SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
( x ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
----------------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission file number 0-22316
---------
Penn-America Group, Inc.
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(Exact name of registrant as specified in its charter)
Pennsylvania 23-2731409
-------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
420 South York Road, Hatboro, Pennsylvania 19040
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(Address of principal executive offices, including zip code)
(215) 443-3600
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(Registrant's telephone number, including area code)
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 other 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 __.
At November 4, 1999, 8,131,261 shares of the registrant's common stock, $.01 par
value, were outstanding.
Page 1
<PAGE>
Penn-America Group, Inc. and SubsidiarIES
Index
<TABLE>
<CAPTION>
Page Number
<S> <C>
Part I - Financial Information
Consolidated Unaudited Balance Sheets - September 30, 1999 and
December 31, 1998 3
Consolidated Unaudited Statements of Earnings - For the three
and nine months ended September 30, 1999 and 1998 4
Consolidated Unaudited Statement of Stockholders' Equity -
For the nine months ended September 30, 1999 5
Consolidated Unaudited Statements of Cash Flows -
For the nine months ended September 30, 1999 and 1998 6
Notes to Unaudited Consolidated Financial Statements 7
Management's Discussion and Analysis of Financial Condition
and Results of Operations 13
Part II - Other Information 25
</TABLE>
Page 2
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Unaudited)
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
<S> <C> <C>
September 30, December 31,
1999 1998
---------------- -----------------
ASSETS
Investments:
Fixed maturities:
Available for sale, at fair value (amortized cost 1999, $110,273; 1998, $103,365) $ 107,574 $ 105,598
Held to maturity, at amortized cost (fair value 1999, $22,248; 1998, $27,270) 22,309 26,956
Equity securities, at fair value (cost 1999, $28,162; 1998, $23,358) 27,168 25,238
Short-term investments, at cost, which approximates fair value -- 997
---------------- -----------------
Total investments 157,051 158,789
Cash 12,459 24,077
Receivables:
Accrued investment income 2,168 1,871
Premiums receivable, net 9,788 10,349
Reinsurance recoverable 18,607 18,766
---------------- -----------------
Total receivables 30,563 30,986
Prepaid reinsurance premiums 3,975 2,809
Deferred policy acquisition costs 9,241 8,728
Capital lease 1,862 2,051
Deferred income taxes 4,148 1,598
Income tax recoverable 2,126 884
Other assets 399 582
---------------- -----------------
Total assets $ 221,824 $ 230,504
================ =================
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Unpaid losses and loss adjustment expenses $ 93,421 $ 88,937
Unearned premiums 36,613 34,253
Accounts payable and accrued expenses 2,402 1,179
Capitalized lease obligation 1,855 2,080
Other liabilities 3,025 3,425
---------------- -----------------
Total liabilities 137,316 129,874
---------------- -----------------
Stockholders' equity:
Preferred stock, $.01 par value; authorized 2,000,000 shares;
none issued -- --
Common stock, $.01 par value; authorized 20,000,000 shares;
issued 1999, 9,990,436 and 1998, 9,938,179 shares, outstanding 1999,
8,391,911 and 1998, 9,395,854 shares 100 99
Additional paid-in capital 69,591 69,035
Accumulated other comprehensive (loss) income ( 2,437) 2,714
Retained earnings 34,598 34,779
Treasury stock, 1999, 1,598,525 shares, 1998, 542,325 shares, at cost ( 16,989) ( 5,643)
---------------- -----------------
84,863 100,984
Unearned compensation from restricted stock awards ( 355) ( 354)
---------------- -----------------
Total stockholders' equity 84,508 100,630
---------------- -----------------
Total liabilities and stockholders' equity $ 221,824 $ 230,504
================ =================
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
Page 3
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Earnings
(Unaudited)
For the three and nine month periods ended September 30, 1999 and 1998
(In thousands, except per share data)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
---------------------- ----------------------
1999 1998 1999 1998
-------- -------- -------- --------
Revenues:
<S> <C> <C> <C> <C>
Premiums earned $ 21,555 $ 22,628 $ 64,375 $ 67,737
Net investment income 2,403 2,667 7,163 8,191
Net realized investment gains (losses) 1 (418) 1,239 25
-------- -------- -------- --------
Total revenues 23,959 24,877 72,777 75,953
-------- -------- -------- --------
Losses and expenses:
Losses and loss adjustment expenses 21,329 14,338 48,874 42,483
Amortization of deferred policy acquisition costs 6,103 6,351 18,343 18,775
Other underwriting expenses 1,668 1,693 4,553 4,867
Interest expense 36 44 109 133
-------- -------- -------- --------
Total losses and expenses 29,136 22,426 71,879 66,258
-------- -------- -------- --------
Earnings (losses) before income tax (5,177) 2,451 898 9,695
Income and tax expense (benefit) (1,933) 667 (263) 2,806
-------- -------- -------- --------
Net earnings (loss) $ (3,244) $ 1,784 $ 1,161 $ 6,889
======== ======== ======== ========
Net earnings (loss) per share
Basic $ (0.38) $ 0.18 $ 0.13 $ 0.70
Diluted $ (0.38) $ 0.18 $ 0.13 $ 0.69
Weighted average number of shares outstanding
Basic 8,457 9,797 8,742 9,859
Diluted 8,520 9,873 8,814 9,962
Cash dividends per share $ 0.0525 $ 0.05 $ 0.155 $ 0.15
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
Page 4
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Consolidated Statement of Stockholders' Equity
(Unaudited)
For the nine months ended September 30, 1999
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
Unearned
Compensation
Accumulated From
Common Stock Additional Other Restricted
------------------- Paid-In Comprehensive Retained Treasury Stock
Shares Amount Capital Income (Loss) Earnings Stock Awards Total
--------- ------- --------- ------------- -------- -------- ----------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1998 9,938,179 $ 99 $ 69,035 $ 2,714 $ 34,779 $(5,643) $(354) $100,630
1,161 1,161
Net earnings
Other comprehensive (loss) income, net of tax:
Unrealized losses on investments, net of
reclassification adjustment (5,151) (5,151)
--------
Comprehensive (loss) income (3,990)
--------
Issuance of common stock 52,257 1 556 557
Unearned compensation from restricted
stock awards (91) (91)
Amortization of compensation expense from
restricted stock awards issued 90 90
Cash dividends paid ($0.155 per share) (1,342) (1,342)
Purchase of treasury stock, 1,056,200 shares (11,346) (11,346)
----------------------------------------------------------------------------------------
Balance at September 30, 1999 9,990,436 $100 $ 69,591 $(2,437) $ 34,598 $(16,989) $(355) $ 84,508
========================================================================================
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
Page 5
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
For the nine months ended September 30, 1999 and 1998
(In thousands)
<TABLE>
<CAPTION>
Nine months ended September 30,
-------------------------------------
1999 1998
--------------- --------------
Cash flows from operating activities:
<S> <C> <C>
Net earnings $ 1,161 $ 6,889
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Amortization and depreciation expense 389 511
Net realized investment gains ( 1,239) ( 25)
Deferred income tax (benefit) 104 ( 421)
Net decrease in premiums receivable, prepaid reinsurance premiums
and unearned premiums 1,755 615
Net increase in unpaid losses and loss adjustment expenses
and reinsurance recoverable 4,642 3,279
(Increase) decrease in:
Accrued investment income ( 296) ( 331)
Deferred policy acquisition costs ( 512) ( 360)
Income tax recoverable ( 1,242) ( 620)
Other assets 89 ( 71)
Increase (decrease) in:
Accounts payable and accrued expenses 1,223 ( 1,086)
Other liabilities ( 400) ( 105)
--------------- --------------
Net cash provided by operating activities 5,674 8,275
--------------- --------------
Cash flows from investing activities:
Purchases of equity securities ( 7,372) (15,539)
Purchases of fixed maturities available for sale (29,704) (45,514)
Purchases of fixed maturities held to maturity ( 2,785) ( 1,015)
Proceeds from sales of equity securities 3,764 16,431
Proceeds from sales and maturities of fixed maturities available for sale 22,877 24,743
Proceeds from maturities and calls of fixed maturities held to maturity 7,256 15,268
Change in short-term investments 997 1,795
--------------- --------------
Net cash used by investing activities ( 4,967) ( 3,831)
--------------- --------------
Cash flows from financing activities:
Issuance of common stock 465 634
Purchase of treasury stock ( 11,346) ( 3,217)
Principal payments on capital lease obligations ( 102) ( 95)
Dividends paid ( 1,342) ( 1,480)
--------------- --------------
Net cash used by financing activities ( 12,325) ( 4,158)
--------------- --------------
(Decrease) increase in cash ( 11,618) 286
Cash, beginning of period 24,077 2,163
--------------- --------------
Cash, end of period $ 12,459 $ 2,449
=============== ==============
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 109 $ 133
Taxes 875 3,800
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
Page 6
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
Note 1 - Organization and Basis of Presentation
Penn-America Group, Inc. ("PAGI") is an insurance holding company whose
principal asset is the common stock of Penn-America Insurance Company
("Penn-America"). The "Company" refers to PAGI and Penn-America, as well as to
Penn-America's wholly-owned subsidiary, Penn-Star Insurance Company. Penn
Independent Corporation ("Penn Independent") currently owns approximately 36.8%
of the outstanding common stock of PAGI as of September 30, 1999.
The accompanying unaudited consolidated financial statements should be
read in conjunction with the financial statements and notes for the year ended
December 31, 1998. In the opinion of management, the financial information
reflects all adjustments (consisting only of normal recurring adjustments),
which are necessary for a fair presentation of the Company's financial position,
results of operations, and cash flows for the interim periods. The Company's
results of operations for interim periods are not necessarily indicative of the
results to be expected for the entire year.
Note 2 - Reinsurance
Premiums earned are net of amounts ceded to reinsurers of $2.5 million
and $1.9 million for the three months ended September 30, 1999 and 1998,
respectively. Losses and loss adjustment expenses are net of amounts ceded to
reinsurers of $2.0 million and $1.9 million for the three months ended September
30, 1999 and 1998, respectively.
Premiums earned are net of amounts ceded to reinsurers of $6.0 million
and $5.7 million for the nine months ended September 30, 1999 and 1998,
respectively. Losses and loss adjustment expenses are net of amounts ceded to
reinsurers of $6.1 million and $5.1 million for the nine months ended September
30, 1999 and 1998, respectively
Note 3 - Comprehensive Income
Accumulated other comprehensive (loss) income of the Company consists
solely of net unrealized (losses) gains on investment securities.
Page 7
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
(continued)
The following are components of other comprehensive (loss) income (in
thousands):
<TABLE>
<CAPTION>
<S> <C> <C> <C>
Nine months ended September 30, 1999
----------------------------------------------------------
Before Tax Tax Net of Tax
Amount Expense Amount
----------------- ------------------ --------------
Unrealized losses on investments:
Unrealized holding losses arising
during period $(6,565) $ 2,232 $(4,333)
Less: reclassification adjustment for
gains realized in net earnings (1,239) 421 ( 818)
----------------------------------------------------------
Other comprehensive loss $(7,804) $ 2,653 $(5,151)
========================================================
Nine months ended September 30, 1998
----------------------------------------------------------
Before Tax Tax Net of Tax
Amount Expense Amount
----------------- ------------------ --------------
Unrealized gains on investments:
Unrealized holding gains arising
during period $ 1,664 $( 598) $ 1,066
Less: reclassification adjustment for
gains realized in net earnings ( 25) 9 ( 16)
----------------------------------------------------------
Other comprehensive income $ 1,639 $( 589) $ 1,050
========================================================
</TABLE>
For the three months ended September 30, 1999, comprehensive loss of $4,679,000
consisted of a net loss of $3,244,000 and other comprehensive loss of
$1,435,000.
Comprehensive income for the three and nine months ended September 30, 1998 was
$2,676,000 and $7,939,000 which consisted of net income of $1,784,000 and
$6,889,000 and other comprehensive income of $892,000 and $1,050,000,
respectively.
Page 8
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
(continued)
Note 4 - Basic and Diluted Earnings Per Share
The following is a reconciliation of the numerators and denominators of
the basic and diluted earnings per share computations (in thousands, except per
share data):
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
-------------------------- ---------------------------
1999 1998 1999 1998
----------- ---------- ---------- ----------
Basic EPS:
<S> <C> <C> <C> <C>
Net earnings (losses) $( 3,244) $ 1,784 $ 1,161 $ 6,889
----------- ---------- ---------- ----------
Weighted average common
shares outstanding 8,457 9,797 8,742 9,859
----------- ---------- ---------- ----------
Basic EPS $( 0.38) $ 0.18 $ 0.13 $ 0.70
=========== ========== ========== ==========
Diluted EPS:
Net earnings (losses) $( 3,244) $ 1,784 $ 1,161 $ 6,889
----------- ---------- ---------- ----------
Weighted average common
shares outstanding 8,457 9,797 8,742 9,859
Additional shares outstanding
after the assumed exercise
of options by applying the
treasury stock method 63 76 72 103
----------- ---------- ---------- ----------
Total weighted average common
shares outstanding 8,520 9,873 8,814 9,962
=========== ========== ========== ==========
Diluted EPS $( 0.38) $ 0.18 $ 0.13 $ 0.69
=========== ========== ========== ==========
</TABLE>
Note 5- Change in accounting estimate
During the third quarter of 1999, the Company completed a routine
actuarial review, which included a study by the Company's outside consulting
actuary. As a result of this review, the Company strengthened its prior years'
unpaid loss and loss adjustment expense (reserves) related to its non-standard
personal automobile insurance line, which is in run-off, as well as its other
liability line. This reserve strengthening increased loss reserves by $5.5
million on a pretax basis, and reduced net income by $3.6 million or ($0.42) per
diluted share for the quarter.
Page 9
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
(continued)
Note 6- Segment Information
In 1998, the Company implemented Statement of Financial Accounting
Standard No. 131, "Disclosures about Segments of an Enterprise and Related
Information", which establishes standards about a company's operating segments.
The Company has two reportable segments: non-standard personal minimum
limits automobile and commercial lines. The Company announced in April 1999 that
it would run-off its remaining portfolio of the personal lines non-standard
automobile business, which was underwritten through a single agent in
California. This followed a move earlier this year to eliminate the rest of the
Company's non-standard personal automobile portfolio of this business in nine
other states. The Company will continue to report on this segment separately
until the amounts relating to the non-standard personal automobile business
become immaterial to the financial statements presented. These segments are
managed separately because they have different customers, pricing and expense
structures. The Company does not allocate assets between segments because assets
are reviewed in total by management for decision-making purposes.
The accounting policies of the segments are the same as those more
fully described in the summary of significant accounting policies in the
Company's annual report. The Company evaluates segment profit based on profit or
loss from operating activities. Segment profits or losses from operations are
pre-tax and does not include unallocated expenses but does include investment
income attributable to insurance transactions. Segment profit or loss therefore
excludes federal income taxes, unallocated expenses and investment income
attributable to equity as opposed to investment income attributable to insurance
transactions.
As of September 30, 1999, the Company's insurance business comprised
two distinct segments: commercial lines, which represent approximately 86.7% of
the Company's gross written premiums for the nine months ended September 30,
1999, and minimum limits non-standard personal automobile insurance.
The Company currently has one major customer accounting for more than
10% of the Company's revenue. The Company derived approximately 8.5% and 17.2%
of its revenues from this agent for the three months ended September 30, 1999
and 1998, respectively, and 10.7% and 19.2% of its revenues from this agent for
the nine months ended September 30, 1999 and 1998, respectively. This agent
produces the personal non-standard automobile coverage in the states of
California and Nevada that the Company is currently running off.
Page 10
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
(continued)
Note 6- Segment Information (Continued)
The following is a summary of the Company's segment revenues, expenses
and profit for the three months ended September 30, 1999 and 1998:
(in thousands) Three months ended September 30, 1999
-------------------------------------
Personal
Commercial Automobile Total
-------------------------------------
Premiums earned $ 18,632 $ 2,923 $ 21,555
Net investment income from
insurance operations 1,138 237 1,375
-------------------------------------
Total segment revenues 19,770 3,160 22,930
-------------------------------------
Segment losses and LAE 16,278 5,051 21,329
Segment expenses 5,770 1,020 6,790
-------------------------------------
Total segment expenses 22,048 6,071 28,119
-------------------------------------
Segment (loss) $ (2,278) $ (2,911) $ (5,189)
-------------------------------------
Plus unallocated items:
Net investment income from equity 1,029
Unallocated expenses (1,017)
Income tax expense 1,933
---------
Net loss $ (3,244)
=========
(in thousands) Three months ended September 30, 1998
-------------------------------------
Personal
Commercial Automobile Total
-------------------------------------
Premiums earned $ 16,387 $ 6,241 $ 22,628
Net investment income from
insurance operations 851 195 1,046
-------------------------------------
Total segment revenues 17,238 6,436 23,674
-------------------------------------
Segment losses and LAE 9,674 4,664 14,338
Segment expenses 4,865 2,009 6,874
-------------------------------------
Total segment expenses 14,539 6,673 21,212
-------------------------------------
Segment profit (loss) $ 2,699 $ (237) $ 2,462
-------------------------------------
Plus unallocated items:
Net investment income from equity 1,203
Unallocated expenses (1,214)
Income tax expense (667)
---------
Net earnings $ 1,784
=========
Page 11
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Notes to Unaudited Consolidated Financial Statements
(continued)
Note 6- Segment Information (Continued)
The following is a summary of the Company's segment revenues, expenses and
profit for the nine months ended September 30, 1999 and 1998:
(in thousands) Nine months ended September 30, 1999
-------------------------------------
Commercial Personal
Automobile Total
-------------------------------------
Premiums earned $ 52,667 $ 11,708 $ 64,375
Net investment income from
insurance operations 3,761 698 4,459
-------------------------------------
Total segment revenues 56,428 12,406 68,834
-------------------------------------
Segment losses and LAE 36,970 11,904 48,874
Segment expenses 15,996 3,870 19,866
-------------------------------------
Total segment expenses 52,966 15,774 68,740
-------------------------------------
Segment profit (loss) $ 3,462 ( 3,368) $ 94
-------------------------------------
Plus unallocated items:
Net investment income from equity 3,943
Unallocated expenses (3,139)
Income tax expense 263
------------
Net earnings $ 1,161
============
(in thousands) Nine months ended September 30, 1998
-------------------------------------
Personal
Commercial Automobile Total
-------------------------------------
Premiums earned $ 46,855 $ 20,882 $ 67,737
Net investment income from
insurance operations 3,135 718 3,853
-------------------------------------
Total segment revenues 49,990 21,600 71,590
-------------------------------------
Segment losses and LAE 28,247 14,236 42,483
Segment expenses 13,909 6,724 20,633
-------------------------------------
Total segment expenses 42,156 20,960 63,116
-------------------------------------
Segment profit $ 7,834 $ 640 $ 8,474
-------------------------------------
Plus unallocated items:
Net investment income from equity 4,363
Unallocated expenses (3,142)
Income tax expense (2,806)
------------
Net earnings $ 6,889
============
Page 12
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Results of Operations
Three Months Ended September 30, 1999 and 1998
Premiums earned decreased 4.7% to $21.6 million for the three months
ended September 30, 1999 from $22.6 million for the three months ended September
30, 1998, due to a 53.2% decline in non-standard personal lines automobile
premiums earned caused by the run off of personal lines, as discussed below,
partially offset by an 13.7% increase in commercial premiums earned.
Gross written premiums increased 7.5% for the three months ended
September 30, 1999 to $26.2 million compared to $24.3 million in 1998, due to a
29.0% increase in commercial gross written premiums partially offset by a 60.2%
decline in non-standard personal lines automobile net written premiums. The
company announced in April of 1999 that it is running off the remainder of its
non-standard personal automobile business.
Net written premiums decreased 0.4% for the three months ended
September 30, 1999 to $22.4 million compared to $22.5 million in 1998, due to a
60.2% decline in non-standard personal lines automobile net written, partially
offset by a 20.5% increase in commercial net written premiums.
Net investment income decreased 9.9% to $2.4 million for the three
months ended September 30, 1999, from $2.7 million for the three months ended
September 30, 1998. This decrease resulted principally from a decrease in the
tax equivalent investment yield to 6.23% as of September 30, 1999, from 6.50% as
of September 30, 1998, and an increased investment in tax-exempt municipal
securities held during the third quarter of 1999 compared to the third quarter
of 1998. The company's investment in tax-exempt municipal securities increased
29.3% to $38.3 million held during the third quarter of 1999 compared to $29.3
million held during the same quarter of 1998.
Losses and loss adjustment expenses increased 48.8% to $21.3 million
for the three months ended September 30, 1999, from $14.3 million for the three
months ended September 30, 1998. The Company announced on September 30, 1999
that it was strengthening reserves following a review which included a study by
the Company's outside consulting actuary, as well as having incurred additional
property losses during the quarter. This accounts for the increase in losses and
loss adjustment expenses.
Amortization of deferred policy acquisition costs decreased 3.9% to
$6.1 million for the three months ended September 30, 1999 compared to $6.4
million in 1998, due primarily to the 4.7% decrease in net premiums earned.
Page 13
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
Other underwriting expenses were unchanged, at $1.7 million for both
the three month periods ended September 30, 1999 and 1998.
The overall statutory combined ratio for the Company increased to
133.2% for the three months ended September 30, 1999, from 98.6% for the three
months ended September 30, 1998, primarily due to the increase in the loss ratio
to 99.0% in 1999, compared to 63.4% in 1998. The increase in the loss ratio is
primarily due to the reserve strengthening and property losses described above.
The expense ratio declined to 34.2% for the three months ended September 30,
1999, compared to 35.2% for the three months ended September 30, 1998.
As a result of the factors described above, the Company recorded a net
loss for the three months ended September 30, 1999 of ($3.2 million) or ($0.38)
per share (basic and diluted), compared to net income of $1.8 million or $0.18
per share (basic and diluted) for the three months ended September 30, 1998. Per
share amounts for the three months ended September 30, 1999 are based on
weighted averages shares outstanding of 8,457,000 (basic) and 8,520,000
(diluted). Per share amounts for the three months ended September 30, 1998 are
based on weighted average shares outstanding of 9,797,000 (basic) and 9,873,000
(diluted).
Nine Months Ended September 30, 1999 and 1998
Premiums earned decreased 5.0% to $64.4 million for the nine months
ended September 30, 1999 from $67.7 million for the nine months ended September
30, 1998. This decrease was due to a 43.9% decline in non-standard personal
lines automobile premiums earned caused by the run off of personal, which was
partially offset by a 12.4% increase in commercial premiums earned.
Gross written premiums decreased 0.3% for the nine months ended
September 30, 1999 to $72.7 million compared to $72.9 million in 1998, due to a
16.2% increase in commercial gross written premiums offset by a 48.3% decline in
non-standard personal lines automobile net written premiums.
Net written premiums decreased 2.9% for the nine months ended September
30, 1999 to $65.6 million compared to $67.5 million in 1998, due to a 48.3%
decline in non-standard personal lines automobile net written premiums,
partially offset by a 14.4% increase in commercial net written premiums.
Net investment income decreased 12.6% to $7.2 million for the nine
months ended September 30, 1999, from $8.2 million for the nine months ended
September 30, 1998. This decrease resulted principally from a decrease in the
tax equivalent investment yield to 6.24% as of September 30, 1999, from 6.58% as
of September 30, 1998.
Page 14
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
Losses and loss adjustment expenses increased 15.0% to $48.9 million
for the nine months ended September 30, 1999, from $42.5 million for the nine
months ended September 30, 1998. The company announced on September 30, 1999
that it was strengthening reserves following a review which included a study
conducted by the Company's outside consulting actuarial firm, as well as having
incurred additional property losses during the quarter, which accounts for the
increase in losses and loss adjustment expenses for the nine months ended
September 30, 1999 as compared to the same period ended September 30, 1998.
Amortization of deferred policy acquisition costs decreased 2.3% to
$18.3 million for the nine months ended September 30, 1999, compared to $18.8
million for the nine months ended September 30, 1998, primarily due a decline in
net premiums earned.
The overall statutory combined ratio for the Company increased to
110.3% for the nine months ended September 30, 1999, from 96.7% for the nine
months ended September 30, 1998, primarily due to the increase in the loss ratio
to 75.9% in 1999, compared to 62.7% in 1998. The increase in the loss ratio is
primarily due to the reserve strengthening and property losses described above.
The expense ratio increased to 34.4% for the nine months ended September 30,
1999, compared to 34.0% for the nine months ended September 30, 1998.
As a result of the factors described above, the Company's net income
for the nine months ended September 30, 1999 decreased 83.1% to $1.2 million or
$0.13 per share (basic and diluted), from $6.9 million or $0.70 per share
(basic) and $0.69 per share (diluted) for the nine months ended September 30,
1998. Per share amounts for the nine months ended September 30, 1999 are based
on weighted averages shares outstanding of 8,742,000 (basic) and 8,814,000
(diluted). Per share amounts for the nine months ended September 30, 1998 are
based on weighted average shares outstanding of 9,859,000 (basic) and 9,962,000
(diluted).
Liquidity and Capital Resources
PAGI is a holding company, the principal asset of which is the common
stock of Penn-America. PAGI's cash flows depend primarily on dividends and other
payments from Penn-America and its subsidiary, Penn-Star. PAGI uses these funds
to pay (i) operating expenses, (ii) taxes and other payments, and (iii)
dividends to PAGI stockholders. Penn-America's source of funds consists
primarily of premiums, investment income and proceeds from sales and redemptions
of investments. Funds are used by Penn-America and Penn-Star principally to pay
claims and operating expenses, to purchase investments and to make dividend and
other payments to PAGI.
Net cash provided by operating activities decreased 31.4% to $5.7
million for the nine months ended September 30, 1999, from $8.3 million for the
nine months ended September 30, 1998, due primarily to the decline in
non-standard personal lines automobile gross written premiums in 1999.
Page 15
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
Net cash used by investing activities increased 29.7% to $5.0 million
for the nine month periods ended September 30, 1999, from $3.8 million for the
nine months ended September 30, 1998.
Net cash used by financing activities increased to $12.3 million for
the nine months ended September 30, 1999, compared to $4.2 million for the same
period in 1998. This increase is due to the repurchase of stock of $11.3 million
for the nine month period ended September 30, 1999, compared to $3.2 million for
the nine months ended September 30, 1998. The Company announced a corporate
stock buy-back program in July 1998. On September 30, 1999, the Board of
Directors had authorized the repurchase of up to 2.5 million shares. As of
September 30, 1999, the Company has acquired 1.6 million shares at an average
cost of $10.63 per share. The funding for the treasury stock program has been
provided by dividends from the Company's insurance subsidiary, Penn-America
Insurance Company.
For the nine months ended September 30, 1999, Penn-America Insurance
Company paid dividends of $14.5 million to the Company. Principally as a result
of the dividends paid by Penn-America to the Company, its statutory surplus as
of September 30, 1999 decreased to $69.4 million from $85.0 million as of
September 30, 1998.
The Company believes that it has sufficient liquidity to meet its
anticipated insurance obligations and operating and capital expenditure needs.
The Company's investment strategy emphasizes quality, liquidity and
diversification, as well as total return. With respect to liquidity, the Company
considers liability durations, specifically related to loss reserves, when
determining desired investment maturities. In addition, maturities have been
staggered to produce cash flows for loss payments and reinvestment
opportunities. The average duration of the fixed maturity portfolio as of
September 30, 1999 was approximately 4.7 years.
The Company's fixed maturity portfolio of $129.9 million was 83% of the
total investment portfolio as of September 30, 1999. Approximately 99% of these
securities were rated "A-" or better by Standard & Poor's or Moody's. Equities,
the majority of which consist of preferred stocks, were $27.2 million or 17% of
total investments as of September 30, 1999.
As of September 30, 1999, the investment portfolio contained $19.6
million of mortgage/ asset-backed obligations, which represents 12.5% of the
total investments as of September 30, 1999. All of these securities are "AAA"
rated securities issued by government, government-related agencies or publicly
held corporations, are publicly traded, and have market values obtained from an
independent pricing service. Changes in estimated cash flows due to changes in
prepayment assumptions from the original purchase assumptions are revised based
on current interest rates and the economic environment. The Company had no other
derivative financial instruments, real estate or mortgages in the investment
portfolio as of September 30, 1999.
Page 16
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
In 1999, the Company engaged a third asset manager, Madison Monroe,
Inc., to manage $10,000,000 of its investment portfolio. As of September 30,
1999, approximately $8.2 million was invested in U.S. Treasury strip bonds. One
of the principals of Madison Monroe is a party related to the controlling
shareholder of the Company.
The principal source of cash for the payment of dividends to PAGI's
stockholders is dividends from Penn-America Insurance Company and its
subsidiary, Penn-Star Insurance Company. Penn-America is required by law to
maintain a certain minimum surplus on a statutory basis and is subject to
risk-based capital requirements and regulations under which payment of dividends
from statutory surplus may require prior approval from the Pennsylvania
regulatory authorities. The maximum dividend that may be paid in 1999 by
Penn-America to PAGI without prior approval of regulatory authorities is
$9,455,000. For the twelve-month period ended September 30, 1999, Penn-America
had paid regular dividends of $9,455,000 and had obtained approval from the
Pennsylvania Insurance Department to pay extraordinary dividends of $10,295,000.
These dividends were used to fund the Company's stock repurchase program and
operating expenses of the Company.
The Year 2000
Introduction
The "Year 2000", or Y2K, refers to the problems that automated systems
could encounter as the year 2000 approaches due to computers' or other
electronic devices' inability to register the year 2000 correctly, rather than
as the year 1900. In this regard, the Company relies on its existing information
technology systems ("IT systems") to operate and to monitor all major aspects of
the Company's business, including underwriting, claims and various financial
systems. The Company also relies, to a lesser extent, on the IT systems of its
general agents and, indirectly, on those of the producing retail insurance
brokers. Finally, the Company relies on certain critical non-information
technology systems ("non-IT systems"), such as electricity, telephones,
facsimile machines, heating and air-conditioning and fire protection systems.
Any disruption in the operation of the IT and non-IT systems of either the
Company or any of its critical customers, vendors or suppliers could have a
material adverse effect on the Company's business, results of operations or
financial condition.
State of Readiness
IT systems: In an effort to remediate the problems associated with the
Year 2000, the Company, in 1996, evaluated all its computer codes to determine
what software programs would be affected by date-sensitive fields. After this
identification process was completed, the Company hired an outside vendor to
implement the recoding that was required. In July 1997, the Company successfully
ran its second trial of all the revised programs. Based upon testing to date,
the Company believes that its programs are Year 2000 compliant. The Company,
however,
Page 17
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
continues to run periodic tests to make sure the programs will function
properly. The latest Y2K testing occurred successfully on October 1, 1999. As of
this date, over 30,000 policies have been successfully processed as new policies
and renewals with an expiration date of January 1, 2000 or after.
The Company's IT systems have also been tested against hypothetical
information supplied by its general agents. The IT systems currently are able to
read properly the information provided. Assuming the general agents don't alter
their records, the Company reasonably believes that its IT systems will function
properly. To the extent the general agents' records change, the Company requires
that the agents provide notice.
The Company's management information systems rely primarily on an
integrated property-casualty software package that is processed on an IBM AS/400
computer system. The system is leased from IBM and kept current or near current
in both hardware and operating systems. The IBM AS/400 model hardware was
upgraded in the fourth quarter of 1998 to the latest processor platform. The
AS/400 software was most recently upgraded in the second quarter of 1999, which
is software reported by IBM to be fully compliant with Year 2000.
The Company uses a Microsoft NT 4.0 Server to connect all employees to
the computer system. The LAN is reported to be Year 2000 compliant. The LAN is
used primarily for "service" applications including word processing,
spreadsheets and E-mail. The majority of the LAN-based applications are
Microsoft products and are current or near current in their software releases.
The LAN also consists of personal computers ("PCs") that are attached
to a series of servers. All PCs have been tested and correctly recognize the
Year 2000. The IT Department of the Company supports an Internet web site and
various stand-alone third party PC software applications. These packages were
assessed for any Year 2000 problems and testing of these packages was
successfully completed in September 1999. The IT Department also supports IPPS,
a document management software package developed by DocuCorp, which is used by
the majority of general agents to produce Penn-America policies. FormMaker has
been tested and, in its current release, is reported by DocuCorp to be Year 2000
compliant.
Non-IT systems: The Company has identified, and relies on, the
following non-IT systems in its daily operations: telephones, voicemail,
facsimile machines and heating and air conditioning and fire protection systems.
The telephone system was tested as compliant. The voicemail system was
identified as non-compliant and was replaced with a compliant system in
September 1998. The heating and air conditioning systems have been tested and
are compliant. The Company has been informed that all of the remaining systems
will not be affected by the Year 2000 and the Company has received written
confirmation to this effect.
Page 18
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
Key Customers, Suppliers and Vendors: As part of its remediation plan,
the Company is analyzing the Year 2000 readiness of the Company's critical
outside customers (including general agents), vendors and suppliers. Each
department of the Company was asked to identify key customers, suppliers and
vendors with whom the Company has an interdependent, material business
relationship. In September 1998, the Company sent approximately 188 surveys to
those identified customers/suppliers/vendors to ask them: to provide the current
status of their Y2K plan; whether they will be compliant; and what plans they
have in place in the event they will not be compliant. Of the 188 surveys sent
out, 100 were returned with responses indicating that the recipients were or
would be compliant, 88 did not respond. In December 1998, the Company sent out a
second request for information to those who had not yet responded and for newly
identified critical customers, suppliers and vendors. As of April 30, 1999, the
responses were as follows: 55 indicated that they were compliant; 112 indicated
that they would be compliant before January 1, 2000; and 24 have yet to respond.
In September 1999, the Company sent out a final request for those who had not
yet certified compliance. As of October 19, 1999, 135 certified they were
compliant, 24 indicated they would be compliant by December 1999, and 24 have
yet to respond. The Company is currently re-assessing the materiality of those
who did not yet certify compliance. To the extent the Company does not obtain
certifications, or written contingency plans from those ultimately identified as
material, the Company may replace these customers, vendors and suppliers with
others who can represent that they are compliant.
Despite all the procedures the Company has in place, there can be no
guarantee that the systems of other companies on which the Company's business
relies will be converted in a timely fashion, or that failure to convert by
another company or a conversion that is incompatible with the Company's systems,
will not have a materially adverse effect on the Company and its operations.
Responses to Inquiries: The Company continues to respond to requests
for information from customers, suppliers and vendors with whom the Company does
business, including various departments of insurance. The Company was recently
examined by a consultant retained by the Insurance Department of Pennsylvania,
the Company's state of domicile. The Consultant's examination focused on
assessing the Company's efforts to attain Y2K readiness. The Consultant has not
yet issued a final report to the Company. However, the Company has not been
advised by the Department of Insurance that it deems any of the Company's
efforts to be deficient.
Cost
The Company incurred costs of approximately $60,000 to recode its
internal programs. The costs were incurred by the Company to test significant
insurance hardware and software that the Company believes are compliant. These
costs are and will be minimal as these costs are built into the Company's
standard disaster recovery testing program. The current standard testing costs
approximately $28,000 per year. The Company does not separately track the
internal costs
Page 19
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
incurred for the Y2K project. Such costs are related primarily to payroll costs
for the Company's information technology personnel. The Company also incurred an
additional $13,000 to upgrade its voicemail system. Additional expenses may
arise during 1999. Management believes that at this time these costs, including
the estimated cost associated with the Pennsylvania Insurance Department Y2K
audit, will approximate $20,000 to $25,000.
Risks
The risks associated with the Company's inability to resolve all Year
2000 issues include the possibility of system failures or miscalculations
causing disruption in operations including, among other things, an inability to
process transactions, to send invoices, to send or to receive E-mail and
voicemail, or conduct similar normal business activities. Additionally, failure
of third parties upon whom the Company's business relies to remediate their Year
2000 problems in a timely fashion could result in disruption in the receipt and
processing of insurance policies, claims, payment of receivables and general
problems related to the Company's daily operations. If any of these
contingencies were to occur, the disruption in business could be temporary or
permanent, depending on the degree of failure. The overall risks associated with
the Year 2000 remain difficult to describe accurately and to quantify; and there
can be no guarantee that the Year 2000 issue will not have a material adverse
effect on the Company and its operations.
In general, if the Company and its business partners do not solve the
Year 2000 problem, the Company could face business disruption, operational
problems, financial losses, legal liability and similar risks to the business.
These risks could have a material adverse impact on the Company.
Additionally, the Company may be exposed to insurance risk related to
Y2K exposures of its insureds. In order to mitigate this risk, the Company
generally began endorsing applicable new and renewal policies with effective
dates after November 1, 1998 with a Y2K exclusion. Certain states, however, may
not accept this exclusion in all cases.
Contingency Plan
The Company has completed its Year 2000 Contingency Plan, which
addresses contingencies the Company has in place in the event of a loss of
network capabilities. The Company also maintains a Disaster Recovery Plan to
address various other potential business interruptions, such as a loss of
electricity, heat, water, telephones and office space.
The Company is currently testing its Contingency Plan. Testing should
be complete by the end of November 1999. The current Disaster Recovery Plan
addresses the availability and compatibility of hardware offsite that could be
placed into action by the Company. In September 1998, the Company tested the
offsite facility and the operation of significant insurance software that had
been made Year 2000 compliant, as well as the operation of the offsite hardware.
Under
Page 20
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
(continued)
these test conditions, all dates were rolled forward to January 1, 2000. The
test results indicated that the Company's significant insurance-related software
is compliant. The Company conducted further testing at the facility in June and
October of 1999. All Y2K related tests have been successful.
The testing facility has indicated that the majority of its hardware
and equipment is fully compliant as of December 1998. The Company recently
followed up with the testing facility on its system upgrades to see where they
stand. The Company has been assured that the facility has substantially
completed all activities required to be Y2K compliant. The testing facility is
also available if electric, heat, water, telephones and office space should be
required.
The foregoing is a "Year 2000 Readiness Disclosure" pursuant to the
Year 2000 Readiness Disclosure Act. Readers are cautioned that forward-looking
statements contained in the Year 2000 disclosure contained herein should be read
in conjunction with the Company's disclosure titled "Safe Harbor Provisions of
the Private Securities Litigation Reform Act of 1995". Forward-looking
statements include, but are not limited to, whether the Company will complete
its remediation and testing in a timely fashion, whether remediation will cost
more than anticipated, the impact of redeploying staff and the effect of third
parties on the Company's ability to function after the century date change.
New Accounting Standards
In September 1998, Statement of Financial Accounting Standards (SFAS)
No. 133, "Accounting for Derivative Instruments and Hedging Activities", was
issued and established standards for accounting and reporting of derivative
instruments and hedging activities. The statement as amended by SFAS No. 137 is
effective for all fiscal quarters of fiscal years beginning after September 15,
2000. The Company is in the process of determining the effect, if any, of this
statement on its financial statements.
Page 21
<PAGE>
PENN-AMERICA GROUP, INC. AND SUBSIDIARIES
PART II. OTHER INFORMATION
Item 1. Legal Proceedings - None
Item 2. Changes in Securities - None
Item 3. Default Upon Senior Securities - None
Item 4. Submission of Matters to a Vote by Security Holders - None
Item 5. Other Information - None
Item 6. Exhibits and Reports on Form 8-K
On August 18, 1999, the Company filed with the Securities and
Exchange Commission a Form 8-K which reported that at a meeting
held on August 18, 1999, the Board of Directors of Penn-America
Group, Inc. ratified the approval of the Audit Committee of the
Board of Directors to engage Ernst & Young LLP as its independent
auditors for the fiscal year ending December 31, 1999. Ernst &
Young LLP replaces the firm of KPMG LLP, who were dismissed as
auditors.
On September 30, 1999, the Company filed with the Securities and
Exchange Commission a Form 8-K which reported that on September
30, 1999, the Company issued a press release announcing reserve
strengthening of $3.6 million after taxes to increase net reserves
and a $1.3 million charge after taxes for property losses incurred
during the third quarter. As a result of these actions, the third
quarter estimate is expected to be an operating loss of $0.38 to
$0.40 per share. The Company also announced that the Company's
board approved the increase of the stock buyback authorization by
500,000 shares to 2.5 million.
Page 22
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Penn-America Group, Inc.
Date: November 4, 1999 By: /s/ Jon S. Saltzman
---------------- ---------------------
Jon S. Saltzman
President and
Chief Executive Officer
By: /s/ Rosemary R. Ferrero
------------------------
Rosemary R. Ferrero
Principal Finance and
Accounting Officer
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
Consolidated Balance Sheet and Statement of Earnings at September 30, 1999
(unaudited) and is qualified in its entirety by reference to such financial
statements.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
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<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
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<DEBT-CARRYING-VALUE> 22,309
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<EQUITIES> 27,168
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<TOTAL-INVEST> 157,051
<CASH> 12,459
<RECOVER-REINSURE> 18,607
<DEFERRED-ACQUISITION> 9,241
<TOTAL-ASSETS> 221,824
<POLICY-LOSSES> 93,421
<UNEARNED-PREMIUMS> 36,613
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64,375
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