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UNITED STATES
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 Quarter Ended June 30, 1998.
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
Commission File Number 1-12800
EXECUTIVE RISK INC.
(Exact name of registrant as specified in its charter)
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<CAPTION>
Delaware 06-1388171
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
82 Hopmeadow Street
Simsbury, Connecticut 06070
(Address of principal executive offices) (Zip Code)
</TABLE>
(860) 408-2000
(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 shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes x No .
--- ---
As of August 7, 1998, there were 10,936,343 shares of Executive Risk Inc.
Common Stock, $0.01 par value, outstanding, net of treasury shares.
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EXECUTIVE RISK INC.
TABLE OF CONTENTS
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Part I - Financial Information Page
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Item 1. Financial Statements
Independent Accountants' Review Report............................................... 2
Consolidated Balance Sheets -
June 30, 1998 and December 31, 1997.................................................. 3
Consolidated Statements of Income -
Three Months and Six Months Ended June 30, 1998 and 1997............................. 4
Consolidated Statements of Cash Flows -
Six Months Ended June 30, 1998 and 1997.............................................. 5
Notes to Consolidated Financial Statements........................................... 6 -7
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................................ 7-10
Part II - Other Information
Item 4. Submission of Matters to Vote of Securityholders .............................. 10
Item 5. Other Information
........................................................................................ 11
Item 6. Exhibits and Reports on Form 8-K............................................... 11
Signatures.............................................................................. 12
Exhibit 15.1 - Independent Accountants' Acknowledgment Letter........................... 13
Exhibit 27 - Financial Data Schedule
........................................................................................ --
</TABLE>
Note on forward-looking statements: The Private Securities Litigation Reform
Act of 1995 provides a "safe harbor" for forward-looking statements. This
Report may include forward-looking statements, as do other publicly
available Company documents, including reports on Forms 10-K, 10-Q
and 8-K filed with the Securities and Exchange Commission and other
written or oral statements made by or on behalf of the Company, its
officers and employees. When made, such forward-looking statements
reflect the then-current views of the Company or its management with respect
to future events and financial performance. There are known and unknown
risks, uncertainties and other factors that could cause actual results to
differ materially from those contemplated or indicated by such
forward-looking statements. These include, but are not limited to, risks
and uncertainties inherent in or relating to (i) general economic
conditions, including interest rate movements, inflation and cyclical
industry conditions, (ii) governmental and regulatory policies affecting
professional liability, as well as the judicial environment, (iii) the
loss reserving process, (iv) increasing competition in the market segments
in which the Company operates, (v) the conduct of international operations,
including exchange rate fluctuations and foreign regulatory changes, and
(vi) the effects of Year 2000 on Company insureds and the degree to which
liability exposure is affected thereby. The words "believe," "expect,"
"anticipate," "project," and similar expressions identify forward-looking
statements. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of their dates. Neither
the Company or its management undertakes any obligation to publicly
update or revise any forward-looking statements, whether as a result of new
information, future events or otherwise.
1
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Item 1. Financial Statements
INDEPENDENT ACCOUNTANTS' REVIEW REPORT
To the Stockholders and Board of Directors
Executive Risk Inc.
We have reviewed the accompanying consolidated balance sheet of Executive
Risk Inc. and its subsidiaries as of June 30, 1998, and the related
consolidated statements of income for the three-month and six-month
periods ended June 30, 1998 and 1997 and the consolidated statements of
cash flows for the six-month periods ended June 30, 1998 and 1997. These
consolidated financial statements are the responsibility of the Company's
management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures
to financial data and making inquiries of persons responsible for financial
and accounting matters. It is substantially less in scope than an audit
conducted in accordance with generally accepted auditing standards, which
will be performed for the full year with the objective of expressing an
opinion regarding the consolidated financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the accompanying consolidated financial statements referred
to above for them to be in conformity with generally accepted accounting
principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Executive Risk Inc. and its
subsidiaries as of December 31, 1997, and the related consolidated statements
of income, stockholders' equity and cash flows for the year then ended (not
presented herein) and in our report dated February 3, 1998, we expressed an
unqualified opinion on those consolidated financial statements.
/S/ ERNST & YOUNG LLP
Stamford, Connecticut
August 3, 1998
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EXECUTIVE RISK INC.
CONSOLIDATED BALANCE SHEETS
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(Unaudited)
June 30, December 31,
(In thousands, except share data) 1998 1997
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-------------- --------------
Assets
Fixed maturities available for sale, at fair value
(amortized cost: 1998 - $998,870 and 1997 - $905,050) ................... $ 1,028,539 $ 934,981
Equity securities available for sale, at fair value
(cost: 1998 - $45,633 and 1997 - $42,787) ............................... 72,528 61,732
Cash and short-term investments, at cost which approximates market .......... 72,190 88,505
--------- ---------
Total Cash and Invested Assets ......................................... 1,173,257 1,085,218
Premiums receivable ......................................................... 50,021 40,033
Reinsurance recoverables .................................................... 222,729 159,918
Accrued investment income ................................................... 14,960 13,731
Deferred acquisition costs .................................................. 39,909 34,581
Prepaid reinsurance premiums ................................................ 114,493 99,847
Deferred income taxes ....................................................... 21,344 23,316
Other assets ................................................................ 37,767 29,160
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Total Assets ........................................................... $ 1,674,480 $ 1,485,804
--------- ---------
--------- ---------
Liabilities
Loss and loss adjustment expenses ........................................... $ 750,757 $ 637,929
Unearned premiums ........................................................... 315,908 289,840
Senior notes payable ........................................................ 75,000 75,000
Ceded balances payable ...................................................... 38,762 37,165
Accrued expenses and other liabilities ...................................... 63,605 44,687
--------- ---------
Total Liabilities ...................................................... 1,244,032 1,084,621
Preferred Securities of Executive Risk Capital Trust
Company obligated mandatorily redeemable preferred securities of subsidiary,
Executive Risk Capital Trust, holding solely $125,000,000 aggregate principal
amount of 8.675% Series B Junior Subordinated Deferrable Interest Debentures
of the Company due February 1, 2027 and $3,866,000 aggregate principal amount
of 8.675% Series A Junior Subordinated Deferrable Interest Debentures of the
Company due February 1, 2027 .................................................. 125,000 125,000
Stockholders' Equity
Preferred Stock, $.01 par value; authorized 4,000,000 shares;
issued - 1998 and 1997 - 0 shares ......................................... -- -
Common Stock, $.01 par value; authorized 52,500,000 shares;
issued - 1998 - 12,039,112 shares and 1997 - 11,953,358 shares ............ 120 120
Additional paid-in capital .................................................. 177,287 176,234
Accumulated other comprehensive income ...................................... 37,092 31,288
Retained earnings ........................................................... 123,505 101,101
Cost of shares in treasury, at cost:
1998 - 1,114,294 and 1997 - 1,114,421 shares ............................... (32,556) (32,560)
--------- ---------
Total Stockholders' Equity ............................................. 305,448 276,183
--------- ---------
Total Liabilities, Preferred Securities of Executive Risk
Capital Trust and Stockholders' Equity ................................ $ 1,674,480 $ 1,485,804
--------- ---------
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</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
3
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EXECUTIVE RISK INC.
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
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Three Months Ended June 30, Six Months Ended June 30,
(In thousands, except per share data) 1998 1997 1998 1997
------------ ------------ ------------ ------------
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Revenues
Gross premiums written .................................. $130,019 $111,753 $230,103 $194,788
Premiums ceded .......................................... (54,779) (39,512) (94,521) (72,810)
------- ------- ------- -------
Net premiums written ................................. 75,240 72,241 135,582 121,978
Change in unearned premiums ............................. (10,864) (22,035) (11,421) (25,543)
------- ------- ------- -------
NET PREMIUMS EARNED ................................. 64,376 50,206 124,161 96,435
Net investment income ................................... 14,811 11,255 29,950 21,360
Net realized capital gains .............................. 870 335 2,645 1,341
Other income (losses) ................................... 82 (31) 165 115
-- -- -- --
Total Revenues ..................................... 80,139 61,765 156,921 119,251
Expenses
Loss and loss adjustment expenses ....................... 42,617 33,789 82,733 65,110
Policy acquisition costs ................................ 12,342 7,961 22,959 15,442
General and administrative expenses ..................... 7,533 6,546 14,904 12,085
Interest expense ........................................ 1,356 -- 2,732 1,419
Minority interest in Executive Risk Capital Trust ....... 2,635 2,711 5,317 4,337
------- ------- ------- -------
Total Expenses ...................................... 66,483 51,007 128,645 98,393
------- ------- ------- -------
Income Before Taxes ................................. 13,656 10,758 28,276 20,858
Income tax expense (benefit)
Current ................................................. 4,191 4,477 6,155 6,754
Deferred ................................................ (1,896) (2,287) (719) (2,878)
------- ------- ------- -------
2,295 2,190 5,436 3,876
------- ------- ------- -------
Net Income ......................................... $11,361 $8,568 $22,840 $16,982
------- ------- ------- -------
------- ------- ------- -------
Earnings per common and common equivalent .................. $1.04 $0.91 $2.09 $1.81
share (1)
Weighted average shares outstanding ........................ 10,921 9,412 10,907 9,370
Earnings per common and common equivalent share -
assuming full dilution ................................ $0.97 $0.83 $1.95 $1.66
Weighted average shares outstanding -
assuming full dilution ................................ 11,725 10,263 11,723 10,217
Dividends declared per common share ........................ $0.02 $0.02 $0.04 $0.04
</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
(1) The sum of the 1998 quarters' earnings per common and common euivalent
share does not equal the year-to-date per share amount.
4
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EXECUTIVE RISK INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
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Six Months Ended June 30,
(In thousands) 1998 1997
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Operating Activities
Net income ..................................................................... $ 22,840 $ 16,982
Adjustments to reconcile net income to net cash provided by
operating activities:
Amortization and depreciation ............................................ 2,030 1,113
Deferred income taxes .................................................... (719) (2,878)
Amortization of bond premium ............................................. 1,392 760
Net realized gains on investments ........................................ (2,645) (1,341)
Stock based compensation plans ........................................... (546) 2,250
Amortization of loan arrangement fees .................................... 910
Other .................................................................... 186 (332)
Change in:
Premiums receivable, net of ceded balances payable ................... (8,391) (15,140)
Accrued investment income ............................................ (1,229) (721)
Deferred acquisition costs ........................................... (5,328) (6,661)
Loss and loss adjustment expenses, net of reinsurance recoverables ... 50,017 50,012
Unearned premiums, net of prepaid reinsurance premiums ............... 11,422 25,530
Accrued expenses and other liabilities ............................... (5,948) (10,229)
-------- --------
Net Cash Provided by Operating Activities ............................ 63,081 60,255
Investing Activities
Proceeds from sales of fixed maturities available for sale ................. 269,219 141,182
Proceeds from sales of equity securities available for sale ................ 2,544 1,370
Proceeds from maturities of investment securities .......................... 39,329 17,661
Purchase of fixed maturities available for sale ............................ (376,719) (224,898)
Purchase of equity securities available for sale ........................... (6,774) (9,712)
Net capital expenditures ................................................... (7,062) (3,203)
-------- --------
Net Cash Used in Investing Activities ................................ (79,463) (77,600)
Financing Activities
Proceeds from exercise of options .......................................... 686 2,189
Repayment of note payable to bank .......................................... (70,000)
Proceeds from Capital Securities offering .................................. 125,000
Placement fees and other ................................................... (183) (1,250)
Dividends paid on Common Stock ............................................. (436) (377)
-------- --------
Net Cash Provided by Financing Activities ............................ 67 55,562
-------- --------
Net (Decrease) Increase in Cash and Short-Term Investments ........... (16,315) 38,217
-------- --------
Cash and short-term investments at beginning of period ......................... 88,505 24,706
-------- --------
Cash and Short-Term Investments at End of Period ..................... $ 72,190 $ 62,923
-------- --------
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</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
5
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EXECUTIVE RISK INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998
(Unaudited)
Note 1 - Significant Accounting Policies
Basis of Presentation: The accompanying unaudited interim consolidated
financial statements of Executive Risk Inc. (the "Company" or "ERI") have
been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and notes required by generally accepted accounting principles
for complete financial statements. In the opinion of management, all
adjustments (consisting solely of normal recurring accruals) considered
necessary for a fair presentation of the financial position, results of
operations and cash flows for the interim periods have been included.
Operating results for any interim period are not necessarily indicative of
results that may be expected for the full year. These consolidated financial
statements should be read in conjunction with the audited consolidated
financial statements and related notes contained in the Company's Annual
Report to Stockholders incorporated by reference in the Company's Annual
Report on Form 10-K for the fiscal year ended December 31, 1997.
Certain prior year amounts have been reclassified to conform with the 1998
presentation.
Note 2 - New Accounting Pronouncements
As of January 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" ("SFAS 130"). SFAS 130
establishes new rules for the reporting and display of comprehensive income
and its components; however, the adoption of this Statement had no impact on
the Company's net income or stockholders' equity. SFAS 130 requires
unrealized gains or losses on the Company's available for sale securities and
foreign currency translation adjustments, which prior to adoption were
reported separately in stockholders' equity, to be included in other
comprehensive income. Prior year financial statements have been reclassified
to conform to the requirements of SFAS 130.
During the second quarter of 1998 and 1997, total comprehensive income amounted
to $28.6 million and $21.2 million, respectively.
The components of comprehensive income, net of related tax, for the six-month
periods ended June 30, 1998 and 1997, respectively, are as follows:
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1998 1997
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Net income ........................................ $22,840 $16,982
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Unrealized gains (losses) on securities ........... 4,997 4,589
Foreign currency translation adjustments .......... 807 (370)
------- -------
Comprehensive income .............................. $28,644 $21,201
------- -------
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6
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EXECUTIVE RISK INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998
(Unaudited)
Note 2 - New Accounting Pronouncements (continued)
The components of accumulated other comprehensive income, net of related tax,
at June 30, 1998 and December 31, 1997 are as follows:
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1998 1997
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Unrealized gains (losses) on securities ........... $36,766 $31,769
Foreign currency translation adjustments .......... 326 (481)
------- -------
Accumulated comprehensive income .................. $37,092 $31,288
------- -------
------- -------
</TABLE>
In March 1998, the American Institute of Certified Public Accountants and the
Accounting Standards Executive Committee issued Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" ("SOP 98-1"). SOP 98-1 requires the capitalization of certain
costs incurred after the date of adoption in connection with developing or
obtaining software for internal use. SOP 98-1 is effective for financial
statements for fiscal years beginning after December 15, 1998, and is not
expected to have a material impact on the Company.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133").
SFAS 133 establishes accounting and reporting standards for derivative
instruments and for hedging activities. SFAS 133 requires that an entity
recognize all derivatives as either assets or liabilities in the statement of
financial position and measure those derivatives at fair value. The
accounting for the changes in the fair value of the derivatives depends on
the intended use of the derivative and the resulting designation as
prescribed by the provisions of SFAS 133. SFAS 133 is effective for all
fiscal quarters of fiscal years beginning after June 15, 1999, with earlier
application permitted. The Company is currently reviewing the provisions of
SFAS 133 and its anticipated financial statement impact to the Company.
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Management's discussion and analysis of financial condition and results of
operations compares certain financial results for the six months ended
June 30, 1998 with the corresponding period for 1997. The results of Executive
Risk Inc. (the "Company" or "ERI") include the consolidated results of
Executive Risk Management Associates ("ERMA"), Executive Re Inc. ("Executive
Re"), and Executive Re's direct and indirect insurance company subsidiaries,
Executive Risk Indemnity Inc. ("ERII"), Executive Risk Specialty Insurance
Company ("ERSIC"), Executive Risk N.V. ("ERNV"), Quadrant Indemnity Company
("Quadrant") and Executive Risk (Bermuda) Ltd. In addition, the Company's
results include Executive Risk Capital Trust, a Delaware statutory business
trust (the "Trust"), and Sullivan Kelly Inc. ("Sullivan Kelly"), an
underwriting managment company which is a subsidiary of Executive Re. Also,
1997 results include a 50% interest in UAP Executive Partners ("UPEX"),a
French underwriting agency which was a joint venture between the Company and
Union des Assurances de Paris -Incendie Accidents ("UAP"). The joint venture
agreement between the Company and UAP was terminated on December 31, 1997.
RESULTS OF OPERATIONS
The Company's net income for the second quarter of 1998 was $11.4 million, or
$0.97 per diluted share, as compared to $8.6 million, or $0.83 per diluted
share, earned in the second quarter of 1997. For the six months ended
June 30, 1998 and 1997, net income was $22.8 and $17.0, respectively. Diluted
earnings per share were $1.95 and $1.66 for the corresponding periods. The
Company's operating earnings, calculated as net income before realized
capital gains or losses, net of tax, were $10.8 million, or $0.92 per diluted
7
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share, for the quarter ended June 30, 1998 and $8.4 million, or $0.81 per
diluted share, for the quarter ended June 30, 1997. For the six months ended
June 30, 1998, operating earnings were $21.1 million, or $1.80 per diluted
share, as compared to $16.1 million, or $1.57 per diluted share, for the
first half of 1997.
Gross premiums written increased by $18.2 million, or 16%, to $130.0 million
in the second quarter of 1998 from $111.8 million in the second quarter of
1997. The increase was principally due to growth in sales in of largeand
medium-sized law firm, accouting firm and miscellaneous professional
liability errors and omissions insurance ("E&O") partially offset by a
decrease in domestic and international directors and officers liability
insurance ("D&O"). The level of D&O gross premiums written has been adversely
affected both by continued strong competition in the D&O market and by
declinations of D&O applicants that appear to present greater than acceptable
exposure to the Year 2000 issue. These factors are likely to continue to
affect the level of D&O writings for the foreseeable future. For the first half
of 1998, gross premiums written were $230.1 million compared to $194.8 million
in the first half of 1997.
Ceded premiums increased $15.3 million, or 39%, to $54.8 million in the
second quarter of 1998 from $39.5 million in the second quarter of 1997. For
the first six months of 1998, ceded premiums totaled $94.5, representing a
30% increase over 1997. The rise in ceded premiums was due principally to
increased cessions on E&O and certain D&O products as a result of higher
writings.
As a result of the foregoing, net premiums written increased $3.0 million, or
4%, to $75.2 million for the quarter ended June 30, 1998 from $72.2 million
for the quarter ended June 30, 1997. For the first six months of 1998, net
premiums written totaled $135.6 million, as compared to $122.0 million for
the six months ended June 30, 1997. Net premiums earned for the second
quarter increased to $64.4 million in 1998 from $50.2 million in 1997.
Year-to-date, net premiums earned increased to $124.2 million in 1998 from
$96.4 million during the first six months of 1997.
Net investment income increased by $3.5 million, or 32%, to $14.8 million for
the quarter ended June 30, 1998 from $11.3 million for the quarter ended
June 30, 1997. For the first half of 1998 and 1997, net investment income was
$30.0 million and $21.4 million, respectively. These increases resulted
principally from growth in invested assets, measured on an amortized cost
basis, from $783.0 million at June 30, 1997 to $1,116.7 million at June 30,
1998, partially offset by a decrease in nominal yields. The nominal portfolio
yield of the fixed maturity portfolio at June 30, 1998 was 5.98%, compared to
6.24% at June 30, 1997. The tax equivalent yields on the fixed maturity
portfolio were 7.48% and 7.98% at these dates, respectively.
The Company's net realized capital gains were $0.9 million in the second
quarter of 1998 as compared to $0.4 million in the second quarter of 1997.
For the six months ended June 30, 1998, net realized capital gains totaled
$2.6 million as compared to $1.3 million for the first six months of 1997. In
1998, net capital gains were realized principally from the sale of fixed
maturity investments, equity mutual fund distributions and certain equity
limited partnership investments.
Loss and loss adjustment expenses ("LAE") increased by $8.8 million, or 26%,
from $33.8 million in the second quarter of 1997 to $42.6 million in the
comparable period of 1998 due to higher premiums earned. For the six months
ended June 30, 1998 and 1997, loss and LAE were $82.7 million and $65.1
million, respectively. The Company's loss ratio was 66.2% in the second
quarter of 1998 and 66.6% for the first six months of 1998 as compared to
67.3% in the second quarter of 1997 and 67.5% for the first six months of
1997. In connection with the Company's normal reserving review, which
includes a reevaluation of the adequacy of reserve levels for prior years'
claims, the Company reduced its unpaid loss and LAE reserves for prior report
years by $6.8 million, or $0.38 per diluted share, in the first half of 1998.
In the first half of 1997, the Company reduced its unpaid loss and LAE
reserves for prior report years by $4.3 million, or $0.27 per fully diluted
share. There can be no assurance that reserve adequacy reevaluations will
produce similar reserve reductions and net income increases in future
quarters.
Policy acquisition costs increased by $4.3 million, or 55%, to $12.3 million
for the quarter ended June 30, 1998 from $8.0 million for the quarter ended
June 30, 1997. For the first half of 1998 and 1997, policy acquisition costs
totaled $23.0 million and $15.4 million, respectively. The Company's ratio of
policy acquisition costs to net premiums earned increased from 15.9% in the
second quarter of 1997 to 19.2% in the second quarter of 1998. Year-to-date,
the policy acquisition cost ratio increased from 16.0% for the first six
months of 1997 to 18.5% for the first six months of 1998. The increase in the
policy acquisition
8
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cost ratio was attributable to both higher commission amounts paid to brokers
and increased compensation and related expenses incurred in hiring additional
underwriting staff to support the growth in the Company's business.
General and administrative ("G&A") expenses increased $1.0 million, or 15%,
to $7.5 million in the second quarter of 1998 from $6.5 million in the second
quarter of 1997. For the six months ended June 30, 1998 and 1997, G&A
expenses totaled $14.9 million and $12.1 million, respectively. The increase
in G&A costs is due primarily to increased compensation, benefit and related
overhead costs associated with the growth in premium volume. The ratio of G&A
costs to premiums earned decreased from 13.0% during the second quarter of
1997 to 11.7% in the second quarter of 1998, and also decreased slightly from
12.6% for the first six months of 1997 to 12.0% for the first six months of
1998.
The GAAP combined ratio increased to 97.1% in the second quarter of 1998 from
96.2% in the second quarter of 1997. For the first half of 1998, the GAAP
combined ratio was 97.1%, as compared to 96.1% for the first half of 1997.
The increase for the three and six month periods ended June 30, 1998 was
attributable to the increase in the policy acquisition cost ratio, partially
offset by a decreases in the loss and G&A ratios as discussed above. A
combined ratio below 100% indicates profitable underwriting prior to the
consideration of investment income, capital gains and interest expense. A
company with a combined ratio exceeding 100% can still be profitable in that
period due to such factors as investment income and capital gains realized
during that period.
Interest expense of $2.7 million for the first half of 1998 was attributable
principally to the Company's outstanding senior notes payable, while
interest expense of $1.4 million for the first half of 1997 was attributable
principally to outstanding balances under the Company's bank credit
agreement. On December 12, 1997, the Company sold $75 million aggregate
amount of 7.125% senior notes payable. The outstanding balance under the
Company's bank credit agreement was $70 million from January 1, 1997 through
February 5, 1997. On February 5, 1997, the Company repaid the $70 million
outstanding under the term loan portion of a senior credit facility arranged
through The Chase Manhattan Bank.
In January 1997, the Company formed the Trust, the common securities of which
are wholly owned by the Company. On February 5, 1997, the Trust sold
$125,000, 000 principal amount of 8.675% Series A Capital Securities, which
were later entirely exchanged for a like amount of 8.657% Series B Capital
Securities, due February 1, 2027. Minority interest in the Trust, as shown
on the Company's income statement, is attributable to distributions payable
on the securities of the Trust.
LIQUIDITY AND CAPITAL RESOURCES
ERI is a holding company, the principal asset of which is equity in its
subsidiaries. ERI's cash flows depend primarily on dividends and other
payments from its subsidiaries. ERI's sources of funds consist primarily of
premiums received by the insurance subsidiaries, investment income and
proceeds from sales and redemptions of investments. Funds are used primarily
to pay claims and operating expenses, to purchase investments, to pay
interest and principal under the terms of the Company's indebtedness for
borrowed money and to pay dividends to Common Stock holders.
Cash flows from operating activities were $63.1 million for the six months
ended June 30, 1998 and $60.3 million for the six months ended June 30, 1997.
The increase in operating cash flows resulted from an increase in net
premiums and investment income received partially offset by higher losses and
G&A expenses paid. Rising loss payments are expected of a maturing
professional liability underwriter.
The Company believes that it has sufficient liquidity to meet its anticipated
insurance obligations as well as its operating and capital expenditure needs.
The Company's investment strategy emphasizes quality, liquidity and
diversification. With respect to liquidity, the Company considers liability
durations, specifically loss reserves, when determining investment
maturities. Average investment duration of the fixed maturity portfolio at
June 30, 1998 and December 31, 1997 was 4.7 and 4.6 years, respectively, as
compared to an expected loss reserve duration of 5.0 to 5.5 years. The
Company's short-term investment pool was $72.2 million (6.2% of the total
investment portfolio) at June 30, 1998 and $88.5 million (8.2%) at December
31, 1997. The decrease in the short-term investment pool was due principally
to the fact that approximately $40 million of the senior note proceeds, which
had been held in short-term investments at year-end 1997, were used to
capitalize ERNV in February 1998.
9
<PAGE>
The Company's entire investment portfolio is classified as available for sale
under the provisions of Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," and is
reported at fair value, with the resulting unrealized gains or losses
included as a separate component of stockholders' equity until realized. The
market value of the portfolio at June 30, 1998 and December 31, 1997 was 103%
of amortized cost. At June 30, 1998 and December 31, 1997, stockholders'
equity was increased by $19.3 million and $19.5 million, respectively, to
record the Company's fixed maturity investment portfolio at fair value. At
June 30, 1998, the Company owned no derivative instruments, except for
$123.7 million (fair value) invested in mortgage and asset backed securities.
In July 1998, a national rating agency revised its outlook on the rating of
the Company's senior debt from "stable" to "negative", which could affect
future borrowing costs should the Company decide to incur additional debt.
The revised outlook was premised upon the agency's analysis of D&O insurer
exposures to the Year 2000 issue. While the Company acknowledges that the
year 2000 entails significant risks, it believes that its underwriting
techniques, reinsurance practices and loss reserve levels are reasonable and
appropriate to manage the Year 2000 risk.
On May 8, 1998, the Company declared its second quarter dividend on the
Company's Common Stock of $.02 per share, which was paid on June 30, 1998 to
stockholders of record as of June 15, 1998. Such dividends totaled
$0.2 million.
Part II - Other Information
Item 4 - Submission of Matters to a Vote of Security Holders
On May 8, 1998, the Company held its annual meeting of stockholders at its
headquarters in Simsbury, Connecticut. The stockholders voted on nominees for
election to the Board of Directors and on one other matter.
The following votes were cast for nominees for election of directors, and all
such nominees were elected.
<TABLE>
<CAPTION>
Votes for Votes Withheld
<S> <C> <C>
Gary G. Benanav ................. 8,455,046 60,622
Robert V. Deutsch ............... 8,455,046 60,622
Michael D. Rice ................. 8,455,046 60,622
Irving B. Yoskowitz ............. 8,455,046 60,622
</TABLE>
The votes cast on the approval of Ernst & Young LLP as the Independent
Auditors for the Company for the 1998 fiscal year were as follows:
<TABLE>
<CAPTION>
<S> <C>
8,513,513 ... In Favor
2,045 ... Against
150 ... Abstain
</TABLE>
10
<PAGE>
Item 5 - Other Information
The Securities and Exchange Commission ("SEC") has modified its rule
pertaining to management's discretionary voting on stockholder proposals at
annual meetings. Under SEC Rule 14a-4, if a stockholder-proponent fails to
notify the Company at least 45 days prior to the month and day of mailing of
the prior year's proxy statement, then management proxies are allowed to use
their discretionary voting authority when the proposal is raised at the
annual meeting, without discussion of the matter in the proxy statement. For
purposes of the Company's 1999 Annual Meeting, the Rule 14a-4 deadline is
February 10, 1999. The new deadline does not affect stockholder proposals
under SEC Rule 14a-8, which must be received no later than December 1, 1998
in order to be included in the Company's proxy materials.
Item 6 - Exhibits and Reports on Form 8-K
a) Exhibit Index
<TABLE>
<CAPTION>
Exhibit No. Description
----------- -----------
<S> <C>
15.1 .............. Independent Accountant's Acknowledgment Letter
27 .............. Financial Data Schedule
</TABLE>
b) Reports on Form 8-K
There were no Current Reports on Form 8-K filed during the quarter ended
June 30, 1998.
11
<PAGE>
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.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Robert H. Kullas Chairman and Director August 12, 1998
- --------------------
Robert H. Kullas
/s/ Robert V. Deutsch Executive Vice President, Chief Financial Officer, August 12, 1998
- --------------------- Chief Actuary, Treasurer and Assistant Secretary
Robert V. Deutsch (Principal Financial and Accounting Officer)
and Director
</TABLE>
12
<PAGE>
EXHIBIT 15.1
Acknowledgment Letter
To the Stockholders and Board of Directors
Executive Risk Inc.
We are aware of the incorporation by reference in the Registration Statement
(Form S-8 No. 33-78414) pertaining to the Executive Risk Inc. Nonqualified
Stock Option Plan, Executive Risk Inc. Employee Incentive Nonqualified Stock
Option Plan, Executive Risk Inc. IPO Stock Compensation Plan, Executive Risk
Inc. Nonemployee Directors Stock Option Plan, Option Agreements for Outside
Directors of Executive Re Inc. and in the Registration Statement (Form S-8
No. 333-52307) pertaining to the Executive Risk Inc. Performance Share Plan
and the Executive Risk Inc. Stock Incentive Plan of our report dated August 3,
1998 relating to the unaudited consolidated interim financial statements of
Executive Risk Inc. which are included in its Form 10-Q for the quarter ended
June 30, 1998.
/S/ ERNST & YOUNG LLP
August 11, 1998
13
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<MULTIPLIER> 1,000
<CURRENCY> U.S.
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<EXCHANGE-RATE> 1
<DEBT-HELD-FOR-SALE> 1,028,539
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 72,528
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 1,101,067
<CASH> 72,190
<RECOVER-REINSURE> 5,266
<DEFERRED-ACQUISITION> 39,909
<TOTAL-ASSETS> 1,674,480
<POLICY-LOSSES> 750,757
<UNEARNED-PREMIUMS> 315,908
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 75,000
125,000
0
<COMMON> 120
<OTHER-SE> 305,328
<TOTAL-LIABILITY-AND-EQUITY> 1,674,480
124,161
<INVESTMENT-INCOME> 29,950
<INVESTMENT-GAINS> 2,645
<OTHER-INCOME> 165
<BENEFITS> 82,733
<UNDERWRITING-AMORTIZATION> 22,959
<UNDERWRITING-OTHER> 22,953
<INCOME-PRETAX> 28,276
<INCOME-TAX> 5,436
<INCOME-CONTINUING> 22,840
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 22,840
<EPS-PRIMARY> 2.09
<EPS-DILUTED> 1.95
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
