AND
ACQUISITION AND LOSS UNEARNED PREMIUM NET INVESTMENT SETTLEMENT
SEGMENTS COSTS EXPENSES PREMIUMS REVENUE INCOME EXPENSES
------------ --------------- ------------- ----------- ----------- --------------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
1997 Company...................... $ 2,051 $ 275,008 $ 152,094 $ 163,090 $ 23,516 $ 96,514
Agency....................... 2,976
Corporate.................... 1,226
------- ------------- ----------- ----------- ------- -----------
Total........................ $ 2,051 $ 275,008 $ 152,094 $ 163,090 $ 27,718 $ 96,514
------- ------------- ----------- ----------- ------- -----------
------- ------------- ----------- ----------- ------- -----------
1996 Company...................... $ 7,908 $ 229,049 $ 156,268 $ 175,309 $ 20,154 $ 114,464
Agency....................... 1,971
Corporate.................... 1,470
------- ------------- ----------- ----------- ------- -----------
Total........................ $ 7,908 $ 229,049 $ 156,268 $ 175,309 $ 23,595 $ 114,464
------- ------------- ----------- ----------- ------- -----------
------- ------------- ----------- ----------- ------- -----------
1995 Company...................... $ 4,529 $ 200,756 $ 151,976 $ 159,588 $ 19,097 $ 105,374
Agency....................... 1,292
Corporate.................... 1,359
------- ------------- ----------- ----------- ------- -----------
Total........................ $ 4,529 $ 200,756 $ 151,976 $ 159,588 $ 21,748 $ 105,374
------- ------------- ----------- ----------- ------- -----------
------- ------------- ----------- ----------- ------- -----------
<CAPTION>
COLUMN I COLUMN J COLUMN K
------------- --------------- -----------
<S> <C> <C> <C>
(2)
AMORTIZATION
OF DEFERRED
POLICY
ACQUISITION OTHER OPERATING PREMIUMS
COSTS EXPENSES WRITTEN
------------- --------------- -----------
<S> <C> <C> <C>
1997 $ 14,099 $ 17,700 $ 143,372
47,047
18,998
------------- ------- -----------
$ 14,099 $ 83,745 $ 143,372
------------- ------- -----------
------------- ------- -----------
1996 $ 13,459 $ 17,171 $ 188,275
55,728
16,160
------------- ------- -----------
$ 13,459 $ 89,059 $ 188,275
------------- ------- -----------
------------- ------- -----------
1995 $ 11,590 $ 19,613 $ 184,325
34,630
14,735
------------- ------- -----------
$ 11,590 $ 68,978 $ 184,325
------------- ------- -----------
------------- ------- -----------
</TABLE>
- ------------------------
(1) Columns C and D are shown ignoring the effects of reinsurance.
(2) Net investment income was allocated to the company, and therefore the
segment, on which the related investment asset was recorded. Other operating
expenses were allocated to the company, and therefore the corresponding
segment, which actually incurred those expenses.
Note: Column E is omitted because the Company has no other policy claims and
benefits payable
S-8
<PAGE>
SCHEDULE 4
HCC INSURANCE HOLDINGS, INC.
REINSURANCE
<TABLE>
<CAPTION>
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
- --------------------------------------------- -------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
(1)
ASSUMED FROM PERCENT OF
CEDED TO OTHER OTHER AMOUNT
EARNED PREMIUM GROSS AMOUNT COMPANIES COMPANIES NET AMOUNT ASSUMED TO NET
- --------------------------------------------- -------------- -------------- -------------- -------------- --------------
For the year ended December 31, 1997:
Property and liability insurance............. $ 173,032,000 $ 176,852,000 $ 140,423,000 $ 136,603,000 103%
Accident and health insurance................ 1,501,000 14,930,000 39,916,000 26,487,000 151%
-------------- -------------- -------------- --------------
Total.................................... $ 174,533,000 $ 191,782,000 $ 180,339,000 $ 163,090,000 111%
-------------- -------------- -------------- -------------- -------
-------------- -------------- -------------- -------------- -------
For the year ended December 31, 1996:
Property and liability insurance............. $ 185,477,000 $ 157,588,000 $ 135,552,000 $ 163,441,000 83%
Accident and health insurance................ 940,000 126,000 11,054,000 11,868,000 93%
-------------- -------------- -------------- --------------
Total.................................... $ 186,417,000 $ 157,714,000 $ 146,606,000 $ 175,309,000 84%
-------------- -------------- -------------- -------------- -------
-------------- -------------- -------------- -------------- -------
For the year ended December 31, 1995:
Property and liability insurance............. $ 172,541,000 $ 142,245,000 $ 120,240,000 $ 150,536,000 80%
Accident and health insurance................ 471,000 103,000 8,684,000 9,052,000 96%
-------------- -------------- -------------- --------------
Total.................................... $ 173,012,000 $ 142,348,000 $ 128,924,000 $ 159,588,000 81%
-------------- -------------- -------------- -------------- -------
-------------- -------------- -------------- -------------- -------
</TABLE>
- ------------------------
(1) Substantially all of the reinsurance assumed by the Company's insurance
company subsidiaries was underwritten directly by the Company but issued by
other non-affiliated companies in order to satisfy local licensing or other
requirements.
S-9
<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
AGREEMENT AND PLAN OF REORGANIZATION
DATED AS OF
FEBRUARY 27, 1998
BY AND AMONG
HCC INSURANCE HOLDINGS, INC.,
THE KACHLER CORPORATION
(A DELAWARE CORPORATION
"MERGER SUB")
AND
THE KACHLER CORPORATION
(A TEXAS CORPORATION)
AND
LARRY M. KACHLER
PAUL T. GETTY
BRYANT L. MANNING
ROBERT P. SCHANEN, JR.
ROBERT M. KLEIDERER
MICHAEL J. O'DONNEL
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
TABLE OF CONTENTS
PAGE
ARTICLE I THE MERGER. . . . . . . . . . . . . . . . . . . . . . . . . . 1
Section 1.1 The Merger.. . . . . . . . . . . . . . . . . . . . . . . 1
Section 1.2 Conversion of Shares . . . . . . . . . . . . . . . . . . 2
Section 1.3 Exchange of Certificates . . . . . . . . . . . . . . . . 3
ARTICLE II THE SURVIVING CORPORATION . . . . . . . . . . . . . . . . . . 4
Section 2.1 Certificate of Incorporation . . . . . . . . . . . . . . 4
Section 2.2 Bylaws . . . . . . . . . . . . . . . . . . . . . . . . . 4
Section 2.3 Directors and Officers . . . . . . . . . . . . . . . . . 4
ARTICLE III REPRESENTATIONS AND WARRANTIES OF
KACHLER, AFFILIATED COMPANIES AND SHAREHOLDERS. . . . . . . . 4
Section 3.1 Corporate Existence and Power. . . . . . . . . . . . . . 4
Section 3.2 Authorization. . . . . . . . . . . . . . . . . . . . . . 5
Section 3.3 Governmental Authorization . . . . . . . . . . . . . . . 5
Section 3.4 Non-Contravention. . . . . . . . . . . . . . . . . . . . 6
Section 3.5 Capitalization . . . . . . . . . . . . . . . . . . . . . 6
Section 3.6 Subsidiaries and Joint Ventures. . . . . . . . . . . . . 7
Section 3.7 Kachler Financial Statements . . . . . . . . . . . . . . 7
Section 3.8 Absence of Certain Changes . . . . . . . . . . . . . . . 8
Section 3.9 No Undisclosed Liabilities . . . . . . . . . . . . . . . 9
Section 3.10 Litigation . . . . . . . . . . . . . . . . . . . . . . . 9
Section 3.11 Accounting Matters . . . . . . . . . . . . . . . . . . . 9
Section 3.12 Taxes. . . . . . . . . . . . . . . . . . . . . . . . . . 10
Section 3.13 Employee Benefit Plans, ERISA. . . . . . . . . . . . . . 10
Section 3.14 Material Agreements. . . . . . . . . . . . . . . . . . . 12
Section 3.15 Properties . . . . . . . . . . . . . . . . . . . . . . . 13
Section 3.16 Environmental Matters. . . . . . . . . . . . . . . . . . 13
Section 3.17 Labor Matters. . . . . . . . . . . . . . . . . . . . . . 14
Section 3.18 Compliance with Laws . . . . . . . . . . . . . . . . . . 14
Section 3.19 Trademarks, Tradenames, Etc. . . . . . . . . . . . . . . 14
Section 3.20 Sale of Kachler. . . . . . . . . . . . . . . . . . . . . 14
Section 3.21 Broker's Fees. . . . . . . . . . . . . . . . . . . . . . 14
Section 3.22 Investment Representation. . . . . . . . . . . . . . . . 14
Section 3.23 Total Assets . . . . . . . . . . . . . . . . . . . . . . 15
Section 3.24 Year 2000 Issues . . . . . . . . . . . . . . . . . . . . 15
Section 3.25 Assignment of Commissions. . . . . . . . . . . . . . . . 15
Section 3.26 Knowledge of Kachler . . . . . . . . . . . . . . . . . . 15
ARTICLE IV REPRESENTATIONS AND WARRANTIES OF HCCH. . . . . . . . . . . . 15
Section 4.1 Corporate Existence and Power. . . . . . . . . . . . . . 16
Section 4.2 Corporate Authorization. . . . . . . . . . . . . . . . . 16
i
<PAGE>
TABLE OF CONTENTS (CONT.)
PAGE
Section 4.3 Governmental Authorization . . . . . . . . . . . . . . . 16
Section 4.4 Non-Contravention. . . . . . . . . . . . . . . . . . . . 17
Section 4.5 Capitalization of HCCH . . . . . . . . . . . . . . . . . 17
Section 4.6 Organization of Merger Sub . . . . . . . . . . . . . . . 18
Section 4.7 SEC Filings. . . . . . . . . . . . . . . . . . . . . . . 18
Section 4.8 Financial Statements . . . . . . . . . . . . . . . . . . 19
Section 4.9 Absence of Certain Changes . . . . . . . . . . . . . . . 19
Section 4.10 No Undisclosed Liabilities . . . . . . . . . . . . . . . 19
Section 4.11 Litigation . . . . . . . . . . . . . . . . . . . . . . . 19
Section 4.12 Taxes. . . . . . . . . . . . . . . . . . . . . . . . . . 20
Section 4.13 Employee Benefit Plans; ERISA. . . . . . . . . . . . . . 20
Section 4.14 Material Agreements. . . . . . . . . . . . . . . . . . . 22
Section 4.15 Properties . . . . . . . . . . . . . . . . . . . . . . . 22
Section 4.16 Environmental Matters. . . . . . . . . . . . . . . . . . 23
Section 4.17 Labor Matters. . . . . . . . . . . . . . . . . . . . . . 23
Section 4.18 Compliance with Laws . . . . . . . . . . . . . . . . . . 23
Section 4.19 Trademarks, Tradenames, Etc. . . . . . . . . . . . . . . 23
Section 4.20 Broker's Fees. . . . . . . . . . . . . . . . . . . . . . 23
Section 4.21 Knowledge of HCCH and Merger Sub . . . . . . . . . . . . 23
ARTICLE V COVENANTS OF KACHLER, ETC.. . . . . . . . . . . . . . . . . . 24
Section 5.1 Conduct of Kachler . . . . . . . . . . . . . . . . . . . 24
Section 5.2 Shareholder Approval . . . . . . . . . . . . . . . . . . 25
Section 5.3 Access to Financial and Operational Information. . . . . 25
Section 5.4 Other Offers . . . . . . . . . . . . . . . . . . . . . . 26
Section 5.5 Maintenance of Business. . . . . . . . . . . . . . . . . 26
Section 5.6 Compliance with Obligations. . . . . . . . . . . . . . . 26
Section 5.7 Notices of Certain Events. . . . . . . . . . . . . . . . 27
Section 5.8 Affiliates Agreement . . . . . . . . . . . . . . . . . . 27
Section 5.9 Necessary Consents . . . . . . . . . . . . . . . . . . . 27
Section 5.10 Regulatory Approval. . . . . . . . . . . . . . . . . . . 27
Section 5.11 Satisfaction of Conditions Precedent . . . . . . . . . . 28
ARTICLE VI COVENANTS OF HCCH AND MERGER SUB. . . . . . . . . . . . . . . 28
Section 6.1 Conduct of HCCH. . . . . . . . . . . . . . . . . . . . . 28
Section 6.2 Access to Financial and Operation Information. . . . . . 28
Section 6.3 Maintenance of Business. . . . . . . . . . . . . . . . . 28
Section 6.4 Compliance with Obligations. . . . . . . . . . . . . . . 29
Section 6.5 Notices of Certain Events. . . . . . . . . . . . . . . . 29
Section 6.6 Obligations of Merger Sub. . . . . . . . . . . . . . . . 29
Section 6.7 Notice to Affiliates . . . . . . . . . . . . . . . . . . 29
Section 6.8 Regulatory Approval. . . . . . . . . . . . . . . . . . . 29
ii
<PAGE>
TABLE OF CONTENTS (CONT.)
PAGE
ARTICLE VII COVENANTS OF HCCH, KACHLER AND AFFILIATED
COMPANIES . . . . . . . . . . . . . . . . . . . . . . . . . . 30
Section 7.1 Advice of Changes. . . . . . . . . . . . . . . . . . . . 30
Section 7.2 Regulatory Approvals . . . . . . . . . . . . . . . . . . 30
Section 7.3 Actions Contrary to Stated Intent. . . . . . . . . . . . 30
Section 7.4 Certain Filings. . . . . . . . . . . . . . . . . . . . . 30
Section 7.5 Communications . . . . . . . . . . . . . . . . . . . . . 31
Section 7.6 Satisfaction of Conditions Precedent . . . . . . . . . . 31
Section 7.7 Tax Cooperation. . . . . . . . . . . . . . . . . . . . . 31
ARTICLE VIII POST-CLOSING COVENANTS. . . . . . . . . . . . . . . . . . . . 31
Section 8.1 Listing of HCCH Common Stock . . . . . . . . . . . . . . 31
Section 8.2 Publication of Post-Merger Results . . . . . . . . . . . 31
Section 8.3 Employee Benefits. . . . . . . . . . . . . . . . . . . . 31
Section 8.4 Officers and Directors Insurance . . . . . . . . . . . . 31
Section 8.5 Securities Act Reports . . . . . . . . . . . . . . . . . 32
Section 8.6 Assignment of Commissions. . . . . . . . . . . . . . . . 32
ARTICLE IX CONDITIONS TO THE MERGER. . . . . . . . . . . . . . . . . . . 32
Section 9.1 Conditions to Obligations of HCCH and Merger Sub . . . . 32
Section 9.2 Conditions to Obligations of Kachler and Shareholders. . 33
Section 9.3 Conditions to Obligations of Each Party. . . . . . . . . 34
ARTICLE X TERMINATION OF AGREEMENT. . . . . . . . . . . . . . . . . . . 35
Section 10.1 Termination. . . . . . . . . . . . . . . . . . . . . . . 35
Section 10.2 Effect of Termination. . . . . . . . . . . . . . . . . . 35
ARTICLE XI CLOSING MATTERS . . . . . . . . . . . . . . . . . . . . . . . 36
Section 11.1 The Closing. . . . . . . . . . . . . . . . . . . . . . . 36
ARTICLE XII INDEMNIFICATION AND REMEDIES. . . . . . . . . . . . . . . . . 36
Section 12.1 General Indemnification by the Shareholders. . . . . . . 36
Section 12.2 Limitation and Expiration. . . . . . . . . . . . . . . . 37
Section 12.3 Agreement to Indemnify . . . . . . . . . . . . . . . . . 38
Section 12.4 HCCH Agreement to Indemnify. . . . . . . . . . . . . . . 38
Section 12.5 Procedure for Indemnification; Third Party Claims. . . . 39
Section 12.6 Limitation on Liability. . . . . . . . . . . . . . . . . 39
ARTICLE XIII MISCELLANEOUS . . . . . . . . . . . . . . . . . . . . . . . . 40
Section 13.1 Appointment of Representative. . . . . . . . . . . . . . 40
Section 13.2 Further Assurances.. . . . . . . . . . . . . . . . . . . 41
Section 13.3 Fees and Expenses. . . . . . . . . . . . . . . . . . . . 41
iii
<PAGE>
TABLE OF CONTENTS (CONT.)
PAGE
Section 13.4 Notices. . . . . . . . . . . . . . . . . . . . . . . . . 41
Section 13.5 Governing Law. . . . . . . . . . . . . . . . . . . . . . 43
Section 13.6 Binding upon Successors and Assigns, Assignment. . . . . 43
Section 13.7 Severability . . . . . . . . . . . . . . . . . . . . . . 43
Section 13.8 Entire Agreement . . . . . . . . . . . . . . . . . . . . 43
Section 13.9 Amendment and Waivers. . . . . . . . . . . . . . . . . . 43
Section 13.10 No Waiver. . . . . . . . . . . . . . . . . . . . . . . . 44
Section 13.11 Construction of Agreement. . . . . . . . . . . . . . . . 44
Section 13.12 Counterparts . . . . . . . . . . . . . . . . . . . . . . 44
Section 13.13 Shareholder Control of Stock . . . . . . . . . . . . . . 44
Section 13.14 Knowledge. . . . . . . . . . . . . . . . . . . . . . . . 44
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AGREEMENT AND PLAN OF REORGANIZATION
THIS AGREEMENT AND PLAN OF REORGANIZATION (this "Agreement") is entered
into as of the 27th day of February, 1998 by and among HCC Insurance Holdings,
Inc., a Delaware corporation ("HCCH"), The Kachler Corporation, a Delaware
corporation and a wholly owned subsidiary of HCCH ("Merger Sub"), The Kachler
Corporation ("Kachler"), a Texas corporation, Larry M. Kachler ("LMK"), Paul T.
Getty ("Getty"), and Bryant L. Manning ("Manning"), Robert P. Schanen, Jr.
("Schanen"), Robert M. Kleiderer ("Kleiderer") and Michael J. O'Donnel
("O'Donnel") (LMK, Getty, Manning, Schanen, Kleiderer and O'Donnel being
collectively referred to as the "Shareholders").
RECITALS:
A. The Boards of Directors of each of HCCH, Merger Sub and Kachler have
determined to engage in a transaction pursuant to which (i) Kachler will merge
with and into Merger Sub (the "Merger"), (ii) at the Effective Time the capital
stock of Kachler shall be converted into shares of common stock, par value $1.00
per share, of HCCH (the "HCCH Common Stock") in the manner herein described, all
upon the terms and subject to the conditions set forth herein.
B. The Board of Directors of Kachler has approved, and the Board of
Directors of Kachler has resolved, subject to the terms of this Agreement, to
recommend that shareholders of Kachler approve, the Merger, this Agreement and
the Articles of Merger (as defined herein).
C. The Board of Directors of HCCH has approved the Merger, this
Agreement and the Articles of Merger. HCCH, as the sole shareholder of Merger
Sub, has approved the Merger, this Agreement and the Articles of Merger.
D. The parties intend for the transactions contemplated by this
Agreement to qualify as a plan of reorganization in accordance with the
provisions of Section 368(a) of the Internal Revenue Code of 1986, as amended
(the "Code"), and to be accounted for as a "pooling-of-interests" for accounting
purposes.
NOW, THEREFORE, in consideration of the foregoing and the mutual
representations, warranties, covenants and agreements set forth herein, the
parties hereto do hereby agree as follows:
ARTICLE I
THE MERGER
SECTION 1.1 THE MERGER.
(a) Subject to the terms and conditions of this Agreement, Kachler will
be merged into Merger Sub in accordance with the laws of the State of Delaware
("Delaware Law"), whereupon
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the separate existence of Kachler shall cease, and Merger Sub shall be the
surviving corporation (the "Surviving Corporation").
(b) As soon as practicable after satisfaction or, to the extent
permitted hereunder, waiver of all conditions to the Merger, Kachler and Merger
Sub shall file articles of merger, in substantially the form attached hereto as
Exhibit "A" (the "Articles of Merger"), in the Office of the Secretary of the
State of Delaware, and make all such other filings or recordings required by
Delaware Law and as required by the Texas Business Corporation Act in connection
with the Merger. The Merger shall become effective upon completion of the
filing of an executed original of the Plan of Merger and the Articles of Merger
with the Secretary of State of the State of Texas and the Articles of Merger
with the Office of the Secretary of the State of Delaware, in accordance with
the relevant provisions of Delaware Law (the "Effective Time"). The date on
which the Effective Time shall occur is referred to herein as the "Effective
Date."
(c) From and after the Effective Time, the Surviving Corporation shall
possess all the rights, privileges, powers and franchises and be subject to all
of the restrictions, disabilities and duties of Kachler and Merger Sub, all as
provided under Delaware Law. Without limiting the generality of the foregoing,
and subject thereto, at the Effective Time (i) all the rights, privileges,
immunities, powers and franchises, of a public as well as of a private nature,
and all property, real, personal and mixed, and all debts due on whatever
account, including without limitation subscriptions to shares, and all other
choses in action, and all and every other interest of or belongings to or due to
the Merger Sub or Kachler shall be taken and deemed to be transferred to, and
vested in, the Surviving Corporation without further act or deed; and all
property, rights and privileges, immunities, powers and franchises, and all and
every other interest shall be thereafter as effectually the property of the
Surviving Corporation, as they were of Merger Sub and Kachler, and (ii) all
debts, liabilities, duties and obligations of Merger Sub and Kachler, subject to
the terms hereof, shall become the debts, liabilities and duties of the
Surviving Corporation, and the Surviving Corporation shall thenceforth be
responsible and liable for all the debts, liabilities, duties and obligations of
Merger Sub and Kachler, and neither the rights of creditors nor any liens upon
the property of Merger Sub or Kachler shall be impaired by the Merger, and may
be enforced against the Surviving Corporation.
SECTION 1.2 CONVERSION OF SHARES. At the Effective Time, each share of
common stock of Kachler outstanding immediately prior to the Effective Time
shall automatically and without any action on the part of the holder thereof
cease to be outstanding and be converted into the right to receive 9.8064 shares
of HCCH Common Stock (the "Merger Consideration").
No fractional shares shall be issued and each holder of Kachler Common Stock
shall be entitled to the nearest whole share of HCCH Common Stock rounded
upwards if such fractional share exceeds .5 and otherwise rounded downwards,
PROVIDED, HOWEVER, that HCCH shall under no circumstances be obligated hereunder
to issue shares of HCCH Common Stock in excess of an aggregate of 1,600,000
shares of HCCH Common Stock.
Each share of Common Stock of Merger Sub issued and outstanding immediately
prior to the Effective Time shall continue to be issued and outstanding as one
share of Common Stock of the Surviving Corporation.
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SECTION 1.3 EXCHANGE OF CERTIFICATES.
(a) Prior to the Effective Date, HCCH shall appoint Harris Trust and
Savings Bank ("Harris") to act as exchange agent (the "Exchange Agent") in the
Merger.
(b) As of the Effective Time, all shares of Kachler Common Stock that
are outstanding immediately prior thereto will, by virtue of the Merger and
without further action, cease to exist, and all such shares of Kachler will be
converted into the right to receive from HCCH the number of shares of HCCH
Common Stock determined as set forth in Section 1.2 hereof.
(c) At and after the Effective Time, each certificate representing
outstanding shares of Kachler Common Stock will represent the number of shares
of HCCH Common Stock into which such shares of Kachler Common Stock will be
deemed registered in the name of the holder of such certificate. At the
Effective Time, the holder of shares of Kachler Common Stock will surrender the
certificates for such shares (the "Kachler Certificates") to HCCH for
cancellation. Promptly following the Effective Time and receipt of the Kachler
Certificates, HCCH will cause Harris to issue to such surrendering holder
certificates for the number of shares of HCCH Common Stock to which such holder
is entitled pursuant to the terms hereof.
(d) All shares of HCCH Common Stock delivered upon the surrender of
Kachler Certificates in accordance with the terms hereof will be delivered to
the registered holder. After the Effective Time, there will be no further
registration of transfers of the shares of Kachler Common Stock on the stock
transfer books of Kachler. If, after the Effective Time, Kachler Certificates
are presented for transfer or for any other reason, they will be canceled and
exchanged and certificates therefor will be delivered as provided for herein.
(e) Until Kachler Certificates representing Kachler Common Stock
outstanding prior to the Merger are surrendered pursuant to this Section 1.3,
such certificates will be deemed, for all purposes, to evidence ownership of
the number of whole shares of HCCH Common Stock into which the shares of
Kachler Common Stock will have been converted.
(f) If prior to the Merger, HCCH recapitalizes either through a split-up
of its outstanding shares into a greater number, or through a combination of its
outstanding shares into a lesser number, or reorganizes, reclassifies or
otherwise changes its outstanding shares into the same or a different number of
shares of other classes, or declares a dividend on its outstanding shares
payable in shares or securities convertible into shares (but not cash), the
number of shares of HCCH Common Stock into which the shares of Kachler Common
Stock are to be converted will be adjusted in proportion to such change.
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ARTICLE II
THE SURVIVING CORPORATION
SECTION 2.1 CERTIFICATE OF INCORPORATION. At the Effective Time, the
Certificate of Incorporation of Merger Sub as in effect immediately prior to the
Effective Time shall be the Certificate of Incorporation of the Surviving
Corporation.
SECTION 2.2 BYLAWS. At the Effective Time, the Bylaws of Merger Sub as
in effect immediately prior to the Effective Time shall be the Bylaws of the
Surviving Corporation.
SECTION 2.3 DIRECTORS AND OFFICERS. From and after the Effective Time,
until successors are duly elected or appointed and qualified in accordance with
Delaware Law, the directors and officers of Merger Sub at the Effective Time
shall become directors and the officers of the Surviving Corporation. In
addition, HCCH shall take all necessary action to cause LMK to be appointed
President of the Surviving Corporation, such appointment to become effective as
of the Effective Time.
ARTICLE III
REPRESENTATIONS AND WARRANTIES OF KACHLER,
AFFILIATED COMPANIES AND SHAREHOLDERS
Except as disclosed in a document referring specifically to this Agreement
(the "Kachler Disclosure Schedule") which has been delivered to HCCH on or
before the date hereof, each of Kachler and each Shareholder (severally and not
jointly) represents and warrants to HCCH as set forth below:
SECTION 3.1 CORPORATE EXISTENCE AND POWER. Kachler is a corporation duly
organized, validly existing and in good standing under the laws of the state of
Texas, and has all corporate powers and all material governmental licenses,
authorizations, consents and approvals (collectively, "Governmental
Authorizations") required to carry on its business as now conducted, except such
Governmental Authorizations the failure of which to have obtained would not have
a Material Adverse Effect, as hereinafter defined, on Kachler. Kachler has
delivered to HCCH true and complete copies of Kachler's Articles of
Incorporation and Bylaws as currently in effect. Kachler is duly qualified to
do business as a foreign corporation and possesses all Governmental
Authorizations, including, without limitation, licenses to act as a life
insurance agent in those states in which it does business and is in good
standing in each jurisdiction where the character of the property owned or
leased by it or the nature of its activities makes such qualification necessary,
except where the failure to be so qualified would not have a Material Adverse
Effect on Kachler. For purposes of this Agreement, a "Material Adverse Effect,"
with respect to any person or entity (including without limitation Kachler and
HCCH), means a material adverse effect on the condition (financial or
otherwise), business, properties, assets, liabilities (including contingent
liabilities), results of operations or prospects of such person or entity and
its affiliated companies and subsidiaries and/or parent corporation and/or
corporations under the same stock
4
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ownership, taken as a whole; and "Material Adverse Change" means a change or
a development involving a prospective change which would result in a Material
Adverse Effect.
SECTION 3.2 AUTHORIZATION.
(a) The execution, delivery and performance by Kachler of this Agreement
and the Articles of Merger, and the consummation by Kachler of the transactions
contemplated hereby and thereby including the execution of the Confidentiality
Agreement (as hereinafter defined), are within Kachler's corporate powers and
have been duly authorized by all necessary corporate action, excluding approval
by the Shareholders in connection with the consummation of the Merger. This
Agreement, the Articles of Merger, and the Confidentiality Agreement constitute,
or upon execution will constitute, valid and binding agreements of Kachler,
enforceable against Kachler in accordance with their respective terms, except as
such enforcement may be limited by bankruptcy, insolvency or other similar laws
affecting the enforcement of creditors' rights generally or by general
principles of equity.
(b) Each of the Shareholders, severally, represents and warrants that he
has full right, power and authority to enter into this Agreement, the Affiliates
Agreement (as hereinafter defined) to be entered into by him, and each other
agreement to be entered into by him in connection with the transactions
contemplated hereby and that this Agreement, the Affiliates Agreement, and such
other agreements contemplated hereby constitute, or upon execution will
constitute, valid and binding agreements of such Shareholder, enforceable
against him in accordance with their respective terms, except as such
enforcement may be limited by bankruptcy, insolvency or other similar laws
effecting the enforcement of creditors' rights generally or by general
principles of equity.
SECTION 3.3 GOVERNMENTAL AUTHORIZATION. The execution, delivery and
performance by Kachler, and each Shareholder of this Agreement, the execution,
delivery and performance by Kachler of the Articles of Merger and the
Confidentiality Agreement and the consummation of the Merger by Kachler require
no action by or in respect of, or filing with, any governmental body, agency,
official or authority other than:
(a) the filing of Articles of Merger in accordance with Texas and
Delaware Law;
(b) compliance with any applicable requirements of the Hart-Scott-Rodino
Antitrust Improvements Act of 1976, as amended (the "HSR Act");
(c) compliance with any applicable requirements of the Securities Act of
1993, as amended (the "Securities Act") and the rules and regulations
promulgated thereunder;
(d) compliance with any applicable foreign or state securities or "blue
sky" laws;
(e) compliance with any requirements of any federal, state, foreign or
other insurance laws, insurance agency including agent's licensing or other
related laws;
5
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(f) such other filings or registrations with, or authorizations,
consents or approvals of, governmental bodies, agencies, officials or
authorities, the failure of which to make or obtain (i) would not reasonably
be expected to have a Material Adverse Effect on Kachler or the Surviving
Corporation, or (ii) would not materially adversely affect the ability of
Kachler, HCCH or Merger Sub to consummate the transactions contemplated
hereby and operate their businesses as heretofore operated.
SECTION 3.4 NON-CONTRAVENTION. The execution, delivery and
performance by Kachler of this Agreement, the execution, delivery and
performance by Kachler of the Articles of Merger and the consummation by
Kachler of the transactions contemplated hereby and thereby do not and will
not:
(a) contravene or conflict with Kachler's Articles of Incorporation
or Bylaws;
(b) assuming compliance with the matters referred to in Section 3.3 and
assuming the requisite approval by the Shareholders of the Merger, contravene or
conflict with or constitute a violation of any provision of any law,
regulation, judgment, injunction, order or decree binding upon or applicable to
Kachler;
(c) conflict with or result in a breach or violation of, or constitute a
default under, or result in a contractual right to cause the termination or
cancellation of or loss of a material benefit under, or right to accelerate, any
material agreement, contract or other instrument binding upon Kachler or any
material license, franchise, permit or other similar authorization held by
Kachler; or
(d) result in the creation or imposition of any Lien (as hereinafter
defined) on any material asset of Kachler,
except, with respect to clauses (b), (c) and (d) above, for contraventions,
defaults, losses, Liens and other matters referred to in such clauses that in
the aggregate would not be reasonably expected to have, individually or in the
aggregate, a Material Adverse Effect on Kachler. For purposes of this
Agreement, the term "Lien" means, with respect to any asset, any mortgage, lien,
pledge, charge, security interest or encumbrance of any kind in respect of such
asset.
SECTION 3.5 CAPITALIZATION.
(a) As of December 31, 1997, the authorized, issued and outstanding
capital stock of Kachler was as follows:
The Kachler Corp.
$0.01 par value, 500,000 shares Common Stock authorized;
163,159 shares issued and outstanding
(c) All outstanding shares set forth in (a) above have been, or will be
prior to the Effective Date, duly authorized and validly issued and are fully
paid and nonassessable and free from any preemptive rights. Except as set forth
in this Agreement, Kachler has no outstanding
6
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(i) shares of capital stock or other voting securities, (ii) securities
convertible into or exchangeable for shares of its capital stock or voting
securities), (iii) options or other rights to acquire, or obligations to
issue, any capital stock, voting securities or securities convertible into or
exchangeable for its capital stock or other voting securities (the items in
clauses (i), (ii) and (iii) being referred to collectively as the "Kachler
Securities"), (iv) obligations to repurchase, redeem or otherwise acquire any
of its outstanding securities and (v) contractual rights of any person or
entity to include any such securities in any registration statement proposed
to be filed under the Securities Act.
SECTION 3.6 SUBSIDIARIES AND JOINT VENTURES.
(a) For purposes of this Agreement, (i) "Subsidiary" means, with respect
to any entity, any corporation of which securities or other ownership interests
having ordinary voting power to elect a majority of the board of directors or
other persons performing similar functions are directly or indirectly owned by
such entity, and (ii) "Joint Venture" means, with respect to any entity, any
corporation or organization (other than such entity and any Subsidiary thereof)
of which such entity or any Subsidiary thereof is, directly or indirectly, the
beneficial owner of 25% or more of any class of equity securities or equivalent
profit participation interest.
(b) As of the date hereof, Kachler has no Subsidiaries or Joint
Ventures. Kachler owns, directly or indirectly, no outstanding capital stock or
equity interest in any corporation, partnership, Joint Venture or other entity.
(c) All of the outstanding stock of Kachler owned by the Shareholders
directly or indirectly, is or will be owned, free and clear of any material Lien
and free of any other material limitation or restriction on their rights as
owner thereof (including any restriction on the right to vote, sell or otherwise
dispose of such capital stock or other ownership interests), other than those
imposed by applicable law or this Agreement or the Affiliates Agreement (defined
below). Each Shareholder represents and warrants only as to his or her
individual ownership of Kachler Common Stock for purposes of this Section.
SECTION 3.7 KACHLER FINANCIAL STATEMENTS. Kachler has delivered to
HCCH Kachler's audited balance sheet as of December 31, 1997 (the "Balance
Sheet Date"), Kachler's audited income statements for the twelve month period
ended December 31, 1997 (collectively, the "Kachler Financial Statements").
The Kachler Financial Statements present fairly in all material respects,
substantially in conformity with generally accepted accounting principles
consistently applied (except as indicated in the notes thereto), the
financial position of Kachler as of the dates thereof and results of
operations and cash flows for the periods therein indicated (subject to
normal year-end adjustments in the case of any interim financial statements
and the absence of certain footnotes in the case of unaudited financial
statements). Kachler has no material debt, liability or obligation of any
nature, whether accrued, absolute, contingent or otherwise, and whether due
or to become due, that is not reflected, reserved against or disclosed in the
Kachler Financial Statements, except for (i) those that are not required to
be reported in accordance with the aforesaid accounting principles; (ii)
normal or recurring liabilities incurred since December 31, 1997 in the
ordinary course of business or (iii) as disclosed in the Kachler Disclosure
Schedule.
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SECTION 3.8 ABSENCE OF CERTAIN CHANGES. Except as disclosed in the
Kachler Disclosure Schedule, since March 31, 1997, Kachler has in all
material respects conducted its business in the ordinary course and there has
not been:
(a) any Material Adverse Change with respect thereto or any event,
occurrence or development of a state of circumstances or facts known to
Kachler, which as of the date hereof could reasonably be expected to have a
Material Adverse Effect on Kachler;
(b) any declaration, setting aside or payment or any dividend or
other distribution in respect of any shares of capital stock of Kachler other
than the declaration, setting aside or payment of dividends or bonuses in
accordance with its existing dividend or bonus policy or practice, which
policy or practice is not inconsistent with Kachler's past policy or practice
or any declaration, setting aside or payment (collectively a "Payment") of
distributions or dividends to the Shareholders, which has been disclosed to
HCCH prior to such Payment;
(c) any repurchase, redemption or other acquisition by Kachler of any
outstanding shares of capital stock or other securities of or other ownership
interests in Kachler;
(d) any amendment of any term of any outstanding securities of Kachler;
(e) any damage, destruction or other property or casualty loss
(whether or not covered by insurance) affecting the business, assets,
liabilities, earnings or prospects of Kachler which, individually or in the
aggregate, has had or would reasonably be expected to have a Material Adverse
Effect on Kachler;
(f) any increase in indebtedness for borrowed money or capitalized
lease obligations of Kachler, except in the ordinary course of business,
consistent with past practices;
(g) any sale, assignment, transfer or other disposition of any
tangible or intangible asset material to the business of Kachler, except in
the ordinary course of business consistent with past practices, and for a
fair and adequate consideration;
(h) any amendment, termination or waiver by Kachler of any right of
substantial value under any agreement, contract or other written commitment
to which it is a party or by which it is bound;
(i) any material reduction in the amounts of coverage provided by
existing casualty and liability insurance policies with respect to the
business or properties of Kachler;
(j) any (i) grant of any severance or termination pay to any director,
officer or employee of Kachler, (ii) entering into of any employment, deferred
compensation or other similar agreement (or any amendment to any such existing
agreement) with any director, officer or employee of Kachler, (iii) any increase
in benefits payable under any existing severance or termination pay policies or
employment agreements, or (iv) any increase in compensation, bonus or other
benefits payable to directors, officers or employees of Kachler, in each case
other than in the ordinary course of business consistent with past practice;
8
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(k) any new or amendment to or alteration of any existing bonus,
incentive, compensation, severance, stock option, stock appreciation right,
pension, matching gift, profit-sharing, employee stock ownership, retirement,
pension group insurance, death benefit, or other fringe benefit plan,
arrangement or trust agreement adopted or implemented by Kachler which would
result in a material increase in cost;
(l) any capital expenditures, capital additions or capital improvements
incurred or undertaken by Kachler, except in the ordinary course of business; or
(m) the entering into of any agreement by Kachler or any person on
behalf of Kachler to take any of the foregoing actions.
SECTION 3.9 NO UNDISCLOSED LIABILITIES. There are no liabilities of
Kachler of any kind whatsoever that are, individually or in the aggregate,
material to Kachler, taken as a whole, other than:
(a) liabilities disclosed or provided for in the Kachler Financial
Statements as of and for the year ended December 31, 1997 (including the notes
thereto);
(b) liabilities of Kachler incurred in the ordinary course of business
consistent with past practice since December 31, 1997; and
(c) liabilities under this Agreement or indicated in the Kachler
Disclosure Schedule or as permitted under Section 3.7.
SECTION 3.10 LITIGATION. Except as set forth in the Kachler Disclosure
Schedule and other than actions, suits, proceedings, claims or investigation
occurring in the ordinary course of business involving respective amounts in
controversy of less than $10,000 each and $100,000 in the aggregate, there is no
action, suit, proceeding, claim or investigation pending or, to the knowledge of
Kachler, or the Shareholders, overtly threatened, against Kachler or any of its
assets or against or involving any of its officers, directors or employees in
connection with the business or affairs of Kachler, including, without
limitation, any such claims for indemnification arising under any agreement to
which Kachler is a party. Kachler is not subject, or in default with respect,
to any writ, order, judgment, injunction or decree which could, individually or
in the aggregate, have a Material Adverse Effect on Kachler.
SECTION 3.11 ACCOUNTING MATTERS. Except for all actions disclosed to and
approved by HCCH, neither Kachler, nor any of the Shareholders knowingly has
taken or agreed to take any action that (without giving effect to any action
taken or agreed to be taken by HCCH or any of its affiliates) would prevent HCCH
from accounting for the business combination to be effected by the Merger as a
pooling-of-interests.
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SECTION 3.12 TAXES.
(a) Kachler (i) has filed when due (taking into account extensions)
with the appropriate federal, state, local, foreign and other governmental
agencies, all tax returns, estimates and reports required to be filed by it,
(ii) either paid when due and payable or established adequate reserves or
otherwise, accrued on the Kachler Financial Statements, all federal, state,
local or foreign taxes, levies, imposts, duties, licenses and registration
fees and charges of any nature whatsoever, Texas franchise taxes, and
unemployment and social security taxes and payroll and income tax withholding
obligations, including interest and penalties thereon ("Taxes") and there are
no tax deficiencies claimed in writing by any Taxing authority and received
by Kachler that, in the aggregate, would result in any tax liability in
excess of the amount of the reserves or accruals and (iii) has or will
establish in accordance with its normal accounting practices and procedures
accruals and reserves that, in the aggregate, are adequate for the payment of
all Taxes not yet due and payable and attributable to any period preceding
the Effective Time. The Kachler Disclosure Schedule sets forth those tax
returns for all periods that currently are the subject of audit by any
federal, state, local or foreign taxing authority.
(b) There are no Taxes, interest, penalties, assessments or deficiencies
claimed in writing by any Taxing authority and received by Kachler to be due in
respect of any tax returns filed by Kachler (or any predecessor corporations).
Neither Kachler nor any predecessor corporation, has executed or filed with the
IRS or any other Taxing authority any agreement or other document extending, or
having the effect of extending, the period of assessment or collection of any
Taxes.
(c) Kachler is not a party to or bound by (or will prior to the
Effective Date become a party to or bound by) any Tax indemnity, Tax sharing or
Tax allocation agreement or other similar arrangement. Kachler has not been a
member of an affiliated group or filed or been included in a combined,
consolidated or unitary Tax return.
SECTION 3.13 EMPLOYEE BENEFIT PLANS, ERISA.
(a) Kachler is not a party to any oral or written (i) employment,
severance, collective bargaining or consulting agreement not terminable on 60
days' or less notice, (ii) agreement with any executive officer or other key
employee of Kachler (A) the benefits of which are contingent, or the terms of
which are materially altered, upon the occurrence of a transaction involving
Kachler of the nature of any of the transactions contemplated by this Agreement,
(B) providing any term of employment or compensation guarantee extending for a
period longer than one year, or (C) providing severance benefits or other
benefits after the termination of employment of such executive officer or key
employee regardless of the reason for such termination of employment,
(iii) agreement, plan or arrangement under which any person may receive payments
subject to the tax imposed by Section 4999 of the Code, or (iv) agreement or
plan, including, without limitation, any stock option plan, stock appreciation
right plan, restricted stock plan or stock purchase plan, the benefits of which
would be increased, or the vesting of benefits of which will be accelerated, by
the occurrence of any of the transactions contemplated by this Agreement or the
value of any of the benefits of which will be calculated on the basis of any of
the transactions contemplated by this Agreement.
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(b) Neither Kachler, nor any corporation or other entity which under
Section 4001(b) of the Employee Retirement Income Security Act of 1974, as
amended ("ERISA"), is under common control with Kachler (a "Kachler ERISA
Affiliate") maintains or within the past five years has maintained, contributed
to, or been obligated to contribute to, any "Employee Pension Benefit Plan"
("Pension Plan") or any "Employee Welfare Benefit Plan" ("Welfare Plan") as such
terms are defined in Sections 3(2) and 3(1) respectively of ERISA, which is
subject to ERISA, except as described in the Kachler Disclosure Schedule. Each
Pension Plan and Welfare Plan disclosed in the Kachler Disclosure Schedule
(which Plans have been heretofore delivered to HCCH) and maintained by Kachler
has been maintained in all material respects in compliance with their terms and
all provisions of ERISA and the Code (including rules and regulations
thereunder) applicable thereto.
(c) No Pension Plan or Welfare Plan is currently subject to an audit or
other investigation by the Internal Revenue Service ("IRS"), the Department of
Labor, the Pension Benefit Guaranty Corporation or any other governmental agency
or office nor are any such Plans subject to any lawsuits or legal proceedings of
any kind or to any material pending disputed claims by employees or
beneficiaries covered under any such Plan or by any other parties.
(d) No "prohibited transaction," as defined in Section 406 of ERISA or
Section 4975 of the Code, resulting in liability to Kachler or any Kachler ERISA
Affiliate has occurred with respect to any Pension Plan or Welfare Plan. Each
of Kachler or any Shareholder has no knowledge of any breach of fiduciary
responsibility under Part 4 of Title I of ERISA which has resulted in liability
of Kachler, and any Kachler ERISA Affiliate, any trustee, administrator or
fiduciary of any Pension Plan or Welfare Plan.
(e) Neither Kachler, nor any Kachler ERISA Affiliate, since January 1,
1986, has maintained or contributed to, or been obligated or required to
contribute to, a "Multiemployer Plan," as such term is defined in
Section 4001(a)(3) of ERISA. Neither Kachler, nor any Kachler ERISA Affiliate
has either withdrawn, partially or completely, or instituted steps to withdraw,
partially or completely, from any Multiemployer Plan nor has any event occurred
which would enable a Multiemployer Plan to give notice of and demand payment of
any withdrawal liability with respect to Kachler, or any Kachler ERISA
Affiliate.
(f) There is no contract, agreement, plan or arrangement covering any
employee or former employee of Kachler or any Kachler ERISA Affiliate that,
individually or collectively, could give rise to the payment of any amount that
would not be deductible pursuant to the terms of Sections 162(a)(1) or 280G of
the Code, or that would give rise to any benefits after termination.
(g) With respect to Kachler, and each Kachler ERISA Affiliate, the
Kachler Disclosure Schedule correctly identifies each material agreement,
policy, plan or other arrangement, whether written or oral, express or implied,
fixed or contingent, to which Kachler is a party or by which Kachler or any
property or asset of Kachler is bound, which is or relates to a pension, option,
bonus, deferred compensation, retirement, stock purchase, profit-sharing,
severance pay, health, welfare, incentive, vacation, sick leave, medical
disability, hospitalization, life or other insurance or fringe benefit plan,
policy or arrangement. Each such agreement, policy, plan or other
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arrangement has been maintained in all material respects in compliance with
its terms and all provisions of ERISA and the Code (including rules and
regulations thereunder) applicable thereto.
(h) Neither Kachler nor any Kachler ERISA Affiliate maintains or has
maintained or contributed to any Pension Plan that is or was subject to
Section 302 of Title IV of ERISA or Section 412 of the Code. Kachler has
made available to HCCH, for each Pension Plan which is intended to be
"qualified" within the meaning of Section 401(a) of the Code, a copy of the
most recent determination letter issued by the IRS to the effect that each
such Plan is so qualified and that each trust created thereunder is tax
exempt under Section 501 of the Code, and Kachler is unaware of any fact or
circumstances that would jeopardize the qualified status of each such Pension
Plan or the tax exempt status of each trust created thereunder.
(i) Kachler does not provide retiree benefits of any kind, including
health, medical, life, etc. and Kachler has not agreed to continue any
employee benefits after termination of employment other than under the
Consolidated Omnibus Budget Reconciliation Act of 1985, as amended ("COBRA"),
if applicable.
(j) Neither Kachler nor any Kachler ERISA Affiliate has sponsored or
maintained the New York Life's Agent Pension Plan, the New York Life's
Progress Sharing Retirement Plan (401(k)), the NYLARC Agents Reinsurance
Stock or the New York Life's Deferred 1st Year Commission Plan or any other
arrangement or plan maintained or sponsored by New York Life Insurance
Company or its affiliates. No Pension Plan maintained or sponsored by Kachler
or any Kachler Affiliate has received funds from any such arrangement of New
York Life Insurance Company or its affiliates in a rollover, trust-to-trust
transfer or any other transfer or deposit.
SECTION 3.14 MATERIAL AGREEMENTS.
(a) The Kachler Disclosure Schedule includes a complete and accurate
list of all contracts, agreements, leases (other than Kachler Property
Leases, as hereinafter defined), and instruments to which Kachler is a party
or by which it or its properties or assets are bound which individually
involve net payments or receipts in excess of $25,000 per annum, inclusive of
contracts entered into with customers and suppliers in the ordinary course of
business, or that pertain to employment or severance benefits for any
officer, director or employee of Kachler, whether written or oral, but
exclusive of contracts, agreements, leases and instruments terminable without
penalty upon 60 days' or less prior written notice to the other party or
parties thereto (the "Material Kachler Agreements").
(b) Neither Kachler nor to its knowledge, any other party is in
default under any Material Kachler Agreement and no event has occurred which
(after notice or lapse of time or both) would become a breach or default
under, or would permit modification, cancellation, acceleration or
termination of, any Material Kachler Agreement or result in the creation of
any security interest upon, or any person obtaining any right to acquire, any
properties, assets or rights of Kachler, which, in any such case, has had or
would reasonably be expected to have a Material Adverse Effect.
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(c) To the knowledge of Kachler, each such Material Kachler Agreement is
in full force and effect and is valid and legally binding and there are no
material unresolved disputes involving or with respect to any Material Kachler
Agreement. No party to a Material Kachler Agreement has advised Kachler that it
intends either to terminate a Material Kachler Agreement or to refuse to renew a
Material Kachler Agreement upon the expiration of the term thereof.
(d) Kachler is not in violation of, or in default with respect to, any
term of its Articles or Certificate of Incorporation, as the case may be, or
Bylaws.
SECTION 3.15 PROPERTIES. To the knowledge of Kachler, it owns no real
estate, and all leases of real property to which Kachler is a party or by
which it is bound ("Kachler Property Leases") are in full force and effect.
To the knowledge of Kachler there exists no default under such Kachler
Property Leases, nor any event which with notice or lapse of time or both
would constitute a default thereunder, which default would have a Material
Adverse Effect. All of the properties and assets, both real and personal,
(collectively "Properties") which are owned by Kachler are owned free and
clear of any Lien, except for Liens which do not have a Material Adverse
Effect. Kachler has good and indefeasible title with respect to such
Properties subject to no Liens, other than those permitted under this Section
3.15, to all of the Properties necessary for the conduct of its business other
than to the extent that the failure to have such title would not have a
Material Adverse Effect.
SECTION 3.16 ENVIRONMENTAL MATTERS.
(a) For the purposes of this Agreement, the following terms have the
following meanings:
"Environmental Laws" shall mean any and all federal, state, local
and foreign statutes, laws (including case law), regulations, ordinances,
rules, judgments, orders, decrees, codes, plans, injunctions, permits,
concessions, grants, franchises, licenses, agreements and governmental
restrictions relating to human health, the environment or to emissions,
discharges or releases of pollutants, contaminants, Hazardous Substances
(as hereinafter defined) or wastes into the environment or otherwise
relating to the manufacture, processing, distribution, use, treatment,
storage, disposal, transport or handling of pollutants, contaminants,
Hazardous Substances or wastes or the clean-up or other remediation
thereof.
"Environmental Liabilities" shall mean all liabilities, whether
vested or unvested, contingent or fixed, actual or potential, which
(i) arise under or relate to Environmental Laws and (ii) relate to actions
occurring or conditions existing on or prior to the Effective Time.
"Hazardous Substances" shall mean any toxic, radioactive, caustic or
otherwise hazardous substance, including petroleum, its derivatives,
by-products and other hydrocarbons, or any substance having any constituent
elements displaying any of the foregoing characteristics.
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"Regulated Activity" shall mean any generation, treatment, storage,
recycling, transportation, disposal or release of any Hazardous Substances.
(b) No notice, notification, demand, request for information, citation,
summons, complaint or order has been received, no complaint has been filed, no
penalty has been assessed and no investigation or review is pending, or to any
such party's knowledge, has been threatened by any governmental entity or other
party with respect to any (i) alleged violation of any Environmental Law,
(ii) alleged failure to have any environmental permit, certificate, license,
approval, registration or authorization required in connection with the conduct
of its business or (iii) Regulated Activity.
(c) Kachler has no material Environmental Liabilities and there has been
no release of Hazardous Substances into the environment by Kachler or with
respect to any of their respective properties which has had, or would reasonably
be expected to have, a Material Adverse Effect.
SECTION 3.17 LABOR MATTERS. Kachler is not a party to any collective
bargaining agreement or other labor union contract applicable to persons
employed by Kachler, nor does it know of any activities or proceedings of any
labor union to organize any such employees.
SECTION 3.18 COMPLIANCE WITH LAWS. Except for violations which do not
have and would not reasonably be expected to have, individually or in the
aggregate, a Material Adverse Effect, Kachler is not in violation of, or has
violated, any applicable provisions of any laws, statutes, ordinances or
regulations or any term of any judgment, decree, injunction or order binding
against it.
SECTION 3.19 TRADEMARKS, TRADENAMES, ETC. Kachler owns or possesses, or
hold a valid right or license to use, all intellectual property, patents,
trademarks, tradenames, servicemarks, copyrights and licenses, and all rights
with respect to the foregoing, necessary for the conduct of its business as now
conducted, without any known conflict with the rights of others.
SECTION 3.20 SALE OF KACHLER. Except as contemplated by this Agreement,
there are currently no discussions to which Kachler, LMK or any Shareholder is a
party relating to (a) the sale of any material portion of its assets or (b) any
merger, consolidation, sale of any Kachler Stock, liquidation, dissolution or
similar transaction involving Kachler whereby Kachler will issue any securities
or for which it is required to obtain the approval sale of any Kachler Stock.
SECTION 3.21 BROKER'S FEES. Neither Kachler nor any Shareholder nor
anyone acting on the behalf or at the request thereof has any liability to any
broker, finder, investment banker or agent, or has agreed to pay any brokerage
fees, finder's fees or commissions, or to reimburse any expenses of any broker,
finder, investment banker or agent in connection with the Merger.
SECTION 3.22 INVESTMENT REPRESENTATION. The shares of HCCH Common Stock
to be acquired by the Shareholders pursuant to the Merger will be acquired
solely for the account of each of such Shareholders, for investment purposes
only and not with a view to the distribution thereof. The Shareholders are not
participating, directly or indirectly, in any distribution or
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transfer of such HCCH Common Stock, nor are they participating, directly or
indirectly, in underwriting any such distribution of HCCH Common Stock within
the meaning of the Securities Act. Each Shareholder has such knowledge and
experience in business matters that he is capable of evaluating the merits
and risks of an investment in HCCH and the acquisition of the shares of HCCH
Common Stock, and he is making an informed investment decision with respect
thereto. The Shareholders have been informed by HCCH that the shares of HCCH
Common Stock to be issued pursuant to this Agreement and the documents to be
executed in connection herewith will not be registered under the Securities
Act at the time of their issuance and may not be transferred, assigned or
otherwise disposed of absent registration under the Securities Act or
availability of an appropriate exemption therefrom. The Shareholders have
further been informed that HCCH will be under no obligation to register the
shares of HCCH Common Stock under the Securities Act.
SECTION 3.23 TOTAL ASSETS. The total assets of LMK are not greater
than $10 million as determined in accordance with 16 C.F.R. Section 801.11.
SECTION 3.24 YEAR 2000 ISSUES. Any software of Kachler will perform in
all material respects in accordance with published technical specifications
and any applicable related documentation, both prior to and following,
January 1, 2000. Kachler will not experience software ending and/or invalid
and/or incorrect results from any such software in the operation of its
business based upon changing dates. The software program in design and
performance capabilities of such software to ensure year 2000 capability
includes, but is not limited to, date, data century recognition, calculations
which accommodate same century and multi-century formulas and date values,
and date data interface values which reflect the correct century.
SECTION 3.25 ASSIGNMENT OF COMMISSIONS. Each Shareholder represents
and warrants that all commissions, fees or other amounts due for business
which each such Shareholder has written as an employee or agent of Kachler or
New Kachler, as herein defined, and LMK represents and warrants that any
other commissions, fees or other amounts attributable to persons other than
Shareholders who are agents or employees of Kachler or New Kachler, has been
irrevocably assigned by such Shareholder or person to Kachler or New Kachler.
SECTION 3.26 KNOWLEDGE OF KACHLER. As used in this Agreement
"knowledge" of Kachler means the actual knowledge of any Shareholder.
ARTICLE IV
REPRESENTATIONS AND WARRANTIES OF HCCH
Except as disclosed in a document referring specifically to this
Agreement or in a document, exhibit, or appendix filed with the Securities
and Exchange Commission ("SEC") which has been filed on or before the date
hereof, (collectively referred to herein as the "HCCH Disclosure Schedule")
which has been delivered or made available to Kachler on or before the date
hereof, each of HCCH and Merger Sub represents and warrants to Kachler and
the Shareholders as set forth below.
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SECTION 4.1 CORPORATE EXISTENCE AND POWER. HCCH is a corporation duly
incorporated, validly existing and in good standing under the laws of the state
of Delaware. Merger Sub is a corporation duly incorporated, validly existing
and in good standing under the laws of the State of Delaware. HCCH and Merger
Sub have all corporate powers and all material Governmental Authorizations
required to carry on its business as now conducted, except such Governmental
Authorizations the failure of which to have obtained would not have a Material
Adverse Effect on HCCH. HCCH has delivered to Kachler true and complete copies
of HCCH's Certificate of Incorporation and Bylaws and Merger Sub's Certificate
of Incorporation and Bylaws, each as currently in effect. Each of HCCH and
Merger Sub is duly qualified to do business as a foreign corporation and is in
good standing in each jurisdiction where the character of the property owned or
leased by it or the nature of its activities makes such qualification necessary,
except where the failure to be so qualified would not have a Material Adverse
Effect on HCCH.
SECTION 4.2 CORPORATE AUTHORIZATION. The execution, delivery and
performance by HCCH and Merger Sub of this Agreement, the Articles of Merger and
the Confidentiality Agreement and the consummation by HCCH and Merger Sub of the
transactions contemplated hereby and thereby are within the corporate powers of
HCCH and Merger Sub and have been duly authorized by all necessary corporate
action. This Agreement, the Articles of Merger and the Confidentiality
Agreement constitute, or upon execution will constitute, valid and binding
agreements of HCCH and Merger Sub, respectively, enforceable in each case
against each in accordance with their respective terms, except as such
enforcement may be limited by bankruptcy, insolvency or other similar laws
affecting the enforcement of creditors' rights generally or by general
principles of equity.
SECTION 4.3 GOVERNMENTAL AUTHORIZATION. The execution, delivery and
performance by HCCH and Merger Sub of this Agreement, the Articles of Merger and
the Confidentiality Agreement and the consummation of the Merger by HCCH and
Merger Sub, require no action by or in respect of, or filing with, any
governmental body, agency, official or authority other than:
(a) the filing of the Articles of Merger in accordance with Texas and
Delaware Law;
(b) compliance with any applicable requirements of the HSR Act;
(c) compliance with any applicable requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act") and the rules and
regulations promulgated thereunder;
(d) compliance with any applicable requirements of the Securities Act
and the rules and regulations promulgated thereunder;
(e) compliance with any applicable foreign or state securities or "blue
sky" laws and the rules and regulations of the NYSE;
(f) compliance with the requirements of applicable insurance regulatory
agencies, if any, having authority over HCCH; and
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(g) registration of Merger Sub as an insurance agency under the laws of
the state of Illinois;
(h) such other filings or registrations with, or authorizations,
consents or approvals of, governmental bodies, agencies, officials or
authorities, the failure of which to make or obtain (i) would not reasonably be
expected to have a Material Adverse Effect on HCCH or (ii) would not materially
adversely affect the ability of Kachler, HCCH or Merger Sub to consummate the
transactions contemplated hereby and operate their businesses as heretofore
operated.
SECTION 4.4 NON-CONTRAVENTION. The execution, delivery and performance
by HCCH and Merger Sub of this Agreement and the Articles of Merger and the
consummation by HCCH and Merger Sub of the transactions contemplated hereby and
thereby do not and will not:
(a) contravene or conflict with the Articles or Certificate of
Incorporation, as the case may be, or Bylaws of HCCH or Merger Sub;
(b) assuming compliance with the matters referred to in Section 4.3,
contravene or conflict with or constitute a violation of any provision of any
law, regulation, judgment, injunction, order or decree binding upon or
applicable to HCCH or Merger Sub;
(c) conflict with or result in a breach or violation of, or constitute a
default under, or result in a contractual right to cause the termination or
cancellation of or loss of a material benefit under, or right to accelerate, any
material agreement, contract or other instrument binding upon HCCH or Merger Sub
or any material license, franchise, permit or other similar authorization held
by HCCH or Merger Sub; or
(d) result in the creation or imposition of any Lien on any material
asset of HCCH or Merger Sub;
except, with respect to clauses (b), (c) and (d) above, for contraventions,
defaults, losses, Liens and other matters referred to in such clauses that in
the aggregate would not be reasonably expected to have, individually or in the
aggregate, a Material Adverse Effect on HCCH.
SECTION 4.5 CAPITALIZATION OF HCCH.
(a) The authorized capital stock of HCCH consists of 100,000,000 shares
of HCCH Common Stock. As of December 31, 1997, there were 46,117,454 shares of
HCCH Common Stock issued and outstanding. All outstanding shares of HCCH Common
Stock have been duly authorized and validly issued and are fully paid and
nonassessable and free from any preemptive rights. Except as set forth in this
Section and as otherwise contemplated by this Agreement and except as disclosed
in public filings made by HCCH with the SEC prior to the Closing Date, and
except for changes since December 31, 1997 resulting from the exercise of
employee and director stock options or such other changes resulting from any
other proposed or consummated merger or acquisition where HCCH shall survive,
there are outstanding (i) no shares of capital stock or other voting securities
of HCCH, (ii) no securities of HCCH convertible into or exchangeable for shares
of capital stock or voting securities of HCCH and (iii) no options or other
rights to acquire
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from HCCH, and no obligation of HCCH to issue, any capital stock, voting
securities or securities convertible into or exchangeable for capital stock
or other voting securities of HCCH (the items in clauses (i), (ii) and (iii)
being referred to collectively as the "HCCH Securities"). There are no
outstanding obligations of HCCH to repurchase, redeem or otherwise acquire
any HCCH Securities.
(b) All shares of HCCH Common Stock issued in the Merger shall, upon
issuance, be fully paid, validly issued and nonassessable. HCCH has sufficient
authorized and unissued shares of HCCH Common Stock for issuance pursuant to the
Merger.
SECTION 4.6 ORGANIZATION OF MERGER SUB. The authorized capital stock of
Merger Sub consists of 1,000 shares of common stock, par value $1.00 per share,
all of which are issued and outstanding. All the issued and outstanding capital
stock of Merger Sub is owned by HCCH. Merger Sub has not conducted any business
prior to the date hereof and has no assets, liabilities or obligations of any
nature other than those incident to its formation and pursuant to this
Agreement.
SECTION 4.7 SEC FILINGS.
(a) HCCH has since October 28, 1992 filed all forms, proxy statements,
schedules, reports and other documents required to be filed by it with the SEC
pursuant to the Exchange Act.
(b) HCCH has made available to Kachler and to all Shareholders:
(i) its annual reports on Form 10-K for its fiscal years ended
December 31, 1996, 1995 and 1994;
(ii) its quarterly report on Form 10-Q for its fiscal quarters
ending March 31, June 30, and September 30, 1997;
(iii) any current reports on Form 8-K since January 1, 1997 and its
proxy or information statements relating to meetings of, or actions taken
without a meeting by, the shareholders of HCCH held since January 1, 1997;
and
(iv) all of its other reports, statements, schedules and
registration statements filed with the SEC since December 31, 1996.
(c) As of its filing date, no such report or statement filed pursuant to
the Exchange Act contained any untrue statement of a material fact or omitted to
state any material fact necessary in order to make the statements made therein,
in the light of the circumstances under which they were made, not misleading.
(d) No registration statement filed pursuant to the Securities Act, if
declared effective by the SEC, as of the date such statement or amendment became
effective, contained any untrue
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statement of a material fact or omitted to state any material fact required
to be stated therein or necessary to make the statements therein not
misleading.
SECTION 4.8 FINANCIAL STATEMENTS. The audited consolidated financial
statements of HCCH included in its annual reports on Form 10-K and the unaudited
financial statements of HCCH included in its quarterly reports on Form 10-Q
referred to in Section 4.7 present fairly, in conformity with generally accepted
accounting principles applied on a consistent basis (except as may be indicated
in the notes thereto), the consolidated financial position of HCCH and its
consolidated subsidiaries as of the dates thereof and their consolidated results
of operations and cash flows for the periods then ended (subject to normal
year-end adjustments and failure to include footnote disclosures in the case of
any interim financial statements). For purposes of this Agreement, "HCCH
Balance Sheet" means the consolidated balance sheet of HCCH as of September 30,
1997, and the notes thereto, contained in HCCH's quarterly report on Form 10-Q
filed for its fiscal quarter then ended, and "HCCH Balance Sheet Date" means
September 30, 1997.
SECTION 4.9 ABSENCE OF CERTAIN CHANGES. Except as disclosed in the HCCH
Disclosure Schedule, since the HCCH Balance Sheet Date, HCCH has in all material
respects conducted its business in the ordinary course and there has not been:
(a) any Material Adverse Change with respect to HCCH or any event,
occurrence or development of a state of circumstances or facts known to HCCH,
which as of the date hereof could reasonably be expected to have a Material
Adverse Effect on HCCH;
(b) any amendment of any material term of any outstanding HCCH
Securities;
(c) any action by HCCH or, to HCCH's knowledge, any affiliate of HCCH
which would preclude the ability of HCCH to account for the business combination
to be effected by the Merger as a "pooling of interests" under generally
accepted accounting principles; or
(d) the entering into of any agreement by HCCH or any person on behalf
of HCCH to take any of the foregoing actions.
SECTION 4.10 NO UNDISCLOSED LIABILITIES. There are no liabilities of HCCH
of any kind whatsoever that are, individually or in the aggregate, material to
HCCH, other than:
(a) liabilities disclosed or provided for in the HCCH Balance Sheet
(including the notes thereto);
(b) liabilities incurred in the ordinary course of business consistent
with past practice since the HCCH Balance Sheet Date; and
(c) liabilities under this Agreement or as indicated in the HCCH
Disclosure Schedule.
SECTION 4.11 LITIGATION. Other than actions, suits, proceedings, claims
or investigations occurring in the ordinary course of business or such actions,
suits, proceedings, claims or
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investigations involving respective amounts in controversy of less than
$10,000,000 each, there is no action, suit, proceeding, claim or
investigation pending or, to the knowledge of HCCH, overtly threatened,
against HCCH or any of its assets or against or involving any of its
officers, directors or employees in connection with the business or affairs
of HCCH, including, without limitation, any such claims for indemnification
arising under any agreement to which HCCH is a party, which could,
individually or in the aggregate, have a Material Adverse Effect on HCCH.
HCCH is not subject to or in default with respect to any writ, order,
judgment, injunction or decree which could, individually or in the aggregate,
have a Material Adverse Effect on HCCH.
SECTION 4.12 TAXES.
(a) HCCH (i) has filed when due (taking into account extensions) with
the appropriate federal, state, local, foreign and other governmental agencies,
all material tax returns, estimates and reports required to be filed by it,
(ii) either paid when due and payable or established adequate reserves or
otherwise accrued on the HCCH Balance Sheet all material Taxes, and there are no
tax deficiencies claimed in writing by any Taxing authority and received by HCCH
that, in the aggregate, would result in any tax liability in excess of the
amount of the reserves or accruals, and (iii) has or will establish in
accordance with its normal accounting practices and procedures accruals and
reserves that, in the aggregate, are adequate for the payment of all Taxes not
yet due and payable and attributable to any period preceding the Effective Time.
The HCCH Disclosure Schedule sets forth those tax returns of HCCH (or any
predecessor entities) for all periods that currently are the subject of audit by
any federal, state, local or foreign taxing authority.
(b) There are no material Taxes, interest, penalties, assessments or
deficiencies claimed in writing by any taxing authority and received by HCCH to
be due in respect of any tax returns filed by HCCH (or any predecessor
corporations). Neither HCCH nor any predecessor corporation, has executed or
filed with the IRS or any other Taxing authority any agreement or other document
extending, or having the effect of extending, the period of assessment or
collection of any Taxes.
(c) HCCH is not a party to or bound by (or will prior to the Effective
Date become a party to or bound by) any Tax indemnity, Tax sharing or Tax
allocation agreement or other similar arrangement which includes a party other
than HCCH and its Subsidiaries. HCCH has not been a member of an affiliated
group other than one of which HCCH was the parent, or filed or been included in
a combined, consolidated or unitary Tax return other than one filed by HCCH (or
a return for a group consisting solely of its Subsidiaries and predecessors).
SECTION 4.13 EMPLOYEE BENEFIT PLANS; ERISA.
(a) Except as otherwise disclosed neither HCCH nor any corporation or
other entity which under Section 4001(b) of ERISA is under common control with
HCCH (an "HCCH ERISA Affiliate") maintains or within the past five years has
maintained, contributed to, or been obligated to contribute to, any Pension Plan
or any Welfare Plan which is subject to ERISA. Each Pension Plan and Welfare
Plan disclosed in the HCCH Disclosure Schedule and maintained
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by HCCH has been maintained in all material respects in compliance with their
terms and all provisions of ERISA and the Code (including rules and
regulations thereunder) applicable thereto.
(b) Except as otherwise disclosed neither HCCH nor any HCCH ERISA
Affiliate maintains or has maintained or contributed to any Pension Plan that is
or was subject to Section 302 or Title IV of ERISA or Section 412 of the Code.
HCCH has made available to Kachler and the Affiliated Companies, for each
Pension Plan which is intended to be "qualified" within the meaning of
Section 401(a) of the Code, a copy of the most recent determination letter
issued by the IRS to the effect that each such Plan is so qualified and that
each trust created thereunder is tax exempt under Section 501 of the Code, and
HCCH is unaware of any fact or circumstances that would jeopardize the qualified
status of each such Pension Plan or the tax exempt status of each trust created
thereunder.
(c) To the knowledge of HCCH, no Pension Plan or Welfare Plan is
currently subject to an audit or other investigation by the IRS, the Department
of Labor, the Pension Benefit Guaranty Corporation or any other governmental
agency or office nor are any such Plans subject to any lawsuits or legal
proceedings of any kind or to any material pending disputed claims by employees
or beneficiaries covered under any such Plan or by any other parties.
(d) No "prohibited transaction," as defined in Section 406 of ERISA or
Section 4975 of the Code, resulting in liability to HCCH or any HCCH ERISA
Affiliate has occurred with respect to any Pension Plan or Welfare Plan. HCCH
has no knowledge of any breach of fiduciary responsibility under Part 4 of
Title I of ERISA which has resulted in liability of HCCH, any HCCH ERISA
Affiliate, any trustee, administrator or fiduciary of any Pension Plan or
Welfare Plan.
(e) Neither HCCH nor any HCCH ERISA Affiliate, since January 1, 1986,
has maintained or contributed to, or been obligated or required to contribute
to, a "Multiemployer Plan," as such term is defined in Section 4001(a)(3) of
ERISA. Neither HCCH nor any HCCH ERISA Affiliate has either withdrawn,
partially or completely, or instituted steps to withdraw, partially or
completely, from any Multiemployer Plan nor has any event occurred which would
enable a Multiemployer Plan to give notice of and demand payment of any
withdrawal liability with respect to HCCH or any HCCH ERISA Affiliate.
(f) With respect to HCCH and each HCCH ERISA Affiliate, the HCCH
Disclosure Schedule correctly identifies each material agreement, policy, plan
or other arrangement, whether written or oral, express or implied, fixed or
contingent, to which HCCH is a party or by which HCCH or any property or asset
of HCCH is bound, which is or relates to a pension, option, bonus, deferred
compensation, retirement, stock purchase, profit-sharing, severance pay, health,
welfare, incentive, vacation, sick leave, medical disability, hospitalization,
life or other insurance or fringe benefit plan, policy or arrangement.
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SECTION 4.14 MATERIAL AGREEMENTS.
(a) The HCCH Disclosure Schedule includes a complete and accurate list
of all contracts, agreements, leases (other than HCCH Property Leases, as
hereinafter defined) and instruments to which HCCH is a party or by which it or
its properties or assets are bound which individually involve net payments or
receipts in excess of $15,000,000 per annum, inclusive of contracts that pertain
to employment or severance benefits for any officer, director or employee of
HCCH, whether written or oral, but exclusive of contracts entered into with
customers and suppliers in the ordinary course of business or contracts,
agreements, leases and instruments terminable without penalty by HCCH upon 60
days or less prior written notice to the other party or parties thereto (the
"Material HCCH Agreements").
(b) Neither HCCH, nor, to the knowledge of HCCH, any other party is in
default under any Material HCCH Agreement and no event has occurred which (after
notice or lapse of time or both) would become a breach or default under, or
would permit modification, cancellation, acceleration or termination of any
Material HCCH Agreement or result in the creation of any security interest upon,
or any person obtaining any right to acquire, any properties, assets or rights
of HCCH which, in any such case, has had or would reasonably be expected to have
a Material Adverse Effect on HCCH.
(c) To the knowledge of HCCH, each such Material HCCH Agreement is in
full force and effect and is valid and legally binding and there are no material
unresolved disputes involving or with respect to any Material HCCH Agreement.
No party to a Material HCCH Agreement has advised HCCH that it intends either to
terminate a Material HCCH Agreement or to refuse to renew a Material HCCH
Agreement upon the expiration of the term thereof.
(d) Each of HCCH and Merger Sub, is not in violation of, or in default
with respect to, any term of its Articles or Certificate of Incorporation or
Bylaws.
SECTION 4.15 PROPERTIES. To the knowledge of HCCH, all leases of real
property to which HCCH is a party or by which it is bound ("HCCH Property
Leases") which are material to the business of HCCH are in full force and
effect. To the knowledge of HCCH, there exists no default under such HCCH
Property Leases, nor any event which with notice or lapse of time or both would
constitute a default thereunder by HCCH, which default would have a Material
Adverse Effect on HCCH. All of the properties and assets which are owned by
HCCH are owned free and clear of any Lien, except for Liens which do not have a
Material Adverse Effect on HCCH or which have been disclosed in the HCCH
Disclosure Schedule. HCCH has good and indefeasible title with respect to such
owned properties and assets subject to no Liens, other than those permitted
under this Section 4.15, to all of the properties and assets necessary for the
conduct of their business other than to the extent that the failure to have such
title would not have a Material Adverse Effect on HCCH.
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SECTION 4.16 ENVIRONMENTAL MATTERS.
(a) To the knowledge of HCCH, no notice, notification, demand, request
for information, citation, summons, complaint or order has been received, no
complaint has been filed, no penalty has been assessed and no investigation or
review is pending, or to HCCH's knowledge, has been threatened by any
governmental entity or other party with respect to any (i) alleged violation by
HCCH or any of its Subsidiaries of any Environmental Law, (ii) alleged failure
by HCCH or any such Subsidiary to have any environmental permit, certificate,
license, approval, registration or authorization required in connection with the
conduct of its business or (iii) Regulated Activity.
(b) To the knowledge of HCCH, HCCH has no material Environmental
Liabilities and there has been no release of Hazardous Substances into the
environment by HCCH or with respect to any of its properties which has had, or
would be reasonably expected to have, a Material Adverse Effect on HCCH.
SECTION 4.17 LABOR MATTERS. HCCH is not a party to any collective
bargaining agreement or other labor union contract applicable to persons
employed by HCCH, nor do the executive officers of HCCH know of any activities
or proceedings of any labor union to organize any such employees.
SECTION 4.18 COMPLIANCE WITH LAWS. Except for violations which do not
have and would not reasonably be expected to have, individually or in the
aggregate, a Material Adverse Effect on HCCH, HCCH is not in violation of, or
has violated, any applicable provisions of any laws, statutes, ordinances or
regulations or any term of any judgment, decree, injunction or order binding
against it.
SECTION 4.19 TRADEMARKS, TRADENAMES, ETC. HCCH owns or possesses, or
holds a valid right or license to use, all intellectual property, patents,
trademarks, tradenames, servicemarks, copyrights and licenses, and all rights
with respect to the foregoing, necessary for the conduct of its business as now
conducted, without any known conflict with the rights of others.
SECTION 4.20 BROKER'S FEES. Neither HCCH nor Merger Sub, nor anyone
acting on the behalf or at the request thereof has any liability to any broker,
finder, investment banker or agent, or has agreed to pay any brokerage fees,
finder's fees or commissions, or to reimburse any expenses of any broker,
finder, investment banker or agent in connection with the Merger.
SECTION 4.21 KNOWLEDGE OF HCCH AND MERGER SUB. As used in this
Agreement, "knowledge" of either HCCH or Merger Sub means the actual knowledge
of the Chief Executive Officer, President, Chief Operating Officer, Chief
Financial Officer, or any Executive Vice President of HCCH or Merger Sub,
respectively.
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ARTICLE V
COVENANTS OF KACHLER, ETC.
From the date hereof until the occurrence of the earlier of (i) the
Effective Time or (ii) termination of this Agreement pursuant to Section 10.1
hereof, (a) Kachler agrees, except as otherwise permitted with the written
consent of HCCH, which consent shall not be unreasonably withheld, (b) with
respect to Sections 5.1(i), 5.1(k) and 5.8, each Shareholder agrees and (c) with
respect to Sections 5.4 and 5.10, LMK agrees that:
SECTION 5.1 CONDUCT OF KACHLER. Kachler shall in all material respects
conduct its business in the ordinary course. Without limiting the generality of
the foregoing, from the date hereof until the Effective Time, except as
contemplated by this Agreement:
(a) Kachler will not adopt or propose any change in its Articles of
Incorporation or Bylaws;
(b) Kachler will not enter into or amend any employment agreements (oral
or written) or increase the compensation payable or to become payable by it to
any of its officers, directors, or consultants over the amount payable as of
December 31, 1997, or increase the compensation payable to any other employees
(other than (i) increases in the ordinary course of business which are not in
the aggregate material to Kachler, or (ii) pursuant to plans disclosed in
Kachler Disclosure Schedule), or adopt or amend any employee benefit plan or
arrangement (oral or written) or adopt or amend any employee benefit plan or
arrangement (oral or written), except that Kachler agrees to terminate the
Kachler Corporation 401(k) Plan ("Kachler Plan") by appropriate action of its
Board of Directors prior to the Closing Date (although the parties understand
that liquidation of the Kachler Plan and a determination letter filing with the
IRS will occur after the Closing Date);
(c) Kachler will not issue any Kachler Securities;
(d) Kachler will keep in full force and effect any existing directors'
and officers' liability insurance and will not modify or reduce the coverage
thereunder;
(e) Other than the payment of dividends in accordance with its existing
dividend policy or practice, which policy or practice is consistent with past
policy or practice and as consented to by HCCH, Kachler will not pay any
dividend or make any other distribution to holders of its capital stock nor
redeem or otherwise acquire any Kachler Securities;
(f) Kachler will not, directly or indirectly, dispose of or acquire any
properties or assets except in the ordinary course of business;
(g) Kachler will not incur any additional indebtedness for borrowed
money except pursuant to existing arrangements which have been disclosed to HCCH
prior to the date hereof;
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(h) Kachler will not amend or change the period of exercisability or
accelerate the exercisability of any outstanding options or warrants to acquire
shares of capital stock, or accelerate, amend or change the vesting period of
any outstanding restricted stock;
(i) Kachler, and each Shareholder will not knowingly take any action,
other than those which have been disclosed to and approved by HCCH, that would
prevent the accounting for the business combination to be effected by the Merger
as a pooling-of-interests;
(j) Kachler will not (i) change accounting methods except as
necessitated by changes which Kachler is required to make in order to prepare
its federal, state and local Tax returns; (ii) amend or terminate any contract,
agreement or license to which it is a party (except pursuant to arrangements
previously disclosed in writing to HCCH or disclosed in the Kachler Disclosure
Schedule) except those amended or terminated in the ordinary course of business,
consistent with past practices, or involving changes which are not materially
adverse in amount or effect to Kachler; (iii) lend any amount to any person or
entity, other than advances for travel and expenses which are incurred in the
ordinary course of business consistent with past practices, and which are not
material in amount which travel and expenses shall be documented by receipts for
the claimed amounts; (iv) enter into any guarantee or suretyship for any
obligation except for the endorsements of checks and other negotiable
instruments in ordinary course of business, consistent with past practice;
(v) waive or release any material right or claim except in the ordinary course
of business, consistent with past practice; (vi) issue or sell any shares of its
capital stock of any class or any other of its securities, or issue or create
any warrants, obligations, subscriptions, options, convertible securities, stock
appreciation rights or other commitments to issue shares of capital stock, or
take any action other than this transaction to accelerate the vesting of any
outstanding option or other security (except pursuant to existing arrangements
disclosed in writing to HCCH before the date of this agreement); (vii) except
for the Merger, merge, consolidate or reorganize with or acquire any entity;
(viii) agree to any audit assessment by any tax authority or file any federal or
state income or franchise tax return unless copies of such returns have been
delivered to HCCH for its review prior to such agreement or filing; and
(ix) terminate the employment of any key executive employee; and
(k) Kachler, and each of the Shareholders will not, directly or
indirectly, agree or commit to do any of the foregoing.
SECTION 5.2 SHAREHOLDER APPROVAL. At the earliest practicable date,
Kachler will duly call and hold a special shareholders meeting, or duly take
action by the written consent of its shareholders, whereby this Agreement, the
Merger and related matters will be submitted for the consideration and approval
of its shareholders (the "Shareholder Vote") which approval will be recommended
by the board of directors of Kachler, subject to Section 5.4. The Shareholder
Vote will be effected in compliance with applicable law.
SECTION 5.3 ACCESS TO FINANCIAL AND OPERATIONAL INFORMATION. Kachler
will give HCCH, its counsel, financial advisors, auditors and other authorized
representatives reasonable access during normal business hours to its offices,
properties, books and records, will furnish to HCCH, its counsel, financial
advisors, auditors and other authorized representatives such financial and
operating data as such persons may reasonably request and will instruct its
employees,
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counsel and financial advisors to cooperate with HCCH in its investigation of
the business of Kachler and in the planning for the combination of the
businesses of Kachler and HCCH following the consummation of the Merger;
PROVIDED that no investigation pursuant to this Section shall affect any
representation or warranty given hereunder. In addition, Kachler will
cooperate in arranging joint meetings among representatives of Kachler and
HCCH and persons with whom Kachler maintain business relationships. All
information obtained pursuant to this Section 5.3 shall be governed by the
confidentiality provisions of the Parties' letter of intent dated December
24, 1997 (the "Confidentiality Agreement").
SECTION 5.4 OTHER OFFERS.
(a) Kachler, and LMK will not, and will use their best efforts to cause
their respective officers, directors, employees or other agents not to, directly
or indirectly, (i) take any action to solicit, initiate or discuss any
Acquisition Proposal (as hereinafter defined), or (ii) subject to the fiduciary
duties of the Board of Directors under applicable law as advised by counsel,
engage in negotiations with, or disclose any nonpublic information relating to,
Kachler or afford access to the properties, books or records of Kachler to, any
person or entity that may be considering making, or has made, an Acquisition
Proposal. To the extent that Kachler or any of their respective officers,
directors, employees or other agents, or LMK are currently involved in any
discussions with respect to any Acquisition Proposal or contemplated or proposed
Acquisition Proposal, Kachler and LMK shall terminate, and shall use its or his
best efforts to cause its respective officers, directors, employees or other
agents to terminate, such discussions immediately. The term "Acquisition
Proposal" as used herein means any offer or proposal for, or any indication of
interest in, a merger or other business combination involving Kachler or the
acquisition of any equity interest in, or a substantial portion of the assets of
Kachler other than the transactions contemplated by this Agreement.
(b) Subject to their fiduciary duties, the Board of Directors of
Kachler, and each Shareholder shall not (i) withdraw or modify, or propose to
withdraw or modify, in a manner adverse to HCCH, the approval or recommendation
by such Board of Directors or Shareholder, of this Agreement, the Merger or the
other documents or transactions contemplated hereby, (ii) approve or recommend,
or propose to approve or recommend, any Acquisition Proposal (other than an
Acquisition Proposal made by HCCH or an affiliate of HCCH) or (iii) approve or
authorize the entering into any agreement with respect to any Acquisition
Proposal.
SECTION 5.5 MAINTENANCE OF BUSINESS. Kachler will use its reasonable
best efforts to carry on its business, keep available the services of its
officers and employees and preserve its relationships with those of its
customers, agents, suppliers, licensors and others having business relationships
with it that are material to its business in substantially the same manner as it
has prior to the date hereof. If Kachler becomes aware of a material
deterioration or facts which are likely to result in a material deterioration in
the relationship with any customers, supplier, licensor or others having
business relationships with it, it will promptly bring such information to the
attention of HCCH in writing.
SECTION 5.6 COMPLIANCE WITH OBLIGATIONS. Kachler shall use its
reasonable best efforts to comply in all material respects with (i) all
applicable federal, state, local and foreign laws,
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rules and regulations, (ii) all material agreements and obligations,
including its respective charter and bylaws, by which it, its properties or
its assets may be bound, and (iii) all decrees, orders, writs, injunctions,
judgments, statutes, rules and regulations applicable to Kachler and its
properties or assets.
SECTION 5.7 NOTICES OF CERTAIN EVENTS. Kachler shall, upon obtaining
knowledge of any of the following, promptly notify HCCH of:
(a) any notice or other communication from any person alleging that the
consent of such person is or may be required in connection with the Merger,
(b) any notice or other communication from any governmental or
regulatory agency or authority in connection with the Merger, and
(c) any actions, suits, claims, investigations or other judicial
proceedings commenced or threatened against Kachler which, if pending on the
date of this Agreement, would have been required to have been disclosed pursuant
hereto or which relate to the consummation of the Merger.
SECTION 5.8 AFFILIATES AGREEMENT. To facilitate the treatment of the
Merger for accounting purposes as a pooling-of-interests, Kachler and each
Shareholder shall deliver to HCCH simultaneously with the execution of this
Agreement, a written agreement (the "Affiliates Agreement") in form and
substance reasonably satisfactory to HCCH and such Affiliates.
SECTION 5.9 NECESSARY CONSENTS. Kachler shall use reasonable best
efforts to obtain such written consent and take such other actions as may be
necessary or appropriate for Kachler to facilitate and allow the consummation
of the transactions provided for herein and to facilitate and allow HCCH to
carry on the acquired business after the Closing Date (as defined in Section
11.1 hereof).
SECTION 5.10 REGULATORY APPROVAL. Kachler, and, where required pursuant
to the HSR Act or the rules or regulations of any regulatory agency, LMK, will
execute and file, or join in the execution and filing, with any application or
other document that may be necessary in order to obtain the authorization,
approval or consent of any governmental body, federal, state, local or foreign
which may be reasonably required, or which HCCH may reasonably request, in
connection with the consummation of the transaction provided for in this
Agreement. Kachler and LMK, will use reasonable best efforts to obtain or
assist HCCH in obtaining all such authorizations, approvals and consents. LMK
shall utilize his best efforts to organize a new corporation under the laws of
the State of Texas ("New Kachler") and license such corporation as a life,
accident and health insurance agent, and HMO agent, writing accident and health
business in the State of Texas. Upon the Closing, LMK shall execute and enter
into and shall cause New Kachler to enter into the Option Agreement and the
Administrative Services and Facilities Agreement (the "Facilities Agreement")
attached hereto as Exhibits "B" and "C," respectively.
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SECTION 5.11 SATISFACTION OF CONDITIONS PRECEDENT. Kachler and LMK shall
use all reasonable best efforts to cause the transactions provided for in this
Agreement to be consummated, and, without limiting the generality of the
foregoing to obtain all consents and authorizations of third parties and to make
all filings with, and give all notices to, third parties that may be necessary
or reasonably required on its part in order to effect the transactions provided
for herein.
ARTICLE VI
COVENANTS OF HCCH AND MERGER SUB
From the date hereof until the occurrence of the earlier of (i) the
Effective Time or (ii) the termination of this Agreement pursuant to Section
10.1 hereof, HCCH and Merger Sub agree that, except as otherwise permitted
with the written consent of Kachler, which consent shall not be unreasonably
withheld:
SECTION 6.1 CONDUCT OF HCCH. HCCH shall in all material respects conduct
its business in the ordinary course PROVIDED, HOWEVER, THAT nothing in this
Agreement shall be construed to prohibit or otherwise restrain HCCH in any
manner from acquiring other businesses or substantially all of the assets
thereof. Without limiting the generality of the foregoing, from the date hereof
until the Effective Time, except as contemplated hereby or previously disclosed
by HCCH to Kachler in writing:
(a) HCCH will not adopt or propose any change in its Certificate of
Incorporation or Bylaws;
(b) HCCH will not take any action that would result in a failure to
maintain the trading of HCCH Common Stock on the NYSE; and
(c) HCCH will not agree or commit to do any of the foregoing.
SECTION 6.2 ACCESS TO FINANCIAL AND OPERATION INFORMATION. HCCH will
give Kachler, its counsel, financial advisors, auditors and other authorized
representatives reasonable access during normal business hours to the public
information HCCH has filed with the Commission and will make available to
Kachler copies of all reports, schedules, registration statements,
correspondence and other documents filed with or delivered to the SEC, PROVIDED
that no investigation pursuant to this Section shall affect any representation
or warranty given by HCCH to Kachler or the Shareholders hereunder. All
information obtained pursuant to this Section 6.2 shall be governed by the
Confidentiality Agreement.
SECTION 6.3 MAINTENANCE OF BUSINESS. HCCH will use its reasonable best
efforts to carry on its business, keep available the services of its officers
and employees and preserve its relationships with those of its customers,
suppliers, licensors and others having business relationships with it that are
material to its business in substantially the same manner as it has prior to the
date hereof. If HCCH becomes aware of a material deterioration or facts which
are
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likely to result in a material deterioration in the relationship with any
material customer, supplier, licensor or others having business relationships
with it, it will promptly bring such information to the attention of Kachler
in writing.
SECTION 6.4 COMPLIANCE WITH OBLIGATIONS. HCCH shall use its reasonable
best efforts to comply in all material respects with (i) all applicable federal,
state, local and foreign laws, rules and regulations, (ii) all material
agreements and obligations, including its respective charter and bylaws, by
which it, its properties or its assets may be bound, and (iii) all decrees,
orders, writs, injunctions, judgments, statutes, rules and regulations
applicable to HCCH and its respective properties or assets; except to the
extent that the failure to comply with matters in clauses (i), (ii) and (iii)
would not have a Material Adverse Effect on HCCH.
SECTION 6.5 NOTICES OF CERTAIN EVENTS. HCCH shall, upon obtaining
knowledge of any of the following, promptly notify Kachler of:
(a) any notice or other communication from any person alleging that the
consent of such person is or may be required in connection with the Merger;
(b) any notice or other communication from any governmental or
regulatory agency or authority in connection with the Merger; and
(c) any actions, suits, claims, investigations or other judicial
proceedings commenced or threatened against HCCH which, if pending on the date
of this Agreement, would have been required to have been disclosed pursuant to
Section 4.12 or which relate to the consummation of the Merger.
SECTION 6.6 OBLIGATIONS OF MERGER SUB. HCCH will take all action
necessary to cause Merger Sub to perform its obligations under this Agreement
and to consummate the Merger on the terms and conditions set forth in this
Agreement. Merger Sub will not issue any shares of its capital stock, any
securities convertible into or exchangeable for its capital stock, or any
option, warrant or other right to acquire its capital stock to any person or
entity other than HCCH or a wholly owned Subsidiary of HCCH. Merger Sub shall
not incur any indebtedness or liabilities of any kind except pursuant to this
Agreement.
SECTION 6.7 NOTICE TO AFFILIATES. HCCH shall, at least 30 days prior to
the Effective Date, cause to be delivered to each person HCCH believes to be an
"affiliate," as that term is used in paragraphs (c) and (d) of Rule 145 under
the Securities Act, of HCCH a notice informing such persons of restrictions on
transfer resulting from the Merger being accounted for as a pooling-of-interests
in accordance with generally accepted principles and all published rules,
regulations and policies of the SEC.
SECTION 6.8 REGULATORY APPROVAL. HCCH will execute and file, or join in
the execution and filing, with any application or other document that may be
necessary in order to obtain the authorization, approval or consent of any
governmental body, federal, state, local or foreign which may be reasonably
required in connection with the consummation of the transaction provided for in
this Agreement. HCCH will use reasonable best efforts to obtain or assist
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Kachler in obtaining all such authorizations, approvals and consents, including,
without limitation, the licensing of New Kachler under Texas law.
ARTICLE VII
COVENANTS OF HCCH, KACHLER AND AFFILIATED COMPANIES
From the date hereof until the occurrence of the earlier of (i) the
Effective Time or (ii) termination of this Agreement pursuant to Section 10.1
hereof, each of Kachler, and HCCH agree that:
SECTION 7.1 ADVICE OF CHANGES. It will promptly advise the other in
writing (i) of any event known to any of its executive officers or the
Shareholders occurring subsequent to the date of this Agreement that in its
reasonable judgment renders any representation or warranty of such party
contained in this Agreement, if made on or as of the date of such event or the
Effective Date, untrue, inaccurate or misleading in any material respect and
(ii) of any Material Adverse Change in the business condition of the party.
SECTION 7.2 REGULATORY APPROVALS. It shall execute and file, or
join in the execution and filing of, any application or other document that
may be necessary in order to obtain the authorization, approval or consent of
any governmental body, federal, state, local or foreign, which may be requested
in connection with the consummation of the Merger. Each party shall use its
best efforts to obtain all such authorizations, approvals and consents.
SECTION 7.3 ACTIONS CONTRARY TO STATED INTENT. It shall not, from or
after the date hereof and either before or after the Effective Time, take any
action that would prevent the Merger from qualifying as a reorganization under
Section 368(a) of the Code or prevent the business combination to be effected by
the Merger from being accounted for as a pooling-of-interests under generally
accepted accounting principles. Each of HCCH and, Kachler shall use its
reasonable best efforts to cause its affiliates not to take any action that
would preclude the ability of HCCH to account for the business combination to be
effected by the Merger as a pooling-of-interests.
SECTION 7.4 CERTAIN FILINGS. Kachler and HCCH shall cooperate with one
another:
(a) in connection with the preparation of any filing required by the HSR
Act;
(b) in determining whether any action by or in respect of, or filing
with, any governmental body, agency or official, or authority is required, or
any actions, consents, approvals or waivers are required to be obtained from
parties to any material contracts, in connection with the consummation of the
transactions contemplated by this Agreement; and
(c) in seeking any such actions, consents, approvals or waivers or
making any such filings, furnishing information required in connection therewith
and seeking timely to obtain any such actions, consents, approvals or waivers.
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SECTION 7.5 COMMUNICATIONS. HCCH will not furnish any communication, if
the subject matter thereof relates to the transactions contemplated by this
Agreement and is not in the ordinary course of business, without the prior
notice to Kachler as to the content thereof.
SECTION 7.6 SATISFACTION OF CONDITIONS PRECEDENT. HCCH and Kachler will
each use its reasonable best efforts to satisfy or cause to be satisfied all the
conditions precedent that are applicable to each of them, and to cause the
transactions contemplated by this Agreement to be consummated, and, without
limiting the generality of the foregoing, to obtain all material consents and
authorizations of third parties and to make filings with, and give all notices
to, third parties that may be necessary or reasonably required on its part in
order to effect the transactions contemplated hereby.
SECTION 7.7 TAX COOPERATION. HCCH and Kachler shall cooperate in the
preparation, execution and filing of all returns, questionnaires, applications
or other documents regarding any transfer or gains, sales, use, transfer, value
added, stock transfer and stamp taxes, any transfer, recording, registration and
other fees, and any similar taxes or fees which become payable in connection
with the transactions contemplated by this Agreement that are required or
permitted to be filed on or before the Effective Time.
ARTICLE VIII
POST-CLOSING COVENANTS
SECTION 8.1 LISTING OF HCCH COMMON STOCK. HCCH shall cause the shares of
HCCH Common Stock to be issued in the Merger to be approved for listing on the
NYSE.
SECTION 8.2 PUBLICATION OF POST-MERGER RESULTS. HCCH shall use
commercially reasonable efforts to cause financial results covering at least
thirty days of post Merger combined operations to be published in its first
report of quarterly financial statements as soon as practicable and by the date
such information is required to be filed with the SEC.
SECTION 8.3 EMPLOYEE BENEFITS. Following the consummation of the Merger,
as soon as reasonably practicable, HCCH shall arrange to make generally
available to the employees of Kachler the benefits generally applicable to
employees of HCCH.
SECTION 8.4 OFFICERS AND DIRECTORS INSURANCE. (a) Except as set forth
below, commencing upon the Effective Date, to the extent HCCH provides, in its
sole discretion, liability insurance coverage to officers, directors and
employees of HCCH, HCCH shall provide those persons who are officers, directors
and employees of Kachler and who become officers, directors or employees of HCCH
with liability insurance coverage identical to that which it provides to other
officers, directors and employees of HCCH.
(b) HCCH and the Surviving Corporation shall, until the second
anniversary of the Closing Date, maintain or cause to be maintained in effect
errors and omissions or malpractice insurance policies maintained by Kachler as
of the Closing Date (or policies of at least the same
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coverage and amounts containing terms that are no less advantageous to the
insured party) with respect to claims arising from facts or events that
occurred on or prior to the Closing Date.
SECTION 8.5 SECURITIES ACT REPORTS. For so long as the HCCH Common Stock
held by the Shareholders is required to be sold pursuant to Rule 144 or Rule 145
of the Exchange Act, HCCH shall file such reports and take such further actions
as may be required pursuant to such Rule 144 or Rule 145 to allow the continued
sale of such HCCH Common Stock by such Shareholders thereunder.
SECTION 8.6 ASSIGNMENT OF COMMISSIONS. Each Shareholder and each other
person who is entitled to commissions, fees or other amounts attributable to
business written by such Shareholder and/or other person for business written on
behalf of Kachler or New Kachler shall irrevocably assign the rights to such
fees, commissions or other amounts to Kachler or New Kachler.
ARTICLE IX
CONDITIONS TO THE MERGER
SECTION 9.1 CONDITIONS TO OBLIGATIONS OF HCCH AND MERGER SUB. The
obligations of HCCH and Merger Sub hereunder are subject to the fulfillment or
satisfaction, on and as of the Effective Date, of each of the following
conditions (any one or more of which may be waived by HCCH, but only in a
writing signed by HCCH):
(a) The representations and warranties of Kachler and each Shareholder
contained in Article III shall be true and accurate in all material respects on
and as of the Effective Date with the same force and effect as if they had been
made on the Effective Date (except to the extent a representation or warranty
speaks specifically as of an earlier date and except for changes contemplated by
this Agreement) and Kachler and each Shareholder shall have provided HCCH with a
certificate executed by the President of the corporation or individually, as the
case may be, dated as of the Effective Date, to such effect.
(b) Kachler and each Shareholder shall have performed and complied in
all material respects with all of the covenants contained herein on or before
the Effective Date, and HCCH shall receive a certificate to such effect signed
by the President of the corporation or individually, as the case may be.
(c) Except as set forth in the Kachler Disclosure Schedule, there shall
have been no Material Adverse Change in Kachler or any of the Affiliated
Companies since December 31, 1997.
(d) HCCH shall have received from (i) each person or entity who may be
deemed pursuant to Section 5.8 to be an affiliate of Kachler a duly executed
Affiliates Agreement and (ii) each Shareholder the written agreement
contemplated to be entered into by such person pursuant to Section 5.8 and such
agreements shall remain in full force and effect.
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(e) All written consents, assignments, waivers or authorizations, other
than Governmental Authorizations, that are required as a result of the Merger
for the continuation in full force and effect of the material contracts set
forth on the Kachler Disclosure Schedule hereto or leases of Kachler shall have
been obtained.
(f) HCCH shall have received the opinion of Bracewell & Patterson,
L.L.P. in form and substance satisfactory to HCCH.
(g) All underwriting agreements of Kachler in force on the date hereof
shall be in force on the Effective Date, except for such agreements which have
been replaced with agreements of similar like and kind.
(h) LMK shall be alive and not, in any way, Disabled. For purposes of
this Agreement, LMK shall be deemed to be "Disabled" if he is unable to engage
in any substantial portion of his regular duties for Kachler and each Affiliated
Company by reason of any medically determinable physical or mental impairment
which can be expected to result in death or which has lasted or can be expected
to last for a continuous period of not less than 12 months.
(i) Kachler shall have received the unqualified opinion of Mann,
Frankfort Stein & Lipp, independent public accountants to Kachler on its audited
financial statements for the most recent fiscal year end.
(j) Kachler shall have delivered to HCCH its audited or unaudited, as
the case may be balance sheet and its audited or unaudited, as the case may be
income statement for the most recent fiscal year end and as of and at
December 31, 1997.
(k) Kachler, on an adjusted pro-forma basis and giving effect to this
transaction, shall have earned no less than $4.8 million before taxes and
bonuses for the period ended December 31, 1997.
(l) HCCH shall have received executed Employment, Non-competition and
Confidentiality Agreements (in form and substance satisfactory to HCCH) from
each Shareholder and such other employees of Kachler as HCCH shall reasonably
request.
(m) HCCH shall have received such documents which it believes necessary
to confirm that all commissions relating to the business of Kachler shall be
assigned to HCCH from any licensed agent or otherwise.
(n) LMK shall have completed the organization and licensing of New
Kachler, and both LMK and New Kachler shall have executed and entered into the
Option Agreement and the Facilities Agreement.
SECTION 9.2 CONDITIONS TO OBLIGATIONS OF KACHLER AND SHAREHOLDERS.
Kachler's, and each Shareholder's obligations hereunder are subject to the
fulfillment or satisfaction, on and as of the Effective Date, of each of the
following conditions (any one or more of which may be waived, but only in a
writing signed by such party):
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(a) The representations and warranties of HCCH set forth herein shall be
true and accurate in all material respects on and as of the Effective Date with
the same force and effect as if they had been made on the Effective Date (except
to the extent a representation or warranty speaks specifically as of an earlier
date and except for changes contemplated by this Agreement) and HCCH shall have
provided Kachler with a certificate executed by the President or, any Executive
Vice President and the Chief Financial Officer of HCCH, dated as of the
Effective Date, to such effect. For the purposes of determining the accuracy of
the representations and warranties of HCCH, any change or effect in the business
of HCCH that results in substantial part as a consequence of the public
announcement or pendency of the intended acquisition of Kachler by HCCH shall
not be deemed a Material Adverse Change or Material Adverse Effect or other
breach of representation or warranty with respect to HCCH.
(b) HCCH shall have performed and complied with all of its covenants
contained herein in all material respects on or before the Effective Date, and
Kachler shall receive a certificate to such effect signed by HCCH's President
or, any Executive Vice President and the Chief Financial Officer.
(c) Except as set forth in the HCCH Disclosure Schedule, there shall
have been no Material Adverse Change in HCCH since the HCCH Balance Sheet Date.
(d) Kachler shall have received a written opinion in form and substance
satisfactory to it from Bracewell & Patterson to the effect that the Merger will
be treated for federal income tax purposes as a tax-free reorganization within
the meaning of Section 368 of the Code. In preparing such opinion, counsel may
rely on (and to the extent reasonably required, Kachler, and the Shareholders
shall make) reasonable representations as to facts related thereto.
(e) Kachler shall have received from Winstead Sechrest & Minick P.C.,
counsel to HCCH, an opinion in form and substance satisfactory to the
Shareholders.
(f) LMK shall have been appointed President of Kachler.
SECTION 9.3 CONDITIONS TO OBLIGATIONS OF EACH PARTY. The respective
obligations of the parties hereunder are subject to the fulfillment, on and as
of the Effective Date, of each of the following conditions (any one or more of
which may be waived by such parties, but only in a writing signed by such
parties):
(a) Each of Kachler and the Shareholders shall have duly approved, where
applicable, this Agreement, the Articles of Merger and the Merger, all in
accordance with applicable laws and regulatory requirements.
(b) No statute, rule, regulation, executive order, decree, injunction or
restraining order shall have been enacted, promulgated or enforced (and not
repealed, superseded or otherwise made inapplicable) by any court or
governmental authority which prohibits the consummation of the Merger (each
party agreeing to use its reasonable best efforts to have any such order, decree
or injunction lifted).
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(c) There shall have been obtained any and all Governmental
Authorizations, permits, approvals and consents of securities or "blue sky"
commissions of any jurisdiction and of any other governmental body or agency,
that may reasonably be deemed necessary so that the consummation of the Merger
will be in compliance with applicable laws, the failure to comply with which
would have a Material Adverse Effect on HCCH, Kachler, or the Surviving
Corporation, or would be reasonably likely to subject any of HCCH, Merger Sub,
Kachler, or any of their respective directors or officers to penalties or
criminal liability.
(d) The waiting period (and any extension thereof) applicable to the
consummation of the Merger under the HSR Act, if applicable, shall have expired
or been terminated.
ARTICLE X
TERMINATION OF AGREEMENT
SECTION 10.1 TERMINATION. This Agreement may be terminated at any time
prior to the Effective Time whether before or after the approval by the
shareholders of Kachler and the Affiliated Companies:
(a) By the mutual consent of the Boards of Directors of HCCH and
Kachler.
(b) By the Board of Directors of either HCCH or Kachler if there has
been a material breach by the other or, in the case of HCCH, by any Shareholder,
of any representation or warranty contained in this Agreement, which in either
case cannot be, or has not been, cured within 15 days after written notice of
such breach is given to the party committing such breach, provided that the
right to effect such cure shall not extend beyond the date set forth in
subparagraph (c) below.
(c) By the Board of Directors of either HCCH or Kachler if (i) all
conditions of Closing required by Article 0 hereof have not been met or waived
by March 31, 1998, or (ii) the Merger has not occurred by such date; provided,
however, that neither HCCH nor Kachler, shall be entitled to terminate this
Agreement pursuant to this subparagraph (c) if such party is in willful and
material violation of any of its representations, warranties or covenants in
this Agreement.
(d) If any Governmental Authority shall have issued an order, decree or
ruling or taken any other action permanently enjoining, restraining or otherwise
prohibiting the Merger and such order, decree, ruling or other action shall have
become final and nonappealable.
(e) By the Board of Directors of HCCH, if LMK shall have become Disabled
or shall have died.
SECTION 10.2 EFFECT OF TERMINATION. Upon termination of this Agreement
pursuant to this Article X, this Agreement shall be void and of no effect and
shall result in no obligation of or liability to any party or their respective
directors, officers, employees, agents or shareholders,
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other than the obligations pursuant to the Confidentiality Agreement, unless
such termination was the result of an intentional breach of any
representation, warranty or covenant in this Agreement, in which case the
party who breached the representation, warranty or covenant shall be liable
to the other party for damages, and all costs and expenses incurred in
connection with the preparation, negotiation, execution and performance of
this Agreement.
ARTICLE XI
CLOSING MATTERS
SECTION 11.1 THE CLOSING. Subject to termination of this Agreement as
provided in Article IX above, the closing of the transactions provided for
herein (the "Closing") will take place at the offices of Winstead Sechrest &
Minick P.C., 910 Travis Street, Suite 2400, Houston, Texas 77002 at 10:00 a.m.,
Houston Time on February 27, 1998, or, if all conditions to Closing have not
been satisfied or waived by such date, such other place, time and date as
Kachler and HCCH may mutually select (the "Closing Date"). Such Closing may,
with the consent of all Parties, take place by delivery and exchange of
documents by facsimile transmission with originals to follow by overnight mail
service courier. Prior to or concurrently with the Closing, the Agreement of
Merger and such officers' certificates or other documents as may be required to
effect the Merger will be filed in the office of the Secretary of the State of
Texas. Accordingly, the Merger will become effective at the Effective Time.
ARTICLE XII
INDEMNIFICATION AND REMEDIES
SECTION 12.1 GENERAL INDEMNIFICATION BY THE SHAREHOLDERS. Each
Shareholder, jointly and severally to the extent hereinafter set forth,
covenants and agrees to indemnify, defend, protect and hold harmless HCCH,
Merger Sub and the Surviving Corporation and their respective officers,
directors, employees, shareholders, members, assigns, successors and affiliates
(individually, an "Indemnified Party" and collectively, "Indemnified Parties")
from, against and in respect of:
(a) all liabilities, losses, claims, damages, punitive damages, causes
of action, lawsuits, administrative proceedings (including informal
proceedings), investigations, audits, demands, assessments, adjustments,
judgments, settlement payments, deficiencies, penalties, fines, interest
(including interest from the date of such damages) and costs and expenses
(including without limitation reasonable attorneys' fees and disbursements of
every kind, nature and description) (collectively, "Damages") suffered,
sustained, incurred or paid by the Indemnified Parties in connection with,
resulting from or arising out of, directly or indirectly:
(i) any breach of any representation or warranty of Kachler or
the Shareholders set forth in this Agreement or any schedule or certificate,
delivered by or on behalf of Kachler or the Shareholders in connection herewith;
or
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(ii) any nonfulfillment of any covenant or agreement by the
Shareholders, or, prior to the Effective Time, Kachler, under this Agreement; or
(iii) the business, operations or assets of Kachler prior to the
Closing Date or the actions or omissions of Kachler's officers, employees or
agents prior to the Closing Date, other than Damages arising from matters
expressly disclosed in the Kachler Financial Statements, this Agreement or the
Kachler Disclosure Schedules; or
(iv) the matters disclosed on the Disclosure Schedule (Taxes) or
the nonfulfillment of any representation, covenant or agreement described in
Sections 3.12 (Taxes), 3.25 (Commissions) and 8.6 (Assignment of Commissions);
or
(v) the failure of Kachler or any Shareholder to obtain any
necessary consent relating to the leasing by Kachler of the leasehold property
utilized by Kachler; and
(b) any and all Damages incident to any of the foregoing or to the
enforcement of this Section 12.1.
SECTION 12.2 LIMITATION AND EXPIRATION. Notwithstanding the above:
(a) (i) there shall be no liability for indemnification under
Section 12.1 unless the aggregate amount of Damages exceeds $75,000 (the
"Franchise Deductible"); provided, however, if Damages exceed the Franchise
Deductible, the Indemnifying Persons shall be liable for all such Damages and
(ii) provided, further that the Franchise Deductible shall not apply to
Damages arising out of any breaches of the covenants of the Shareholders set
forth in this Agreement or representations and warranties made in Sections
3.12 (Taxes) and 3.25 (Commissions) (the "Deductible Exclusions");
(b) the aggregate amount of the Shareholders' liability under this
Article XII except for matters referred to as Deductible Exclusions and for
matters of fraud as described in Section 12.6 shall not exceed an amount equal
to one-half the Merger Consideration received by such Shareholder;
(c) the indemnification obligations under this Article XII, or under any
certificate or writing furnished in connection herewith, shall terminate at the
date that is the later of clause (i) or (ii) of this Section 12.2(c):
(i) (1) with respect to claims relating to or arising out of
(i) any Taxes arising out of or relating to the business of Kachler or (ii) the
irrevocable assignment of all commissions, fees or other amounts due to Kachler
for business for which a Shareholder has written as an employee or agent of
Kachler that relates to business that has been written prior to the Closing
Date: (A) the date that is six (6) months after the expiration of the longest
applicable federal or state statute of limitation (including extensions
thereof), or (B) if there is no applicable statute of limitation, ten (10) years
after the Closing Date; or
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(2) with respect to claims other than those specified in
clause (i)(1) of this Section 12.2(c) that are of a nature and of sufficient
materiality typically expected to be encountered in the audit process, on the
completion of the first independent audit of financial statements containing
combined operations of HCCH and Kachler; or
(3) with respect to all claims other than those referred
to in clause (i)(1) or (2) of this Section 12.2(c), twelve (12) months after the
Effective Time; or
(ii) the final resolution of claims or demands pending as of
the relevant dates described in clause (i) of this Section 12.2(c) (such
claims referred to as "Pending Claims").
SECTION 12.3 AGREEMENT TO INDEMNIFY. Subject to the limitations set
forth in this Article XII and except as set forth in Section 12.2, each
Shareholder shall be liable severally and Pro Rata (as hereinafter defined),
net of any recoveries under insurance policies recovered from third parties
and tax savings (hereafter in this Section 12.3 referred to as "HCCH
Damages"). "Pro Rata" for purposes of Sections 12.1 and 12.2 with respect to
each Shareholder shall mean the proportion that such Shareholder's holdings
of Kachler Common Stock as of the time immediately prior to the Effective
Time bears to the total shares of Kachler Common Stock held by all
Shareholders as of the time immediately prior to the Effective Time. In
seeking indemnification for HCCH Damages under this Article XII following the
Closing, the Indemnified Persons' remedy will be limited to receiving up to
that number of shares of HCCH Common Stock determined by dividing (a) the
amount of the HCCH Damages by (b) the closing sale price of HCCH's Common
Stock on the New York Stock Exchange on the Effective Date (the "Closing Date
Price"). Provided, however, that irrespective as to the number of claims
asserted by Indemnified Persons hereunder and the amount of the HCCH Damages
for which indemnification is sought, any such Shareholder, in the aggregate,
shall under no circumstances be required to make indemnification payments
hereunder beyond the Closing Date Price multiplied by one-half the number of
shares of HCCH Common Stock received by such Shareholder at the time of the
Merger (the "Maximum Shareholder Liability"). Notwithstanding anything to
the contrary set forth herein, in the event that at the time of the
resolution of any such indemnification claim, such Shareholder does not hold
the number of shares of HCCH Common Stock (including any shares otherwise
acquired at any time before or after the Effective Time or at any time after
any claim is made for indemnification) necessary to settle any
indemnification claim, then such Shareholder shall pay in cash or other
immediately available funds the cash equivalent of the remainder of his
in-stock indemnification obligations under this Section 12.3 up to his
Maximum Shareholder Liability. In lieu of HCCH Common Stock, any Shareholder
shall have the option to pay in cash or other immediately available funds the
cash equivalent of all or any part of his in-stock Maximum Shareholder
Liability.
SECTION 12.4 HCCH AGREEMENT TO INDEMNIFY. Subject to the limitations
set forth in this Article XII, HCCH will indemnify and hold harmless Kachler,
and the Kachler Shareholders and their officers, shareholders, directors,
administrators, successors and assigns from and against any and all claims,
demands, actions, causes of action, losses, costs, damages, liabilities and
expenses including, without limitation, reasonable legal fees, net of any
recoveries under insurance policies, recoveries from third parties and tax
savings (hereafter in this Section 12.4 referred to as "Kachler Damages")
arising out of any misrepresentation or breach of or default under any of
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the representations, warranties, covenants and agreements given or made by
HCCH or Merger Sub in this Agreement or any certificate or exhibit delivered
by or on behalf of HCCH or Merger Sub pursuant hereto. In seeking
indemnification for Kachler Damages under this Section 12.4 following the
Closing, the Indemnified Person's remedy will be limited to receiving that
number of additional shares of HCCH Common Stock determined by dividing (a)
the amount of the Kachler Damages by (b) the Closing Date Price. Provided,
however, that irrespective of the number of claims asserted by Indemnified
Persons hereunder in the amount of the Kachler Damages for which
indemnification is sought, HCCH, in the aggregate, shall under no
circumstances be obligated to make an indemnification payment hereunder
beyond that number of additional shares of HCCH Common Stock equal to
one-half of the total number of shares of HCCH Common Stock provided to the
Kachler Shareholders on the Effective Date (the "Maximum HCCH Liability").
The indemnification provided for in this Section 12.4 will not apply unless and
until the aggregate Kachler Damages for which one or more Indemnified Person
seeks indemnification exceeds $75,000 in the aggregate, in which event the
indemnification provided for will include all Kachler Damages (a franchise
deductible) up to the Maximum HCCH Liability.
SECTION 12.5 PROCEDURE FOR INDEMNIFICATION; THIRD PARTY CLAIMS.
(a) Promptly after receipt by an Indemnified Party under this Article
XII of notice of a claim against it for indemnification brought under this
Article XII (a "Claim"), the Indemnified Party will, if a claim is to be made
against an Indemnifying Party, give prompt written notice to the Indemnified
Party of the Claim, but the failure to promptly notify the Indemnified Party
will not relieve the Indemnified Party of any liability that it may have to
any Indemnified Party, except to the extent that the Indemnifying Party
demonstrates that the defense of such action is prejudice by the Indemnifying
Party's failure to give such prompt notice. Such notice shall contain a
description in reasonable detail of facts upon which such Claim is based and,
to the extent known, the amount thereof.
(b) If any Claim referred to in this Article XII is made by a third
party against an Indemnified Party and such Indemnified Party gives written
notice to the Indemnifying Party of the Claim, the Indemnifying Party will be
entitled to participate in the defense of Claim but under all circumstances
HCCH shall be entitled to assume the defense of the Claim and, thereafter, if
HCCH has so assumed the defense, no other party hereto will be liable under
this Article XII for any fees of counsel or any other expenses with respect
to the defense of the Claim in each case subsequently incurred in connection
with the defense of the Claim unless such other party elects to retain its
separate counsel. If HCCH is not the Indemnifying Party and elects, in
writing, not to assume the defense, the Indemnifying Party shall assume the
defense and HCCH will not be liable for any fees or expenses with respect to
the Defense of the Claim, unless HCCH elects to retain its separate counsel.
SECTION 12.6 LIMITATION ON LIABILITY. (a) It is a fundamental point of
mutual agreement among all Parties hereto that the Parties' liability for and in
respect of this Agreement and the Merger shall, except for matters of proved
fraud, be limited to the absolute, fixed dollar amounts and for the absolute,
fixed time limitations specified in this Article XII. These limitations of
amount of liability and time to assert any such liability shall apply to all
claims and other
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demands, charges, allegations, liabilities, responsibilities, exposures and
the like (collectively "Claims Against A Party") no matter how any and all of
such Claims Against A Party may be brought or asserted, whether sounding in
contract, tort or otherwise, including, without limitation, Claims Against A
Party based on breach of contract, breach of representation, warranty or
covenant, misrepresentation, fraudulent inducement, negligent
misrepresentation, indemnity (contractual or otherwise), contribution
(contractual or otherwise), or loss in reliance. A Party's liability in
matters of fraud shall be limited to two times the Maximum Shareholders
Liability or the Maximum HCCH Liability, as the case may be.
ARTICLE XIII
MISCELLANEOUS
SECTION 13.1 APPOINTMENT OF REPRESENTATIVE. Subject to the
successorship provisions of this Section 13.1, LMK (the "Representative") is
hereby irrevocably appointed as the attorney-in-fact and representative of
the interests of the Shareholders for all purposes of this Agreement, and
notice is hereby given thereof to HCCH and Merger Sub, and, without
independent verification, HCCH and Merger Sub may rely upon Representative's
undertakings in such capacity. The Representative shall have full and
irrevocable authority on behalf of the Shareholders, and shall promptly and
completely exercise such authority in a timely fashion to:
(a) participate in, represent and bind the Shareholders in all respects
with respect to any arbitration or legal proceeding relating to this Agreement,
including, without limitation, the defense and settlement of any matter, and the
calculation thereof for every purpose thereunder, consent to jurisdiction, enter
into any settlement, and consent to entry of judgment, each with respect to any
or all of the Shareholders;
(b) receive, accept and give notices and other communications relating
to this Agreement;
(c) take any action that the Representative deems necessary or desirable
in order to fully effectuate the transactions contemplated by this Agreement;
(d) execute and deliver any instrument or document that the
Representative deems necessary or desirable in the exercise of his authority
under this Section 13.1; and
(e) waive the fulfillment of any condition or conditions to the Closing.
Those Shareholders who, as of the Effective Date, hold a majority of the
Kachler Common Stock may, at any time and by written action delivered to HCCH,
remove the Representative or any successor thereto, but such removal shall be
effective only upon the replacement of such Representative or successor by a new
Representative designated, by written notice delivered to HCCH, by those
Shareholders who, as of the date hereof hold a majority of Kachler Common Stock,
PROVIDED, however, that any such notice shall be effective upon actual receipt
by HCCH. Any such written notice shall be delivered to HCCH in accordance with
the
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notice provisions set forth in Section 13.4 hereof. If any Representative
shall have died, become Disabled or unable to serve, those Shareholders who,
as of the date hereof, hold a majority of Kachler Common Stock shall promptly
designate by written notice delivered to HCCH, a replacement Representative.
Any costs and expenses incurred by the Representative in connection with
actions taken pursuant to or permitted by this Section 13.1 will be borne by
the Shareholders and paid or reimbursed to the Representative Pro Rata.
The foregoing authorization is granted and conferred in consideration
for the various agreements and covenants of HCCH and Merger Sub contained
herein. In consideration of the foregoing, and subject to the successorship
provisions of this Section 13.1, this authorization granted to the
Representative shall be irrevocable and shall not be terminated by any act of
any of the Shareholders or by operation of law, whether by death or
incompetence of any Shareholder or by the occurrence of any other event
except the termination of this Agreement pursuant to Section 10.1 hereof. If
after the execution hereof any such Shareholder shall die or become
incompetent, the Representative is nevertheless authorized and directed to
exercise the authority granted in this Section 13.1 as if such death or
incompetence had not occurred and regardless of notice thereof. The
Representative shall have no liability to any Shareholder for any act or
omission or obligation hereunder, provided that such action or omission is
taken by the Representative in good faith and without willful misconduct.
SECTION 13.2 FURTHER ASSURANCES. Each party agrees to cooperate
fully with the other parties and to execute such further instruments,
documents and agreements and to give such further written assurances as may
be reasonably requested by any other party to better evidence and reflect the
transactions described herein and contemplated hereby and to carry into effect
the intents and purposes of this Agreement.
SECTION 13.3 FEES AND EXPENSES. Until otherwise agreed by the parties,
each party shall bear its own fees and expenses, including counsel fees and fees
of brokers and investment bankers contracted by such party, in connection with
the transaction contemplated hereby.
SECTION 13.4 NOTICES. Whenever any party hereto desires or is required to
give any notice, demand, or request with respect to this Agreement, each such
communication shall be in writing and shall be effective only if it is delivered
by personal service or mailed, United States registered or certified mail,
postage prepaid, or sent by prepaid overnight courier addressed as follows:
HCCH and Merger Sub:
HCC Insurance Holdings, Inc.
13403 Northwest Freeway
Houston, Texas 77040-6094
Attention: Frank J. Bramanti, Executive Vice President
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With a copy (which shall not constitute notice) to:
Winstead Sechrest & Minick P.C.
910 Travis, Suite 2400
Houston, Texas 77002-5895
Telecopy: (713) 650-2400
Attention: Arthur S. Berner, Esq.
Kachler and LMK:
Larry M. Kachler
10 Lacewood Lane
Houston, TX 77024
Getty:
Paul T. Getty
5847 San Felipe, #2900
Houston, TX 77057
Manning:
Bryant L. Manning
P.O. Box 56287
Houston, TX 77256
Schanen:
Robert P. Schanen, Jr.
5847 San Felipe, #2900
Houston, TX 77057
Kleiderer:
Robert M. Kleiderer
323 Fawnlake
Houston, TX 77079
O'Donnel:
Michael J. O'Donnel
4814 Welford
Bellaire, TX 77401
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With a copy (which shall not constitute notice) of any notice to Kachler or
any Shareholder to:
Bracewell & Patterson, L.L.P.
South Tower Pennzoil Place
711 Louisiana Street
Suite 2900
Houston, Texas 77002-2781
Telecopy: (713) 221-1212
Attention: Rick L. Wittenbraker, Esq.
Such communications shall be effective when they are received by the
addressee thereof. Any party may change its address for such communications
by giving notice thereof to other parties in conformity with this Section. In
the event LMK is no longer the Representative, such successor Representative's
address shall be the address for the Shareholders.
SECTION 13.5 GOVERNING LAW. The internal laws of the State of Texas
(irrespective of its choice of law principles) will govern the validity of this
Agreement, the construction of its terms, and the interpretation and enforcement
of the rights and duties of the parties hereto. Any dispute arising hereunder
shall lie exclusively in the state courts of the State of Texas.
SECTION 13.6 BINDING UPON SUCCESSORS AND ASSIGNS, ASSIGNMENT. This
Agreement and the provisions hereof shall be binding upon each of the parties,
their permitted successors and assigns. This Agreement may not be assigned by
any party without the prior consent of the others, PROVIDED, HOWEVER, that HCCH
shall be permitted at any time prior to the Effective Time to cause the
assignment of Merger Sub's rights and obligations under this Agreement to
another wholly owned Subsidiary of HCCH (without in any way relieving HCCH of
its obligations under this Agreement with respect to Merger Sub or the Merger).
SECTION 13.7 SEVERABILITY. If any provision of this Agreement, or the
application thereof, shall for any reason or to any extent be invalid or
unenforceable, the remainder of this Agreement and application of such provision
to other persons or circumstances shall continue in full force and effect and in
no way be affected, impaired or invalidated.
SECTION 13.8 ENTIRE AGREEMENT. This Agreement, together with the
Confidentiality Agreement, and the other agreements and instruments referenced
herein constitute the entire understanding and agreement of the parties with
respect to the subject matter hereof and supersede all prior and contemporaneous
agreements or understandings, inducements or conditions, express or implied,
written or oral, between parties with respect hereto.
SECTION 13.9 AMENDMENT AND WAIVERS. Any amendment or waiver affecting the
Shareholders shall be valid if consented to in writing by Shareholders holding a
majority of the shares of Kachler Common Stock (i) if given or made prior to the
Effective Time, such majority as determined as of the date of such amendment or
waiver, and (ii) if given or made at or after the Effective Time, such majority
as determined immediately prior to the Effective Time. Any term or provision of
this Agreement may be amended, and the observance of any term of this
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Agreement may be waived (either generally or in a particular instance and
either retroactively or prospectively) only by a writing signed by those
persons as provided in this Section 13.9. The waiver by a party of any
breach hereof or default in the performance hereof shall not be deemed to
constitute a waiver of any other default or any succeeding breach or default,
unless such waiver so expressly states. At any time before the Effective
Time, this Agreement may be amended or supplemented by Kachler, the
Shareholders or HCCH with respect to any of the terms contained in this
Agreement.
SECTION 13.10 NO WAIVER. The failure of any party to enforce any of the
provisions hereof shall not be construed to be a waiver of the right of such
party thereafter to enforce such provisions.
SECTION 13.11 CONSTRUCTION OF AGREEMENT. A reference to an Article,
Section or an Exhibit shall mean an Article of, a Section in, or Exhibit to,
this Agreement unless otherwise explicitly set forth. The titles and headings
herein are for reference purposes only and shall not in any manner limit the
construction of this Agreement which shall be considered as a whole. The words
"include," "includes" and "including" when used herein shall be deemed in each
case to be followed by the words "without limitation."
SECTION 13.12 COUNTERPARTS. This Agreement may be executed in any number
of counterparts, each of which shall be an original as against any party whose
signature appears thereon and all of which together shall constitute one and the
same instrument. This Agreement shall become binding when one or more
counterparts hereof, individually or taken together, shall bear the signatures
of all the parties reflected hereon as signatories.
SECTION 13.13 SHAREHOLDER CONTROL OF STOCK. The Shareholders severally,
and not jointly, represent and warrant with respect to their respective shares
of Kachler Common Stock as follows:
(a) Kachler, O'Donnel and Kleiderer: (i) that, although such shares of
Kachler Common Stock constitute community property with his spouse, the
Shareholder has sole management rights with respect to such shares of Kachler
Common Stock; and (ii) that his spouse is not required to consent to or join in
this Agreement or any of the transactions herein contemplated;
(b) Manning, Getty and Schanen: (i) that he owns all such shares of
Kachler Common Stock as his separate property and not as community property with
his spouse; and (ii) accordingly his spouse has no legal interest in such
shares.
Notwithstanding anything to the contrary in this Agreement, this Section
13.13 will survive the Closing, will have no expiration or termination date,
and will not be subject to any deductible amount (including the Franchise
Deductible) or any limitation on liability of the Shareholders.
SECTION 13.14 KNOWLEDGE. THE SHAREHOLDERS FURTHER ACKNOWLEDGE THAT THEY
(a) HAVE KNOWLEDGE AND EXPERIENCE IN BUSINESS AND
44
<PAGE>
FINANCIAL MATTERS THAT ENABLE THEM TO EVALUATE THE MERITS AND RISKS OF
ENTERING INTO THIS AGREEMENT, (b) HAVE READ AND UNDERSTAND THE PROVISIONS
HEREOF, (c) ARE NOT IN A DISPARATE BARGAINING POSITION, AND (d) HAVE BEEN
REPRESENTED BY, OR HAVE HAD THE OPPORTUNITY TO BE REPRESENTED BY, LEGAL
COUNSEL IN CONNECTION WITH THE NEGOTIATION AND EXECUTION OF THIS AGREEMENT.
THE SHAREHOLDERS EACH FURTHER ACKNOWLEDGE AND AGREE THAT IN EXECUTING THIS
AGREEMENT, NO PROMISE OR AGREEMENT WHICH IS NOT HEREIN EXPRESSED HAS BEEN
MADE TO HIM AND HE HAS NOT RELIED UPON ANY STATEMENT OR REPRESENTATION
PERTAINING TO THE SUBJECT MATTER HEREOF MADE BY HCCH, OR ANY OTHER PARTY.
THE SHAREHOLDERS FURTHER ACKNOWLEDGE THAT THEY UNDERSTAND THAT THE LAW FIRM
OF BRACEWELL & PATTERSON, L.L.P. DOES NOT REPRESENT THEIR INDIVIDUAL
INTERESTS AND REPRESENTS ONLY THE KACHLER CORPORATION AND THE STOCKHOLDERS
GENERALLY. THE SHAREHOLDERS AGREE THAT TO THE EXTENT REQUIRED BY APPLICABLE
LAW TO BE EFFECTIVE, THIS PARAGRAPH CONSTITUTES A CONSPICUOUS NOTICE.
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]
45
<PAGE>
IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of
the date first above written.
"HCC INSURANCE HOLDINGS, INC."
By: /s/ Frank J. Bramanti
---------------------------------------
Name: Frank J. Bramanti
Title: Executive Vice President
"THE KACHLER CORPORATION,"
(a Delaware corporation)
By: /s/ Frank J. Bramanti
---------------------------------------
Name: Frank J. Bramanti
Title: Executive Vice President
[SIGNATURE PAGE TO AGREEMENT AND PLAN OF REORGANIZATION]
<PAGE>
"THE KACHLER CORPORATION"
(a Texas corporation)
By: /s/ Larry M. Kachler
---------------------------------------
Name: Larry M. Kachler
Title: President
"SHAREHOLDERS"
/s/ Larry M. Kachler
------------------------------------------
Larry M. Kachler
/s/ Paul T. Getty
------------------------------------------
Paul T. Getty
/s/ Bryant L. Manning
------------------------------------------
Bryant L. Manning
/s/ Robert P. Schanen, Jr.
------------------------------------------
Robert P. Schanen, Jr.
/s/ Robert M. Kleiderer
------------------------------------------
Robert M. Kleiderer
/s/ Michael J. O'Donnel
------------------------------------------
Michael J. O'Donnel
[SIGNATURE PAGE TO AGREEMENT AND PLAN OF REORGANIZATION]
<PAGE>
===============================================================================
PURCHASE AGREEMENT
DATED AS OF
FEBRUARY 28, 1998
BY AND AMONG
HCC INSURANCE HOLDINGS, INC.,
MERGER SUB, INC.
AND
BETHANY A. BELANGER,
GUARANTEE INSURANCE RESOURCES, INC.,
BELANGER CORPORATION
BELANGER FAMILY LLLP
AND
JEFFREY F. KOOPMAN
===============================================================================
<PAGE>
<TABLE>
TABLE OF CONTENTS
PAGE
<S> <C> <C>
ARTICLE I SALE AND TRANSFER OF STOCK AND PARTNERSHIP
ASSETS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Section 1.1 Sale of IAI Common Stock and GIR Assets. . . . . . . . . . . . 2
Section 1.2 Purchase Price . . . . . . . . . . . . . . . . . . . . . . . . 2
Section 1.3 Closing Deliveries . . . . . . . . . . . . . . . . . . . . . . 3
Section 1.4 Escrow . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Section 1.5 Purchase Price Adjustment. . . . . . . . . . . . . . . . . . . 4
Section 1.6 Allocation of Purchase Price . . . . . . . . . . . . . . . . . 5
ARTICLE II REPRESENTATIONS AND WARRANTIES OF SELLERS. . . . . . . . . . . 5
Section 2.1 Corporate Existence and Power. . . . . . . . . . . . . . . . . 6
Section 2.2 Authorization. . . . . . . . . . . . . . . . . . . . . . . . . 6
Section 2.3 Governmental Authorization . . . . . . . . . . . . . . . . . . 6
Section 2.4 Non-Contravention. . . . . . . . . . . . . . . . . . . . . . . 7
Section 2.5 Capitalization . . . . . . . . . . . . . . . . . . . . . . . . 8
Section 2.6 Subsidiaries and Joint Ventures. . . . . . . . . . . . . . . . 9
Section 2.7 Financial Statements . . . . . . . . . . . . . . . . . . . . . 9
Section 2.8 Absence of Certain Changes . . . . . . . . . . . . . . . . . . 9
Section 2.9 No Undisclosed Liabilities . . . . . . . . . . . . . . . . . . 11
Section 2.10 Litigation . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Section 2.11 Taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Section 2.12 Employee Benefit Plans, ERISA. . . . . . . . . . . . . . . . . 12
Section 2.13 Material Agreements. . . . . . . . . . . . . . . . . . . . . . 14
Section 2.14 Properties . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Section 2.15 Environmental Matters. . . . . . . . . . . . . . . . . . . . . 15
Section 2.16 Labor Matters. . . . . . . . . . . . . . . . . . . . . . . . . 16
Section 2.17 Compliance with Laws . . . . . . . . . . . . . . . . . . . . . 16
Section 2.18 Trademarks, Tradenames, Etc. . . . . . . . . . . . . . . . . . 16
Section 2.19 Sales Negotiations . . . . . . . . . . . . . . . . . . . . . . 16
Section 2.20 Broker's Fees. . . . . . . . . . . . . . . . . . . . . . . . . 17
Section 2.21 Year 2000 Issues . . . . . . . . . . . . . . . . . . . . . . . 17
Section 2.22 Knowledge of the Sellers . . . . . . . . . . . . . . . . . . . 17
Section 2.23 Total Assets . . . . . . . . . . . . . . . . . . . . . . . . . 17
ARTICLE III REPRESENTATIONS AND WARRANTIES OF
PURCHASERS . . . . . . . . . . . . . . . . . . . . . . . . . . 17
Section 3.1 Corporate Existence and Power. . . . . . . . . . . . . . . . . 17
Section 3.2 Corporate Authorization. . . . . . . . . . . . . . . . . . . . 18
Section 3.3 Governmental Authorization . . . . . . . . . . . . . . . . . . 18
Section 3.4 Non-Contravention. . . . . . . . . . . . . . . . . . . . . . . 18
Section 3.5 Broker's Fees. . . . . . . . . . . . . . . . . . . . . . . . . 19
Section 3.6 Knowledge of Purchasers. . . . . . . . . . . . . . . . . . . . 19
i
<PAGE>
TABLE OF CONTENTS (Cont.)
PAGE
ARTICLE IV COVENANTS OF THE SELLERS . . . . . . . . . . . . . . . . . . . 19
Section 4.1 Conduct of the Companies . . . . . . . . . . . . . . . . . . . 19
Section 4.2 Access to Financial and Operational Information. . . . . . . . 21
Section 4.3 Other Offers . . . . . . . . . . . . . . . . . . . . . . . . . 21
Section 4.4 Maintenance of Business. . . . . . . . . . . . . . . . . . . . 21
Section 4.5 Compliance with Obligations. . . . . . . . . . . . . . . . . . 22
Section 4.6 Notices of Certain Events. . . . . . . . . . . . . . . . . . . 22
Section 4.7 Necessary Consents . . . . . . . . . . . . . . . . . . . . . . 22
Section 4.8 Regulatory Approval. . . . . . . . . . . . . . . . . . . . . . 22
Section 4.9 Satisfaction of Conditions Precedent . . . . . . . . . . . . . 22
ARTICLE V COVENANTS OF PURCHASERS. . . . . . . . . . . . . . . . . . . . 23
Section 5.1 Conduct of Purchasers. . . . . . . . . . . . . . . . . . . . . 23
ARTICLE VI COVENANTS OF PURCHASERS AND SELLERS. . . . . . . . . . . . . . 23
Section 6.1 Advice of Changes. . . . . . . . . . . . . . . . . . . . . . . 23
Section 6.2 Regulatory Approvals . . . . . . . . . . . . . . . . . . . . . 23
Section 6.3 Certain Filings. . . . . . . . . . . . . . . . . . . . . . . . 23
Section 6.4 Communications . . . . . . . . . . . . . . . . . . . . . . . . 24
Section 6.5 Satisfaction of Conditions Precedent . . . . . . . . . . . . . 24
Section 6.6 Tax Cooperation. . . . . . . . . . . . . . . . . . . . . . . . 24
Section 6.7 Confidentiality. . . . . . . . . . . . . . . . . . . . . . . . 24
ARTICLE VII CONDITIONS TO CLOSING. . . . . . . . . . . . . . . . . . . . . 25
Section 7.1 Conditions to Obligations of Purchasers. . . . . . . . . . . . 25
Section 7.2 Conditions to Obligations of Sellers . . . . . . . . . . . . . 27
Section 7.3 Conditions to Obligations of Each Party. . . . . . . . . . . . 28
ARTICLE VIII TERMINATION OF AGREEMENT . . . . . . . . . . . . . . . . . . . 28
Section 8.1 Termination. . . . . . . . . . . . . . . . . . . . . . . . . . 28
Section 8.2 Effect of Termination. . . . . . . . . . . . . . . . . . . . . 29
ARTICLE IX CLOSING MATTERS. . . . . . . . . . . . . . . . . . . . . . . . 29
Section 9.1 The Closing. . . . . . . . . . . . . . . . . . . . . . . . . . 29
ARTICLE X INDEMNIFICATION AND REMEDIES, CONTINUING
COVENANTS. . . . . . . . . . . . . . . . . . . . . . . . . . . 29
Section 10.1 Sellers' Agreement to Indemnify. . . . . . . . . . . . . . . . 29
Section 10.2 Purchasers Agreement to Indemnify. . . . . . . . . . . . . . . 30
Section 10.3 Survival of Representations. . . . . . . . . . . . . . . . . . 31
Section 10.4 Procedure for Indemnification; Third Party Claims. . . . . . . 31
ii
<PAGE>
TABLE OF CONTENTS (Cont.)
PAGE
ARTICLE XI ALTERNATIVE DISPUTE RESOLUTION . . . . . . . . . . . . . . . . 32
Section 11.1 Negotiation. . . . . . . . . . . . . . . . . . . . . . . . . . 32
Section 11.2 Arbitration and Mediation. . . . . . . . . . . . . . . . . . . 32
Section 11.3 Extension of Deadlines . . . . . . . . . . . . . . . . . . . . 32
Section 11.4 Other Relief; Statutes of Limitations. . . . . . . . . . . . . 32
Section 11.5 Costs. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
ARTICLE XII MISCELLANEOUS. . . . . . . . . . . . . . . . . . . . . . . . . 33
Section 12.1 Further Assurances.. . . . . . . . . . . . . . . . . . . . . . 33
Section 12.2 Fees and Expenses. . . . . . . . . . . . . . . . . . . . . . . 33
Section 12.3 Notices. . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
Section 12.4 Governing Law. . . . . . . . . . . . . . . . . . . . . . . . . 34
Section 12.5 Binding upon Successors and Assigns, Assignment. . . . . . . . 34
Section 12.6 Severability . . . . . . . . . . . . . . . . . . . . . . . . . 34
Section 12.7 Entire Agreement . . . . . . . . . . . . . . . . . . . . . . . 34
Section 12.8 Amendment and Waivers. . . . . . . . . . . . . . . . . . . . . 34
Section 12.9 No Waiver. . . . . . . . . . . . . . . . . . . . . . . . . . . 34
Section 12.10 Construction of Agreement. . . . . . . . . . . . . . . . . . . 35
Section 12.11 Counterparts . . . . . . . . . . . . . . . . . . . . . . . . . 35
Section 12.12 Appointment of Representative. . . . . . . . . . . . . . . . . 35
Section 12.13 Triumph Reinsurance Company. . . . . . . . . . . . . . . . . . 36
</TABLE>
iii
<PAGE>
PURCHASE AGREEMENT
THIS PURCHASE AGREEMENT (this "Agreement") is entered into effective as of
the 28th day of February, 1998 by and among HCC Insurance Holdings, Inc., a
Delaware corporation ("HCCH"), Merger Sub, Inc., a Georgia corporation and a
wholly owned subsidiary of HCCH ("Merger Sub," Merger Sub and HCCH are sometimes
collectively referred to herein as the "Purchasers"), Bethany A. Belanger
("Belanger"), Jeffrey F. Koopman ("Koopman") (Koopman and Belanger being herein
collectively called the "Shareholders"); Guarantee Insurance Resources, Inc., a
Georgia corporation, and Belanger Corporation, a Georgia corporation
(collectively the "Selling Corporations"); and the Belanger Family LLLP, a
Georgia limited liability limited partnership (the "Family L.P."), the
Shareholders, the Family L.P. and the Selling Corporations being hereinafter
sometimes collectively referred to as the "Sellers"). Sellers and Purchasers
are sometimes referred to herein as the "Parties."
RECITALS:
A. Belanger owns all of the outstanding stock of Insurance
Alternatives, Inc., a Georgia corporation ("IAI"), and all of the outstanding
stock of the Selling Corporations.
B. Prior to the Closing Date, as herein defined, Belanger Corporation
will transfer certain of its interest in GIR, as herein defined, to Family L.P.
C. The Selling Corporations and the Family L.P. at the Closing Date
will be the sole partners in Guarantee Insurance Resources, a general
partnership formed and existing pursuant to the laws of the State of Georgia
("GIR") (the Selling Corporations and the Family L.P. are sometimes collectively
referred to herein as the "Partners").
D. Prior to the Closing, Koopman will exercise a stock option and
acquire stock in IAI.
E. Merger Sub desires to purchase all of the outstanding stock of IAI
and all of the assets and certain liabilities held by GIR (IAI and GIR being
hereinafter sometimes collectively referred to as the "Companies").
NOW, THEREFORE, in consideration of the foregoing and the mutual
representations, warranties, covenants and agreements set forth herein, the
Parties hereto do hereby agree as follows:
<PAGE>
ARTICLE I
SALE AND TRANSFER OF STOCK AND PARTNERSHIP ASSETS
SECTION 1.1 SALE OF IAI COMMON STOCK AND GIR ASSETS.
(a) Subject to the terms and conditions of this Agreement, at the
Closing (hereinafter defined), Shareholders shall sell, transfer and deliver to
Merger Sub and Merger Sub shall purchase from Shareholders, all of the
outstanding stock of IAI (the "IAI Common Stock").
(b) (i) Subject to the terms and conditions of this Agreement, at the
Closing, the Selling Corporations and the Family L.P. shall sell, transfer and
deliver to Merger Sub, and Belanger and Koopman shall cause the Selling
Corporations and the Family L.P. to sell, transfer and deliver to Merger Sub,
and Merger Sub shall purchase from the Selling Corporations, all right, title
and interest of the Partners in the assets of GIR (the "Partnership Assets").
(ii) At the Closing, Merger Sub shall assume and agree to pay,
honor and discharge when due, all of the liabilities, obligations and
commitments of GIR that are (x) reflected on the GIR Financial Statements;
(y) incurred after the date of such Financial Statements, in the ordinary
course of business, consistent with prior practice, and in accordance with
the terms of this Agreement; and (z) any and all liabilities, obligations
and commitments of GIR that would not ordinarily be reflected on such
Financial Statements.
SECTION 1.2 PURCHASE PRICE.
(a) At the Closing, the Purchasers shall deliver the purchase price for
the IAI Common Stock and Partnership Assets in the amount of Twenty-two Million
Dollars ($22,000,000) (the "Purchase Price") as follows:
(i) $19,200,000 (the "Shareholders Cash Payment") shall be
transferred by wire transfer to such accounts as the Shareholders shall
specify, in immediately available funds; plus
(ii) HCCH shall issue to Koopman 29,029 shares of HCCH Common
Stock (the "Share Payment") equal to (x) $600,000, (y) divided by $20.6688
(the HCCH Acquisition Price). As used herein, the HCCH Acquisition Price
means the average of the closing prices of HCCH Common Stock as reported by
the New York Stock Exchange ("NYSE") for the ten trading days ending three
trading days before the Closing Date, hereinafter defined. No fractional
shares of HCCH Common Stock shall be issued and Koopman shall be entitled
to receive an additional cash payment equal to the fractional share of HCCH
Common Stock that Koopman would otherwise be entitled to receive,
multiplied by the HCCH Acquisition Price;
(iii) The remaining amount of the Purchase Price of $2,200,000 (the
"Escrow Amount") shall be placed in escrow as provided in Section 1.4
below.
2
<PAGE>
SECTION 1.3 CLOSING DELIVERIES.
At the Closing:
(a) Sellers shall deliver to HCCH and Merger Sub
(i) certificates representing the IAI Common Stock, endorsed or
transferred to Merger Sub, which shall transfer to Merger Sub good and
indefeasible title to the IAI Common Stock, free and clear of all
encumbrances;
(ii) assignments of the Partnership Assets including such bills of
sale with covenants of warranty, assignments, endorsements, and other good
and sufficient instruments and documents of conveyance and transfer, in
form reasonably satisfactory to HCCH and Merger Sub and their counsel, as
they shall deem necessary and effective to transfer and assign to, and vest
in, Merger Sub, all of the Partnership's right, title and interest in and
to the Partnership Assets, including without limitation, good and valid
title in and to all of the Partnership Assets owned by the Partnership,
good and valid leasehold interest in and to all of the Partnership Assets
leased by the Partners as lessee, and all of the Partnership's rights under
all agreements, contracts, commitments, leases, plans, bids, quotations,
proposals, instruments and other documents included in the Partnership
Assets to which GIR is a party or by which it has rights on the Closing
Date, and all of the agreements, contracts, commitments, leases, plans,
bids, quotations, proposals, instruments, computer programs and software,
databases, whether in the form of computer tapes or otherwise, related
object and source codes, manuals and guidebooks, price books and price
lists, customer and subscriber lists, supplier lists, sales records, files,
correspondences, legal opinions, rulings issued by governmental entities,
and other documents, books, records, papers, files, office supplies and
data belonging to GIR which are part of the Partnership Assets, and
simultaneously with such delivery, all such steps will be taken as may be
required to put Merger Sub in actual possession and operating control of
the Partnership Assets;
(iii) non-competition agreements executed by each Seller and those
key employees of the Companies set forth in Section 7.1(j) in form and
substance satisfactory to the Purchasers (the "Non-Competition
Agreements"); and
(iv) such other documents including officers' certificates and
opinions of counsel as may be required by this Agreement or reasonably
requested by HCCH.
(b) The Purchasers shall
(i) cause the Shareholder Cash Payment to be transferred to the
accounts designated by the Shareholders, in immediately available funds;
(ii) deliver to Koopman certificates of HCCH Common Stock in the
amount of the Share Payment. Koopman agrees and understands that such
shares of HCCH
3
<PAGE>
Common Stock shall be restricted as to transfer for a period of two years
and shall bear the appropriate legend as set forth herein;
(iii) cause the escrow payments to be made; and
(iv) deliver to the Shareholders such other documents, including
officers' certificates and opinions of counsel, as may be required by this
Agreement or reasonably requested by the Shareholders.
SECTION 1.4 ESCROW. Pursuant to an Escrow Agreement to be entered into
on or before the Closing Date (as hereinafter defined) in substantially the form
of Exhibit 1.4 (the "Escrow Agreement") among HCCH, Belanger and Smith Barney
Private Trust Company of Florida, as Escrow Agent, HCCH will withhold in cash or
approved investment securities for a period of 24 months following the Closing
Date, an amount equal to 10% of the Purchase Price. On the Closing Date, HCCH
will deposit, or cause to be deposited in escrow pursuant to the Escrow
Agreement, the cash representing the Escrow Amount, provided, however, if the
Purchase Price is reduced pursuant to Section 1.5 the Escrow Amount shall be
similarly reduced to equal 10% of the Adjusted Purchase Price, as herein
defined. The Escrow Amount will be held as collateral for the indemnification
obligations of Belanger pending its release from escrow in accordance with the
terms of the Escrow Agreement.
SECTION 1.5 PURCHASE PRICE ADJUSTMENT.
(a) The Purchase Price shall be subject to adjustment after the Closing
Date as provided in this Section. If the Earnings (as defined in subsection (b)
of this Section 1.5) are less than $3,000,000, the Purchase Price shall be
adjusted to an amount (the "Adjusted Purchase Price") that bears the same ratio
to $22,000,000 that the Earnings bears to $3,000,000. Within five (5) days of
the determination of the Earnings as set forth in a schedule (the "Closing Date
Schedule") prepared by HCCH and Merger Sub and agreed to by Coopers & Lybrand,
LLP, Belanger shall repay to HCCH in immediately available funds the excess, if
any, of $22,000,000 over the Adjusted Purchase Price.
(b) "Earnings" means the aggregate pre-tax earnings of IAI and GIR
for the calendar year ending on December 31, 1997 as shown on audited
financial statements of IAI and GIR prepared by Coopers & Lybrand, LLP in
accordance with generally accepted accounting principles consistently applied
combined for purposes of this calculation and excluding (i) costs relating to
the transaction contemplated by this Agreement which have been accrued as of
December 31, 1997, (ii) accrued employee bonuses associated with the
transaction, and (iii) deferred compensation paid to Koopman in cash or
equity. Each of the Parties agrees to cause Coopers & Lybrand, LLP to audit
or review such financial statements and agree to the Earnings as soon as
practicable and to fully cooperate with Coopers & Lybrand, LLP in connection
therewith. The fees of Coopers & Lybrand, LLP to combine the audited
financial statements shall be paid by GIR. Fees of Coopers & Lybrand, LLP
incurred in connection with the audits of GIR and IAI which are in excess of
amounts accrued at December 31, 1997 for such audits shall be paid by
Belanger.
4
<PAGE>
(c) Following the Closing, the Purchase Price paid by Purchaser at the
Closing shall be adjusted in the manner set forth in Section 1.5(a) as follows:
(i) as soon as practicable but not later than 60 business days
after the Closing Date, Purchaser shall prepare a schedule setting forth
the Earnings and, pursuant to Section 4.1(j), (A) the combined capital
accounts of GIR Partners' and IAI Shareholders' equity and (B) the cash and
cash equivalents as of the opening of business on the Closing Date (the
"Proposed Closing Date Schedule"). The Proposed Closing Date Schedule
shall be prepared in accordance with the same accounting principles as were
utilized in preparing the year-end December 31, 1997 financial statements
and as set forth herein. If the Sellers do not give notice of dispute to
Purchasers within thirty business days after receiving the Proposed Closing
Date Schedule, the Proposed Closing Date Schedule shall be deemed to be
accepted by Sellers and thereupon shall become the Closing Date Schedule.
If Sellers give notice of dispute to Purchasers within such period of
thirty business days, Sellers and Purchasers shall negotiate in good faith
to resolve the dispute and, if such resolution is successful, the Proposed
Closing Date Schedule, as so revised and agreed to by the Parties shall
become the Closing Date Schedule. If, after fifteen days from the date
notice of dispute is given hereunder, Sellers and Purchasers cannot agree
on a resolution of the dispute, then either Sellers or Purchasers may
direct Coopers & Lybrand, LLP to resolve the dispute. Sellers and
Purchasers shall each provide Coopers & Lybrand, LLP with all information
they reasonably require and Coopers & Lybrand, LLP shall be entitled (to
the extent they consider it appropriate) to base their opinion on such
information and on the accounting or other records, and any written
submissions made by the Sellers or Purchasers. The costs associated with
retaining Coopers & Lybrand, LLP in resolving the dispute shall be borne
equally by Sellers and Purchasers. The decision of Coopers & Lybrand, LLP
as to the Closing Date Schedule shall be conclusive and binding upon
Sellers and Purchasers in the absence of any manifest error. If the
Closing Date Schedule demonstrates that the covenants set forth in
Section 4.1(j) have not been satisfied, the Purchase Price shall be
adjusted to cause any such deficiency to be satisfied.
SECTION 1.6 ALLOCATION OF PURCHASE PRICE. The Purchase Price shall be
allocated $4,000,000 to the purchase of the IAI Common Stock and $18,000,000 to
the purchase of the Partnership Assets, or if the Purchase Price is adjusted as
set forth herein, in the same ratios.
ARTICLE II
REPRESENTATIONS AND WARRANTIES OF SELLERS
Except as disclosed in a document referring specifically to this Agreement
(the "Seller Disclosure Schedule") which has been delivered to Purchasers on or
before the date hereof, each of the Sellers (jointly and severally) represents
and warrants to Purchasers as set forth below.
5
<PAGE>
SECTION 2.1 CORPORATE EXISTENCE AND POWER.
(a) IAI is a corporation duly organized and validly existing under the
laws of the state of its incorporation, and has all corporate powers and all
material governmental licenses, authorizations, consents and approvals
(collectively, "Governmental Authorizations") required to carry on its business
as now conducted, except such Governmental Authorizations the failure of which
to have obtained would not have a Material Adverse Effect, as hereinafter
defined, on IAI. Sellers have delivered to Purchasers true and complete copies
of IAI's Articles or Certificate of Incorporation and Bylaws as currently in
effect. IAI is duly qualified to do business as a foreign corporation and is in
good standing in each jurisdiction where the character of the property owned or
leased by it or the nature of its activities makes such qualification necessary,
except where the failure to be so qualified would not have a Material Adverse
Effect on IAI. For purposes of this Agreement, a "Material Adverse Effect,"
with respect to any person or entity (including without limitation IAI, GIR, and
Purchasers), means a material adverse effect on the condition (financial or
otherwise), business, properties, assets, liabilities (including contingent
liabilities), results of operations or prospects of such person or entity; and
"Material Adverse Change" means a change or a development involving a
prospective change which is reasonably likely to result in a Material Adverse
Effect.
(b) GIR is a general partnership formed and existing under the
laws of the state of its organization, and has all partnership powers and all
material Governmental Authorizations required to carry on its business as now
conducted, except such Governmental Authorizations the failure of which to have
obtained would not have a Material Adverse Effect on GIR. Sellers have
delivered to Purchasers copies of the partnership agreement of GIR and all
amendments thereto.
(c) Family L.P. is a limited liability limited partnership formed
and existing under the laws of the state of Georgia and has all powers and all
material Governmental Authorizations required to carry on its business as now
conducted, except such Governmental Authorizations the failure of which to have
obtained would not have a Material Adverse Effect on Family L.P. Sellers have
delivered to Purchasers copies of the limited partnership agreement of Family
L.P. and all amendments thereto.
SECTION 2.2 AUTHORIZATION.
Each Seller represents and warrants that such Seller has full right, power
and authority to enter into this Agreement and each other agreement to be
entered into by such Seller in connection with the transactions contemplated
hereby and that this Agreement and such other agreements contemplated hereby
constitute, or upon execution will constitute, valid and binding agreements of
such Seller, enforceable against such Seller in accordance with their respective
terms, except as such enforcement may be limited by bankruptcy, insolvency or
other similar laws effecting the enforcement of creditors' rights generally or
by general principles of equity.
SECTION 2.3 GOVERNMENTAL AUTHORIZATION. The execution, delivery and
performance by each of the Sellers of this Agreement, and the consummation of
the transactions contemplated
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hereunder require no action by any of the Sellers or the Companies or any
filing by them with any governmental body, agency, official or authority
other than in respect of:
(a) compliance with the applicable requirements of the Hart-Scott-Rodino
Antitrust Improvements Act of 1976, as amended (the "HSR Act");
(b) compliance with any applicable requirements of the Securities Act of
1933, as amended (the "Securities Act") and the rules and regulations
promulgated thereunder;
(c) compliance with any applicable foreign or state securities or "blue
sky" laws;
(d) compliance with any requirements of any federal, state, foreign or
other insurance or reinsurance or intermediaries or managing general agent or
third party administrators' laws, including licensing or other related laws;
(e) such other filings or registrations with, or authorizations,
consents or approvals of, governmental bodies, agencies, officials or
authorities, the failure of which to make or obtain (i) would not reasonably be
expected to have a Material Adverse Effect on either of the Companies, or
(ii) would not materially adversely affect the ability of either of the
Companies or Purchasers to consummate the transactions contemplated hereby and
to operate their businesses as heretofore operated.
SECTION 2.4 NON-CONTRAVENTION. The execution, delivery and performance
by each of the Sellers of this Agreement, and the consummation by each of the
Sellers of the transactions contemplated hereby and thereby do not and will not:
(a) contravene or conflict with IAI's Articles or Certificate of
Incorporation or Bylaws, the partnership agreement of GIR or the limited
partnership agreement of the Family L.P.;
(b) assuming compliance with the matters referred to in Section 2.3,
contravene or conflict with or constitute a violation of any provision of
any law, regulation, judgment, injunction, order or decree binding upon or
applicable to any of the Companies or the Sellers;
(c) conflict with or result in a breach or violation of, or constitute a
default under, or result in a contractual right to cause the termination or
cancellation of or loss of a material benefit under, or right to accelerate, any
material agreement, contract or other instrument binding upon either of the
Companies or any material license, franchise, permit or other similar
authorization held by either of the Companies; or
(d) result in the creation or imposition of any Lien (as hereinafter
defined) on any material asset of either of the Companies;
except, with respect to clauses (b), (c) and (d) above, for contraventions,
defaults, losses, Liens and other matters referred to in such clauses that would
not be reasonably expected to have, in the aggregate, a Material Adverse Effect
on either of the Companies. For purposes of this
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Agreement, the term "Lien" means, with respect to any asset, any mortgage,
lien, pledge, charge, security interest or encumbrance of any kind in respect
of such asset.
SECTION 2.5 CAPITALIZATION.
(a) As of the date of this Agreement, the authorized capital stock of
IAI consists of 10,000 shares of a single class designated as common stock,
1,000 shares of which are issued and outstanding. All of such outstanding
shares are owned by the Shareholders free of any Liens or other encumbrances.
(b) All outstanding shares of IAI have been, or will be prior to the
Closing Date, duly authorized and validly issued and are fully paid and
nonassessable and free from any preemptive rights. Except as set forth in and
as otherwise contemplated by this Agreement, for IAI there are outstanding
(i) no shares of capital stock or other voting securities, (ii) no securities
convertible into or exchangeable for shares of its capital stock or voting
securities, (iii) no options or other rights to acquire, and no obligation to
issue, any capital stock, voting securities or securities convertible into or
exchangeable for its capital stock or other voting securities (the items in
clauses (i), (ii) and (iii) of this subsection (b) being referred to
collectively as the "IAI Securities"), (iv) no obligations to repurchase, redeem
or otherwise acquire any IAI Securities, and (v) no contractual rights of any
person or entity to include any IAI Securities in any registration statement
filed under the Securities Act.
(c) As of the date of this Agreement, all of the Partnership Assets in
GIR are owned by the Sellers free of any Liens or other encumbrances. Except as
set forth in and as otherwise contemplated by this Agreement, for GIR there are
outstanding (i) no interests in GIR, (ii) no securities convertible into
interests in GIR, (iii) no options or other rights to acquire, and no obligation
to issue, any interest in or convertible into or exchangeable for any interest
in GIR (the items in clauses (i), (ii) and (iii) of this subsection (c) being
referred to collectively as the "GIR Securities"), (iv) no obligations to
repurchase, redeem, or otherwise acquire any GIR Securities, and (v) no
contractual rights of any person or entity to include any GIR Securities in any
registration statement filed under the Securities Act.
(d) As of the date of this Agreement, all of the General Partnership and
Limited Partnership interests in the Family L.P. are owned collectively by
Belanger Corporation, Koopman and a public charity free of any Liens or other
encumbrances. Except as set forth in and as otherwise contemplated by this
Agreement, for the Family L.P. there are outstanding (i) no interests in the
Family L.P., (ii) no securities convertible into interests in the Family L.P.,
(iii) no options or other rights to acquire and no obligations to issue any
general or limited partnership interests in or convertible into or exchangeable
for any general or limited partnership interests in the Family L.P. other than
an option provided to the public charity requiring a certain trust to purchase
limited partnership interests at the charity's option. (The items in
clauses (i), (ii) and (iii) of this subsection (d) being referred to
collectively as the "Family L.P. Securities"), (iv) no obligation to repurchase,
redeem, or otherwise acquire any of the Family L.P. Securities, other than said
option held by the public charity, and (v) no contractual rights of any person
or entity to include any of the Family L.P. Securities in any registration
statement filed under the Securities Act.
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SECTION 2.6 SUBSIDIARIES AND JOINT VENTURES.
(a) For purposes of this Agreement, (i) "Subsidiary" means, with respect
to any entity, any corporation of which securities or other ownership interests
having ordinary voting power to elect a majority of the board of directors or
other persons performing similar functions are directly or indirectly owned by
such entity, and (ii) "Joint Venture" means, with respect to any entity, any
corporation or organization (other than such entity and any Subsidiary thereof)
of which such entity or any Subsidiary thereof is, directly or indirectly, the
beneficial owner of 25% or more of any class of equity securities or equivalent
profit participation interest.
(b) As of the date hereof neither IAI nor GIR has any Subsidiary or
Joint Venture.
SECTION 2.7 FINANCIAL STATEMENTS. Sellers have delivered to Purchasers
the audited balance sheets as of December 31, 1997, December 31, 1996, and
December 31, 1995, audited income statements for the annual periods ended
December 31, 1997, December 31, 1996, and December 31, 1995 and unaudited
balance sheets and income statements for the period ending September 30, 1997
for GIR and the unaudited balance sheets as of December 31, 1997, December 31,
1996 and December 31, 1995 and the unaudited income statements for the annual
periods ended December 31, 1997, December 31, 1996 and December 31, 1995 for IAI
(collectively, the "Financial Statements"). For purposes of this Agreement, the
"Balance Sheet Date" shall mean December 31, 1996, unless the Closing Date is
later than January 30, 1998, in which case it shall mean December 31, 1997. The
Financial Statements present fairly in all material respects, substantially in
conformity with generally accepted accounting principles consistently applied
(except as indicated in the notes thereto), the financial position of the
Companies as of the dates thereof and results of operations and cash flows for
the periods therein indicated (subject to normal year-end adjustments in the
case of any interim financial statements and the absence of certain footnotes in
the case of unaudited financial statements). Neither of the Companies has any
material debt, liability or obligation of any nature, whether accrued, absolute,
contingent or otherwise, and whether due or to become due, that is not
reflected, reserved against or disclosed in the Financial Statements except for
(i) those that are not required to be reported in accordance with the aforesaid
accounting principles; (ii) normal or recurring liabilities incurred since
December 31, 1997 in the ordinary course of business or (iii) as disclosed in
the Seller Disclosure Schedule.
SECTION 2.8 ABSENCE OF CERTAIN CHANGES. Since December 31, 1997, each of
the Companies has in all material respects conducted its business in the
ordinary course and there has not been:
(a) any Material Adverse Change with respect thereto or any event,
occurrence or development of a state of circumstances or facts known to any of
the Sellers, which as of the date hereof could reasonably be expected to have a
Material Adverse Effect on either of the Companies;
(b) any declaration, setting aside or payment of any dividend or other
distribution by either of the Companies other than dividend distributions to the
Shareholders and distributions to partners;
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(c) any repurchase, redemption or other acquisition by either of the
Companies of any outstanding shares of capital stock or other securities or
other ownership interests in either of the Companies;
(d) any amendment of any term of any outstanding securities of either
of the Companies;
(e) any damage, destruction or other property or casualty loss (whether
or not covered by insurance) affecting the business, assets, liabilities,
earnings or prospects of either of the Companies which, individually or in the
aggregate, has had or would reasonably be expected to have a Material Adverse
Effect on either of the Companies;
(f) any increase in indebtedness for borrowed money or capitalized lease
obligations of either of the Companies, except in the ordinary course of
business;
(g) any sale, assignment, transfer or other disposition of any tangible
or intangible asset material to the business of either of the Companies, except
in the ordinary course of business and for a fair and adequate consideration;
(h) any amendment, termination or waiver by either of the Companies of
any right of substantial value under any agreement, contract or other written
commitment to which it is a party or by which it is bound which could reasonably
be expected to have a Material Adverse Effect on either of the Companies;
(i) any material reduction in the amounts of coverage provided by
existing casualty and liability insurance policies with respect to the business
or properties of either of the Companies;
(j) any (i) grant of any severance or termination pay to any director,
officer or employee of either of the Companies, (ii) entering into of any
employment, deferred compensation or other similar agreement (or any amendment
to any such existing agreement) with any director, officer or employee of either
of the Companies other than the Non-Competition Agreements contemplated by this
Agreement, (iii) any increase in benefits payable under any existing severance
or termination pay policies or employment agreements, or (iv) any increase in
compensation, bonus or other benefits payable to directors, officers or
employees of either of the Companies, in each case other than in the ordinary
course of business consistent with past practice;
(k) any new or amendment to or alteration of any existing bonus,
incentive, compensation, severance, stock option, stock appreciation right,
pension, matching gift, profit-sharing, employee stock ownership, retirement,
pension group insurance, death benefit, or other fringe benefit plan,
arrangement or trust agreement adopted or implemented by either of the Companies
which would result in a material increase in cost;
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(l) any capital expenditures, capital additions or capital improvements
incurred or undertaken by either of the Companies in excess of $10,000, or any
non-budgeted expenditure in excess of $5,000; or
(m) the entering into of any agreement by either of the Companies or any
person on behalf of either of the Companies to take any of the foregoing
actions;
(n) cancellation or threat of cancellation from any issuing company or
reinsurer that affects more than 10% of either IAI's or GIR's business.
SECTION 2.9 NO UNDISCLOSED LIABILITIES. There are no existing
liabilities of either of the Companies of any kind whatsoever that are,
individually or in the aggregate, material to either of the Companies, other
than:
(a) liabilities disclosed or provided for in the respective audited
financial statements as of and for the fiscal year ended December 31, 1997
(including the notes thereto) of the Companies;
(b) liabilities incurred in the ordinary course of business consistent
with past practice since December 31, 1997;
(c) liabilities under this Agreement or indicated in the Seller
Disclosure Schedule.
SECTION 2.10 LITIGATION. Other than actions, suits, proceedings, claims
or investigations occurring in the ordinary course of business involving
respective amounts in controversy of less than $10,000 each and $100,000 in the
aggregate, there is no action, suit, proceeding, claim or investigation pending
against, nor has any of the Companies or any Seller received written notice of a
claim threatened against either of the Companies or any of its assets or against
or involving any of its officers, directors or employees in connection with the
business or affairs of either of the Companies, including, without limitation,
any such claims for indemnification arising under any agreement to which either
of the Companies is a party. Neither of the Companies has received written
notice that it is subject, or in default with respect, to any writ, order,
judgment, injunction or decree which could, individually or in the aggregate,
have a Material Adverse Effect.
SECTION 2.11 TAXES.
(a) Each of the Companies (i) has filed when due (taking into account
extensions) with the appropriate federal, state, local, foreign and other
governmental agencies, all material tax returns, estimates and reports required
to be filed by it, (ii) either paid when due and payable or established adequate
reserves or otherwise accrued on the Financial Statements all material federal,
state, local or foreign taxes, levies, imposts, duties, licenses and
registration fees and charges of any nature whatsoever, and unemployment and
social security taxes and income tax withholding, including interest and
penalties thereon (each individually a "Tax" and collectively the "Taxes") and
there are no tax deficiencies claimed in writing by any taxing authority that,
in the aggregate, would result in any tax liability in excess of the amount of
the reserves or accruals
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and (iii) has or will establish in accordance with its normal accounting
practices and procedures accruals and reserves that, in the aggregate, are
adequate for the payment of all Taxes not yet due and payable and
attributable to any period preceding the Closing Date. The Seller Disclosure
Schedule sets forth those tax returns for all periods that currently are the
subject of audit by any federal, state, local or foreign taxing authority.
(b) There are no material taxes, interest, penalties, assessments or
deficiencies claimed in writing by any taxing authority to be due in respect of
any tax returns filed by IAI (or any predecessor corporations) or GIR (or any
predecessor). Neither IAI nor any predecessor corporation, has executed or
filed with the Internal Revenue Service ("IRS") or any other taxing authority
any agreement or other document extending, or having the effect of extending,
the period of assessment or collection of any Taxes.
(c) Neither of the Companies is a party to or bound by (or will prior to
the Effective Date become a party to or bound by) any Tax indemnity, Tax sharing
or Tax allocation agreement or other similar arrangement. IAI is not a member
of an affiliated group or filed or been included in a combined, consolidated or
unitary Tax return.
(d) IAI has maintained a valid S election pursuant to the Code since its
incorporation and there is no corporate income tax due from IAI. GIR has
maintained its status as a partnership subject to Subchapter K of the Internal
Revenue Code of 1986, as amended (the "Code") since its organization and no
taxes of any kind are due from GIR.
(e) Each of the Companies will distribute to the Shareholders prior to
Closing an amount determined by Coopers & Lybrand, LLP adequate for the payment
of all Taxes attributable to income of the Companies for the portion of 1998
preceding the Closing and which must be paid by the Shareholders. The Parties
will cooperate with each other and will make reasonable post-Closing adjustments
to provide for actual payments of Taxes once determined.
SECTION 2.12 EMPLOYEE BENEFIT PLANS, ERISA.
(a) Neither of the Companies is a party to any oral or written
(i) employment, severance, collective bargaining or consulting agreement not
terminable on 60 days' or less notice, (ii) agreement with any executive officer
or other key employee of such Company (A) the benefits of which are contingent,
or the terms of which are materially altered, upon the occurrence of a
transaction involving either of the Companies of the nature of any of the
transactions contemplated by this Agreement, (B) providing any term of
employment or compensation guarantee extending for a period longer than one
year, or (C) providing severance benefits or other benefits after the
termination of employment of such executive officer or key employee regardless
of the reason for such termination of employment, (iii) agreement, plan or
arrangement under which any person may receive payments subject to the tax
imposed by Section 4999 of the Code, or (iv) agreement or plan, including,
without limitation, any stock option plan, stock appreciation right plan,
restricted stock plan or stock purchase plan, the benefits of which would be
increased, or the vesting of benefits of which will be accelerated, by the
occurrence of any of the transactions contemplated by this Agreement or the
value of any of
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the benefits of which will be calculated on the basis of any of the
transactions contemplated by this Agreement.
(b) Neither of the Companies nor any corporation or other entity which
under Section 4001(b) of the Employee Retirement Income Security Act of 1974, as
amended ("ERISA"), is under common control with either of the Companies (an
"ERISA Affiliate") maintains or within the past five years has maintained,
contributed to, or been obligated to contribute to, any "Employee Pension
Benefit Plan" ("Pension Plan") or any "Employee Welfare Benefit Plan" ("Welfare
Plan") as such terms are defined in Sections 3(2) and 3(1) respectively of
ERISA, which is subject to ERISA, except as described on Schedule 2.12(b). Each
Pension Plan and Welfare Plan disclosed in Schedule 2.12(b) and the Seller
Disclosure Schedule (which Plans have been heretofore delivered to Purchasers)
and maintained by either of the Companies has been maintained in all material
respects in compliance with their terms and all provisions of ERISA and the Code
(including rules and regulations thereunder) applicable thereto.
(c) No Pension Plan or Welfare Plan is currently subject to an audit or
other investigation by the IRS, the Department of Labor (the "DOL"), the Pension
Benefit Guaranty Corporation or any other governmental agency or office nor are
any such Plans subject to any lawsuits or legal proceedings of any kind or to
any material pending disputed claims by employees or beneficiaries covered under
any such Plan or by any other parties.
(d) No "prohibited transaction," as defined in Section 406 of ERISA or
Section 4975 of the Code, resulting in liability to either of the Companies or
any ERISA Affiliate has occurred with respect to any Pension Plan or Welfare
Plan. None of the Sellers has any knowledge of any breach of fiduciary
responsibility under Part 4 of Title I of ERISA which may result in liability of
either of the Companies or any ERISA Affiliate, any trustee, administrator or
fiduciary of any Pension Plan or Welfare Plan.
(e) Neither of the Companies nor any ERISA Affiliate, since January 1,
1986, has maintained or contributed to, or been obligated or required to
contribute to, a "Multiemployer Plan," as such term is defined in
Section 4001(a)(3) of ERISA. Neither of the Companies nor any ERISA Affiliate
has either withdrawn, partially or completely, or instituted steps to withdraw,
partially or completely, from any Multiemployer Plan nor has any event occurred
which would enable a Multiemployer Plan to give notice of and demand payment of
any withdrawal liability with respect to either of the Companies or any ERISA
Affiliate.
(f) There is no contract, agreement, plan or arrangement covering any
employee or former employee of either of the Companies or any ERISA Affiliate
that, individually or collectively, could give rise to the payment of any amount
that would not be deductible pursuant to the terms of Sections 162(a)(1) or 280G
of the Code.
(g) With respect to either of the Companies and each ERISA Affiliate,
Schedule 2.12(b) and the Seller Disclosure Schedule correctly identifies each
material agreement, policy, plan or other arrangement, whether written or oral,
express or implied, fixed or contingent, to which either of the Companies is a
party or by which either of the Companies or any property or asset of either of
the Companies is bound, which is or relates to a pension,
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option, bonus, deferred compensation, retirement, stock purchase,
profit-sharing, severance pay, health, welfare, incentive, vacation, sick
leave, medical disability, hospitalization, life or other insurance or fringe
benefit plan, policy or arrangement. Each such agreement, policy, plan or
other arrangement has been maintained in all material respects in compliance
with its terms and all provisions of ERISA and the Code (including rules and
regulations thereunder) applicable thereto.
(h) Neither of the Companies nor any ERISA Affiliate maintains or has
maintained or contributed to any Pension Plan that is or was subject to
Section 302 of Title IV of ERISA or Section 412 of the Code. Sellers have made
available to Purchasers, for each Pension Plan which is intended to be
"qualified" within the meaning of Section 401(a) of the Code, a copy of the most
recent determination letter issued by the IRS to the effect that each such Plan
is so qualified and that each trust created thereunder is tax exempt under
Section 501 of the Code, and each of the Sellers is unaware of any fact or
circumstances that would jeopardize the qualified status of each such Pension
Plan or the tax exempt status of each trust created thereunder.
(i) One or more of the benefit plans of the Companies listed in the
Seller Disclosure Schedule may be subject to the Consolidated Omnibus Budget
Reconciliation Act of 1985, as amended ("COBRA"). If so, each such plan has
been operated in, and is in compliance with COBRA. All notices required to be
given under COBRA have been timely and properly given in accordance with COBRA,
and the rules and regulations promulgated thereunder, and no employee, former
employee or "qualified beneficiary" (as defined in COBRA) has any claim or
contingent claim against the Companies or any ERISA Affiliate. Neither Company
provides retiree benefits of any kind, including health, medical, life, etc. and
neither Company has agreed to continue any employee benefits after termination
of employment other than COBRA.
SECTION 2.13 MATERIAL AGREEMENTS.
(a) The Seller Disclosure Schedule includes a complete and accurate list
of all contracts, agreements, leases (other than Property Leases, as hereinafter
defined), and instruments to which either of the Companies is a party or by
which it or its properties or assets are bound (1) which individually involve
net payments or receipts in excess of $25,000 per annum, inclusive of contracts
entered into with customers and suppliers in the ordinary course of business, or
(2) that pertain to employment or severance benefits for any officer, director
or employee of either of the Companies, whether written or oral, but exclusive
of contracts, agreements, leases and instruments terminable without penalty upon
60 days' or less prior written notice to the other party or parties thereto, or
(3) to which Belanger, Koopman or the Selling Corporations are the opposing
contracting party (the "Material Agreements").
(b) Neither of the Companies nor, to the knowledge of any of the
Sellers, any other party is in default under any Material Agreement and no event
has occurred which (after notice or lapse of time or both) would become a breach
or default under, or would permit modification, cancellation, acceleration or
termination of any Material Agreement or result in the creation of any security
interest upon, or any person obtaining any right to acquire, any properties,
assets or rights of either of the Companies, which, in any such case, has had or
would reasonably be expected to have a Material Adverse Effect.
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(c) To the knowledge of each of the Sellers, each such Material
Agreement is in full force and effect and is valid and legally binding and there
are no material unresolved disputes involving or with respect to any Material
Agreement. No party to a Material Agreement has advised either of the Companies
that it intends either to terminate a Material Agreement or to refuse to renew a
Material Agreement upon the expiration of the term thereof. No representation
or warranty is made that all benefits contemplated in the Material Agreements
will be received.
(d) IAI is not in violation of, or in default with respect to, any term
of its Articles of Incorporation or Bylaws. None of the partners of GIR is in
violation of, or in default with respect to, any term of the partnership
agreement of GIR.
SECTION 2.14 PROPERTIES. Neither of the Companies owns any real estate,
and all leases of real property to which either of the Companies is a party or
by which it is bound ("Property Leases") are in full force and effect. There
exists no default under such Property Leases, nor any event (other than the
transactions contemplated by this Agreement) which with notice or lapse of time
or both would constitute a default thereunder, which default would have a
Material Adverse Effect. All of the properties and assets which are owned by
either of the Companies are owned free and clear of any Lien, except for Liens
which do not have a Material Adverse Effect. Each of the Companies has good and
indefeasible title with respect to such owned properties and assets subject to
no Liens, other than those permitted under this Section 2.14, to all of the
properties and assets necessary for the conduct of its business other than to
the extent that the failure to have such title would not have a Material Adverse
Effect.
SECTION 2.15 ENVIRONMENTAL MATTERS.
(a) For the purposes of this Agreement, the following terms have the
following meanings:
"Environmental Laws" shall mean any and all federal, state, local
and foreign statutes, laws (including case law), regulations, ordinances,
rules, judgments, orders, decrees, codes, plans, injunctions, permits,
concessions, grants, franchises, licenses, agreements and governmental
restrictions relating to human health, the environment or to emissions,
discharges or releases of pollutants, contaminants, Hazardous Substances
(as hereinafter defined) or wastes into the environment or otherwise
relating to the manufacture, processing, distribution, use, treatment,
storage, disposal, transport or handling of pollutants, contaminants,
Hazardous Substances or wastes or the clean-up or other remediation
thereof.
"Environmental Liabilities" shall mean all liabilities, whether
vested or unvested, contingent or fixed, actual or potential, which
(i) arise under or relate to Environmental Laws and (ii) relate to actions
occurring or conditions existing on or prior to the Effective Time.
"Hazardous Substances" shall mean any toxic, radioactive, caustic or
otherwise hazardous substance, including petroleum, its derivatives,
by-products and other
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hydrocarbons, or any substance having any constituent elements displaying
any of the foregoing characteristics.
"Regulated Activity" shall mean any generation, treatment, storage,
recycling, transportation, disposal or release of any Hazardous Substances.
(b) No notice, notification, demand, request for information, citation,
summons, complaint or order has been received, no complaint has been filed, no
penalty has been assessed and no investigation or review is pending, or to any
Seller's knowledge, has been threatened by any governmental entity or other
party with respect to any (i) alleged violation of any Environmental Law by
either of the Companies, (ii) alleged failure by either of the Companies to have
any environmental permit, certificate, license, approval, registration or
authorization required in connection with the conduct of its business or
(iii) Regulated Activity of either of the Companies.
(c) Neither of the Companies has any material Environmental Liabilities
and there has been no release of Hazardous Substances into the environment by
either of the Companies or with respect to any of their properties which has
had, or would reasonably be expected to have, a Material Adverse Effect.
SECTION 2.16 LABOR MATTERS. Neither of the Companies is a party to any
collective bargaining agreement or other labor union contract applicable to
persons employed by either of the Companies, nor does any of the Sellers know of
any activities or proceedings of any labor union to organize any such employees.
SECTION 2.17 COMPLIANCE WITH LAWS. Except for violations which do not
have and would not reasonably be expected to have, individually or in the
aggregate, a Material Adverse Effect, neither of the Companies has received any
notice that it is in violation of, or has violated, any applicable provisions of
any laws, statutes, ordinances or regulations or any term of any judgment,
decree, injunction or order binding against it.
SECTION 2.18 TRADEMARKS, TRADENAMES, ETC. Each of the Companies owns or
possesses, or holds a valid right or license to use, all intellectual property,
patents, trademarks, tradenames, service marks, copyrights and licenses, and all
rights with respect to the foregoing, necessary for the conduct of its business
as now conducted, without any known conflict with the rights of others.
SECTION 2.19 SALES NEGOTIATIONS. Except as contemplated by this
Agreement, there are currently no discussions to which either of the Companies
or any of the Sellers is a party relating to (a) the sale of any material
portion of the assets of either of the Companies, (b) any merger, consolidation,
liquidation, dissolution or similar transaction involving either of the
Companies whereby either of the Companies will issue any securities or for which
either of the Companies is required to obtain the approval of its shareholders
or partners, or (c) the sale of any IAI Common Stock or any interest in GIR.
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SECTION 2.20 BROKER'S FEES. None of the Companies or the Sellers nor
anyone acting on the behalf or at the request thereof has any liability to any
broker, finder, investment banker or agent, or has agreed to pay any brokerage
fees, finder's fees or commissions, or to reimburse any expenses of any broker,
finder, investment banker or agent in connection with this Agreement, other than
the finder's fee to be paid by Shareholder to Northington Partners,
Inc./PaineWebber Incorporated at Closing pursuant to Section 7.1(q) hereof.
SECTION 2.21 YEAR 2000 ISSUES. Any software of either of the Companies
will perform in all material respects in accordance with published technical
specifications and any applicable related documentation, both prior to and
following January 1, 2000. Neither of the Companies will experience software
ending and/or invalid and/or incorrect results from any such software in the
operation of their respective businesses based upon change in dates. The
software programming design and performance capabilities of such software to
ensure year 2000 compatibility includes, but is not limited to, date, data
century recognition, calculations which accommodate same century and
multi-century formulas and date values, and date data interface values which
reflect the correct century.
SECTION 2.22 KNOWLEDGE OF THE SELLERS. As used in this Agreement,
"knowledge of the Sellers" means the actual knowledge of Bethany A. Belanger,
Jeffrey F. Koopman, or the following officers of (a) GIR, (b) the managing
partner of GIR, or (c) IAI: the Chief Executive Officer, Chief Operating
Officer, Chief Financial Officer, or any Executive Vice President.
SECTION 2.23 TOTAL ASSETS. The total assets of Sellers and Belanger are
not greater than $10 million as determined in accordance with 16 C.F.R.
Section 801.11.
ARTICLE III
REPRESENTATIONS AND WARRANTIES OF PURCHASERS
Except as disclosed in a document referring specifically to this Agreement
or in a document, exhibit, or appendix filed with the Securities and Exchange
Commission ("SEC") which has been filed on or before the date hereof
(collectively referred to herein as the "Purchasers Disclosure Schedule") which
has been delivered to Shareholder on or before the date hereof, each Purchaser
represents and warrants to the Sellers (it being agreed that the disclosure on
the Purchasers Disclosure Schedule of the existence of any document or fact or
circumstance or situation relating to any representations, warranties, covenants
or agreements in any section of this Agreement shall be automatically deemed to
be disclosure of such document or fact or circumstance or situation for purposes
of all other representations, warranties, covenants and agreements in this
Agreement):
SECTION 3.1 CORPORATE EXISTENCE AND POWER. Each Purchaser is a
corporation duly incorporated, validly existing and in good standing under the
laws of the state of its incorporation. Each Purchaser has all corporate powers
and all material Governmental Authorizations required to carry on its business
as now conducted, except such Governmental Authoriza-
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tions the failure of which to have obtained would not have a Material Adverse
Effect on Purchasers.
SECTION 3.2 CORPORATE AUTHORIZATION. The execution, delivery and
performance by each Purchaser of this Agreement, and the consummation by
Purchaser of the transactions contemplated hereby and thereby are within the
corporate powers of each Purchaser and have been duly authorized by all
necessary corporate action. This Agreement constitutes, or upon execution
will constitute, valid and binding agreements of each Purchaser enforceable in
each case in accordance with their respective terms, except as such
enforcement may be limited by bankruptcy, insolvency or other similar laws
affecting the enforcement of creditors' rights generally or by general
principles of equity.
SECTION 3.3 GOVERNMENTAL AUTHORIZATION. The execution, delivery and
performance by each Purchaser of this Agreement, require no action by or in
respect of, or filing with, any governmental body, agency, official or authority
other than:
(a) compliance with the applicable requirements of the HSR Act;
(b) compliance with any applicable requirements of the Securities
Exchange Act of 1934 (the "Exchange Act") and the rules and regulations
promulgated thereunder;
(c) such other filings or registrations with, or authorizations,
consents or approvals of, governmental bodies, agencies, officials or
authorities, the failure of which to make or obtain (i) would not reasonably be
expected to have a Material Adverse Effect on Purchasers or (ii) would not
materially adversely affect the ability of the Sellers or Purchasers to
consummate the transactions contemplated hereby and operate their businesses as
heretofore operated.
SECTION 3.4 NON-CONTRAVENTION. The execution, delivery and performance
by each Purchaser of this Agreement and the consummation by each Purchaser of
the transactions contemplated hereby and thereby do not and will not:
(a) contravene or conflict with the Certificate of Incorporation or
Bylaws of each Purchaser;
(b) assuming compliance with the matters referred to in Section 3.3,
contravene or conflict with or constitute a violation of any provision of any
law, regulation, judgment, injunction, order or decree binding upon or
applicable to each Purchaser;
(c) conflict with or result in a breach or violation of, or constitute a
default under, or result in a contractual right to cause the termination or
cancellation of or loss of a material benefit under, or right to accelerate, any
material agreement, contract or other instrument binding upon Purchasers or any
other Subsidiary of Purchasers or any material license, franchise, permit or
other similar authorization held by Purchasers or any Subsidiary of Purchasers;
or
(d) result in the creation or imposition of any Lien on any material
asset of Purchasers;
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except, with respect to clauses (b), (c) and (d) above, for contraventions,
defaults, losses, Liens and other matters referred to in such clauses that in
the aggregate would not be reasonably expected to have, individually or in the
aggregate, a Material Adverse Effect on each Purchaser.
SECTION 3.5 BROKER'S FEES. Neither Purchasers, nor anyone acting on the
behalf or at the request thereof has any liability to any broker, finder,
investment banker or agent, or has agreed to pay any brokerage fees, finder's
fees or commissions, or to reimburse any expenses of any broker, finder,
investment banker or agent in connection with the transactions contemplated by
this Agreement.
SECTION 3.6 KNOWLEDGE OF PURCHASERS. As used in this Agreement,
"knowledge of Purchasers" means the actual knowledge of the Chief Executive
Officer, Chief Operating Officer, President, Chief Financial Officer, or any
Executive Vice President of Purchasers.
ARTICLE IV
COVENANTS OF THE SELLERS
SECTION 4.1 CONDUCT OF THE COMPANIES. From the date of the execution of
this Agreement until Closing, the Sellers shall cause the Companies to conduct
their businesses in all material respects in the ordinary course. Without
limiting the generality of the foregoing, from the date hereof until the Closing
or a termination of this Agreement, and except as contemplated by this
Agreement, each of the Sellers shall cause each of the Companies to:
(a) not adopt or propose any change in its Articles or Certificate of
Incorporation or Bylaws or partnership agreement;
(b) not enter into or amend any employment agreements (oral or written)
or increase the compensation payable or to become payable by it to any of its
officers, directors, or consultants over the amount payable as of September 30,
1997, or increase the compensation payable to any other employees (other than
(i) increases in the ordinary course of business which are not in the aggregate
material, or (ii) pursuant to plans disclosed in Seller Disclosure Schedule, or
(iii) payment to Belanger of a salary from January 1, 1998 to Closing of a pro
rated portion of an annual salary of $375,000), or adopt or amend any employee
benefit plan or arrangement (oral or written), or (iv) adopt or amend any
employee benefit plan or arrangement (oral or written), except that the
Companies agree to terminate the Amended and Restated Guarantee Insurance
Resources 401(k) Profit Sharing Plan ("GIR Plan") by appropriate action of such
Boards of Directors or other proper entities prior to the Closing Date (although
the parties understand that liquidation of the GIR Plan and a determination
letter filing with the IRS will occur after the Closing Date);
(c) not issue any IAI Securities or GIR Securities other than such IAI
securities issued to Koopman as compensation for prior services rendered to the
Companies;
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(d) not terminate any existing directors' or officers' or similar
liability insurance and not modify or reduce the coverage thereunder;
(e) not pay any dividend or make any other distribution to holders of
its capital stock or partnership interests in excess of Taxes on 1998 Earnings
up to the Closing as provided in Section 2.11(e) hereof and distributions of
earnings (through dividends or partnership distributions) by the Companies for
periods prior to 1998, nor redeem or otherwise acquire any IAI Securities or
GIR Securities;
(f) not, directly or indirectly, dispose of or acquire any material
properties or assets except in the ordinary course of business;
(g) not incur any additional indebtedness for borrowed money except
pursuant to existing arrangements which have been disclosed to Purchasers prior
to the date hereof;
(h) not (i) change accounting methods except as necessitated by changes
which such Company is required to make in order to prepare its federal, state
and local tax returns; (ii) amend or terminate any contract, agreement or
license to which it is a party (except pursuant to arrangements previously
disclosed in writing to Purchasers or disclosed in the Seller Disclosure
Schedule) except those amended or terminated in the ordinary course of business,
consistent with past practices, or involving changes which are not materially
adverse in amount or effect to such Company individually or taken as a whole;
(iii) lend any amount to any person or entity, other than advances for travel
and expenses which are incurred in the ordinary course of business consistent
with past practices, and which are not material in amount to such Company taken
as a whole, which travel and expenses shall be documented by receipts for the
claimed amounts; (iv) enter into any guarantee or suretyship for any obligation
except for the endorsements of checks and other negotiable instruments in
ordinary course of business, consistent with past practice; (v) waive or release
any material right or claim; (vi) issue or sell any shares of its capital stock
of any class or any other of its securities, or issue or create any warrants,
obligations, subscriptions, options, convertible securities, stock appreciation
rights or other commitments to issue shares of capital stock, or take any action
other than this transaction to accelerate the vesting of any outstanding option
or other security (except pursuant to existing arrangements disclosed in writing
to Purchasers before the date of this agreement); (vii) merge, consolidate or
reorganize with or acquire any entity; (viii) agree to any audit assessment by
any tax authority or file any federal or state income or franchise tax return
unless copies of such returns have been delivered to Purchasers for its review
prior to such agreement or filing; and (ix) terminate the employment of any key
executive employee;
(i) not take any action or engage in any activity which would result in
IAI losing its S corporation status or GIR losing its partnership status for
federal income tax purposes;
(j) not take any action or make any distribution which would cause the
combined GIR partners' capital accounts and IAI Shareholders' equity, determined
in accordance with generally accepted accounting principles, after distribution,
to partners and shareholders as allowed by this Agreement, and exclusive of any
capitalized non-compete or other employment-related compensation, or other
capitalized costs related to payments made pursuant to items (i) to (iii)
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set forth in Section 1.5(b), to be less than $750,000 plus 1998 earnings net
of tax distributions as provided for in Section 4.1(e), $500,000 of which is
to be in cash, cash equivalents or accounts receivable for management fees
which will become cash within ten (10) days of the Closing, excluding the cash
or cash equivalents necessary to pay any liabilities for the items (i) to
(iii) set forth in Section 1.5(b) (whether occurring on or after December 31,
1997), provided, however, that if such amounts as set forth herein are
satisfied, the Company may distribute three automobiles, certain art work and
other mutually agreed to cash or cash equivalents;
(k) not pay for any personal or personal travel expenses of Belanger
after January 1, 1998; and
(l) not, directly or indirectly, agree or commit to do any of the
foregoing.
SECTION 4.2 ACCESS TO FINANCIAL AND OPERATIONAL INFORMATION. The Sellers
will give Purchasers, its counsel, financial advisors, auditors and other
authorized representatives reasonable access during normal business hours to the
offices, properties, books and records of the Companies, will furnish to
Purchasers, its counsel, financial advisors, auditors and other authorized
representatives such financial and operating data as such persons may reasonably
request and will instruct its employees, counsel and financial advisors to
cooperate with Purchasers in its investigation of the businesses of the
Companies and in the planning for the combination of the businesses of the
Companies and Purchasers following the consummation of the transactions
contemplated by this Agreement; PROVIDED that no investigation pursuant to this
Section shall affect any representation or warranty given hereunder. In
addition, following the public announcement of this Agreement or the
transactions contemplated hereby, the Sellers will cooperate in arranging joint
meetings among representatives of the Companies and Purchasers and persons with
whom they maintain business relationships.
SECTION 4.3 OTHER OFFERS.
(a) The Sellers will not, and will not permit either of the Companies
to, directly or indirectly, (i) take any action to solicit, initiate or discuss
any Acquisition Proposal (as hereinafter defined), or (ii) engage in
negotiations with, or disclose any nonpublic information relating to, either of
the Companies or afford access to the properties, books or records of either of
the Companies to, any person or entity that may be considering making, or has
made, an Acquisition Proposal. To the extent that any of the Sellers or either
of the Companies or any of their respective officers, directors, employees or
other agents are currently involved in any discussions with respect to any
Acquisition Proposal or contemplated or proposed Acquisition Proposal, Sellers
shall terminate, and shall cause, where applicable, the Companies and their
respective officers, directors, employees or other agents to terminate, such
discussions immediately. The term "Acquisition Proposal" as used herein means
any offer or proposal for, or any indication of interest in, a merger or other
business combination involving either of the Companies or the acquisition of any
equity interest in, or a substantial portion of the assets of, either of the
Companies other than the transactions contemplated by this Agreement.
SECTION 4.4 MAINTENANCE OF BUSINESS. The Sellers will use reasonable
best efforts to cause each of the Companies to carry on its business, keep
available the services of its officers
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and employees and preserve its relationships with those of its customers,
agents, suppliers, licensors and others having business relationships with it
that are material to its business in substantially the same manner as it has
prior to the date hereof. If any of the Sellers becomes aware of a material
deterioration or facts which are likely to result in a material deterioration
in the relationship with any customers, supplier, licensor or others having
business relationships with it, such Seller will promptly in writing bring
such information to the attention of the Purchasers.
SECTION 4.5 COMPLIANCE WITH OBLIGATIONS. The Sellers shall use
reasonable best efforts to cause each of the Companies to comply in all material
respects with (i) all applicable federal, state, local and foreign laws, rules
and regulations, (ii) all material agreements and obligations, including its
respective charter and bylaws, by which it, its properties or its assets may be
bound, and (iii) all decrees, orders, writs, injunctions, judgments, statutes,
rules and regulations applicable to either of the Companies and its respective
properties or assets.
SECTION 4.6 NOTICES OF CERTAIN EVENTS. Any Seller shall, upon obtaining
knowledge of any of the following, promptly notify Purchasers of:
(a) any notice or other communication from any person alleging that the
consent of such person is or may be required in connection with this Agreement,
(b) any notice or other communication from any governmental or
regulatory agency or authority in connection with this Agreement, and
(c) any actions, suits, claims, investigations or other judicial
proceedings commenced or threatened against either of the Companies which, if
pending on the date of this Agreement, would have been required to have been
disclosed pursuant hereto or which relate to the consummation of transactions
contemplated by this Agreement.
SECTION 4.7 NECESSARY CONSENTS. After the Closing Date, each of the
Sellers shall use reasonable best efforts to obtain such written consents and
take such other actions as may be necessary or appropriate to allow Purchasers
to hold and carry on the acquired businesses after the Closing.
SECTION 4.8 REGULATORY APPROVAL. Each of the Sellers will, and will
cause each of the Companies to, where required pursuant to the rules or
regulations of any regulatory agency, execute and file, or join in the execution
and filing, with any application or other document that may be necessary in
order to obtain any Governmental Authorization which may be reasonably required,
or which Purchasers may reasonably request, in connection with the consummation
of the transaction provided for in this Agreement. Each of the Sellers will,
and will cause each of the Companies to, use reasonable best efforts to obtain
or assist Purchasers in obtaining all such Governmental Authorizations.
SECTION 4.9 SATISFACTION OF CONDITIONS PRECEDENT. Each of the Sellers
shall use all reasonable efforts to cause the transactions provided for in this
Agreement to be consummated, and, without limiting the generality of the
foregoing to obtain all consents and authorizations of
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third parties and to make all filings with, and give all notices to, third
parties that may be necessary or reasonably required on its part in order to
effect the transactions provided for herein.
ARTICLE V
COVENANTS OF PURCHASERS
SECTION 5.1 CONDUCT OF PURCHASERS. From the date hereof until the
Closing or a termination of this Agreement, Purchasers shall in all material
respects conduct its business in the ordinary course, PROVIDED, HOWEVER, THAT
nothing in this Agreement shall be construed to prohibit or otherwise restrain
Purchasers in any manner from acquiring other businesses or substantially all of
the assets thereof.
ARTICLE VI
COVENANTS OF PURCHASERS AND SELLERS
SECTION 6.1 ADVICE OF CHANGES. Each Party will promptly advise the
others in writing (i) of any event known to it, him or her or any of its
executive officers occurring subsequent to the date of this Agreement that in
its reasonable judgment renders any representation or warranty of such Party
contained in this Agreement, if made on or as of the date of such event or the
Closing Date, untrue, inaccurate or misleading in any material respect and
(ii) of any Material Adverse Change in the business condition of the Party or
(in the case of either Shareholder) of either of the Companies.
SECTION 6.2 REGULATORY APPROVALS. The Parties shall execute and file,
or join in the execution and filing of, any application or other document
that may be necessary in order to obtain the authorization, approval or consent
of any governmental body, federal, state, local or foreign, which may be
required or reasonably requested by Purchasers in connection with the
consummation of the transactions contemplated by this Agreement, including
filings under the HSR Act, if determined to be applicable by counsel for
Purchasers. Each Party shall use its reasonable best efforts to obtain all such
authorizations, approvals and consents, and the costs therefor shall be paid by
Purchasers.
SECTION 6.3 CERTAIN FILINGS. The Parties shall cooperate with one
another:
(a) in determining whether any action by or in respect of, or filing
with, any governmental body, agency or official, or authority is required, or
any actions, consents, approvals or waivers are required to be obtained from
Parties to any material contracts, in connection with the consummation of the
transactions contemplated by this Agreement; and
(b) in seeking any such actions, consents, approvals or waivers or
making any such filings, furnishing information required in connection therewith
and seeking timely to obtain any such actions, consents, approvals or waivers.
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SECTION 6.4 COMMUNICATIONS. None of the Sellers or the Companies shall
make any disclosure to the public or to any person or entity, other than their
officers, employees, or advisors who need to know such information in connection
with the negotiation and consummation of the transactions contemplated by this
Agreement, of the negotiation, execution, terms, or subject matter of this
Agreement without the prior written consent of Purchasers. Unless required by
law, prior to consummation, Purchasers shall not make any further public
announcement in connection with the negotiation and consummation of the
transactions contemplated by this Agreement, without the prior consent of
Belanger, which consent shall not be unreasonably withheld or delayed.
Notwithstanding the foregoing, Sellers and Purchasers shall have the right to
disclose the transaction contemplated by this Agreement to the insurers,
reinsurers, brokers, agents and third-party administrators that work with GIR
and IAI, and Purchasers shall have the right to disclose the transaction
contemplated by this Agreement to financial analysts, lenders, regulating
agencies, and its shareholders.
SECTION 6.5 SATISFACTION OF CONDITIONS PRECEDENT. Each of the Parties
will use its reasonable best efforts to satisfy or cause to be satisfied all the
conditions precedent that are applicable to each of them, and to cause the
transactions contemplated by this Agreement to be consummated, and, without
limiting the generality of the foregoing, to obtain all material consents and
authorizations of third parties and to make filings with, and give all notices
to, third parties that may be necessary or reasonably required on its part in
order to effect the transactions contemplated hereby.
SECTION 6.6 TAX COOPERATION. The Parties shall cooperate in the
preparation, execution and filing of all returns, questionnaires, applications
or other documents regarding any sales, use, transfer, value added, stock
transfer or stamp taxes, any transfer, recording, registration or other fees,
and any similar taxes or fees which become payable in connection with the
transactions contemplated by this Agreement. The Parties shall also cooperate
in the preparation of income and franchise tax returns for 1998, including the
preparation of short-year returns for the portion of 1998 preceding the Closing.
Sellers agree that prior or subsequent to the Closing, they shall take all
actions required and necessary in order to make an effective Section 338(h)(10)
election under the Code with respect to purchase of the IAI Common Stock, if
requested by Purchasers. The Sellers agree to cause GIR, upon request by
Purchasers at or following the Closing and as permitted by the Code, to make an
election under Section 754 of the Code to adjust the basis of property of GIR.
SECTION 6.7 CONFIDENTIALITY. Between the date of this Agreement and the
Closing Date, each Party, and each of the Companies, will maintain in
confidence, and cause its directors, officers, employees, agents, and advisors
to maintain in confidence, and not use to the detriment of another Party, any
written or oral or other information obtained in confidence from another Party
or either of the Companies in connection with this Agreement or the transactions
contemplated hereby unless (1) such information is already known to such party
or to others not bound by a duty of confidentiality, (2) such information
becomes publicly available through no fault of such Party, (3) the use of such
information is necessary or appropriate in making any filing or obtaining any
consent or approval required for the consummation of the transaction
contemplated hereby, or (4) the furnishing or use of such information is
required by or necessary or appropriate in connection with legal proceedings.
Upon a termination of this Agreement, each
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Party will return or destroy as much of such written information as may be
reasonably requested. Whether or not the Closing takes place, Sellers and
each of the Companies waive any cause of action, right or claim arising out of
the access of Purchasers or its representatives to any trade secrets or other
confidential information of either of the Companies except for the intentional
competitive misuse by Purchasers of such trade secrets or confidential
information.
ARTICLE VII
CONDITIONS TO CLOSING
SECTION 7.1 CONDITIONS TO OBLIGATIONS OF PURCHASERS. The obligations of
Purchasers hereunder are subject to the fulfillment or satisfaction, on and as
of the Closing Date, of each of the following conditions (any one or more of
which may be waived by Purchasers, but only in a writing signed by Purchasers):
(a) The representations and warranties contained in Article II remain
true and accurate in all material respects on and as of the Closing Date with
the same force and effect as if they had been made on the Closing Date (except
to the extent a representation or warranty speaks specifically as of an earlier
date and except for changes contemplated by this Agreement) and Sellers shall
have provided Purchasers with a certificate, dated as of the Closing Date, to
such effect.
(b) Sellers shall have performed and complied in all material respects
with all of their covenants contained herein required to be performed on or
before the Closing Date, and Purchasers shall have received a certificate to
such effect signed by each of the Sellers.
(c) Except as set forth in the Seller Disclosure Schedule, there shall
have been no Material Adverse Change in either of the Companies since
December 31, 1997.
(d) All written consents, assignments, waivers or authorizations, other
than Governmental Authorizations, that are required as a result of the
transaction contemplated by this Agreement for the continuation in full force
and effect of any Material Agreements shall have been obtained.
(e) Purchasers shall have received an opinion of counsel to Sellers and
the Companies in form and substance satisfactory to Purchasers.
(f) All underwriting agreements of either of the Companies in force on
the date hereof shall be in force on the Closing Date, except for such
agreements which have been replaced with agreements of similar like and kind.
(g) The Companies shall have received and delivered to Purchasers the
special purpose opinion of Coopers & Lybrand, LLP on the combined financial
statements of GIR and IAI and the related supplemental schedules for the years
ended December 31, 1997 and 1996.
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(h) Sellers shall have arranged for Purchasers' review of the Coopers &
Lybrand, LLP audit workpapers for IAI and GIR for each of fiscal year 1997 and
the three prior fiscal years for GIR.
(i) Until the Closing, IAI shall continue to qualify as an S corporation
and GIR shall continue to constitute a partnership for federal income tax
purposes.
(j) Sellers shall have transferred all the IAI Common Stock and
Partnership Assets to Purchasers, free and clear of all Liens and encumbrances
other than the permitted encumbrances, with transfer taxes, if any, paid by
Sellers. No claim shall have been filed, made or threatened by any person or
entity asserting that he, she or it is entitled to any part of the Purchase
Price paid for the IAI Common Stock or any of the Partnership Assets.
(k) Belanger, Koopman and J. Martin Taylor, Denise Richard, Lawrence
Stewart, Lynn Nelson-Lund and Mark R. Sanderford (collectively, the "Employees")
and such other key employees of the Companies as Purchasers shall require shall
each have executed and delivered to Purchasers a Non-Competition Agreement in
form and substance reasonably satisfactory to Purchasers, and all employment or
consulting agreements of either of the Companies other than those described on
the Sellers' Disclosure Schedule shall have been terminated without any payment
by or further obligation of either of the Companies.
(l) Shareholders shall have furnished Purchasers with evidence of such
consents as Shareholders shall know, or Purchasers shall determine, to be
required to enable Purchasers to continue to enjoy the benefit of any lease,
license, permit, contract or other agreement or instrument to or of which either
of the Companies is a party or beneficiary and which can, by its terms (with
consent) and consistent with applicable law, be so enjoyed after the transfer of
the IAI Common Stock and Partnership Assets to Purchasers. If there is in
existence any material lease, governmental license, permit or contract that by
its terms or applicable law, expires, terminates or is otherwise rendered
invalid upon the transfer of the IAI Common Stock or the Partnership Assets to
Purchasers, and such lease, license, permit, or contract is required in order
for the business of either of the Companies to continue to be conducted
following the transfer of the IAI Common Stock and Partnership Assets in the
same manner as conducted previously, Purchasers shall have obtained, or been
furnished by Shareholders an equivalent of, that lease, license, permit, or
contract effective as of and after the Closing Date.
(m) Purchasers shall have received resignations of all persons who are
officers or directors, as applicable, of IAI and GIR immediately prior to the
Closing.
(n) Purchasers shall have received general releases in favor of each of
the Companies and Purchasers executed by each of the Sellers and any such other
employees, officers or directors of the Companies as Purchasers may designate in
writing at the time this Agreement is executed. Those releases will not relate
to rights or obligations arising under this Agreement.
(o) Purchasers shall have received possession of all corporate,
accounting, business and tax records of each of the Companies.
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(p) The form and substance of all actions, proceedings, instruments and
documents required to consummate the transactions contemplated by this Agreement
shall have been satisfactory in all reasonable respects to Purchasers and
Purchasers' counsel.
(q) The Shareholders shall have paid to Northington Partners,
Inc./PaineWebber Incorporated ("NP/PW") from funds other than the Purchase Price
all amounts claimed by NP/PW to be due to NP/PW in connection with the
transactions contemplated by this Agreement and shall have delivered to
Purchasers a release executed by NP/PW to that effect satisfactory to
Purchasers.
(r) Purchasers shall have received an Investment Agreement from Koopman.
(s) Purchasers shall have received an agreement from Belanger whereby
Belanger agrees that if at any time during the first twelve months after the
Closing Date, Koopman is no longer working for Merger Sub whether or not Koopman
has voluntarily or involuntarily been terminated, and whether or not such
termination is with or without cause, then and in such event Belanger shall
agree for a period of twelve months subsequent to the date of Koopman's
termination to provide to Merger Sub up to 500 hours of time, as provided in a
Consulting Agreement between Purchasers and Belanger. Belanger shall receive no
compensation for providing such time but shall have expenses reimbursed as set
forth in such agreement.
(t) Belanger shall have provided the amount set forth on Schedule 7.1(t)
to those persons set forth on such Schedule.
SECTION 7.2 CONDITIONS TO OBLIGATIONS OF SELLERS. The Sellers'
obligations hereunder are subject to the fulfillment or satisfaction, on and as
of the Closing Date, of each of the following conditions (any one or more of
which may be waived, but only in a writing signed by such Party):
(a) The representations and warranties of Purchasers set forth herein
shall be true and accurate in all material respects on and as of the Closing
Date with the same force and effect as if they had been made on the Closing Date
(except to the extent a representation or warranty speaks specifically as of an
earlier date and except for changes contemplated by this Agreement) and
Purchasers shall have provided the Sellers with a certificate executed by the
President and the Chief Financial Officer of Purchasers, dated as of the Closing
Date, to such effect. For the purposes of determining the accuracy of the
representations and warranties of Purchasers, any change or effect in the
business of Purchasers that results in substantial part as a consequence of the
public announcement or pendency of the transactions contemplated hereby shall
not be deemed a Material Adverse Change or Material Adverse Effect or other
breach of representation or warranty with respect to Purchasers.
(b) Purchasers shall have performed and complied with all of its
covenants contained herein in all material respects on or before the Closing
Date, and the Sellers shall have received a certificate to such effect signed by
Purchasers' President and Chief Financial Officer.
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(c) The Shareholders shall have received from Winstead Sechrest & Minick
P.C., counsel to Purchasers, an opinion in form and substance satisfactory to
the Shareholders.
(d) The form and substance of all actions, proceedings, instruments and
documents required to consummate the transactions contemplated by this Agreement
shall have been satisfactory in all reasonable respects to the Shareholders and
their counsel.
SECTION 7.3 CONDITIONS TO OBLIGATIONS OF EACH PARTY. The respective
obligations of the Parties hereunder are subject to the fulfillment, on and as
of the Closing Date, of each of the following conditions (any one or more of
which may be waived by such Parties, but only in a writing signed by such
Parties):
(a) No statute, rule, regulation, executive order, decree, injunction or
restraining order shall have been enacted, promulgated or enforced (and not
repealed, superseded or otherwise made inapplicable) by any court or
governmental authority which prohibits the consummation of the transaction
contemplated by this Agreement (each Party agreeing to use its reasonable best
efforts to have any such order, decree or injunction lifted).
(b) There shall have been obtained any and all Governmental
Authorizations, permits, approvals and consents of securities or "blue sky"
commissions of any jurisdiction and of any other governmental body or agency,
that may reasonably be deemed necessary so that the consummation of the
transaction contemplated by this Agreement will be in compliance with applicable
laws, the failure to comply with which would have a Material Adverse Effect on
Purchasers, IAI, or GIR or would be reasonably likely to subject any of
Purchasers, IAI, GIR or any of their respective directors or officers to
penalties or criminal liability.
ARTICLE VIII
TERMINATION OF AGREEMENT
SECTION 8.1 TERMINATION. This Agreement may be terminated at any time
prior to the Closing Date:
(a) By the mutual consent of the Shareholders and Purchasers.
(b) By Purchasers or by the Shareholders if there has been a material
breach by the other of any representation or warranty contained in this
Agreement, which in either case cannot be, or has not been, cured within 15 days
after written notice of such breach is given to the Party committing such
breach, provided that the right to effect such cure shall not extend beyond the
date set forth in subparagraph (c) below.
(c) By Purchasers or by the Shareholders if all conditions of Closing
required by Article VII hereof have not been met or waived by March 10, 1998
(the "Termination Date"), PROVIDED, HOWEVER, that neither Purchasers nor the
Shareholders, shall be entitled to terminate this
28
<PAGE>
Agreement pursuant to this subparagraph (c) if such Party is in willful and
material violation of any of its representations, warranties or covenants in
this Agreement.
(d) If any governmental authority shall have issued an order, decree or
ruling or taken any other action permanently enjoining, restraining or otherwise
prohibiting the transactions contemplated by this Agreement and such order,
decree, ruling or other action shall have become final and nonappealable.
SECTION 8.2 EFFECT OF TERMINATION. Upon termination of this Agreement
pursuant to this Article VIII, this Agreement shall be void and of no effect and
shall result in no obligation of or liability to any Party or their respective
directors, officers, employees, agents or shareholders, unless such termination
was the result of an intentional breach of any representation, warranty or
covenant in this Agreement, in which case the Party who breached the
representation, warranty or covenant shall be liable to the other Parties for
damages, and all costs and expenses incurred in connection with the preparation,
negotiation, execution and performance of this Agreement.
ARTICLE IX
CLOSING MATTERS
SECTION 9.1 THE CLOSING. Subject to termination of this Agreement as
provided in Article VIII above, the closing of the transactions provided for
herein (the "Closing") will take place at the offices of Winstead Sechrest &
Minick P.C., 910 Travis Street, Suite 2400, Houston, Texas 77002 at 9:00 a.m.,
Houston Time on March 6, 1998, or, if all conditions to Closing have not been
satisfied or waived by such date, such other place, time and date as the
Shareholders and Purchasers may mutually select (the "Closing Date"). Such
Closing may, with the consent of all Parties, take place by delivery and
exchange of documents by facsimile transmission with originals to follow by
overnight mail service courier.
ARTICLE X
INDEMNIFICATION AND
REMEDIES, CONTINUING COVENANTS
SECTION 10.1 SELLERS' AGREEMENT TO INDEMNIFY.
(a) Subject to the limitations set forth in this Article X, from and
after the Closing Date until the Final Date, each Seller will indemnify and hold
harmless Purchasers and its respective officers, directors, agents and
employees, and each person, if any, who controls or may control Purchasers
within the meaning of the Securities Act (hereinafter referred to individually
as a "Company Indemnified Person" and collectively as "Company Indemnified
Persons") from and against any and all claims, demands, actions, causes of
action, losses, costs, damages, liabilities and expenses including, without
limitation, reasonable legal fees, (net of: (i) any
29
<PAGE>
recoveries under insurance policies; (ii) recoveries from third parties; and
(iii) tax savings known to Company Indemnified Persons at the time of making
of claims hereunder) made against or incurred by Company Indemnified Persons
(hereafter in this Section 10.1 referred to as "Purchasers Damages"), arising
out of any misrepresentation or breach of or default under any of the
representations, warranties, covenants or agreements given or made in this
Agreement or any certificate or exhibit delivered by or on behalf of any
Seller pursuant hereto. The indemnification provided for in this Section 10.1
will not apply unless and until the aggregate Purchasers Damages for which
one or more Company Indemnified Persons seeks indemnification exceeds $75,000
in the aggregate, in which event the indemnification provided for will
include all Purchasers Damages (a "Franchise Deductible"). The aggregate
liability of the Sellers for indemnification under this Agreement shall not
exceed the Purchase Price. The Company Indemnified Persons are only entitled
to be reimbursed for the actual indemnified expenditures or damages incurred
by them for the above described losses. Such Company Indemnified Persons are
not entitled to consequential, special, or other speculative or punitive
categories of damages.
(b) Sellers further agree to indemnify and hold harmless Purchasers and
all Company Indemnified Persons, without regard to the Franchise Deductible for
any damages, liabilities, fines, costs, losses or other expense incurred in
connection with: (i) the termination, if any, of employment of Martin Taylor or
Don O'Donovan at any time before or within twelve months of the Closing; or (ii)
a breach of the representation set forth in Section 2.11 (Taxes); (iii) Sellers,
GIR, or the Companies failing to have obtained or maintained any license or
other Governmental Authorization, and (iv) any costs not set forth on Sellers'
Financial Statements for failing to provide software that satisfies in full the
representations set forth in Section 2.21, whether or not a limitation is set
forth on the Disclosure Schedule; and for liability in excess of the Franchise
Deductible for all actions, suits, proceedings, claims or investigations
covered by Section 2.10 whether or not set forth on a Disclosure Schedule.
SECTION 10.2 PURCHASERS AGREEMENT TO INDEMNIFY. Subject to the
limitations set forth in this Article X, from and after the Closing Date until
the Final Date Purchasers will indemnify and hold harmless IAI, the Selling
Corporations, and the Shareholders and their respective officers, shareholders,
directors, administrators, heirs, personal representatives, successors and
assigns (hereinafter in this Section 10.2 referred to individually as a
"Purchasers Indemnified Person" and collectively as "Purchasers Indemnified
Persons") from and against any and all claims, demands, actions, causes of
action, losses, costs, damages, liabilities and expenses including, without
limitation, reasonable legal fees (net of: (i) any recoveries under insurance
policies; (ii) recoveries from third parties; and (iii) tax savings known to
Purchasers Indemnified Persons at the time of making a claim hereunder)
(hereafter in this Section 10.2 referred to as "Seller Damages") arising out of
any misrepresentation or breach of or default under any of the
representations, warranties, covenants and agreements given or made by
Purchasers in this Agreement or any certificate or exhibit delivered by or on
behalf of Purchasers pursuant hereto. The indemnification provided for in
this Section 10.2 will not apply unless and until the aggregate Seller
Damages for which one or more Purchasers Indemnified Person seeks
indemnification exceeds $75,000 in the aggregate, in which event the
indemnification provided for will include all Seller Damages (a franchise
deductible). The aggregate liability of Purchasers for indemnification under
this Agreement shall not exceed the Purchase Price. The Purchasers
30
<PAGE>
Indemnified Persons are only entitled to be reimbursed for the actual
indemnified expenditures or damages incurred by them for the above described
losses. Such Purchasers Indemnified Persons are not entitled to
consequential, special, or other speculative or punitive categories of
damages.
SECTION 10.3 SURVIVAL OF REPRESENTATIONS. The right to enforce the breach
of each representation, warranty, covenant and agreement set forth in this
Agreement will remain operative and in full force and effect for the maximum
period permitted by applicable law after the Closing except that the right to
enforce a breach of any representation or warranty in Section 2.12 (Employee
Benefit Plans, ERISA) shall not expire (the last date of such applicable period
being herein called the "Final Date"), regardless of any investigation made by
or on behalf of the Parties to this Agreement, upon which Final Date such
representations, warranties, covenants and agreements shall expire and be of no
further force and effect. Any litigation or other action of any kind arising
out of or attributable to a breach of any representation, warranty, covenant or
agreement contained in this Agreement, must be commenced prior to the Final
Date. If not so commenced prior to the Final Date, any claims or
indemnifications brought under this Article X will thereafter conclusively be
deemed to be waived regardless of when such claim is or should have been
discovered. Any such claim for indemnification brought under this Article X,
brought before the Final Date, shall survive until a final resolution of such
claim is effective. As set forth herein, no investigation by any Party hereto
into the business, operations and conditions of the other Party shall diminish
in any way the effect of any representation or warranty made by any such Party
in this Agreement or shall relieve any Party of any of its obligations under
this Agreement.
SECTION 10.4 PROCEDURE FOR INDEMNIFICATION; THIRD PARTY CLAIMS.
(a) Promptly after receipt by an indemnified person under this Article X
of notice of a claim against it for which such person claims indemnification
under this Article X (a "Claim"), the indemnified person will give prompt
written notice to the indemnifying Party of the Claim, but the failure to
promptly notify the indemnifying Party will not relieve the indemnifying Party
of any liability that it may have to any indemnified person, except to the
extent that the indemnifying Party demonstrates that the defense of such action
is prejudice by the indemnified person's failure to give such prompt notice.
Such notice shall contain a description in reasonable detail of facts upon which
such Claim is based and, to the extent known, the amount thereof.
(b) If any Claim referred to in this Article X is made by a third party
against either Purchasers or Sellers, Purchasers shall in all circumstances
assume the defense of the Claim. Sellers shall have the right to participate in
the defense of any Claim that might result in an indemnified loss under
Section 10.1 of this Agreement, but in such event Sellers shall pay for their
nonlegal costs and expenses incurred in connection with such participation.
31
<PAGE>
ARTICLE XI
ALTERNATIVE DISPUTE RESOLUTION
SECTION 11.1 NEGOTIATION. In the event that any controversy or claim
between or among the Parties (including, without limitation, any disputed claim
for indemnification) should arise out of the interpretation of or performance
under this Agreement for which no method of resolution is specifically provided
elsewhere in this Agreement, the Parties will refrain from initiating any legal
or other proceeding until all of the procedures set forth in this Article XI
have been exhausted. The parties to the dispute, including officers of each
such party who are authorized to negotiate and enter into a settlement on
behalf of such party (the "Authorized Officers"), will meet at least once and
will attempt to resolve the matter. Any party to the controversy may, by
delivery to each other party to the controversy of a written notice of the
controversy, request the other(s) to meet within fifteen (15) days of
delivery of such notice, at a mutually agreed time and place in Houston,
Texas.
SECTION 11.2 ARBITRATION AND MEDIATION. If the matter has not been
resolved by negotiation within sixty (60) days of delivery of the notice
described in Section 11.1, the Parties shall finally settle such dispute by
binding arbitration conducted expeditiously by a sole arbitrator in
accordance with the then-current Commercial Arbitration Rules (including the
Supplementary Procedures for Large, Complex Disputes) of the American
Arbitration Association (the "AAA"). The place of arbitration shall be
Houston, Texas, unless some other location is mutually selected. At any time
during the pendency of the arbitration proceeding, any party to the
controversy may make a request for non-binding mediation in accordance with
the then-current Commercial Mediation Rules of the AAA. Upon the making or
receipt of a request for mediation, the parties to the controversy, including
the Authorized Officers, shall endeavor to settle the dispute by holding at
least one mediation session no later than thirty (30) days following delivery
of the mediation request.
SECTION 11.3 EXTENSION OF DEADLINES. All deadlines specified in this
Article XI may be extended by mutual agreement of the parties to the
controversy.
SECTION 11.4 OTHER RELIEF; STATUTES OF LIMITATIONS. Except as otherwise
allowed by this Agreement, the procedures specified in this Article XI shall be
the sole and exclusive procedures for the resolution of disputes between or
among the Parties arising out of or relating to this Agreement; provided,
however, that a Party may seek a preliminary injunction or other preliminary
judicial relief for the purpose of maintaining the status quo if in its judgment
such action is necessary to avoid irreparable damage. Despite such action, the
Parties will continue to participate in good faith in the procedures specified
in this Article XI. All applicable statutes of limitation shall be tolled while
the procedures specified in this Article XI are pending. The Parties will take
such action, if any, required to effectuate such tolling. Upon the entry of an
award in any arbitration proceeding, the recipient may file an action in any
court of competent jurisdiction for enforcement of the award.
SECTION 11.5 COSTS. The cost of the mediation and arbitration will be
shared equally by the parties to the controversy or claim.
32
<PAGE>
ARTICLE XII
MISCELLANEOUS
SECTION 12.1 FURTHER ASSURANCES. Each Party agrees to cooperate fully
with the other Parties and to execute such further instruments, documents and
agreements and to give such further written assurances as may be reasonably
requested by any other Party to better evidence and reflect the transactions
described herein and contemplated hereby and to carry into effect the intents
and purposes of this Agreement.
SECTION 12.2 FEES AND EXPENSES. Until otherwise agreed by the Parties,
each Party shall bear its own fees and expenses, including counsel fees and fees
of brokers and investment bankers contracted by such Party, in connection with
the transaction contemplated hereby.
SECTION 12.3 NOTICES. Whenever any Party hereto desires or is required to
give any notice, demand, or request with respect to this Agreement, each such
communication shall be in writing and shall be effective only if it is delivered
by personal service or mailed, United States registered or certified mail,
postage prepaid, or sent by prepaid overnight courier with delivery confirmation
or confirmed telecopier (except that notices concerning Claims or
indemnifications shall not be given by telecopier), addressed as follows:
If to Purchasers or Merger Sub:
HCC Insurance Holdings, Inc.
13403 Northwest Freeway
Houston, Texas 77040-6094
Telecopy: (713) 462-2401
Attention: Frank J. Bramanti, Executive Vice President
With a copy to (which shall not constitute notice):
Winstead Sechrest & Minick P.C.
910 Travis, Suite 2400
Houston, Texas 77002-5895
Telecopy: (713) 650-2400
Attention: Arthur S. Berner, Esq.
If to any of the Sellers:
Bethany A. Belanger
3794 Baccurate Place
Marietta, Georgia 30062
Telecopy: (770) 642-8499
33
<PAGE>
With a copy to (which shall not constitute notice):
Menden & Freiman, LLP
Two Ravinia Drive, Suite 1200
Atlanta, Georgia 30346
Telecopy: (770) 379-1455
Attention: George D. Menden, Esq.
Such communications shall be effective when they are received by the
addressee thereof. Any Party may change its address for such communications
by giving notice thereof to other Parties in conformity with this Section.
SECTION 12.4 GOVERNING LAW. The internal laws of the State of Texas
(without regard to its choice of law principles) will govern the validity of
this Agreement, the construction of its terms, and the interpretation and
enforcement of the rights and duties of the Parties hereto. Any dispute arising
hereunder shall lie exclusively in the state courts of the State of Texas.
SECTION 12.5 BINDING UPON SUCCESSORS AND ASSIGNS, ASSIGNMENT. This
Agreement and the provisions hereof shall be binding upon each of the Parties,
their permitted successors and assigns. This Agreement may not be assigned by
any Party without the prior consent of the other.
SECTION 12.6 SEVERABILITY. If any provision of this Agreement, or the
application thereof, shall for any reason or to any extent be invalid or
unenforceable, the remainder of this Agreement and application of such provision
to other persons or circumstances shall continue in full force and effect and in
no way be affected, impaired or invalidated.
SECTION 12.7 ENTIRE AGREEMENT. This Agreement and any other agreement and
instrument referenced herein constitute the entire understanding and agreement
of the Parties with respect to the subject matter hereof and supersede all prior
and contemporaneous agreements or understandings, inducements or conditions,
express or implied, written or oral, between Parties with respect hereto.
SECTION 12.8 AMENDMENT AND WAIVERS. Any term or provision of this
Agreement may be amended, and the observance of any term of this Agreement may
be waived (either generally or in a particular instance and either retroactively
or prospectively) only by a writing signed by all Parties hereto in the case of
an amendment or the Party waiving compliance in the case of a waiver. The
waiver by any Party of any breach hereof or default in the performance hereof
shall not be deemed to constitute a waiver of any other default or any
succeeding breach or default, unless such waiver so expressly states.
SECTION 12.9 NO WAIVER. The failure of any Party to enforce any of the
provisions hereof shall not be construed to be a waiver of the right of such
Party thereafter to enforce such provisions.
34
<PAGE>
SECTION 12.10 CONSTRUCTION OF AGREEMENT. A reference to an Article,
Section or an Exhibit shall mean an Article of, a Section in, or Exhibit to,
this Agreement unless otherwise explicitly set forth. The titles and headings
herein are for reference purposes only and shall not in any manner limit the
construction of this Agreement which shall be considered as a whole. The words
"include," "includes" and "including" when used herein shall be deemed in each
case to be followed by the words "without limitation."
SECTION 12.11 COUNTERPARTS. This Agreement may be executed in any number
of counterparts, each of which shall be an original as against any Party whose
signature appears thereon and all of which together shall constitute one and the
same instrument. This Agreement shall become binding when one or more
counterparts hereof, individually or taken together, shall bear the signatures
of all the Parties reflected hereon as signatories.
SECTION 12.12 APPOINTMENT OF REPRESENTATIVE. Subject to the successorship
provisions of this Section 12.12, Bethany A. Belanger (the "Representative") is
hereby irrevocably appointed as the attorney-in-fact and representative of the
interests of each Seller for all purposes of this Agreement, and notice is
hereby given thereof to Purchasers, and, without independent verification,
Purchasers may rely upon Representative's undertakings in such capacity. The
Representative shall have full and irrevocable authority on behalf of the
Sellers, and shall promptly and completely exercise such authority in a timely
fashion to:
(a) participate in, represent and bind each of the Sellers in all
respects with respect to any arbitration or legal proceeding relating to this
Agreement, including without limitation, all matters relating to any
indemnification under Article X, taking any action under Article X including,
without limitation, the defense and settlement of any matter, and the
calculation thereof for every purpose thereunder, consent to jurisdiction, enter
into any settlement, and consent to entry of judgment, each with respect to any
or all of the Sellers;
(b) receive, accept and give notices and other communications relating
to this Agreement;
(c) take any action that the Representative deems necessary or desirable
in order to fully effectuate the transactions contemplated by this Agreement;
(d) execute and deliver any instrument or document that the
Representative deems necessary or desirable in the exercise of her authority
under this Section 12.12; and
(e) waive the fulfillment of any condition or conditions to the Closing.
After the Closing, the holders of a majority of the IAI Common Stock may,
at any time and by written action delivered to Purchasers, remove the
Representative or any successor thereto, but such removal shall be effective
only upon the replacement of such Representative or successor by a new
Representative designated, by written notice delivered by Purchasers, by the
holders of a majority of the IAI Common Stock, PROVIDED, HOWEVER, that any such
notice shall be effective only upon actual receipt by Purchasers. If any
Representative shall have died, become incapacitated or unable to serve, the
holders of a majority of the IAI Common Stock
35
<PAGE>
shall promptly designate by written notice delivered to Purchasers, a
replacement Representative. Any costs and expenses incurred by the
Representative in connection with actions taken pursuant to or permitted by
this Section 12.12 will be borne by the Shareholders.
The foregoing authorization is granted and conferred in consideration for
the various agreements and covenants of Purchasers contained herein. In
consideration of the foregoing, and subject to the successorship provisions of
this Section 12.12, this authorization granted to the Representative shall be
irrevocable and shall not be terminated by any act of any of the holders of the
IAI Common Stock or by operation of law, whether by death or incompetence of the
Sellers or by the occurrence of any other event except the termination of this
Agreement. If after the execution hereof any Seller shall die or become
incompetent or dissolve, the Representative is nevertheless authorized and
directed to exercise the authority granted in this Section 12.12 as if such
death or incompetence or dissolution had not occurred and regardless of
notice thereof. The Representative shall have no liability to any Seller for
any act or omission or obligation hereunder, provided that such action or
omission is taken by the Representative in good faith and without willful
misconduct.
SECTION 12.13 TRIUMPH REINSURANCE COMPANY. Belanger currently owns all of
the outstanding shares of capital stock of Triumph Reinsurance Company, an
Arizona life reinsurance company ("Triumph"), which Purchasers will not be
acquiring hereunder. Belanger shall retain ownership and contract of Triumph
following the Closing. However, Purchasers agree, subject to the management and
direction of Belanger, to administer the business and operations of Triumph and
Belanger will reimburse Purchasers for all out-of-pocket costs related thereto
(with the exclusion of the direct cost of Purchasers' employees). In addition
to the amounts otherwise held in escrow pursuant to this Agreement, Belanger
agrees to provide whatever funds are necessary to solvently manage the run-off
of the Triumph Reinsurance Company business.
IN WITNESS WHEREOF, the Parties hereto have executed this Agreement
effective as of the date first above written.
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]
36
<PAGE>
"PURCHASERS":
HCC INSURANCE HOLDINGS, INC.
By: /s/ Frank J. Bramanti
----------------------------------
Name: Frank J. Bramanti,
Title: Executive Vice President
MERGER SUB INC.
By: /s/ Frank J. Bramanti
----------------------------------
Name: Frank J. Bramanti,
Title: Executive Vice President
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]
SIGNATURE PAGE OF AGREEMENT
<PAGE>
"SHAREHOLDERS":
/s/ Bethany A. Belanger
-----------------------------------
Bethany A. Belanger
/s/ Jeffrey F. Koopman
-----------------------------------
Jeffrey F. Koopman
"SELLING CORPORATIONS":
GUARANTEE INSURANCE RESOURCES, INC.
By: /s/ Bethany A. Belanger
----------------------------------
Bethany A. Belanger, President
BELANGER CORPORATION
By: /s/ Bethany A. Belanger
----------------------------------
Bethany A. Belanger, President
SIGNATURE PAGE OF AGREEMENT
<PAGE>
"GIR"
GUARANTEE INSURANCE RESOURCES,
a Georgia General Partnership
By: Guarantee Insurance Resources, Inc.,
a General Partner
By: /s/ Bethany A. Belanger
-------------------------------
Bethany A. Belanger,
President
By: Belanger Corporation,
a General Partner
By: /s/ Bethany A. Belanger
-------------------------------
Bethany A. Belanger,
President
FAMILY LLLP
By: /s/ Bethany A. Belanger
------------------------------------
General Partner
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]
SIGNATURE PAGE OF AGREEMENT
<PAGE>
EXHIBIT 12
HCC INSURANCE HOLDINGS, INC. AND SUBSIDIARIES
STATEMENT OF RATIOS
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
----------------------------------------------------------
<S> <C> <C> <C> <C> <C>
1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- ----------
Gross premium to surplus ratio:
Gross written premium.............................. $ 346,094 $ 340,367 $ 338,753 $ 283,530 $ 205,905
Policyholders' surplus............................. 331,922 288,863 251,125 206,596 175,637
Premium to surplus ratio (1)....................... 104.3% 117.8% 134.9% 137.2% 117.2%
(Gross premium to surplus ratio = gross written premium divided by policyholders' surplus)
Net premium to surplus ratio:
Net written premium................................ $ 143,068 $ 189,022 $ 184,028 $ 133,143 $ 101,015
Policyholders' surplus............................. 331,922 288,863 251,125 206,596 175,637
Premium to surplus ratio (1)....................... 43.1% 65.4% 73.3% 64.4% 57.5%
(Net premium to surplus ratio = net written premium divided by policyholders' surplus)
Loss ratio:
Incurred loss and LAE.............................. $ 100,158 $ 115,521 $ 106,346 $ 76,494 $ 63,260
Net earned premium................................. 162,626 179,490 160,145 122,393 95,387
Loss ratio (1)..................................... 61.6% 64.4% 66.4% 62.5% 66.3%
(Loss ratio = incurred loss and LAE divided by net earned premium)
Expense ratio:
Underwriting expense............................... $ 24,627 $ 36,379 $ 33,239 $ 27,137 $ 23,981
Net written premium................................ 143,068 189,022 184,028 133,143 101,015
Expense ratio (1).................................. 17.2% 19.2% 18.1% 20.4% 23.7%
(Expense ratio = underwriting expense divided by net written premium)
Combined ratio (1)................................. 78.8% 83.6% 84.5% 82.9% 90.0%
(Combined ratio = loss ratio plus expense ratio)
</TABLE>
- ------------------------
(1) Calculated for the Company's insurance company subsidiaries on the basis of
statutory accounting principles.
<PAGE>
EXHIBIT 21
HCC INSURANCE HOLDINGS, INC.
SUBSIDIARIES
<TABLE>
<CAPTION>
STATE OR COUNTRY
NAME OF INCORPORATION
------------------------------------------------------------------------------ ----------------
<S> <C> <C>
1. Airway Underwriters of Michigan, Inc. Michigan
2. Airway Underwriters, Inc Texas
3. AVEMCO Corporation Delaware
4. AVEMCO Insurance Company Maryland
5. Aviation Excess Reinsurance Organization, Inc. Texas
6. Aviation & Marine Insurance Group, Inc. Texas
7. Aviation & Marine Premium Acceptance Corporation Texas
8. Brooks Shettle Company (Doing business as International Group Services and
Hinchcliff International) Maryland
9. Continental Aviation Underwriters, Inc. Tennessee
10. Eastern Aviation & Marine Underwriters, Inc. Maryland
11. Employers Casualty Company (Guernsey), Limited Guernsey
12. Guarantee Insurance Resources, Inc. Georgia
13. HCC Underwriters, a Texas Corporation Texas
14. HCCH Service Corporation Delaware
15. Houston Casualty Company Texas
16. Houston Reinsurance Company, Limited Bermuda
17. IMG Insurance Company, Limited Jordan
18. Insurance Alternatives, Inc. Georgia
19. International Aviation Underwriters, Inc. Texas
20. KFA Holdings, Inc. Maryland
21. KFA, Inc. Oklahoma
22. LDG Insurance Agency Incorporated Massachusetts
23. LDG Management Company Incorporated Massachusetts
24. LDG Worldwide Limited Delaware
25. Loss Management Services, Inc. Maryland
26. Managed Group Underwriting, Inc. Kansas
27. Matterhorn Bank Programs, Inc. Maryland
28. Matterhorn Bank Programs of Georgia, Inc Georgia
29. MEDEX Assistance (Europe) PLC UK
30. MEDEX Assistance Corporation Maryland
31. MEDexpress, Inc. Maryland
32. Medical Reinsurance Underwriters Incorporated Massachusetts
33. Middle East Insurance Brokers, Limited Jordan
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
STATE OR COUNTRY
NAME OF INCORPORATION
------------------------------------------------------------------------------ ----------------
<S> <C> <C>
34. NASRA TPA, Inc. Illinois
35. NEWECC, Inc. Nevada
36. North American Special Risk Associates, Inc. Alabama
37. SBS Insurance Holdings, a Texas Corporation Texas
38. Signal Aviation Insurance Services, Inc. Nevada
39. Southern Aviation Insurance Underwriters, Inc. Alabama
40. Southern Aviation Insurance Underwriting Services, Inc. Alabama
41. Specialty Insurance Underwriters, Inc. Missouri
42. SRRF Management Incorporated Massachusetts
43. The Wheatley Group, Ltd. New York
44. The Kachler Corporation Delaware
45. Trafalgar Insurance Company Oklahoma
46. Travel Express, Inc. Maryland
47. U.S. Specialty Insurance Company Maryland
48. Universal Loss Management, Inc. Delaware
49. World Citizens Travel Association, Inc. D.C.
</TABLE>
<PAGE>
EXHIBIT 23
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statements of
HCC Insurance Holdings, Inc. on Forms S-8 (File Nos. 33-94472, 33-94468,
333-14479, 333-14471 and 333-88664) of our reports dated March 26, 1998, on
our audits of the consolidated financial statements and financial statement
schedules of HCC Insurance Holdings, Inc. as of December 31, 1997 and 1996,
and for the three year period ended December 31, 1997, which reports are
included in this Annual Report on Form 10-K. Our reports state that they are
based on the reports of KPMG Peat Marwick LLP, independent certified public
accountants with respect to their audit of the 1996 and 1995 consolidated
financial statements of AVEMCO Corporation.
COOPERS & LYBRAND L.L.P.
Houston, Texas
March 27, 1998
<PAGE>
EXHIBIT 24
POWERS OF ATTORNEY
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
JAMES M. BERRY
--------------
James M. Berry
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
PATRICK B. COLLINS
------------------
Patrick B. Collins
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
J. ROBERT DICKERSON
-------------------
J. Robert Dickerson
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
EDWIN H. FRANK, III
-------------------
Edwin H. Frank, III
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
ALLAN W. FULKERSON
------------------
Allan W. Fulkerson
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
WALTER J. LACK
--------------
Walter J. Lack
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
STEPHEN J. LOCKWOOD
-------------------
Stephen J. Lockwood
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
JOHN N. MOLBECK, JR.
--------------------
John N. Molbeck, Jr.
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
PETER B. SMITH
--------------
Peter B. Smith
Date: March 27, 1998
--------------
<PAGE>
POWERS OF ATTORNEY
Know all men by these presents, that the undersigned constitutes and
appoints Stephen L. Way and Frank J. Bramanti, and each of them, his true and
lawful attorney-in-fact and agent, with full power of substitution and re-
substitution, for him and in his name, place and stead, in any and all
capacities, to sign this Annual Report on Form 10-K and any and all amendments
thereto, and to file same, with all exhibits thereto, and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto such attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as
he might or could do in person, hereby ratifying and confirming all that such
attorneys-in-fact and agents or any of the, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
HUGH T. WILSON
--------------
Hugh T. Wilson
Date: March 27, 1998
--------------
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION FROM THE CONSOLIDATED
FINANCIAL STATEMENTS FOUND IN THE COMPANY'S FORM 10-K FOR THE YEAR ENDED
DECEMBER 31, 1997, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<DEBT-HELD-FOR-SALE> 409,701,000
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 8,339,000
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 523,295,000
<CASH> 7,324,000
<RECOVER-REINSURE> 203,300,000
<DEFERRED-ACQUISITION> 2,051,000
<TOTAL-ASSETS> 1,222,763,000
<POLICY-LOSSES> 275,008,000
<UNEARNED-PREMIUMS> 152,094,000
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 80,750,000
0
0
<COMMON> 46,159,000
<OTHER-SE> 319,321,000
<TOTAL-LIABILITY-AND-EQUITY> 1,222,763,000
163,090,000
<INVESTMENT-INCOME> 27,718,000
<INVESTMENT-GAINS> (329,000)
<OTHER-INCOME> 82,931,000
<BENEFITS> 96,514,000
<UNDERWRITING-AMORTIZATION> 14,099,000
<UNDERWRITING-OTHER> 83,745,000
<INCOME-PRETAX> 73,048,000
<INCOME-TAX> 23,297,000
<INCOME-CONTINUING> 49,751,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 49,751,000
<EPS-PRIMARY> 1.10
<EPS-DILUTED> 1.07
<RESERVE-OPEN> 117,283,000
<PROVISION-CURRENT> 100,288,000
<PROVISION-PRIOR> (3,774,000)
<PAYMENTS-CURRENT> 48,208,000
<PAYMENTS-PRIOR> 47,874,000
<RESERVE-CLOSE> 119,634,000
<CUMULATIVE-DEFICIENCY> (3,774,000)
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<LEGEND>
THIS SCHEDULE HAS BEEN RESTATED DUE TO THE COMPANY'S ADOPTION OF SFAS NO. 128
AND THE COMPANY'S MERGER WITH AVEMCO, WHICH WAS ACCOUNTED FOR AS A POOLING-OF-
INTERESTS. SEE NOTES 1 AND 2 TO THE CONSOLIDATED FINANCIAL STATEMENTS FOUND IN
THE COMPANY'S FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1997. THIS SCHEDULE IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<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> 377,555,000
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 12,477,000
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 468,725,000
<CASH> 9,171,000
<RECOVER-REINSURE> 132,328,000
<DEFERRED-ACQUISITION> 7,908,000
<TOTAL-ASSETS> 964,099,000
<POLICY-LOSSES> 229,049,000
<UNEARNED-PREMIUMS> 156,268,000
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 72,917,000
0
0
<COMMON> 47,417,000
<OTHER-SE> 248,996,000
<TOTAL-LIABILITY-AND-EQUITY> 964,099,000
175,309,000
<INVESTMENT-INCOME> 23,595,000
<INVESTMENT-GAINS> 8,341,000
<OTHER-INCOME> 63,134,000
<BENEFITS> 114,464,000
<UNDERWRITING-AMORTIZATION> 13,459,000
<UNDERWRITING-OTHER> 89,059,000
<INCOME-PRETAX> 48,404,000
<INCOME-TAX> 9,874,000
<INCOME-CONTINUING> 38,530,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 38,530,000
<EPS-PRIMARY> 0.89
<EPS-DILUTED> 0.87
<RESERVE-OPEN> 99,259,000
<PROVISION-CURRENT> 119,401,000
<PROVISION-PRIOR> (4,937,000)
<PAYMENTS-CURRENT> 54,493,000
<PAYMENTS-PRIOR> 41,947,000
<RESERVE-CLOSE> 117,283,000
<CUMULATIVE-DEFICIENCY> (4,937,000)
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<LEGEND>
THESE SCHEDULES HAVE BEEN RESTATED DUE TO THE COMPANY'S ADOPTION OF SFAS NO.
128. SEE NOTE 1 TO THE CONSOLIDATED FINANCIAL STATEMENTS FOUND IN THE
COMPANY'S FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1997. THESE SCHEDULES
ARE QUALIFIED IN THEIR ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<S> <C> <C> <C> <C>
<PERIOD-TYPE> 9-MOS 6-MOS 9-MOS 6-MOS
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1997 DEC-31-1996 DEC-31-1996
<PERIOD-START> JAN-01-1997 JAN-01-1997 JAN-01-1996 JAN-01-1996
<PERIOD-END> SEP-30-1997 JUN-30-1997 SEP-30-1996 JUN-30-1996
<DEBT-HELD-FOR-SALE> 390,199,000 390,283,000 354,491,000 341,795,000
<DEBT-CARRYING-VALUE> 0 0 0 0
<DEBT-MARKET-VALUE> 0 0 0 0
<EQUITIES> 7,311,000 11,141,000 19,702,000 25,851,000
<MORTGAGE> 0 0 0 0
<REAL-ESTATE> 0 0 0 0
<TOTAL-INVEST> 530,139,000 504,737,000 454,658,000 452,576,000
<CASH> 4,827,000 1,106,000 13,684,000 9,723,000
<RECOVER-REINSURE> 184,893,000 148,433,000 137,761,000 137,815,000
<DEFERRED-ACQUISITION> 2,681,000 7,109,000 7,415,000 6,972,000
<TOTAL-ASSETS> 1,184,634,000 1,094,273,000 965,434,000 956,855,000
<POLICY-LOSSES> 267,488,000 245,497,000 227,268,000 217,662,000
<UNEARNED-PREMIUMS> 162,366,000 168,646,000 161,079,000 168,056,000
<POLICY-OTHER> 0 0 0 0
<POLICY-HOLDER-FUNDS> 0 0 0 0
<NOTES-PAYABLE> 82,084,000 79,226,000 71,643,000 69,205,000
0 0 0 0
0 0 0 0
<COMMON> 46,007,000 45,582,000 46,245,000 46,240,000
<OTHER-SE> 306,644,000 285,536,000 236,236,000 225,766,000
<TOTAL-LIABILITY-AND-EQUITY> 1,184,634,000 1,094,273,000 965,434,000 956,855,000
124,431,000 92,809,000 125,636,000 84,242,000
<INVESTMENT-INCOME> 20,424,000 12,729,000 17,326,000 11,434,000
<INVESTMENT-GAINS> (258,000) (294,000) 6,654,000 5,207,000
<OTHER-INCOME> 55,519,000 35,800,000 49,337,000 30,229,000
<BENEFITS> 70,537,000 56,070,000 83,812,000 53,657,000
<UNDERWRITING-AMORTIZATION> 6,209,000 5,727,000 9,258,000 6,784,000
<UNDERWRITING-OTHER> 60,393,000 43,005,000 73,493,000 57,965,000
<INCOME-PRETAX> 58,956,000 33,432,000 28,615,000 10,042,000
<INCOME-TAX> 19,825,000 11,419,000 4,379,000 (1,015,000)
<INCOME-CONTINUING> 39,131,000 22,013,000 24,236,000 11,057,000
<DISCONTINUED> 0 0 0 0
<EXTRAORDINARY> 0 0 0 0
<CHANGES> 0 0 0 0
<NET-INCOME> 39,131,000 22,013,000 24,236,000 11,057,000
<EPS-PRIMARY> 0.87 0.49 0.56 0.26
<EPS-DILUTED> 0.84 0.48 0.55 0.25
<RESERVE-OPEN> 117,283,000 117,283,000 99,259,000 99,259,000
<PROVISION-CURRENT> 0 0 0 0
<PROVISION-PRIOR> 0 0 0 0
<PAYMENTS-CURRENT> 0 0 0 0
<PAYMENTS-PRIOR> 0 0 0 0
<RESERVE-CLOSE> 108,606,000 122,953,000 112,168,000 108,233,000
<CUMULATIVE-DEFICIENCY> 0 0 0 0
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<LEGEND>
THESE SCHEDULES HAVE BEEN RESTATED DUE TO THE COMPANY'S ADOPTION OF SFAS NO. 128
AND THE COMPANY'S MERGER WITH AVEMCO, WHICH WAS ACCOUNTED FOR AS A POOLING-OF-
INTERESTS. SEE NOTES 1 AND 2 TO THE CONSOLIDATED FINANCIAL STATEMENTS FOUND IN
THE COMPANY'S FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1997. THESE SCHEDULES
ARE QUALIFIED IN THEIR ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<S> <C> <C>
<PERIOD-TYPE> 3-MOS 3-MOS
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1996
<PERIOD-START> JAN-01-1997 JAN-01-1996
<PERIOD-END> MAR-31-1997 MAR-31-1996
<DEBT-HELD-FOR-SALE> 379,546,000 338,290,000
<DEBT-CARRYING-VALUE> 0 0
<DEBT-MARKET-VALUE> 0 0
<EQUITIES> 10,509,000 40,833,000
<MORTGAGE> 0 0
<REAL-ESTATE> 0 0
<TOTAL-INVEST> 480,021,000 441,952,000
<CASH> 9,168,000 12,870,000
<RECOVER-REINSURE> 166,945,000 149,698,000
<DEFERRED-ACQUISITION> 6,927,000 8,216,000
<TOTAL-ASSETS> 1,051,298,000 940,293,000
<POLICY-LOSSES> 260,205,000 229,412,000
<UNEARNED-PREMIUMS> 162,681,000 149,694,000
<POLICY-OTHER> 0 0
<POLICY-HOLDER-FUNDS> 0 0
<NOTES-PAYABLE> 75,567,000 73,567,000
0 0
0 0
<COMMON> 47,876,000 46,237,000
<OTHER-SE> 265,273,000 213,467,000
<TOTAL-LIABILITY-AND-EQUITY> 1,051,298,000 940,293,000
44,675,000 42,289,000
<INVESTMENT-INCOME> 6,203,000 5,692,000
<INVESTMENT-GAINS> (56,000) 1,326,000
<OTHER-INCOME> 17,703,000 14,299,000
<BENEFITS> 26,618,000 27,236,000
<UNDERWRITING-AMORTIZATION> 3,248,000 4,419,000
<UNDERWRITING-OTHER> 18,592,000 15,826,000
<INCOME-PRETAX> 18,692,000 14,869,000
<INCOME-TAX> 5,661,000 3,339,000
<INCOME-CONTINUING> 13,031,000 11,530,000
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 13,031,000 11,530,000
<EPS-PRIMARY> 0.29 0.27
<EPS-DILUTED> 0.28 0.26
<RESERVE-OPEN> 117,283,000 99,259,000
<PROVISION-CURRENT> 0 0
<PROVISION-PRIOR> 0 0
<PAYMENTS-CURRENT> 0 0
<PAYMENTS-PRIOR> 0 0
<RESERVE-CLOSE> 118,929,000 105,084,000
<CUMULATIVE-DEFICIENCY> 0 0
</TABLE>
