- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
Date of Report (Date of earliest event reported) September 18, 1998
SUPERIOR BANK FSB (as depositor under the Pooling and Servicing Agreement, dated
as of September 1, 1998, providing for the issuance of AFC Mortgage Loan Asset
Backed Certificates, Series 1998-3)
Superior Bank FSB
(Exact name of registrant as specified in its charter)
United States 333-61691 36-1414142
(State or Other Jurisdiction (Commission (I.R.S. Employer
of Incorporation) File Number) Identification Number)
One Lincoln Centre
Oakbrook Terrace, Illinois 60181
(Address of Principal (Zip Code)
Executive Offices)
Registrant's telephone number, including area code (630) 916-4000
- --------------------------------------------------------------------------------
<PAGE>
-2-
Item 5. Other Events.
The financial statements of Financial Guaranty Insurance Company
("FGIC") as of December 31, 1997 and December 31, 1996, and for each of the
years in the three-year period ended December 31, 1997 that are included in
this Form 8-K have been audited by KPMG Peat Marwick LLP. The consent of
KPMG Peat Marwick LLP to the inclusion of their audit report on such
financial statements in this Form 8-K and their being named as "experts" in
the Prospectus Supplement relating to AFC Mortgage Loan Asset Backed
Certificates, Series 1998-3, is attached hereto as Exhibit 23.1.
The audited financial statements of FGIC as of December 31, 1997 and
December 31, 1996, and for each of the years in the three-year period ended
December 31, 1997 are attached hereto as Exhibit 99.1. The unaudited
interim financial statements of FGIC as of June 30, 1998 are attached
hereto as Exhibit 99.2
Item 7. Financial Statements, Pro Forma Financial Information and Exhibits.
(a) Financial Statements.
Not applicable.
(b) Pro Forma Financial Information.
Not Applicable.
(c) Exhibits
<TABLE>
<CAPTION>
Item 601(a) of
Regulation S-K
Exhibit No. Exhibit No. Description
- ----------- ----------- -----------
<S> <C> <C>
23.1 23 Consent of KPMG Peat Marwick LLP
99.1 99 Audited financial statements of FGIC as of December 31,
1997 and December 31, 1996, and for each of the years in
the three-year period ended December 31, 1997
99.2 99 Unaudited interim financial statements of FGIC as of June
30, 1998
</TABLE>
<PAGE>
-3-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SUPERIOR BANK FSB
By:/s/ William C. Bracken
-----------------------
Name: William C. Bracken
Title: Senior Vice President
and Chief Financial Officer
Dated: September 18, 1998
<PAGE>
-4-
EXHIBIT INDEX
Exhibit Description
- ------- -----------
23.1 Consent of KPMG Peat Marwick LLP
99.1 Audited financial statements of FGIC as of December 31, 1997 and
December 31, 1996, and for each of the years in the three-year period
ended December 31, 1997
99.2 Unaudited interim financial statements of FGIC as of June 30, 1998
CONSENT OF INDEPENDENT AUDITORS
The Board of Directors
Financial Guaranty Insurance Company:
We consent to the use of our report dated January 23, 1998 on the financial
statements of Financial Guaranty Insurance Company as of December 31, 1997 and
December 31, 1996, and for each of the years in the three-year period ended
December 31, 1997 included in the Form 8-K of Superior Bank FSB and to the
reference to our firm under the heading "Experts" in the Prospectus Supplement.
/s/KPMG PEAT MARWICK LLP
New York, New York
September 18, 1998
FINANCIAL GUARANTY INSURANCE COMPANY
Finanical Statements
December 31, 1997
(With Independent Auditor's Report Thereon)
<PAGE>
FINANCIAL GUARANTY INSURANCE COMPANY
================================================================================
Audited Financial Statements
December 31, 1997
Report of Independent Auditors ............................................. 1
Balance Sheets ............................................................. 2
Statements of Income ....................................................... 3
Statements of Stockholder's Equity ......................................... 4
Statements of Cash Flows ................................................... 5
Notes to Financial Statements .............................................. 6
Financial Guaranty Insurance
Company Balance Sheets
================================================================================
<PAGE>
[LETTERHEAD OF KPMG PEAT MARWICK LLP]
345 Park Avenue
New York, New York 10154
Independent Auditors' Report
The Board of Directors and Stockholder
Financial Guaranty Insurance Company:
We have audited the accompanying balance sheets of Financial Guaranty Insurance
Company as of December 31, 1997 and 1996, and the related statements of income,
stockholder's equity, and cash flows for each of the years in the three year
period ended December 31, 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Financial Guaranty Insurance
Company as of December 31, 1997 and 1996 and the results of its operations and
its cash flows for each of the years in the three year period then ended in
conformity with generally accepted accounting principles.
/s/ KPMG PEAT MARWICK LLP
January 23, 1998
<PAGE>
Financial Guaranty Insurance
Company Balance Sheets
================================================================================
($ in Thousands, except per share amounts)
<TABLE>
<CAPTION>
December 31, December 31,
Assets 1997 1996
----------- -----------
<S> <C> <C>
Fixed maturity securities available-for-sale
(amortized cost of $2,313,458 in 1997 and $2,190,303 in 1996) $ 2,443,746 $ 2,250,549
Short-term investments, at cost, which approximates market 76,039 73,839
Cash 802 860
Accrued investment income 38,927 37,655
Reinsurance recoverable 8,220 7,015
Prepaid reinsurance premiums 154,208 167,683
Deferred policy acquisition costs 86,286 91,945
Property and equipment, net of accumulated depreciation
($17,346 in 1997 and $15,333 in 1996) 3,142 4,696
Receivable for securities sold -- 379
Prepaid expenses and other assets 21,002 19,520
----------- -----------
Total assets $ 2,832,372 2,654,141
=========== ===========
Liabilities and Stockholder's Equity
Liabilities:
Unearned premiums $ 628,553 $ 681,816
Loss and loss adjustment expenses 76,926 72,616
Ceded reinsurance balances payable 3,932 10,561
Accounts payable and accrued expenses 26,352 54,165
Payable to Parent -- 1,791
Current federal income taxes payable 19,335 52,016
Deferred federal income taxes 118,522 91,805
Payable for securities purchased 5,811 4,937
----------- -----------
Total liabilities 879,431 969,707
----------- -----------
Stockholder's Equity:
Common stock, par value $1,500 per share;
10,000 shares authorized, issued and outstanding 15,000 15,000
Additional paid-in capital 383,511 334,011
Net unrealized gains on fixed maturity securities available-
for-sale, net of tax 84,687 39,160
Foreign currency translation adjustment, net of tax (752) (429)
Retained earnings 1,470,495 1,296,692
----------- -----------
Total stockholder's equity 1,952,941 1,684,434
----------- -----------
Total liabilities and stockholder's equity $ 2,832,372 $ 2,654,141
=========== ===========
</TABLE>
See accompanying notes to financial statements.
-2-
<PAGE>
Financial Guaranty Insurance
Company Statements of Income
================================================================================
($ in Thousands)
<TABLE>
<CAPTION>
For the Year Ended December 31,
-------------------------------
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
Revenues:
Gross premiums written $ 95,995 $ 97,027 $ 97,288
Ceded premiums (19,780) (29,376) (19,319)
--------- --------- ---------
Net premiums written 76,215 67,651 77,969
Decrease in net unearned premiums 39,788 51,314 27,309
--------- --------- ---------
Net premiums earned 116,003 118,965 105,278
Net investment income 127,773 124,635 120,398
Net realized gains 16,700 15,022 30,762
--------- --------- ---------
Total revenues 260,476 258,622 256,438
--------- --------- ---------
Expenses:
Loss and loss adjustment expenses 12,539 2,389 (8,426)
Policy acquisition costs 12,936 16,327 13,072
Decrease (Increase) in deferred policy acquisition costs 5,659 2,923 (3,940)
Other underwriting expenses 14,691 12,508 19,100
--------- --------- ---------
Total expenses 45,825 34,147 19,806
--------- --------- ---------
Income before provision for Federal income taxes 214,651 224,475 236,632
--------- --------- ---------
Federal income tax expense:
Current 39,133 41,548 28,913
Deferred 1,715 5,318 19,841
--------- --------- ---------
Total Federal income tax expense 40,848 46,866 48,754
--------- --------- ---------
Net income $ 173,803 $ 177,609 $ 187,878
========= ========= =========
</TABLE>
See accompanying notes to financial statements.
-3-
<PAGE>
Financial Guaranty Insurance
Company Statements of Stockholder's Equity
================================================================================
<TABLE>
<CAPTION>
($ in Thousands) Net Unrealized Foreign
Gains (Losses) Currency
Additional on Fixed Maturity Translation
Common Paid-in Securities Available- Adjustment, Retained
Stock Capital For-Sale, Net of Tax Net of Tax Earnings
----------- ----------- -------------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1995 $ 15,000 $ 334,011 $ (41,773) $ (1,221) $ 973,706
Net income -- -- -- -- 187,878
Dividend paid -- -- -- -- (25,000)
Change in fixed maturity securities -- -- 105,558 -- --
available for sale, net of tax of $56,839
Foreign currency translation adjustment -- -- -- (278) --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1995 15,000 334,011 63,785 (1,499) 1,136,584
----------- ----------- ----------- ----------- -----------
Net Income -- -- -- -- 177,609
Dividend paid -- -- -- -- (17,500)
Change in fixed maturity securities -- -- (24,625) -- --
available for sale, net of tax of ($13,260)
Foreign currency translation adjustment -- -- -- 1,070 --
----------- ----------- ----------- ----------- -----------
Balance at December 31, 1996 15,000 334,011 39,160 (429) 1,296,692
----------- ----------- ----------- ----------- -----------
Net Income -- -- -- -- 173,803
Capital contribution -- 49,500 -- -- --
Change in fixed maturity securities -- -- 45,527 -- --
available for sale, net of tax of $24,516
Foreign currency translation adjustment -- -- -- (323)
----------- ----------- ----------- -----------
Balance at December 31, 1997 $ 15,000 $ 383,511 $ 84,687 ($ 752) $ 1,470,495
=========== =========== =========== =========== ===========
</TABLE>
See accompanying notes to financial statements.
-4-
<PAGE>
Financial Guaranty Insurance
Company Statements of Cash Flows
================================================================================
($ in Thousands)
<TABLE>
<CAPTION>
For the Year Ended December 31,
-----------------------------------------
1997 1996 1995
----------- ----------- -----------
<S> <C> <C> <C>
Operating Activities:
Net income $ 173,803 $ 177,609 $ 187,878
Adjustments to reconcile net income
to net cash provided by operating activities:
Change in unearned premiums (53,263) (45,719) (29,890)
Change in loss and loss adjustment expense reserves 4,310 (5,192) (20,938)
Depreciation of property and equipment 2,013 2,472 2,348
Change in reinsurance receivable (1,205) 657 6,800
Change in prepaid reinsurance premiums 13,475 (5,596) 2,581
Change in foreign currency translation adjustment (497) 1,646 (427)
Policy acquisition costs deferred (12,936) (16,327) (16,219)
Amortization of deferred policy acquisition costs 18,595 19,250 12,279
Change in accrued investment income, and prepaid
expenses and other assets (2,754) (7,201) 2,906
Change in other liabilities (36,233) 30,117 (12,946)
Change in deferred income taxes 1,715 5,318 19,841
Amortization of fixed maturity securities 2,698 792 1,922
Change in current income taxes payable (32,681) 720 (30,827)
Net realized gains on investments (16,700) (15,022) (30,762)
----------- ----------- -----------
Net cash provided by operating activities 60,340 143,524 94,546
----------- ----------- -----------
Investing Activities:
Sales and maturities of fixed maturity securities 741,604 891,643 836,103
Purchases of fixed maturity securities (848,843) (1,033,345) (891,108)
Purchases, sales and maturities of short-term investments, net (2,200) 17,193 (15,358)
Purchases of property and equipment, net (459) (854) (750)
----------- ----------- -----------
Net cash used in investing activities (109,898) (125,363) (71,113)
----------- ----------- -----------
Financing Activities:
Capital Contributions 49,500 -- --
Dividends paid (17,500) (25,000)
----------- ----------- -----------
-----------
Net cash provided by financing activities 49,500 (17,500) (25,000)
----------- ----------- -----------
(Decrease) Increase in cash (58) 661 (1,567)
Cash at beginning of year 860 199 1,766
----------- ----------- -----------
Cash at end of year $ 802 $ 860 $ 199
=========== =========== ===========
</TABLE>
See accompanying notes to financial statements.
-5-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements
================================================================================
(1) Business
Financial Guaranty Insurance Company (the "Company") is a wholly-owned
insurance subsidiary of FGIC Corporation (the "Parent"). The Parent is
owned approximately ninety-nine percent by General Electric Capital
Corporation ("GE Capital") and approximately one percent by Sumitomo Marine
and Fire Insurance Company, Ltd. The Company provides financial guaranty
insurance on newly issued municipal bonds and municipal bonds trading in
the secondary market, the latter including bonds held by unit investment
trusts and mutual funds. The Company also insures structured debt issues
outside the municipal market. Approximately 86% of the business written
since inception by the Company has been municipal bond insurance.
The Company insures only those securities that, in its judgment, are of
investment grade quality. Municipal bond insurance written by the Company
insures the full and timely payment of principal and interest when due on
scheduled maturity, sinking fund or other mandatory redemption and interest
payment dates to the holders of municipal securities. The Company's
insurance policies do not provide for accelerated payment of the principal
of, or interest on, the bond insured in the case of a payment default. If
the issuer of a Company-insured bond defaults on its obligation to pay debt
service, the Company will make scheduled interest and principal payments as
due and is subrogated to the rights of bondholders to the extent of
payments made by it.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that effect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
(2) Significant Accounting Policies
The accompanying financial statements have been prepared on the basis of
generally accepted accounting principles ("GAAP") which differ in certain
respects from the accounting practices prescribed or permitted by
regulatory authorities (see Note 3). The prior years financial statements
have been reclassified to conform to the 1997 presentation. Significant
accounting policies are as follows:
Investments
The Company accounts for its investments in accordance with Statement of
Financial Accounting Standards No. 115 ("SFAS 115"), "Accounting for
Certain Investments in Debt and Equity Securities." The Statement defines
three categories for classification of debt securities and the related
accounting treatment for each respective category. The Company has
determined that its fixed maturity securities portfolio should be
classified as available-for-sale. Under SFAS 115, securities held as
available-for-sale are recorded at fair value and unrealized holding
gains/losses are recorded as a separate component of stockholder's equity,
net of applicable income taxes.
Short-term investments are carried at cost, which approximates fair value.
Bond discounts and premiums are amortized over the remaining terms of the
securities. Realized gains or losses on the sale of investments are
determined on the basis of specific identification.
-6-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
Premium Revenue Recognition
Premiums for policies where premiums are collected in a single payment at
policy inception are earned over the period at risk, based on the total
exposure outstanding at any point in time. Financial guaranty insurance
policies exposure generally declines according to predetermined schedules.
For policies with premiums that are collected periodically, premiums are
reflected in income pro rata over the period covered by the premium
payment.
Policy Acquisition Costs
Policy acquisition costs include only those expenses that relate directly
to premium production. Such costs include compensation of employees
involved in underwriting, marketing and policy issuance functions, rating
agency fees, state premium taxes and certain other underwriting expenses,
offset by ceding commission income on premiums ceded to reinsurers (see
Note 6). Net acquisition costs are deferred and amortized over the period
in which the related premiums are earned. Anticipated loss and loss
adjustment expenses are considered in determining the recoverability of
acquisition costs.
Loss and Loss Adjustment Expenses
Provision for loss and loss adjustment expenses is made in an amount equal
to the present value of unpaid principal and interest and other payments
due under insured risks at the balance sheet date for which, in
management's judgment, the likelihood of default is probable. Such reserves
amounted to $76.9 million and $72.6 million at December 31, 1997 and 1996,
respectively. As of December 31, 1997 and 1996, such reserves included
$35.1 million and $28.9 million, respectively, established based on an
evaluation of the insured portfolio in light of current economic conditions
and other relevant factors. As of December 31, 1997 and 1996, case-basis
loss and loss adjustment expense reserves were $41.8 million and $43.7
million, respectively. Loss and loss adjustment expenses include amounts
discounted at an interest rate between 5.9% and 6.0% in 1997 and between
6.5% and 6.6% in 1996. The discount rate used is based upon the risk free
rate for the average maturity of the applicable bond sector. The reserve
for loss and loss adjustment expenses is necessarily based upon estimates,
however, in management's opinion the reserves for loss and loss adjustment
expenses is adequate. However, actual results will likely differ from those
estimates.
Income Taxes
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases. These temporary differences relate principally to unrealized
gains (losses) on fixed maturity securities available-for-sale, premium
revenue recognition, deferred acquisition costs and deferred compensation.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred
tax assets and liabilities of a change in tax rates is recognized in income
in the period that includes the enactment date.
Financial guaranty insurance companies are permitted to deduct from taxable
income, subject to certain limitations, amounts added to statutory
contingency reserves (see Note 3). The amounts deducted must be included in
taxable income upon their release from the reserves or upon earlier release
of such amounts from such reserves to cover excess losses as permitted by
insurance regulators. The amounts deducted are allowed as deductions from
taxable income only to the extent that U.S. government non-interest bearing
tax and loss bonds are purchased and held in an amount equal to the tax
benefit attributable to such deductions.
-7-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
Property and Equipment
Property and equipment consists of furniture, fixtures, equipment and
leasehold improvements which are recorded at cost and are charged to income
over their estimated service lives. Office furniture and equipment are
depreciated straight-line over five years. Leasehold improvements are
amortized over their estimated service life or over the life of the lease,
whichever is shorter. Computer equipment and software are depreciated over
three years. Maintenance and repairs are charged to expense as incurred.
Foreign Currency Translation
The Company has established foreign branches in France and the United
Kingdom and determined that the functional currencies of these branches are
local currencies. Accordingly, the assets and liabilities of these foreign
branches are translated into U.S. dollars at the rates of exchange existing
at December 31, 1997 and 1996 and revenues and expenses are translated at
average monthly exchange rates. The cumulative translation loss at December
31, 1997 and 1996 was $0.7 million and $0.4 million, respectively, net of
tax, and is reported as a separate component of stockholder's equity.
(3) Statutory Accounting Practices
The financial statements are prepared on the basis of GAAP, which differs
in certain respects from accounting practices prescribed or permitted by
state insurance regulatory authorities. The following are the significant
ways in which statutory-basis accounting practices differ from GAAP:
(a) premiums are earned directly in proportion to the scheduled principal
and interest payments rather than in proportion to the total exposure
outstanding at any point in time.
(b) policy acquisition costs are charged to current operations as incurred
rather than as related premiums are earned;
(c) a contingency reserve is computed on the basis of statutory
requirements for the security of all policyholders, regardless of
whether loss contingencies actually exist, whereas under GAAP, a
reserve is established based on an ultimate estimate of exposure;
(d) certain assets designated as non-admitted assets are charged directly
against surplus but are reflected as assets under GAAP, if
recoverable;
(e) federal income taxes are only provided with respect to taxable income
for which income taxes are currently payable, while under GAAP taxes
are also provided for differences between the financial reporting and
the tax bases of assets and liabilities;
(f) purchases of tax and loss bonds are reflected as admitted assets,
while under GAAP they are recorded as federal income tax payments; and
(g) all fixed income investments are carried at amortized cost rather than
at fair value for securities classified as available-for-sale under
GAAP.
-8-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
The following is a reconciliation of net income and stockholder's equity
presented on a GAAP basis to the corresponding amounts reported on a
statutory-basis for the periods indicated below (in thousands):
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------------------------------------------------------
1997 1996 1995
-------------------------- -------------------------- --------------------------
Net Stockholder's Net Stockholder's Net Stockholder's
Income Equity Income Equity Income Equity
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
GAAP basis amount $173,803 $1,952,941 $177,609 $1,684,434 $187,878 $1,547,881
Premium revenue recognition (4,924) (181,209) (9,358) (176,285) (22,555) (166,927)
Deferral of acquisition costs 5,659 (86,286) 2,923 (91,945) (3,940) (94,868)
Contingency reserve -- (540,677) -- (460,973) -- (386,564)
Contingency reserve tax
deduction (see Note 2) -- 95,185 -- 85,176 -- 78,196
Non-admitted assets -- (2,593) -- (3,879) -- (5,731)
Case basis loss reserves 1,377 (1,872) (3,197) (3,249) 4,048 (52)
Portfolio loss reserves 5,000 29,000 -- 24,000 (22,100) 24,000
Deferral of income taxes 1,715 72,260 5,317 70,719 19,842 64,825
Unrealized (gains) on fixed maturity
securities held at fair value, net of tax -- (84,687) -- (39,160) -- (63,785)
Recognition of profit commission (1,203) (7,388) (441) (6,185) 3,096 (5,744)
Allocation of tax benefits due to
Parent's net operating loss to the
Company (see Note 5) 313 10,916 313 10,603 (637) 10,290
----------- ----------- ----------- ----------- ----------- -----------
Statutory-basis amount $181,740 $1,255,590 $173,166 $1,093,256 $166,906 $1,001,521
=========== =========== =========== =========== =========== ===========
</TABLE>
-9-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
(4) Investments
Investments in fixed maturity securities carried at fair value of $3.1
million and $3.1 million as of December 31, 1997 and 1996, respectively,
were on deposit with various regulatory authorities as required by law.
The amortized cost and fair values of short-term investments and of
investments in fixed maturity securities classified as available-for-sale
are as follows (in thousands):
<TABLE>
<CAPTION>
Gross Gross
Unrealized Unrealized
Amortized Holding Holding Fair
1997 Cost Gains Losses Value
---- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies $ 11,539 $ 185 $ -- $ 11,724
Obligations of states and political
subdivisions 2,272,225 130,183 655 2,401,753
Debt securities issued by foreign
governments 29,694 603 28 30,269
---------- ---------- ---------- ----------
Investments available-for-sale 2,313,458 130,971 683 2,443,746
Short-term investments 76,039 -- -- 76,039
---------- ---------- ---------- ----------
Total $2,389,497 $ 130,971 $ 683 $2,519,785
========== ========== ========== ==========
</TABLE>
The amortized cost and fair values of short-term investments and of
investments in fixed maturity securities available-for-sale at December 31,
1997, by contractual maturity date, 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.
Amortized Fair
1997 Cost Value
---- ----------- ----------
Due in one year or less $ 85,199 $ 85,395
Due after one year through five years 61,168 62,955
Due after five years through ten years 589,772 619,972
Due after ten years through twenty years 1,604,167 1,700,193
Due after twenty years 49,191 51,270
---------- ----------
Total $2,389,497 $2,519,785
========== ==========
-10-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
<TABLE>
<CAPTION>
Gross Gross
Unrealized Unrealized
Amortized Holding Holding Fair
1996 Cost Gains Losses Value
---- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
U.S. Treasury securities and
obligations of U.S. government
corporations and agencies $ 57,987 $ 373 $ 1 $ 58,359
Obligations of states and political
subdivisions 2,098,486 65,254 4,854 2,158,886
Debt securities issued by foreign 33,830 -- 526 33,304
governments
---------- ---------- ---------- ----------
Investments available-for-sale 2,190,303 65,627 5,381 2,250,549
Short-term investments 73,839 -- -- 73,839
---------- ---------- ---------- ----------
Total $2,264,142 $ 65,627 $ 5,381 $2,324,388
========== ========== ========== ==========
</TABLE>
In 1997, 1996 and 1995, proceeds from sales and maturities of investments
in fixed maturity securities available-for-sale carried at fair value were
$741.6 million, $891.6 million, and $836.1 million, respectively. For 1997,
1996 and 1995 gross gains of $19.1 million, $19.8 million and $36.3 million
respectively, and gross losses of $2.4 million, $4.8 million and $5.5
million respectively, were realized on such sales.
Net investment income of the Company is derived from the following sources
(in thousands):
Year Ended December 31,
------------------------------
1997 1996 1995
-------- -------- --------
Income from fixed maturity securities $122,372 $119,290 $112,684
Income from short-term investments 6,366 6,423 8,450
-------- -------- --------
Total investment income 128,738 125,713 121,134
Investment expenses 965 1,078 736
-------- -------- --------
Net investment income $127,773 $124,635 $120,398
======== ======== ========
As of December 31, 1997, the Company did not have more than 10% of its
investment portfolio concentrated in a single issuer or industry.
-11-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
(5) Income Taxes
The Company files a federal tax return as part of the consolidated return
of General Electric Capital Corporation ("GE Capital"). Under a tax sharing
agreement with GE Capital, taxes are allocated to the Company and the
Parent based upon their respective contributions to consolidated net
income. The Company also has a separate tax sharing agreement with its
Parent. Under this agreement the Company can utilize its Parent's net
operating loss to offset taxable income on a stand-alone basis. The
Company's effective federal corporate tax rate (19.0 percent in 1997, 20.8
percent in 1996 and 20.6 percent in 1995) is less than the corporate tax
rate on ordinary income of 35 percent in 1997, 1996 and 1995.
Federal income tax expense relating to operations of the Company for 1997,
1996 and 1995 is comprised of the following (in thousands):
Year Ended December 31,
-------------------------------
1997 1996 1995
------- ------- -------
Current tax expense $39,133 $41,548 $28,913
Deferred tax expense 1,715 5,318 19,841
------- ------- -------
Federal income tax expense $40,848 $46,866 $48,754
======= ======= =======
The following is a reconciliation of federal income taxes computed at the
statutory rate and the provision for federal income taxes (in thousands):
Year Ended December 31,
--------------------------------
1997 1996 1995
-------- -------- --------
Income taxes computed on income
before provision for federal
income taxes, at the statutory rate $ 75,128 $ 78,566 $ 82,821
Tax effect of:
Tax-exempt interest (34,508) (32,609) (30,630)
Other, net 228 909 (3,437)
-------- -------- --------
Provision for income taxes $ 40,848 $ 46,866 $ 48,754
======== ======== ========
-12-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
The tax effects of temporary differences that give rise to significant
portions of the net deferred tax liability or asset at December 31, 1997
and 1996 are presented below (in thousands):
1997 1996
-------- --------
Deferred tax assets:
Loss reserves $ 10,999 $ 9,249
Deferred compensation 2,242 2,531
Tax over book capital gains 2,996 2,144
Other 2,260 2,601
-------- --------
Total gross deferred tax assets 18,497 16,525
-------- --------
Deferred tax liabilities:
Unrealized gains on fixed maturity
securities, available-for-sale 45,601 21,086
Deferred acquisition costs 30,200 32,181
Premium revenue recognition 40,103 37,159
Rate differential on tax and loss bonds 9,454 9,454
Other 11,661 8,450
-------- --------
Total gross deferred tax liabilities 137,019 108,330
-------- --------
Net deferred tax liability $118,522 $ 91,805
======== ========
Based upon the level of historical taxable income, projections of future
taxable income over the periods in which the deferred tax assets are
deductible and the estimated reversal of future taxable temporary
differences, the Company believes it is more likely than not that it will
realize the benefits of these deductible differences and has not
established a valuation allowance at December 31, 1997 and 1996. The
Company anticipates that the related deferred tax asset will be realized
based on future profitable business.
Total federal income tax payments during 1997, 1996 and 1995 were $71.8
million, $33.9 million, and $59.8 million, respectively.
-13-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
(6) Reinsurance
The Company reinsures portions of its risk with other insurance companies
through quota share reinsurance treaties and, where warranted, on a
facultative basis. This process serves to limit the Company's exposure on
risks underwritten. In the event that any or all of the reinsuring
companies were unable to meet their obligations, the Company would be
liable for such defaulted amounts. The Company evaluates the financial
condition of its reinsurers and monitors concentrations of credit risk
arising from activities or economic characteristics of the reinsurers to
minimize its exposure to significant losses from reinsurer insolvencies.
The Company holds collateral under reinsurance agreements in the form of
letters of credit and trust agreements in various amounts with various
reinsurers totaling $37.0 million that can be drawn on in the event of
default.
Net premiums earned are presented net of ceded earned premiums of $33.3
million, $23.7 million and $21.9 million for the years ended December 31,
1997, 1996 and 1995, respectively. Loss and loss adjustment expenses
incurred are presented net of ceded losses of $0.2 million, $(0.8) million
and $1.1 million for the years ended December 31, 1997, 1996 and 1995,
respectively.
-14-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
(7) Loss and Loss Adjustment Expenses
Activity in the reserve for loss and loss adjustment expenses is summarized
as follows (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
Balance at January 1, $ 72,616 $ 77,808 $ 98,746
Less reinsurance recoverable 7,015 (7,672) 14,472
-------- -------- --------
Net balance at January 1, 65,601 70,136 84,274
Incurred related to:
Current year 1,047 -- 26,681
Prior years 6,492 2,389 (1,207)
Portfolio reserves 5,000 -- (33,900)
-------- -------- --------
Total Incurred 12,539 2,389 (8,426)
-------- -------- --------
Paid related to:
Current year (1,047) -- (197)
Prior years (8,387) (6,924) (5,515)
-------- -------- --------
Total Paid (9,434) (6,924) (5,712)
-------- -------- --------
Net balance at December 31, 68,706 65,601 70,136
Plus reinsurance recoverable 8,220 7,015 7,672
-------- -------- --------
Balance at December 31, $ 76,926 $ 72,616 $ 77,808
======== ======== ========
</TABLE>
The changes in incurred portfolio and case reserves principally relates to
business written in prior years. The changes are based upon an evaluation
of the insured portfolio in light of current economic conditions and other
relevant factors.
-15-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
(8) Related Party Transactions
The Company has various agreements with subsidiaries of General Electric
Company ("GE") and GE Capital. These business transactions include
appraisal fees and due diligence costs associated with underwriting
structured finance mortgage-backed security business; payroll and office
expenses incurred by the Company's international branch offices but
processed by a GE subsidiary; investment fees pertaining to the management
of the Company's investment portfolio; and telecommunication service
charges. Approximately $4.9 million, $8.1 million and $3.2 million in
expenses were incurred in 1997, 1996 and 1995, respectively, related to
such transactions.
The Company also insured certain non-municipal issues with GE Capital
involvement as sponsor of the insured securitization and/or servicer of the
underlying assets. For some of these issues, GE Capital also provides first
loss protection in the event of default. Gross premiums written on these
issues amounted to $0.5 million in 1997, $0.6 million in 1996, and $1.3
million in 1995. As of December 31, 1997, par outstanding on these deals
before reinsurance was $112.9 million.
The Company insures bond issues and securities in trusts that were
sponsored by affiliates of GE (approximately 1 percent of gross premiums
written) in 1997, 1996 and 1995.
(9) Compensation Plans
Officers and other key employees of the Company participate in the Parent's
incentive compensation, deferred compensation and profit sharing plans.
Expenses incurred by the Company under compensation plans and bonuses
amounted to $5.0 million, $4.5 million and $7.5 million in 1997, 1996 and
1995, respectively, before deduction for related tax benefits.
(10) Dividends
Under New York insurance law, the Company may pay a dividend only from
earned surplus subject to the following limitations: (a) statutory surplus
after such dividend may not be less than the minimum required paid-in
capital, which was $66.4 million in 1997 and 1996, and (b) dividends may
not exceed the lesser of 10 percent of its surplus or 100 percent of
adjusted net investment income, as defined by New York insurance law, for
the 12 month period ending on the preceding December 31, without the prior
approval of the Superintendent of the New York State Insurance Department.
At December 31, 1997 and 1996, the amount of the Company's surplus
available for dividends was approximately $124.6 million and $91.8 million,
respectively.
During 1997, 1996 and 1995, the Company paid dividends of $0.0, $17.5
million and $25.0 million, respectively.
(11) Capital Contribution
During 1997, the Parent made a capital contribution of $49.5 million to the
Company.
-16-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
(12) Financial Instruments
Fair Value of Financial Instruments
The following methods and assumptions were used by the Company in
estimating fair values of financial instruments:
Fixed Maturity Securities: Fair values for fixed maturity securities are
based on quoted market prices, if available. If a quoted market price is
not available, fair values is estimated using quoted market prices for
similar securities. Fair value disclosure for fixed maturity securities is
included in the balance sheets and in Note 4.
Short-Term Investments: Short-term investments are carried at cost, which
approximates fair value.
Cash, Receivable for Securities Sold, and Payable for Securities Purchased:
The carrying amounts of these items approximate their fair values.
The estimated fair values of the Company's financial instruments at
December 31, 1997 and 1996 are as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996
------------------- ---------------------
Carrying Fair Carrying Fair
amount Value amount Value
------ ----- ------ -----
<S> <C> <C> <C> <C>
Financial Assets
Cash
On hand and in demand accounts $ 802 $ 802 $ 860 $ 860
Short-term investments $ 76,039 $ 76,039 $ 73,839 $ 73,839
Fixed maturity securities $2,443,746 $2,443,746 $2,250,549 $2,250,549
</TABLE>
Financial Guaranties: The carrying value of the Company's financial
guaranties is represented by the unearned premium reserve, net of deferred
acquisition costs, and loss and loss adjustment expense reserves. Estimated
fair values of these guaranties are based on amounts currently charged to
enter into similar agreements (net of applicable ceding commissions),
discounted cash flows considering contractual revenues to be received
adjusted for expected prepayments, the present value of future obligations
and estimated losses, and current interest rates. The estimated fair values
of such financial guaranties range between $355.7 million and $382.6
million compared to a carrying value of $456.8 million as of December 31,
1997 and between $358.7 million and $387.4 million compared to a carrying
value of $487.8 million as of December 31, 1996.
-17-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
Concentrations of Credit Risk
The Company considers its role in providing insurance to be credit
enhancement rather than credit substitution. The Company insures only those
securities that, in its judgment, are of investment grade quality. The
Company has established and maintains its own underwriting standards that
are based on those aspects of credit that the Company deems important for
the particular category of obligations considered for insurance. Credit
criteria include economic and social trends, debt management, financial
management and legal and administrative factors, the adequacy of
anticipated cash flows, including the historical and expected performance
of assets pledged for payment of securities under varying economic
scenarios and underlying levels of protection such as insurance or
overcollateralization.
In connection with underwriting new issues, the Company sometimes requires,
as a condition to insuring an issue, that collateral be pledged or, in some
instances, that a third-party guarantee be provided for a term of the
obligation insured by a party of acceptable credit quality obligated to
make payment prior to any payment by the Company. The types and extent of
collateral pledged varies, but may include residential and commercial
mortgages, corporate debt, government debt and consumer receivables.
As of December 31, 1997, the Company's total insured principal exposure to
credit loss in the event of default by bond issuers was $108.4 billion, net
of reinsurance of $31.6 billion. The Company's insured portfolio as of
December 31, 1997 was broadly diversified by geography and bond market
sector with no single debt issuer representing more than 1% of the
Company's principal exposure outstanding, net of reinsurance.
As of December 31, 1997, the composition of principal exposure by type of
issue, net of reinsurance, was as follows (in millions):
Net
Principal
Outstanding
----------
Municipal:
General obligation $ 57,244.4
Special revenue 35,526.8
Industrial revenue 405.7
Non-municipal 15,268.7
----------
Total $108,445.6
The Company's gross and net exposure outstanding was $254,441.1 million and
$193,612.9 million, respectively, as of December 31, 1997.
As of December 31, 1997, the composition of principal exposure ceded to
reinsurers was as follows (in millions):
Ceded
Principal
Outstanding
-----------
Reinsurer:
Capital Re $14,909.1
Enhance Re 8,431.7
Other 8,290.7
---------
Total $31,631.5
-18-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements (Continued)
================================================================================
The Company is authorized to do business in 50 states, the District of
Columbia, and in the United Kingdom and France. Principal exposure
outstanding at December 31, 1997 by state, net of reinsurance, was as
follows (in millions):
Net
Principal
Outstanding
-----------
California $ 12,308.1
Pennsylvania 10,277.8
Florida 10,181.7
New York 8,945.5
Illinois 7,203.8
Texas 6,072.4
Michigan 4,526.3
New Jersey 4,476.2
Arizona 3,109.2
Ohio 2,616.1
----------
Sub-total 69,717.1
Other states 38,421.7
International 306.8
----------
Total $108,445.6
(13) Commitments
Total rent expense was $2.4 million, $2.8 million and $2.2 million in 1997,
1996 and 1995, respectively. For each of the next five years and in the
aggregate as of December 31, 1997, the minimum future rental payments under
noncancellable operating leases having remaining terms in excess of one
year approximate (in thousands):
Year Amount
1998 $ 2,909
1999 2,909
2000 2,909
2001 2,911
2002 --
-------
Total minimum future rental payments $11,638
=======
-19-
FINANCIAL GUARANTY INSURANCE COMPANY
================================================================================
Unaudited Interim Financial Statements
June 30, 1998
Balance Sheets ............................................................. 1
Statements of Income ....................................................... 2
Statements of Cash Flows ................................................... 3
Notes to Unaudited Interim Financial Statements ............................ 4
<PAGE>
Financial Guaranty Insurance
Company Balance Sheets
================================================================================
($ in Thousands)
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
---------- ----------
Assets (Unaudited)
<S> <C> <C>
Fixed maturity securities, available for sale,
at fair value (amortized cost of
$2,439,765 in 1998 and $2,313,458 in 1997) ................... $2,538,259 $2,443,746
Short-term investments, at cost, which approximates market ...... 74,599 76,039
Cash ............................................................ 1,068 802
Accrued investment income ....................................... 38,593 38,927
Reinsurance receivable .......................................... 7,581 8,220
Deferred policy acquisition costs ............................... 84,225 86,286
Property, plant and equipment net of
accumulated depreciation of $6,904 in 1998 and $17,346 in 1997 2,469 3,142
Prepaid reinsurance premiums .................................... 146,578 154,208
Prepaid expenses and other assets ............................... 7,617 21,002
---------- ----------
Total assets ........................................ $2,900,989 $2,832,372
========== ==========
Liabilities and Stockholder's Equity
Liabilities:
Unearned premiums ............................................... $ 604,325 $ 628,553
Losses and loss adjustment expenses ............................. 61,170 76,926
Ceded reinsurance payable ....................................... 1,178 3,932
Accounts payable and accrued expenses ........................... 42,395 26,352
Current federal income taxes payable ............................ 49,114 19,335
Deferred federal income taxes payable ........................... 108,190 118,522
Payable for securities purchased ................................ 29,213 5,811
---------- ----------
Total liabilities ................................... 895,585 879,431
---------- ----------
Stockholder's Equity:
Common stock, par value $1,500 per share at June 30,
1998 and at December 31, 1997: 10,000 shares authorized,
issued and outstanding ........................................ 15,000 15,000
Additional paid-in capital ...................................... 383,511 383,511
Accumulated other comprehensive income, net of tax .............. 63,517 83,935
Retained earnings ............................................... 1,543,376 1,470,495
---------- ----------
Total stockholder's equity .......................... 2,005,404 1,952,941
---------- ----------
Total liabilities and stockholder's equity .......... $2,900,989 $2,832,372
========== ==========
</TABLE>
See accompanying notes to unaudited interim financial statements
-1-
<PAGE>
Financial Guaranty Insurance
Company Statements Of Income
================================================================================
($ in Thousands)
<TABLE>
<CAPTION>
Six Months Ended June 30,
1998 1997
--------- ---------
(Unaudited)
<S> <C> <C>
Revenues:
Gross premiums written $ 46,221 $ 46,339
Ceded premiums (4,818) (11,668)
--------- ---------
Net premiums written 41,403 34,671
Decrease in net unearned premiums 16,654 23,982
--------- ---------
Net premiums earned 58,057 58,653
Net investment income 66,023 63,518
Net realized gains 25,773 9,127
--------- ---------
Total revenues 149,853 131,298
--------- ---------
Expenses:
Losses and loss adjustment expenses 3,381 1,063
Policy acquisition costs 10,576 7,525
Other underwriting expenses 9,426 7,949
--------- ---------
Total expenses 23,383 16,537
--------- ---------
Income before provision for federal income taxes 126,470 114,761
Provision for federal income taxes 28,589 24,733
--------- ---------
Net income $ 97,881 $ 90,028
========= =========
</TABLE>
See accompanying notes to unaudited interim financial statements
-2-
<PAGE>
Financial Guaranty Insurance
Company Statements Of Cash Flows
================================================================================
($ in Thousands)
<TABLE>
<CAPTION>
Six Months Ended June 30,
1998 1997
--------- ---------
(Unaudited)
<S> <C> <C>
Operating activities:
Net income $ 97,881 $ 90,028
Adjustments to reconcile net income to net
cash provided by operating activities:
Provision for deferred income taxes 663 1,586
Amortization of fixed maturity securities 1,886 671
Policy acquisition costs deferred (8,515) (6,979)
Amortization of deferred policy acquisition costs 10,576 7,525
Depreciation of fixed assets 732 1,267
Change in reinsurance receivable 639 (62)
Change in prepaid reinsurance premiums 7,630 1,977
Foreign currency translation adjustment 382 (380)
Change in accrued investment income, prepaid
expenses and other assets 13,719 4,090
Change in unearned premiums (24,228) (25,959)
Change in losses and loss adjustment expense reserves (15,756) (2,500)
Change in other liabilities 13,289 (25,679)
Change in current income taxes payable 29,779 (27,208)
Net realized gains on investments (25,773) (9,127)
--------- ---------
Net cash provided by operating activities 102,904 9,250
--------- ---------
Investing activities:
Sales or maturities of fixed maturity securities 431,647 425,102
Purchases of fixed maturity securities (535,726) (419,674)
Sales or maturities (purchases) of short-term investments, net 1,441 (12,863)
Purchases of property and equipment, net -- (484)
--------- ---------
Net cash used for investing activities (102,638) (7,919)
Increase in cash 266 1,331
Cash at beginning of period 802 860
--------- ---------
Cash at end of period $ 1,068 $ 2,191
========= =========
</TABLE>
See accompanying notes to unaudited interim financial statements
-3-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements
June 30, 1998 and 1997
(Unaudited)
(1) Basis of Presentation
The interim financial statements of Financial Guaranty Insurance
Company (the Company) in this report reflect all adjustments
necessary, in the opinion of management, for a fair statement of (a)
results of operations for the six months ended June 30, 1998 and 1997,
(b) the financial position at June 30, 1998 and December 31, 1997, and
(c) cash flows for the six months ended June 30, 1998 and 1997.
These interim financial statements should be read in conjunction with
the financial statements and related notes included in the 1997
audited financial statements.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that effect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from those estimates.
(2) Statutory Accounting Practices
The financial statements are prepared on the basis of GAAP, which
differs in certain respects from accounting practices prescribed or
permitted by state insurance regulatory authorities. The following are
the significant ways in which statutory basis accounting practices
differ from GAAP:
(a) premiums are earned directly in proportion to the scheduled
principal and interest payments rather than in proportion to the
total exposure outstanding at any point in time;
(b) policy acquisition costs are charged to current operations as
incurred rather than as related premiums are earned;
(c) a contingency reserve is computed on the basis of statutory
requirements for the security of all policyholders, regardless of
whether loss contingencies actually exist, whereas under GAAP, a
reserve is established based on an ultimate estimate of exposure;
(d) certain assets designated as "non-admitted assets" are charged
directly against surplus but are reflected as assets under GAAP,
if recoverable;
(e) federal income taxes are only provided with respect to taxable
income for which income taxes are currently payable, while under
GAAP taxes are also provided for differences between the
financial reporting and tax bases of assets and liabilities;
(f) purchases of tax and loss bonds are reflected as admitted assets,
while under GAAP they are recorded as federal income tax
payments; and
(g) all fixed income investments are carried at amortized cost,
rather than at fair value for securities classified as "Available
for Sale" under GAAP.
-4 -
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements
================================================================================
The following is a reconciliation of the net income and stockholder's equity of
Financial Guaranty prepared on a GAAP basis to the corresponding amounts
reported on a statutory basis for the periods indicated below:
<TABLE>
<CAPTION>
Six Months Ended June 30,
---------------------------------------------------------------------
1998 1997
------------------------------- ------------------------------
Net Stockholder's Net Stockholder's
Income Equity Income Equity
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
GAAP basis amount $ 97,881 $ 2,005,404 $ 90,028 $ 1,783,238
Premium revenue recognition (6,709) (187,918) (2,158) (178,443)
Deferral of acquisition costs 2,061 (84,225) 545 (91,399)
Contingency reserve -- (567,350) -- (489,210)
Non-admitted assets -- (2,090) -- (3,369)
Case-basis losses incurred 1,286 (586) (355) (3,604)
Portfolio loss reserves 1,400 30,400 -- 24,000
Deferral of income tax 663 73,633 1,586 72,173
Unrealized gains on fixed maturity
securities held at fair value, net of -- (64,021) -- (48,183)
taxes
Profit commission 1,754 (5,635) (266) (6,452)
Contingency reserve tax deduction -- 74,059 -- 95,185
Allocation of tax benefits due to Parent's
net operating loss to the Company 106 11,022 156 10,759
----------- ----------- ----------- -----------
Statutory basis amount $ 98,442 $ 1,282,693 $ 89,536 $ 1,164,695
=========== =========== =========== ===========
</TABLE>
-5-
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements
(3) Dividends
Under New York Insurance Law, the Company may pay a dividend only from
earned surplus subject to the following limitations:
o Statutory surplus after dividends may not be less than the
minimum required paid-in capital, which was $66.4 million in
1997.
o Dividends may not exceed the lesser of 10 percent of its surplus
or 100 percent of adjusted net investment income, as defined
therein, for the twelve month period ending on the preceding
December 31, without the prior approval of the Superintendent of
the New York State Insurance Department.
The amount of the Company's surplus available for dividends during
1998 is approximately $128.3 million.
During 1998, the Company declared dividends of $25.0 million.
(4) Income Taxes
The Company's effective Federal corporate tax rate (22.6 percent and
21.6 percent for the six months ended June 30, 1998 and 1997,
respectively) is less than the statutory corporate tax rate (35
percent in 1998 and 1997) on ordinary income due to permanent
differences between financial and taxable income, principally
tax-exempt interest.
(5) Reinsurance
In accordance with Statement of Financial Accounting Standards No. 113
("SFAS 113"), "Accounting and Reporting for Reinsurance of
Short-Duration and Long-Duration Contracts", the Company reports
assets and liabilities relating to reinsured contracts gross of the
effects of reinsurance. Net premiums earned are shown net of premiums
ceded of $12.4 million and $13.6 million, respectively, for the six
months ended June 30, 1998 and 1997.
(6) Comprehensive Income
In June 1997, the Financial Accounting Standard Board issued statement
No. 130, "Reporting Comprehensive Income", which requires enterprises
to disclose comprehensive income and its components. Comprehensive
income encompasses all changes in shareholders' equity (except those
arising from transactions with shareholders) and includes net income,
net unrealized capital gains or losses on available-for-sale
securities and foreign currency translation adjustments, net of taxes.
This new standard only changes the presentation of certain information
in the financial statements and does not affect the Company's
financial position or results of operations. The following is a
reconciliation of comprehensive income:
- 6 -
<PAGE>
Financial Guaranty Insurance
Company Notes to Financial Statements
June 30, 1998 and 1997
(Unaudited)
For the Six Months
Ended June 30,
1998 1997
-------- --------
Net income $ 97,881 90,028
Other comprehensive income:
Change in unrealized investment gains,
net of taxes (20,666) 9,023
Change in foreign exchange gains,
net of taxes 248 (247)
-------- --------
Comprehensive income $ 77,463 $ 98,804
======== ========
- 7 -
<PAGE>
EXHIBIT A
Approved Financial Information
As of June 30, 1998
As of June 30, 1998, December 31, 1997 and 1996 the Certificate Insurer had
written directly or assumed through reinsurance, guaranties of approximately
$246.7 billion, $230.2 billion, and $205.0 billion par value of securities,
respectively (of which approximately 80 percent, 86 percent and 82 percent
constituted guaranties of municipal bonds), for which it had collected gross
premiums of approximately $2.19 billion, $2.14 billion and $2.05 billion,
respectively. As of June 30, 1998, the Certificate Insurer had reinsured
approximately 21 percent of the risks it had written, 30 percent through quota
share reinsurance, 24 percent through excess of loss reinsurance, and 46 percent
through facultative arrangements.
Capitalization
The following table sets forth the capitalization of the Certificate Insurer as
of December 31, 1996, December 31, 1997 and June 30, 1998 respectively, on the
basis of generally accepted accounting principles. No material adverse change in
the capitalization of the Certificate Insurer has occurred since June 30, 1998.
(Unaudited)
December 31, December 31, June 30,
1996 1997 1998
(In Millions) (In Millions) (In Millions)
------------- ------------- -------------
Unearned Premiums $ 682 $ 629 $ 604
Other Liabilities 288 250 292
Stockholder's Equity (1)
Common Stock 15 15 15
Additional Paid-in Capital 334 384 384
Accumulated Other Comprehensive
Income 38 84 64
Retained Earnings 1,297 1,470 1,542
------ ------ ------
Total Stockholder's Equity 1,684 1,953 2,005
------ ------ ------
Total Liabilities and
Stockholder's Equity $2,654 $2,832 $2,901
====== ====== ======
(1) Components of stockholder's equity have been restated for all periods
presented to reflect "accumulated other comprehensive income" in accordance
with the Statement of Financial accounting standards No. 130 "Reporting
comprehensive Income" adopted by the Certificate Insurer effective January
1, 1998. as this new standard only requires additional information in the
financial statements, it does not affect the Certificate insurer's
financial position or results of operations.
For further financial information concerning the Certificate Insurer, see the
audited financial statements of the Certificate Insurer included as Appendix A
and the unaudited interim financial statements of the Certificate Insurer
included as Appendix B.
Copies of the Certificate Insurer's quarterly and annual statutory statements
filed by the Certificate Insurer with the New York Insurance Department are
available upon request to Financial Guaranty Insurance Company, 115 Broadway,
New York, New York 10006, Attention: Corporate Communications Department. The
Certificate Insurer's telephone number is (212) 312-3000.
<PAGE>
The Certificate Insurer does not accept any responsibility for the accuracy or
completeness of this Prospectus or any information or disclosure contained
herein, or omitted herefrom, other than with respect to the accuracy of
information regarding the Certificate Insurer and the Certificate Insurance
Policy set forth under the headings "The Certificate Insurance Policy" and "The
Certificate Insurer" and in Appendix A and Appendix B.
