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UNITED STATES
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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 1-13664
THE PMI GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 601 Montgomery Street 94-3199675
(State of Incorporation) San Francisco, California 94111 (I.R.S. Employer
(Address of principal Identification No.)
executive offices)
(415) 788-7878
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
- ------------------------------- ----------------------------------------------
Common Stock, $.01 par value New York Stock Exchange
Pacific Exchange
Preferred Stock Purchase Rights New York Stock Exchange
Pacific Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the voting stock (common stock) held by non-
affiliates of the registrant as of the close of business on February 26, 1999
was $1,297,762,997 based on the closing sale price of the common stock on the
New York Stock Exchange consolidated tape on that date.
Number of shares outstanding of the Registrant's common stock, as of the close
of business on February 26, 1999: 30,093,055.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Annual Report to Stockholders for the fiscal year ended
December 31, 1998 are incorporated by reference into Items 6 through 8 of Part
II. Portions of the Proxy Statement for registrant's 1999 Annual Meeting of
Stockholders to be held on May 20, 1999 are incorporated by reference into Items
10 through 13 of Part III. The Exhibit Index is located on page 54.
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TABLE OF CONTENTS
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PART I.......................................................................................... 3
Cautionary Statement
Item 1. Business............................................................................... 3
A. General.................................................................................... 3
B. Products................................................................................... 4
C. Industry Overview.......................................................................... 6
D. Competition and Market Share............................................................... 7
E. Customers.................................................................................. 10
F. Business Composition....................................................................... 10
G. Sales, Product Development and Underwriting Personnel...................................... 12
H. Underwriting Practices..................................................................... 13
I. Affordable Housing......................................................................... 16
J. Defaults and Claims....................................................................... 16
K. Reinsurance................................................................................ 24
L. Claims-Paying Ability Ratings.............................................................. 25
M. Investment Portfolio....................................................................... 26
N. Other Businesses........................................................................... 26
O. Regulation................................................................................. 28
P. Employees.................................................................................. 32
Q. Statements and Risk Factors Concerning the Company's Operations and Future Results......... 32
Item 2. Properties............................................................................. 39
Item 3. Legal Proceedings...................................................................... 39
Item 4. Submission of Matters to a Vote of Security Holders.................................... 39
PART II......................................................................................... 41
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters.............. 41
Common Stock.................................................................................. 41
Preferred Stock............................................................................... 41
Payment of Dividends and Policy............................................................... 41
Item 6. Selected Financial Data................................................................ 42
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 42
Item 7A. Quantitative and Qualitative Disclosures About Market Risk............................ 42
Item 8. Financial Statements and Supplementary Data............................................ 42
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure... 42
PART III........................................................................................ 42
Item 10. Directors and Executive Officers of the Registrant.................................... 42
Item 11. Executive Compensation................................................................ 42
Item 12. Security Ownership of Certain Beneficial Owners and Management........................ 43
Item 13. Certain Relationships and Related Transactions........................................ 43
PART IV......................................................................................... 43
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Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K...................... 43
INDEX TO EXHIBITS............................................................................... 54
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CAUTIONARY STATEMENT
Certain written and oral statements made or incorporated by reference from time
to time by the Company or its representatives in this document, other documents
filed with the Securities and Exchange Commission, press releases, conferences,
or otherwise that are not historical facts, or are preceded by, followed by or
that include the words "believes", "expects", "anticipates", "estimates", or
similar expressions, and that relate to future plans, events or performance are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements include the
following: (i) the statement that management believes any increase in the GSEs
loan limit eligible for their purchase may positively affect the number of loans
eligible for mortgage insurance and may have the effect of increasing the size
of the insurance mortgage market; (ii) the statement that management anticipates
that contract underwriting will continue to generate a significant percentage of
PMI's NIW and that customer demand for contract underwriting services will
increase; (iii) the statement that management also believes the number of
contract underwriters deployed by the Company will decrease as mortgage
origination volumes decline; and (iv) the statement that although management
expects that California should continue to account for the majority of total
claims paid, management anticipates that with continued improvement in the
California economy, increased benefits of loss mitigation and improved default
reinstatement rates, California claims paid as a percentage of total claims paid
should continue to decline for the foreseeable future. When a forward-looking
statement includes a statement of the assumptions or bases underlying the
forward-looking statement, the Company cautions that, while it believes such
assumptions or bases to be reasonable and makes them in good faith, assumed
facts or bases almost always vary from actual results, and the difference
between assumed facts or bases and actual results can be material, depending on
the circumstances. Where, in any forward-looking statement, the Company or its
management expresses an expectation or belief as to future results, such
expectations or belief is expressed in good faith and believed to have a
reasonable basis, but there can be no assurance that the statement of
expectation or belief will result or be achieved or accomplished. The Company's
actual results may differ materially from those expressed in any forward-looking
statements made by the Company. These forward-looking statements involve a
number of risks or uncertainties including, but not limited to, the items
addressed in section Q. "Statements and Risk Factors Concerning the Company's
Operations and Future Results" (Risk Factors "RF# 1-14") set forth below and
other risks detailed from time to time in the Company's periodic filings with
the Securities and Exchange Commission.
All forward-looking statements of the Company are qualified by and should be
read in conjunction with such risk disclosure. The Company undertakes no
obligation to publicly update or revise any forward-looking statements, whether
as a result of new information, future events or otherwise.
PART I
Item 1. Business
A. General
The PMI Group, Inc. ("TPG"), a Delaware corporation, is a holding company
which conducts its residential mortgage insurance business through its direct
wholly-owned subsidiaries PMI Mortgage Insurance Co. ("PMI"), an Arizona
corporation, Residential Guaranty Co. ("RGC"), an Arizona corporation,
Residential Insurance Co. ("RIC"), an Arizona corporation, TPG Insurance Co.
("TIC"), a Vermont corporation, and PMI Mortgage Guaranty Co. ("PMG"), an
Arizona corporation. TPG also conducts non-residential mortgage insurance
business through its wholly-owned subsidiaries American Pioneer Title Insurance
Company ("APTIC"), a Florida corporation, TPG Segregated Portfolio Company
("TSPC"), a Cayman Islands corporation, and PMI Capital I, a Delaware trust. In
addition, PMI owns all of the outstanding common stock of PMI Mortgage Services
Co. ("MSC"), a California corporation which is engaged in the business of
contract underwriting, and PMI Securities Co. ("SEC"), a Delaware
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corporation, which is an inactive broker-dealer. PMI is licensed in all 50
states of the United States and the District of Columbia. TPG and its
subsidiaries are collectively referred to as the "Company". PMI also owns 50%
of the outstanding shares of common stock of CMG Mortgage Insurance Company
("CMG"), a Wisconsin corporation, which also conducts a residential mortgage
insurance business. CMG is accounted for on the equity method in the Company's
consolidated financial statements. TPG is also a principal investor in RAM
Reinsurance Company Ltd. ("RAM Re"), a financial guaranty reinsurance company
based in Bermuda.
TPG, through PMI and CMG, is one of the leading residential mortgage insurers in
the United States. In addition to primary mortgage insurance, TPG subsidiaries
provide title insurance, contract underwriting and various services and products
for the home mortgage finance industry. PMI was founded in 1972 and was acquired
by Allstate Insurance Company ("Allstate") in 1973. In April 1995, Allstate
sold approximately seventy percent of the common stock of TPG in an initial
public offering (the "IPO"). In April 1998, Allstate exchanged most of its
holdings of TPG common stock to redeem its Exchangeable Notes due on April 15,
1998. The Notes were sold to the public concurrently with the IPO. Currently,
Allstate has no significant holdings of TPG common stock. At December 31, 1998,
the Company's total assets were $1.8 billion and its shareholders' equity was
$1.1 billion.
B. Products
There are two principal types of private residential mortgage insurance, both of
which insure a mortgage lender or investor in mortgage loans against borrower
default: "primary" and "pool." Primary insurance provides mortgage insurance
coverage to lenders who receive a down payment of 20% or less from a borrower.
This includes mortgage insurance coverage for lenders for mortgages with: (i)
loan-to-value ratios ("LTVs") of 85% and below, (ii) LTVs in excess of 85% and
less than or equal to 90% ("90s"); (iii) LTVs in excess of 90% and less than
or equal to 95% ("95s"); and (iv) LTVs in excess of 95% and less than or equal
to 97% ("97s"). At December 31, 1998, the Federal National Mortgage
Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation
("Freddie Mac"), generally the primary investors in mortgage loans, required
that 90s have 25% coverage, and 95s and 97s have 30% coverage. Fannie Mae and
Freddie Mac are collectively referred to as government-sponsored enterprises
("GSEs"). The GSEs recently announced programs which provide for reduced
mortgage insurance coverage requirements. (See "D. Competition and Market
Share", below and RF3). The coverage percentage insured by PMI is determined
by the lender, usually to comply with Fannie Mae and Freddie Mac requirements
to reduce the loss exposure on loans purchased by them. Pool insurance is
generally used as an additional credit enhancement for certain secondary
market mortgage transactions. Pool insurance generally covers the loss on a
defaulted mortgage loan which exceeds the claim payment under the primary
coverage, if primary insurance is required on that mortgage loan, as well as
the total loss on a defaulted mortgage loan which did not require primary
insurance, in each case up to a stated aggregate loss limit.
Primary Insurance
PMI provides primary insurance coverage, insuring lenders and mortgage loan
investors against borrower default on individual first lien mortgage loans on
one-to-four unit residential properties, including condominiums. PMI and other
private mortgage insurers have no limit as to the maximum principal balance of
loans for which they may issue mortgage insurance. Primary coverage can be used
on any type of residential mortgage loan instrument approved by PMI and is
generally underwritten on a loan-by-loan basis. (See "H. Underwriting
Practices", below.) Primary mortgage insurance provides mortgage default
protection to lenders or investors on individual loans. PMI's obligation to an
insured with respect to a claim is determined by applying the appropriate
coverage percentage to the claim amount. In lieu of paying the coverage
percentage of the claim amount, PMI has the option of: (i) paying the entire
claim amount and taking title to the mortgaged property, or (ii) in the case of
certain sales, paying the difference between the sales proceeds received by the
insured and the claim amount up to a maximum of the coverage percentage. See
"J. Defaults and Claims--Claims", below.
PMI offers coverage ranging from 4% to 42% of the total of the outstanding loan
principal, delinquent interest and certain expenses associated with a default
and the subsequent foreclosure of a mortgage loan ("claim amount"). The
percentage of the total claim amount subject to payment by PMI in the event of a
claim on a mortgage loan that is
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the subject of primary insurance ("coverage percentage") was predominantly in
the 25% to 30% range for primary new insurance written ("NIW") for the year
ended December 31, 1998. The average coverage percentage for PMI was 24.9% of
NIW for the year ended December 31, 1998. Certain states limit the amount of
risk a mortgage insurer may retain with respect to coverage of an insured loan
to 25% of the indebtedness to the insured. Coverage in excess of 25% of the
indebtedness to the insured ("deep coverage") must be reinsured. To minimize
reliance on third party reinsurers on deep coverage business, TPG formed RGC,
RIC, TIC and PMG to provide reinsurance of such deep coverage to PMI and CMG.
(See "K. Reinsurance", below.). At December 31, 1998, PMI's average coverage
percentage on insurance in force was 23.9%. See "C. Industry Overview--Fannie
Mae and Freddie Mac", below.
Mortgage insurance coverage cannot be canceled by PMI, except for nonpayment of
premiums or certain material violations of PMI's Master Policy. Mortgage
insurance coverage can be canceled by the insured at any time. Generally,
mortgage insurance remains renewable at the option of the insured at a rate
fixed when the insurance on the loan was initially issued. As a result, the
impact of increased claims and incurred losses from policies originated in a
particular year cannot be offset by renewal premium increases on policies in
force or mitigated by nonrenewal of insurance coverage. (See RF4). Mortgage
insurance premiums are usually charged to the borrower by the mortgage lender or
loan servicer, which in turn remits the premiums to the mortgage insurer. PMI
has the following basic types of premium payment plans.
Monthly Premium. A premium payment plan in which premiums are paid monthly
over the term of the coverage ("Monthly Premium Plan"). Under PMI's Monthly
Premium Plan only one or two months' of premium is paid at the mortgage loan
closing, and thereafter monthly premiums are collected by the loan servicer for
monthly remittance to PMI. PMI also offers a plan under which the first monthly
premium is payable at the time the first monthly mortgage payment is due ("pmiNU
MONTHLY/SM/"). The pmiNU MONTHLY/SM/ plan helps reduce the amount a borrower
would typically have to pay at closing, thereby increasing mortgage loan
affordability. Monthly Premium and pmiNU MONTHLY/SM/ Plans represented 97.5% of
NIW in 1998. Beginning in April 1999, PMI will offer two new monthly premium
products, pmiNU MONTHLY Premier/SM/, and pmiMonthly Premier/SM/, which offer the
option to finance a portion of the premium, or to pay a larger portion of the
premium up-front to receive a lower monthly premium. These new products are
designed to compete with the GSEs' programs which require the payment of an
additional fee for a further reduction in mortgage insurance coverage. See "D.
Competition and Market Share", below and RF3.
Single Premium. A premium payment plan that requires an initial premium
payment that extends coverage for more than one year and involves a lump-sum
payment at the loan closing ("Single Premium Plan"), which may be refundable if
the coverage is canceled by the insured lender (which generally occurs when the
loan is repaid or the value of the property has increased significantly). The
single premium can be financed by the borrower by adding it to the principal
amount of the mortgage and generally covers the greater of 10 years or
amortization of the underlying loan to an 80% LTV. Single Premium Plans
represented 1.7% of NIW in 1998.
Annual Premium. A premium payment plan that requires the payment of the
first-year premium at the time of mortgage loan closing and annual renewal
premium payments in advance each year thereafter ("Annual Premium Plan").
Renewal payments generally are collected in monthly installments from the
borrower along with the mortgage payment and held in escrow by the loan servicer
for annual remittance to PMI in advance of each renewal year. Annual Premium
Plans represented 0.8% of NIW in 1998.
Pool Insurance
During the fourth quarter of 1997, PMI began offering a pool insurance product
to state housing finance authorities GSEs as part of PMI's value added strategy.
New risk written for this product was $450.3 million for the year ended December
31, 1998 and was not significant for 1997. This product is similar in structure
to the pool insurance product previously offered by PMI during 1990 - 1993, but
has better risk management characteristics, including lower stop loss limits,
improved nationwide geographic diversification and lower LTVs risk in force
under pool
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insurance programs with PMI's customers represented approximately two percent of
the $19.3 billion total primary risk in force at December 31, 1998. See RF10.
Risk-Sharing Products
In addition to standard primary and pool insurance, PMI offers: (i) layered co-
insurance, a primary mortgage insurance program for a covered loan for which a
mortgage originator or a state housing authority retains liability for losses
above a certain level of aggregate losses and below a second specified level of
aggregate losses, above which the mortgage insurer retains liability; (ii)
pmiADVANTAGE/SM/, a lender-paid primary mortgage insurance program that provides
reductions from standard rates based on the quality of the business generated;
(iii) pmiCAPTIVE/SM/, a captive reinsurance program that allows a reinsurance
company, generally an affiliate of the lender, to assume primary mortgage
insurance default losses at a specified entry point up to a maximum aggregate
exposure, up to an agreed upon amount of total coverage; (iv) performance
assurance agreements, for which PMI compensates lenders to cover a layer of
losses in excess of a specified level of losses associated with business
generated by the lender; and (v) pmiEXTRA/SM/ coverage, a product which provides
an additional layer of primary mortgage insurance coverage (up to 15%) on all
insured loans in a portfolio sold to GSEs. TPG also offers performance notes, a
program whereby TPG issues an unsecured, private placement note that pays a base
rate of interest plus, if appropriate, a performance addition. The interest rate
on the note varies based on the performance of the lender's book of business
written during the origination period. To date the risk-sharing products have
not represented a significant portion of PMI's or TPG's revenues. Several of the
above risk-sharing products, as well as pool insurance, are the subject of
pending regulatory reviews. Management is unable to predict the impact of these
regulatory issues on these products. See "D. Competition and Market Share" and
"RF2 and RF8".
C. Industry Overview
Fannie Mae and Freddie Mac
The GSEs are the predominant purchasers and sellers of conventional mortgage
loans in the United States, providing a direct link between the primary mortgage
origination markets and the capital markets. The GSEs are permitted to purchase
conventional high- LTV mortgages only if the lender (i) secures private mortgage
insurance from an eligible insurer on those loans; (ii) retains a participation
of not less than 10% in the mortgage; or (iii) agrees to repurchase or replace
the mortgage in the event of a default under specified conditions. If the lender
retains a participation in the mortgage or agrees to repurchase or replace the
mortgage, applicable federal bank and savings institution regulations may
increase the level of capital required by the loan originations. Because loan
originators prefer to make loans that may be marketed in the secondary market to
Fannie Mae and/or Freddie Mac without having to hold such capital, they are
motivated to purchase mortgage insurance from insurers deemed eligible by the
GSEs. PMI is an authorized mortgage insurer for the GSEs. See "O. Regulation",
below.
Fannie Mae and Freddie Mac impose requirements on private mortgage insurers for
such insurers to be eligible to insure loans sold to such agencies. One of the
GSEs eligibility requirements is that private mortgage insurers, including PMI,
must at least maintain an AA- rating with any public national rating agency. Any
change in PMI's existing eligibility status, primarily its claims-paying ability
rating from the various rating agencies, could have a material and adverse
effect on the Company's financial condition and results of operations. See RF5
Effective January 1, 1999 Fannie Mae and Freddie Mac announced increases in the
maximum principal balance of loans eligible for purchase by Fannie Mae and
Freddie Mac to $240,000. Since the GSEs are the primary investors in mortgage
loans, they have the ability to implement new eligibility requirements for
mortgage insurers, change the pricing arrangements for purchasing retained
participation mortgages as compared to insured mortgages or alter or liberalize
underwriting standards on low down payment mortgages they purchase. Private
mortgage insurers, including PMI, are affected by such changes implemented by
Fannie Mae or Freddie Mac. See "D. Competition and Market Share", "O.
Regulation", and RF2 and RF3.
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Since 1992, Fannie Mae and Freddie Mac have been subject to oversight
legislation for GSEs which simultaneously tightened their capital requirements
and set goals for affordable housing. Their goals are based on the percentage of
loans purchased by the GSEs, determined by the number of dwelling units securing
such loans. Fannie Mae also expanded its Community Home Buyers Program to
include a commitment to purchase a certain volume of 97s.
TPG believes that the GSEs' announced goals for 1998 were that at least 42% of
the units financed by each GSE be low- and moderate-income housing, and that
approximately 25% of such units be in underserved areas (which are defined as
census tracts with either a median income no greater than 90% of area median, or
with a median income no greater than 120% of area median income and a minority
population of at least 30%). TPG believes that the GSEs' goals to expand
purchases of affordable housing loans have increased the overall size of the
total mortgage insurance market because such loans are traditionally in excess
of 80% LTV, with a majority being in excess of 90% LTV.
Freddie Mac's and Fannie Mae's automated underwriting services, Loan
Prospector/SM/ and Desktop Underwriter/TM/, respectively, can be used by
mortgage originators to determine whether Freddie Mac or Fannie Mae will
purchase a loan prior to closing. Through these systems, lenders are able to
obtain approval for mortgage guaranty insurance with any participating mortgage
insurer. PMI works with both agencies in offering insurance services through
their systems, while utilizing its proprietary risk management systems to
monitor the risk quality of loans insured through such systems. See "H.
Underwriting Practices--Role of Technology, and Delegated Underwriting", below.
Fannie Mae's and Freddie Mac's current guidelines regarding cancellation of
mortgage insurance generally provide that a borrower's written request to cancel
mortgage insurance should be honored if: (a) the borrower has a satisfactory
payment record with no payment more than 30 days delinquent in the 12 month
period preceding the request for cancellation; and (b) the unpaid principal
balance of the mortgage is not greater than 80% of the original value of the
property. The Home Owners Protection Act of 1998 (the "Act"), which is effective
on July 29, 1999, provides for the automatic termination, or cancellation upon a
borrower's request, of private mortgage insurance upon satisfaction of certain
conditions. The Act applies to owner-occupied residential mortgage loans
regardless of lien priority, with borrower-paid mortgage insurance, and which
closed after the effective date of the Act. FHA loans are not covered by the
Act. Under the Act, automatic termination of mortgage insurance would
generally occur once the loan-to-value ratio ("LTV") reaches 78%. A borrower
may generally request cancellation of mortgage insurance once the LTV reaches
80% of the home's original value, or when actual payments reduce the loan
balance to 80% of the home's original value, whichever occurs earlier. For
borrower initiated cancellation of mortgage insurance, the borrower must have
a good payment history. Good payment history generally requires that there
have been no payments during the 12-month period preceding the loan's
cancellation date 30 days or more past due, or 60 days or more past due during
the 12-month period beginning 24 months before the loan's cancellation date.
Loans which are deemed "high risk" by the GSEs, require automatic termination
of mortgage insurance coverage once the LTV is first scheduled to reach 77% of
the original value of the property without regard to the actual outstanding
balance. The Act preempts all but more protective, preexisting state laws. See
"O. Regulation", and RF4, below.
D. Competition and Market Share
The U.S. private mortgage insurance industry consists of nine active mortgage
insurers, including Mortgage Guaranty Insurance Corporation ("MGIC"), GE
Capital Mortgage Insurance Corporation ("GEMICO"), an affiliate of GE Capital
Corporation, and United Guaranty Residential Insurance Company ("UGC"), an
affiliate of American International Group, Inc. PMI, including CMG, is the third
largest private mortgage insurer in the United States based on new primary
insurance written in 1998 and direct primary insurance in force at December 31,
1998. (Source: Inside Mortgage Finance.) In 1998, MGIC possessed the largest
share of the private mortgage insurance market, with approximately 23.1% of NIW,
and GEMICO, PMI and UGC had market shares of approximately 16.4%, 16.2% and
12.7%, respectively. (Source: Inside Mortgage Finance.) PMI's 1998 market share
percentage includes 1.3% of the market held by CMG. See Part II, Item 7--
"Management's Discussion And Analysis Of Financial Condition And Results of
Operations", and RF2.
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The following table indicates the market share by private mortgage insurer based
on NIW over the past five years:
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Private Mortgage Insurance Industry Market Share
Year Ended December 31,
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1998 1997 1996 1995 1994
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Mortgage Guaranty Insurance Corp. 23.1 % 26.4 % 25.5 % 27.4 % 25.7 %
GE Capital Mortgage Insurance Corp. 16.4 16.5 18.5 20.1 27.6
PMI Mortgage Insurance Co. (1) 16.2 13.8 14.7 13.5 13.8
United Guaranty Corp. 12.7 12.8 12.7 12.9 13.3
Commonwealth Mortgage Assurance Co. 11.3 11.3 9.7 9.6 7.8
Republic Mortgage Insurance Co. 9.7 10.3 11.2 9.7 8.7
Amerin Guaranty Corp. 8.1 6.5 6.0 5.3 1.9
Triad Guaranty Insurance Corp. 2.5 2.4 1.7 1.5 1.2
--------- ---------- ---------- ---------- ----------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
========= ========== ========== ========== ==========
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Source: Inside Mortgage Finance
(1) Includes CMG.
The following table indicates the market share by private mortgage insurer for
each quarter in 1998:
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Private Mortgage Insurance Industry Market Share
1998 by Quarter
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4Q 1998 3Q 1998 2Q 1998 1Q 1998
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Mortgage Guaranty Insurance Corp. 22.2 % 23.2 % 23.1 % 24.1 %
PMI Mortgage Insurance Co. (1) 16.4 16.6 16.3 15.0
GE Capital Mortgage Insurance Corp. 15.4 17.1 17.1 16.2
United Guaranty Corp. 13.3 12.3 12.4 12.4
Commonwealth Mortgage Assurance Co. 11.5 11.3 10.7 11.7
Republic Mortgage Insurance Co. 9.7 9.8 9.8 9.7
Amerin Guaranty Corp. 8.7 7.3 8.2 8.3
Triad Guaranty Insurance Corp. 2.8 2.4 2.4 2.6
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Total 100.0 % 100.0 % 100.0 % 100.0 %
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Source: Inside Mortgage Finance
(1) Includes CMG.
PMI and other private mortgage insurers also compete directly with federal and
state governmental and quasi-governmental agencies, principally the FHA and, to
a lesser degree, the VA. These agencies sponsor government-backed mortgage
insurance programs which accounted for 43.7%, 45.6%, and 44.8% for 1998, 1997
and 1996, respectively, of all loans insured or guaranteed(2). Effective January
1, 1999, the Department of Housing and Urban Development announced an increase
in the maximum individual loan amount that FHA can insure to $208,800 from
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$197,620. The maximum individual loan amount that the VA can insure is $203,150.
(See RF2). Private mortgage insurers have no limit as to maximum individual loan
amounts that they can insure.
(2) According to data from the Department of Housing and Urban Development
("HUD"), VA and Inside Mortgage Finance.
The Omnibus Spending Bill of 1999, signed into law on October 21, 1998
streamlined the FHA down payment formula by eliminating tiered minimum cash
investment requirements and establishing maximum loan-to-value ratios based on
loan size and closing costs, making FHA insurance more competitive with private
mortgage insurance in areas with higher home prices. See RF2.
The following table indicates the relative share of the mortgage insurance
market based on NIW by FHA/VA and private mortgage insurers over the past five
years.
Federal Government and Private Mortgage Insurance Market Share
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Year Ended December 31,
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1998 1997 1996 1995 1994
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FHA/VA 43.7 % 45.6 % 44.8 % 38.5 % 51.8 %
Private Mortgage Insurance 56.3 54.4 55.2 61.5 48.2
---------- ---------- ---------- ---------- ----------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
========== ========== ========== ========== ==========
</TABLE>
Fannie Mae and Freddie Mac announced an increase in the maximum single-family
principal balance loan limit eligible for their purchase from $227,150 to
$240,000 effective in 1999. Since the GSEs are the predominant purchasers and
sellers of conventional mortgage loans in the United States, loan originators
prefer to make loans that may be marketed in the secondary market to Fannie Mae
and/or Freddie Mac. Loan originators are motivated to purchase mortgage
insurance from insurers deemed eligible by the GSEs. Because PMI is an
authorized mortgage insurer for the GSEs, management believes any increase in
the GSEs loan limit eligible for their purchase may positively affect the number
of loans eligible for mortgage insurance and may have the effect of increasing
the size of the mortgage insurance market. See "C. Industry Overview", above,
and RF3.
Freddie Mac and Fannie Mae both recently announced programs where reduced
mortgage insurance coverage will be made available for lenders that deliver
loans approved by the GSE's automated underwriting services, Loan
Prospector/SM/ and Desktop Underwriter/TM/, respectively. Generally, Fannie
Mae's and Freddie Mac's reduced mortgage insurance coverage options provide
for: (i) across-the-board reductions in required MI coverage on 30-year fixed-
rate loans recommended for approval by GSE's automated underwriting services
to the levels in effect in 1994; (ii) reduction in required MI coverage, for
loans with only a 5% down payment (a 95% LTV), from 30% to 25% of the mortgage
loan covered by MI; (iii) reduction in required MI coverage, for loans with a
10% down payment (a 90% LTV loan), from 25% to 17% of the mortgage loan
covered by MI. In addition, the GSE's announced programs to further reduce MI
coverage upon the payment of an additional fee by the lender. Under this
option, a 95% LTV loan will require 18% of the mortgage loan to have mortgage
insurance coverage. Similarly, a 90% LTV loan will require 12% of the mortgage
loan have mortgage insurance. In order for the home buyer to have MI at these
levels, such loans would require a payment at closing or a higher note rate.
See RF3.
The Office of the Comptroller of the Currency has granted permission to certain
national banks to form a reinsurance company as a wholly-owned operating
subsidiary for the purpose of reinsuring mortgage insurance written on loans
originated or purchased by such bank. The Federal Reserve Board is in the
process of considering whether similar activities are permitted for bank holding
companies. The Office of Thrift Supervision has also recently granted
permission for subsidiaries of thrift institutions to reinsure private mortgage
insurance coverage on loans originated or purchased by affiliates of such
thrift's parent organization. The reinsurance subsidiaries of
9
<PAGE>
national banks, savings institutions, or bank holding companies could become
significant competitors of the Company in the future. See "O. Regulation", and
RF2.
PMI and other private mortgage insurers also compete indirectly with mortgage
lenders that elect to retain the risk of loss from defaults on all or a portion
of their high-LTV mortgage loans rather than obtain insurance for such risk.
Certain lenders originate a first mortgage lien with an 80% LTV ratio, a 10%
second mortgage lien, and 10% of the purchase price from borrower's funds
("80/10/10"). This 80/10/10 product competes with mortgage insurance as an
alternative for lenders selling loans in the secondary mortgage market. The
Federal Deposit Insurance Corporation and other banking regulators recently
approved rules to be effective April 1, 1999 that would require national banks
to hold almost twice as much risk-based capital to cover possible defaults on
the 80/10/10 products when the lender holds the first and second mortgage.
State-chartered banks already are subject to the higher capital requirement.
(See RF2). Any change in legislation which affects the risk-based capital rules
imposed on banks and savings institutions, or which change the GSEs' insurance
requirements may affect the desirability of foregoing insurance for lending
institutions or the GSEs and, therefore, affect the size of the insurance
mortgage market. See "O. Regulation", below.
In addition to captive reinsurance arrangements with subsidiaries of banks,
mortgage insurers like PMI reinsure some portion of coverage issued to certain
lenders with affiliates of those lenders and/or through uncaptive structures.
TPG also issues performance notes to certain lenders or their affiliates, which
notes pay a base rate of interest plus, if appropriate, a performance addition.
PMI is pursuing various risk-sharing arrangements for certain of its customers,
including offering various premium rates based on the risk characteristics, loss
performance or class of business of the loans to be insured, or the costs
associated with doing such business. While many factors are considered in
determining rates, there can be no assurance that the premiums charged will be
adequate to compensate PMI or TPG for the risks associated with the coverage
provided to its customers. Management is unable to predict the impact of these
arrangements with non-bank captive reinsurers and uncaptive reinsurers, or the
performance notes or their long-term competitive effect. See "K. Reinsurance"
and RF4.
In addition to competition from federal agencies, PMI and other private mortgage
insurers face limited competition from state-supported mortgage insurance funds.
As of December 31, 1998, several states (among them California, Connecticut,
Maryland, Massachusetts, New York, and Vermont) have state housing insurance
funds which are either independent agencies or affiliated with state housing
agencies.
For the year ended December 31, 1998, total mortgage originations according to
Inside Mortgage Finance were estimated to be $1.5 trillion compared to $849.7
billion for the year ended December 31, 1997.
E. Customers
PMI insures mortgage loans funded by mortgage originators. Mortgage originators
include mortgage bankers, savings institutions, commercial banks and other
mortgage lenders. See RF1.
For the year ended December 31, 1998, PMI's primary customers were mortgage
bankers, with the balance of its customers being savings institutions,
commercial banks and other mortgage lenders. Mortgage brokers originate loans on
behalf of mortgage lenders and are not master policyholders. As a result,
mortgage brokers are not the beneficiaries of policies issued by PMI. The
beneficiary under the master policy is the owner of the insured loan and,
accordingly, when a loan is sold, the purchaser of the loan is entitled to the
policy benefits.
F. Business Composition
A significant percentage of PMI's premiums earned is generated from its existing
insurance in force and not from new insurance written. PMI's policies for
insurance coverage typically have a policy duration averaging five to seven
years. Insurance coverage may be canceled by the policy owner or servicer of the
loan at any time. PMI has no control over the owner's or servicer's decision to
cancel insurance coverage and self-insure or place coverage
10
<PAGE>
with another mortgage insurance company. However, the GSE's have restrictions on
changing mortgage insurance provider. There can be no assurance that policies
for insurance coverage originated in a particular year or for a particular
customer will not be canceled at a later time or that the Company will be able
to regain such insurance coverage at a later time.
The composition of PMI's direct primary risk in force, as summarized on the
following table, reflects several changes over the five-year period from 1994 to
1998. The relatively low interest rates during this period resulted in an
increasing percentage of mortgages insured by PMI at a fixed rate of interest,
representing 89.7% of direct primary risk in force at December 31, 1998, up from
74.4% at year-end 1994. Based on PMI's experience, fixed rate loans represent
less risk than adjustable rate mortgages ("ARMs") because claim frequency on
ARMs is generally higher than on fixed rate loans. PMI charges higher premium
rates for ARMs, 95s and 97s to compensate for the higher risk associated with
such loans, although there can be no certainty that the differential in the
higher premium rate will be adequate to compensate for the higher risk.
In 1995, the GSEs increased their coverage requirements to 30% and 25%, on 95s
and 90s, respectively. PMI's percentage of risk in force with the higher
coverage requirements has steadily increased since 1995, and the percentage of
risk in force comprised of 95s with 30% coverage has increased from 28.8% for
the year ended December 31, 1997 to 34.4%, for the year ended December 31, 1998.
During the period between 1997 and 1998, PMI's amount of direct primary risk in
force increased by 6.6% from $18.1 billion at December 31, 1997 to $19.3 billion
at December 31, 1998. The direct primary risk in force increased by 4.4% for
period between 1996 and 1997 from $17.3 billion, to $18.1 billion, at December
31, 1996 and 1997, respectively.
Recently Fannie Mae and Freddie Mac reduced the mortgage insurance coverage
requirements for borrowers recommended for approval by their automated loan
underwriting systems, Desktop Underwriter/SM/ and Loan Prospector/SM/,
respectively. Management believes it is too early to assess impact of the
Fannie Mae and Freddie Mac reduction of required levels of mortgage insurance
on the Company's financial condition and results of operations. If the
reduction in required levels of mortgage insurance were to become widely
accepted by mortgage lenders and their customers, however, such reduction
could have a materially adverse impact on the Company's financial condition
and results of operations. See "D. Competition and Market Share", above and
RF3.
The composition of PMI's NIW has included an increasing percentage of mortgages
with LTVs in excess of 90% and less than or equal to 95% ("95s"). At December
31, 1998, 46.3% of PMI's risk in force consisted of 95s, which, in PMI's
experience, have had a claims frequency approximately twice that of mortgages
with LTVs equal to or less than 90% and over 85% ("90s"). PMI also offers
coverage for mortgages with LTVs in excess of 95% and up to 97% ("97s"). At
December 31, 1998, 3.3% of PMI's risk in force consisted of 97s which have even
higher risk characteristics than 95s and greater uncertainty as to pricing
adequacy. PMI's NIW also includes adjustable rate mortgages ("ARMs"), which,
although priced higher, have risk characteristics that exceed the risk
characteristics associated with PMI's book of business as a whole. Since the
fourth quarter of 1997, PMI has offered a pool insurance product. Pool insurance
is generally used as an additional credit enhancement for certain secondary
market mortgage transactions and generally covers the loss on a defaulted
mortgage loan that exceeds the claim payment under the primary coverage, if
primary insurance is required on that mortgage loan. Pool insurance also
generally covers the total loss on a defaulted mortgage loan that did not
require primary insurance, in each case up to a stated aggregate loss limit. New
pool risk written was $450.3 million for the year ended December 31, 1998.
Management is uncertain about the amount of new pool risk that will be written
in 1999, but believes total new pool risk written in 1999 will be less than the
amount of pool risk written in 1998. Although PMI charges higher premium rates
for loans that have higher risk characteristics, including ARMs, 95s, 97s and
pool insurance products, the premiums earned on such products, and the
associated investment income, may ultimately prove to be inadequate to
compensate for future losses from such products. See RF10.
The following table reflects the percentage of PMI's direct primary risk in
force (as determined on the basis of information available on the date of
mortgage origination) by categories and as of the dates indicated:
11
<PAGE>
Direct Risk in Force
<TABLE>
<CAPTION>
As of December 31,
-----------------------------------------------------------------------------
1998 1997 1996 1995 1994
------------ ----------- ----------- ----------- ------------
<S> <C> <C> <C> <C> <C>
Direct Risk in Force (In millions) $ 19,324 $ 18,092 $ 17,336 $ 15,130 $ 13,243
============ =========== =========== =========== ============
Lender Concentration:
Top 10 Lenders (by original applicant) 30.0 % 27.8 % 26.0 % 22.5 % 20.4 %
============ =========== =========== =========== ============
LTV:
97s 3.3 % 1.8 % 1.1 % 0.4 % 0.0 %
95s 46.3 46.2 43.6 40.2 35.7
90s and below 50.4 52.0 55.3 59.4 64.3
------------ ----------- ----------- ----------- ------------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
============ =========== =========== =========== ============
Average Coverage Percentage 23.9 % 24.3 % 22.4 % 21.2 % 20.1 %
============ =========== =========== =========== ============
Loan Type:
Fixed 89.7 % 83.3 % 80.6 % 76.8 % 74.4 %
ARM 9.2 15.2 17.7 21.3 23.9
ARM (scheduled/potential
negative amortization) 1.1 1.5 1.7 1.9 1.7
------------ ----------- ----------- ----------- ------------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
============ =========== =========== =========== ============
Mortgage Term:
15 years and under 5.3 % 6.3 % 9.4 % 8.6 % 10.3 %
Over 15 years 94.7 93.7 90.6 91.4 89.7
------------ ----------- ----------- ----------- ------------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
============ =========== =========== =========== ============
Property Type:
Single-family detached 87.1 % 86.3 % 86.7 % 86.7 % 86.3 %
Condominium 6.4 6.8 6.9 7.1 7.5
Other (1) 6.5 6.9 6.4 6.2 6.2
------------ ----------- ----------- ----------- ------------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
============ =========== =========== =========== ============
Occupancy Status:
Primary residence 98.6 % 99.0 % 99.2 % 99.3 % 99.4 %
Second home 1.0 0.8 0.6 0.5 0.3
Non-owner occupied 0.4 0.2 0.2 0.2 0.3
------------ ----------- ----------- ----------- ------------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
============ =========== =========== =========== ============
Loan Amount:
$100,000 or less 26.4 % 27.3 % 28.3 % 28.8 % 29.9 %
Over $100,000 and up to $250,000 66.1 65.6 64.8 64.3 63.5
Over $250,000 7.5 7.1 6.9 6.9 6.6
------------ ----------- ----------- ----------- ------------
Total 100.0 % 100.0 % 100.0 % 100.0 % 100.0 %
============ =========== =========== =========== ============
</TABLE>
(1) Includes two-to-four unit dwellings, townhouses, row houses and
cooperatives.
G. Sales, Product Development and Underwriting Personnel
PMI employs a sales force and underwriting staff located throughout the country
to sell its products, underwrite loans and provide services to lenders located
throughout the United States. At December 31, 1998, PMI had 34 sales and
underwriting service field and satellite offices located in 22 states. PMI's
sales force receives compensation
12
<PAGE>
comprised of a base salary with incentive compensation tied to performance
objectives. PMI's Product Development and Pricing Department has primary
responsibility for advertising, sales materials, and the creation of new
products and services. PMI's product development and underwriting management
personnel are eligible to participate in a bonus plan; all other personnel are
compensated solely by salary.
PMI's underwriting force have access to electronic data interchange and
automated mortgage scoring systems which give them the ability to more
efficiently process and underwrite both conforming and non-conforming loans to
investors standards. See "H. Underwriting Practices - Role of Technology" below.
PMI's Certificate Priority Center ("CPC"), in Dallas Texas is the central
processing facility for underwriting data input and the issuance of PMI's
insurance certificates. New policies processed at the CPC represented 38.3% of
PMI's NIW in 1998 compared with 0.4% in 1997. During 1998, applications
processed at the CPC represented 47.0% of all applications compared with 1.2%
in 1997.
The Company, through MSC, provides contract underwriting services that enable
customers to improve the efficiency and quality of their operations by
outsourcing all or part of their mortgage loan underwriting. Such contract
underwriting services are provided for mortgage loans for which PMI provides
mortgage insurance and for loans on which PMI does not. MSC also performs all of
the contract underwriting activities of CMG. As a part of its contract
underwriting services, PMI provides remedies which may include the assumption of
some of the costs of repurchasing insured and uninsured loans from the GSEs and
other investors. Generally, the scope of these remedies are in addition to those
contained in PMI's master primary insurance policies. Contract underwriting
services have become increasingly important to mortgage lenders as they seek to
reduce costs. New policies processed by contract underwriters represented 35.0%
of PMI's NIW in 1998 compared with 21.6% in 1997. Management anticipates that
contract underwriting will continue to generate a significant percentage of
PMI's NIW and that customer demand for contract underwriting services will
increase. Management also believes the number of contract underwriters deployed
by the Company will decrease as mortgage origination volumes decline. See RF7.
H. Underwriting Practices
Risk Management Approach
PMI underwrites its primary business based upon the historical performance of
risk factors of individual loan profiles, and utilizes automated underwriting
systems in the risk selection process to assist the underwriter with decision
making. PMI's underwriting process evaluates five categories of risk:
. Borrower. An evaluation of the borrower's credit history is an integral
part of PMI's risk selection process. In addition to the borrower's credit
history, PMI analyzes several factors, including the borrower's employment
history, income, funds needed for closing, and the details of the home
purchase.
. Loan Characteristics. PMI analyzes four general characteristics of the loan
product to quantify risk: (i) LTV; (ii) type of loan instrument; (iii) type
of property; and (iv) purpose of the loan. Certain categories of loans are
generally not insured by PMI because such loans are deemed to have an
unacceptable level of risk, such as loans with scheduled negative
amortization, and loans originated using limited documentation.
. Property Profile. PMI reviews appraisals regarding methodology used to
determine the property price.
. Housing Market Profile. PMI places significant emphasis on the condition of
regional housing markets in determining its underwriting guidelines. PMI
analyzes the factors that impact housing values in each of its major
markets and closely monitors regional market activity on a quarterly basis.
. Mortgage Lender. PMI tracks the historical risk performance of all
customers that hold a master policy. This information is factored into the
determination of the loan programs that PMI will approve for various
lenders.
13
<PAGE>
PMI uses national and territorial underwriting guidelines to evaluate the
potential risk of default on mortgage loans submitted for insurance coverage.
The national guidelines have developed over time and take into account PMI's
loss experience and the underwriting guidelines of Fannie Mae and Freddie Mac.
PMI expects its internal and contract underwriters to utilize their knowledge of
local markets, risk management principles and business judgment in evaluating
loans on their own merits in conjunction with PMI's underwriting guidelines.
Accordingly, PMI's underwriting staff is trained to consider combined risk
characteristics and their impact in different real estate markets and have
discretionary authority to insure loans which are substantially in conformance
with PMI's published underwriting guidelines. Significant deviations from such
guidelines require higher level underwriting approval. PMI also offers pre- and
post-loan credit counseling to borrowers using the 97% product as an aid in
managing the greater risks associated with 97s compared to 95s. See RF12
Underwriting Process
To obtain mortgage insurance on a specific mortgage loan, a master policyholder
typically submits an application to one of PMI's regional underwriting offices,
supported by various documents. Besides the standard full documentation
submission program, PMI also accepts applications for insurance under a reduced
documentation submission program (the "Quick Application Program"), which is
limited to those lenders with a track record of high quality business. PMI's
Quick Application Program allows selected lenders to submit insurance
applications that do not include all standard documents. The lender is required
to maintain written verification of employment and source of funds needed for
closing and other supporting documentation in its origination file. PMI may
schedule on-site audits of lenders' files on loans submitted under this program.
The amount of business written under the Quick Application Program was 4.4% of
PMI's NIW in 1998. PMI's Certificate Priority Center ("CPC"), in Dallas Texas,
was designed to centralize the processing of data input for PMI's insurance
certificates and to enhance operational productivity and efficiency, customer
service and expense management. See "H. Sales, Product Development and
Underwriting Personnel", above.
The documents submitted to PMI by the mortgage lender generally include a copy
of the borrower's loan application, an appraisal report or other statistical
evaluation on the property by either the lender's staff appraiser or an
independent appraiser, a written credit report on the borrower and, under the
standard full documentation submission program, a verification of the borrower's
employment, income and funds needed for the loan closing (principally, down
payment) and the home purchase contract. Once the loan package is received by
PMI's home or field underwriting offices, key borrower, property and loan
product information is extracted from the file by an underwriting staff member
and analyzed by automated underwriting systems -- pmiAURA/SM/ and pmiTERRA/SM/.
During 1998, 62.2% of applications received were approved by the automated
underwriting systems. In 1997, 70.6% of applications received were approved by
the automated underwriting systems. Such applications generally have favorable
risk characteristics, such as strong borrower credit ratings, low borrower debt-
to-income ratios and stable borrower income histories. Any loans not
automatically approved are referred to an underwriter for review of the entire
insurance application package. The underwriter reviews the detailed systems
analysis and borrower, loan and property profiles to determine if the risk is
acceptable. The underwriter either approves, delays the final decision pending
receipt of more information or declines the application for insurance. PMI
generally responds within one business day after an application and supporting
documentation is received.
PMI's rejection rate remained consistent with 1997 at approximately 8.0% for the
year ended December 31, 1998. PMI shares its knowledge of risk management
principles and real estate economic conditions with customers to improve the
quality of submitted business and reduce the rejection rate.
Delegated Underwriting
PMI's Partner Delivered Quality Program (the "PDQ Program"), introduced in
1991, is a delegated underwriting program whereby approved lenders are allowed
to determine whether loans meet program guidelines and requirements approved by
PMI and are thus eligible for mortgage insurance. At present, over 1,000 lenders
actively approve applications under the PDQ Program. PMI's delegated business
accounted for 52.7% and 50.3% of PMI's
14
<PAGE>
NIW in 1998 and 1997, respectively, and represented 37.3% of PMI's total risk in
force at December 31, 1998. PMI believes the percentage of risk in force written
under the PDQ Program will increase further in the future as the program is
expanded to include additional qualified lenders. Delegated underwriting enables
PMI to meet mortgage lenders' demands for immediate insurance coverage of
certain loans. Such types of programs have now become standard industry
practice.
Under the PDQ Program, customers utilize their own PMI-approved underwriting
guidelines and eligibility requirements in determining whether PMI is committed
to insuring a loan. Once the lender notifies PMI of an insured loan, key loan
risk characteristics are evaluated by the pmiAURA/SM/ model to monitor the
quality of delegated business on an ongoing basis. Additionally, PMI audits a
representative sample of loans insured by each lender participating in the PDQ
Program on a regular basis to determine compliance with program requirements. If
a lender participating in the program tentatively commits PMI to insure a loan
which fails to meet all of the applicable underwriting guidelines, PMI is
obligated to insure such a loan except under certain narrowly-drawn exceptions
to coverage (for example, maximum loan-to-value criteria). Loans that are not
eligible for the PDQ Program may be submitted to PMI for insurance coverage
through the normal process. PMI's PDQ Program is also accessed through a
customer interface with Freddie Mac's Loan Prospector/SM/ system. PMI has
currently limited its interface participation with Loan Prospector/SM/ customers
and/or lenders who are approved to use the PDQ program.
PMI believes that the performance of its delegated insured loans will not vary
materially over the long-term from the performance of all other insured loans
because: (i) only qualified lenders who demonstrate underwriting proficiency are
eligible for the program; (ii) only loans meeting average-to-above average
underwriting eligibility criteria are eligible for the program; and (iii) PMI
has the ability to monitor the quality of loans submitted under the PDQ Program
with proprietary risk management tools and an on-site audit of each PDQ lender.
Role of Technology
PMI accepts applications for insurance electronically through an electronic data
interchange ("EDI") link with a lender. EDI links, through pmiPAPERLESS/SM/,
serve to reduce paperwork for both PMI and its customers, streamline the process
by which mortgage insurance is applied for, reduce the number of errors
associated with re-entering information, and increase the speed with which PMI
is able to respond to applications, all of which can enhance PMI's relationship
with lenders.
In 1987, PMI completed development of pmiAURA/SM/ in conjunction with Allstate.
The system was initially developed utilizing five years of performance
information from approximately 300,000 borrower profiles. The system employs
claim and risk statistical models to predict the relative likelihood of default
by a mortgage borrower. pmiAURA/SM/ assigns all applications received by PMI a
risk score predicting the likelihood of default, and automatically refers
certain applications to underwriters based on higher risk characteristics,
territorial underwriting guidelines or other administrative requirements. PMI
has updated the pmiAURA/SM/ database with performance data of over 2 million
loans, and has added economic and demographic information to the database in
order to enhance pmiAURA/SM/ predictive power. During 1997, the 4th generation
of pmiAURA/SM/ was released which enabled the pmiAURA/SM/ system to generate
three types of scores: a loan risk score that assesses the risk solely due to
the borrower, loan and property characteristics independent of market risk; a
market score which is a measure of the default risk due solely to the
metropolitan area economic conditions; and the pmiAURA/SM/ Score, which combines
the information in the loan risk and market scores. Also, the newest generation
includes a revised credit score indicator. PMI intends to further update the
model from time to time.
In 1991, the pmiTERRA/SM/ system was installed to complement pmiAURA/SM/ by
providing a fully automated appraisal analysis, and currently contains over
900,000 residential property profiles. This analysis determines if the appraiser
adequately supported the final estimate of value. A key ingredient in the
pmiTERRA/SM/ appraisal model is a consideration of the health of the real estate
market in which the property is located.
15
<PAGE>
The automated underwriting systems free underwriters from having to review the
highest quality applications, and enable the underwriters to focus on more
complex credit packages and market and lender analyses. In addition to their use
in underwriting almost all of PMI's mortgage insurance applications from
lenders, the automated underwriting systems provide daily reports that assist
underwriting management in monitoring the credit and property risk being
committed for mortgage insurance. On the basis of its experience with the
automated underwriting systems, PMI believes that, in addition to improving
underwriting results, these automated underwriting systems have improved PMI's
underwriting efficiency and have brought consistency to the underwriting
judgment process. PMI's contract underwriters and its field underwriting force
have access to PMI's automated underwriting systems.
PMI, through its internal underwriting systems, provides its customers access to
Freddie Mac's and Fannie Mae's automated underwriting services, Loan
Prospector/SM/ and Desktop Underwriter/SM/, respectively, which are used as
tools by mortgage originators to determine whether Freddie Mac or Fannie Mae
will purchase a loan prior to closing. PMI works with both agencies in offering
insurance services through their systems, while utilizing its proprietary risk
management systems to monitor the risk quality of loans insured through such
systems.
As an added benefit, pmiAURA's/SM/ extensive database provides detailed
performance reports of underwriting quality trends by geographic region, product
type, customer characteristics and other key factors. These reports allow PMI's
underwriting management to monitor risk quality on a daily basis and to
formulate long-term responses to developing risk quality trends. Ultimately,
such responses can lead to regional variations from, or permanent changes to,
PMI's underwriting guidelines. PMI currently licenses pmiAURA/SM/ to
approximately 25 customers or lenders, including 6 of the top 10 mortgage
lenders, who use pmiAURA/SM/ as a tool to help understand more completely the
risk profiles of the loans they originate and the applications PMI is most
likely to approve. PMI, through The Customer Technology Division of MSC, makes
available to all pmiAURA/SM/ licensees customer service, technical support and
software upgrades. During 1998, pmiAURA/SM/, was approved by all four Wall
Street rating agencies as an effective tool for establishing levels of credit
support needed on securities backed by non-conforming, conventional loans.
I. Affordable Housing
PMI insures residential mortgages identified by its customers as loans secured
by properties owned and occupied by low- and moderate-income borrowers, or by
borrowers who reside in areas targeted for community reinvestment or
redevelopment ("affordable housing" loans). The percentage of affordable housing
loans designated as such by lenders was 6.5% of new risk written in 1998, as
compared to 9.10% in 1997. Management believes that affordable housing loans
have higher risks than its other insured business. As a result, PMI has
instituted various programs seeking to mitigate the higher risk characteristics
of such loans.
J. Defaults and Claims
Defaults
PMI's default rate has decreased to 2.31% at December 31, 1998 from the December
31, 1997 rate of 2.38%. This decrease was primarily due to an improvement in the
national economy, and particularly California, and to an increase in policies in
force. See RF12 and Part II Item 7 "Management's Discussion and Analysis of
Financial Condition And Results of Operations".
PMI's claim process begins with the receipt of notification of a default from
the insured on an insured loan. Default is defined in the master policy as the
failure by the borrower to pay when due an amount equal to the scheduled monthly
mortgage payment under the terms of the mortgage. The master policy requires
insureds to notify PMI of defaults no later than 130 days after the initial
default. Generally, defaults are reported sooner, and the average time for
default reporting in 1998 by PMI insureds was approximately within 60 days of
the initial default. PMI has historically included all defaults reported by the
lenders in its default inventory, regardless of the time period since
16
<PAGE>
the initial default. The incidence of default is affected by a variety of
factors, including the reduction of the borrower's income, unemployment,
divorce, illness, the inability to manage credit and the level of interest
rates. Defaults that are not cured result in a claim to PMI. See "Claims and
Policy Servicing" below. Borrowers may cure defaults by making all delinquent
loan payments or by selling the property in full satisfaction of all amounts due
under the mortgage.
The following table shows the number of loans insured by PMI, the number of
loans in default and the default rate.
Historical Default Rates
Total Insured Loans in Force
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------------------------------------------
1998 1997 1996 1995 1994
----------- ---------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C>
Number of Insured Loans in Force 714,210 698,831 700,084 657,800 612,806
Number of Loans in Default 16,528 16,638 15,326 13,022 11,550
Default Rate 2.31 % 2.38 % 2.19 % 1.98 % 1.88 %
</TABLE>
Default rates differ from region to region in the United States depending upon
economic conditions and cyclical growth patterns. The two tables below
illustrate the impact of economic cycles on the various regions of the United
States and the ten largest states by PMI's risk in force as of December 31,
1998.
<TABLE>
<CAPTION>
Default Rates by Region(1)
As of Period End,
------------------------------------------------------------------------------------------------
1998 1997
--------------------------------- ---------------------------------
Region 4th Q 3rd Q 2nd Q 1st Q 4th Q 3rd Q 2nd Q 1st Q 1996 1995 1994
------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Pacific(2) 2.69 % 2.67 % 2.72 % 3.03 % 3.14 % 3.17 % 3.12 % 3.28 % 3.22 % 3.34 % 2.99 %
New England(3) 1.79 1.68 1.64 1.81 1.81 1.79 1.82 1.87 1.80 1.93 1.98
Northeast(4) 2.91 2.77 2.68 2.88 2.79 2.67 2.57 2.56 2.52 2.22 2.11
South
Central(5) 1.92 1.78 1.73 1.87 1.98 1.87 1.71 1.68 1.67 1.51 1.76
Mid-Atlantic(6) 2.37 2.23 2.22 2.40 2.35 2.29 2.17 2.15 2.03 1.65 1.60
Great Lakes(7) 1.98 1.94 1.88 1.88 1.86 1.75 1.56 1.63 1.82 1.21 1.28
Southeast(8) 2.39 2.16 2.10 2.35 2.31 2.13 2.05 1.99 1.93 1.53 1.41
North
Central(9) 1.96 1.91 1.78 1.95 1.95 1.75 1.67 1.65 1.61 1.31 1.03
Plains(10) 1.73 1.63 1.45 1.53 1.56 1.56 1.40 1.25 1.21 0.89 0.68
Total Portfolio 2.31 2.20 2.16 2.36 2.38 2.29 2.20 2.22 2.19 1.98 1.88
</TABLE>
(1) Default rates are shown by region on location of the underlying property.
(2) Includes California, Hawaii, Nevada, Oregon and Washington.
(3) Includes Connecticut, Maine, Massachusetts, New Hampshire, Rhode Island
and Vermont.
(4) Includes New Jersey, New York and Pennsylvania.
(5) Includes Alaska, Arizona, Colorado, Louisiana, New Mexico, Oklahoma, Texas
and Utah.
(6) Includes Delaware, Maryland, Virginia, Washington, D.C. and West Virginia.
(7) Includes Indiana, Kentucky, Michigan and Ohio.
(8) Includes Alabama, Arkansas, Florida, Georgia, Mississippi, North Carolina,
South Carolina and Tennessee.
(9) Includes Illinois, Minnesota, Missouri and Wisconsin.
(10) Includes Idaho, Iowa, Kansas, Montana, Nebraska, North Dakota, South
Dakota and Wyoming.
17
<PAGE>
PMI's Default Rates for Top 10 States by Total Risk in Force(1)
<TABLE>
<CAPTION>
Percent of PMI's
Primary Risk in
Force as of Default Rate
December 31, as of December 31,
-------------------- -------------------------------------------------------------
1998 1998 1997 1996 1995 1994
---------------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
California 17.6 % 3.15 % 3.73 % 3.81 % 4.08 % 3.72 %
Florida 7.3 3.08 2.93 2.40 1.92 1.86
Texas 7.2 2.18 2.25 2.04 1.85 2.29
New York 4.9 2.98 2.94 2.59 2.30 2.00
Washington 4.8 1.58 1.66 1.58 1.21 0.96
Illinois 4.2 2.35 2.56 2.14 1.84 0.60
Virginia 4.1 1.55 1.67 1.54 1.18 1.20
Pennsylvania 4.1 2.64 2.38 2.13 1.91 1.72
Georgia 4.0 2.01 1.87 2.59 2.26 2.14
Massachusetts 3.9 1.67 1.67 1.73 1.91 2.04
Total Portfolio 100.0 % 2.31 % 2.38 % 2.19 % 1.98 % 1.88 %
</TABLE>
(1) Top ten states as determined by total risk in force as of December 31, 1998.
Default rates are shown by states based on location of the underlying
property.
Default rates on PMI's California policies decreased to 3.15% (representing
3,067 loans in default) at December 31, 1998, from 3.73% (representing 3,991
loans in default) at December 31, 1997. Claim sizes on California policies tend
to be larger than the national average claim size due to higher loan balances
relative to other states. (See "Claims and Servicing", below). Policies
written in California accounted for approximately 48% and 64% of the total
dollar amount of claims paid for the year ended December 31, 1998 and 1997,
respectively. Although management expects that California should continue to
account for the majority of total claims paid, management anticipates that with
continued improvement in the California economy, increased benefits of loss
mitigation and improved default reinstatement rates, California claims paid as a
percentage of total claims paid should continue to decline for the foreseeable
future. See RF11
The following table sets forth the dispersion of PMI's primary insurance in
force and risk in force as of December 31, 1998, by year of policy origination
since PMI began operations in 1972.
18
<PAGE>
Insurance and Risk in Force by Policy Year
<TABLE>
<CAPTION>
Primary Percent Primary Percent
Policy Year Insurance in Force of Total Risk in Force of Total
--------------------- ----------- ------------------- -----------
<S> <C> <C> <C> <C>
($ in thousands) ($ in thousands)
1972 - 1991 $ 4,226,669 5% $ 879,684 5%
1992 5,066,645 6% 989,627 5%
1993 10,485,549 13% 2,100,152 11%
1994 6,831,009 8% 1,459,165 8%
1995 6,872,617 9% 1,802,821 9%
1996 9,940,144 12% 2,632,644 14%
1997 11,485,537 14% 3,020,328 16%
1998 25,773,912 33% 6,439,414 32%
--------------------- ----------- ------------------- -----------
Total Portfolio $ 80,682,082 100% $ 19,323,835 100%
===================== =========== =================== ===========
</TABLE>
Claims and Servicing
The majority of claims under PMI policies have historically occurred during the
third through the sixth years after issuance of the policies. Insurance written
by PMI from the period January 1, 1993 through December 31, 1996 represents
42.3% of PMI's insurance in force at December 31, 1998. This substantial volume
of PMI's business is in its expected peak claim period. Despite increasing
coverage percentages and increasing mortgage principal amounts, direct primary
claims paid by PMI in 1998 decreased to approximately $118.4 million compared
with $147.1 million in 1997.
The frequency of claims does not directly correlate to the frequency of defaults
because the rate at which defaults cure is influenced by (i) the individual
borrower's financial resources and circumstances, and (ii) regional economic
differences. Whether an uncured default leads to a claim principally depends on
the borrower's equity at the time of default and the borrower's (or the
insured's) ability to sell the home for an amount sufficient to satisfy all
amounts due under the mortgage loan. During the default period, PMI works with
the insured for possible early disposal of the underlying property when the
chance of the loan reinstating is minimal. Such dispositions typically result in
a savings to PMI over the percentage coverage amount payable under the master
policy.
The following table sets forth the dispersion of PMI's primary insurance in
force as of December 31, 1998, by year of policy origination and average coupon
rate.
19
<PAGE>
<TABLE>
<CAPTION>
Insurance in Force by Policy Year
and Average Coupon Rate
As of December 31, 1998
-----------------------------------------------------
Policy Average Percent
Year Rate (1) IIF of Total
------- ---------- --------------- ----------
<S> <C> <C> <C>
1998 7.16 % $ 25,773,912 32.0 %
1997 7.80 11,485,537 14.2
1996 7.86 9,940,144 12.3
1995 8.03 6,872,617 8.5
1994 7.82 6,831,009 8.5
1993 7.50 10,485,549 13.0
1992 8.16 5,066,645 6.3
1972 - 1991 9.10 4,226,669 5.2
--------------- ----------
Total $ 80,682,082 100.0 %
=============== ==========
</TABLE>
(1) Average coupon rate on 30 year fixed rate mortgages
Under the terms of PMI's master policy, the lender is required to file a claim
with PMI no later than 60 days after it has acquired title to the underlying
property, usually through foreclosure. An insurance claim amount includes (i)
the amount of unpaid principal due under the loan; (ii) the amount of
accumulated delinquent interest due on the loan (excluding late charges) to the
date of claim filing; (iii) expenses advanced by the insured under the terms of
the master policy, such as hazard insurance premiums, property maintenance
expenses and property taxes to the date of claim filing; and (iv) certain
foreclosure and other expenses, including attorneys' fees. Such claim amount is
subject to review and possible adjustment by PMI. Depending on the applicable
state foreclosure law, an average of about 12 months elapses from the date of
default to payment of a claim on an uncured default. PMI's master policy
excludes coverage on loans secured by property with physical damage, whether
caused by fire, earthquake or other hazard where the borrower's default was
caused by an uninsured casualty.
PMI has the right to rescind coverage (and not pay a claim) if the lender, its
agents or the borrower misrepresent material information in the insurance
application. According to industry practice, a misrepresentation is generally
considered material if the insurer would not have agreed to insure the loan had
the true facts been known at the time of certificate issuance.
Within 60 days after a claim has been filed, PMI has the option of: (i) paying
the coverage percentage specified in the certificate of insurance (usually 17%
to 30% multiplied by the claim amount); (ii) in the event the property is sold
pursuant to an arrangement made prior to or during the 60-day period after the
claim is filed (a "prearranged sale"), paying the lesser of (A) 100% of the
claim amount less the proceeds of sale of the property or (B) the coverage
percentage multiplied by the claim amount, or (iii) paying 100% of the claim
amount in exchange for the insured's conveyance to PMI of good and marketable
title to the property, with PMI then selling the property for its own account.
Properties acquired through the last option are included on PMI's balance sheet
in other assets as residential properties from claim settlements (also known as
"REO"). PMI attempts to choose the claim settlement option which best
mitigates the amount of its claim payment. Generally, however, PMI settles by
paying the coverage percentage multiplied by the claim amount. In 1998 and 1997,
PMI settled 22.1% and 12.3%, respectively, of the primary claims processed for
payment on the basis of a prearranged sale. In each of 1998 and 1997, PMI
20
<PAGE>
exercised the option to acquire the property on less than 4% of the primary
claims processed for payment. At December 31, 1998, PMI owned $8.6 million of
REO valued at the lower of cost or estimated realizable value.
The ratio of the claim paid to the original risk in force relating to such loan
is referred to as claim severity and is a factor that influences PMI's losses.
The main determinants of claim severity are the accrued interest on the mortgage
loan and the foreclosure expenses. These amounts depend in part on the time
required to complete foreclosure, which varies depending on state laws. Pre-
foreclosure sales and other early workout efforts help to reduce overall
severity. The average claim severity level has decreased from 99.9% in 1994 to
95.8% in the period from 1994 to 1998.
Technology for Claims and Policy Servicing
Technology is an integral part of the claims and policy servicing process and
PMI believes that technology will continue to take on a greater role in
increasing internal efficiencies and improving customer service. PMI uses a
personal computer-based automated claim-for-loss worksheet program, developed in
1987, which compiles pertinent data while automatically calculating the claim
amount and predicting the best settlement alternative. To enhance efficiencies
and ease of use for its customers, PMI developed Document Free ClaimEase/SM/,
which is designed to require only an addendum to the uniform claim-for-loss
worksheet, reducing paperwork and resulting in more rapid claims settlements. In
addition, several technology tools have also been developed by PMI: pmiPHONE-
CONNECT/SM/, which is a voice response application, enabling the insured to
access PMI's database by using their telephones to inquire on the status of
their coverage and get information on billings, refunds, coverage and renewals;
pmiPC-CONNECT/SM/, which gives the insured the ability to dial into PMI's
database using a modem-equipped personal computer to inquire about and update
certain loan information, including the filing of claims; in 1998 PMI introduced
an enhanced version of pmiPC-CONNECT/SM/ named pmiWEB-CONNECT/SM/ which provides
access by the Insured to PMI's database via the Internet; PMI is also capable of
receiving claims, handling premium billing, and loan sale transfers via EDI. To
contain costs and expand internal efficiencies, PMI uses optical imaging in its
claims functions, allowing PMI to eliminate the transfer and storage of
documents relating to claims. PMI, through its automatic default reporting
process ("ADR"), allows paperless reporting of default information by the
insured.
In 1985, the Company adopted substantially more conservative underwriting
standards that, along with increased prices and generally improving economic
conditions in various regions, are believed by the Company to have contributed
to the substantially lower cumulative loss payment ratios in 1985 and subsequent
years. While the cumulative loss payment ratios of policy years 1985 through
1998 will increase over time, the cumulative loss payment ratios for each such
year at December 31, 1994 is lower than the cumulative loss payment ratios for
each of the years 1980 through 1984 at the same number of years after original
policy issuance.
The following table sets forth cumulative losses paid by PMI at the end of each
successive year after the year of original policy issuance ("policy year"),
expressed as a percentage of the cumulative premiums written on such policies.
This table further shows that, measured by cumulative losses paid relative to
cumulative premiums written ("cumulative loss payment ratios"), the performance
of policies originally issued in the years 1980 through 1984 was adverse, with
cumulative loss payment ratios for those years ranging from 115.5% to 260.3% at
the end of 1994. Such adverse experience was significantly impacted by
deteriorating economic and real estate market conditions in the "Oil Patch"
states.
21
<PAGE>
<TABLE>
<CAPTION>
Years Percentage of Cumulative
Since Losses Paid to Cumulative Premiums Written
Policy
Issue Policy Issue Year
---------------------------------------------------------------------------
1980 1981 1982 1983 1984 1985 1986 1987 1988 1989
---------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
(in percents)
1 0.4 0.3 0.8 0.3 0.2 - 0.1 - - -
2 9.2 18.7 30.3 11.8 8.0 4.4 1.5 0.4 0.1 0.3
3 27.0 68.5 86.5 37.0 41.2 18.8 5.2 2.0 2.0 3.6
4 48.6 106.0 132.9 80.3 82.2 35.4 8.8 5.1 6.1 10.9
5 64.8 134.1 177.6 128.5 113.4 47.7 12.2 9.7 11.7 22.0
6 74.5 160.0 230.0 165.0 126.2 56.7 15.7 13.1 18.6 32.4
7 85.6 184.0 251.1 176.7 133.5 60.9 18.6 17.6 23.1 40.3
8 98.3 196.9 265.4 183.8 138.5 63.1 21.4 20.7 26.2 45.6
9 107.7 203.3 265.7 187.0 141.2 65.1 24.1 23.0 29.1 49.9
10 111.3 205.3 264.3 189.0 141.9 65.3 25.8 25.1 31.9 51.6
11 112.9 207.0 263.7 190.7 142.9 65.9 27.4 26.7 33.6
12 114.2 208.8 264.5 191.3 142.5 65.8 28.5 27.8
13 114.7 209.0 263.2 191.1 142.1 65.8 28.9
14 115.1 209.8 262.1 190.6 141.8 65.9
15 115.2 209.6 261.5 190.2 141.5
16 115.4 209.3 260.8 189.8
17 115.5 208.9 260.3
18 115.6 208.6
19 115.5
</TABLE>
<TABLE>
<CAPTION>
--------------------------------------------------------------------
1990 1991 1992 1993 1994 1995 1996 1997 1998
--------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
(in percents)
1 - - - - - 0.1 - 0.1 -
2 0.7 0.8 1.2 1.0 1.0 2.8 3.5 2.3
3 7.2 6.7 6.9 5.5 6.5 11.4 8.5
4 17.9 16.8 16.3 13.4 14.6 15.5
5 31.7 28.8 28.3 19.2 18.1
6 41.7 39.8 37.1 21.2
7 50.4 48.3 40.3
8 56.6 51.4
</TABLE>
The table also demonstrates the general improvement in PMI's cumulative loss
payment ratios since policy year 1982. This reflects both improved claims
experience for the more recent years and the higher premium rates charged by PMI
beginning in 1984. Policy years 1986 through 1988 generally have had the best
cumulative loss payment ratios of any years since 1980. Policy years 1989
through 1992 display somewhat higher loss payment ratios than 1986 through 1988
at the same age of development. This is due primarily to the increased
refinancings of mortgages originated in policy years 1989 to 1992, resulting in
reduced aggregate premiums, and to higher default rates on California loans,
which have demonstrated relatively higher persistency.
Claim activity is not spread evenly throughout the coverage period of a primary
book of business. Based on the Company's experience, the majority of claims
occur in the third through sixth years after loan origination, and relatively
few claims are paid during the first two years after loan origination.
22
<PAGE>
Loss Reserves
A significant period of time may elapse between the occurrence of the borrower's
default on mortgage payments (the event triggering a potential future claims
payment), the reporting of such default to PMI and the eventual payment of the
claim related to such uncured default. To recognize the liability for unpaid
losses related to the default inventory, PMI (similar to other mortgage
insurers) establishes loss reserves in respect of defaults included in such
inventory, based upon the estimated claim rate and estimated average claim
amount. Included in loss reserves are loss adjustment expense ("LAE") reserves
and incurred, but not reported, reserves. These reserves are estimates and there
can be no assurance that PMI's reserves will prove to be adequate to cover
ultimate loss developments on reported defaults. (See RF12). Consistent with
industry accounting practices, PMI does not establish loss reserves in respect
of estimated potential defaults that may occur in the future.
PMI's reserving process for primary insurance segments default notifications by
year of receipt of the notice by PMI (the "report year method"). In the report
year method, ultimate claim rates and average claim amounts selected for the
current and each of the four prior report years are estimated based on past
experience and management judgment. Claim rates and amounts are also estimated
by region for the most recent report years to validate nationwide report year
estimates, which are then used in the normal reserving methodology. For each
report year, the claim rate, estimated average claim amount and the number of
reported defaults are multiplied together to determine the amount of direct
incurred losses for that report year. Losses paid to date for that report year
are subtracted from the estimated report year incurred losses to obtain the loss
reserve for that report year. The sum of the reserves for those five years,
together with a reserve for expected losses on the few defaults still pending
from prior years, yields the total loss reserve on reported defaults. PMI
reviews its claim rate and claim amount assumptions on at least a quarterly
basis and adjusts its loss reserves accordingly. The impact of inflation is not
explicitly isolated from other factors influencing the reserve estimates,
although inflation is implicitly included in the estimates. PMI does not
discount its loss reserves for financial reporting purposes.
PMI's reserving process is based upon the assumption that past experience,
adjusted for the anticipated effect of current economic conditions and projected
future economic trends, provides a reasonable basis for estimating future
events. However, estimation of loss reserves is a difficult process, especially
in light of the rapidly changing economic conditions over the past few years in
certain regions of the United States. In addition, economic conditions that have
affected the development of the loss reserves in the past may not necessarily
affect development patterns in the future. Pool business loss reserving, is
subject to the same assumptions and economic uncertainties as primary insurance,
and generally involves the following process. PMI divides all currently pending
Pool insurance delinquencies into six categories of delinquency, which connote
progressively more serious stages of default (e.g., delinquent less than four
months, delinquent more than four months, in foreclosure but no sale date set,
etc.). A claim rate is selected for each category based on past experience and
management judgement. Expected claim sizes, stated as a percentage of the
outstanding loan balance on the delinquent loan, are similarly selected. The
loss reserve is then generally calculated as the sum over all delinquent loans
of the product of the outstanding loan balance, the claim rate and the expected
claim size percentage.
PMI's Actuarial Services department performs the loss reserve analysis. On the
basis of such loss reserve analysis, management believes that the loss reserves
are, in the aggregate, computed in accordance with commonly accepted loss
reserving standards and principles and meet the requirements of the insurance
laws and regulations to which it is subject. Management believes that the loss
reserves are a reasonable provision for all unpaid loss and LAE obligations
under the terms of its policies and agreements. See RF12.
Such reserves are necessarily based on estimates and the ultimate net cost may
vary from such estimates. These estimates are regularly reviewed and updated
using the most current information available. Any resulting adjustments are
reflected in current financial statements. The following table is a
reconciliation of the beginning and ending reserve for losses and loss
adjustment expenses for each of the last three years:
23
<PAGE>
<TABLE>
<CAPTION>
1998 1997 1996
-------------- -------------- --------------
<S> <C> <C> <C>
($ in thousands)
Balance, January 1 $ 202,387 $ 199,774 $ 192,087
Less reinsurance recoverable 6,067 5,287 17,899
-------------- -------------- --------------
Net balance, January 1 196,320 194,487 174,188
-------------- -------------- --------------
Losses and loss adjustment expenses
(principally in respect of defaults occurring in)
Current year 146,884 158,147 161,740
Prior years (11,168) (5,890) (9,331)
-------------- -------------- --------------
Total losses and loss adjustment expenses 135,716 152,257 152,409
-------------- -------------- --------------
Losses and loss adjustment expense payments
(principally in respect of defaults occurring in)
Current year 12,503 27,700 23,353
Prior years 111,056 122,724 108,757
-------------- -------------- --------------
Total payments 123,559 150,424 132,110
-------------- -------------- --------------
Net balance, December 31 208,477 196,320 194,487
Plus reinsurance recoverable 6,782 6,067 5,287
-------------- -------------- --------------
Balance, December 31 $ 215,259 $ 202,387 $ 199,774
============== ============== ==============
</TABLE>
As a result of changes in estimates of ultimate losses resulting from insured
events in prior years, the provision for losses and loss adjustment expenses
(net of reinsurance recoverables) decreased by $11.2 million, $5.9 million, and
$9.3 million in 1998, 1997 and 1996, respectively, due primarily to lower-than-
anticipated losses in California. Such estimates were based on management's
analysis of various economic trends (including the real estate market and
unemployment rates) and their effect on recent claim rate and claim severity
experience.
K. Reinsurance
The use of reinsurance as a source of capital and as a risk management tool is
well established within the mortgage insurance industry. In addition, certain
mortgage insurers, including PMI, have agreed to reinsure portions of the risk
written on loans originated by certain lenders with captive reinsurance
companies affiliated with such lenders. Reinsurance does not discharge PMI, as
the primary insurer, from liability to a policyholder. The reinsurer simply
agrees to indemnify PMI for the reinsurer's share of losses incurred under a
reinsurance agreement, unlike an assumption arrangement, where the assuming
reinsurer's liability to the policyholder is substituted for that of PMI's.
Forestview
In December 1993, PMI entered into a Reinsurance Treaty with Forestview Mortgage
Insurance Company ("Forestview") whereby Forestview agreed to reinsure all
liabilities (net of amounts collected from third party reinsurers and
indemnitors) in connection with PMI's mortgage pool insurance business in
exchange for premiums received. In 1994, Forestview also agreed that as soon as
practicable after November 1, 1994, Forestview and PMI would seek regulatory
approval for the Reinsurance Treaty to be deemed to be an assumption agreement
and that, upon receipt of the requisite approvals, Forestview would assume such
liabilities. Forestview's claims-paying ability is currently rated "AA" by
Fitch IBCA. Forestview's previous claims-paying ability rating of "AA"
(Excellent) was withdrawn by Standard and Poor's Rating Services ("S&P") in
1997. These ratings are subject to revisions or withdrawal at any time by the
assigning rating organization. Management is uncertain at this time what impact
the withdrawal of the claims-paying ability rating will have on the parties'
ability to timely consummate the assumption transaction. Pursuant to this
agreement, PMI ceded $9.0 million of pool premiums to
24
<PAGE>
Forestview and Forestview reimbursed PMI for pool claims on the covered policies
in the amount of $26.8 million in 1998. The failure of Forestview to meet its
contractual commitments would materially and adversely affect the Company's
financial condition and results of operations. See RF14.
Capital Mortgage
In March 1994, PMI entered into a quota share reinsurance agreement with Capital
Mortgage Reinsurance Company ("Capital Mortgage") (claims-paying ability
rating of "AA+" at December 31, 1998 from S&P) whereby PMI ceded to Capital
Mortgage 5% of PMI's liability under its primary insurance policies written in
1993 through 1997 (and 5% of the related premiums). This agreement, which was
canceled effective December 31, 1997, provides for a ceding commission to be
paid by Capital Mortgage to PMI relating to premiums ceded. Capital Mortgage
remains liable on a runoff basis for nine years (subject to either party's right
to commute the agreement at six years) and receives renewal premiums on the
ceded portion of the primary insurance in force at the time of cancellation of
the agreement. See Part II, Item 8, Financial Statements Note 6--"Reinsurance."
Reinsurance Subsidiaries; RGC, RIC, PMG and TIC
Certain states limit the amount of risk a mortgage insurer may retain to 25% of
the indebtedness to the insured and, as a result, the deep coverage portion of
such insurance over 25% must be reinsured. To minimize reliance on third party
reinsurers and to permit PMI and CMG to retain the premiums (and related risk)
on deep coverage business, TPG formed several wholly-owned subsidiaries RGC,
RIC, PMG and TIC to provide reinsurance of such deep coverage to PMI and CMG.
PMI and CMG use reinsurance provided by its reinsurance subsidiaries solely for
purposes of compliance with statutory coverage limits. While TPG's reinsurance
subsidiaries generally have the ability to write direct mortgage insurance and
to provide reinsurance to unaffiliated mortgage insurers, TPG currently intends
to have its reinsurance subsidiaries write reinsurance solely for PMI and CMG.
See RF2 and RF8
During 1997 PMI began issuing pool insurance to select companies. In connection
with the pool policies issued, PMI may only retain 25% of the risk covered by
such policies. PMI intends to reinsure the remaining risk though its affiliates,
including RGC, PMG and other subsidiaries being formed. See "B. Products",
above; "O. Regulation" and RF2, RF7, and RF8
L. Claims-Paying Ability Ratings
PMI's claims-paying ability is currently rated "AA+" (Excellent) by Standard &
Poor's Rating Services ("S&P"), "AA+" (Very Strong) by Fitch Investors
Service, Inc. ("Fitch"), "AA+" (Very High) by Duff & Phelps Credit Rating
Co. ("Duff & Phelps") and "Aa2" (Excellent) by Moody's Investors Service,
Inc. ("Moody's"). PMI's claims-paying ability ratings from certain national
rating agencies have been based in significant part on various capital support
commitments from Allstate ("Allstate Support Agreements"). On October 28,
1994, TPG entered into a runoff support agreement with Allstate (the "Runoff
Support Agreement") to replace various capital support commitments that
Allstate had previously provided to PMI. Allstate agreed to pay claims on
certain insurance policies issued by PMI prior to October 28, 1994 if PMI's
financial condition deteriorates below specified levels, or if a third party
brings a claim thereunder or, in the alternative, Allstate may make
contributions directly to PMI or TPG. In the event that Allstate makes payments
or contributions under the Runoff Support Agreement, (which possibility
management believes is remote), Allstate would receive subordinated debt or
preferred stock of PMI or TPG in return.
Fannie Mae and Freddie Mac impose requirements on private mortgage insurers for
such insurers to be eligible to insure loans sold to such agencies. In order to
be Fannie Mae and Freddie Mac eligible, PMI must maintain an AA rating with any
public national rating agency. See RF3 and RF5
25
<PAGE>
M. Investment Portfolio
Cash flow from the Company's investment portfolio represented approximately
48.0% of its total cash flow from operations during 1998. PMI's investment
policy is to attain consistent, competitive after tax total returns. A strong
emphasis is placed on providing a predictable, high level of income, while
maintaining adequate levels of liquidity, safety and preservation of capital;
growth is a secondary consideration. Fixed income investment duration is
restricted to the estimated range of liability and surplus duration plus or
minus 25%. In addition to satisfying state regulatory limits, minimum average
fixed income credit quality of "A" rating must be maintained and no single
credit risk may exceed 5% of total investments. At December 31, 1998, based on
market value, approximately 96.6% of the Company's total investment portfolio
was invested in securities rated "A" or better, with 61.1% rated "AAA" and
25.3% rated "AA," in each case by at least one nationally recognized securities
rating organization.
The Company's investment policies and strategies are subject to change depending
upon regulatory, economic and market conditions and the existing or anticipated
financial condition and operating requirements, including the tax position of
the Company. During 1998, approximately 96% of the Company's investment
portfolio was managed internally.
At December 31, 1998, the consolidated market value of the Company's investment
portfolio was approximately $1.5 billion. At December 31, 1998, municipal
securities represented 77.9% of the market value of the total investment
portfolio. Securities due in less than one year, within one to five years, after
ten years, and other represented 0.5%, 4.8%, 11.6%, 78.8% and 4.3%,
respectively, of such total market value. The Company's net pre-tax investment
income (excluding capital gains) was $84.7 million for the year ended December
31, 1998, which represented a pre-tax yield of 6.06% for the year, a decline
from 6.14% for 1997. This decrease was the result of a decline in the average
interest rate on investments in 1998 as compared to 1997. Net realized capital
gains on the investment portfolio were $24.6 million and $19.6 million for 1998
and 1997, respectively. See Part II, Item 8, Financial Statements Note 3--
"Investments."
N. Other Businesses
TPG seeks to supplement its core mortgage insurance business and enhance its
customer relationships through ancillary businesses and may, from time to time,
invest in joint ventures or acquire related businesses in whole or in part or
diversify into other lines of business utilizing the Company's credit
enhancement and/or mortgage default analysis skills. TPG, through certain
subsidiaries, provides title insurance and various services and products for the
home mortgage finance industry, such as contract underwriting and the licensing
of its proprietary underwriting and real estate valuation systems.
Total revenues recognized for the year ended December 31, 1998 from TPG's
businesses other than PMI constituted approximately 17.4% of the Company's
consolidated revenues, compared with approximately 13.8% and 12.7%,
respectively, in 1997 and 1996.
Ram Re
During the first quarter of 1998, TPG became a principal investor in RAM
Reinsurance Company Ltd. ("RAM Re), the first AAA rated financial guaranty
reinsurance company based in Bermuda. This strategic investment was consummated,
in part, because of the perceived industry need for additional sources of highly
rated financial guaranty capacity and because of the desire to diversify into
similar business industries. Ram Re commenced business in 1998. Three executives
of the Company serve as directors of Ram Re.
American Pioneer Title Insurance Co.
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The Company acquired APTIC, a Florida-based title insurance company, in 1992 as
part of its strategy to provide additional mortgage-related services to its
customers. APTIC is licensed in 39 states and the District of Columbia. Although
APTIC is currently writing business in 30 states, it primarily provides real
estate title insurance on residential property in Florida. A title insurance
policy protects the insured party against losses resulting from title defects,
liens and encumbrances existing as of the effective date of the policy and not
specifically excepted from the policy's coverage.
Based on direct premiums written during 1998, APTIC is ranked fifth among the 28
active title insurers conducting business in the State of Florida. For the year
ended December 31, 1998, 77.3% of APTIC's premiums earned came from its Florida
operations.
APTIC generates title insurance business through both direct and indirect
marketing to realtors, attorneys and lenders. As a direct marketer, APTIC
operates, under the name Chelsea Title Company, a branch network of title
production facilities and real estate closing offices. As an indirect marketer,
APTIC recruits and works with corporate title agencies, attorney agencies and
approved attorneys. Its agency business accounted for 93.8% and 94.1% of APTIC's
premiums earned for the years ended December 31, 1998 and 1997, respectively.
CMG Mortgage Insurance Company
CMG offers mortgage guaranty insurance for loans originated by credit unions.
CMG is operated as a joint venture between PMI and CUNA Mutual Investment
Corporation ("CMIC"), with PMI having a 45% ownership interest from September
1994 to September 1998. Beginning October 1998 PMI's ownership increased to 50%.
PMI and CMIC provide services to the venture, with CMIC providing primarily
sales and marketing services and PMI providing primarily insurance operation
services. CMIC is a part of the CUNA Mutual Group, which provides insurance and
selected financial services to credit unions and their members in the United
States and over 50 other countries.
As of December 31, 1998, CMG was licensed and operational in 49 states and the
District of Columbia. CMG is approved as a mortgage insurer by both Fannie Mae
and Freddie Mac, as well as by other purchasers of credit union originated
mortgage loans. Since inception, CMG has issued approximately 1,300 master
policies to credit union and credit union affiliated organizations nationwide.
At December 31, 1998 CMG had $4.2 billion of primary insurance in force.
Under the terms of the joint venture arrangement, at the end of fifteen years or
earlier under certain limited conditions, CMIC has the right to require PMI to
sell, and PMI has the right to require CMIC to purchase, PMI's interest in CMG
for an amount equal to the then current fair market value. For this purpose,
fair market value will be determined by agreement between PMI and CMIC, or
failing such agreement, through appraisal by nationally recognized investment
banking firms.
PMI Mortgage Services Co.
MSC, established in 1993, provides a variety of technical products and mortgage
underwriting services through a staff of underwriters in 34 field offices. The
Customer Technology Division of MSC provides technical products and services to
PMI's customers. This department licenses use of pmiAURA/SM/ and pmiTERRA/SM/ to
customers for a fee, assists PMI's customers in establishing EDI links with PMI,
and provides other value added services.
The Risk Management Division of MSC provides contract underwriting services that
enable customers to improve the efficiency and quality of their operations by
outsourcing all or part of their mortgage loan underwriting to MSC. Such
contract underwriting services are provided for mortgage loans for which PMI
provides mortgage insurance and for loans on which PMI does not. MSC also
performs all of the mortgage insurance underwriting activities of CMG. Contract
underwriting services have become increasingly important to mortgage lenders as
they seek to reduce costs. Competition increased in 1998 among mortgage
insurance companies for contract underwriting
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customers. Contract underwriting on-site is generally more expensive for the
Company than underwriting a loan in-house and is becoming an increasingly
popular method among mortgage lenders for processing loan applications.
Contract underwriting processed loans represented 35.0% of PMI's NIW for the
year ended December 31, 1998 compared to 21.6% for the year ended December 31,
1997. Management anticipates that contract underwriting will continue to
generate a significant percentage of PMI's NIW and that customer demand for
contract underwriting services will increase. Management also believes the
number of contract underwriters deployed by the Company will decrease as
mortgage origination volumes decline. See RF7.
O. Regulation
State Regulation, Federal Legislation, and Fannie Mae and Freddie Mac
State Regulation.
General. The Company's insurance subsidiaries are subject to comprehensive,
detailed regulation for the protection of policyholders, rather than for the
benefit of investors, by the insurance departments of the various states in
which they are licensed to transact business. Although their scope varies, state
insurance laws in general grant broad powers to supervisory agencies or
officials to examine companies and to enforce rules or exercise discretion
touching almost every significant aspect of the insurance business. These
include the licensing of companies to transact business and varying degrees of
control over claims handling practices, reinsurance arrangements, premium rates,
the forms and policies offered to customers, financial statements, periodic
financial reporting, permissible investments (see "Investment Portfolio" above)
and adherence to financial standards relating to statutory surplus, dividends
and other criteria of solvency intended to assure the satisfaction of
obligations to policyholders.
Mortgage insurers are generally restricted by state insurance laws and
regulations to writing residential mortgage insurance business only. This
restriction prohibits PMI, RGC, PMG, RIC and CMG from directly writing other
types of insurance. However, the noninsurance subsidiaries of TPG are not
generally subject to regulation under state insurance laws except with respect
to transactions with their insurance affiliates.
The Company's title insurance subsidiary, APTIC, is subject to comprehensive
regulation in the states in which it is licensed to transact business. Among
other things, such regulation requires APTIC to adhere to certain financial
standards relating to statutory reserves and other criteria of solvency.
Generally, title insurers are restricted to writing only title insurance, and
may not transact any other kind of insurance. This restriction prohibits APTIC
from using its capital and resources in support of other types of insurance
businesses.
Insurance Holding Company Regulation. All states have enacted legislation that
requires each insurance company in a holding company system to register with the
insurance regulatory authority of its state of domicile and to furnish to such
regulator financial and other information concerning the operations of companies
within the holding company system that may materially affect the operations,
management or financial condition of the insurers within the system. Most states
also regulate transactions between insurance companies and their parents and
affiliates. Generally, such regulations require that all transactions within a
holding company system between an insurer and its affiliates be fair and
reasonable and that the insurer's statutory policyholders' surplus following any
transaction with an affiliate be both reasonable in relation to its outstanding
liabilities and adequate for its needs. In addition, Arizona law requires that
the Arizona Director of Insurance be given 30-days prior notice of certain types
of agreements between an insurance company and an affiliate.
Because TPG is an insurance holding company and PMI, PMG, RGC and RIC are
Arizona insurance companies, the Arizona insurance laws regulate, among other
things, certain transactions in the Company's Common Stock and certain
transactions between PMI and PMG, RGC and RIC and their parent or affiliates.
Specifically, no person may, directly or indirectly, offer to acquire or acquire
beneficial ownership of more than 10% of any class of outstanding securities of
TPG, PMI or PMG, RGC and RIC unless such person files a statement and other
documents with the Arizona Director of Insurance and obtains the Director's
prior approval after a public hearing is
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held on the matter. In addition, material transactions between PMI and PMG, RGC
and RIC and their parent or affiliates are subject to certain conditions,
including that they be "fair and reasonable." These restrictions generally apply
to all persons controlling or under common control with PMI or PMG, RGC and RIC.
"Control" is presumed to exist if 10% or more of PMI's or PMG's, RGC's and RIC s
voting securities is owned or controlled, directly or indirectly, by a person,
although the Arizona Director of Insurance may find that "control" in fact does
or does not exist where a person owns or controls either a lesser or greater
amount of securities. In addition, since APTIC is domiciled in the State of
Florida, TPG is also regulated as an insurance holding company under Florida
law. The applicable requirements of Florida law are similar to the provisions of
the Arizona insurance laws regulating insurance holding companies, with the
exception that in Florida, regulatory approval must be obtained prior to the
acquisition, directly or indirectly, of 5% or more of the voting securities of
APTIC or TPG. Because CMG is domiciled in Wisconsin, TPG is also regulated as an
insurance holding company under Wisconsin law. The applicable requirements of
Wisconsin law are similar to those of Arizona law regulating insurance holding
companies, except that the hearing to approve a change in control is optional in
Wisconsin. For purposes of Arizona, Florida and Wisconsin law, "control" means
the power to direct or cause the direction of the management of an insurer,
whether through the ownership of voting securities, by contract other than a
commercial contract for goods or nonmanagement services, or otherwise, unless
the power is the result of an official position with or corporate office held by
the person.
Reserves. PMI is required under the insurance laws of Arizona and certain other
states to establish a special contingency reserve with annual additions of
amounts equal to 50% of premiums earned. The insurance laws of the various
states, including Florida, impose additional reserve requirements applicable to
title insurers such as APTIC. For instance, title insurers must maintain, in
addition to reserves for outstanding losses, an unearned premium reserve
computed according to statute and are subject to limitations with respect to the
level of risk they can assume on any one contract. At December 31, 1998, PMI had
statutory policyholders' surplus of $165.4 million and statutory contingency
reserve of $1,028.4 million. See Part II, Item 8, Financial Statements Note 14--
"Statutory Accounting."
Dividends. PMI's ability to pay dividends is limited under the insurance laws
of Arizona. Such laws provide that: (i) PMI may pay dividends out of available
surplus and (ii) without prior approval of the Arizona Insurance Directory, such
dividends during any 12-month period may not exceed the lesser of 10% of
policyholders' surplus as of the preceding year end, or the last calendar year's
investment income. In accordance with Arizona law, PMI is permitted to pay
ordinary dividends to TPG of $16.5 million in 1999 without prior approval of the
Arizona Insurance Director. See Part II, Item 8, Financial Statements Note 13--
"Dividends and Shareholders Equity."
The laws of Florida limit the payment of dividends by APTIC to PMI in any one
year to 10% of available and accumulated surplus derived from realized net
operating profits and net realized capital gains. As a result, APTIC may be
limited in its ability to pay dividends to PMI. CMG's ability to pay dividends
to PMI is subject to the laws of Wisconsin.
In addition to the dividend restrictions described above, insurance regulatory
authorities have broad discretion to limit the payment of dividends by insurance
companies. For example, if insurance regulators determine that payment of a
dividend or any other payments to an affiliate (such as payments under a tax
sharing agreement, payments for employee or other services, or payments pursuant
to a surplus note) would, because of the financial condition of the paying
insurance company or otherwise, be hazardous to such insurance company's
policyholders or creditors, the regulators may block payments that would
otherwise be permitted without prior approval.
Premium Rates and Policy Forms. PMI's premium rates and policy forms are
subject to regulation in every state in which it is licensed to transact
business in order to protect policyholders against the adverse effects of
excessive, inadequate or unfairly discriminatory rates and to encourage
competition in the insurance marketplace. In all states, premium rates and, in
most states, policy forms must be filed prior to their use. In some states, such
rates and forms must also be approved prior to use. Changes in premium rates are
subject to being justified, generally on the basis of the insurer's loss
experience, expenses and future trend analysis. The general default experience
in the mortgage insurance industry may also be considered.
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Reinsurance. Regulation of reinsurance varies by state. Except for Arizona,
Illinois, Wisconsin, New York and California, most states have no special
restrictions on mortgage guaranty reinsurance other than standard reinsurance
requirements applicable to property and casualty insurance companies. Certain
restrictions apply under Arizona law to domestic companies and under the laws of
several other states to any licensed company ceding business to unlicensed
reinsurers. Under such laws, if a reinsurer is not admitted or approved in such
states, the company ceding business to the reinsurer cannot take credit in its
statutory financial statements for the risk ceded to such reinsurer absent
compliance with certain reinsurance security requirements. Arizona prohibits
reinsurance unless the reinsurance arrangements meets certain requirements, even
if no statutory financial statement credit is to be taken. In addition, Arizona,
Wisconsin and several other states limit the amount of risk a mortgage insurer
may retain with respect to coverage of an insured loan to 25% of the insured's
claim amount. Coverage in excess of 25% (i.e., deep coverage) must be reinsured.
See "K. Reinsurance" above.
Examination. PMI, APTIC, PMG, RGC and RIC and CMG are subject to examination of
their affairs by the insurance departments of each of the states in which they
are licensed to transact business. The Arizona Director of Insurance
periodically conducts a financial examination of insurance companies domiciled
in Arizona. In lieu of examining a foreign insurer, the Commissioner may accept
an examination report by a state that has been accredited by the NAIC.
Federal Regulation.
Private mortgage insurers are indirectly, but significantly, impacted by
regulations affecting purchasers of mortgage loans, such as Freddie Mac and
Fannie Mae, and regulations affecting governmental insurers, such as the FHA and
VA, and mortgage lenders. As a result, changes in federal housing legislation
and other laws and regulations that affect the demand for private mortgage
insurance may have a material effect on private mortgage insurers, including
PMI. Legislation that increases the number of persons eligible for FHA or VA
mortgages could have an adverse affect on the Company's ability to compete with
the FHA or VA.
The Home Owners Protection Act of 1998 (the "Act"), which is effective on July
29, 1999, provides for the automatic termination, or cancellation upon a
borrower's request, of private mortgage insurance upon satisfaction of certain
conditions. The Act applies to owner-occupied residential mortgage loans
regardless of lien priority, with borrower-paid mortgage insurance, closed after
the effective date of the Act. FHA loans are not covered by the Act. Under the
Act, automatic termination of mortgage insurance would generally occur once the
loan-to-value ratio ("LTV") reaches 78%. A borrower may generally request
cancellation of mortgage insurance once the LTV reaches 80% of the home's
original value, or when actual payments reduce the loan balance to 80% of the
home's original value, whichever occurs earlier. For borrower initiated
cancellation of mortgage insurance, the borrower must have a good payment
history. Good payment history generally requires that there have been no
payments during the 12-month period preceding the loan's cancellation date 30
days or more past due, or 60 days or more past due during the 12-month period
beginning 24 months before the loan's cancellation date. Loans which are deemed
"high risk" by the GSEs, require automatic termination of mortgage insurance
coverage once the LTV is first scheduled to reach 77% of the original value of
the property without regard to the actual outstanding balance. The Act preempts
all but more protective, preexisting state laws. Protected state laws are
preempted if inconsistent with the Act. Protected state laws are consistent
with the Act if they require: (i) termination of mortgage insurance at an
earlier date or higher mortgage principal balance than required by the Act, or
(ii) disclosure of more, earlier, or more frequent information. States which
enacted mortgage insurance cancellation laws on or before January 2, 1998, have
until July 29, 2000 to make their statutes consistent with the Act. States that
currently have mortgage insurance cancellation or notification laws include:
California, Connecticut, Illinois, Maryland, Minnesota, Missouri, New York,
Texas and Washington. (See RF10)
RESPA. The Real Estate Settlement and Procedures Act of 1974 ("RESPA") applies
to most residential mortgages insured by PMI, and related regulations provide
that mortgage insurance is a "settlement service" for purposes of loans subject
to RESPA. Subject to limited exceptions, RESPA prohibits persons from accepting
anything of value for referring real estate settlement services to any provider
of such services. Although many states, including
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Arizona, prohibit mortgage insurers from giving rebates, RESPA has been
interpreted to cover many non-fee services as well. The recently renewed
interest of HUD in pursuing violations of RESPA has increased awareness of both
mortgage insurers and their customers of the possible sanctions of this law.
HMDA. Most originators of mortgage loans are required to collect and report
data relating to a mortgage loan applicant's race, nationality, gender, marital
status and census tract to HUD or the Federal Reserve under the Home Mortgage
Disclosure Act of 1975 ("HMDA"). The purpose of HMDA is to detect possible
discrimination in home lending and, through disclosure, to discourage such
discrimination. Mortgage insurers are not required pursuant to any law or
regulation to report HMDA data, although under the laws of several states,
mortgage insurers are currently prohibited from discriminating on the basis of
certain classifications. The active mortgage insurers, through their trade
association, MICA, have entered into an agreement with the Federal Financial
Institutions Examinations Council ("MFIEC") to report the same data on loans
submitted for insurance as is required for most mortgage lenders under HMDA.
Mortgage lenders are subject to various laws, including HMDA, the Community
Reinvestment Act and the Fair Housing Act. And Fannie Mae and Freddie Mac are
subject to various laws, including laws relating to government sponsored
enterprises, which may impose obligations or create incentives for increased
lending to low and moderate income persons or in targeted areas.
Fannie Mae and Freddie Mac. TPG and PMI are also significantly, impacted by
laws and regulations affecting originators and purchasers of mortgage loans,
particularly Fannie Mae and Freddie Mac, eligibility requirements imposed by the
GSEs on private mortgage insurers for such insurers to be eligible to insure
loans sold to such agencies and regulations affecting governmental insurers such
as the FHA. Private mortgage insurers, including PMI, are highly dependent upon
federal housing legislation and other laws and regulations which affect the
demand for private mortgage insurance and the housing market generally. See "C
industry Overview - Fannie Mae and Freddie Mac", above and RF3
Fannie Mae and Freddie Mac announced an increase in the maximum single-family
principal balance loan limit eligible for their purchase from $227,150 to
$240,000 effective in 1999. Fannie Mae and Freddie Mac both recently
announced programs where reduced mortgage insurance coverage will be made
available for lenders that deliver loans approved by the GSEs' automated
underwriting services, Desktop Underwriter/TM/ and Loan Prospector/SM/,
respectively. Generally, Fannie Mae's and Freddie Mac's reduced mortgage
insurance coverage options provide for: (i) across-the-board reductions in
required MI coverage on 30-year fixed-rate loans recommended for approval by
GSE's automated underwriting services to the levels in effect in 1994; (ii)
reduction in required MI coverage, for loans with only a 5 percent down payment
(a 95 percent LTV), from 30 percent to 25 percent of the mortgage loan covered
by MI; (iii) reduction in required MI coverage, for loans with a 10 percent down
payment (a 90 percent LTV loan), from 25 percent to 17 percent of the mortgage
loan covered by MI.. In addition, the GSE's announced programs to further reduce
MI coverage upon the payment of an additional fee by the lender. Under this
option, a 95 percent LTV loan will require 18 percent of the mortgage loan have
mortgage insurance coverage. Similarly, a 90 percent LTV loan will require 12
percent of the mortgage loan have mortgage insurance. In order for the home
buyer to have MI at these levels, such loans would require a payment at closing
or a higher note rate. (See RF3).
During October 1998, Freddie Mac sought to amend its charter to allow it to use
any method of default loss protection that is financially equal or superior, on
an individual or pooled basis, to the protection provided by private mortgage
insurance companies. The legislation containing the proposed charter amendment
was subsequently rescinded. Subsequent to the withdrawal of the legislation,
Freddie Mac announced that it would pursue a permanent charter amendment that
would allow Freddie Mac to utilize alternative forms of default loss protection,
such as spread accounts, or otherwise forego the use of private mortgage
insurance on higher loan-to-value mortgages. In addition, Fannie Mae announced
it is interested in pursuing new risk management options and is working with
mortgage insurers and lenders on appropriate risk management and dispersion of
risk, which may include a reduction in the use of mortgage insurance. Fannie Mae
and Freddie Mac also have the discretion to reduce the amount of private
mortgage insurance they require on loans. (See RF3)
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National Association of Insurance Commissioners. The NAIC has developed a
rating system, the Insurance Regulatory Information System ("IRIS"), primarily
intended to assist state insurance departments in overseeing the statutory
financial condition of all insurance companies operating within their respective
states. IRIS consists of 11 key financial ratios, which are intended to indicate
unusual fluctuations in an insurer's statutory financial position and/or
operating results.
P. Employees
At December 31, 1998, TPG, including its subsidiaries had 1,016 full and part-
time employees; 733 persons perform services primarily for PMI not including
contract underwriter's, 13 perform services primarily for MSC, 14 perform
services primarily for CMG and an additional 256 persons are employed by APTIC.
TPG's employees are not unionized and TPG considers its employee relations to be
good. In addition, MSC had 627 contract workers at December 31, 1998.
Q. STATEMENTS AND RISK FACTORS CONCERNING THE COMPANY'S OPERATIONS AND FUTURE
RESULTS
General Conditions (RF1)
Several factors such as economic recessions, declining housing values, higher
unemployment rates, deteriorating borrower credit, rising interest rates,
increases in refinance activity caused by declining interest rates, changes in
legislation affecting the mortgage insurance industry, or combinations of such
factors might affect the mortgage insurance industry and demand for housing in
general and could materially and adversely affect the Company's financial
condition and results of operations. Such economic events could materially and
adversely impact the demand for mortgage insurance, cause claims on policies
issued by PMI to increase, and/or cause a similar adverse increase in PMI's loss
experience.
Other factors that may influence the amount of NIW by PMI include: mortgage
insurance industry volumes of new business; the impact of competitive
underwriting criteria and product offerings and services, including mortgage
pool insurance and contract underwriting services; the ability to recruit and
maintain a sufficient number of qualified underwriters; the effect of risk-
sharing structured transactions; changes in the performance of the financial
markets; PMI's claims-paying ability rating; general economic conditions that
affect the demand for or acceptance of the Company's products; changes in
government housing policy; changes in government regulations or interpretations
regarding the Real Estate Settlement Procedures Act and customer consolidation.
PMI's financial condition and results of operations may materially and adversely
be impacted by changes in legislation which affects the ability of Fannie Mae or
Freddie Mac to offer a substitute for mortgage insurance, including self-
insurance and alternative forms of credit support, or for the FHA or the VA to
increase statutory lending limits or other expansion of eligibility for the FHA
and VA. (See RF2). PMI's financial condition and results of operations may
materially and adversely be impacted by changes in legislation, statutory
charters and regulations governing banks and savings institutions to form
reinsurance subsidiaries or permit the offering of other products which do not
require mortgage insurance. In addition, PMI's financial condition and results
of operations may materially and adversely be impacted by a reduction in the
amount of mortgage insurance coverage required by Fannie Mae and Freddie Mac.
(See RF3)
The costs of Year 2000 remediation, the dates on which the Company estimates
that it will complete such remediation and possible risks associated with the
Year 2000 issue are based upon the Company's current estimates and are subject
to various uncertainties that could cause the actual results to differ
materially from the Company's expectations. Such uncertainties include, among
others, the success of the Company in identifying systems that are not Year 2000
compliant, the nature and amount of programming required to remediate each
affected system, the
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nature and adequacy of testing performed by the Company, the availability of
qualified personnel, consultants and other resources, and the success of the
Year 2000 remediation efforts of others. If the Company's recently completed
remediation of its mission critical mortgage insurance origination and
application processing process is faulty or fails for any reason to be Year 2000
compliant, this circumstance could adversely impact its business operations and
could have a material adverse affect on the Company's financial condition,
liquidity and results of operations. See Management Discussion and Analysis -
Year 2000 Issues.
Market Share and Competition (RF2)
The Company's financial condition and results of operations could be materially
and adversely affected by a decline in its market share, or a decline in market
share of the private mortgage insurance industry as a whole. Numerous factors
bear on the relative position of the private mortgage insurance industry versus
government and quasi-governmental competition as well as the competition of
lending institutions that choose to remain uninsured, self-insure through
affiliates, or offer residential mortgage products that do not require mortgage
insurance. The impact of competitive underwriting criteria and product
offerings, including mortgage pool insurance and contract underwriting, has a
direct impact on the Company's market share. Further, several of the Company's
competitors have greater direct or indirect capital reserves that provide them
with potentially greater flexibility than the Company in addressing competitive
issues.
PMI competes directly with federal and state governmental and quasi-governmental
agencies, principally the FHA and, to a lesser degree, the VA. The Office of
the Comptroller of the Currency has granted permission to certain national banks
to form a reinsurance company as a wholly-owned operating subsidiary for the
purpose of reinsuring mortgage insurance written on loans originated or
purchased by such bank. The Federal Reserve Board is in the process of
considering whether similar activities are permitted for bank holding companies.
The Office of Thrift Supervision has also recently granted permission for
subsidiaries of thrift institutions to reinsure private mortgage insurance
coverage on loans originated or purchased by affiliates of such thrift's parent
organization.. The reinsurance subsidiaries of national banks, savings
institutions, or bank holding companies could become significant competitors of
the Company in the future. Mortgage lenders, other than banks, thrifts or their
affiliates, are forming reinsurance affiliates that are typically regulated
solely by the insurance authority of their state of domicile. Management
believes that such reinsurance affiliates will increase competition in the
mortgage insurance industry and may materially and adversely impact PMI's market
share.
PMI offers various risk-sharing structured transactions, including a captive
reinsurance program as part of its strategic relationships with its customers.
PMI's customers have indicated an increasing demand for such products. PMI's
captive reinsurance program allows a reinsurance company, generally an affiliate
of the lender, to assume mortgage insurance default losses either on a quota
share basis, or at a specified entry point up to a maximum aggregate exposure,
up to an agreed upon amount of total coverage. An increasing percentage of PMI's
NIW is being generated by customers which have captive reinsurance programs, and
it is expected that this will continue and increase. Based on the current
structure, such products have the potential of reducing the Company's business
revenue as more premiums are ceded to customer captives. There can be no
assurance that PMI's risk-sharing structured transactions will continue to be
accepted by its customers. The inability of the Company to provide acceptable
risk-sharing structured transactions to its customers would likely have an
adverse effect on the competitive position of PMI and consequently could
materially and adversely affect the Company's financial condition, liquidity and
results of operations.
Certain lenders originate a first mortgage lien with an 80% LTV ratio, a 10%
second mortgage lien, and 10% of the purchase price from borrower's funds
("80/10/10"). This 80/10/10 product competes with mortgage insurance as an
alternative for lenders selling loans in the secondary mortgage market. The
Federal Deposit Insurance Corporation and other banking regulators recently
approved rules to be effective April 1, 1999 that would require national banks
to hold almost twice as much risk-based capital to cover possible defaults on
the 80/10/10 products when the lender holds the first and second mortgage.
State-chartered banks already are subject to the higher capital requirement. If
the 80/10/10 product becomes a widely accepted alternative to mortgage
insurance, it could have a material and adverse impact on the Company's
financial condition and results of operations.
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Legislation and regulatory changes affecting the FHA have affected demand for
private mortgage insurance. Effective January 1, 1999, the Department of Housing
and Urban Development announced an increase in the maximum individual loan
amount that FHA can insure to $208,800 from $197,620. The maximum individual
loan amount that the VA can insure is $203,150. The Omnibus Spending Bill of
1999, signed into law on October 21, 1998, among other items, streamlined the
FHA downpayment formula by eliminating tiered minimum cash investment
requirements and establishing maximum loan-to-value ratios based on loan size
and closing costs, making FHA insurance more competitive with private mortgage
insurance in areas with higher home prices.
Although management believes that it is too early to ascertain the impact of the
increase in the maximum individual loan amount the FHA can insure, any increase
in the maximum loan amount would likely have an adverse effect on the
competitive position of PMI and, consequently, could materially and adversely
affect the Company's financial condition and results of operations.
Fannie Mae and Freddie Mac (RF3)
The GSEs are permitted by statute to purchase conventional high-LTV mortgages
from lenders who obtain mortgage insurance on those loans. Fannie Mae and
Freddie Mac have some discretion to increase or decrease the amount of private
mortgage insurance coverage they require on loans. Fannie Mae and Freddie Mac
both recently announced programs where reduced mortgage insurance coverage will
be made available for lenders that deliver loans approved by the GSEs' automated
underwriting services, Desktop Underwriter/TM/ and Loan Prospector/SM/,
respectively. Generally, Fannie Mae's and Freddie Mac's reduced mortgage
insurance coverage options provide for: (i) across-the-board reductions in
required MI coverage on 30-year fixed-rate loans recommended for approval by
GSE's automated underwriting services to the levels in effect in 1994; (ii)
reduction in required MI coverage, for loans with only a 5 percent down payment
(a 95 percent LTV), from 30 percent to 25 percent of the mortgage loan covered
by MI; (iii) reduction in required MI coverage, for loans with a 10 percent down
payment (a 90 percent LTV loan), from 25 percent to 17 percent of the mortgage
loan covered by MI.. In addition, the GSE's announced programs to further reduce
MI coverage upon the payment of an additional fee by the lender. Under this
option, a 95 percent LTV loan will require 18 percent of the mortgage loan have
mortgage insurance coverage. Similarly, a 90 percent LTV loan will require 12
percent of the mortgage loan have mortgage insurance. In order for the home
buyer to have MI at these levels, such loans would require a payment at closing
or a higher note rate.
Management believes it is too early to assess impact of the Fannie Mae and
Freddie Mac reduction of required levels of mortgage insurance on the Company's
financial condition and results of operation. If the reduction in required
levels of mortgage insurance were to become widely accepted by mortgage lenders
and their customers, however, such reduction could have a materially adverse
impact on the Company's financial condition and results of operation.
During October 1998, Freddie Mac sought to amend its charter to allow it to use
any method of default loss protection that is financially equal or superior, on
an individual or pooled basis, to the protection provided by private mortgage
insurance companies. The legislation containing the proposed charter amendment
was subsequently rescinded. Currently, Freddie Mac can purchase loans with
downpayments of less than 20%, only if the loans are insured or use other
limited methods to protect against default.
Subsequent to the withdrawal of the legislation, Freddie Mac announced that it
would pursue a permanent charter amendment that would allow Freddie Mac to
utilize alternative forms of default loss protection, such as spread accounts,
or otherwise forego the use of private mortgage insurance on higher loan-to-
value mortgages. In addition, Fannie Mae announced it is interested in pursuing
new risk management options and is working with mortgage insurers and lenders on
appropriate risk management and dispersion of risk, which may include a
reduction in the use of mortgage insurance.
Fannie Mae's and Freddie Mac's current guidelines regarding cancellation of
mortgage insurance generally provide that a borrower's written request to cancel
mortgage insurance should be honored if: (a) the borrower has a
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satisfactory payment record, no payment more than 30 days delinquent in the 12-
month period preceding the request for cancellation; and (b) the unpaid
principal balance of the mortgage is not greater than 80% of the original value
of the property. (See RF4 for a discussion of recent Federal legislation
providing for guidelines for automatic mortgage insurance cancellation)
The GSEs are the predominant purchasers and sellers of conventional mortgage
loans in the United States, providing a direct link between the primary mortgage
origination markets and the capital markets. Because loan originators prefer to
make loans that may be marketed in the secondary market to Fannie Mae and/or
Freddie Mac they are motivated to purchase mortgage insurance from insurers
deemed eligible by the GSEs. Although management believes that it is too early
to ascertain the impact of the increase in the maximum individual loan amount
the GSEs can insure, management believes any increase in the maximum loan amount
would likely increase the number of loans eligible for mortgage insurance and
may have the effect of increasing the size of the mortgage insurance market, and
have a positive effect on the competitive position of PMI and consequently could
materially affect the Company's financial condition and results of operations.
Fannie Mae and Freddie Mac impose requirements on private mortgage insurers for
such insurers to be eligible to insure loans sold to such agencies. Under Fannie
Mae and Freddie Mac regulations, PMI needs to maintain at least an "AA-" or
equivalent claims-paying ability rating in order to provide mortgage insurance
on loans purchased by the GSEs. Failure to maintain such a rating would
effectively cause PMI to be ineligible to provide mortgage insurance. A loss of
PMI's existing eligibility status, either due to a failure to maintain a minimum
claims-paying ability rating from the various rating agencies or non-compliance
with other eligibility requirements, would have a material, adverse effect on
the Company's financial condition and results of operations. (See RF2)
Insurance in Force (RF4)
A significant percentage of PMI's premiums earned is generated from its existing
insurance in force and not from new insurance written. PMI's policies for
insurance coverage typically have a policy duration of six to eight years.
Insurance coverage may be canceled by the policy owner or servicer of the loan
at any time. PMI has no control over the owner's or servicer's decision to
cancel insurance coverage and self-insure or place coverage with another
mortgage insurance company. There can be no assurance that policies for
insurance coverage originated in a particular year or for a particular customer
will not be canceled at a later time or that the Company will be able to regain
such insurance coverage at a later time. As a result, the Company's financial
condition and results of operation could be materially and adversely affected by
greater than anticipated policy cancellations or lower than projected
persistency resulting in declines in insurance in force.
Upon request by an insured, PMI must cancel the mortgage insurance for a
mortgage loan. In addition, The Home Owners Protection Act of 1998 (the "Act"),
which is effective on July 29, 1999, provides for the automatic termination, or
cancellation upon a borrower's request, of private mortgage insurance upon
satisfaction of certain conditions. The Act applies to owner- occupied
residential mortgage loans regardless of lien priority, with borrower-paid
mortgage insurance, closed after the effective date of the Act. FHA loans are
not covered by the Act. Under the Act, automatic termination of mortgage
insurance would generally occur once the loan-to-value ratio ("LTV") reaches
78%. A borrower may generally request cancellation of mortgage insurance once
the LTV reaches 80% of the home's original value, or when actual payments reduce
the loan balance to 80% of the home's original value, whichever occurs earlier.
For borrower initiated cancellation of mortgage insurance, the borrower must
have a good payment history. Good payment history generally requires that there
have been no payments during the 12-month period preceding the loan's
cancellation date 30 days or more past due, or 60 days or more past due during
the 12-month period beginning 24 months before the loan's cancellation date.
Loans which are deemed "high risk" by the GSEs, require automatic termination of
mortgage insurance coverage once the LTV is first scheduled to reach 77% of the
original value of the property without regard to the actual outstanding balance.
The Act preempts all but more protective, preexisting state laws. Protected
state laws are preempted if inconsistent with the Act. Protected state laws are
consistent with the Act if they require: (i) termination of mortgage insurance
at an earlier date or higher mortgage principal balance than required by the
Act, or (ii) disclosure of more, earlier, or more frequent information. States
which enacted mortgage insurance cancellation laws on or before January 2, 1998,
have until July 29, 2000 to make their statutes consistent with the Act. States
that currently have mortgage insurance cancellation or notification laws
include: California, Connecticut, Illinois, Maryland, Minnesota, Missouri, New
York, Texas and Washington. Management is uncertain about the impact of the Act
on PMI's insurance in force, but believes any reduction in premiums attributed
to the Act's required cancellation of mortgage insurance, will not have a
significant impact on the Company's financial condition and results of operation
for the foreseeable future. (See RF10)
During an environment of falling interest rates, an increasing number of
borrowers refinance their mortgage loans. PMI and other mortgage insurance
companies generally experience an increase in the prepayment rate of insurance
in force, resulting from policy cancellations of older books of business with
higher rates of interest. Although PMI
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has a history of expanding business during low interest rate environments, the
resulting increase of NIW may ultimately prove to be inadequate to compensate
for the loss of insurance in force arising from policy cancellations. A decrease
in persistency, resulting from policy cancellations of older books of business
affected by refinancings (which are affected, among other things, by decreases
in interest rates) may materially and adversely impact the level or rate of
growth of insurance in force or risk in force and consequently have similar
impacts on the Company's financial condition and results of operations.
Rating Agencies (RF5)
PMI's claims-paying ability is currently rated "AA+" (Excellent) by Standard and
Poor's Rating Services, "Aa2" (Excellent) by Moody's Investors Service, Inc.,
"AA+" (Very Strong) by Fitch IBCA, and "AA+" (Very High) by Duff & Phelps Credit
Rating Co. These ratings are subject to revisions or withdrawal at any time by
the assigning rating organization. The ratings by the organizations are based
upon factors relevant to PMI's policyholders, principally PMI's capital
resources as computed by the rating agencies, and are not applicable to the
Company's common stock or outstanding debt.
Rating agencies generally assess capital charges on pool insurance policies
based on price and structure. One published methodology for assessing the
capital requirement for pool insurance is based on the real estate depression
which occurred in oil producing states during the mid-1980's. Management
believes the current capital charge that could be levied on pool insurance risk
by one rating agency is approximately $1.00 of capital for each $1.40 of pool
insurance risk. In comparison, primary mortgage insurance regulators
specifically limit the amount of insurance risk that may be written by PMI
according to a number of financial tests, including limiting risk, to a multiple
of 25 times PMI's statutory capital (which includes the contingency reserve).
The rating agencies could change their view as to the capital charges that are
assessed on pool insurance products at any time. (See RF10)
Management believes that a significant reduction in PMI's claims-paying ratings
could have a material, adverse effect on the Company's financial condition and
results of operations. (See RF6)
Liquidity (RF6)
In the mortgage guaranty insurance industry, liquidity refers to the ability of
an enterprise to generate adequate amounts of cash from its normal operations,
including premiums received and investment income, in order to meet its
financial commitments, which are principally obligations under the insurance
policies it has written. Liquidity requirements are significantly influenced by
the level and severity of claims.
TPG's principal sources of funds are dividends from PMI and APTIC, investment
income and funds that may be raised from time to time in the capital markets.
Numerous factors bear on the Company's ability to maintain and meet its capital
and liquidity needs, including the performance of the financial markets,
standards and factors used by various credit rating agencies, financial
covenants in credit agreements, and standards imposed by state insurance
regulators relating to the payment of dividends by insurance companies. Any
significant change in the performance of the financial markets negatively
affecting the Company's ability to secure sources of capital, or changes in the
standards used by credit rating agencies which adversely impact PMI's claims-
paying ability rating, or changes in the insurance laws of Arizona, Florida or
Wisconsin that restrict the ability of PMI, APTIC or CMG to pay dividends at
currently permissible levels, could adversely affect the Company's ability to
maintain capital resources to meet its business needs, and thereby have a
material, adverse affect on the Company's financial condition, liquidity and
results of operations.
Contract Underwriting Services; New Products (RF7)
The Company provides contract underwriting services for a fee that enable
customers to improve the efficiency and quality of their operations by
outsourcing all or part of their mortgage loan underwriting. As a part of its
contract underwriting services, PMI provides remedies which may include the
assumption of some of the costs of repurchasing insured and uninsured loans from
the GSEs and other investors. Generally, the scope of these remedies
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are in addition to those contained in PMI's master primary insurance policies.
Due to the increasing demand of contract underwriting services, the limited
number of underwriting personnel available, and heavy price competition among
mortgage insurance companies, PMI's inability to recruit and maintain a
sufficient number of qualified underwriters, or any significant increase in the
cost PMI incurs to satisfy remedy obligations for underwriting services, could
materially and adversely affect its market share and materially and adversely
affect the Company's financial condition and results of operations.
TPG and PMI, from time to time, introduce new mortgage insurance products or
programs. The Company's financial condition and results of operations could be
materially and adversely affected if PMI or the Company experiences delays in
introducing competitive new products and programs. In addition, for any
introduced product, there can be no assurance that such products, including any
mortgage pool type products, or programs will be as profitable as the Company's
existing products and programs.
New York Department of Insurance (RF8)
In February 1999, the New York Department of Insurance stated in Circular Letter
No. 2, addressed to all private mortgage insurers licensed in New York that
certain pool risk-share and structured products and programs would be considered
to be illegal under New York law. PMI believes that it complies with the
requirements of Circular Letter No. 2 with respect to transactions that are
governed by it. In the event the New York Department of Insurance determined
PMI was not in compliance with Circular Letter No. 2, it could materially and
adversely affect the Company's financial condition and results of operations.
Risk-to-Capital Ratio (RF9)
The State of Arizona, and other regulators specifically limit the amount of
insurance risk that may be written by PMI, by a variety of financial factors.
Other factors affecting PMI's risk-to-capital ratio include: (i) regulatory
review and oversight by the State of Arizona, PMI's state of domicile for
insurance regulatory purposes; (ii) limitations under the Runoff Support
Agreement with Allstate, which prohibit PMI from paying any dividends if, after
the payment of any such dividend, PMI's risk-to-capital ratio would equal or
exceed 23 to 1; (iii) TPG's credit agreements; and (iv) TPG's and PMI's credit
or claims-paying ability ratings which generally require that the rating
agencies' risk-to-capital ratio not exceed 20 to 1.
Significant losses could cause a material reduction in statutory capital,
causing an increase in the risk-to-capital ratio and thereby limit PMI's ability
to write new business. The inability to write new business could materially and
adversely affect the Company's financial condition and results of operations.
Changes in Composition of Insurance Risk Written; Pool Insurance (RF10)
The composition of PMI's NIW has included an increasing percentage of mortgages
with LTVs in excess of 90% and less than or equal to 95% ("95s"). At December
31, 1998, 46.3% of PMI's risk in force consisted of 95s, which, in PMI's
experience, have had a claims frequency approximately twice that of mortgages
with LTVs equal to or less than 90% and over 85% ("90s"). PMI also offers
coverage for mortgages with LTVs in excess of 95% and up to 97% ("97s"). At
December 31, 1998, 3.3% of PMI's risk in force consisted of 97s which have even
higher risk characteristics than 95s and greater uncertainty as to pricing
adequacy. PMI's NIW also includes adjustable rate mortgages ("ARMs"), which,
although priced higher, have risk characteristics that exceed the risk
characteristics associated with PMI's book of business as a whole. Since the
fourth quarter of 1997, PMI has offered a new pool insurance product. Pool
insurance is generally used as an additional credit enhancement for certain
secondary market mortgage transactions and generally covers the loss on a
defaulted mortgage loan that exceeds the claim payment under the primary
coverage, if primary insurance is required on that mortgage loan. Pool insurance
also generally covers the total loss on a defaulted mortgage loan which did not
require primary insurance, in each case up to a stated aggregate loss limit. New
pool risk written was $450 million for the year ended December 31, 1998.
Management is uncertain about the amount of new pool risk which will be written
in 1999, but believes total new 1999 pool risk will be less than in 1998.
Although PMI charges higher premium rates for loans that have higher
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risk characteristics, including ARMs, 95s, 97s and pool insurance products, the
premiums earned on such products, and the associated investment income, may
ultimately prove to be inadequate to compensate for future losses from such
products. Such losses could materially and adversely affect the Company's
financial condition and results of operations. (See RF5)
Potential Increase in Claims (RF11)
Mortgage insurance coverage generally cannot be canceled by PMI and remains
renewable at the option of the insured until required to be canceled under
applicable Federal or state laws for the life of the loan. As a result, the
impact of increased claims from policies originated in a particular year
generally cannot be offset by premium increases on policies in force or
mitigated by nonrenewal of insurance coverage. There can be no assurance,
however, that the premiums charged will be adequate to compensate PMI for the
risks and costs associated with the coverage provided to its customers. (See
RF5)
Loss Reserves (RF12)
PMI establishes loss reserves based upon estimates of the claim rate and average
claim amounts, as well as the estimated costs, including legal and other fees,
of settling claims. Such reserves are based on estimates, which are regularly
reviewed and updated. There can be no assurance that PMI's reserves will prove
to be adequate to cover ultimate loss development on incurred defaults. The
Company's financial condition and results of operations could be materially and
adversely affected if PMI's reserve estimates are insufficient to cover the
actual related claims paid and expenses incurred.
Regional Concentration (RF13)
In addition to nationwide economic conditions, PMI could be particularly
affected by economic downturns in specific regions where a large portion of its
business is concentrated, particularly California, Florida, and Texas, where PMI
has 17.6%, 7.3% and 7.2% of its risk in force concentrated and where the default
rate on all PMI policies in force is 3.15%, 3.08% and 2.18% compared with 2.31%
nationwide as of December 31, 1998.
Continuing Relationships with Allstate and Affiliate (RF14)
In December 1993, PMI entered into a Reinsurance Treaty with Forestview Mortgage
Insurance Company ("Forestview") whereby Forestview agreed to reinsure all
liabilities (net of amounts collected from third party reinsurers and
indemnitors) in connection with PMI's mortgage pool insurance business in
exchange for premiums received. In 1994, Forestview also agreed that as soon as
practicable after November 1, 1994, Forestview and PMI would seek regulatory
approval for the Reinsurance Treaty to be deemed to be an assumption agreement
and that, upon receipt of the requisite approvals, Forestview would assume such
liabilities. Forestview's claims-paying ability is currently rated "AA" by
Fitch IBCA. Forestview's previous claims-paying ability rating of "AA"
(Excellent) was withdrawn by Standard and Poor's Rating Services ("S&P") in
1997. These ratings are subject to revisions or withdrawal at any time by the
assigning rating organization. Management is uncertain at this time what impact
the withdrawal of the claims-paying ability rating will have on the parties'
ability to timely consummate the assumption transaction. Pursuant to this
agreement, PMI ceded $9.0 million of pool premiums to Forestview and Forestview
reimbursed PMI for pool claims on the covered policies in the amount of $26.8
million in 1998. The failure of Forestview to meet its contractual commitments
would materially and adversely affect the Company's financial condition and
results of operations.
On October 28, 1994, TPG entered into a Runoff Support Agreement (the "Runoff
Support Agreement") with Allstate Insurance Company ("Allstate") to replace
various capital support commitments that Allstate had previously provided to
PMI. Allstate agreed to pay claims on certain insurance policies issued by PMI
prior to October 28, 1994, if PMI's financial condition deteriorates below
specified levels, or if a third party brings a claim thereunder. Alternatively,
Allstate may make contributions directly to PMI or TPG. In the event that
Allstate makes payments or contributions under the Runoff Support Agreement
(which possibility management believes is remote),
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Allstate would receive subordinated debt or preferred stock of PMI or TPG in
return. No payment obligation arose under the Runoff Support Agreement.
Item 2. Properties
TPG leases its home office in San Francisco, California, which consists of
approximately 99,928 square feet of office space. The San Francisco lease
expires on December 31, 2004. In addition, TPG leases space for 34 PMI field
offices. Such field office leases cover an average of approximately 4,300 square
feet and have terms of not more than five years. During 1997, PMI established
its Certificate Priority Center, which is located in Dallas, Texas. The CPC
consists of approximately 17,563 square feet of office space.
TPG believes its existing properties are well utilized and are suitable and
adequate for its present circumstances.
Item 3. Legal Proceedings
Various legal actions and regulatory reviews are currently pending that involve
the Company and specific aspects of its conduct of business. In the opinion of
management, the ultimate liability or resolution in one or more of the foregoing
actions is not expected to have a material adverse effect on the financial
condition or results of operations of the Company.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted during the fourth quarter of 1998 to a vote of
stockholders through the solicitation of proxies or otherwise.
EXECUTIVE OFFICERS OF REGISTRANT
Set forth below is certain information regarding TPG's executive officers as of
December 31, 1998, including age as of March 31, 1999, and business experience
for at least the past five years.
W. ROGER HAUGHTON, 51, has been Chairman of the Board of TPG since May 1998 and
has been Chief Executive Officer since January 1995. Mr. Haughton was President
of TPG from January 1995 until September 1998. Mr. Haughton has been Chairman,
Chief Executive Officer and President of PMI Mortgage Insurance Co. ("PMI")
since January 1993. Mr. Haughton joined PMI in 1985 as Vice President of
Underwriting, after 16 years with Allstate Insurance Company ("Allstate"). In
1987, he was promoted to Vice President/General Manager for PMI's Central Zone,
responsible for all sales and field office operations in that region. In 1989,
he became Group Vice President of Insurance Operations, Claims and Actuarial
Services departments. In March 1999, Mr. Haughton concluded his two-year term as
President of the Mortgage Insurance Companies of America ("MICA"), the industry
trade association, a position he has held since March 1997. He also has a long
history of active volunteerism with various affordable housing organizations,
including Habitat for Humanity, and serves on the board of Social Compact. Mr.
Haughton has been a Director since January 1995. He is an Ex Officio member of
the Governance and Nominating Committee
L. STEPHEN SMITH, 49, President and Chief Operating Officer of TPG and PMI since
September 1998. Prior thereto he was Executive Vice President of Marketing and
Field Operations of PMI since May 1994 and was elected to the same positions
with TPG in January 1995. Prior thereto, he was PMI's Senior Vice President of
Field Operations from September 1993 to May 1994, Senior Vice President of
Marketing and Customer Technology from December 1991 to September 1993 and Vice
President/General Manager of PMI's Eastern Zone from September 1985 to December
1991.
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CLAUDE J. SEAMAN, 52, has been Group Executive Vice President Strategic
Investments of TPG and PMI since February 1999. Prior thereto, he was Executive
Vice President of Insurance Operations of PMI since May 1994, and was elected to
the same positions with TPG in January 1995. Prior thereto, he was PMI's Senior
Vice President of Insurance Operations from March 1993 to May 1994, Vice
President of Claims from December 1991 to March 1993 and Vice President of
Underwriting from January 1987 to December 1991.
JOHN M. LORENZEN, Jr., 54, has been Executive Vice President of PMI since May
1994 and Chief Financial Officer of PMI since April 1989, and was elected to the
same positions with TPG in January 1995. Prior thereto, he was PMI's Senior Vice
President from April 1989 to May 1994 and Vice President of Finance from April
1985 to April 1989.
BRADLEY M. SHUSTER, 44, has been Executive Vice President Corporate Development
of TPG and PMI since February 1999. Prior thereto, he was Senior Vice President,
Treasurer and Chief Investment Officer of PMI since August 1995, and was elected
to the same position with TPG, in September 1995. Prior thereto, he was an audit
partner with the accounting firm of Deloitte & Touche LLP from May 1988 to July
1995.
THOMAS C. BROWN, 50, has been Executive Vice President, Field Operations of TPG
and PMI since September 1998. Prior thereto he was Senior Vice President of
National Accounts of TPG and PMI since joining TPG in June 1997. Prior to
joining TPG, he was president and chief executive officer of Centerbank Mortgage
Company, positions he held since 1989.
VICTOR J. BACIGALUPI, 55, has been Senior Vice President, General Counsel and
Secretary of TPG and PMI since November 1996. Prior to joining TPG, he was a
partner in the law firm of Bronson, Bronson & McKinnon LLP, San Francisco,
California since February 1992.
DANIEL L. ROBERTS, 49, has been Senior Vice President, Chief Information Officer
of TPG and PMI since December 1997. Prior to joining TPG, he was vice president
and chief information officer of St. Joseph Health System, a position he held
since he joined the company in October 1994. Prior thereto, he was vice
president, information services and chief information officer for a division of
Catholic Healthcare West, positions he held since joining the company in
December 1990. Mr. Roberts was a consulting partner with the accounting firm of
Deloitte & Touche from July 1985 to December 1990.
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PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
Common Stock
TPG is listed on the New York Stock Exchange and the Pacific Exchange under the
trading symbol PMA. As of December 31, 1998 there were 30,278,601 shares issued
and outstanding. As of February 26, 1999 there were 30,093,055 shares issued
and outstanding held by approximately 38 stockholders of record and
approximately 8,000 beneficial owners of shares held by brokers and fiduciaries.
The following table shows the high, low and closing common stock prices by
quarter from the New York Stock Exchange Composite Listing for the two years
ended December 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
---------------------------------- ------------------------------
High Low Close High Low Close
---------- ----------- ----------- -------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
First quarter 83 7/8 63 3/4 80 3/4 56 7/8 50 50 1/8
Second quarter 85 1/2 68 7/16 73 15/32 63 47 3/4 62 3/8
Third quarter 75 1/4 41 1/2 45 3/4 63 13/16 56 1/2 57 5/16
Fourth quarter 59 7/8 33 49 3/8 74 56 1/2 72 5/16
</TABLE>
Preferred Stock
TPG's Board of Directors is authorized to issue up to 5,000,000 shares of
preferred stock of TPG in classes or series and to fix the designations,
preferences, qualifications, limitations or restrictions of any class or series
with respect to the rate and nature of dividends, the price and terms and
conditions on which shares may be redeemed, the amount payable in the event of
voluntary or involuntary liquidation, the terms and conditions for conversion or
exchange into any other class or series of the stock, voting rights and other
terms. The Company may issue, without the approval of the holders of common
stock, preferred stock which has voting, dividend or liquidation rights superior
to the common stock and which may adversely affect the rights of the holders of
common stock. The Company has reserved for issuance under the Shareholder Rights
Plan described below up to 400,000 shares of preferred stock.
Shareholder Rights Plan
On January 13, 1998, the Company adopted a Preferred Share Purchase Rights Plan
("Rights Plan"). Under the Rights Plan, all shareholders of record as of January
26, 1998 received rights to purchase shares of a new series of preferred stock
on the basis of one right for each common stock held on that date. However,
rights issued under the Rights Plan will not be exercisable initially. The
rights will trade with the Company's common stock and no certificates will be
issued until certain triggering events occur. The Rights Plan has a 10-year term
from the record date, but the Company's Board of Director's will review the
merits of redeeming or continuing the Rights Plan not less than once every three
years. Rights issued under the plan will be exercisable only if a person or
group acquires 10% or more of the Company's common stock or announces a tender
offer for 10% or more of the common stock. If a person or group acquires 10% or
more of the Company's common stock, all rightholders except the buyer will be
entitled to acquire the Company's common stock at a discount and/or under
certain circumstances to purchase shares of the acquiring company at a discount.
The Rights Plan contains an exception that would allow passive institution
investors to acquire up to a 15% ownership interest before the rights would
become exercisable.
Payment of Dividends and Policy
Payment of future dividends is subject to a declaration by TPG's Board of
Directors. The dividend policy is also dependent on the ability of PMI to pay
dividends to TPG, which is subject to, among other factors, regulatory
restrictions by the Arizona Department of Insurance and TPG's credit agreements
and the Runoff Support
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Agreement. (See Part I. "O. Regulation" and Part II, Item 8, Financial
Statement Note 13--"Dividends and Stockholders' Equity".)
During the second quarter of 1995, TPG's Board of Directors declared its first
dividend on common stock of $0.05 per share, and has declared and paid a
quarterly dividend of $0.05 per share through the fourth quarter of 1998.
Item 6. Selected Financial Data
The information required by this Item is incorporated by reference from portions
of The PMI Group, Inc. 1998 Annual Report to Stockholders under the heading
"Five year Summary of Financial Data" filed as part of Exhibit 13.1.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The information required by this Item is incorporated by reference from portions
of The PMI Group, Inc. 1998 Annual Report to Stockholders under the heading
"Management Discussion and Analysis" as part of Exhibit 13.1.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
At December 31, 1998, the average duration of the Company's fixed income
investment portfolio was 5.3 years, and the Company had no derivative financial
instruments in its investment portfolio. The result of a 1% increase in interest
rates would be a 5.3% decrease in the value of the Company's investment
portfolio, while the result of a 1% decrease in interest rates would be a 4.8%
increase in the value of the Company's investment portfolio.
Item 8. Financial Statements and Supplementary Data
The information required by this Item is incorporated by reference from portions
of The PMI Group, Inc. 1998 Annual Report to Stockholders as part of Exhibit
13.1.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
The information concerning TPG's Directors as required by this Item is
incorporated by reference from TPG's 1999 Proxy Statement under the captions
"Nominees For Director of TPG" and "Section 16(a) Beneficial Ownership
Reporting Compliance". Information regarding Executive Officers of TPG is
included in a separate item captioned "Executive Officers of Registrant" in
Part I of this report.
Item 11. Executive Compensation
The information required by this Item is incorporated by reference from TPG's
1999 Proxy Statement under the captions "Directors-Compensation and Benefits,"
"Executive Compensation" and "Compensation Committee Interlocks and Insider
Participants".
Item 12. Security Ownership of Certain Beneficial Owners and Management
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The information required by this Item is incorporated by reference from TPG's
1999 Proxy Statement under the caption "Security Ownership of Certain
Beneficial Owners and Management".
Item 13. Certain Relationships and Related Transactions
Not Applicable.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) 1. Financial Statements: The financial statements listed in the accompanying
Index to Consolidated Financial Statements and Financial Statement Schedules
are filed as part of this Form 10-K.
2. Financial Statement Schedules: The financial statement schedules listed
in the accompanying Index to Consolidated Financial Statements and Financial
Statement Schedules are filed as part of the Form 10-K. All other schedules
are omitted because of the absence of conditions under which they are
required or because the required information is included in the consolidated
financial statements or notes thereto.
3. Exhibits: The exhibits listed in the accompanying Index to Exhibits are
filed as part of this Form 10-K.
(b) Reports on Form 8-K:
(i) On January 19, 1999, TPG filed a report on Form 8-K to announce that
Fannie Mae issued a press release announcing the expansion of available
mortgage insurance options reducing the amount of mortgage insurance
required on loans purchased by Fannie Mae; and
(ii) On January 22, 1999, TPG filed a report on Form 8-K to announce its
fourth quarter earnings and financial results for the period ended
December 31, 1998, and to announce additional statements made on
January 20, 1999 during the fourth quarter earnings conference call
with analysts.
43
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULES
[Item 14(a) 1 and 2]
<TABLE>
<CAPTION>
Page
-----------------------------------------
Annual Report
Consolidated Financial Statements Form 10-K To Shareholders
--------------------------------- -------------------- ------------------
<S> <C> <C>
Consolidated Statements of Operations for the years ended December 31,
1998, 1997 and 1996 N/A 26
Consolidated Balance Sheets as of December 31, 1998 and 1997 N/A 27
Consolidated Statements of Shareholders' Equity for the years ended
December 31, 1998, 1997 and 1996 N/A 28
Consolidated Statements of Cash Flows for the years ended December 31,
1998, 1997 and 1996 N/A 29
Notes to Consolidated Financial Statements N/A 30-47
Report of Independent Auditors N/A 48
Financial Statement Schedules
-----------------------------
Report of Independent Auditors on Financial Statement Schedules as of and 36 N/A
for the specified years in the three-year period ended December 31, 1998:
Schedule I-Summary of investments other than in related parties 37 N/A
Schedule II-Condensed financial information of Registrant 38-41 N/A
Schedule III-Supplementary insurance information 42 N/A
Schedule IV-reinsurance 43 N/A
</TABLE>
44
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of San
Francisco, State of California, on the 30th day of March, 1999.
The PMI Group, Inc.
BY: /s/ W. Roger Haughton
-------------------------------------------------
W. Roger Haughton
Chairman of the Board and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below on March 30, 1999 by the following persons on behalf of
the registrant and in the capacities indicated.
/s/ W. Roger Haughton Chairman of the Board and March 30, 1999
- ---------------------------- Chief Executive Officer
W. Roger Haughton
/s/ John M. Lorenzen, Jr. Executive Vice President, March 30, 1999
- ---------------------------- Chief Financial Officer,
John M. Lorenzen, Jr. and Assistant Secretary
(Principal Financial Officer)
/s/ William A. Seymore Vice President, Controller March 30, 1999
- ---------------------------- (Controller and Principal
William A. Seymore Accounting Officer)
/s/ James C. Castle Director March 30, 1999
- ----------------------------
James C. Castle
/s/ Donald C. Clark Director March 30, 1999
- ----------------------------
Donald C. Clark
/s/ Wayne E. Hedien Director March 30, 1999
- ----------------------------
Wayne E. Hedien
/s/ John D. Roach Director March 30, 1999
- ----------------------------
John D. Roach
/s/ Kenneth T. Rosen Director March 30, 1999
- ----------------------------
Kenneth T. Rosen
/s/ Richard L. Thomas Director March 30, 1999
- ----------------------------
Richard L. Thomas
/s/ Mary Lee Widener Director March 30, 1999
- ----------------------------
Mary Lee Widener
/s/ Ronald H. Zech Director March 30, 1999
- ----------------------------
Ronald H. Zech
45
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of The PMI Group, Inc.:
We have audited the consolidated financial statements of The PMI Group, Inc.
and subsidiaries as of December 31, 1998 and 1997, and for each of the three
years in the period ended December 31, 1998, and have issued our report thereon
dated January 20, 1999; such consolidated financial statements and report are
included in your 1998 Annual Report to Shareholders and are incorporated herein
by reference. Our audits also included the financial statement schedules of The
PMI Group, Inc. and subsidiaries, listed in item 14(a) 2. These consolidated
financial statement schedules are the responsibility of the Company's
management. Our responsibility is to express an opinion based on our audits. In
our opinion, such consolidated financial statement schedules, when considered in
relation to the basic consolidated financial statements taken as a whole,
represent fairly in all material respects the information set forth therein.
/s/ Deloitte & Touche LLP
San Francisco, California
January 20, 1999
46
<PAGE>
THE PMI GROUP, INC. AND SUBSIDIARIES
SCHEDULE I - SUMMARY OF INVESTMENTS
OTHER THAN INVESTMENTS IN RELATED PARTIES
December 31, 1998
<TABLE>
<CAPTION>
Amount at which
Amortized Market Shown in the
Type of Investment Cost Value Balance Sheet
---------------- --------------- ---------------
<S> <C> <C> <C>
(In thousands)
Fixed maturities:
Bonds:
United States government and
government agencies and authorities $ 53,918 $ 55,978 $ 55,978
States, municipalities and political subdivisions 1,110,665 1,193,738 1,193,738
All other corporate 104,042 107,153 107,153
---------------- --------------- ---------------
Total fixed maturities 1,268,625 $ 1,356,869 1,356,869
---------------- =============== ---------------
Equity securities:
Common stocks:
Banks, trust and insurance companies 158 $ 156 156
Industrial, miscellaneous and all other 33,971 58,629 58,629
Non-redeemable preferred stocks 17,240 17,706 17,706
---------------- --------------- ---------------
Total equity securities 51,369 $ 76,491 76,491
---------------- =============== ---------------
Short-term investments 38,414 38,414
---------------- ---------------
Total investments, other than related party $ 1,358,408 $ 1,471,774
================ ===============
</TABLE>
47
<PAGE>
THE PMI GROUP, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED BALANCE SHEETS
PARENT COMPANY ONLY
December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
---------------- -----------------
<S> <C> <C>
ASSETS (Dollars in thousands)
Investment portfolio, available for sale, at market value:
Fixed income securities (cost - $50,578 and $96,316) $ 51,904 $ 97,605
Short-term investments 3,722 36,177
---------------- -----------------
Total investment portfolio 55,626 133,782
---------------- -----------------
Cash 473 437
Investment in subsidiaries, at equity in net assets 1,238,209 1,120,809
Other assets 12,491 12,317
---------------- -----------------
Total assets $ 1,306,799 $ 1,267,345
================ =================
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Long-term debt $ 99,476 $ 99,409
Accounts payable - affiliates 1,678 1,113
Other liabilities 5,997 3,544
---------------- -----------------
Total liabilities 107,151 104,066
---------------- -----------------
Commitments and contingent liabilities (Note A) - -
Junior subordinated deferrable interest debenture
held solely by subsidiary trust 102,133 102,099
Shareholders' equity:
Preferred stock-$.01 par value; 5,000,000 shares authorized - -
Common stock -- $.01 par value; 125,000,000 shares authorized,
35,196,002 and 35,147,247 shares issued 352 351
Additional paid-in capital 265,040 262,448
Accumulated other comprehensive income 74,462 71,936
Retained earnings 1,060,724 876,588
---------------- -----------------
1,400,578 1,211,323
Less treasury stock (4,917,401 and 2,684,000 shares at cost) 303,063 150,143
---------------- -----------------
Total shareholders' equity 1,097,515 1,061,180
---------------- -----------------
Total liabilities and shareholders' equity $ 1,306,799 $ 1,267,345
================ =================
</TABLE>
See accompanying supplementary notes to Parent company condensed financial
statements.
48
<PAGE>
THE PMI GROUP, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED STATEMENTS OF OPERATIONS
PARENT COMPANY ONLY
Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
-------------- -------------- --------------
<S> <C> <C> <C>
(In thousands)
Revenue:
Equity in undistributed net income of subsidiaries $ 90,696 $ 101,488 $ 110,758
Subsidiary dividends 103,200 78,863 47,660
Investment income, net 9,600 8,990 2,532
Capital gains (losses), net 1,045 (2,405) 113
-------------- -------------- --------------
Total revenue 204,541 186,936 161,063
-------------- -------------- --------------
Expenses:
Operating expenses 722 642 437
Interest expense 15,592 14,618 907
-------------- -------------- --------------
Total expenses 16,314 15,260 1,344
-------------- -------------- --------------
Income before tax 188,227 171,676 159,719
Income tax expense (benefit) (2,133) (3,633) 1,801
-------------- -------------- --------------
Net income $ 190,360 $ 175,309 $ 157,918
============== ============== ==============
</TABLE>
CONDENSED STATEMENTS OF COMPREHENSIVE INCOME
PARENT COMPANY ONLY
Years Ended December 31, 1998, 1997 and 1996 (in thousands)
<TABLE>
<CAPTION>
1998 1997 1996
-------------- -------------- --------------
<S> <C> <C> <C>
Net income $ 190,360 $ 175,309 $ 157,918
------------ ------------ -----------
Other comprehensive income net of tax:
Unrealized gain on investments:
Unrealized holding gains (losses) arising during period 3,205 19,664 (5,979)
Less: reclassification adjustment for (gains) losses included
in net income (679) 1,563 (73)
------------ ------------ -----------
Other comprehensive income (loss), net of tax 2,526 21,227 (6,052)
------------ ------------ -----------
Comprehensive income $ 192,886 $ 196,536 $ 151,866
============ ============ ===========
</TABLE>
See accompanying supplementary notes to Parent company condensed financial
statements.
49
<PAGE>
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED STATEMENTS OF CASH FLOWS
PARENT COMPANY ONLY
Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
--------------- ---------------- ---------------
<S> <C> <C> <C>
(In thousands)
Cash flows from operating activities:
Net income $ 190,360 $ 175,309 $ 157,918
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Amortization 1,063 848 185
Equity in net income of subsidiaries (193,896) (180,351) (158,418)
Capital (gains) losses, net (1,045) 2,405 (113)
Increase (decrease) in payable to affiliates 565 (4,246) 1,127
Other 2,282 (10,437) (551)
--------------- ---------------- ---------------
Net cash provided by (used in) operating activities (671) (16,472) 148
--------------- ---------------- ---------------
Cash flows from investing activities:
Dividends from subsidiaries 103,200 78,863 26,300
Investment in affiliates (4,000) (13,093) (14,683)
Purchases of fixed income securities (1,000) (92,350) (77,037)
Purchases of equity securities (20,173) - -
Investment collections of fixed income securities 6,271 5,000 20,848
Proceeds from sales of fixed income securities 40,522 46,667 -
Proceeds from sales of equity securities 93 - -
Net (increase) decrease in short-term investments 32,455 13,200 (19,147)
--------------- ---------------- ---------------
Net cash provided by (used in) investing activities 157,368 38,287 (63,719)
--------------- ---------------- ---------------
Cash flows from financing activities:
Issuance of junior subordinated debentures - 102,093 -
Issuance of long-term debt - - 99,337
Dividends paid to shareholders (6,333) (6,733) (7,002)
Proceeds from exercise of stock options 2,592 3,181 1,135
Purchase of The PMI Group, Inc. common stock (152,920) (120,002) (30,057)
--------------- ---------------- ---------------
Net cash provided by (used in) financing activities (156,661) (21,461) 63,413
--------------- ---------------- ---------------
Net increase (decrease) in cash 36 354 (158)
Cash at beginning of year 437 83 241
--------------- ---------------- ---------------
Cash at end of year $ 473 $ 437 $ 83
=============== ================ ===============
</TABLE>
See accompanying supplementary notes to Parent company condensed financial
statements.
50
<PAGE>
THE PMI GROUP, INC.
SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT
PARENT COMPANY ONLY
SUPPLEMENTARY NOTES
Note A
The accompanying Parent Company ("TPG") financial statements should be read in
conjunction with the Consolidated Financial Statements and Notes to Consolidated
Financial Statements (including Notes 10, 11 and 12 related to long-term
obligations, commitments and contingent liabilities and the junior subordinated
debenture) appearing on pages 30-47 of The PMI Group, Inc. 1998 Annual Report to
Shareholders.
Note B
During 1998, 1997 and 1996, TPG received $103.2 million, $78.9 million, and
$26.3 million , respectively, of ordinary and extraordinary cash dividends from
subsidiaries. In addition, during 1996 TPG received $21.4 million of non-cash
dividends from a subsidiary.
51
<PAGE>
THE PMI GROUP, INC AND SUBSIDIARIES
SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION
As of and for the Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
Reserve for
Losses and Losses and Amortization
Deferred Loss Net Loss of Deferred Other
Acquisition Adjustment Unearned Premiums Investment Adjustment Acquisition Operating Premiums
Segment Costs Expenses Premiums Earned Income Expenses Costs Expenses Written
------------ ------------ ------------- ------------- ----------- ------------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
(In thousands)
1998:
MI (1) $ 61,605 $ 206,132 $ 94,886 $ 411,922 $ 77,257 $ 135,097 $ 60,280 $ 44,293 $ 409,796
Title - 9,127 - 79,304 1,401 619 - 69,109 79,304
Other (2) - - - - 6,023 - - 29,223 -
------------ ------------ ------------- ------------- ----------- ------------- ------------ ------------ -------------
Total $ 61,605 $ 215,259 $ 94,886 $ 491,226 $ 84,681 $ 135,716 $ 60,280 $ 142,625 $ 489,100
============ ============ ============= ============= =========== ============= ============ ============ =============
1997:
MI (1) $ 37,864 $ 192,211 $ 94,150 $ 394,010 $ 73,007 $ 150,367 $ 43,395 $ 40,952 $ 372,114
Title - 10,176 - 59,938 1,257 1,890 - 53,085 59,938
Other (2) - - - - 8,872 - - 17,708 -
------------ ------------ ------------- ------------- ----------- ------------- ------------ ------------ -------------
Total $ 37,864 $ 202,387 $ 94,150 $ 453,948 $ 83,136 $ 152,257 $ 43,395 $ 111,745 $ 432,052
============ ============ ============= ============= =========== ============= ============ ============ =============
1996:
MI (1) $ 31,633 $ 190,425 $ 116,951 $ 359,527 $ 63,689 $ 150,642 $ 46,192 $ 18,183 $ 349,809
Title - 9,349 - 53,211 1,162 1,767 - 48,012 53,211
Other (2) - - - - 2,591 - - 13,615 -
------------ ------------ ------------- ------------- ----------- ------------- ------------ ------------ -------------
Total $ 31,633 $ 199,774 $ 116,951 $ 412,738 $ 67,442 $ 152,409 $ 46,192 $ 79,810 $ 403,020
============ ============ ============= ============= =========== ============= ============ ============ =============
</TABLE>
(1) Represents Mortgage Insurance Operations
(2) Represents ancillary services and parent company investment income.
The 1997 and 1996 amounts have been restated to conform to the SFAS 131
presentation of segments.
52
<PAGE>
THE PMI GROUP, INC. AND SUBSIDIARIES
SCHEDULE IV - REINSURANCE
Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
Percentage
Ceded Assumed of Amount
Premiums earned for the Gross to Other from Other Net Assumed
year ended December 31, Amount Companies Companies Amount to Net
--------------- --------------- --------------- --------------- ------------
(In thousands, except percentages)
<S> <C> <C> <C> <C> <C>
1998:
Mortgage Guaranty $ 426,613 $ 17,783 $ 3,092 $ 411,922 0.8%
Title 79,483 188 9 79,304 0.0%
--------------- --------------- --------------- --------------- ------------
Total $ 506,096 $ 17,971 $ 3,101 $ 491,226 0.6%
=============== =============== =============== =============== ============
1997:
Mortgage Guaranty $ 398,904 $ 6,068 $ 1,174 $ 394,010 0.3%
Title 60,068 138 8 59,938 0.0%
--------------- --------------- --------------- --------------- ------------
Total $ 458,972 $ 6,206 $ 1,182 $ 453,948 0.3%
=============== =============== =============== =============== ============
1996:
Mortgage Guaranty $ 372,439 $ 13,546 $ 634 $ 359,527 0.2%
Title 53,392 181 - 53,211 0.0%
--------------- --------------- --------------- --------------- ------------
Total $ 425,831 $ 13,727 $ 634 $ 412,738 0.2%
=============== =============== =============== =============== ============
</TABLE>
53
<PAGE>
INDEX TO EXHIBITS
[Item 14(a) 3]
<TABLE>
<CAPTION>
Exhibit
Number Description of Exhibits
- ------------ ------------------------------------------------------------------------------------------------------
<S> <C>
3.1(b) Restated Certificate of Incorporation of the Registrant.
3.2(g) By-laws of the Registrant as amended and restated September 15, 1998.
4.1(b) Specimen common stock Certificate.
4.2(d) Indenture dated as of November 19, 1996 between The PMI Group, Inc. and the Bank of New York
Trustee in connection with sale of $100,000,000 aggregate principal amount of 6 3/4% Notes due
November 15, 2006.
4.3(e) The Junior Subordinated Indenture dated February 4, 1997 between The PMI Group, Inc. and The
Bank of New York, Inc.
4.4(e) Form of Right Certificate, relating to Rights Agreement dated as of January 26, 1998.
10.1* PMI Mortgage Insurance Co. Bonus Incentive Plan dated as of February 18, 1999
10.2* The PMI Group, Inc. Equity Incentive Plan. (amended & restated as of February 18, 1999
10.3(f)* The PMI Group, Inc. Stock Plan for Non-Employee Directors. (amended & restated as of July 23, 1998).
10.4(f) The PMI Group, Inc. Directors Deferred Compensation Plan. (amended & restated as of July 23, 1998).
10.5(a) Form of 1984 Master Policy of PMI Mortgage Insurance Co.
10.6(a) Form of 1994 Master Policy of PMI Mortgage Insurance Co.
10.7(a) CMG Shareholders Agreement dated September 8, 1994 between CUNA Mutual Investment
Corporation and PMI Mortgage Insurance Co.
10.8(b) Runoff Support Agreement dated October 28, 1994 between Allstate Insurance Company, the
Registrant and PMI Mortgage Insurance Co.
10.9(a) Mortgage Pool Guaranty Insurance Reinsurance Treaty effective February 14, 1994 ceded by PMI
Mortgage Insurance Co. to Forestview Mortgage Insurance Co. (formerly PMI Insurance Co.).
10.10(a) First Amendment Agreement made as of October 27, 1994 between PMI Mortgage Insurance Co. and
Forestview Mortgage Insurance Co. (formerly PMI Insurance Co.).
10.11(a) Mortgage Guaranty Insurance Reinsurance Treaty effective December 31, 1991 ceded by PMI
Mortgage Insurance Co. to Forestview Mortgage Insurance Co. (formerly PMI Insurance Co.).
10.12(a) Termination Agreement made as of October 27, 1994 between PMI Mortgage Insurance Co. and
Forestview Mortgage Insurance Co. (formerly PMI Insurance Co.).
</TABLE>
54
<PAGE>
<TABLE>
<CAPTION>
Exhibit
Number Description of Exhibits
- ------------ ------------------------------------------------------------------------------------------------------
<S> <C>
10.13(b) Form of Services Agreement between the Registrant, PMI Mortgage Insurance Co., and Forestview
Mortgage Insurance Co.
10.14(b) Form of Tax Sharing Agreement among the Registrant, the Registrant's subsidiaries, The Allstate
Corporation, Allstate Insurance Company and Sears, Roebuck and Co.
10.15(a) Mortgage Insurance Variable Quota Share Reinsurance Treaty effective January 1, 1991 issued to PMI
Mortgage Insurance Co. by Hannover Ruckversicherungs-Aktiengesellschaft ("Hannover").
10.16(a) First Amendment to Mortgage Insurance Variable Quota Share Reinsurance Treaty made as of
January 1, 1992 between Hannover and PMI Mortgage Insurance Co.
10.17(f) Supplemental Employee Retirement Plan (amended and restated as of February 12, 1998).
10.18(a) First Amendment to the Quota Share Primary Mortgage Reinsurance Agreement (No. 15031-940)
made as of October 1, 1994 between PMI Mortgage Insurance Co. and Capital Mortgage
Reinsurance Company
10.19(a) Form of Indemnification Agreement between the Registrant and its officers and directors.
10.20(a) Per Mortgage Excess of Loss Reinsurance Treaty effective January 1, 1994 issued to PMI Mortgage
Insurance Co. by Hannover.
10.21(c) The PMI Group, Inc. Retirement Plan.
10.22(e) The Guarantee Agreement, dated February 4, 1997 between The PMI Group, Inc. (As Guarantor)
and The Bank of New York (As Trustee).
10.23(e) Amended and Restated Trust Agreement dated as of February 4, 1997 among The PMI Group, Inc.,
as Depositor, The Bank of New York, as Property Trustee, and The Bank of New York
(Delaware), as Delaware Trustee.
10.24(h)* The PMI Group, Inc., Employee Stock Purchase Plan
10.25(e) Form of Change of Control Employment Agreement.
10.26 The PMI Group, Inc., Officer Deferred Compensation Plan.
11.1 Statement re: computation of per share earnings.
12.1 Statement re: computation of earnings to fixed charges.
13.1 Selected Financial Data, Management's Discussion and Analysis of Financial Condition and Results
of Operations and Financial Statements and Supplementary Data portions of The PMI Group, Inc.'s
1998 Annual Report to Shareholders.
21.1 Subsidiaries of the Registrant.
23.1 Independent Auditors' Consent.
27.1 Financial Data Schedule.
</TABLE>
- --------------
(a) Previously filed with the Company's Form S-1 Registration Statement (No. 33-
88542), which became effective in April 1995 ("Form S-1").
55
<PAGE>
(b) Previously filed with Amendment No. 1 to Form S-1, filed with the SEC on
March 2, 1995.
(c) Previously filed with Amendment No. 2 to Form S-1, filed with the SEC on
March 13, 1995.
(d) Previously filed with Form 8-K, filed with the SEC on November 25, 1996
(e) Previously filed with Form 10-K, filed with the SEC on March 27, 1998.
(f) Previously filed with Form 10-Q, filed with the SEC on August 13, 1998.
(g) Previously filed with Form 8-K, filed with the Sec on September 29, 1998.
(h) Previously filed with the Company's Form S-3 Registration Statement (No.
33-66829) which became effective in November 1998.
* Compensatory or benefit plan in which certain executive officers or Directors
of The PMI Group, Inc., or its subsidiaries are eligible to participate.
56
<PAGE>
EXHIBIT 10.1
THE PMI GROUP, INC.
BONUS INCENTIVE PLAN
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
<S> <C>
SECTION 1 BACKGROUND, PURPOSE AND DURATION....................... 1
1.1 Effective Date......................................... 1
1.2 Purpose of the Plan.................................... 1
SECTION 2 DEFINITIONS............................................ 1
2.1 "1934 Act"............................................. 1
2.2 "Actual Award"......................................... 1
2.3 "Affiliate"............................................ 1
2.4 "Base Salary".......................................... 1
2.5 "Board"................................................ 1
2.6 "Change of Control".................................... 1
2.7 "Code"................................................. 3
2.8 "Committee"............................................ 4
2.9 "Company".............................................. 4
2.10 "Determination Date"................................... 4
2.11 "Disability"........................................... 4
2.12 "Employee"............................................. 4
2.13 "Fair Market Value".................................... 4
2.14 "Fiscal Year".......................................... 4
2.15 "Maximum Award"........................................ 4
2.16 "Participant".......................................... 4
2.17 "Payout Formula"....................................... 4
2.18 "Performance Goals".................................... 4
2.19 "Performance Period"................................... 5
2.20 "Plan"................................................. 5
2.21 "Retirement"........................................... 5
2.22 "Shares"............................................... 5
2.23 "Target Award"......................................... 5
2.24 "Termination of Service"............................... 5
SECTION 3 SELECTION OF PARTICIPANTS AND DETERMINATION OF AWARDS.. 5
3.1 Selection of Participants.............................. 5
3.2 Determination of Performance Goals..................... 5
3.3 Determination of Target Awards......................... 5
3.4 Determination of Payout Formula or Formulae............ 5
3.5 Determination of Actual Awards......................... 6
3.6 Special Rule for Change of Control..................... 6
SECTION 4 PAYMENT OF AWARDS...................................... 6
4.1 Right to Receive Payment............................... 6
4.2 Timing of Payment...................................... 6
4.3 Form of Payment........................................ 6
</TABLE>
-i-
<PAGE>
TABLE OF CONTENTS
(CONTINUED)
<TABLE>
<CAPTION>
PAGE
<S> <C>
4.4 Payment in the Event of Death or Disability............ 7
SECTION 5 ADMINISTRATION......................................... 7
5.1 Committee is the Administrator......................... 7
5.2 Committee Authority.................................... 7
5.3 Decisions Binding...................................... 7
5.4 Delegation by the Committee............................ 7
SECTION 6 GENERAL PROVISIONS..................................... 7
6.1 Tax Withholding........................................ 7
6.2 No Effect on Employment or Service..................... 8
6.3 Participation.......................................... 8
6.4 Indemnification........................................ 8
6.5 Successors............................................. 8
6.6 Beneficiary Designations............................... 8
6.7 Nontransferability of Awards........................... 8
SECTION 7 AMENDMENT, TERMINATION AND DURATION.................... 9
7.1 Amendment, Suspension or Termination................... 9
7.2 Duration of the Plan................................... 9
SECTION 8 LEGAL CONSTRUCTION..................................... 9
8.1 Gender and Number...................................... 9
8.2 Severability........................................... 9
8.3 Requirements of Law.................................... 9
8.4 Governing Law.......................................... 9
8.5 Captions............................................... 9
</TABLE>
-ii-
<PAGE>
THE PMI GROUP, INC.
BONUS INCENTIVE PLAN
SECTION 1
BACKGROUND, PURPOSE AND DURATION
1.1 Effective Date. The Plan is effective as of February 18, 1999,
--------------
subject to ratification by an affirmative vote of the holders of a majority of
the Shares which are present in person or by proxy and entitled to vote at the
1999 Annual Meeting of Stockholders of the Company.
1.2 Purpose of the Plan. The Plan is intended to increase
-------------------
shareholder value and the success of the Company by motivating key executives
(1) to perform to the best of their abilities, and (2) to achieve the Company's
objectives. The Plan's goals are to be achieved by providing such executives
with incentive awards based on the achievement of goals relating to the
performance of the Company and its individual business units. The Plan is
intended to permit the grant of awards that qualify as performance-based
compensation under section 162(m) of the Code.
SECTION 2
DEFINITIONS
The following words and phrases shall have the following meanings
unless a different meaning is plainly required by the context:
2.1 "1934 Act" means the Securities Exchange Act of 1934, as amended.
--------
Reference to a specific section of the 1934 Act or regulation thereunder shall
include such section or regulation, any valid regulation promulgated under such
section, and any comparable provision of any future legislation or regulation
amending, supplementing or superseding such section or regulation.
2.2 "Actual Award" means as to any Performance Period, the actual
------------
award (if any) payable to a Participant for the Performance Period. Each Actual
Award is determined by the Payout Formula for the Performance Period, subject to
the Committee's authority under Section 3.5 to reduce the award otherwise
determined by the Payout Formula.
2.3 "Affiliate" means any corporation or other entity (including, but
---------
not limited to, partnerships and joint ventures) controlled by the Company.
2.4 "Base Salary" means as to any Performance Period, the
-----------
Participant's annualized salary rate on the last day of the Performance Period.
Such Base Salary shall be before both (a) deductions for taxes or benefits, and
(b) deferrals of compensation pursuant to Company-sponsored plans.
2.5 "Board" means the Board of Directors of the Company.
-----
2.6 "Change of Control" means:
-----------------
<PAGE>
(a) The acquisition by any individual, entity or group (within
the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act
of 1934, as amended (the "Exchange Act")) (a "Person") of beneficial
ownership (within the meaning of Rule 13d-3 promulgated under the Exchange
Act) of 20% or more of either (i) the then outstanding shares of common
stock of the Company (the "Outstanding Company Common Stock") or (ii) the
combined voting power of the then outstanding voting securities of the
Company entitled to vote generally in the election of directors (the
"Outstanding Company Voting Securities"); provided, however, that for
purposes of this subsection (a), the following shall not constitute a
Change of Control: (i) any acquisition directly from the Company, (ii) any
acquisition by the Company, (iii) any acquisition by any employee benefit
plan (or related trust) sponsored or maintained by the Company or any
corporation controlled by the Company, (iv) any beneficial ownership
maintained by (but not additional acquisitions by), The Allstate
Corporation and its subsidiaries, and their respective successors
("Allstate"), pending such time that Allstate distributes or transfers its
current ownership interest in the Outstanding Company Common Stock and
Outstanding Company Voting Securities as contemplated by the Prospectus
dated April 10, 1995, relating to the initial public offering of the common
stock of the Company, or (v) any acquisition pursuant to a transaction
which complies with clauses (i), (ii) and (iii) of subsection (c) of this
Section 2.6. Notwithstanding the foregoing, in its sole discretion, the
Board may increase the 20% threshold set forth above in this subsection (a)
prior to any acquisition of 20% or more beneficial ownership of the
Outstanding Company Common Stock or the Outstanding Company Voting
Securities; provided, that (i) such increased threshold shall apply only to
the acquisition and maintenance of beneficial ownership by any Person
eligible to report such beneficial ownership at the time of such
acquisition on Schedule 13G under the Exchange Act, and (ii) in the event
that any Person initially eligible to so report on Schedule 13G thereafter
ceases to be eligible to so report on Schedule 13G, the occurrence of the
event causing such Person no longer to be eligible to so report shall be
deemed an acquisition by such Person of all of the Outstanding Company
Common Stock and Outstanding Company Voting Securities beneficially owned
by such Person immediately prior to such occurrence; or
(b) Individuals who, as of the date hereof, constitute the Board
(the "Incumbent Board") cease for any reason to constitute at least a
majority of the Board; provided, however, that any individual becoming a
director subsequent to the date hereof whose election, or nomination for
election by the Company's shareholders, was approved by a vote of at least
a majority of the directors then comprising the Incumbent Board shall be
considered as though such individual were a member of the Incumbent Board,
but excluding, for this purpose, any such individual whose initial
assumption of office occurs as a result of an actual or threatened election
contest with respect to the election or removal of directors or other
actual or threatened solicitation of proxies or consents by or on behalf of
a Person other than the Board; or
(c) Consummation by the Company of a reorganization, merger or
consolidation or sale or other disposition of all or substantially all of
the assets of the Company or the acquisition of assets of another entity (a
"Business Combination"), in each case, unless, following such Business
Combination, (i) all or substantially all of the
2
<PAGE>
individuals and entities who were the beneficial owners, respectively, of
the Outstanding Company Common Stock and Outstanding Company Voting
Securities immediately prior to such Business Combination beneficially own,
directly or indirectly, more than 60% of, respectively, the then
outstanding shares of common stock and the combined voting power of the
then outstanding voting securities entitled to vote generally in the
election of directors, as the case may be, of the corporation resulting
from such Business Combination (including, without limitation, a
corporation which as a result of such transaction owns the Company or all
or substantially all of the Company's assets either directly or through one
or more subsidiaries) in substantially the same proportions as their
ownership, immediately prior to such Business Combination of the
Outstanding Company Common Stock and Outstanding Company Voting Securities,
as the case may be, (ii) no Person (excluding any employee benefit plan (or
related trust) of the Company or such corporation resulting from such
Business Combination) beneficially owns, directly or indirectly, 20% or
more of, respectively, the then outstanding shares of common stock of the
corporation resulting from such Business Combination or the combined voting
power of the then outstanding voting securities of such corporation except
to the extent that such ownership existed prior to the Business Combination
and (iii) at least a majority of the members of the board of directors of
the corporation resulting from such Business Combination were members of
the Incumbent Board at the time of the execution of the initial agreement,
or of the action of the Board, providing for such Business Combination; or
(d) Approval by the shareholders of the Company of a complete
liquidation or dissolution of the Company.
Notwithstanding the foregoing, a Change of Control shall not be
deemed to occur solely because any Person acquires beneficial ownership of
20% or more of the Outstanding Company Voting Securities or Outstanding
Company Common Stock as a result of the acquisition of such securities or
stock by the Company, which acquisition reduces the number of the
Outstanding Company Voting Securities or Outstanding Company Common Stock;
provided, that if after such acquisition by the Company such Person (while
such Person remains the beneficial owner of 20% or more of the Outstanding
Company Voting Securities or Outstanding Company Common Stock) becomes the
beneficial owner of additional shares of such Outstanding Company Voting
Securities or Outstanding Company Common Stock (as the case may be), a
Change of Control shall then occur. Capitalized terms used in this Section
2.6, not otherwise defined, shall have the meaning set forth in the form of
change of control employment agreement approved at the February 12, 1998
meeting of the Board.
2.7 "Code" means the Internal Revenue Code of 1986, as amended.
----
Reference to a specific section of the Code or regulation thereunder shall
include such section or regulation, any valid regulation promulgated thereunder,
and any comparable provision of any future legislation or regulation amending,
supplementing or superseding such section or regulation.
3
<PAGE>
2.8 "Committee" means the committee appointed by the Board (pursuant
---------
to Section 5.1) to administer the Plan. Until otherwise determined by the
Board, the Company's Nominating and Compensation Committee shall constitute the
Committee.
2.9 "Company" means The PMI Group, Inc., a Delaware corporation, or
-------
any successor thereto.
2.10 "Determination Date" means the latest possible date that will
------------------
not jeopardize a Target Award's qualification as performance-based compensation
under section 162(m) of the Code.
2.11 "Disability" means a permanent and total disability determined
----------
in accordance with uniform and nondiscriminatory standards adopted by the
Committee from time to time.
2.12 "Employee" means any employee of the Company or of an Affiliate,
--------
whether such employee is so employed at the time the Plan is adopted or becomes
so employed subsequent to the adoption of the Plan.
2.13 "Fair Market Value" means the arithmetic mean of the highest and
-----------------
lowest per share selling prices of the Shares, as quoted in the New York Stock
Exchange Composite Transactions Index for the date in question.
2.14 "Fiscal Year" means any fiscal year of the Company.
-----------
2.15 "Maximum Award" means as to any aggregate Actual Awards to any
-------------
Participant for any Performance Period, $2,000,000.
2.16 "Participant" means as to any Performance Period, an Employee
-----------
who has been selected by the Committee for participation in the Plan for that
Performance Period.
2.17 "Payout Formula" means as to any Performance Period, the formula
--------------
or payout matrix established by the Committee pursuant to Section 3.4 in order
to determine the Actual Awards (if any) to be paid to Participants. The formula
or matrix may differ from Participant to Participant.
2.18 "Performance Goals" means the goal(s) (or combined goal(s))
-----------------
determined by the Committee (in its discretion) to be applicable to a
Participant for a Target Award for a Performance Period. As determined by the
Committee, the Performance Goals for any Target Award applicable to a
Participant may provide for a targeted level or levels of achievement using one
or more of the following measures: (a) Cash Operating Earnings Per Share, (b)
Earnings Per Share, (c) Expense Ratio, (d) Loss Ratio, (e) Market Share, (f) Net
Income, (g) Net Operating Income Earnings Per Share, (h) Net Operating Income
Per Share, (i) New Insurance Written, (j) Price to Earnings Ratio, (k) Return on
Average Equity, (l) Risk in Force, and (m) Total Shareholder Return. The
Performance Goals may differ from Participant to Participant and from award to
award. Any criteria used may be measured in absolute terms or as compared to
another
4
<PAGE>
company or companies. Any criteria used may be measured against the performance
of the Company as a whole or a segment of the Company.
2.19 "Performance Period" means any period of not less than twelve
------------------
consecutive calendar months, as determined by the Committee in its sole
discretion.
2.20 "Plan" means The PMI Group, Inc. Bonus Incentive Plan, as set
----
forth in this instrument and as hereafter amended from time to time.
2.21 "Retirement" means (a) a Termination of Service occurring on or
----------
after age sixty five (65), (b) a Termination of Service at or after age 55 with
at least ten years of Benefit Accrual Service (as defined under The PMI Group,
Inc. Retirement Plan, as amended), or (c) a Termination of Service approved by
the Company as an early retirement; provided that in the case of a Section 16
Person, such early retirement must be approved by the Committee.
2.22 "Shares" means shares of the Company's common stock, $0.01 par
------
value.
2.23 "Target Award" means the target award payable under the Plan to
------------
a Participant for the Performance Period, expressed as a percentage of his or
her Base Salary, as determined by the Committee in accordance with Section 3.3.
2.24 "Termination of Service" means a cessation of the employee-
----------------------
employer relationship between an Employee and the Company or an Affiliate for
any reason, including, but not by way of limitation, a termination by
resignation, discharge, death, Disability, Retirement, or the disaffiliation of
an Affiliate, but excluding any such termination where there is a simultaneous
reemployment by the Company or an Affiliate.
SECTION 3
SELECTION OF PARTICIPANTS AND DETERMINATION OF AWARDS
3.1 Selection of Participants. The Committee, in its sole
-------------------------
discretion, shall select the Employees of the Company who shall be Participants
for any Performance Period. Participation in the Plan is in the sole discretion
of the Committee, and on a Performance Period by Performance Period basis.
Accordingly, an Employee who is a Participant for a given Performance Period in
no way is guaranteed or assured of being selected for participation in any
subsequent Performance Period or Periods.
3.2 Determination of Performance Goals. The Committee, in its sole
----------------------------------
discretion, shall establish the Performance Goals for each Participant for the
Performance Period. Such Performance Goals shall be set forth in writing.
3.3 Determination of Target Awards. The Committee, in its sole
------------------------------
discretion, shall establish a Target Award for each Participant. Each
Participant's Target Award shall be determined by the Committee in its sole
discretion, and each Target Award shall be set forth in writing.
5
<PAGE>
3.4 Determination of Payout Formula or Formulae. On or prior to the
-------------------------------------------
Determination Date, the Committee, in its sole discretion, shall establish a
Payout Formula or Formulae for purposes of determining the Actual Award (if any)
payable to each Participant. Each Payout Formula shall (a) be in writing, (b) be
based on a comparison of actual performance to the Performance Goals, (c)
provide for the payment of a Participant's Target Award if the Performance Goals
for the Performance Period are achieved, and (d) provide for an Actual Award
greater than or less than the Participant's Target Award, depending upon the
extent to which actual performance exceeds or falls below the Performance Goals.
Notwithstanding the preceding, no Participant's Actual Award under the Plan may
exceed his or her Maximum Award.
3.5 Determination of Actual Awards. After the end of each
------------------------------
Performance Period, the Committee shall certify in writing the extent to which
the Performance Goals applicable to each Participant for the Performance Period
were achieved or exceeded. The Actual Award for each Participant shall be
determined by applying the Payout Formula to the level of actual performance
which has been certified by the Committee. Notwithstanding any contrary
provision of the Plan, the Committee, in its sole discretion, may (a) eliminate
or reduce the Actual Award payable to any Participant below that which otherwise
would be payable under the Payout Formula, and (b) determine what Actual Award,
if any, will be paid in the event of a Termination of Service prior to the end
of the Performance Period.
3.6 Special Rule for Change of Control. Notwithstanding any contrary
----------------------------------
provision of the Plan, immediately upon the occurrence of a Change of Control
that occurs prior to a Participant's Termination of Service, 100% of any Target
Award shall be deemed to be earned and shall be immediately payable to the
Participant. Notwithstanding the preceding provisions of this Section 3.6, if
the Committee determines that automatic payment of Target Awards following a
Change of Control would cause a Change of Control transaction to be ineligible
for pooling of interests accounting under APB No. 16, which transaction (but for
such automatic payment) otherwise would have been eligible for such accounting
treatment, the Committee, in its sole discretion, may determine that no such
automatic payment shall occur.
SECTION 4
PAYMENT OF AWARDS
4.1 Right to Receive Payment. Each Actual Award that may become
------------------------
payable under the Plan shall be paid solely from the general assets of the
Company. Nothing in this Plan shall be construed to create a trust or to
establish or evidence any Participant's claim of any right other than as an
unsecured general creditor with respect to any payment to which he or she may be
entitled.
4.2 Timing of Payment. Payment of each Actual Award shall be made as
-----------------
soon as practicable, but no later than 90 days after the end of the Performance
Period during which the Award was earned.
4.3 Form of Payment. Each Actual Award normally shall be paid in
---------------
cash (or its equivalent) in a single lump sum. However, the Committee, in its
sole discretion, may declare any Actual Award, in whole or in part, payable in
restricted stock granted under the Company's
6
<PAGE>
Equity Incentive Plan. The number of Shares of restricted stock granted shall be
determined by dividing the cash amount foregone by the Fair Market Value of a
Share on the date that the cash payment otherwise would have been made. Any such
restricted stock shall be subject to the vesting schedule (not to exceed two
calendar years) as may be determined by the Committee, provided that accelerated
vesting automatically shall occur upon death, Retirement or involuntary
Termination of Service without cause.
4.4 Payment in the Event of Death or Disability. If a Participant
-------------------------------------------
dies or becomes Disabled prior to the payment of an Actual Award earned by him
or her prior to death or Disability for a prior Performance Period, the Award
shall be paid to his or her estate or to the Participant, as the case may be,
subject to the Committee's discretion to reduce or eliminate any Actual Award
otherwise payable.
SECTION 5
ADMINISTRATION
5.1 Committee is the Administrator. The Plan shall be administered
------------------------------
by the Committee. The Committee shall consist of not less than two (2) members
of the Board. The members of the Committee shall be appointed from time to time
by, and serve at the pleasure of, the Board. Each member of the Committee shall
qualify as an "outside director" under section 162(m) of the Code. If it is
later determined that one or more members of the Committee do not so qualify,
actions taken by the Committee prior to such determination shall be valid
despite such failure to qualify.
5.2 Committee Authority. It shall be the duty of the Committee to
-------------------
administer the Plan in accordance with the Plan's provisions. The Committee
shall have all powers and discretion necessary or appropriate to administer the
Plan and to control its operation, including, but not limited to, the power to
(a) determine which Employees shall be granted awards, (b) prescribe the terms
and conditions of awards, (c) interpret the Plan and the awards, (d) adopt such
procedures and subplans as are necessary or appropriate to permit participation
in the Plan by Employees who are foreign nationals or employed outside of the
United States, (e) adopt rules for the administration, interpretation and
application of the Plan as are consistent therewith, and (f) interpret, amend or
revoke any such rules.
5.3 Decisions Binding. All determinations and decisions made by the
-----------------
Committee, the Board, and any delegate of the Committee pursuant to the
provisions of the Plan shall be final, conclusive, and binding on all persons,
and shall be given the maximum deference permitted by law.
5.4 Delegation by the Committee. The Committee, in its sole
---------------------------
discretion and on such terms and conditions as it may provide, may delegate all
or part of its authority and powers under the Plan to one or more directors
and/or officers of the Company; provided, however, that the Committee may
delegate its authority and powers only with respect to awards that are not
intended to qualify as performance-based compensation under section 162(m) of
the Code.
7
<PAGE>
SECTION 6
GENERAL PROVISIONS
6.1 Tax Withholding. The Company shall withhold all applicable taxes
---------------
from any Actual Award, including any federal, state and local taxes (including,
but not limited to, the Participant's FICA and SDI obligations).
6.2 No Effect on Employment or Service. Nothing in the Plan shall
----------------------------------
interfere with or limit in any way the right of the Company to terminate any
Participant's employment or service at any time, with or without cause. For
purposes of the Plan, transfer of employment of a Participant between the
Company and any one of its Affiliates (or between Affiliates) shall not be
deemed a Termination of Service. Employment with the Company and its Affiliates
is on an at-will basis only. The Company expressly reserves the right, which may
be exercised at any time and without regard to when during a Performance Period
such exercise occurs, to terminate any individual's employment with or without
cause, and to treat him or her without regard to the effect which such treatment
might have upon him or her as a Participant.
6.3 Participation. No Employee shall have the right to be selected
-------------
to receive an award under this Plan, or, having been so selected, to be selected
to receive a future award.
6.4 Indemnification. Each person who is or shall have been a member
---------------
of the Committee, or of the Board, shall be indemnified and held harmless by the
Company against and from (a) any loss, cost, liability, or expense that may be
imposed upon or reasonably incurred by him or her in connection with or
resulting from any claim, action, suit, or proceeding to which he or she may be
a party or in which he or she may be involved by reason of any action taken or
failure to act under the Plan or any award, and (b) from any and all amounts
paid by him or her in settlement thereof, with the Company's approval, or paid
by him or her in satisfaction of any judgment in any such claim, action, suit,
or proceeding against him or her, provided he or she shall give the Company an
opportunity, at its own expense, to handle and defend the same before he or she
undertakes to handle and defend it on his or her own behalf. The foregoing right
of indemnification shall not be exclusive of any other rights of indemnification
to which such persons may be entitled under the Company's Certificate of
Incorporation or Bylaws, by contract, as a matter of law, or otherwise, or under
any power that the Company may have to indemnify them or hold them harmless.
6.5 Successors. All obligations of the Company under the Plan, with
----------
respect to awards granted hereunder, shall be binding on any successor to the
Company, whether the existence of such successor is the result of a direct or
indirect purchase, merger, consolidation, or otherwise, of all or substantially
all of the business or assets of the Company.
6.6 Beneficiary Designations. If permitted by the Committee, a
------------------------
Participant under the Plan may name a beneficiary or beneficiaries to whom any
vested but unpaid award shall be paid in the event of the Participant's death.
Each such designation shall revoke all prior designations by the Participant and
shall be effective only if given in a form and manner acceptable to the
Committee. In the absence of any such designation, any vested benefits remaining
unpaid at the Participant's death shall be paid to the Participant's estate.
8
<PAGE>
6.7 Nontransferability of Awards. No award granted under the Plan
----------------------------
may be sold, transferred, pledged, assigned, or otherwise alienated or
hypothecated, other than by will, by the laws of descent and distribution, or to
the limited extent provided in Section 6.6. All rights with respect to an award
granted to a Participant shall be available during his or her lifetime only to
the Participant.
SECTION 7
AMENDMENT, TERMINATION AND DURATION
7.1 Amendment, Suspension or Termination. The Board, in its sole
------------------------------------
discretion, may amend or terminate the Plan, or any part thereof, at any time
and for any reason. The amendment, suspension or termination of the Plan shall
not, without the consent of the Participant, alter or impair any rights or
obligations under any Target Award theretofore granted to such Participant. No
award may be granted during any period of suspension or after termination of the
Plan.
7.2 Duration of the Plan. The Plan shall commence on the date
--------------------
specified herein, and subject to Section 7.1 (regarding the Board's right to
amend or terminate the Plan), shall remain in effect thereafter.
SECTION 8
LEGAL CONSTRUCTION
8.1 Gender and Number. Except where otherwise indicated by the
-----------------
context, any masculine term used herein also shall include the feminine; the
plural shall include the singular and the singular shall include the plural.
8.2 Severability. In the event any provision of the Plan shall be
------------
held illegal or invalid for any reason, the illegality or invalidity shall not
affect the remaining parts of the Plan, and the Plan shall be construed and
enforced as if the illegal or invalid provision had not been included.
8.3 Requirements of Law. The granting of awards under the Plan shall
-------------------
be subject to all applicable laws, rules and regulations, and to such approvals
by any governmental agencies or national securities exchanges as may be
required.
8.4 Governing Law. The Plan and all awards shall be construed in
-------------
accordance with and governed by the laws of the State of California, but without
regard to its conflict of law provisions.
8.5 Captions. Captions are provided herein for convenience only, and
--------
shall not serve as a basis for interpretation or construction of the Plan.
9
<PAGE>
EXECUTION
IN WITNESS WHEREOF, The PMI Group, Inc., by its duly authorized
officer, has executed the Plan on the date indicated below.
THE PMI GROUP, INC.
Dated: _____________, 1999 By: /s/ Charles Broom
-------------------------------
Name: Charles Broom
Title: V.P. Human Resources
10
<PAGE>
EXHIBIT 10.2
THE PMI GROUP, INC.
EQUITY INCENTIVE PLAN
(FEBRUARY 18, 1999 RESTATEMENT)
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
SECTION 1 BACKGROUND, PURPOSE AND DURATION.............................. 1
1.1 Effective Date................................................ 1
1.2 Purpose of the Plan........................................... 1
SECTION 2 DEFINITIONS................................................... 1
2.1 "1934 Act".................................................... 1
2.2 "Affiliate"................................................... 1
2.3 "Award"....................................................... 1
2.4 "Award Agreement"............................................. 1
2.5 "Board"....................................................... 1
2.6 "Change of Control"........................................... 2
2.7 "Code"........................................................ 3
2.8 "Committee"................................................... 3
2.9 "Company"..................................................... 4
2.10 "Consultant".................................................. 4
2.11 "Deferred Compensation Account"............................... 4
2.12 "Determination Date".......................................... 4
2.13 "Director".................................................... 4
2.14 "Disability".................................................. 4
2.15 "Employee".................................................... 4
2.16 "Exercise Price".............................................. 4
2.17 "Fair Market Value"........................................... 4
2.18 "Fiscal Year"................................................. 4
2.19 "Grant Date".................................................. 4
2.20 "Incentive Stock Option"...................................... 4
2.21 "Nonqualified Stock Option"................................... 4
2.22 "Option"...................................................... 5
2.23 "Participant"................................................. 5
2.24 "Performance Goals"........................................... 5
2.25 "Performance Period".......................................... 5
2.26 "Performance Share"........................................... 5
2.27 "Performance Unit"............................................ 5
2.28 "Period of Restriction"....................................... 5
2.29 "Plan"........................................................ 5
2.30 "Restricted Stock"............................................ 5
2.31 "Retirement".................................................. 5
2.32 "Rule 16b-3".................................................. 5
2.33 "Section 16 Person"........................................... 6
2.34 "Share"....................................................... 6
2.35 "Stock Unit".................................................. 6
2.36 "Subsidiary".................................................. 6
2.37 "Termination of Service"...................................... 6
</TABLE>
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<PAGE>
TABLE OF CONTENTS
(CONTINUED)
<TABLE>
<CAPTION>
PAGE
<S> <C>
SECTION 3 ADMINISTRATION................................................ 6
3.1 The Committee................................................. 6
3.2 Authority of the Committee.................................... 6
3.3 Delegation by the Committee................................... 7
3.4 Decisions Binding............................................. 7
SECTION 4 SHARES SUBJECT TO THE PLAN.................................... 7
4.1 Number of Shares.............................................. 7
4.2 Lapsed Awards................................................. 7
4.3 Adjustments in Awards and Authorized Shares................... 7
SECTION 5 STOCK OPTIONS................................................. 7
5.1 Grant of Options.............................................. 7
5.2 Award Agreement............................................... 8
5.3 Exercise Price................................................ 8
5.3.1 Nonqualified Stock Options............................. 8
5.3.2 Incentive Stock Options................................ 8
5.3.3 Substitute Options..................................... 8
5.4 Expiration of Options......................................... 8
5.4.1 Expiration Dates....................................... 8
5.4.2 Death of Participant................................... 9
5.4.3 Committee Discretion................................... 9
5.5 Exercisability of Options..................................... 9
5.5.1 Special Rule for Retirement, Death and Disability...... 9
5.5.2 Special Rule for Change of Control..................... 9
5.6 Payment....................................................... 9
5.7 Restrictions on Share Transferability......................... 10
5.8 Deferral...................................................... 10
5.8.1 Election to Defer Option Proceeds...................... 10
5.8.2 Form and Timing of Payment............................. 10
5.8.3 Participants Remain Unsecured Creditors................ 11
5.8.4 Nontransferability of Deferred Option Compensation
Accounts............................................... 11
5.8.5 Provisions of the Officer Deferred Compensation Plan
May Govern............................................. 11
5.9 Certain Additional Provisions for Incentive Stock Options..... 11
5.9.1 Exercisability......................................... 11
5.9.2 Termination of Service................................. 11
5.9.3 Company and Subsidiaries Only.......................... 11
5.9.4 Expiration............................................. 11
5.10 Grant of Reload Options....................................... 11
SECTION 6 RESTRICTED STOCK.............................................. 12
6.1 Grant of Restricted Stock..................................... 12
6.2 Restricted Stock Agreement.................................... 12
</TABLE>
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<PAGE>
TABLE OF CONTENTS
(CONTINUED)
<TABLE>
<CAPTION>
PAGE
<S> <C>
6.3 Transferability............................................... 12
6.4 Other Restrictions............................................ 12
6.4.1 General Restrictions................................... 12
6.4.2 Section 162(m) Performance Restrictions................ 12
6.4.3 Legend on Certificates................................. 13
6.5 Removal of Restrictions....................................... 13
6.5.1 Special Rule for Retirement, Death and Disability...... 13
6.5.2 Special Rule for Change of Control..................... 13
6.6 Voting Rights................................................. 13
6.7 Dividends and Other Distributions............................. 13
6.8 Return of Restricted Stock to Company......................... 14
SECTION 7 PERFORMANCE UNITS AND PERFORMANCE SHARES...................... 14
7.1 Grant of Performance Units and Shares......................... 14
7.2 Initial Value................................................. 14
7.3 Performance Objectives and Other Terms........................ 14
7.3.1 General Performance Objectives......................... 14
7.3.2 Section 162(m) Performance Objectives.................. 14
7.4 Earning of Performance Units and Performance Shares........... 14
7.4.1 Special Rule for Retirement, Death and Disability...... 15
7.4.2 Special Rule for Change of Control..................... 15
7.5 Form and Timing of Payment.................................... 15
7.5.1 Deferrals.............................................. 15
7.6 Cancellation.................................................. 15
SECTION 8 MISCELLANEOUS................................................. 15
8.1 No Effect on Employment or Service............................ 15
8.2 Participation................................................. 16
8.3 Indemnification............................................... 16
8.4 Successors.................................................... 16
8.5 Beneficiary Designations...................................... 16
8.6 Nontransferability of Awards.................................. 16
8.7 No Rights as Stockholder...................................... 17
8.8 Withholding Requirements...................................... 17
8.9 Withholding Arrangements...................................... 17
SECTION 9 AMENDMENT, TERMINATION AND DURATION........................... 17
9.1 Amendment, Suspension or Termination.......................... 17
9.2 Duration of the Plan.......................................... 17
SECTION 10 LEGAL CONSTRUCTION............................................ 18
10.1 Gender and Number............................................. 18
10.2 Severability.................................................. 18
10.3 Requirements of Law........................................... 18
</TABLE>
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<PAGE>
TABLE OF CONTENTS
(CONTINUED)
<TABLE>
<CAPTION>
PAGE
<S> <C>
10.4 Governing Law................................................. 18
10.5 Captions...................................................... 18
</TABLE>
-iv-
<PAGE>
THE PMI GROUP, INC.
EQUITY INCENTIVE PLAN
(February 18, 1999 Restatement)
SECTION 1
BACKGROUND, PURPOSE AND DURATION
1.1 Effective Date. The PMI Group, Inc. having established Plan,
--------------
hereby amends and restates the Plan, effective as of February 18, 1999, subject
to the approval of the Plan by a majority of the shares of the common stock of
the Company which are present in person or by proxy and entitled to vote at the
1999 Annual Meeting of the Stockholders of the Company. The terms of the Plan,
as in effect prior to February 18, 1999, shall govern any outstanding Awards
granted prior to February 18, 1999.
1.2 Purpose of the Plan. The Plan is intended to increase incentives
-------------------
and to encourage Share ownership on the part of (1) employees of the Company and
its Affiliates, and (2) consultants who provide significant services to the
Company and its Affiliates. The Plan also is intended to further the growth and
profitability of the Company. The Plan is intended to permit the grant of Awards
that qualify as performance-based compensation under section 162(m) of the Code.
SECTION 2
DEFINITIONS
The following words and phrases shall have the following meanings
unless a different meaning is plainly required by the context:
2.1 "1934 Act" means the Securities Exchange Act of 1934, as amended.
--------
Reference to a specific section of the 1934 Act or regulation thereunder shall
include such section or regulation, any valid regulation promulgated under such
section, and any comparable provision of any future legislation or regulation
amending, supplementing or superseding such section or regulation.
2.2 "Affiliate" means any corporation or any other entity (including,
---------
but not limited to, partnerships and joint ventures) controlling, controlled by,
or under common control with the Company.
2.3 "Award" means, individually or collectively, a grant under the
-----
Plan of Nonqualified Stock Options, Incentive Stock Options, Restricted Stock,
Performance Units or Performance Shares.
2.4 "Award Agreement" means the written agreement setting forth the
---------------
terms and provisions applicable to each Award granted under the Plan.
2.5 "Board" means the Board of Directors of the Company.
-----
<PAGE>
2.6 "Change of Control" means:
-----------------
(a) The acquisition by any individual, entity or group (within
the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of
1934, as amended (the "Exchange Act")) (a "Person") of beneficial ownership
(within the meaning of Rule 13d-3 promulgated under the Exchange Act) of twenty
percent (20%) or more of either (i) the then outstanding shares of common stock
of the Company (the "Outstanding Company Common Stock") or (ii) the combined
voting power of the then outstanding voting securities of the Company entitled
to vote generally in the election of directors (the "Outstanding Company Voting
Securities"); provided, however, that for purposes of this subsection (a), the
following shall not constitute a Change of Control: (i) any acquisition directly
from the Company, (ii) any acquisition by the Company, (iii) any acquisition by
any employee benefit plan (or related trust) sponsored or maintained by the
Company or any corporation controlled by the Company, (iv) any beneficial
ownership maintained by (but not additional acquisitions by), The Allstate
Corporation and its subsidiaries, and their respective successors ("Allstate"),
pending such time that Allstate distributes or transfers its current ownership
interest in the Outstanding Company Common Stock and Outstanding Company Voting
Securities as contemplated by the Prospectus dated April 10, 1995, relating to
the initial public offering of the common stock of the Company, or (v) any
acquisition pursuant to a transaction which complies with clauses (i), (ii) and
(iii) of subsection (c) of this Section 2.6. Notwithstanding the foregoing, in
its sole discretion, the Board may increase the twenty percent (20%) threshold
set forth above in this subsection (a) prior to any acquisition of twenty
percent (20%) or more beneficial ownership of the Outstanding Company Common
Stock or the Outstanding Company Voting Securities; provided, that (i) such
increased threshold shall apply only to the acquisition and maintenance of
beneficial ownership by any Person eligible to report such beneficial ownership
at the time of such acquisition on Schedule 13G under the Exchange Act, and (ii)
in the event that any Person initially eligible to so report on Schedule 13G
thereafter ceases to be eligible to so report on Schedule 13G, the occurrence of
the event causing such Person no longer to be eligible to so report shall be
deemed an acquisition by such Person of all of the Outstanding Company Common
Stock and Outstanding Company Voting Securities beneficially owned by such
Person immediately prior to such occurrence; or
(b) Individuals who, as of the date hereof, constitute the Board
(the "Incumbent Board") cease for any reason to constitute at least a majority
of the Board; provided, however, that any individual becoming a director
subsequent to the date hereof whose election, or nomination for election by the
Company's shareholders, was approved by a vote of at least a majority of the
directors then comprising the Incumbent Board shall be considered as though such
individual were a member of the Incumbent Board, but excluding, for this
purpose, any such individual whose initial assumption of office occurs as a
result of an actual or threatened election contest with respect to the election
or removal of directors or other actual or threatened solicitation of proxies or
consents by or on behalf of a Person other than the Board; or
(c) Consummation by the Company of a reorganization, merger or
consolidation or sale or other disposition of all or substantially all of the
assets of the Company or the acquisition of assets of another entity (a
"Business Combination"), in each case, unless, following such Business
Combination, (i) all or substantially all of the individuals and entities
2
<PAGE>
who were the beneficial owners, respectively, of the Outstanding Company Common
Stock and Outstanding Company Voting Securities immediately prior to such
Business Combination beneficially own, directly or indirectly, more than sixty
percent (60%) of, respectively, the then outstanding shares of common stock and
the combined voting power of the then outstanding voting securities entitled to
vote generally in the election of directors, as the case may be, of the
corporation resulting from such Business Combination (including, without
limitation, a corporation which as a result of such transaction owns the Company
or all or substantially all of the Company's assets either directly or through
one or more subsidiaries) in substantially the same proportions as their
ownership, immediately prior to such Business Combination of the Outstanding
Company Common Stock and Outstanding Company Voting Securities, as the case may
be, (ii) no Person (excluding any employee benefit plan (or related trust) of
the Company or such corporation resulting from such Business Combination)
beneficially owns, directly or indirectly, twenty percent (20%) or more of,
respectively, the then outstanding shares of common stock of the corporation
resulting from such Business Combination or the combined voting power of the
then outstanding voting securities of such corporation except to the extent that
such ownership existed prior to the Business Combination and (iii) at least a
majority of the members of the board of directors of the corporation resulting
from such Business Combination were members of the Incumbent Board at the time
of the execution of the initial agreement, or of the action of the Board,
providing for such Business Combination; or
(d) Approval by the shareholders of the Company of a complete
liquidation or dissolution of the Company.
Notwithstanding the foregoing, a Change of Control shall not be deemed
to occur solely because any Person acquires beneficial ownership of twenty
percent (20%) or more of the Outstanding Company Voting Securities or
Outstanding Company Common Stock as a result of the acquisition of such
securities or stock by the Company, which acquisition reduces the number of the
Outstanding Company Voting Securities or Outstanding Company Common Stock;
provided, that if after such acquisition by the Company such Person (while such
Person remains the beneficial owner of twenty percent (20%) or more of the
Outstanding Company Voting Securities or Outstanding Company Common Stock)
becomes the beneficial owner of additional shares of such Outstanding Company
Voting Securities or Outstanding Company Common Stock (as the case may be), a
Change of Control shall then occur. Capitalized terms used in this Section 2.6,
not otherwise defined, shall have the meaning set forth in the form of change of
control employment agreement approved at the February 12, 1998 meeting of the
Board.
2.7 "Code" means the Internal Revenue Code of 1986, as amended.
----
Reference to a specific section of the Code or regulation thereunder shall
include such section or regulation, any valid regulation promulgated thereunder,
and any comparable provision of any future legislation or regulation amending,
supplementing or superseding such section or regulation.
2.8 "Committee" means the committee appointed by the Board (pursuant
---------
to Section 3.1) to administer the Plan. Unless otherwise determined by the
Board, the Company's Compensation Committee shall constitute the Committee.
3
<PAGE>
2.9 "Company" means The PMI Group, Inc., a Delaware corporation, or
-------
any successor thereto.
2.10 "Consultant" means any consultant, independent contractor, or
----------
other person who provides significant services to the Company or its Affiliates,
but who is neither an Employee nor a Director.
2.11 "Deferred Compensation Account" means an account established in
-----------------------------
the name of the Participant on the books and records of the Company pursuant to
Section 5.8.
2.12 "Determination Date" means the latest possible date that will
------------------
not jeopardize an Award's qualification as performance-based compensation under
section 162(m) of the Code. Notwithstanding the previous sentence, for Awards
not intended to qualify as performance-based compensation, "Determination Date"
shall mean such date as the Committee may determine in its discretion.
2.13 "Director" means any individual who is a member of the Board.
--------
2.14 "Disability" means a permanent and total disability within the
----------
meaning of section 22(e)(3) of the Code, provided that in the case of Awards
other than Incentive Stock Options, the Committee in its discretion may
determine whether a permanent and total disability exists in accordance with
uniform and non-discriminatory standards adopted by the Committee from time to
time.
2.15 "Employee" means any employee of the Company or of an Affiliate,
--------
whether such employee is so employed at the time the Plan is adopted or becomes
so employed subsequent to the adoption of the Plan.
2.16 "Exercise Price" means the price at which a Share may be
--------------
purchased by a Participant pursuant to the exercise of an Option.
2.17 "Fair Market Value" means the mean between the high and low
-----------------
prices for Shares on the relevant date, or if there were no sales on such date,
the arithmetic mean of the highest and lowest quoted selling prices on the
nearest day before and the nearest day after the relevant date, as determined by
the Committee.
2.18 "Fiscal Year" means the fiscal year of the Company.
-----------
2.19 "Grant Date" means, with respect to an Award, the date that the
----------
Award was granted. The Grant Date shall be the date on which the Committee
approves the material terms of the Award or such later date as the Committee, in
its discretion, may determine.
2.20 "Incentive Stock Option" means an Option to purchase Shares
----------------------
which is designated as an Incentive Stock Option and is intended to meet the
requirements of section 422 of the Code.
4
<PAGE>
2.21 "Nonqualified Stock Option" means an option to purchase Shares
-------------------------
which is not intended to be an Incentive Stock Option.
2.22 "Option" means an Incentive Stock Option or a Nonqualified Stock
------
Option.
2.23 "Participant" means an Employee or Consultant who has an
-----------
outstanding Award.
2.24 "Performance Goals" means the goal(s) (or combined goal(s))
-----------------
determined by the Committee (in its discretion) to be applicable to a
Participant with respect to an Award. As determined by the Committee, the
Performance Goals applicable to an Award may provide for a targeted level or
levels of achievement using one or more of the following measures: (a) Cash
Operating Earnings Per Share, (b) Earnings Per Share, (c) Expense Ratio, (d)
Loss Ratio, (e) Market Share, (f) Net Income, (g) Net Operating Income Earnings
Per Share, (h) Net Operating Income Per Share, (i) New Insurance Written, (j)
Price to Earnings Ratio, (k) Return on Average Equity, (l) Risk in Force, and
(m) Total Shareholder Return. The Performance Goals may differ from Participant
to Participant and from Award to Award. Any criteria used may be measured in
absolute terms or as compared to another company or companies. Any criteria used
may be measured against the performance of the Company as a whole or a segment
of the Company.
2.25 "Performance Period" means any period of not less than twelve
------------------
consecutive calendar months, as determined by the Committee, in its sole
discretion.
2.26 "Performance Share" means a Performance Share granted to a
-----------------
Participant pursuant to Section 7.
2.27 "Performance Unit" means a Performance Unit granted to a
----------------
Participant pursuant to Section 7.
2.28 "Period of Restriction" means the period during which shares of
---------------------
Restricted Stock are subject to forfeiture and/or restrictions on
transferability.
2.29 "Plan" means The PMI Group, Inc. Equity Incentive Plan, as set
----
forth in this instrument and as hereafter amended from time to time.
2.30 "Restricted Stock" means an Award granted to a Participant
----------------
pursuant to Section 6.
2.31 "Retirement" means, in the case of an Employee, (a) a
----------
Termination of Service occurring on or after age sixty five (65), (b) a
Termination of Service at or after age 55 with at least ten years of Benefit
Accrual Service (as defined under The PMI Group, Inc. Retirement Plan, as
amended), or (c) a Termination of Service approved by the Company as an early
retirement; provided that in the case of a Section 16 Person, such early
retirement must be approved by the Committee. With respect to a Consultant, no
Termination of Service shall be deemed to be on account of "Retirement."
5
<PAGE>
2.32 "Rule 16b-3" means Rule 16b-3 promulgated under the 1934 Act, as
----------
amended, and any future regulation amending, supplementing or superseding such
regulation.
2.33 "Section 16 Person" means a person who, with respect to the
-----------------
Shares, is subject to section 16 of the 1934 Act.
2.34 "Share" means one share of the Company's common stock, $.01 par
-----
value.
2.35 "Stock Unit" means a bookkeeping entry initially representing an
----------
amount equivalent to the Fair Market Value of one Share covered by the exercise
of an Option in respect of which the Participant has made a deferral election
pursuant to Section 5.8. Stock Units represent an unfunded and unsecured
obligation of the Company.
2.36 "Subsidiary" means any corporation in an unbroken chain of
----------
corporations beginning with the Company if each of the corporations other than
the last corporation in the unbroken chain then owns stock possessing fifty
percent (50%) or more of the total combined voting power of all classes of stock
in one of the other corporations in such chain.
2.37 "Termination of Service" means (a) in the case of an Employee, a
----------------------
cessation of the employee-employer relationship between an Employee and the
Company or an Affiliate for any reason, including, but not by way of limitation,
a termination by resignation, discharge, death, Disability, Retirement, or the
disaffiliation of an Affiliate, but excluding any such termination where there
is a simultaneous reemployment by the Company or an Affiliate; and (b) in the
case of a Consultant, a cessation of the service relationship between a
Consultant and the Company or an Affiliate for any reason, including, but not by
way of limitation, a termination by resignation, discharge, death, Disability,
or the disaffiliation of an Affiliate, but excluding any such termination where
there is a simultaneous re-engagement of the consultant by the Company or an
Affiliate.
SECTION 3
ADMINISTRATION
3.1 The Committee. The Plan shall be administered by the Committee.
-------------
The Committee shall consist of not less than two (2) Directors. The members of
the Committee shall be appointed from time to time by, and serve at the pleasure
of, the Board. Each member of the Committee shall qualify as (a) a "non-employee
director" under Rule 16b-3, and (b) an "outside director" under section 162(m)
of the Code. If it is later determined that one or more members of the Committee
do not so qualify, actions taken by the Committee prior to such determination
shall be valid despite such failure to qualify.
3.2 Authority of the Committee. It shall be the duty of the
--------------------------
Committee to administer the Plan in accordance with the Plan's provisions. The
Committee shall have all powers and discretion necessary or appropriate to
administer the Plan and to control its operation, including, but not limited to,
the power to (a) determine which Employees and Consultants shall be granted
Awards, (b) prescribe the terms and conditions of the Awards, (c) interpret the
Plan and the Awards, (d) adopt such procedures and subplans as are necessary or
appropriate to permit participation in the Plan by Employees and Consultants who
are foreign
6
<PAGE>
nationals or employed outside of the United States, (e) adopt rules for the
administration, interpretation and application of the Plan as are consistent
therewith, and (f) interpret, amend or revoke any such rules.
3.3 Delegation by the Committee. The Committee, in its sole
---------------------------
discretion and on such terms and conditions as it may provide, may delegate all
or any part of its authority and powers under the Plan to one or more Directors
and/or officers of the Company; provided, however, that the Committee may not
delegate its authority and powers (a) with respect to Section 16 Persons, (b) in
any way which would jeopardize the Plan's qualification under Rule 16b-3, or (c)
with respect to Awards which are intended to qualify as performance-based
compensation under section 162(m) of the Code.
3.4 Decisions Binding. All determinations and decisions made by the
-----------------
Committee, the Board, and any delegate of the Committee pursuant to the
provisions of the Plan shall be final, conclusive, and binding on all persons,
and shall be given the maximum deference permitted by law.
SECTION 4
SHARES SUBJECT TO THE PLAN
4.1 Number of Shares. Subject to adjustment as provided in Section
----------------
4.3, the total number of Shares available for grant under the Plan shall not
exceed 2,900,000. Notwithstanding the preceding, the aggregate number of Shares
subject to Awards of Restricted Stock granted under the Plan shall not exceed
90,000 and the aggregate number of Shares subject to Awards of Performance Units
and Performance Shares granted under the Plan shall not exceed 90,000. Shares
granted under the Plan may be either authorized but unissued Shares or treasury
Shares.
4.2 Lapsed Awards. If an Award terminates, expires, or lapses for
-------------
any reason, any Shares subject to such Award again shall be available to be the
subject of an Award. In addition, if any Shares are tendered to the Company
(whether by physical delivery or attestation) as full or partial payment for the
exercise of an Option or in satisfaction of a tax withholding obligation
pursuant to an Award, only the net Shares issued shall be deemed delivered for
purposes of determining the maximum number of Shares that may be delivered under
Section 4.1.
4.3 Adjustments in Awards and Authorized Shares. In the event of any
-------------------------------------------
merger, reorganization, consolidation, recapitalization, separation,
liquidation, stock dividend, split-up, Share combination, or other change in the
corporate structure of the Company affecting the Shares, the Committee shall
adjust the number, class, and price of Shares which may be delivered under the
Plan, the number, and class of Shares subject to outstanding Awards, and the
numerical limit of Section 5.1, 6.1 and 7.1 in such manner as the Committee (in
its sole discretion) shall determine to be appropriate to prevent the dilution
or diminution of such Awards.
7
<PAGE>
SECTION 5
STOCK OPTIONS
5.1 Grant of Options. Subject to the terms and provisions of the
----------------
Plan, Options may be granted to Employees and Consultants at any time and from
time to time as determined by the Committee in its sole discretion. The
Committee, in its sole discretion, shall determine the number of Shares subject
to each Option, provided that during any Fiscal Year, no Participant shall be
granted Options covering more than 200,000 Shares. The Committee may grant
Incentive Stock Options, Nonqualified Stock Options, or a combination thereof.
5.2 Award Agreement. Each Option shall be evidenced by an Award
---------------
Agreement that shall specify the Exercise Price, the expiration date of the
Option, the number of Shares to which the Option pertains, any conditions to
exercise of the Option, and such other terms and conditions as the Committee, in
its discretion, shall determine. The Award Agreement shall specify whether the
Option is intended to be an Incentive Stock Option or a Nonqualified Stock
Option.
5.3 Exercise Price. Subject to the provisions of this Section 5.3,
--------------
the Exercise Price for each Option shall be determined by the Committee in its
sole discretion.
5.3.1 Nonqualified Stock Options. In the case of a
--------------------------
Nonqualified Stock Option, the Exercise Price shall be not less than one hundred
percent (100%) of the Fair Market Value of a Share on the Grant Date.
5.3.2 Incentive Stock Options. In the case of an Incentive
-----------------------
Stock Option, the Exercise Price shall be not less than one hundred percent
(100%) of the Fair Market Value of a Share on the Grant Date; provided, however,
that if on the Grant Date, the Employee (together with persons whose stock
ownership is attributed to the Employee pursuant to section 424(d) of the Code)
owns stock possessing more than ten percent (10%) of the total combined voting
power of all classes of stock of the Company or any of its Subsidiaries, the
Exercise Price shall be not less than one hundred and ten percent (110%) of the
Fair Market Value of a Share on the Grant Date.
5.3.3 Substitute Options. Notwithstanding the provisions of
------------------
Sections 5.3.1 and 5.3.2, in the event that the Company or an Affiliate
consummates a transaction described in section 424(a) of the Code (e.g., the
acquisition of property or stock from an unrelated corporation), persons who
become Employees or Consultants on account of such transaction may be granted
Options in substitution for options granted by their former employer. If such
substitute Options are granted, the Committee, in its sole discretion and
consistent with section 424(a) of the Code, shall determine the exercise price
of such substitute Options.
5.4 Expiration of Options.
---------------------
5.4.1 Expiration Dates. Each Option shall terminate no later
----------------
than the first to occur of the following events:
(a) The expiration of ten (10) years from the Grant Date; or
8
<PAGE>
(b) The expiration of one (1) year from the date of the
Participant's Termination of Service for a reason other than the Participant's
death, Disability or Retirement; or
(c) The expiration of three (3) years from the date of the
Participant's Termination of Service by reason of Disability; or
(d) The expiration of three (3) years from the date of the
Participant's Retirement (subject to Section 5.9.2 regarding Incentive Stock
Options); or
(e) The date for termination of the Option determined by the
Committee in its sole discretion and set forth in the written Award Agreement.
5.4.2 Death of Participant. Notwithstanding Section 5.4.1, if a
--------------------
Participant who is an Employee dies prior to the expiration of his or her
Options, the Committee, in its discretion, may provide that his or her Options
shall be exercisable for up to three (3) years after the date of death. If a
Participant who is a Consultant dies prior to the expiration of his or her
Options, the Committee, in its discretion, may provide that his or her Options
shall be exercisable for up to three (3) years after the date of death.
5.4.3 Committee Discretion. Subject to the limits of Sections 5.4.1
--------------------
and 5.4.2, the Committee, in its sole discretion, (a) shall provide in each
Award Agreement when each Option expires and becomes unexercisable, and (b) may,
after an Option is granted and before such Option expires, extend the maximum
term of the Option (subject to Section 5.9.4 regarding Incentive Stock Options).
5.5 Exercisability of Options. Options granted under the Plan shall
-------------------------
be exercisable at such times and be subject to such restrictions and conditions
as the Committee shall determine in its sole discretion. After an Option is
granted, the Committee, in its sole discretion, may accelerate the
exercisability of the Option.
5.5.1 Special Rule for Retirement, Death and Disability.
-------------------------------------------------
Notwithstanding any contrary provision of the Plan, the right to exercise each
Option shall accrue as to one hundred percent (100%) of the Shares subject to
such Option upon the Participant's Termination of Service due to Retirement,
death or Disability.
5.5.2 Special Rule for Change of Control. Notwithstanding any
----------------------------------
contrary provision of the Plan, immediately upon the occurrence of a Change of
Control that occurs prior to a Participant's Termination of Service, the right
to exercise each Option then outstanding shall accrue as to one hundred percent
(100%) of the Shares subject to such Option. Notwithstanding the preceding
provisions of this Section 5.5.2, if the Committee determines that the
acceleration of vesting of Options following a Change of Control would cause a
Change of Control transaction to be ineligible for pooling of interests
accounting under APB No. 16, which transaction (but for such accelerated
vesting) otherwise would have been eligible for such accounting treatment, the
Committee, in its sole discretion, may determine that no such accelerated
vesting shall occur.
9
<PAGE>
5.6 Payment. Options shall be exercised by the Participant's
-------
delivery of a written notice of exercise to the Secretary of the Company (or its
designee), setting forth the number of Shares with respect to which the Option
is to be exercised, accompanied by full payment for the Shares.
Upon the exercise of any Option, the Exercise Price shall be payable
to the Company in full in cash or its equivalent. The Committee, in its sole
discretion, also may permit exercise (a) by tendering previously acquired Shares
having an aggregate Fair Market Value at the time of exercise equal to the total
Exercise Price, or (b) by any other means which the Committee, in its sole
discretion, determines to both provide legal consideration for the Shares, and
to be consistent with the purposes of the Plan.
Subject to Section 5.8, as soon as practicable after receipt of a
written notification of exercise and full payment for the Shares purchased, the
Company shall deliver to the Participant (or the Participant's designated
broker), Share certificates (which may be in book entry form) representing such
Shares.
5.7 Restrictions on Share Transferability. The Committee may impose
-------------------------------------
such restrictions on any Shares acquired pursuant to the exercise of an Option
as it may deem advisable, including, but not limited to, restrictions related to
applicable Federal securities laws, the requirements of any national securities
exchange or system upon which Shares are then listed or traded, or any blue sky
or state securities laws.
5.8 Deferral.
--------
5.8.1 Election to Defer Option Proceeds. Notwithstanding any
---------------------------------
contrary provision of the Plan, a Participant who is eligible to defer income
under the Company's Officer Deferred Compensation Plan may elect, at the
discretion of, and in accordance with rules which may be established by, the
Committee, to defer delivery of the proceeds of exercise of an Option which is
exercised by means of an exchange of Shares as described in Section 5.6(a),
provided that Shares tendered or applied in exercise of such Option shall have
been held by the Participant for at least six (6) months prior to such exercise.
A Participant's election as provided in the preceding sentence shall be
irrevocable. Notwithstanding any other provision of this Section 5.8, a
deferral election made by a Participant pursuant to this Section 5.8.1 shall be
void and shall not be given effect unless (i) the Participant's deferral
election is made at least six (6) full calendar months prior to the calendar
month in which the Option otherwise would expire, (ii) the Participant's
deferral election is made at least six (6) full calendar months prior to the
calendar month in which the Option is exercised, and (iii) the Participant is
employed by or is rendering services to the Company or any of its Subsidiaries
on the date of exercise of the Option. For purposes of either or both of
clauses (i) or (ii) of the preceding sentence, rules established by the
Committee may require an election earlier than the six (6) calendar month period
described therein. Upon exercise of an Option to which a deferral election
applies, the Shares covered by such exercise shall not be issued or transferred
to the Participant, and instead, a number of Stock Units equal to the number of
Shares covered by such exercise and in respect of which the Participant has made
a deferral election, shall be credited to a Deferred Option Compensation
10
<PAGE>
Account at the date of exercise. A separate Deferred Option Compensation Account
shall be maintained with respect to each Participant and to each effective
deferral election.
5.8.2 Form and Timing of Payment. Payment of Stock Units shall
--------------------------
be made by issuance of Shares on such date or dates or upon the occurrence of
such event or events as the Committee may authorize the Participant to designate
at the time a deferral election under Section 5.8.1 is made, provided, however,
that in no event shall payment occur more than sixty (60) days after a
Participant's Termination of Service for any reason. The number of Shares to be
so distributed may be increased by dividend equivalents, which may be valued as
if reinvested in Shares. Until payment of a Stock Unit is made, the number of
Shares represented by a Stock Unit shall be subject to adjustment pursuant to
Section 4.3.
5.8.3 Participants Remain Unsecured Creditors. Participants
---------------------------------------
have the status of general unsecured creditors of the Company with respect to
their Deferred Option Compensation Accounts, and such accounts constitute a mere
promise by the Company to make payments with respect thereto.
5.8.4 Nontransferability of Deferred Option Compensation
--------------------------------------------------
Accounts. A Participant's right to benefit payments with respect to the Deferred
Option Compensation Accounts may not be anticipated, alienated, sold,
transferred, assigned, pledged, encumbered, attached or garnished by creditors
of the Participant or the Participant's beneficiary and any attempt to do so
shall be void and shall not be given effect.
5.8.5 Provisions of the Officer Deferred Compensation Plan May
--------------------------------------------------------
Govern. To the extent determined by the Committee, any amount deferred under
this Section 5.8, and any Deferred Option Compensation Account, may be treated
and held as a portion of the Company's Officer Deferred Compensation Plan, in
which event the provisions of such plan shall govern the operation and
administration of amounts deferred under this Section 5.8 and credited to
Deferred Option Compensation Accounts.
5.9 Certain Additional Provisions for Incentive Stock Options.
---------------------------------------------------------
5.9.1 Exercisability. The aggregate Fair Market Value
--------------
(determined on the Grant Date(s)) of the Shares with respect to which Incentive
Stock Options are exercisable for the first time by any Employee during any
calendar year (under all plans of the Company and its Subsidiaries) shall not
exceed $100,000.
5.9.2 Termination of Service. If any portion of an Incentive
----------------------
Stock Option is exercised more than three (3) months after the Participant's
Termination of Service for any reason other than Disability or death (unless (a)
the Participant dies during such three-month period, and (b) the Award Agreement
or the Committee permits later exercise), the portion so exercised shall be
deemed a Nonqualified Stock Option.
5.9.3 Company and Subsidiaries Only. Incentive Stock Options
-----------------------------
may be granted only to persons who are employees of the Company or a Subsidiary
on the Grant Date.
11
<PAGE>
5.9.4 Expiration. No Incentive Stock Option may be exercised
----------
after the expiration of ten (10) years from the Grant Date; provided, however,
that if the Option is granted to an Employee who, together with persons whose
stock ownership is attributed to the Employee pursuant to section 424(d) of the
Code, owns stock possessing more than ten percent (10%) of the total combined
voting power of all classes of the stock of the Company or any of its
Subsidiaries, the Option may not be exercised after the expiration of five (5)
years from the Grant Date.
5.10 Grant of Reload Options. The Committee may provide in an Award
-----------------------
Agreement that a Participant who exercises all or part of an Option by payment
of the Exercise Price with already-owned Shares, shall be granted an additional
option (a "Reload Option") for a number of shares of stock equal to the number
of Shares tendered to exercise the previously granted Option plus, if the
Committee so determines, any Shares withheld or delivered in satisfaction of any
tax withholding requirements. As determined by the Committee, each Reload
Option shall (a) have a Grant Date which is the date as of which the previously
granted Option is exercised, and (b) be exercisable on the same terms and
conditions as the previously granted Option, except that the Exercise Price
shall be determined as of the Grant Date.
SECTION 6
RESTRICTED STOCK
6.1 Grant of Restricted Stock. Subject to the terms and provisions
-------------------------
of the Plan, the Committee, at any time and from time to time, may grant Shares
of Restricted Stock to Employees and Consultants in such amounts as the
Committee, in its sole discretion, shall determine. The Committee, in its sole
discretion, shall determine the number of Shares to be granted to each
Participant, provided that during any Fiscal Year, no Participant shall be
granted more than 10,000 Shares of Restricted Stock.
6.2 Restricted Stock Agreement. Each Award of Restricted Stock shall
--------------------------
be evidenced by an Award Agreement that shall specify the Period of Restriction,
the number of Shares granted, any price to be paid for the Shares, and such
other terms and conditions as the Committee, in its sole discretion, shall
determine. Unless the Committee determines otherwise, Shares of Restricted
Stock shall be held by the Company as escrow agent until the restrictions on
such Shares have lapsed.
6.3 Transferability. Shares of Restricted Stock may not be sold,
---------------
transferred, pledged, assigned, or otherwise alienated or hypothecated until the
end of the applicable Period of Restriction.
6.4 Other Restrictions. The Committee, in its sole discretion, may
------------------
impose such other restrictions on Shares of Restricted Stock as it may deem
advisable or appropriate, in accordance with this Section 6.4.
6.4.1 General Restrictions. The Committee may set restrictions
--------------------
based upon the achievement of specific performance objectives (Company-wide,
business unit or individual), applicable federal or state securities laws, or
any other basis determined by the Committee in its discretion.
12
<PAGE>
6.4.2 Section 162(m) Performance Restrictions. For purposes of
---------------------------------------
qualifying grants of Restricted Stock as "performance-based compensation" under
section 162(m) of the Code, the Committee, in its discretion, may set
restrictions based upon the achievement of Performance Goals. The Performance
Goals shall be set by the Committee on or before the latest date permissible to
enable the Restricted Stock to qualify as "performance-based compensation" under
section 162(m) of the Code. In granting Restricted Stock which is intended to
qualify under section 162(m) of the Code, the Committee shall follow any
procedures determined by it from time to time to be necessary or appropriate to
ensure qualification of the Restricted Stock under section 162(m) of the Code
(e.g., in determining the Performance Goals).
6.4.3 Legend on Certificates. The Committee, in its
----------------------
discretion, maylegend the certificates representing Restricted Stock to give
appropriate notice of such restrictions. For example, the Committee may
determine that some or all certificates representing Shares of Restricted Stock
shall bear the following legend:
"The sale or other transfer of the shares of stock represented by
this certificate, whether voluntary, involuntary, or by operation of law, is
subject to certain restrictions on transfer as set forth in The PMI Group, Inc.
Equity Incentive Plan, and in a Restricted Stock Agreement. A copy of the Plan
and such Restricted Stock Agreement may be obtained from the Secretary of The
PMI Group, Inc."
6.5 Removal of Restrictions. Shares of Restricted Stock covered by
-----------------------
each Restricted Stock grant made under the Plan shall be released from escrow as
soon as practicable after the last day of the Period of Restriction. The
Committee, in its discretion, may accelerate the time at which any restrictions
shall lapse, and remove any restrictions. After the restrictions have lapsed,
the Participant shall be entitled to have any legend or legends under Section
6.4 removed from his or her Share certificate, and the Shares shall be freely
transferable by the Participant.
6.5.1 Special Rule for Retirement, Death and Disability.
-------------------------------------------------
Notwithstanding any contrary provision of the Plan, one hundred percent (100%)
of any outstanding Shares of Restricted Stock shall be one hundred percent
(100%) vested in the Participant upon the Participant's Termination of Service
due to Retirement, death or Disability.
6.5.2 Special Rule for Change of Control. Notwithstanding any
----------------------------------
contrary provision of the Plan, immediately upon the occurrence of a Change of
Control that occurs prior to a Participant's Termination of Service, one hundred
percent (100%) of any outstanding Shares of Restricted Stock shall be one
hundred percent (100%) vested in the Participant. Notwithstanding the preceding
provisions of this Section 6.5.2, if the Committee determines that the
acceleration of vesting of Restricted Stock following a Change of Control would
cause a Change of Control transaction to be ineligible for pooling of interests
accounting under APB No. 16, which transaction (but for such accelerated
vesting) otherwise would have been eligible for such accounting treatment, the
Committee, in its sole discretion, may determine that no such accelerated
vesting shall occur.
13
<PAGE>
6.6 Voting Rights. During the Period of Restriction, Participants
-------------
holding Shares of Restricted Stock granted hereunder may exercise full voting
rights with respect to those Shares, unless otherwise provided in the Award
Agreement.
6.7 Dividends and Other Distributions. During the Period of
---------------------------------
Restriction, Participants holding Shares of Restricted Stock shall be entitled
to receive all dividends and other distributions paid with respect to such
Shares unless otherwise provided in the Award Agreement. If any such dividends
or distributions are paid in Shares, the Shares shall be subject to the same
restrictions on transferability and forfeitability as the Shares of Restricted
Stock with respect to which they were paid.
6.8 Return of Restricted Stock to Company. On the date set forth in
-------------------------------------
the Award Agreement, the Restricted Stock for which restrictions have not lapsed
shall revert to the Company and again shall become available for grant under the
Plan.
SECTION 7
PERFORMANCE UNITS AND PERFORMANCE SHARES
7.1 Grant of Performance Units and Shares. Performance Units and
-------------------------------------
Performance Shares may be granted to Employees and Consultants at any time and
from time to time, as shall be determined by the Committee, in its sole
discretion. The Committee shall have complete discretion in determining the
number of Performance Units and Performance Shares granted to any Participant,
provided that during any Fiscal Year no more than 10,000 Performance Units or
Performance Shares may be granted to any Participant.
7.2 Initial Value. Each Performance Unit shall have an initial value
-------------
that is established by the Committee on or before the Grant Date, provided that
such value shall not exceed the Fair Market Value of a Share on the Grant Date.
Each Performance Share shall have an initial value equal to the Fair Market
Value of a Share on the Grant Date.
7.3 Performance Objectives and Other Terms. The Committee shall set
--------------------------------------
performance objectives in its discretion which, depending on the extent to which
they are met, will determine the number or value of Performance Units or Shares
that will be paid out to the Participants. The Committee may set performance
objectives based upon the achievement of Company-wide, business unit, or
individual goals, or any other basis determined by the Committee in its
discretion. The time period during which the performance objectives must be met
shall be called the "Performance Period." Each Award of Performance Units or
Shares shall be evidenced by an Award Agreement that shall specify the
Performance Period, and such other terms and conditions as the Committee, in its
sole discretion, shall determine.
7.3.1 General Performance Objectives. The Committee may set
------------------------------
performance objectives based upon the achievement of Company-wide, business unit
or individual goals, or any other basis determined by the Committee in its
discretion.
7.3.2 Section 162(m) Performance Objectives. For purposes of
-------------------------------------
qualifying grants of Performance Units or Shares as "performance-based
compensation" under section 162(m) of the Code, the Committee, in its
discretion, may determine that the performance
14
<PAGE>
objectives applicable to Performance Units or Shares shall be based on the
achievement of Performance Goals. The Performance Goals shall be set by the
Committee on or before the latest date permissible to enable the Performance
Units or Shares to qualify as "performance-based compensation" under section
162(m) of the Code. In granting Performance Units or Shares which are intended
to qualify under section 162(m) of the Code, the Committee shall follow any
procedures determined by it from time to time to be necessary or appropriate to
ensure qualification of the Performance Units or Shares under section 162(m) of
the Code (e.g., in determining the Performance Goals).
7.4 Earning of Performance Units and Performance Shares. After the
---------------------------------------------------
applicable Performance Period has ended, the Participant shall be entitled to
receive a payout of the number of Performance Units or Shares earned during the
Performance Period, depending upon the extent to which the applicable
performance objectives have been achieved. After the grant of a Performance
Unit or Share, the Committee, in its sole discretion, may reduce or waive any
performance objectives for Award, except with respect to Awards which are
intended to qualify as performance-based compensation under Section 162(m) of
the Code.
7.4.1 Special Rule for Retirement, Death and Disability.
-------------------------------------------------
Notwithstanding any contrary provision of the Plan, upon the Participant's
Termination of Service due to Retirement, death or Disability, one hundred
percent (100%) of any outstanding Performance Units or Shares shall be deemed to
be earned and shall be immediately payable to the Participant, or, in cases
where a Participant has received a target award of Performance Units or Shares,
one hundred percent (100%) of the target amount shall vest.
7.4.2 Special Rule for Change of Control. Notwithstanding any
----------------------------------
contrary provision of the Plan, immediately upon the occurrence of a Change of
Control that occurs prior to a Participant's Termination of Service, one hundred
percent (100%) of any outstanding Performance Units or Shares shall be deemed to
be earned and shall be immediately payable to the Participant, or, in cases
where a Participant has received a target award of Performance Units or Shares,
one hundred percent (100%) of the target amount shall vest. Notwithstanding the
preceding provisions of this Section 7.4.2, if the Committee determines that the
acceleration of vesting of Performance Units or Shares following a Change of
Control would cause a Change of Control transaction to be ineligible for pooling
of interests accounting under APB No. 16, which transaction (but for such
accelerated vesting) otherwise would have been eligible for such accounting
treatment, the Committee, in its sole discretion, may determine that no such
accelerated vesting shall occur.
7.5 Form and Timing of Payment. Subject to Section 7.5.1, payment of
--------------------------
earned Performance Units or Performance Shares shall be made as soon as
practicable after the expiration of the applicable Performance Period. The
Committee, in its sole discretion, may pay such earned Awards in cash, Shares or
a combination thereof.
7.5.1 Deferrals. The Committee, in its sole discretion, may
---------
permit a Participant to defer receipt of the payment of cash or the delivery of
Shares that would otherwise be delivered to a Participant under this Section
7.5. Any such deferral elections shall be subject to such rules and procedures
as shall be determined by the Committee in its sole discretion.
15
<PAGE>
7.6 Cancellation. On the date set forth in the Award Agreement, all
------------
unearned or unvested Performance Units or Performance Shares shall be forfeited
to the Company, and again shall be available for grant under the Plan.
SECTION 8
MISCELLANEOUS
8.1 No Effect on Employment or Service. Nothing in the Plan shall
----------------------------------
interfere with or limit in any way the right of the Company to terminate any
Participant's employment or service at any time, with or without cause. For
purposes of the Plan, transfer of employment of a Participant between the
Company and any one of its Affiliates (or between Affiliates) shall not be
deemed a Termination of Service. Employment with the Company and its Affiliates
is on an at-will basis only.
8.2 Participation. No Employee or Consultant shall have the right to
-------------
be selected to receive an Award under this Plan, or, having been so selected, to
be selected to receive a future Award.
8.3 Indemnification. Each person who is or shall have been a member
---------------
of the Committee, or of the Board, shall be indemnified and held harmless by the
Company against and from (a) any loss, cost, liability, or expense that may be
imposed upon or reasonably incurred by him or her in connection with or
resulting from any claim, action, suit, or proceeding to which he or she may be
a party or in which he or she may be involved by reason of any action taken or
failure to act under the Plan or any Award Agreement, and (b) from any and all
amounts paid by him or her in settlement thereof, with the Company's approval,
or paid by him or her in satisfaction of any judgment in any such claim, action,
suit, or proceeding against him or her, provided he or she shall give the
Company an opportunity, at its own expense, to handle and defend the same before
he or she undertakes to handle and defend it on his or her own behalf. The
foregoing right of indemnification shall not be exclusive of any other rights of
indemnification to which such persons may be entitled under the Company's
Certificate of Incorporation or Bylaws, by contract, as a matter of law, or
otherwise, or under any power that the Company may have to indemnify them or
hold them harmless.
8.4 Successors. All obligations of the Company under the Plan, with
----------
respect to Awards granted hereunder, shall be binding on any successor to the
Company, whether the existence of such successor is the result of a direct or
indirect purchase, merger, consolidation or otherwise, of all or substantially
all of the business or assets of the Company.
8.5 Beneficiary Designations. If permitted by the Committee, a
------------------------
Participant under the Plan may name a beneficiary or beneficiaries to whom any
vested but unpaid Award shall be paid in the event of the Participant's death.
Each such designation shall revoke all prior designations by the Participant and
shall be effective only if given in a form and manner acceptable to the
Committee. In the absence of any such designation, any vested benefits
remaining unpaid at the Participant's death shall be paid to the Participant's
estate and, subject to the terms of the Plan and of the applicable Award
Agreement, any unexercised vested Award may be exercised by the administrator or
executor of the Participant's estate.
16
<PAGE>
8.6 Nontransferability of Awards. No Award granted under the Plan
----------------------------
may be sold, transferred, pledged, assigned, or otherwise alienated or
hypothecated, other than by will, by the laws of descent and distribution, or to
the limited extent provided in Section 8.5. All rights with respect to an Award
granted to a Participant shall be available during his or her lifetime only to
the Participant. Notwithstanding the foregoing, the Participant may, in a
manner specified by the Committee, transfer a Nonqualified Stock Option by bona
fide gift and not for any consideration, to (a) a member of the Participant's
immediate family, (b) a trust or other entity for the exclusive benefit of the
Participant and/or a member or members of the Participant's immediate family,
(c) a partnership, limited liability company or other entity whose only partners
or members are the Participant and/or a member or members of the Participant's
immediate family, or (d) a tax-qualified, not for profit organization.
8.7 No Rights as Stockholder. Except to the limited extent provided
------------------------
in Sections 6.6 and 6.7, no Participant (nor any beneficiary) shall have any of
the rights or privileges of a stockholder of the Company with respect to any
Shares issuable pursuant to an Award (or exercise thereof), unless and until
certificates representing such Shares shall have been issued, recorded on the
records of the Company or its transfer agents or registrars, and delivered to
the Participant (or beneficiary).
8.8 Withholding Requirements. Prior to the delivery of any Shares or
------------------------
cash pursuant to an Award (or exercise thereof), the Company shall have the
power and the right to deduct or withhold, or require a Participant to remit to
the Company, an amount sufficient to satisfy federal, state, local and foreign
taxes (including the Participant's FICA obligation) required to be withheld with
respect to such Award (or exercise thereof). Notwithstanding any contrary
provision of the Plan, if a Participant fails to remit to the Company such
withholding amount within the time period specified by the Committee (in its
discretion), the Participant's Award may, in the Committee's discretion, be
forfeited and in such case the Participant shall not receive any of the Shares
subject to such Award.
8.9 Withholding Arrangements. The Committee, in its sole discretion
------------------------
and pursuant to such procedures as it may specify from time to time, may permit
or require a Participant to satisfy all or part of the tax withholding
obligations in connection with an Award by (a) having the Company withhold
otherwise deliverable Shares, or (b) delivering to the Company already-owned
Shares having a Fair Market Value equal to the amount required to be withheld.
The amount of the withholding requirement shall be deemed to include any amount
which the Committee determines, not to exceed the amount determined by using the
maximum federal, state, local or foreign jurisdiction marginal income tax rates
applicable to the Participant with respect to the Award on the date that the
amount of tax to be withheld is to be determined. The Fair Market Value of the
Shares to be withheld or delivered shall be determined as of the date that the
taxes are required to be withheld.
SECTION 9
AMENDMENT, TERMINATION AND DURATION
9.1 Amendment, Suspension or Termination. The Board, in its sole
------------------------------------
discretion, may amend or terminate the Plan, or any part thereof, at any time
and for any reason.
17
<PAGE>
The amendment, suspension or termination of the Plan shall not, without the
consent of the Participant, alter or impair any rights or obligations under any
Award theretofore granted to such Participant. No Award may be granted during
any period of suspension or after termination of the Plan.
9.2 Duration of the Plan. The Plan shall commence on the date
--------------------
specified herein, and subject to Section 9.1 (regarding the Board's right to
amend or terminate the Plan), shall remain in effect thereafter. However,
without further stockholder approval, no Incentive Stock Option may be granted
under the Plan after ten (10) years from the Effective Date.
SECTION 10
LEGAL CONSTRUCTION
10.1 Gender and Number. Except where otherwise indicated by the
-----------------
context, any masculine term used herein also shall include the feminine; the
plural shall include the singular and the singular shall include the plural.
10.2 Severability. In the event any provision of the Plan shall be
------------
held illegal or invalid for any reason, the illegality or invalidity shall not
affect the remaining parts of the Plan, and the Plan shall be construed and
enforced as if the illegal or invalid provision had not been included.
10.3 Requirements of Law. The granting of Awards and the issuance of
-------------------
Shares under the Plan shall be subject to all applicable laws, rules and
regulations, and to such approvals by any governmental agencies or national
securities exchanges as may be required.
10.4 Governing Law. The Plan and all Award Agreements shall be
-------------
construed in accordance with and governed by the laws of the State of
California, but without regard to its conflict of law provisions.
10.5 Captions. Captions are provided herein for convenience only,
--------
and shall not serve as a basis for interpretation or construction of the Plan.
18
<PAGE>
EXECUTION
IN WITNESS WHEREOF, The PMI Group, Inc., by its duly authorized
officer, has executed the Plan on the date indicated below.
THE PMI GROUP, INC.
Dated: 3/17, 1999 By /s/ Charles Broom
---------------------------
Name: Charles Broom
Title: V.P Human Resources
19
<PAGE>
EXHIBIT 10.26
THE PMI GROUP, INC.
OFFICER DEFERRED COMPENSATION PLAN
(Effective July 1, 1997)
(Amended and Restated as of July 23, 1998)
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
<S> <C> <C>
SECTION 1 DEFINITIONS................................... 1
1.1 "Affiliate...................................... 1
1.2 "Beneficiary.................................... 1
1.3 "Board of Directors............................. 1
1.4 "Change of Control.............................. 1
1.5 "Code........................................... 3
1.6 "Committee...................................... 3
1.7 "Company........................................ 3
1.8 "Compensation................................... 3
1.9 "Compensation Deferrals......................... 3
1.10 "Disability.................................... 4
1.11 "Eligible Employee............................. 4
1.12 "Employers..................................... 4
1.13 "ERISA......................................... 4
1.14 "Financial Hardship............................ 4
1.15 "Insurance Company............................. 4
1.16 "Participant................................... 4
1.17 "Participant's Account......................... 4
1.18 "Plan.......................................... 4
1.19 "Plan Year..................................... 5
1.20 "Qualified Institutional Investor.............. 5
1.21 "1934 Act...................................... 5
SECTION 2................................................ 5
PARTICIPATION............................................ 5
2.1 Participation................................... 5
2.1.1. Initial Elections by Current Employees.. 5
2.1.2. Initial Elections by Other Employees.... 5
2.1.3. Elections for Subsequent Plan Years..... 5
2.1.4. Separate Election to Defer Bonuses...... 5
2.1.5. No Election Changes During Plan Year.... 6
2.1.6. Specific Timing and Method of Election.. 6
2.2 Suspension of Compensation Deferrals............ 6
2.2.1. Automatic Suspension.................... 6
2.2.2. Permissible Suspension.................. 6
2.3 Termination of Participation.................... 6
</TABLE>
-i-
<PAGE>
TABLE OF CONTENTS
(continued)
<TABLE>
<CAPTION>
<S> <C>
SECTION 3...................................................... 6
COMPENSATION DEFERRAL ELECTIONS................................ 6
3.1 Compensation Deferrals................................ 6
3.2 Crediting of Compensation Deferrals................... 7
3.3 Deemed Investment Return on Accounts.................. 7
3.4 Form of Payment....................................... 7
3.5 Term of Deferral...................................... 7
3.6 Changes in Elections as to Term and Form for Payment.. 8
SECTION 4...................................................... 8
ACCOUNTING..................................................... 8
4.1 Participants' Accounts................................ 8
4.2 Participants Remain Unsecured Creditors............... 8
4.3 Accounting Methods.................................... 8
4.4 Reports............................................... 8
SECTION 5...................................................... 9
DISTRIBUTIONS.................................................. 9
5.1 Normal Time for Distribution.......................... 9
5.2 Change of Control..................................... 9
5.3 Special Rule for Death or Disability.................. 9
5.4 Special Rule re Deductibility......................... 9
5.5 Latest Permissible Distribution Date.................. 10
5.6 Beneficiary Designations.............................. 10
5.6.1. Spousal Consent............................... 10
5.6.2. Changes and Failed Designations............... 10
5.7 Financial Hardship.................................... 11
5.8 Payments to Incompetents.............................. 11
5.9 Undistributable Accounts.............................. 11
5.10 Committee Discretion................................. 11
SECTION 6...................................................... 11
PARTICIPANT'S INTEREST IN ACCOUNT.............................. 11
6.1 Compensation Deferral Contributions................... 11
SECTION 7...................................................... 12
ADMINISTRATION OF THE PLAN..................................... 12
7.1 Plan Administrator.................................... 12
7.2 Committee............................................. 12
7.3 Actions by Committee.................................. 12
</TABLE>
-ii-
<PAGE>
TABLE OF CONTENTS
(continued)
<TABLE>
<CAPTION>
<S> <C>
7.4 Powers of Committee....................................... 12
7.5 Decisions of Committee.................................... 13
7.6 Administrative Expenses................................... 13
7.7 Eligibility to Participate................................ 13
7.8 Indemnification........................................... 13
SECTION 8.......................................................... 14
FUNDING............................................................ 14
8.1 Unfunded Plan............................................. 14
SECTION 9.......................................................... 14
MODIFICATION OR TERMINATION OF PLAN................................ 14
9.1 Employers' Obligations Limited............................ 14
9.2 Right to Amend or Terminate............................... 14
9.3 Effect of Termination..................................... 14
SECTION 10......................................................... 15
GENERAL PROVISIONS................................................. 15
10.1 Participation by Affiliates.............................. 15
10.2 Inalienability........................................... 15
10.3 Rights and Duties........................................ 15
10.4 No Enlargement of Employment Rights...................... 15
10.5 Apportionment of Costs and Duties........................ 15
10.6 Compensation Deferrals Not Counted Under Other Employee
Benefit Plans............................................ 15
10.7 Applicable Law........................................... 15
10.8 Severability............................................. 16
10.9 Captions................................................. 16
APPENDIX A......................................................... 17
</TABLE>
-iii-
<PAGE>
THE PMI GROUP, INC.
OFFICER DEFERRED COMPENSATION PLAN
(Effective July 1, 1997)
THE PMI GROUP, INC., a Delaware corporation, hereby establishes The
PMI Group, Inc. Officer Deferred Compensation Plan, effective July 1, 1997, for
the benefit of a select group of management and highly compensated employees of
the Company and its participating Affiliates, in order to provide such employees
with certain deferred compensation benefits. The Plan is an unfunded deferred
compensation plan that is intended to qualify for the exemptions provided in
sections 201, 301, and 401 of ERISA.
SECTION 1
DEFINITIONS
The following words and phrases shall have the following meanings
unless a different meaning is plainly required by the context:
1.1 "Affiliate" shall mean (a) the Company, and (b) each corporation,
trade or business which is, together with any Employer, a member of a controlled
group of corporations or an affiliated service group or under common control
(within the meaning of section 414(b), (c) or (m) of the Code), but only for the
period during which such other entity is so affiliated with any Employer.
1.2 "Beneficiary" shall mean the person or persons entitled to receive the
balance credited to a Participant's Account under the Plan upon the death of a
Participant, as provided in Section 5.4.
1.3 "Board of Directors" shall mean the Board of Directors of the Company,
as constituted from time to time.
1.4 "Change of Control" "Change of Control" shall mean:
(a) The acquisition by any individual, entity or group (within the meaning
of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as
amended (the "Exchange Act")) (a "Person") of beneficial ownership (within the
meaning of Rule 13d-3 promulgated under the Exchange Act) of 20% or more of
either (i) the then outstanding shares of common stock of the Company (the
"Outstanding Company Common Stock") or (ii) the combined voting power of the
then outstanding voting securities of the Company entitled to vote generally in
the election of
<PAGE>
directors (the "Outstanding Company Voting Securities"); provided, however, that
for purposes of this subsection (a), the following shall not constitute a Change
of Control: (i) any acquisition directly from the Company, (ii) any acquisition
by the Company, (iii) any acquisition by any employee benefit plan (or related
trust) sponsored or maintained by the Company or any corporation controlled by
the Company, (iv) any beneficial ownership maintained by (but not additional
acquisitions by), The Allstate Corporation and its subsidiaries, and their
respective successors ("Allstate"), pending such time that Allstate distributes
or transfers its current ownership interest in the Outstanding Company Common
Stock and Outstanding Company Voting Securities as contemplated by the
Prospectus dated April 10, 1995, relating to the initial public offering of the
common stock of the Company, or (v) any acquisition pursuant to a transaction
which complies with clauses (i), (ii) and (iii) of subsection (c) of this
Section 1.4. Notwithstanding the foregoing, in its sole discretion, the Board
may increase the 20% threshold set forth above in this subsection (a) prior to
any acquisition of 20% or more beneficial ownership of the Outstanding Company
Common Stock or the Outstanding Company Voting Securities; provided, that (i)
such increased threshold shall apply only to the acquisition and maintenance of
beneficial ownership by any Person eligible to report such beneficial ownership
at the time of such acquisition on Schedule 13G under the Exchange Act, and (ii)
in the event that any Person initially eligible to so report on Schedule 13G
thereafter ceases to be eligible to so report on Schedule 13G, the occurrence of
the event causing such Person no longer to be eligible to so report shall be
deemed an acquisition by such Person of all of the Outstanding Company Common
Stock and Outstanding Company Voting Securities beneficially owned by such
Person immediately prior to such occurrence; or
(b) Individuals who, as of the date hereof, constitute the Board (the
"Incumbent Board") cease for any reason to constitute at least a majority of the
Board; provided, however, that any individual becoming a director subsequent to
the date hereof whose election, or nomination for election by the Company's
shareholders, was approved by a vote of at least a majority of the directors
then comprising the Incumbent Board shall be considered as though such
individual were a member of the Incumbent Board, but excluding, for this
purpose, any such individual whose initial assumption of office occurs as a
result of an actual or threatened election contest with respect to the election
or removal of directors or other actual or threatened solicitation of proxies or
consents by or on behalf of a Person other than the Board; or
(c) Consummation by the Company of a reorganization, merger or
consolidation or sale or other disposition of all or substantially all of the
assets of the Company or the acquisition of assets of another entity (a
"Business Combination"), in each case, unless, following such Business
Combination, (i) all or substantially all of the individuals and entities who
were the beneficial owners, respectively, of the Outstanding Company Common
Stock and Outstanding Company Voting Securities immediately prior to such
Business Combination beneficially own, directly or indirectly, more than 60% of,
respectively, the then outstanding shares of common stock and the combined
voting power of the then outstanding voting securities entitled to vote
generally in the election of directors, as the case may be, of the corporation
resulting from such Business Combination (including, without limitation, a
corporation which as a result of such transaction owns the Company or all or
substantially all of the Company's assets either directly or through one or more
subsidiaries) in substantially the same proportions as their ownership,
immediately prior to such Business Combination of the Outstanding Company Common
Stock
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and Outstanding Company Voting Securities, as the case may be, (ii) no Person
(excluding any employee benefit plan (or related trust) of the Company or such
corporation resulting from such Business Combination) beneficially owns,
directly or indirectly, 20% or more of, respectively, the then outstanding
shares of common stock of the corporation resulting from such Business
Combination or the combined voting power of the then outstanding voting
securities of such corporation except to the extent that such ownership existed
prior to the Business Combination and (iii) at least a majority of the members
of the board of directors of the corporation resulting from such Business
Combination were members of the Incumbent Board at the time of the execution of
the initial agreement, or of the action of the Board, providing for such
Business Combination; or
(d) Approval by the shareholders of the Company of a complete liquidation
or dissolution of the Company.
Notwithstanding the foregoing, a Change of Control shall not be deemed to
occur solely because any Person acquires beneficial ownership of 20% or more of
the Outstanding Company Voting Securities or Outstanding Company Common Stock as
a result of the acquisition of such securities or stock by the Company, which
acquisition reduces the number of the Outstanding Company Voting Securities or
Outstanding Company Common Stock; provided, that if after such acquisition by
the Company such Person (while such Person remains the beneficial owner of 20%
or more of the Outstanding Company Voting Securities or Outstanding Company
Common Stock) becomes the beneficial owner of additional shares of such
Outstanding Company Voting Securities or Outstanding Company Common Stock (as
the case may be), a Change of Control shall then occur. Capitalized terms used
in this Section 1.4, not otherwise defined, shall have the meaning set forth in
the form of change of control employment agreement approved at the February 12,
1998 meeting of the Board of Directors.
1.5 "Code" shall mean the Internal Revenue Code of 1986, as amended.
Reference to a specific section of the Code shall include such section, any
valid regulation promulgated thereunder, and any comparable provision of any
future legislation amending, supplementing or superseding such section.
1.6 "Committee" shall mean the committee appointed by (and serving at the
pleasure of) the Chief Executive Officer of the Company (the "CEO") to
administer the Plan. As of the effective date of the Plan, the members of the
Committee shall be the CEO and the Company's senior human resources officer.
1.7 "Company" shall mean The PMI Group, Inc., a Delaware corporation.
1.8 "Compensation" shall mean the base salary and bonuses (if any) of a
Participant. The Committee, in its discretion, shall from time to time
designate the types of bonuses which shall be eligible for deferral under the
Plan. A Participant's Compensation shall not include any other type of
remuneration.
1.9 "Compensation Deferrals" shall mean the amounts credited to
Participants' Accounts under the Plan pursuant to their deferral elections made
in accordance with Section 2.1.
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1.10 "Disability" or "Disabled" shall mean the mental or physical
inability of a Participant to perform the regularly assigned duties of his or
her employment, provided that such inability (a) has continued or is expected to
continue for a period of at least 6 months and (b) is evidenced by the
certificate of a physician satisfactory to the Committee stating that such
inability exists and is likely to be permanent.
1.11 "Eligible Employee" shall mean an employee of an Employer who holds
office at the level of Vice President or above, including any Assistant Vice
President or Field Vice President. Notwithstanding the preceding, the Board of
Directors, in its sole discretion, may (a) change the required title for
purposes of determining eligibility for the Plan, and (b) determine that one or
more otherwise eligible employees of an Employer shall not be Eligible
Employees.
1.12 "Employers" shall mean the Company and each of its Affiliates that
adopts the Plan with the approval of the Board of Directors. With respect to an
individual Participant, "Employer" shall mean the Company or its Affiliate that
(a) directly employs such Participant, and (b) has adopted the Plan (with the
approval of the Board of Directors).
1.13 "ERISA" shall mean the Employee Retirement Income Security Act of
1974, as amended. Reference to a specific section of ERISA shall include such
section, any valid regulation promulgated thereunder, and any comparable
provision of any future legislation amending, supplementing or superseding such
section.
1.14 "Financial Hardship" shall mean a severe financial emergency which is
caused by a sudden and unexpected accident, illness or other event beyond the
control of the Participant which, absent a suspension of deferrals under Section
2.2 or accelerated distribution under Section 5.5, would result in severe
financial burden to the Participant or a member of his or her immediate family.
A Financial Hardship does not exist to the extent that the hardship may be
relieved by (a) reimbursement or compensation by insurance, (b) by liquidation
of the Participant's other assets (to the extent such liquidation would not
itself cause severe financial hardship), or (c) any loan available to the
Participant (to the extent the payments on such loan would not themselves cause
severe financial hardship.
1.15 "Insurance Company" shall mean PMI Mortgage Insurance Co., an Arizona
corporation. The Insurance Company is a wholly-owned subsidiary of the Company.
1.16 "Participant" shall mean an Eligible Employee who (a) has become a
Participant in the Plan pursuant to Section 2.1 and (b) has not ceased to be a
Participant pursuant to Section 2.3.
1.17 "Participant's Account" or "Account" shall mean, as to any
Participant, the separate account maintained on the books of the Insurance
Company in order to reflect his or her interest under the Plan.
1.18 "Plan" shall mean The PMI Group, Inc. Officer Deferred Compensation
Plan, as set forth in this instrument and as hereafter amended from time to
time.
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1.19 "Plan Year" shall mean the calendar year. Notwithstanding the
preceding, the 1997 Plan Year shall be the period July 1, 1997 (the effective
date of the Plan), through December 31, 1997.
1.20 "Qualified Institutional Investor" shall mean as of any time of
determination any Person (as defined in Section 1.4): (a) that is eligible to
file a Schedule 13G with respect to all securities of the Company beneficially
owned by such Person pursuant to Rule 13d-1(b)(1) promulgated under the 1934 Act
(as such Rule is in effect on the date hereof), (b) that is not required to file
a Schedule 13D under the 1934 Act (or any successor or comparable report) with
respect to any securities of the Company, and (c) that beneficially owns less
than 15% of the common stock of the Company, par value $.01 per share,
outstanding at the time of determination.
1.21 "1934 Act" means the Securities and Exchange Act of 1934, as
amended.
SECTION 2
PARTICIPATION
2.1 Participation. Each Eligible Employee's decision to become a
Participant shall be entirely voluntary.
2.1.1. Initial Elections by Current Employees. An Eligible Employee
may elect to become a Participant in the Plan by electing, no later than July
30, 1997, to make Compensation Deferrals under the Plan. An election under this
Section 2.1.1 to make Compensation Deferrals shall be effective only for the
remainder of the 1997 Plan Year.
2.1.2. Initial Elections by Other Employees. Each individual who
becomes an Eligible Employee after July 1, 1997 (whether by hire or promotion)
may elect to become a Participant in the Plan by electing, within thirty days of
the date of his or her hire or promotion (as the case may be), to make
Compensation Deferrals under the Plan. An election under this Section 2.1.2 to
make Compensation Deferrals shall be effective only for the remainder of the
Plan Year with respect to which the election is made.
2.1.3. Elections for Subsequent Plan Years. An Eligible Employee may
elect to become a Participant (or to continue or reinstate his or her active
participation) in the Plan for any subsequent Plan Year by electing, no later
than December 31 of the preceding Plan Year, to make Compensation Deferrals
under the Plan. An election under this Section 2.1.3 to make Compensation
Deferrals shall be effective only for the Plan Year with respect to which the
election is made.
2.1.4. Separate Election to Defer Bonuses. Each Eligible Employee
shall make a separate Compensation Deferral election with respect to the bonus
portion(s) (if any) of his or her Compensation. An Eligible Employee's
Compensation Deferral election with respect to his or her bonus(es) shall be
made no later than the deadline specified by the Committee for the
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particular Plan Year during which the Eligible Employee will perform the
services for which a bonus may be paid, except to the limited extent provided in
Section 2.1.2.
2.1.5. No Election Changes During Plan Year. After the beginning of
a Plan Year, a Participant shall not be permitted to change or revoke his or her
deferral election for such Plan Year, except to the limited extent provided in
Section 2.2.
2.1.6. Specific Timing and Method of Election. Notwithstanding any
contrary provision of this Section 2.1, the Committee, in its sole discretion,
shall determine the manner and deadlines for Participants to make Compensation
Deferral elections. The deadlines prescribed by the Committee may be earlier
than the deadlines specified in this Section 2.1, but shall not be later than
such specified deadlines.
2.2 Suspension of Compensation Deferrals.
2.2.1. Automatic Suspension. In the event that a Participant
receives a financial hardship withdrawal from The PMI Group, Inc. Savings and
Profit-Sharing Plan or any other plan (maintained by an Employer) which
contains a qualified cash or deferred arrangement under section 401(k) of the
Code (collectively, the "401(k) Plans"), the Participant's Compensation
Deferrals under the Plan (if any) shall be suspended for a period of twelve
(12) months from the date that the Participant received such hardship
withdrawal. Notwithstanding the preceding, the Participant's Compensation
Deferrals shall be not be so suspended if the Committee determines that such
suspension is not required in order to preserve the tax-qualification of the
401(k) Plans.
2.2.2. Permissible Suspension. In the event that a Participant
incurs a Financial Hardship, the Committee, in its sole discretion, may suspend
the Participant's Compensation Deferrals for the remainder of the Plan Year.
However, an election to make Compensation Deferrals under Section 2.1 shall be
irrevocable as to amounts deferred as of the effective date of any suspension in
accordance with this Section 2.2.2.
2.3 Termination of Participation. An Eligible Employee who has become a
Participant shall remain a Participant until his or her entire vested Account
balance is distributed. However, an Eligible Employee who has become a
Participant may or may not be an active Participant making Compensation
Deferrals for a particular Plan Year, depending upon whether he or she has
elected to make Compensation Deferrals for such Plan Year.
SECTION 3
COMPENSATION DEFERRAL ELECTIONS
3.1 Compensation Deferrals. At the times and in the manner prescribed in
Section 2.1, each Eligible Employee may elect to defer portions of his or her
Compensation and to have the amounts of such deferrals credited to his or her
Account. For each Plan Year, an Eligible Employee may elect to defer an amount
equal to any percentage or any specific dollar amount of his or her
Compensation, provided that the percentage or dollar amount elected by the
Participant shall result in an expected deferral at least the lesser of (a)
$5,000, or (b) 5% of his or her
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Compensation. Notwithstanding any contrary provision of the Plan, the Committee
may reduce a Participant's Compensation Deferrals to the extent necessary to
satisfy any required deductions for welfare plans or any deductions required by
law.
3.2 Crediting of Compensation Deferrals. The amounts deferred pursuant to
Section 3.1 shall reduce the Participant's Compensation for the Plan Year and
shall be credited to the Participant's Account as of the last day of the month
in which the amounts (but for the deferral) would have been paid to the
Participant. For each Plan Year, the exact dollar amount to be deferred from
each Compensation payment shall be determined by the Committee under such
formulae as it shall adopt from time to time.
3.3 Deemed Investment Return on Accounts. Although no assets will be
segregated or otherwise set aside with respect to a Participant's Account, the
amount that is ultimately payable to the Participant with respect to his or her
Account shall be determined as if such Account had been invested in such manner
as the Committee, in its discretion, may specify from time to time (including,
but not limited to, the equity return method. The Committee, in its sole
discretion, shall adopt (and may modify from time to time) such rules and
procedures as it deems necessary or appropriate to implement the deemed
investment of the Participants' Accounts. Such procedures shall (a) provide
that a Participant shall be entitled to make deemed investment elections as to
the deemed investment of his or her Account, and (b) permit a Participant to
elect (not less than once per calendar quarter) to have part or all of his or
her Account deemed to be invested in common stock of the Company (including
reinvestment of any deemed dividends). However, such procedures may differ
among Participants or classes of Participants, as determined by the Committee in
its discretion.
3.4 Form of Payment. Each Participant shall indicate on his or her
deferral election (made pursuant to Section 3.1) the form of payment for the
Compensation Deferrals made pursuant to such election. A Participant may elect
(a) a lump sum payment, or (b) a fixed number of annual installment payments
(not to exceed ten). A Participant's election as to the form of payment shall
apply to all amounts credited to the Participant's Account for the Plan Year
with respect to which the election is made, and except to the limited extent
provided in Section 3.6, shall be irrevocable.
3.5 Term of Deferral. Each Participant shall indicate on his or her
deferral election made pursuant to Section 3.1 the time for payment for
Compensation Deferrals (and deemed investment returns, gains and losses thereon)
made pursuant to such election. A Participant may elect a term of deferral
equal to any whole number (not less than one) of calendar years specified in his
or her deferral election. In addition, pursuant to such procedures as the
Committee (in its discretion) may adopt from time to time, a Participant may
elect a term of deferral which ends upon the later (or earlier) of the
expiration of a specified period or the occurrence of a specific event (for
example, the later of ten years or termination of employment with the Company
and all Affiliates). A Participant's election as to the term of deferral shall
apply to all amounts credited to the Participant's Account for the Plan Year
with respect to which the election is made, and except to the limited extent
provided in Section 3.6, shall be irrevocable.
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3.6 Changes in Elections as to Term and Form for Payment. A Participant
may change his or her election under Section 3.4 and/or Section 3.5 for amounts
credited to the Participant's Account for any Plan Year, provided that any such
election will be effective only if (a) such election is made at least two Plan
Years prior to the Plan Year in which payment of such amounts is scheduled to
commence (without giving effect to such election), (b) the newly elected
scheduled payment commencement date is not earlier than the second Plan Year
after the Plan Year in which such election is made, and (c) payment of such
amounts has not actually commenced. For example, if a Participant initially
elected to receive his or 1999 Plan Year deferrals in a lump sum to be paid
during the 2003 Plan Year, the Participant instead may elect to receive payment
in the form of ten annual installments commencing during the 2004 Plan Year,
provided that such election is made on or before December 31, 2001. (i.e., not
----
less than two Plan Years prior to the Plan Year in which payment of such amounts
previously was scheduled to commence, and with a newly elected scheduled payment
commencement date which is not earlier than the second Plan Year after the Plan
Year in which such election is made).
SECTION 4
ACCOUNTING
4.1 Participants' Accounts. For each Plan Year, at the direction of the
Committee, there shall be established and maintained on the books of the
Insurance Company, a separate Account or Accounts for each Participant to which
shall be credited all Compensation Deferrals made by the Participant during such
Plan Year, and deemed investment returns, gains and losses on such Compensation
Deferrals.
4.2 Participants Remain Unsecured Creditors. All amounts credited to a
Participant's Account under the Plan shall continue for all purposes to be a
part of the general assets of the Insurance Company. Each Participant's
interest in the Plan shall make him or her only a general, unsecured creditor of
the Insurance Company.
4.3 Accounting Methods. The accounting methods or formulae to be used
under the Plan for the purpose of maintaining the Participants' Accounts,
including the calculation and crediting (or debiting) of deemed returns, gains
and losses, shall be determined by the Committee, in its sole discretion. The
accounting methods or formulae selected by the Committee may be revised from
time to time.
4.4 Reports. Each Participant shall be furnished with periodic statements
of his or her Account, reflecting the status of his or her interest in the Plan,
at least annually.
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SECTION 5
DISTRIBUTIONS
5.1 Normal Time for Distribution. Subject to Sections 5.2 through 5.5 and
Section 5.10, distribution of the balance credited to a Participant's Account
shall commence as soon as administratively practicable after the end of the
term(s) of deferral elected by the Participant under Section 3.5, in accordance
with the following rules. If, pursuant to Section 3.4, the Participant elected
to receive annual installment payments, his or her first installment shall be
equal to the balance then credited to his or her Account, divided by the number
of installments to be made. Each subsequent annual installment shall be paid to
the Participant as near as administratively practicable to each anniversary of
the first installment payment. The amount of each subsequent installment shall
be equal to the balance then credited to the Participant's Account, divided by
the number of installments remaining to be made. While a Participant's Account
is in installment payout status, the unpaid balance credited to the
Participant's Account shall continue to be credited (or debited) with deemed
investment returns, gains and losses under Section 3.3.
5.2 Change of Control. If there is a Change of Control, the balance then
credited to a Participant's Account shall be distributed to him or her in a lump
sum as soon as administratively practicable after the date of the Change of
Control. Deemed investment returns, gains and losses shall be credited (or
debited) prior to any such accelerated distribution in accordance with Section
3.3. The amount of any such accelerated lump sum distribution shall also
include any amount that the Participant deferred but which has not yet been
credited to his or her Account.
5.3 Special Rule for Death or Disability. If a Participant dies or
becomes Disabled, the balance then credited to his or her Account shall be
distributed to the Participant (or his or her Beneficiary) at the time and in
the form elected by the Participant pursuant to Sections 3.4 and 3.5; provided,
however, that the Committee, in its sole discretion, may elect to distribute
such amount in a lump sum as soon as administratively practicable after the date
of death or Disability. In accordance with Section 3.3, deemed investment
returns, gains and losses shall be credited (or debited) prior to any such
accelerated distribution.
5.4 Special Rule re Deductibility. Notwithstanding any contrary provision
of Section 5.1, any payment scheduled for a particular Plan Year shall not be
made in such Plan Year to the extent necessary to avoid application of the
deductibility limitation of section 162(m) of the Code. (For this purpose,
deductibility shall be determined by adding such payment to all other
compensation paid by the Company and its Affiliates to the Participant during
the Plan Year.) If, pursuant to the foregoing sentences, any amounts are not
paid when originally scheduled, such amounts shall be paid in the first
subsequent taxable year in which such payments would not be subject to the
deductibility limitation of section 162(m) of the Code. During any such delay
in payment, unpaid amounts shall continue to be credited (or debited) with
deemed investment returns, gains and losses under Section 3.3. Notwithstanding
the foregoing, distribution of a Participant's Account shall be made without
regard to the
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deductibility limitation of section 162(m) of the Code if the time for
distribution is accelerated pursuant to Section 5.2 or Section 5.3.
5.5 Latest Permissible Distribution Date. Notwithstanding any contrary
provision of this Section 5, any amount which is credited to a Participant's
Account on January 15 of the second calendar year following the year in which
the Participant terminates employment with the Company and all of its Affiliates
shall be distributed to the Participant (or his or her Beneficiary) in a single
lump sum as soon as administratively practicable after such January 15. Any
such amount shall continue to be credited (or debited) with deemed investment
returns, gains and losses until the date of payment. For example, if a
Participant terminates employment with the Company and all of its Affiliates
during July 2000, and an amount remains credited to his or her Account on
January 15, 2002 (after application of the other provisions of Section 5), then
such amount (as increased or decreased by deemed investment returns, gains and
losses) shall be distributed to the Participant (or his or her Beneficiary) in a
lump sum as soon as administratively practicable after January 15, 2002.
5.6 Beneficiary Designations. Each Participant may, pursuant to such
procedures as the Committee may specify, designate one or more Beneficiaries.
5.6.1. Spousal Consent. If a Participant designates a person
other than or in addition to his or her spouse as a primary Beneficiary, the
designation shall be ineffective unless the Participant's spouse consents to
the designation. Any spousal consent required under this Section 5.6 shall be
ineffective unless it (a) is set forth in writing in a form specified in the
discretion of the Committee, (b) acknowledges the effect of the Participant's
designation of another person as his or her Beneficiary under the Plan, and
(c) is signed by the spouse and witnessed by an authorized agent of the
Committee or a notary public. Notwithstanding this consent requirement, if the
Participant establishes to the satisfaction of the Committee that written
spousal consent may not be obtained because the spouse cannot be located, his
or her designation shall be effective without a spousal consent. Any spousal
consent required under this Section 5.6 shall be valid only with respect to
the spouse who signs the consent. A Participant may revoke his or her
Beneficiary designation at any time, provided that such revocation is in
writing.
5.6.2. Changes and Failed Designations. A Participant may
designate different Beneficiaries (or may revoke a prior Beneficiary
designation) at any time by delivering a new designation (or revocation of a
prior designation) in accordance with Section 5.6.1. Any designation or
revocation shall be effective only if it is received by the Committee.
However, when so received, the designation or revocation shall be effective as
of the date the notice is executed (whether or not the Participant still is
living), but without prejudice to the Committee on account of any payment made
before the change is recorded. The last effective designation received by the
Committee shall supersede all prior designations. If a Participant dies
without having effectively designated a Beneficiary, or if no Beneficiary
survives the Participant, the Participant's Account shall be payable to his or
her surviving spouse, or, if the Participant is not survived by his or her
spouse, the Account shall be paid to his or her estate.
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5.7 Financial Hardship. In the event that a Participant incurs a
Financial Hardship, the Committee, in its sole discretion and notwithstanding
any contrary provision of the Plan, may determine that all or part of the
Participant's Account shall be paid to him or her immediately; provided,
however, that the amount paid to the Participant pursuant to this Section 5.7
shall be limited to the amount reasonably necessary to alleviate the
Participant's Financial Hardship. Also, payment under this Section 5.7 may not
be made to the extent that the hardship may be relieved by suspension of the
Participant's Compensation Deferrals in accordance with Section 2.2.
5.8 Payments to Incompetents. If any individual to whom a benefit is
payable under the Plan is a minor or legally incompetent, the Committee shall
determine whether payment shall be made directly to the individual, any person
acting as his or her custodian or legal guardian under the California Uniform
Transfers to Minors Act, his or her legal representative or a near relative, or
directly for his or her support, maintenance or education.
5.9 Undistributable Accounts. Each Participant and (in the event of
death) his or her Beneficiary shall keep the Committee advised of his or her
current address. If the Committee is unable to locate the Participant or
Beneficiary to whom a Participant's Account is payable under this Section 5, the
Participant's Account shall continue to be credited (or debited) with deemed
investment returns, gains and losses in accordance with Section 3.3. Accounts
that, in accordance with the preceding sentence, have been undistributable for a
period of thirty-five months shall be forfeited as of the end of the thirty-
fifth month. If a Participant whose Account was forfeited under this Section
5.9 (or his or her Beneficiary) files a claim for distribution of the Account
after the date on which it was forfeited, and if the Committee determines that
such claim is valid, then the forfeited balance shall be paid by the Employer in
a lump sum cash payment as soon as practicable thereafter (without interest or
any deemed investment returns, gains or losses after the date of forfeiture).
5.10 Committee Discretion. Within the specific time periods described in
this Section 5, the Committee shall have sole discretion to determine the
specific timing of the payment of any Account balance under the Plan. In
addition and notwithstanding any contrary provision of the Plan, the Committee,
in its sole discretion, may cause the balance credited to a Participant's
Account to be paid to him or her in a lump sum at any time following the
Participant's termination of employment with all Employers and Affiliates.
SECTION 6
PARTICIPANT'S INTEREST IN ACCOUNT
6.1 Compensation Deferral Contributions. Subject to Sections 8.1
(relating to creditor status) and 9.2 (relating to amendment and/or termination
of the Plan), a Participant's interest in the balance credited to his or her
Account at all times shall be 100% vested and nonforfeitable.
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SECTION 7
ADMINISTRATION OF THE PLAN
7.1 Plan Administrator. The Company is hereby designated as the
administrator of the Plan (within the meaning of section 3(16)(A) of ERISA).
7.2 Committee. The Plan shall be administered by the Committee. The
Committee shall have the authority to control and manage the operation and
administration of the Plan. Any member of the Committee may resign at any time
by notice in writing mailed or delivered to the Secretary of the Company.
7.3 Actions by Committee. Each decision of a majority of the members of
the Committee then in office shall constitute the final and binding act of the
Committee. The Committee may act with or without a meeting being called or held
and shall keep minutes of all meetings held and a record of all actions taken by
written consent.
7.4 Powers of Committee. The Committee shall have all powers and
discretion necessary or appropriate to supervise the administration of the Plan
and to control its operation in accordance with its terms, including, but not by
way of limitation, the following powers:
(a) To interpret and determine the meaning and validity of the
provisions of the Plan and to determine any question arising under, or in
connection with, the administration, operation or validity of the Plan or
any amendment thereto;
(b) To determine the types of bonuses which shall be eligible for
deferral under the Plan;
(c) To determine any and all considerations affecting the eligibility
of any employee to become a Participant or remain a Participant in the
Plan;
(d) To cause one or more separate Accounts to be maintained for
each Participant;
(e) To cause Compensation Deferrals and deemed returns, gains and
losses to be credited to Participants' Accounts;
(f) To establish and revise a method or procedure for the deemed
investment of Participants' Accounts, as provided in Section 3.3;
(g) To establish and revise an accounting method or formula for the
Plan, as provided in Section 4.3;
(h) To determine the manner and form in which any distribution is to
be made under the Plan;
(i) To determine the manner and form for making elections under the
Plan;
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(j) To determine the status and rights of Participants and their
spouses, Beneficiaries or estates;
(k) To employ such counsel, agents and advisers, and to obtain such
legal, clerical and other services, as it may deem necessary or
appropriate in carrying out the provisions of the Plan;
(l) To establish, from time to time, rules for the performance of
its powers and duties and for the administration of the Plan;
(m) To arrange for annual distribution to each Participant of a
statement of benefits accrued under the Plan;
(n) To publish a claims and appeal procedure satisfying the minimum
standards of section 503 of ERISA pursuant to which individuals or
estates may claim Plan benefits and appeal denials of such claims;
(o) To delegate to any one or more of its members or to any other
person, severally or jointly, the authority to perform for and on behalf
of the Committee one or more of the functions of the Committee under the
Plan;
(p) To decide all issues regarding the conversion of Participants'
Accounts into stock options, the use of such Accounts to exercise stock
options or any related matter; and
(q) To decide all issues and questions regarding Account balances,
and the time, form, manner and amount of distributions to Participants.
7.5 Decisions of Committee. All actions, interpretations, and decisions
of the Committee shall be conclusive and binding on all persons, and shall be
given the maximum possible deference allowed by law.
7.6 Administrative Expenses. All expenses incurred in the administration
of the Plan by the Committee, or otherwise, including legal fees and expenses,
shall be paid and borne by the Employers.
7.7 Eligibility to Participate. No member of the Committee who is also an
employee of an Employer shall be excluded from participating in the Plan if
otherwise eligible, but he or she shall not be entitled, as a member of the
Committee, to act or pass upon any matters pertaining specifically to his or her
own Account under the Plan.
7.8 Indemnification. Each of the Employers shall, and hereby does,
indemnify and hold harmless the members of the Committee, from and against any
and all losses, claims, damages or liabilities (including attorneys' fees and
amounts paid, with the approval of the Board of Directors, in settlement of any
claim) arising out of or resulting from the implementation of a
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duty, act or decision with respect to the Plan, so long as such duty, act or
decision does not involve gross negligence or willful misconduct on the part of
any such individual.
SECTION 8
FUNDING
8.1 Unfunded Plan. All amounts credited to a Participant's Account under
the Plan shall continue for all purposes to be a part of the general assets of
the Insurance Company. The interest of the Participant in his or her Account,
including his or her right to distribution thereof, shall be an unsecured claim
against the general assets of the Insurance Company. Nothing contained in the
Plan shall (a) give any Participant or beneficiary any interest in or claim
against any specific assets of the Insurance Company, nor (b) prevent the
Insurance Company (with the consent of its board of directors) from establishing
a grantor trust (within the meaning of subpart E, part I, subchapter J, chapter
1, subtitle A of the Code) to assist the Insurance Company in fulfilling its
obligations under the Plan.
SECTION 9
MODIFICATION OR TERMINATION OF PLAN
9.1 Employers' Obligations Limited. The Employers intend to continue the
Plan indefinitely, and to maintain each Participant's Account until it is
scheduled to be paid to him or her in accordance with the provisions of the
Plan. However, the Plan is voluntary on the part of the Employers, and the
Employers do not guarantee to continue the Plan. The Company at any time may,
by amendment of the Plan, suspend Compensation Deferrals or may discontinue
Compensation Deferrals, with or without cause. Complete discontinuance of all
Compensation Deferrals shall be deemed a termination of the Plan.
9.2 Right to Amend or Terminate. The Board of Directors, in its sole
discretion, may amend or terminate the Plan, or any part thereof, at any time
and for any reason, provided that no amendment or termination of the Plan shall,
without the consent of the Participant, reduce the balance then credited to the
Participant's Account.
9.3 Effect of Termination. If the Plan is terminated pursuant to this
Section 9, the balances credited to the Accounts of the affected Participants
shall be distributed to them at the time and in the manner set forth in Section
5; provided, however, that the Committee, in its sole discretion, may authorize
accelerated distribution of Participants' Accounts as of any earlier date.
14
<PAGE>
SECTION 10
GENERAL
10.1 Participation by Affiliates. One or more Affiliates of the Company
may become participating Employers by adopting the Plan and obtaining approval
for such adoption from the Board of Directors. By adopting the Plan, an
Affiliate is deemed to agree to all of its terms, including (but not limited to)
the provisions granting exclusive authority to the Board of Directors to amend
the Plan and the provisions granting exclusive authority to the Committee to
administer and interpret the Plan. Any Affiliate may terminate its
participation in the Plan at any time. A list of participating Employers, and
the effective dates of their participation, is attached hereto as Appendix A.
10.2 Inalienability. In no event may any Participant, Beneficiary, spouse
or estate sell, transfer, anticipate, assign, hypothecate, or otherwise dispose
of any right or interest under the Plan; and such rights and interests shall not
at any time be subject to the claims of creditors nor be liable to attachment,
execution or other legal process. Accordingly, for example, a Participant's
interest in the Plan is not transferable pursuant to a domestic relations order.
10.3 Rights and Duties. Neither the Employers nor the Committee shall be
subject to any liability or duty under the Plan except as expressly provided in
the Plan, or for any action taken, omitted or suffered in good faith.
10.4 No Enlargement of Employment Rights. Neither the establishment or
maintenance of the Plan, the making of any Compensation Deferrals nor any action
of any Employer or the Committee, shall be held or construed to confer upon any
individual any right to be continued as an employee of the Employer nor, upon
dismissal, any right or interest in any specific assets of the Employers other
than as provided in the Plan. Each Employer expressly reserves the right to
discharge any employee at any time.
10.5 Apportionment of Costs and Duties. All acts required of the
Employers under the Plan may be performed by the Company for itself and its
Affiliates, and the costs of the Plan shall be equitably apportioned by the
Committee among the Company and the other Employers. Whenever an Employer is
permitted or required under the terms of the Plan to do or perform any act,
matter or thing, it shall be done and performed by any officer or employee of
the Employer who is thereunto duly authorized by the board of directors of the
Employer.
10.6 Compensation Deferrals Not Counted Under Other Employee Benefit
Plans. Compensation Deferrals under the Plan will not be considered for
purposes of contributions or benefits under any other employee benefit plan
sponsored by the Employers, except to the extent specifically provided in any
such plan.
10.7 Applicable Law. The provisions of the Plan shall be construed,
administered and enforced in accordance with ERISA, and to the extent not
preempted by ERISA, with the laws of the State of California (other than its
conflict of laws provisions).
15
<PAGE>
10.8 Severability. If any provision of the Plan is held invalid or
unenforceable, its invalidity or unenforceability shall not affect any other
provisions of the Plan, and in lieu of each provision which is held invalid or
unenforceable, there shall be added as part of the Plan a provision that shall
be as similar in terms to such invalid or unenforceable provision as may be
possible and be valid, legal, and enforceable.
10.9 Captions. The captions contained in and the table of contents
prefixed to the Plan are inserted only as a matter of convenience and for
reference and in no way define, limit, enlarge or describe the scope or intent
of the Plan nor in any way shall affect the construction of any provision of the
Plan.
EXECUTION
IN WITNESS WHEREOF, The PMI Group, Inc., by its duly authorized officer, has
executed this Plan on the date indicated below.
THE PMI GROUP, INC.
Dated: July 23, 1998 By: Charles Broom
-------------------------------------
Title: Asst VP, Human Resources
----------------------------------
16
<PAGE>
APPENDIX A
LIST OF PARTICIPATING EMPLOYERS
Employer Effective Date of Participation
1. The PMI Group, Inc. July 1, 1997
2. PMI Mortgage Insurance Co. July 1, 1997
3. Residential Guaranty Co. July 1, 1997
4. PMI Mortgage Guaranty Co. July 1, 1997
5. PMI Mortgage Services Inc. July 1, 1997
6. PMI Securities Co. July 1, 1997
17
<PAGE>
EXHIBIT 11.1
THE PMI GROUP, INC. AND SUBSIDIARIES
COMPUTATION OF RESTATED NET INCOME PER SHARE (1)
Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
-------------- -------------- --------------
(In thousands, except for per share data)
<S> <C> <C> <C>
Basic net income per common share:
Net income $190,360 $175,309 $157,918
Average common shares outstanding 31,394 33,386 34,952
-------------- -------------- --------------
Basic net income per common share $ 6.06 $ 5.25 $ 4.52
============== ============== ==============
Diluted net income per common share:
Net income $190,360 $175,309 $157,918
-------------- -------------- --------------
Average common shares outstanding 31,394 33,386 34,952
Net shares to be issued upon exercise of dilutive
stock options after applying treasury stock method 139 124 88
-------------- -------------- --------------
Average shares outstanding 31,533 33,510 35,040
-------------- -------------- --------------
Diluted net income per common share $ 6.04 $ 5.23 $ 4.51
============== ============== ==============
</TABLE>
(1) Restated to conform with Statement of Financial Accounting Standards No.
128, Earnings per Share.
<PAGE>
EXHIBIT 12.1
THE PMI GROUP, INC. AND SUBSIDIARIES
COMPUTATION OF RATIO OF PROFIT TO FIXED CHARGES
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------------------------------------
1998 1997 1996 1995 1994
--------- --------- --------- --------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
Income from continuing operations before
income taxes $ 266,948 $ 242,867 $ 222,106 $ 180,541 $ 138,551
========= ========= ========= ========= =========
Fixed Charges:
Rentals-- at computed interest* 2,959 $ 2,549 $ 2,459 $ 2,046 $ 1,584
Interest expense 7,029 6,766 907 - -
Distributions on redeemable
capital securities 8,311 7,617 - - -
--------- --------- --------- --------- ---------
Total fixed charges $ 18,299 $ 16,932 $ 3,366 $ 2,046 $ 1,584
========= ========= ========= ========= =========
Profit before taxes plus fixed charges $ 285,247 $ 259,799 $ 225,472 $ 182,587 $ 140,135
========= ========= ========= ========= =========
Ratio of adjusted profit to fixed charges 15.6 x 15.3 x 67.0 x 89.2 x 88.5
========= ========= ========= ========= =========
</TABLE>
* Those portions of rent expense that are representative of interest cost
<PAGE>
EXHIBIT 13.1
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CAUTIONARY STATEMENT
Certain written and oral statements made or incorporated by reference from time
to time by the Company or its representatives in this document, other documents
filed with the Securities and Exchange Commission, press releases, conferences,
or otherwise that are not historical facts, or are preceded by, followed by or
that include the words "believes," "expects," "anticipates," "estimates," or
similar expressions, and that relate to future plans, events or performance are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements include the
following: (i) during 1999, management expects the percentage of PMI's risk
related to risk-share programs and represented by pool risk to continue to
increase as a percentage of total risk. The Fannie Mae and Freddie Mac reduction
in mortgage insurance coverage requirements is expected to have a negative
impact on the growth rate of direct risk in force; (ii) management anticipates
ceded premiums will increase substantially in the future as a result of the
expected increase in risk-share programs; (iii) management anticipates the
percentage of insurance in force with higher coverage percentages will begin to
decrease in 1999 and such decreases should accelerate in the years following due
to a reduction in required mortgage insurance by Fannie Mae and Freddie Mac;
(iv) although management expects that California should continue to account for
a significant portion of total claims paid, management anticipates that with
continued improvement in the California economy, increased benefits of loss
mitigation efforts and improved default reinstatement rates, California claims
paid as a percentage of total claims paid should continue to decline; (v)
management believes that PMI's total default rate could increase in 1999 due to
the continued maturation of its 1994 and 1995 books of business; (vi) management
anticipates that contract underwriting will continue to generate a significant
percentage of PMI's new insurance written ("NIW"), (vii) The Company believes
Year 2000 modifications to its critical mortgage origination and processing
applications were implemented successfully and that these systems will be Year
2000 compatible; (viii) the Company has completed remediation and testing of its
telephone switches, and management believes that these switches and other
hardware and non-information technology systems will be Year 2000 compatible;
and (ix) the Company currently believes that the remaining modifications to
existing software and conversions to new software utilized by the Company will
be implemented successfully and that the Year 2000 issue will not have a
material adverse impact on internal systems or operations. When a forward-
looking statement includes a statement of the assumptions or bases underlying
the forward-looking statement, the Company cautions that, while it believes such
assumptions or bases to be reasonable and makes them in good faith, assumed
facts or bases almost always vary from actual results, and the difference
between assumed facts or bases and actual results can be material, depending on
the circumstances. Where, in any forward-looking statement, the Company or its
management expresses an expectation or belief as to future results, such
expectations or belief is expressed in good faith and believed to have a
reasonable basis, but there can be no assurance that the statement of
expectation or belief will result or be achieved or accomplished. The Company's
actual results may differ materially from those expressed in any forward-looking
statements made by the Company. These forward-looking statements involve a
number of risks or uncertainties including, but not limited to, the items
addressed in section Q. "Statements and Risk Factors Concerning the Company's
Operations and Future Results" (Risk
1
<PAGE>
Factors "RF# 1-14") set forth below and other risks detailed from time to time
in the Company's periodic filings with the Securities and Exchange Commission.
All forward-looking statements of the Company are qualified by and should be
read in conjunction with such risk disclosure. The Company undertakes no
obligation to publicly update or revise any forward-looking statements, whether
as a result of new information, future events or otherwise.
RESULTS OF CONSOLIDATED OPERATIONS:
1998 versus 1997
Consolidated net income was $190.4 million in 1998, an 8.6% increase over 1997.
The growth can be attributed to increases in premiums earned of 8.2% and other
income of 155.2% and to a decrease in losses and loss adjustment expenses of
10.9%, partially offset by an increase in other operating expenses, including
policy acquisition costs, of 30.8%. Including capital gains, diluted earnings
per share increased by 15.5% to $6.04 in 1998. Excluding capital gains, diluted
operating earnings per share increased by 14.0% to $5.53. Revenues in 1998
increased by 10.0% to $620.9 million.
Mortgage Insurance Operations
PMI's NIW increased by 81.7% primarily as a result of the growth in volume of
the private mortgage insurance industry as well as the increase in PMI's market
share and secondarily to a 2.6% increase in the average insured loan size to
$131,700.
The members of the private mortgage insurance industry, as reported by the
industry's trade association, Mortgage Insurance Companies of America ("MICA"),
experienced an increase in total new insurance written of 55.0% to $187.4
billion, benefiting from the record year of total residential mortgage
originations, estimated at $1.5 trillion. (Source: Inside Mortgage Finance) The
increase was caused primarily by low interest rates, which produced record
levels of both refinance activity as well as new and existing home sales.
Refinancing as a percentage of PMI's NIW increased to 31.0% in 1998 from 13.8%
in 1997. In addition, the private mortgage insurance companies' market share
increased to 56.3% of the total low downpayment market (insurable loans) from
54.5% in 1997. (Source: Inside Mortgage Finance)
PMI's market share of NIW increased to 14.8% in 1998 from 12.7% in 1997. On a
combined basis with CMG Mortgage Insurance Company ("CMG"), market share
increased to 16.1% in 1998 compared with 13.8% in 1997. In the fourth quarter of
1998, combined market share increased to 16.4% compared with 13.7% in the fourth
quarter of 1997. The increases in market share were primarily due to contract
underwriting services, pool insurance products, and risk sharing programs
offered by PMI. Pool risk totaled $450.3 million for the year. There was no pool
risk written in 1997. Risk in force under risk-share programs with PMI's
customers, represented approximately two percent of the $19.3 billion total
primary risk in force at December 31, 1998. Risk in force under risk-share
programs with PMI's customers, excluding pool insurance, represented 10.2% of
total risk in force at December 31, 1998, compared with
2
<PAGE>
3.1% at December 31, 1997. During 1999, management expects the percentage of
PMI's risk related to risk-share programs and represented by pool risk to
continue to increase as a percent of total risk. The Fannie Mae and Freddie Mac
reduction in mortgage insurance coverage requirements is expected to have a
negative impact on the growth rate of direct risk in force. (See RF10)
PMI's cancellations of insurance in force increased by 68.2% to $24.9 billion in
1998 primarily due to mortgage prepayments as a result of low interest rates
which caused high levels of refinancing activity. As a result of the higher
cancellation activity, PMI's persistency rate decreased to 68.0% as of December
31, 1998, compared with 80.8% as of December 31, 1997.
Insurance in force increased by 3.7% in 1998. On a combined basis with CMG,
insurance in force grew by 5.9% to $84.9 billion at December 31, 1998. PMI's
market share of insurance in force grew by 0.5 percentage points to 15.3%. PMI's
risk in force increased by 6.8% and, when combined with CMG, grew by 8.9% to
$20.4 billion. The growth rate of risk in force is greater than insurance in
force due to terminating policies being replaced by new policies with higher
coverage percentages.
Mortgage insurance net premiums written grew by 10.1% to $409.8 million in 1998
primarily due to the growth of risk in force of both primary and pool insurance
and the continued shift to deeper coverage for primary insurance partially
offset by an increase in refunded premiums of 39.2% to $21.9 million as a result
of the increase in policy cancellations. Mortgage insurance premiums earned
increased 4.5% to $411.9 million in 1998 primarily due to the increase in
premiums written. Ceded premiums were $18.3 million in 1998, increasing 15.2%
from prior year. Management anticipates ceded premiums will increase
substantially in the future as a result of the expected increase in risk-share
programs. (See RF7)
PMI's monthly product represented 71.6% of risk in force at December 31, 1998,
compared with 58.2% at December 31, 1997. Mortgages with original loan-to-value
ratios greater than 90% and equal to or less than 95% ("95s") with 30% insurance
coverage increased to 34.4% of risk in force as of December 31, 1998, from 28.8%
as of December 31, 1997. Mortgages with original loan-to-value ratios greater
than 85% and equal to or less than 90% ("90s") with 25% insurance coverage
increased to 29.2% of risk in force as of December 31, 1998, compared with 23.6%
as of December 31, 1997. Management anticipates the percentage of insurance in
force with higher coverage percentages will begin to decrease in 1999 and such
decrease should accelerate in the years following due to a reduction in required
mortgage insurance by Fannie Mae and Freddie Mac. (See RF3)
Mortgage insurance losses and loss adjustment expenses decreased 10.2% to $135.1
million in 1998 primarily due to the continuing improvement of the nationwide
housing markets, particularly California, and the corresponding decrease in
claim payments. Loans in default decreased by less than one percent to 16,526 at
December 31, 1998. PMI's national default rate decreased by 0.07 percentage
points to 2.31% at December 31, 1998, primarily due to an increase in policies
in force.
Direct primary claims paid decreased by 19.5% to $118.4 million due to an 11.6%
decrease in the average claim size to approximately $23,300 and an 8.9% decline
in the number of claims paid to 5,077 in 1998. The reduction in claims paid is
the result of a smaller percentage of claims originating from the California
book of business and to increased loss mitigation efforts by PMI and lenders.
3
<PAGE>
Default rates on PMI's California policies decreased to 3.15% (representing
3,067 loans in default) at December 31, 1998, from 3.73% (representing 3,987
loans in default) at December 31, 1997. Policies written in California accounted
for approximately 48.2% and 64.5% of the total dollar amount of claims paid in
1998 and 1997, respectively. Although management expects that California will
continue to account for a significant portion of total claims paid, management
anticipates that with continued improvement in the California economy, increased
benefits of loss mitigation efforts and improved default reinstatement rates,
California claims paid as a percentage of total claims paid should continue to
decline. (See RF13) Management believes that PMI's total default rate could
increase in 1999 due to the continued maturation of its 1994 and 1995 books of
business. (See RF12)
Mortgage insurance policy acquisition costs incurred and deferred (including,
among other field expenses, contract underwriting expenses) increased by 69.3%
as a result of the 81.7% increase in NIW. Amortization of policy acquisition
costs increased 38.9%. (See Note 5 "Deferred Acquisition Costs" of Notes to
Consolidated Financial Statements) New policies processed by contract
underwriters represented 35.0% of PMI's NIW in 1998 compared with 21.6% in 1997.
Contract underwriting has become the preferred method among many mortgage
lenders for processing loan applications. Management anticipates that contract
underwriting will continue to generate a significant percentage of PMI's NIW.
(See RF7)
Other mortgage insurance operating expenses increased by 8.0% to $44.3 million
in 1998 from $41.0 million in 1997 resulting from Year 2000 remediation costs of
$3.9 million, compared with $0.3 million of such costs in 1997. The mortgage
insurance loss ratio declined by 5.4 percentage points to 32.8% in 1998 due to
the growth in premiums earned coupled with the decrease in losses and loss
adjustment expenses, as discussed above. The expense ratio increased by 2.8
percentage points to 25.5% primarily due to the increase in policy acquisition
costs resulting from the growth in NIW and secondarily to Year 2000 remediation
costs. Excluding Year 2000 remediation expenses, the expense ratio was 24.6% for
1998 compared to 22.6% for 1997. The combined ratio decreased by 2.6% to 58.3%
in 1998.
Title Insurance Operations
Title insurance premiums earned increased 32.3% to $79.3 million in 1998
primarily due to the record residential mortgage origination volumes, as
discussed above, and secondarily to American Pioneer Title Insurance Company's
("APTIC")'s expansion into new states. APTIC was licensed in 39 states at
December 31, 1998, a 14.7% increase from December 31, 1997. In 1998, 77.3% of
APTIC's premiums earned came from its Florida operations, compared with 81.6% in
1997. Underwriting and other expenses increased 30.1% to $69.1 million because
of an increase in agency fees and commissions related to the increase in
premiums earned. The title insurance combined ratio decreased by 3.9 percentage
points to 87.9%.
Other
In 1998, the Company's net investment income increased by $1.5 million to $84.7
million primarily due to a $1.8 million increase in equity earnings. Investments
in affiliates increased to $60.5 million at year-end 1998 from $17.0 million at
year-end 1997. The average book value of the investment portfolio increased 1.2%
and the yield decreased from 6.14% in 1997 to 6.06% in 1998.
4
<PAGE>
Other income, primarily contract underwriting revenues generated by PMI Mortgage
Services Co. ("MSC"), increased by 155.0% to $20.4 million in 1998 while other
expenses, primarily expenses incurred by MSC, increased by 27.6% to $142.6
million. These increases are the result of increased contract underwriting
services provided to the Company's mortgage insurance customers. (See RF7)
The Company's effective tax rate increased to 28.7% in 1998 from 27.8% in 1997
as a result of a decrease in the proportion of tax-exempt investment income
relative to total income.
1997 versus 1996
Consolidated net income in 1997 was $175.3 million, an 11.0% increase over 1996.
The increase was attributable primarily to increases in premiums earned of 10.0%
and secondarily to investment income of 23.3%. There was also an increase in
realized capital gains of 37.0%, partially offset primarily by an increase in
underwriting and other expenses of 23.1%, and secondarily to an increase of
$13.5 million in interest-related costs. Premiums earned increased from the
growth in mortgage insurance renewal premiums, partially offset by the effect of
the termination and commutation of a reinsurance treaty with Centre
Reinsurance Company of New York and Centre Reinsurance International Company
("Centre Re") recorded in the fourth quarter of 1996. The 1996 results of
operations, including premiums earned, losses and loss adjustment expenses and
underwriting expenses, were impacted by the Centre Re termination as discussed
below. Diluted earnings per share increased by 16.0% in 1997, which was
affected by the repurchase of 2.1 million shares of common stock in 1997.
Excluding capital gains, diluted earnings per share increased by 14.4% to
$4.85 in 1997. Revenues in 1997 increased by 12.6% to $564.6 million.
Mortgage Insurance Operations
PMI's NIW decreased by 14.5% to $15.3 billion in 1997 resulting from the number
of new mortgage insurance policies issued decreasing by 16.6% to 119,200
policies, partially offset by a 2.6% increase in the average loan size to
$128,400.
The primary factor contributing to the decrease in new policies issued was a
decline in market share. PMI's market share of NIW decreased to 12.7% in 1997
from 14.1% in 1996. On a combined basis with CMG, market share was 13.8% in 1997
compared with 14.7% in 1996. The decline in market share was primarily due to
the availability of a pool insurance product not offered by PMI for the majority
of 1997 and secondarily to increases in product and underwriting competition in
the California market. The secondary factor contributing to the decrease in new
policies issued was the decline in the total volume of insured loans in the
private mortgage insurance industry in 1997 compared with 1996. The private
mortgage insurance industry experienced a decline in total NIW of 4.8% to $120.9
billion in 1997 from $127.0 billion in 1996.
PMI's cancellations of insurance in force increased 23.3% to $14.8 billion in
1997 primarily due to an increase in refinancing activity throughout the
industry brought on by lower interest rates. In addition, management believes
that, in response to proposed mortgage insurance cancellation
5
<PAGE>
legislation, servicers were reviewing their loan portfolios and requesting
cancellations on loans with current loan-to-value ratios of 80% or less.
PMI's persistency rate decreased 2.5 percentage points to 80.8% as of December
31, 1997 due primarily to the cancellations discussed above. Insurance in force
grew at a rate of 0.6% and 8.3% during 1997 and 1996, respectively, to a total
of $77.8 billion at December 31, 1997. The year-over-year decline in the growth
rate of insurance in force was due primarily to lower NIW and higher policy
cancellations in 1997 compared with 1996. However, the growth rate of risk in
force was 4.4% in 1997 and was greater than the growth rate in insurance in
force because terminating policies were being replaced by new policies with
higher coverage percentages, and accordingly, higher premium rates.
Mortgage insurance net premiums written increased 6.4% to $372.1 million in 1997
primarily due to higher average premium rates and higher average loan sizes, and
also to the growth of risk in force from one year prior, offset primarily by the
effect of the Centre Re termination in 1996 and also to a decrease in new
premiums written. Excluding the impact of the additional profit commission
realized on the Centre Re termination, net premiums written increased by 15.6%.
New premiums written decreased by 38.9% to $13.2 million in 1997 while renewal
premiums increased by 9.6% to $378.4 million. The decrease in new premiums
written during 1997 resulted primarily from the decrease in NIW from the 1996
level. Renewal premiums increased primarily from a shift in the composition of
policies in force to loans with higher premium rates and secondarily to the
growth of risk in force. Mortgages defined as 95s with 30% insurance coverage
increased to 28.8% of risk in force as of December 31, 1997, from 21.9% as of
December 31, 1996. Similarly 90s with 25% insurance coverage increased to
23.6% of risk in force in 1997 compared with 19.6% in 1996.
Mortgage insurance premiums earned increased 9.6% to $394.0 million in 1997
primarily due to higher premium rates and higher average loan sizes and
secondarily to the growth in risk in force from one year prior, offset primarily
by the effect of the Centre Re termination in 1996 and also to the decrease in
NIW from the 1996 level. Excluding the impact of the Centre Re termination, net
premiums earned increased by 15.5%.
Mortgage insurance losses and loss adjustment expenses decreased slightly to
$150.4 million in 1997 from $150.6 million in 1996. This decrease was due
primarily to the effect of the Centre Re termination in 1996. Prior to the
impact of the Centre Re termination, mortgage insurance losses and loss
adjustment expenses would have increased by 10.6% due to an increase in the
number of loans in default caused by the growth and maturation of insurance in
force. Primary claims paid by PMI increased slightly, by 2.8%, to approximately
$147 million; however, the average claim size decreased by 4.3% to $26,400 due
primarily to a smaller percentage of claims originating from the California book
of business, and also to increased loss mitigation activity.
PMI's default rate increased to 2.38% at December 31, 1997, from 2.19% at
December 31, 1996. This increase was due primarily to the policy cancellations
discussed above, and secondarily to normal delinquency development in states
where PMI expanded its market presence, and also to the maturation of PMI's
1993 and 1994 books of business.
The default rates on PMI's California policies decreased to 3.73% (representing
3,987 loans in default) at December 31, 1997, from 3.81% (representing 4,261
loans in default) at December
6
<PAGE>
31, 1996. Policies written in California accounted for approximately 64% and 73%
of the total dollar amount of claims paid in 1997 and 1996, respectively.
Mortgage insurance underwriting and other expenses increased 31.1% to $84.4
million in 1997 primarily due to the effect of Centre Re Termination and ceding
commissions in 1996, and secondarily to an increase in contract underwriting
expenses. Excluding the impact of the 1996 Centre Re transactions, 1997 expenses
increased by 11.9% over 1996. Contract underwriting processed loans represented
21.6% of PMI's NIW in 1997 compared to 13.0% in 1996.
The mortgage insurance loss ratio decreased by 3.7 percentage points to 38.2% in
1997 primarily due to the growth in net premiums earned, and also to the
decrease in losses and loss adjustment expenses discussed above. The expense
ratio increased 4.3 percentage points to 22.7% primarily due to the Centre Re
transactions. The result was a 0.6 percentage point increase in the combined
ratio to 60.9%. Excluding the 1996 Centre Re transactions, the 1996 expense
ratio was 23.4% and the 1996 loss ratio was 39.9%, resulting in a combined ratio
of 63.3%.
Interest expense of $6.8 million was incurred in 1997 related to the long-term
debt issued by the Company in November 1996. The Company incurred an additional
$7.6 million of expenses related to distributions on the redeemable preferred
capital securities issued by the Company in February 1997.
Title Insurance Operations
Title insurance premiums earned increased 12.6% to $59.9 million in 1997 due to
increasing current markets combined with successful ongoing expansion efforts
into new states. Underwriting and other expenses increased 10.6% to $53.1
million directly because of the increase in fees and commissions payable to
third parties based on premiums earned. The title insurance combined ratio
decreased to 91.8% in 1997 from 93.5% in 1996.
Other
The Company's net investment income increased 23.3% in 1997 to $83.1 million
primarily the result of the growth in the average amount of invested assets.
This growth was due primarily to the $198.3 million of combined proceeds from
the November 1996 debt offering and the February 1997 redeemable preferred
capital securities offering, secondarily to positive cash flows generated by
operating activities, and also to the collection of $53.6 million in connection
with the Centre Re Termination, partially offset by the $120 million common
stock repurchases in 1997. The average investment yield (pretax) decreased to
6.14% in 1997 from 6.21% in 1996 due to declining interest rates in 1997.
Realized capital gains (net of losses) increased by 37.1% to $19.6 million due
primarily to the sale of approximately $50.0 million of equity securities in the
first quarter of 1997.
Other income, primarily revenues generated by MSC, increased by 15.9% to $8.0
million in 1997 while other expenses, primarily incurred by MSC, increased by
29.4% to $17.6 million primarily due to expanded ancillary services, primarily
contract underwriting.
The Company's effective tax rate decreased by 1.1 percentage points to 27.8% in
1997. The benefits of tax-preference investment income and other permanent
differences reduced the
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effective rates below the statutory rate of 35% during both periods. The
decrease in the effective tax rate was due to an increase in tax-exempt income
and to a decrease in the state income tax provision during 1997.
Liquidity, Capital Resources and Financial Condition
Liquidity and capital resource considerations are different for The PMI Group,
Inc. ("TPG") and PMI, its principal insurance operating subsidiary. TPG's
principal sources of funds are dividends from PMI and APTIC, investment income
and funds that may be raised from time to time in the capital markets.
PMI's ability to pay dividends to TPG is limited, among other restrictions,
under the insurance laws of Arizona. Such laws provide that: (i) PMI may pay
dividends out of available surplus and (ii) without prior approval of the
Arizona Insurance Director, such dividends during any 12-month period may not
exceed the lesser of 10% of policyholders' surplus as of the preceding year end,
or the last calendar year's investment income.
The laws of Florida limit the payment of dividends by APTIC to TPG in any one
year to 10% of available and accumulated surplus derived from realized net
operating profits and net realized capital gains.
In addition to the dividend restrictions described above, the Company's credit
agreements limit the payment of dividends by PMI, and various credit rating
agencies and insurance regulatory authorities have broad discretion to limit the
payment of dividends to TPG by PMI or APTIC. During 1998, APTIC declared and
paid a cash dividend of $3.2 million to TPG, substantially the full amount of a
dividend that can be paid by APTIC in 1998 without prior permission from the
Florida Department of Insurance. PMI declared and paid extraordinary dividends
of $100 million to TPG in 1998. TPG has two bank credit lines available totaling
$50.0 million. At December 31, 1998, there were no outstanding borrowings under
the credit lines.
TPG's principal uses of funds are common stock repurchases, the payment of
dividends to shareholders, funding of acquisitions, additions to its investment
portfolio, investments in subsidiaries, and the payment of interest. The $150
million stock buy-back program authorized by the TPG Board of Directors in
November 1997 was completed in the third quarter of 1998. In November 1998, the
Company announced a stock repurchase program in the amount of $100 million.
As of December 31, 1998, TPG had approximately $56.1 million of available funds.
This amount has decreased from the December 31, 1997 balance of $134.2 million
due to the investment in RAM Reinsurance Company Ltd. ("RAM Re") and the common
stock repurchases through 1998, offset by dividends received from PMI and APTIC.
The principal sources of funds for PMI are premiums received on new and renewal
business and amounts earned from the investment of this cash flow. The
principal uses of funds by PMI are the payment of claims and related expenses,
policy acquisition costs and other operating expenses, investment in
subsidiaries, and dividends to TPG. PMI generates positive cash flows from
operations as a result of premiums being received in advance of the payment of
claims. Cash flows generated from PMI's operating activities totaled $154.0
million and $180.1 million
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in 1998 and 1997, respectively. The 1997 amount includes the collection of $53.6
million as a result of a termination and commutation of a reinsurance treaty.
The Company's invested assets increased by $41.6 million at December 31, 1998
due to cash flows from consolidated operations of $178.1 million offset by stock
repurchases of $152.9 million and dividends paid of $6.2 million.
Consolidated reserves for losses and loss adjustment expenses increased by 6.4%
in 1998 primarily due to the 7.8% increase in PMI's primary reserve per default
to $12,500 at December 31, 1998 and to the buildup of pool loss reserves.
Consolidated shareholders' equity increased by $36.3 million in 1998, consisting
of increases of $190.4 million from net income, $2.6 million from stock option
activity, and $2.5 million from other comprehensive income net of unrealized
gains on investments, offset by common stock repurchases of $152.9 million,
and dividends declared of $6.2 million.
PMI's statutory risk-to-capital ratio at December 31, 1998 was 14.9:1, compared
with 14.6:1 at December 31, 1997. (See RF9)
Year 2000 Issues
Impact of the Year 2000 Issue. The Company's business processes are highly
automated and dependent upon the consistent and accurate functioning of its
computer systems and the computer systems of its customers. As a result, the
Company is directing significant resources toward mitigating its exposure to the
so-called "Year 2000 issue." The Year 2000 issue arises from the failure of
computer software and hardware to process dates into and through the year 2000:
the number "00," for example, would be read as "1900" rather than "2000." The
technical problem is multifaceted and is composed of several different potential
deficiencies including, among others: (1) the inability of hardware to
interpret years greater than 1999; (2) the failure of software to process date
data from, into, and between the twentieth and twenty-first centuries; (3) the
inability of the number "99" to register an actual date (i.e., 1999) rather than
indefinite or unknown information (i.e., an employee's date of retirement, if
unknown, would be characterized as "99-99-99"); (4) the inability of systems to
recognize that the year 2000 is a leap year; and (5) the failure of systems that
are otherwise Year 2000 compliant to transfer data between each other because
each system has used a different "fix," and the methods are incompatible with
each other. If any of these deficiencies occur, the system may produce
miscalculations and/or "crash" and be unable to transfer or process data,
causing disruption in one or more aspects of the Company's operations. The
problem also affects many of the microprocessors that control systems and
equipment.
For purposes of this discussion, "Year 2000 compatible" means that the computer
hardware, software or device in question will function in year 2000 without
modification or adjustment or will function in 2000 with a one-time manual
adjustment. However, there can be no assurance that any such year 2000
compatible hardware, software or device will function properly when interacting
with any year 2000 noncompatible hardware, software or device.
State of Readiness. The Company has in place a Year 2000 project plan to
address the Year 2000 issue. The plan consists of three phases. The first phase
involved collecting data with
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respect to date processing issues, determining the project scope, identification
of resources to implement remediation, budgeting and completion of the formal
project plan. This phase was completed in early 1998 and included a priority
ranking designed to direct resources to the most critical systems first. As a
result of its first phase assessment, the Company determined that it will be
required to modify or replace a significant portion of its software so that
software will be Year 2000 compatible. The Company also determined that
remediation of the critical mortgage insurance origination and processing
applications used by PMI and CMG needed to be substantially completed by the
first business day of 1999 in order to avoid possible date calculation errors in
1999 and to satisfy the requirements of the government sponsored enterprises
("GSEs") and the federal and state regulators of the Company's customers. The
Federal Financial Institutions Examination Council guidelines for banks and
thrifts set various interim milestones for third party service providers such as
the Company, with final testing and substantial implementation required by June
30, 1999. Remediation of the Company's less critical applications is expected to
be completed during 1999. To date, PMI and CMG have met all readiness deadlines
or targets established by the GSEs and other regulators.
The second phase, which involves project staff procurement, code remediation and
unit testing, test plan development, Year 2000 policies and procedures
development and vendor readiness assessment, is substantially complete. The
third phase, which involves string and system testing and system installation,
is substantially complete. The Company completed remediation and testing of the
critical mortgage origination and processing applications referred to above
prior to its deadline of the first business day of 1999 and has converted its
database to the remediated software. The Company believes Year 2000
modifications to its critical mortgage origination and processing applications
were implemented successfully and that these systems will be Year 2000
compatible. (See RF1) Additional testing, including industry-sponsored testing
and testing of customer interfaces, is expected to continue through 1999. The
Company has completed remediation and testing of its telephone switches, and
management believes that these switches and other hardware and non-information
technology systems will be Year 2000 compatible. (See RF1)
Risks of Year 2000 Noncompatibility and Infrastructure Risks. The Company
currently believes that the remaining modifications to existing software and
conversions to new software utilized by the Company will be implemented
successfully and that the Year 2000 issue will not have a material adverse
impact on internal systems or operations. (See RF1) If, however, the Company's
past or future remediation efforts prove to be either inadequate or ineffective,
significant disruptions to the Company's operations could ensue which could have
a material adverse effect on the Company's liquidity, financial condition and
results of operations. Furthermore, the Company relies on financial
institutions, government agencies, utility companies, telecommunications service
companies and other service providers outside of its control. There can be no
assurance that such third parties will not suffer a Year 2000 business
disruption and it is conceivable that such failures could, in turn, have a
material adverse effect on the Company's liquidity, financial condition and
results of operations.
Risk Related to Vendors and Customers. As part of its Year 2000 project plan,
the Company has initiated communications with all of its large customers and
significant vendors to determine the extent to which the Company is vulnerable
to those third parties' failure to remediate their own Year 2000 issues. The
Company's vulnerability would likely result from the inability of the Company's
or customers' systems to process data received from the other, which could
disrupt the Company's mortgage insurance origination and claims processing,
and/or a disruption in the
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supply of goods and services procured from suppliers. Currently, a substantial
majority of the Company's mortgage insurance business is originated through non-
electronic channels, which serves to mitigate this type of customer risk,
although the Company anticipates that electronic originations will increase in
future periods. The Company has begun to receive responses from suppliers and
customers but has not independently confirmed the information received from
third parties with respect to their Year 2000 compliance status. The Company
plans to follow up with suppliers and customers that have not responded to its
initial inquiries. The Company's total Year 2000 project cost and estimates
include the estimated costs and time associated with assessing the impact of
third parties' Year 2000 issues, and are based in part upon such unconfirmed
information. Because of the large number of variables involved, the Company
cannot provide an estimate of the damage it might suffer if any of the Company's
significant customers or vendors failed to remediate their Year 2000 issues,
although management believes that the business disruption likely to result from
any prolonged Year 2000 non-compliance by customers or suppliers could have a
material adverse effect on the Company's liquidity, financial condition and
results of operations. (See RF1)
Costs to Address the Year 2000 Issue. The Company is utilizing both internal
and external personnel and resources to implement its Year 2000 project plan.
Currently, no planned material projects involving information or non-information
technology systems have been delayed or are anticipated to be delayed as a
result of the redirection of resources to the Year 2000 remediation effort. The
Company plans to complete its Year 2000 issue remediation project at a total
external cost of approximately $4.5 million, which will be funded from operating
cash flow and is being expensed as incurred. As of December 31, 1998, the
Company has incurred and expensed approximately $3.9 million in external costs
related to its Year 2000 project plan and remediation efforts. The estimated
costs do not include any potential costs related to customer or other claims, or
potential amounts related to executing contingency plans. The Company does not
separately track the internal costs incurred in connection with the Year 2000
project plan, which are principally payroll costs for employees working on the
project.
Contingency Plans. The Company is currently assessing possible contingency
plans designed to limit, to the extent possible, the business disruption and
financial effects of a failure by the Company to complete its Year 2000
remediation project in a timely manner. Although no formal contingency plan is
yet in place, the Company has considered its likely response in certain
circumstances. For example, if any of the Company's critical systems, such as
the mortgage insurance system's origination or billing applications, are
disrupted due to the Year 2000 issue, it is possible that the Company might need
to process data manually. The Company's intention in this event would be to
procure clerical personnel from temporary recruitment firms to process data.
Hiring such temporary personnel would materially increase the Company's
personnel expense and have a corresponding negative effect on operating income.
In the event of a major system disruption, the Company will have access to
duplicate records of critical data from the Company's systems which are
maintained and stored at an offsite location as a routine procedure related to
the Company's disaster recovery program. These duplicate records could be of
assistance in any Year 2000 recovery operation. The Company's contingency
assessment will continue through 1999 as the Company learns more about the
preparations and vulnerabilities of third parties regarding the Year 2000 issue
and a formal contingency plan is expected to be in place by June 30, 1999. (See
RF1)
The discussion above is designated as a Year 2000 Readiness Disclosure as
defined by the Year 2000 Information and Readiness Disclosure Act of 1998.
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STATEMENTS AND RISK FACTORS CONCERNING THE COMPANY'S OPERATIONS AND FUTURE
RESULTS
General Conditions (RF1)
Several factors such as economic recessions, declining housing values, higher
unemployment rates, deteriorating borrower credit, rising interest rates,
increases in refinance activity caused by declining interest rates, changes in
legislation affecting the mortgage insurance industry, or combinations of such
factors might affect the mortgage insurance industry and demand for housing in
general and could materially and adversely affect the Company's financial
condition and results of operations. Such economic events could materially and
adversely impact the demand for mortgage insurance, cause claims on policies
issued by PMI to increase, and/or cause a similar adverse increase in PMI's loss
experience.
Other factors that may influence the amount of NIW by PMI include: mortgage
insurance industry volumes of new business; the impact of competitive
underwriting criteria and product offerings and services, including mortgage
pool insurance and contract underwriting services; the ability to recruit and
maintain a sufficient number of qualified underwriters; the effect of risk-
sharing structured transactions; changes in the performance of the financial
markets; PMI's claims-paying ability rating; general economic conditions that
affect the demand for or acceptance of the Company's products; changes in
government housing policy; changes in government regulations or interpretations
regarding the Real Estate Settlement Procedures Act and customer consolidation.
PMI's financial condition and results of operations may materially and adversely
be impacted by changes in legislation which affects the ability of Fannie Mae or
Freddie Mac to offer a substitute for mortgage insurance, including self-
insurance and alternative forms of credit support, or for the FHA or the VA to
increase statutory lending limits or other expansion of eligibility for the FHA
and VA. (See RF2). PMI's financial condition and results of operations may
materially and adversely be impacted by changes in legislation, statutory
charters and regulations governing banks and savings institutions to form
reinsurance subsidiaries or permit the offering of other products which do not
require mortgage insurance. In addition, PMI's financial condition and results
of operations may materially and adversely be impacted by a reduction in the
amount of mortgage insurance coverage required by Fannie Mae and Freddie Mac.
(See RF3)
The costs of Year 2000 remediation, the dates on which the Company estimates
that it will complete such remediation and possible risks associated with the
Year 2000 issue are based upon the Company's current estimates and are subject
to various uncertainties that could cause the actual results to differ
materially from the Company's expectations. Such uncertainties include, among
others, the success of the Company in identifying systems that are not Year 2000
compliant, the nature and amount of programming required to remediate each
affected system, the nature and adequacy of testing performed by the Company,
the availability of qualified personnel, consultants and other resources, and
the success of the Year 2000 remediation efforts of others. If the Company's
recently completed remediation of its mission critical mortgage insurance
origination and application processing process is faulty or fails for any reason
to be Year 2000 compliant, this circumstance could adversely impact its business
operations and could
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have a material adverse affect on the Company's financial condition, liquidity
and results of operations. See Management Discussion and Analysis - Year 2000
Issues.
Market Share and Competition (RF2)
The Company's financial condition and results of operations could be materially
and adversely affected by a decline in its market share, or a decline in market
share of the private mortgage insurance industry as a whole. Numerous factors
bear on the relative position of the private mortgage insurance industry versus
government and quasi-governmental competition as well as the competition of
lending institutions that choose to remain uninsured, self-insure through
affiliates, or offer residential mortgage products that do not require mortgage
insurance. The impact of competitive underwriting criteria and product
offerings, including mortgage pool insurance and contract underwriting, has a
direct impact on the Company's market share. Further, several of the Company's
competitors have greater direct or indirect capital reserves that provide them
with potentially greater flexibility than the Company in addressing competitive
issues.
PMI competes directly with federal and state governmental and quasi-governmental
agencies, principally the FHA and, to a lesser degree, the VA. The Office of
the Comptroller of the Currency has granted permission to certain national banks
to form a reinsurance company as a wholly-owned operating subsidiary for the
purpose of reinsuring mortgage insurance written on loans originated or
purchased by such bank. The Federal Reserve Board is in the process of
considering whether similar activities are permitted for bank holding companies.
The Office of Thrift Supervision has also recently granted permission for
subsidiaries of thrift institutions to reinsure private mortgage insurance
coverage on loans originated or purchased by affiliates of such thrift's parent
organization. The reinsurance subsidiaries of national banks, savings
institutions, or bank holding companies could become significant competitors of
the Company in the future. Mortgage lenders, other than banks, thrifts or their
affiliates, are forming reinsurance affiliates that are typically regulated
solely by the insurance authority of their state of domicile. Management
believes that such reinsurance affiliates will increase competition in the
mortgage insurance industry and may materially and adversely impact PMI's market
share.
PMI offers various risk-sharing structured transactions, including a captive
reinsurance program as part of its strategic relationships with its customers.
PMI's customers have indicated an increasing demand for such products. PMI's
captive reinsurance program allows a reinsurance company, generally an affiliate
of the lender, to assume mortgage insurance default losses either on a quota
share basis, or at a specified entry point up to a maximum aggregate exposure,
up to an agreed upon amount of total coverage. An increasing percentage of PMI's
NIW is being generated by customers which have captive reinsurance programs, and
it is expected that this will continue and increase. Based on the current
structure, such products have the potential of reducing the Company's business
revenue as more premiums are ceded to customer captives. There can be no
assurance that PMI's risk-sharing structured transactions will continue to be
accepted by its customers. The inability of the Company to provide acceptable
risk-sharing structured transactions to its customers would likely have an
adverse effect on the competitive position of PMI and consequently could
materially and adversely affect the Company's financial condition, liquidity and
results of operations.
Certain lenders originate a first mortgage lien with an 80% LTV ratio, a 10%
second mortgage lien, and 10% of the purchase price from borrower's funds
("80/10/10"). This 80/10/10 product
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competes with mortgage insurance as an alternative for lenders selling loans in
the secondary mortgage market. The Federal Deposit Insurance Corporation and
other banking regulators recently approved rules to be effective April 1, 1999
that would require national banks to hold almost twice as much risk-based
capital to cover possible defaults on the 80/10/10 products when the lender
holds the first and second mortgage. State-chartered banks already are subject
to the higher capital requirement. If the 80/10/10 product becomes a widely
accepted alternative to mortgage insurance, it could have a material and adverse
impact on the Company's financial condition and results of operations.
Legislation and regulatory changes affecting the FHA have affected demand for
private mortgage insurance. Effective January 1, 1999, the Department of Housing
and Urban Development announced an increase in the maximum individual loan
amount that FHA can insure to $208,800 from $197,620. The maximum individual
loan amount that the VA can insure is $203,150. The Omnibus Spending Bill of
1999, signed into law on October 21, 1998, among other items, streamlined the
FHA downpayment formula by eliminating tiered minimum cash investment
requirements and establishing maximum loan-to-value ratios based on loan size
and closing costs, making FHA insurance more competitive with private mortgage
insurance in areas with higher home prices.
Although management believes that it is too early to ascertain the impact of the
increase in the maximum individual loan amount the FHA can insure, any increase
in the maximum loan amount would likely have an adverse effect on the
competitive position of PMI and, consequently, could materially and adversely
affect the Company's financial condition and results of operations.
Fannie Mae and Freddie Mac (RF3)
The GSEs are permitted by statute to purchase conventional high-LTV mortgages
from lenders who obtain mortgage insurance on those loans. Fannie Mae and
Freddie Mac have some discretion to increase or decrease the amount of private
mortgage insurance coverage they require on loans. Fannie Mae and Freddie Mac
both recently announced programs where reduced mortgage insurance coverage will
be made available for lenders that deliver loans approved by the GSEs' automated
underwriting services, Loan Prospector/(SM)/ and Desktop Underwriter/(TM)/,
respectively. Generally, Fannie Mae's and Freddie Mac's reduced mortgage
insurance coverage options provide for: (i) across-the-board reductions in
required MI coverage on 30-year fixed-rate loans recommended for approval by
GSE's automated underwriting services to the levels in effect in 1994; (ii)
reduction in required MI coverage, for loans with only a 5 percent down payment
(a 95 percent LTV), from 30 percent to 25 percent of the mortgage loan covered
by MI; (iii) reduction in required MI coverage, for loans with a 10 percent down
payment (a 90 percent LTV loan), from 25 percent to 17 percent of the mortgage
loan covered by MI.. In addition, the GSE's announced programs to further reduce
MI coverage upon the payment of an additional fee by the lender. Under this
option, a 95 percent LTV loan will require 18 percent of the mortgage loan have
mortgage insurance coverage. Similarly, a 90 percent LTV loan will require 12
percent of the mortgage loan have mortgage insurance. In order for the home
buyer to have MI at these levels, such loans would require a payment at closing
or a higher note rate.
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Management believes it is too early to assess impact of the Fannie Mae and
Freddie Mac reduction of required levels of mortgage insurance on the Company's
financial condition and results of operation. If the reduction in required
levels of mortgage insurance were to become widely accepted by mortgage lenders
and their customers, however, such reduction could have a materially adverse
impact on the Company's financial condition and results of operation.
During October 1998, Freddie Mac sought to amend its charter to allow it to use
any method of default loss protection that is financially equal or superior, on
an individual or pooled basis, to the protection provided by private mortgage
insurance companies. The legislation containing the proposed charter amendment
was subsequently rescinded. Currently, Freddie Mac can purchase loans with
downpayments of less than 20%, only if the loans are insured or use other
limited methods to protect against default.
Subsequent to the withdrawal of the legislation, Freddie Mac announced that it
would pursue a permanent charter amendment that would allow Freddie Mac to
utilize alternative forms of default loss protection, such as spread accounts,
or otherwise forego the use of private mortgage insurance on higher loan-to-
value mortgages. In addition, Fannie Mae announced it is interested in pursuing
new risk management options and is working with mortgage insurers and lenders on
appropriate risk management and dispersion of risk, which may include a
reduction in the use of mortgage insurance.
Fannie Mae's and Freddie Mac's current guidelines regarding cancellation of
mortgage insurance generally provide that a borrower's written request to cancel
mortgage insurance should be honored if: (a) the borrower has a satisfactory
payment record, no payment more than 30 days delinquent in the 12-month period
preceding the request for cancellation; and (b) the unpaid principal balance of
the mortgage is not greater than 80% of the original value of the property.
(See RF4 for a discussion of recent Federal legislation providing for guidelines
for automatic mortgage insurance cancellation)
The GSEs are the predominant purchasers and sellers of conventional mortgage
loans in the United States, providing a direct link between the primary
mortgage origination markets and the capital markets. Because loan originators
prefer to make loans that may be marketed in the secondary market to Fannie
Mae and/or Freddie Mac they are motivated to purchase mortgage insurance from
insurers deemed eligible by the GSEs. Although management believes that it is
too early to ascertain the impact of the increase in the maximum individual
loan amount the GSEs can insure, management believes any increase in the
maximum loan amount would likely increase the number of loans eligible for
mortgage insurance and may have the effect of increasing the size of the
mortgage insurance market, and have a positive effect on the competitive
position of PMI and consequently could materially affect the Company's
financial condition and results of operations.
Fannie Mae and Freddie Mac impose requirements on private mortgage insurers for
such insurers to be eligible to insure loans sold to such agencies. Under Fannie
Mae and Freddie Mac regulations, PMI needs to maintain at least an "AA-" or
equivalent claims-paying ability rating in order to provide mortgage insurance
on loans purchased by the GSEs. Failure to maintain such a rating would
effectively cause PMI to be ineligible to provide mortgage insurance. A loss of
PMI's existing eligibility status, either due to a failure to maintain a minimum
claims-paying ability rating from the various rating agencies or non-compliance
with other eligibility requirements, would have a material, adverse effect on
the Company's financial condition and results of operations. (See RF2)
Insurance in Force (RF4)
A significant percentage of PMI's premiums earned is generated from its existing
insurance in force and not from new insurance written. PMI's policies for
insurance coverage typically have a policy duration of six to eight years.
Insurance coverage may be canceled by the policy owner or servicer of the loan
at any time. PMI has no control over the owner's or servicer's decision to
cancel insurance coverage and self-insure or place coverage with another
mortgage insurance company. There can be no assurance that policies for
insurance coverage originated in a particular year or for a particular customer
will not be canceled at a later time or that the
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Company will be able to regain such insurance coverage at a later time. As a
result, the Company's financial condition and results of operation could be
materially and adversely affected by greater than anticipated policy
cancellations or lower than projected persistency resulting in declines in
insurance in force.
Upon request by an insured, PMI must cancel the mortgage insurance for a
mortgage loan. In addition, The Home Owners Protection Act of 1998 (the "Act"),
which is effective on July 29, 1999, provides for the automatic termination, or
cancellation upon a borrower's request, of private mortgage insurance upon
satisfaction of certain conditions. The Act applies to owner- occupied
residential mortgage loans regardless of lien priority, with borrower-paid
mortgage insurance, closed after the effective date of the Act. FHA loans are
not covered by the Act. Under the Act, automatic termination of mortgage
insurance would generally occur once the loan-to-value ratio ("LTV") reaches
78%. A borrower may generally request cancellation of mortgage insurance once
the LTV reaches 80% of the home's original value, or when actual payments reduce
the loan balance to 80% of the home's original value, whichever occurs earlier.
For borrower initiated cancellation of mortgage insurance, the borrower must
have a good payment history. Good payment history generally requires that there
have been no payments during the 12-month period preceding the loan's
cancellation date 30 days or more past due, or 60 days or more past due during
the 12-month period beginning 24 months before the loan's cancellation date.
Loans which are deemed "high risk" by the GSEs, require automatic termination of
mortgage insurance coverage once the LTV is first scheduled to reach 77% of the
original value of the property without regard to the actual outstanding balance.
The Act preempts all but more protective, preexisting state laws. Protected
state laws are preempted if inconsistent with the Act. Protected state laws are
consistent with the Act if they require: (i) termination of mortgage insurance
at an earlier date or higher mortgage principal balance than required by the
Act, or (ii) disclosure of more, earlier, or more frequent information. States
which enacted mortgage insurance cancellation laws on or before January 2, 1998,
have until July 29, 2000 to make their statutes consistent with the Act. States
that currently have mortgage insurance cancellation or notification laws
include: California, Connecticut, Illinois, Maryland, Minnesota, Missouri, New
York, Texas and Washington. Management is uncertain about the impact of the Act
on PMI's insurance in force, but believes any reduction in premiums attributed
to the Act's required cancellation of mortgage insurance, will not have a
significant impact on the Company's financial condition and results of operation
for the foreseeable future. (See RF10)
During an environment of falling interest rates, an increasing number of
borrowers refinance their mortgage loans. PMI and other mortgage insurance
companies generally experience an increase in the prepayment rate of insurance
in force, resulting from policy cancellations of older books of business with
higher rates of interest. Although PMI has a history of expanding business
during low interest rate environments, the resulting increase of NIW may
ultimately prove to be inadequate to compensate for the loss of insurance in
force arising from policy cancellations. A decrease in persistency, resulting
from policy cancellations of older books of business affected by refinancings
(which are affected, among other things, by decreases in interest rates) may
materially and adversely impact the level or rate of growth of insurance in
force or risk in force and consequently have similar impacts on the Company's
financial condition and results of operations.
Rating Agencies (RF5)
PMI's claims-paying ability is currently rated "AA+" (Excellent) by Standard and
Poor's Rating Services, "Aa2" (Excellent) by Moody's Investors Service, Inc.,
"AA+" (Very Strong) by Fitch IBCA, and "AA+" (Very High) by Duff & Phelps Credit
Rating Co. These ratings are subject to revisions or withdrawal at any time by
the assigning rating organization. The ratings by the organizations are based
upon factors relevant to PMI's policyholders, principally PMI's capital
resources as computed by the rating agencies, and are not applicable to the
Company's common stock or outstanding debt.
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Rating agencies generally assess capital charges on pool insurance policies
based on price and structure. One published methodology for assessing the
capital requirement for pool insurance is based on the real estate depression
which occurred in oil producing states during the mid-1980's. Management
believes the current capital charge that could be levied on pool insurance risk
by one rating agency is approximately $1.00 of capital for each $1.40 of pool
insurance risk. In comparison, primary mortgage insurance regulators
specifically limit the amount of insurance risk that may be written by PMI
according to a number of financial tests, including limiting risk, to a multiple
of 25 times PMI's statutory capital (which includes the contingency reserve).
The rating agencies could change their view as to the capital charges that are
assessed on pool insurance products at any time. (See RF10)
Management believes that a significant reduction in PMI's claims-paying ratings
could have a material, adverse effect on the Company's financial condition and
results of operations. (See RF6)
Liquidity (RF6)
In the mortgage guaranty insurance industry, liquidity refers to the ability of
an enterprise to generate adequate amounts of cash from its normal operations,
including premiums received and investment income, in order to meet its
financial commitments, which are principally obligations under the insurance
policies it has written. Liquidity requirements are significantly influenced by
the level and severity of claims.
TPG's principal sources of funds are dividends from PMI and APTIC, investment
income and funds that may be raised from time to time in the capital markets.
Numerous factors bear on the Company's ability to maintain and meet its capital
and liquidity needs, including the performance of the financial markets,
standards and factors used by various credit rating agencies, financial
covenants in credit agreements, and standards imposed by state insurance
regulators relating to the payment of dividends by insurance companies. Any
significant change in the performance of the financial markets negatively
affecting the Company's ability to secure sources of capital, or changes in the
standards used by credit rating agencies which adversely impact PMI's claims-
paying ability rating, or changes in the insurance laws of Arizona, Florida or
Wisconsin that restrict the ability of PMI, APTIC or CMG to pay dividends at
currently permissible levels, could adversely affect the Company's ability to
maintain capital resources to meet its business needs, and thereby have a
material, adverse affect on the Company's financial condition, liquidity and
results of operations.
Contract Underwriting Services; New Products (RF7)
The Company provides contract underwriting services for a fee that enable
customers to improve the efficiency and quality of their operations by
outsourcing all or part of their mortgage loan underwriting. As a part of its
contract underwriting services, PMI provides remedies which may include the
assumption of some of the costs of repurchasing insured and uninsured loans from
the GSEs and other investors. Generally, the scope of these remedies are in
addition to those contained in PMI's master primary insurance policies. Due to
the increasing demand of contract underwriting services, the limited number of
underwriting personnel available, and heavy price competition among mortgage
insurance companies, PMI's inability to recruit and maintain a sufficient number
of qualified underwriters, or any significant increase in the cost PMI incurs to
17
<PAGE>
satisfy remedy obligations for underwriting services, could materially and
adversely affect its market share and materially and adversely affect the
Company's financial condition and results of operations.
TPG and PMI, from time to time, introduce new mortgage insurance products or
programs. The Company's financial condition and results of operations could be
materially and adversely affected if PMI or the Company experiences delays in
introducing competitive new products and programs. In addition, for any
introduced product, there can be no assurance that such products, including any
mortgage pool type products, or programs will be as profitable as the Company's
existing products and programs.
New York Department of Insurance (RF8)
In February 1999, the New York Department of Insurance stated in Circular Letter
No. 2, addressed to all private mortgage insurers licensed in New York that
certain pool risk-share and structured products and programs would be considered
to be illegal under New York law. PMI believes that it complies with the
requirements of Circular Letter No. 2 with respect to transactions that are
governed by it. In the event the New York Department of Insurance determined
PMI was not in compliance with Circular Letter No. 2, it could materially and
adversely affect the Company's financial condition and results of operations.
Risk-to-Capital Ratio (RF9)
The State of Arizona, and other regulators specifically limit the amount of
insurance risk that may be written by PMI, by a variety of financial factors.
Other factors affecting PMI's risk-to-capital ratio include: (i) regulatory
review and oversight by the State of Arizona, PMI's state of domicile for
insurance regulatory purposes; (ii) limitations under the Runoff Support
Agreement with Allstate, which prohibit PMI from paying any dividends if, after
the payment of any such dividend, PMI's risk-to-capital ratio would equal or
exceed 23 to 1; (iii) TPG's credit agreements; and (iv) TPG's and PMI's credit
or claims-paying ability ratings which generally require that the rating
agencies' risk-to-capital ratio not exceed 20 to 1.
Significant losses could cause a material reduction in statutory capital,
causing an increase in the risk-to-capital ratio and thereby limit PMI's ability
to write new business. The inability to write new business could materially and
adversely affect the Company's financial condition and results of operations.
Changes in Composition of Insurance Risk Written; Pool Insurance (RF10)
The composition of PMI's NIW has included an increasing percentage of mortgages
with LTVs in excess of 90% and less than or equal to 95% ("95s"). At December
31, 1998, 46.3% of PMI's risk in force consisted of 95s, which, in PMI's
experience, have had a claims frequency approximately twice that of mortgages
with LTVs equal to or less than 90% and over 85% ("90s"). PMI also offers
coverage for mortgages with LTVs in excess of 95% and up to 97% ("97s"). At
December 31, 1998, 3.3% of PMI's risk in force consisted of 97s which have even
higher risk characteristics than 95s and greater uncertainty as to pricing
adequacy. PMI's NIW also includes adjustable rate mortgages ("ARMs"), which,
although priced higher, have risk characteristics that exceed the risk
characteristics associated with PMI's book of business as a whole. Since the
fourth quarter of 1997, PMI has offered a new pool insurance product. Pool
18
<PAGE>
insurance is generally used as an additional credit enhancement for certain
secondary market mortgage transactions and generally covers the loss on a
defaulted mortgage loan that exceeds the claim payment under the primary
coverage, if primary insurance is required on that mortgage loan. Pool insurance
also generally covers the total loss on a defaulted mortgage loan which did not
require primary insurance, in each case up to a stated aggregate loss limit. New
pool risk written was $450 million for the year ended December 31, 1998.
Management is uncertain about the amount of new pool risk which will be written
in 1999, but believes total new 1999 pool risk will be less than in 1998.
Although PMI charges higher premium rates for loans that have higher risk
characteristics, including ARMs, 95s, 97s and pool insurance products, the
premiums earned on such products, and the associated investment income, may
ultimately prove to be inadequate to compensate for future losses from such
products. Such losses could materially and adversely affect the Company's
financial condition and results of operations. (See RF5)
Potential Increase in Claims (RF11)
Mortgage insurance coverage generally cannot be canceled by PMI and remains
renewable at the option of the insured until required to be canceled under
applicable Federal or state laws for the life of the loan. As a result, the
impact of increased claims from policies originated in a particular year
generally cannot be offset by premium increases on policies in force or
mitigated by nonrenewal of insurance coverage. There can be no assurance,
however, that the premiums charged will be adequate to compensate PMI for the
risks and costs associated with the coverage provided to its customers. (See
RF5)
Loss Reserves (RF12)
PMI establishes loss reserves based upon estimates of the claim rate and average
claim amounts, as well as the estimated costs, including legal and other fees,
of settling claims. Such reserves are based on estimates, which are regularly
reviewed and updated. There can be no assurance that PMI's reserves will prove
to be adequate to cover ultimate loss development on incurred defaults. The
Company's financial condition and results of operations could be materially and
adversely affected if PMI's reserve estimates are insufficient to cover the
actual related claims paid and expenses incurred.
Regional Concentration (RF13)
In addition to nationwide economic conditions, PMI could be particularly
affected by economic downturns in specific regions where a large portion of its
business is concentrated, particularly California, Florida, and Texas, where PMI
has 17.6%, 7.3% and 7.2% of its risk in force concentrated and where the default
rate on all PMI policies in force is 3.15%, 3.08% and 2.18% compared with 2.31%
nationwide as of December 31, 1998.
Continuing Relationships with Allstate and Affiliate (RF14)
In December 1993, PMI entered into a Reinsurance Treaty with Forestview Mortgage
Insurance Company ("Forestview") whereby Forestview agreed to reinsure all
liabilities (net of amounts collected from third party reinsurers and
indemnitors) in connection with PMI's mortgage pool insurance business in
exchange for premiums received. In 1994, Forestview also agreed that as soon as
practicable after November 1, 1994, Forestview and PMI would seek regulatory
approval
19
<PAGE>
for the Reinsurance Treaty to be deemed to be an assumption agreement
and that, upon receipt of the requisite approvals, Forestview would assume such
liabilities. Forestview's claims-paying ability is currently rated "AA" by
Fitch IBCA. Forestview's previous claims-paying ability rating of "AA"
(Excellent) was withdrawn by Standard and Poor's Rating Services ("S&P") in
1997. These ratings are subject to revisions or withdrawal at any time by the
assigning rating organization. Management is uncertain at this time what impact
the withdrawal of the claims-paying ability rating will have on the parties'
ability to timely consummate the assumption transaction. Pursuant to this
agreement, PMI ceded $9.0 million of pool premiums to Forestview and Forestview
reimbursed PMI for pool claims on the covered policies in the amount of $26.8
million in 1998. The failure of Forestview to meet its contractual commitments
would materially and adversely affect the Company's financial condition and
results of operations.
On October 28, 1994, TPG entered into a Runoff Support Agreement (the "Runoff
Support Agreement") with Allstate Insurance Company ("Allstate") to replace
various capital support commitments that Allstate had previously provided to
PMI. Allstate agreed to pay claims on certain insurance policies issued by PMI
prior to October 28, 1994, if PMI's financial condition deteriorates below
specified levels, or if a third party brings a claim thereunder. Alternatively,
Allstate may make contributions directly to PMI or TPG. In the event that
Allstate makes payments or contributions under the Runoff Support Agreement
(which possibility management believes is remote), Allstate would receive
subordinated debt or preferred stock of PMI or TPG in return. No payment
obligation arose under the Runoff Support Agreement.
20
<PAGE>
Consolidated Statements of
O p e r a t i o n s
<TABLE>
<CAPTION>
Year Ended December 31,
(In thousands, except per share amounts) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Revenues Premiums earned $ 491,226 $ 453,948 $ 412,738
Investment income, less investment expense 84,681 83,136 67,442
Realized capital gains 24,636 19,584 14,296
Other income 20,366 7,979 6,948
-----------------------------------------------
Total revenues 620,909 564,647 501,424
-----------------------------------------------
Losses and Losses and loss adjustment expenses 135,716 152,257 152,409
Expenses Policy acquisition costs 60,280 43,395 46,192
Underwriting and other operating expenses 142,625 111,745 79,810
Interest expense 7,029 6,766 907
Distributions on preferred capital securities 8,311 7,617 -
-----------------------------------------------
Total losses and expenses 353,961 321,780 279,318
-----------------------------------------------
Income before income taxes 266,948 242,867 222,106
Income tax expense 76,588 67,558 64,188
-----------------------------------------------
Net income $ 190,360 $ 175,309 $ 157,918
===============================================
Per Share Basic net income per common share $ 6.06 $ 5.25 $ 4.52
===============================================
Diluted net income per common share $ 6.04 $ 5.23 $ 4.51
===============================================
</TABLE>
See notes to consolidated financial statements.
21
<PAGE>
Consolidated
B a l a n c e S h e e t s
<TABLE>
<CAPTION>
As of December 31,
(Dollars in thousands) 1998 1997
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Assets Investments:
Available for sale, at market:
Fixed income securities (amortized
cost $1,268,625 and $1,234,178) $ 1,356,869 $ 1,308,768
Equity securities:
Common (cost $34,129 and $38,221) 58,785 73,596
Preferred (cost $17,240 and $12,049) 17,706 12,360
Common stock of affiliates, at underlying book value 60,450 16,987
Short-term investments 38,414 78,890
---------------------------------
Total investments 1,532,224 1,490,601
Cash 9,757 11,101
Accrued investment income 20,150 20,794
Reinsurance recoverable and prepaid premiums 42,102 31,676
Premiums receivable 24,367 19,756
Receivable from affiliate 2,229 451
Receivable from Allstate 23,657 16,822
Deferred policy acquisition costs 61,605 37,864
Property and equipment, net 37,630 31,393
Other assets 24,149 26,145
---------------------------------
Total assets $ 1,777,870 $ 1,686,603
=================================
Liabilities Reserve for losses and loss adjustment expenses $ 215,259 $ 202,387
Unearned premiums 94,886 94,150
Long-term debt 99,476 99,409
Reinsurance balances payable 14,764 11,828
Deferred income taxes 96,730 76,395
Other liabilities and accrued expenses 60,200 42,248
---------------------------------
Total liabilities 581,315 526,417
---------------------------------
Commitments and contingent liabilities (Note 11) - -
Company-obligated mandatorily redeemable preferred
capital securities of subsidiary trust holding
solely junior subordinated deferrable interest
debenture of
the Company 99,040 99,006
Shareholders' Preferred stock - $.01 par value; 5,000,000 shares authorized - -
Equity Common stock - $.01 par value; 125,000,000 shares
authorized, 35,196,002 and 35,145,247 issued 352 351
Additional paid-in capital 265,040 262,448
Accumulated other comprehensive income 74,462 71,936
Retained earnings 1,060,724 876,588
---------------------------------
1,400,578 1,211,323
Less treasury stock (4,917,401 and 2,684,000 shares at cost) 303,063 150,143
---------------------------------
Total shareholders' equity 1,097,515 1,061,180
---------------------------------
Total liabilities and shareholders' equity $ 1,777,870 $ 1,686,603
=================================
</TABLE>
See notes to consolidated financial statements.
22
<PAGE>
Consolidated Statements of
S h a r e h o l d e r s' E q u i t y
<TABLE>
<CAPTION>
Year Ended December 31,
(In thousands) 1998 1997 1996
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Common Balance, beginning of year $ 351 $ 350 $ 350
Stock Stock grants and exercise of stock options 1 1 -
-----------------------------------------------
Balance, end of year 352 351 350
-----------------------------------------------
Additional Balance, beginning of year 262,448 258,059 256,507
Paid-in Stock grants and exercise of stock options 2,592 4,389 1,552
-----------------------------------------------
Capital Balance, end of year 265,040 262,448 258,059
-----------------------------------------------
Accumulated Balance, beginning of year 71,936 50,709 56,761
-----------------------------------------------
Other Unrealized gains on investments:
Comprehensive Unrealized holding gains arising during period
Income (net of tax of $9,982, $18,285, and $1,745) 18,539 33,957 3,240
Less: reclassification adjustment for gains
included in net income
(net of tax of $8,623, $6,854, and $5,004) (16,013) (12,730) (9,292)
-----------------------------------------------
Other comprehensive income (loss), net of tax 2,526 21,227 (6,052)
-----------------------------------------------
Balance, end of year 74,462 71,936 50,709
-----------------------------------------------
Retained Balance, beginning of year 876,588 707,885 556,969
Earnings Net income 190,360 175,309 157,918
Dividends declared (6,224) (6,606) (7,002)
-----------------------------------------------
Balance, end of year 1,060,724 876,588 707,885
-----------------------------------------------
Treasury Balance, beginning of year (150,143) (30,141) (84)
Stock Purchases of The PMI Group, Inc. common stock (152,920) (120,002) (30,057)
-----------------------------------------------
Balance, end of year (303,063) (150,143) (30,141)
-----------------------------------------------
Total shareholders' equity $ 1,097,515 $ 1,061,180 $ 986,862
===============================================
Comprehensive Net income $ 190,360 $ 175,309 $ 157,918
Income Other comprehensive income (loss), net of tax 2,526 21,227 (6,052)
-----------------------------------------------
Comprehensive income $ 192,886 $ 196,536 $ 151,866
===============================================
</TABLE>
See notes to consolidated financial statements.
23
<PAGE>
Consolidated Statements of
C a s h F l o w s
<TABLE>
<CAPTION>
Year Ended December 31,
(In thousands) 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Cash Net income $ 190,360 $ 175,309 $ 157,918
Flows Reconciliation of net income to net cash provided by
from operating activities:
Operating Realized capital gains, net (24,636) (19,584) (14,296)
Activities Equity in earnings of affiliates (3,225) (1,455) (192)
Depreciation and amortization 6,282 4,679 3,283
Changes in:
Reserve for losses and loss adjustment expenses 12,872 2,613 7,687
Unearned premiums 736 (22,801) (23,371)
Deferred policy acquisition costs (23,741) (6,231) (8,647)
Accrued investment income 644 (1,355) (1,072)
Reinsurance balances payable 2,936 (1,467) (5,446)
Reinsurance recoverable and prepaid premiums (10,426) 51,703 (5,372)
Premiums receivable (4,611) (5,109) (14,647)
Income taxes 19,444 14,179 1,915
Receivable from affiliate (1,778) 127 (454)
Receivable from Allstate (6,835) - (2,089)
Other 20,079 (4,070) 6,589
--------------------------------------------
Net cash provided by operating activities 178,101 186,538 101,806
--------------------------------------------
Cash Proceeds from sales of equity securities 75,181 82,008 97,104
Flows Investment collections of fixed income securities 54,374 13,590 32,595
from Proceeds from sales of fixed income securities 120,404 367,865 211,945
Investing Purchases of fixed income securities (207,686) (573,627) (415,162)
Activities Purchases of equity securities (53,092) (33,010) (77,634)
Net decrease in short-term investments 40,476 2,986 434
Investment in affiliates (40,024) (3,600) (1,350)
Purchases of property and equipment (12,417) (13,687) (10,213)
--------------------------------------------
Net cash used in investing activities (22,784) (157,475) (162,281)
--------------------------------------------
Cash Issuance of redeemable preferred capital securities - 99,000 -
Flows Issuance of long-term debt - - 99,337
from Proceeds from exercise of stock options 2,592 3,181 1,135
Financing Dividends paid to shareholders (6,333) (6,733) (7,002)
Activities Purchases of The PMI Group, Inc. common stock (152,920) (120,002) (30,057)
--------------------------------------------
Net cash provided by (used in) financing
activities (156,661) (24,554) 63,413
--------------------------------------------
Net increase (decrease) in cash (1,344) 4,509 2,938
Cash at beginning of year 11,101 6,592 3,654
--------------------------------------------
Cash at end of year $ 9,757 $ 11,101 $ 6,592
============================================
</TABLE>
See notes to consolidated financial statements.
24
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
Basis of Presentation - The accompanying consolidated financial statements
include the accounts of The PMI Group, Inc. ("TPG"), its wholly owned
subsidiaries, PMI Mortgage Insurance Co. ("PMI"), Residential Guaranty Co.
("RGC"), American Pioneer Title Insurance Company ("APTIC"), PMI Mortgage
Guaranty Co. ("PMG"), and PMI Capital I ("PCI"), PMI's wholly owned subsidiaries
PMI Mortgage Services Co. ("MSC") and PMI Securities Co. ("SEC"), collectively
referred to as the "Company." All material intercompany transactions and
balances have been eliminated in consolidation.
Formation of Company - TPG was incorporated in December 1993. After obtaining
the required regulatory approvals, on November 28, 1994, Allstate Insurance
Company ("Allstate") contributed all of the outstanding common stock of PMI to
TPG. Allstate had previously been the direct owner of all of the common stock of
PMI. Allstate is a wholly owned subsidiary of The Allstate Corporation
("Allstate Corp.").
On April 18, 1995, Allstate, which had been the sole shareholder of the Company,
sold 24.5 million shares of the Company's common stock, representing 70% of the
outstanding shares of common stock, for approximately $784.0 million (net of
related underwriting discount) in an underwritten public offering registered
under the Securities Act of 1933. Concurrent with the stock offering, Allstate
Corp. sold a new issue of 6.76% exchangeable notes due in April 1998. On April
15, 1998, Allstate Corp. exchanged 8,602,650 shares of TPG common stock to
redeem the 6.76% exchangeable notes due April 15, 1998. After the exchange,
Allstate held approximately 1,897,350 shares of TPG common stock, which has
subsequently been sold by Allstate.
NOTE 2. BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business -The Company, through PMI, primarily writes residential mortgage
guaranty insurance ("primary insurance"). During 1997, PMI also began offering a
mortgage pool insurance product, which differs in a number of respects from the
pool insurance products offered through 1993 ("Old Pool" See Note 6). In
addition, the Company writes title insurance through APTIC. Primary mortgage
insurance provides protection to mortgage lenders against losses in the event of
borrower default and assists lenders in selling mortgage loans in the secondary
market. Pool insurance is generally used as an additional credit enhancement for
certain secondary market mortgage transactions. Title insurance protects the
insured party against losses resulting from title defects, liens and
encumbrances existing as of the effective date of the policy.
Basis of Accounting - The financial statements have been prepared on the basis
of generally accepted accounting principles ("GAAP"), which vary from statutory
accounting practices prescribed or permitted by insurance regulatory authorities
(See Note 14). The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Investments - The Company has designated its entire portfolio of fixed income
and equity securities as available for sale. Such securities are carried at
market value with unrealized gains and losses, net of deferred income taxes,
reported as a component of accumulated other comprehensive income.
In September 1994, PMI acquired 45% of the common stock of CMG Mortgage
Insurance Company ("CMG") from CUNA Mutual Investment Corp. ("CMIC"). On October
1, 1998, PMI increased its equity investment in CMG to 50% by obtaining
additional shares of common stock at a total cost of $4.8 million. CMIC
continues to own the remaining 50% of the common stock of CMG. In addition, TPG
owns 22.3% of RAM Holdings Ltd. and RAM Holdings II Ltd. (collectively referred
to as "RAM Re"). Such affiliated investments are reported in accordance with the
equity method of accounting.
Investment income consists primarily of interest and dividends. Interest is
recognized on an accrual basis and dividends are recorded on the date of
declaration. Realized capital gains and losses are determined on a
specific-identification basis.
Property and Equipment - Property and equipment (including software) is carried
at cost less accumulated depreciation. The Company provides for depreciation
using the straight-line method over the estimated useful lives of the assets,
generally 3 to
25
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
10 years for equipment and 40 years for real property. Accumulated depreciation
on property and equipment was $38.9 million and $33.1 million at December 31,
1998 and 1997, respectively.
Insurance Accounting - Primary mortgage insurance policies are contracts that
are non-cancelable by the insurer, are renewable at a fixed price at the
insured's option, and provide for the payment of premiums on either a monthly,
annual or single payment basis. Upon renewal by the insured, the Company is not
able to re-underwrite or re-price its policies. Premiums written on a single
premium and an annual premium basis are initially deferred as unearned premiums
and earned over the policy term. Premiums written on policies covering more than
one year (single premium plans) are amortized over the policy life in relation
to the expiration of risk. Premiums written on annual payment policies are
earned on a monthly pro rata basis. Premiums written on monthly payment policies
are earned in the period to which they relate, and any unreceived portion is
recorded in premiums receivable. Title insurance premiums are recognized as
revenue on the effective date of the title insurance policy. Fee income of the
non-insurance subsidiaries is earned as the services are provided.
Certain costs of acquiring mortgage insurance business, including compensation,
premium taxes and other underwriting expenses, are deferred, to the extent
recoverable, and amortized over 24 months (see Note 5, "Deferred Acquisition
Costs").
The reserve for losses and loss adjustment expenses is the estimated cost of
settling claims related to notices of default on insured loans that have been
reported to the Company as well as loan defaults that have occurred but have not
been reported. Estimates are based on an evaluation of claim rates, claim
amounts, and salvage recoverable. Reserves for title insurance claims are based
on estimates of the amounts required to settle such claims, including expenses
for defending claims for which notice has been received and an amount estimated
for claims not yet reported.
Management believes that the reserve for losses and loss adjustment expenses at
December 31, 1998 is appropriately established in the aggregate and is adequate
to cover the ultimate net cost of reported and unreported claims arising from
losses which had occurred by that date. The establishment of appropriate
reserves is an inherently uncertain process. Such reserves are necessarily based
on estimates and the ultimate net cost may vary from such estimates. These
estimates are regularly reviewed and updated using the most current information
available. Any resulting adjustments, which may be material, are reflected in
current operations.
Income per Common Share - Basic earnings per share (EPS) excludes dilution and
is computed by dividing net income available to common shareholders by the
weighted average number of common shares outstanding for the period. Diluted EPS
reflects the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common stock.
The weighted average common shares outstanding for computing basic EPS were
31,393,782 for 1998, 33,385,828 for 1997 and 34,951,764 for 1996. The weighted
average common shares outstanding for computing diluted EPS includes only stock
options issued by the Company which have a dilutive impact and are outstanding
for the period, and had the potential effect of increasing common shares to
31,532,710 for 1998, 33,510,261 for 1997 and 35,039,976 for 1996. Net income
available to common shareholders does not change for computing diluted EPS.
Income Taxes - The Company accounts for income taxes using the liability method,
whereby deferred tax assets and liabilities are recorded based on the difference
between the financial statement and tax bases of assets and liabilities at the
currently enacted tax rates. The principal assets and liabilities giving rise to
such differences are presented in Note 7.
Concentration of Risk - A substantial portion of PMI's business is generated
within the State of California. For the year ended December 31, 1998, 14.9% of
new insurance written was in California. In addition, California's book of
business represented 17.6% of total risk in force at December 31, 1998.
Stock-Based Compensation - The Company accounts for stock-based awards to
employees and directors using the intrinsic value method in accordance with
Accounting Principles Board Opinion ("APB") No. 25, Accounting for Stock Issued
to Employees (see Note 13).
New Accounting Pronouncements - In 1998, PMI adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, Reporting Comprehensive Income, SFAS No.
131, Disclosures about Segments of an Enterprise and Related Information, and
SFAS No. 132, Employers' Disclosures about Pensions and Other Postretirement
Benefits. SFAS No. 130 requires that an enterprise report, by major component
and as a single total, the change in its net assets during the period from
non-owner
26
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
sources. SFAS No. 131 establishes annual and interim reporting standards for an
enterprise's operating segments and related disclosures about its products,
services, geographic areas and major customers. SFAS No. 132 revises the
disclosure information and format for presentation of pension and other
postretirement benefits. Adoption of these statements did not impact the
Company's financial position, results of operations or cash flows for the
periods presented.
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No.
133, Accounting for Derivative Instruments and Hedging Activities, which
establishes accounting and reporting standards for derivative instruments. The
statement is not expected to have a significant effect on PMI's financial
position or results of operations based on current operating activities.
Reclassification - Certain prior year amounts have been reclassified to conform
to current year presentation.
NOTE 3. INVESTMENTS
Market Values - The amortized cost and estimated market values for fixed income
securities are shown below:
<TABLE>
<CAPTION>
Amortized Gross Unrealized Market
----------------
(In thousands) Cost Gains (Losses) Value
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
At December 31, 1998
U. S. government and agencies $ 53,918 $ 2,060 $ - $ 55,978
Municipals 1,110,665 83,363 (290) 1,193,738
Corporate bonds 104,042 3,451 (340) 107,153
----------------------------------------------------------------------------------
Total $ 1,268,625 $ 88,874 $ (630) $ 1,356,869
==================================================================================
At December 31, 1997
U. S. government and agencies $ 42,017 $ 1,233 $ - $ 43,250
Municipals 1,044,964 71,369 (17) 1,116,316
Corporate bonds 147,197 2,269 (264) 149,202
----------------------------------------------------------------------------------
Total $ 1,234,178 $ 74,871 $ (281) $ 1,308,768
==================================================================================
</TABLE>
Scheduled Maturities - The scheduled maturities for fixed income securities are
as follows at December 31, 1998:
<TABLE>
<CAPTION>
Amortized Market
(In thousands) Cost Value
- -------------------------------------------------------------------------------
<S> <C> <C>
Due in one year or less $ 6,826 $ 6,878
Due after one year through five years 62,650 64,945
Due after five years through ten years 148,382 157,887
Due after ten years 993,592 1,069,145
Other 57,175 58,014
--------------------------------------
Total $ 1,268,625 $ 1,356,869
======================================
</TABLE>
Actual maturities may differ from those scheduled as a result of calls by the
issuers prior to maturity.
Investment Concentration and Other Items - The Company maintains a diversified
portfolio of municipal bonds. At December 31, 1998 and 1997, the following
states represented the largest concentrations in the portfolio (expressed as a
percentage of the carrying value of all municipal bond holdings). Holdings in no
other state exceed 5.0% of the portfolio at December 31, for the respective
years.
27
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
1998 1997
- ---------------------------------------------------------
<S> <C> <C>
Illinois 13.2% 13.4%
Washington 12.0 13.3
Texas 12.0 13.0
New York 8.6 7.7
Massachusetts 7.3 6.0
California 6.5 6.9
Indiana 6.1 5.4
Pennsylvania 5.5 5.3
</TABLE>
At December 31, 1998, fixed income securities with a market value of $10.2
million were on deposit with regulatory authorities as required by law.
Unrealized Net Gains on Investments - Unrealized net gains on investments
included in accumulated other comprehensive income at December 31, 1998, are as
follows:
<TABLE>
<CAPTION>
Net
Market Gross Unrealized Unrealized
(In thousands) Cost Value Gains (Losses) Gains
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Fixed income securities $ 1,268,625 $ 1,356,869 $ 88,874 $ (630) $ 88,244
Common stocks 34,129 58,785 25,220 (564) 24,656
Preferred stocks 17,240 17,706 697 (231) 466
Investment in affiliates 59,723 60,450 727 - 727
----------------------------------------------------------------------------------------
Total $ 1,379,717 $ 1,493,810 $ 115,518 $ (1,425) 114,093
=========================================================================
Less deferred income taxes 39,631
---------------
Total $ 74,462
===============
</TABLE>
The difference between cost and market value of the investment in affiliates
reflects net unrealized gains on the affiliates' investment portfolio. The
stated market value does not necessarily represent the fair value of the
affiliates' common stock held by the Company.
The change in net unrealized gains, net of deferred income taxes, included in
other comprehensive income for fixed income securities and equity securities are
as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Fixed income securities $ 8,874 $ 20,572 $ (11,777)
Equity securities (6,565) 517 5,895
Investment in affiliates 217 138 (170)
----------------------------------------------------
Total $ 2,526 $ 21,227 $ (6,052)
====================================================
</TABLE>
28
<PAGE>
Draft
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
Investment Income - Investment income by investment type is as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Fixed income securities $ 76,427 $ 74,641 $ 63,715
Equity securities 2,466 1,476 2,136
Common stock of affiliates 3,225 1,455 192
Short-term 3,442 6,332 2,119
----------------------------------------------------
Investment income, before expenses 85,560 83,904 68,162
Less investment expense 879 768 720
----------------------------------------------------
Investment income, less investment expense $ 84,681 $ 83,136 $ 67,442
====================================================
</TABLE>
Realized Capital Gains and Losses.
Net realized capital gains (losses) are as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Fixed income securities $ 1,481 $ (777) $ 2,072
Equity securities 23,155 20,188 12,024
Short-term - 173 200
-------------------------------------------------------------
Realized capital gains -- net, before taxes 24,636 19,584 14,296
Less income taxes 8,623 6,854 5,004
-------------------------------------------------------------
Realized capital gains, net of taxes $ 16,013 $ 12,730 $ 9,292
=============================================================
</TABLE>
Gross realized capital gains and losses on investments are as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- ---------------------------------------------------------------------------------------
<S> <C> <C> <C>
Gross realized capital gains $ 27,810 $ 26,167 $ 19,842
Gross realized capital losses (3,174) (6,583) (5,546)
----------------------------------------------------
Net realized capital gains $ 24,636 $ 19,584 $ 14,296
====================================================
</TABLE>
29
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
NOTE 4. LOSS RESERVES
The following table is a reconciliation of the beginning and ending reserve for
losses and loss adjustment expenses for each of the last three years:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Balance, January 1 $ 202,387 $ 199,774 $ 192,087
Less reinsurance recoverable 6,067 5,287 17,899
------------------------------------------------------------
Net balance, January 1 196,320 194,487 174,188
------------------------------------------------------------
Losses and loss adjustment expenses (principally in respect of
defaulting occurring in)
Current year 146,884 158,147 161,740
Prior years (11,168) (5,890) (9,331)
------------------------------------------------------------
Total losses and loss adjustment expenses 135,716 152,257 152,409
------------------------------------------------------------
Losses and loss adjustment expense payments (principally in
respect of defaulting occurring in)
Current year 12,503 27,700 23,353
Prior years 111,056 122,724 108,757
------------------------------------------------------------
Total payments 123,559 150,424 132,110
------------------------------------------------------------
Net balance, December 31 208,477 196,320 194,487
Plus reinsurance recoverable 6,782 6,067 5,287
------------------------------------------------------------
Balance, December 31 $ 215,259 $ 202,387 $ 199,774
============================================================
</TABLE>
As a result of changes in estimates of ultimate losses resulting from insured
events in prior years, the provision for losses and loss adjustment expenses
(net of reinsurance recoverable) decreased by $11.2 million, $5.9 million and
$9.3 million in 1998, 1997 and 1996, respectively, due primarily to lower than
expected losses in California. Such re-estimates were based on management's
analysis of various economic trends (including the real estate market and
unemployment rates) and their effect on recent claim rate and claim severity
experience.
NOTE 5. DEFERRED ACQUISITION COSTS ("DAC")
PMI defers certain costs related to the acquisition of primary mortgage
insurance and amortizes these costs against related premium revenue in order to
match costs and revenues in accordance with GAAP. These acquisition costs vary
with, and are primarily related to, the acquisition of new business. Specific
costs PMI defers include field underwriting, field sales, and national accounts.
To the extent PMI or any of its subsidiaries are compensated by customers for
contract underwriting, those underwriting costs are not deferred.
DAC is amortized on an accelerated basis over 24 months rather than the 5-7 year
average policy life. Management believes this amortization method is
appropriately conservative, and is used so that deferred costs will have been
fully amortized prior to the peak claims paying period.
The DAC asset is affected by: (a) acquisition costs deferred in a period, and
(b) amortization of previously deferred costs in such period. In periods where
there is growth in new business (and therefore acquisition costs), the DAC asset
will increase because the amount of acquisition costs being deferred exceeds the
amount being amortized to expense. The following table reconciles beginning and
ending DAC for the years ended December 31, 1998, 1997 and 1996:
30
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Beginning DAC balance $ 37,864 $ 31,633 $ 22,986
Acquisition costs incurred and deferred 84,021 49,626 54,839
Amortization of deferred costs (60,280) (43,395) (46,192)
------------ ------------ ------------
Ending DAC balance $ 61,605 $ 37,864 $ 31,633
============ ============ ============
</TABLE>
NOTE 6. REINSURANCE
PMI cedes reinsurance to reduce net risk in force to meet regulatory
risk-to-capital requirements and to comply with the regulatory maximum policy
coverage percentage limitation of 25%. Certain of the Company's reinsurance
arrangements have adjustable features, including experience account refunds,
which depend on the loss experience of the underlying business. While such
estimates are based on the Company's actuarial analysis of the applicable
business, the amounts the Company will ultimately recover could differ
materially from amounts recorded in reinsurance recoverable.
The reinsurance agreement with Capital Mortgage Reinsurance Company of New York
was terminated effective December 31, 1997 and is in run-off through December
31, 2006 on policies existing prior to January 1, 1998. As a result of this
reinsurance treaty termination, the Company is no longer ceding primary
reinsurance to third party reinsurers (except under captive reinsurance
arrangements) on policies written after December 31, 1997.
In December 1993, the Company decided to cease writing Old Pool business (except
for honoring certain commitments in existence prior to the discontinuation of
this business). Concurrently, the Company entered into a reinsurance agreement
with Forestview Mortgage Insurance Co. ("Forestview"), a wholly owned subsidiary
of Allstate, to cede all future Old Pool net premiums and net losses from PMI to
Forestview. As a result of this ceding agreement, the Old Pool business had no
significant impact on the Company's results of operations for the years ended
December 31, 1998, 1997 and 1996. The Board of Directors of Allstate has
resolved that Allstate will make capital contributions to Forestview as
necessary to maintain Forestview's risk-to-capital ratio below 20.0 to 1. In
accordance with accounting for discontinued operations, Old Pool insurance
assets (unpaid losses recoverable and paid claims receivable from reinsurers)
and liabilities (loss reserves and premiums payable) have been netted in the
accompanying consolidated balance sheets, resulting in a net receivable from
reinsurers of $2.7 million and $4.1 million included in other assets at December
31, 1998 and 1997, respectively. Gross Old Pool reinsurance recoverables and
receivables from Forestview and other reinsurers are as follows at December 31:
<TABLE>
<CAPTION>
(in thousands) 1998 1997
- --------------------------------------------------------------------
<S> <C> <C>
Forestview $ 45,918 $ 89,580
Other reinsurers 19,308 23,565
-------------------------------
Total $ 65,226 $ 113,145
===============================
</TABLE>
Reinsurance recoverable on paid primary losses from reinsurers was $6.8 million
and $6.1 million at December 31, 1998 and 1997, respectively. Prepaid primary
reinsurance premiums from non-affiliated reinsurers were $2.1 million and $3.0
million at December 31, 1998 and 1997, respectively.
The effects of reinsurance on the primary premiums written, premiums earned and
losses and loss adjustment expenses of the Company's operations for the year
ended December 31 are as follows:
31
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- ------------------------------------------------------------------------------------
<S> <C> <C> <C>
Premiums written
Direct $ 498,828 $ 435,971 $ 404,528
Assumed 7,141 1,383 (901)
Ceded (16,869) (5,302) (607)
------------------------------------
Premiums written, net of reinsurance $ 489,100 $ 432,052 $ 403,020
====================================
Premiums earned
Direct $ 506,096 $ 458,972 $ 425,831
Assumed 3,101 1,182 634
Ceded (17,971) (6,206) (13,727)
------------------------------------
Premiums earned, net of reinsurance $ 491,226 $ 453,948 $ 412,738
====================================
Losses and loss adjustment expenses
Direct $ 140,705 $ 157,012 $ 157,203
Assumed 176 219 (267)
Ceded (5,165) (4,974) (4,527)
------------------------------------
Losses and loss adjustment expenses,
net of reinsurance $ 135,716 $ 152,257 $ 152,409
====================================
</TABLE>
Reinsurance ceding arrangements do not discharge the Company from its
obligations as the primary insurer.
NOTE 7. INCOME TAXES
The components of income tax expense are as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- --------------------------------------------------------------------------------------
<S> <C> <C> <C>
Current $ 7,302 $ 3,859 $ 9,056
Deferred 69,286 63,699 55,132
-------------------------------------------------
Total income tax expense $ 76,588 $ 67,558 $ 64,188
=================================================
</TABLE>
A reconciliation of the statutory federal income tax rate to the effective tax
rate reported on income from operations before taxes is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
- --------------------------------------------------------------------------------------
<S> <C> <C> <C>
Statutory federal income tax rate 35.0% 35.0% 35.0%
Tax-exempt income (7.2) (7.5) (7.1)
State income tax (net) 0.4 0.2 0.9
Other 0.5 0.1 0.1
-------------------------------------------------
Effective income tax rate 28.7% 27.8% 28.9%
=================================================
</TABLE>
On April 18, 1995 the Company and its subsidiaries separated from Allstate (See
Note 1). Effective April 11, 1995 the Company and its subsidiaries file a
consolidated income tax return. Prior to that date, the Company was part of the
consolidated return of Sears, Roebuck and Co. ("Sears"), the former parent
company of Allstate Corp. The Company's share of consolidated federal income tax
liability prior to April 11, 1995 was determined under a tax sharing agreement
as part of the Sears tax group. Under the tax sharing agreement, the Company has
continuing rights and obligations to Allstate and Sears for the tax effect of
any changes in taxable income relating to the periods during which the Company
was part of the Sears tax group. At December 31, 1998 the Company had income
taxes receivable of $16.8 million ($23.6 million including interest) from
Allstate related to the filing of an amended return for prior years.
Section 832(e) of the Internal Revenue Code permits mortgage guaranty insurers
to deduct, within certain limitations, additions to statutory contingency
reserves (See Note 14). This provision was enacted to enable mortgage guaranty
insurers to increase statutory unassigned surplus through the purchase of
non-interest bearing "tax and loss bonds" from the federal government. The tax
and loss bonds purchased are limited to the tax benefit of the deduction for
additions to the contingency
32
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
reserves. The Company purchased tax and loss bonds of $47.4 million, $50.7
million and $50.4 million in 1998, 1997 and 1996, respectively.
The Company paid income taxes of $8.4 million, $8.4 million and $8.2 million in
1998, 1997 and 1996, respectively. Included in these amounts are federal income
tax payments to Allstate under the tax sharing agreement of $0.7 million in
1996.
The components of the deferred income tax assets and liabilities at December 31
are as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
- --------------------------------------------------------------------------------
<S> <C> <C>
Deferred tax assets:
Discount on loss reserves $ 4,422 $ 3,743
Unearned premium reserves 4,181 6,591
Alternative minimum tax credit carryforward 31,870 23,687
Pension costs 3,131 3,037
Other assets 4,355 2,197
----------------------------
Total deferred tax assets 47,959 39,255
============================
Deferred tax liabilities:
Statutory contingency reserves 72,817 56,730
Policy acquisition costs 21,562 13,253
Unrealized net gains on investments 39,631 38,738
Software development costs 7,423 5,550
Other liabilities 3,256 1,379
----------------------------
Total deferred tax liabilities 144,689 115,650
----------------------------
Net deferred tax liability $ 96,730 $ 76,395
============================
</TABLE>
NOTE 8. FINANCIAL INSTRUMENTS
In the normal course of business, the Company invests in various financial
assets and incurs various financial liabilities. The estimated fair value
amounts of certain liabilities indicated below have been determined by using
available market information and appropriate valuation methodologies. However,
considerable judgment is required in interpreting market data to develop the
estimates of fair value and, accordingly, the estimates presented herein are not
necessarily indicative of the amounts that could be realized in a current market
exchange.
<TABLE>
<CAPTION>
1998 1997
- -------------------------------------------------------------------------------------------------------------------------
Carrying Estimated Carrying Estimated
(In thousands) Value Fair Value Value Fair Value
- ---------------------------------------------------------------------------- -------------------------------------
<S> <C> <C> <C> <C>
6.75% Long-term debt $ 99,476 $ 103,997 $ 99,409 $ 100,983
8.309% Redeemable preferred
capital securities $ 99,040 $ 107,075 $ 99,006 $ 107,875
</TABLE>
A number of the Company's significant assets and liabilities, including deferred
policy acquisition costs, property and equipment, loss reserves, unearned
premiums and deferred income taxes are not considered financial instruments.
33
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
NOTE 9. BENEFIT PLANS
As of April 18, 1995, all full-time employees and certain part-time employees of
the Company participate in The PMI Group, Inc. Retirement Plan ("Plan"), a
noncontributory defined benefit plan. The Plan has been funded by the Company to
the fullest extent permitted by federal income tax rules and regulations. Also,
employees earning in excess of $150,000 per year participate in The PMI Group,
Inc. Supplemental Employee Retirement Plan, a noncontributory defined benefit
plan. Benefits under both plans are based upon the employee's length of service,
average annual compensation and estimated social security retirement benefits.
The Company provides certain health care and life insurance benefits for retired
employees ("OPEB Plan"). Generally, qualified employees may become eligible for
these benefits if they retire in accordance with the Company's established
retirement policy and are continuously insured under the Company's group plans
or other approved plans for 10 or more years prior to retirement. The Company
shares the cost of the retiree medical benefits with retirees based on years of
service with the Company's share being subject to a 5% limit on annual medical
cost inflation after retirement. The Company has the right to modify or
terminate these plans.
The following table presents certain information regarding the Plan and the OPEB
Plan as of December 31:
34
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Pension Benefits Other Benefits
---------------- --------------
(In thousands, except percentages) 1998 1997 1996 1998 1997 1996
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C>
Change in benefit obligation
Benefit obligation at January 1, $ 11,381 $ 6,659 N/A $ 3,112 $ 2,782 N/A
Service cost 3,796 3,424 N/A 434 387 N/A
Interest cost 1,074 759 N/A 255 217 N/A
Actuarial loss (gain) 2,861 875 N/A 435 (269) N/A
Benefits paid (736) (336) N/A (17) (5) N/A
------------------------ ------------------------
Benefit obligation at December 31, 18,376 11,381 4,219 3,112
------------------------ ------------------------
Change in plan assets
Fair value of plan assets at January 1, 5,204 2,896 N/A - - N/A
Actual return on plan assets 366 180 N/A - - N/A
Company contribution 4,043 2,464 N/A 17 5 N/A
Benefits paid (736) (336) N/A (17) (5) N/A
------------------------ ------------------------
Fair value of plan assets at December 31, 8,877 5,204 - -
------------------------ ------------------------
Funded status
Funded status of plan at December 31, (9,499) (6,177) N/A (4,219) (3,112) N/A
Unrecognized actuarial loss (gain) 3,583 505 N/A (320) (781) N/A
Unrecognized prior service cost - - N/A 265 284 N/A
------------------------ ------------------------
Accrued and recognized benefit cost $ (5,916) $ (5,672) $ (4,274) $ (3,609)
======================== ========================
Components of net periodic benefit cost
Service cost $ 3,796 $ 3,424 $ 3,282 $ 434 $ 387 $ 438
Interest cost 1,074 759 484 255 217 215
Expected return on assets (515) (295) (147) - - -
Prior service cost amortization - - - 20 20 20
Actuarial loss (gain) recognized (68) (95) 6 (26) (28) -
------------------------------------------------------------------------
Net periodic benefit cost $ 4,287 $ 3,793 $ 3,625 $ 683 $ 596 $ 673
========================================================================
Weighted-average assumptions
Discount rate 6.75% 7.25% 7.50% 6.75% 7.25% 7.50%
Expected return on plan assets 8.50% 8.50% 8.50% N/A N/A N/A
Rate of compensation increase 5.50% 5.50% 5.50% N/A N/A N/A
Health care cost trend on covered charges N/A N/A N/A 6.00% 6.00% 6.00%
</TABLE>
35
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
Sensitivity of retiree welfare results. Assumed health care cost trend rates
have a significant effect on the amounts reported for the health care plans. A
one-percentage-point change in assumed health care cost trend rates would have
the following effects:
<TABLE>
<CAPTION>
1-Percentage- 1-Percentage
(In thousands) Point Increase Point Decrease
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Effect on total of service and interest cost components $ 184 $ 145
Effect on accumulated postretirement benefit obligation 863 577
</TABLE>
Savings and Profit Sharing Plan. As of April 18, 1995, employees of the Company
were eligible to participate in The PMI Group, Inc. Savings and Profit Sharing
Plan ("401K Plan") covering both salaried and hourly employees. Eligible
employees who participate in the 401K Plan receive, within certain limits,
matching Company contributions. Costs relating to the 401K Plan amounted to $2.1
million, $1.2 million and $1.1 million for 1998, 1997 and 1996, respectively.
NOTE 10. DEBT AND CREDIT FACILITIES
Long-term Debt - On November 15, 1996, the Company issued unsecured debt
securities in the face amount of $100.0 million ("Notes"). The Notes mature and
are payable on November 15, 2006 and are not redeemable prior to maturity. No
sinking fund is required or provided for prior to maturity. Interest on the
Notes is 6.75% and is payable semiannually. Interest payments of $6.8 million
were made during both 1998 and 1997.
Lines of Credit - The Company has two lines of credit agreements ("Lines"), each
in the amount of $25.0 million. The Lines have final maturities of February 2001
and December 2001 and commitment fees of 8.0 and 6.5 basis points, respectively.
Both Lines may be used for general corporate purposes. There were no amounts
outstanding on the Lines at December 31, 1998 or 1997.
NOTE 11. COMMITMENTS AND CONTINGENT LIABILITIES
Leases - The Company leases certain office facilities and equipment. Minimum
rental commitments under non-cancelable operating leases with a remaining term
of more than one year as of December 31, 1998 are as follows:
<TABLE>
<CAPTION>
(In thousands) Amount
- ---------------------------------------------
<S> <C>
Year ending December 31:
1999 $ 6,807
2000 7,604
2001 6,311
2002 5,366
2003 4,777
Thereafter 4,309
--------------
Total $ 35,174
==============
</TABLE>
The Company intends to renew its corporate headquarters lease in 1999. Such
minimum expected rentals are included in the above amounts.
Total rent expense for all leases was $9.0 million, $7.6 million and $7.4
million in 1998, 1997 and 1996, respectively.
Legal Proceedings - Various legal actions and regulatory reviews are currently
pending that involve the Company. In the opinion of management, the ultimate
liability in one or more of these actions is not expected to have a material
effect on the financial condition or results of operations of the Company.
36
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
NOTE 12. COMPANY-OBLIGATED MANDATORILY REDEEMABLE PREFERRED CAPITAL SECURITIES
OF SUBSIDIARY TRUST HOLDING SOLELY JUNIOR SUBORDINATED DEFERRABLE INTEREST
DEBENTURE OF THE COMPANY
On February 4, 1997, TPG, through a wholly-owned trust, privately issued $100.0
million of 8.309% preferred capital securities, Series A ("Capital Securities").
The Capital Securities are redeemable after February 1, 2007, at a premium or
upon occurrence of certain tax events, and mature on February 1, 2027. The net
proceeds, totaling $99.0 million, were used for general corporate purposes,
including common stock repurchases and additions to the investment portfolio.
The Capital Securities were issued by PMI Capital I ("Issuer Trust"). The sole
asset of the Issuer Trust consists of $103.1 million principal amount of a
junior subordinated debenture ("Debenture") issued by TPG to the Issuer Trust.
The Debenture bears interest at the rate of 8.309% per annum and matures on
February 1, 2027. The amounts due to the Issuer Trust under the Debenture and
the related income statement amounts have been eliminated in the Company's
consolidated financial statements. Distributions on the Capital Securities occur
on February 1 and August 1 of each year. The obligations of TPG under the
Debenture and a related guarantee and expense agreement constitute a full and
unconditional guarantee by TPG of the Issuer Trust's obligations under the
Capital Securities. The Capital Securities are subject to mandatory redemption
under certain circumstances. Distribution payments of $8.3 million and $4.2
million were made in 1998 and 1997, respectively.
NOTE 13. DIVIDENDS AND SHAREHOLDERS' EQUITY
Shareholder Rights Plan - On January 13, 1998, the Company adopted a Shareholder
Rights Plan ("Rights Plan"). In general, rights issued under the plan will be
exercisable only if a person or group acquires 10% or more of the Company's
common stock or announces a tender offer for 10% or more of the common stock.
The Rights Plan contains an exception that would allow passive institution
investors to acquire up to a 15% ownership interest before the rights would
become exercisable.
Dividends - The ability of the Company to pay dividends is dependent on business
conditions, income, cash requirements of the Company, receipt of dividends from
PMI, restrictions contained in the Company's credit agreements and other
relevant factors. PMI's ability to pay dividends to TPG is limited under Arizona
law. The payment of dividends by PMI without the prior approval of the Arizona
State Insurance department is limited to formula amounts based on net income,
net investment income, and capital and surplus, including unassigned surplus,
determined in accordance with statutory accounting practices, as well as the
timing and amount of dividends paid in the preceding twelve months. Limitations
on PMI's risk-to-capital ratio also effectively limit PMI's ability to pay
dividends because the payment of dividends reduces statutory capital. Various
state regulatory authorities impose a limitation that the risk-to-capital ratio
may not exceed 25 to 1. In addition, under a support agreement with Allstate,
PMI is prohibited from paying any dividend that would cause its risk-to-capital
ratio to equal or exceed 23 to 1 (see Note 16). Management believes that PMI's
dividend restrictions have not had, and are not expected to have, a significant
impact on TPG's ability to meet its cash obligations. Under the most restrictive
dividend limitations, the maximum amount of dividends that PMI can distribute to
TPG at December 31, 1998, without prior regulatory approval is $16.5 million.
PMI paid ordinary and, after obtaining regulatory approval, extraordinary
dividends to TPG totaling $100.0 million and $76.4 million in the years ended
December 31, 1998 and 1997, respectively. APTIC paid ordinary dividends to TPG
totaling $3.2 million and $2.5 million in the years ended December 31, 1998 and
1997, respectively.
Preferred Stock - The Company's restated certificate of incorporation authorizes
the Board of Directors to issue up to 5,000,000 shares of preferred stock of TPG
in classes or series and to fix the designations, preferences, qualifications,
limitations or restrictions of any class or series with respect to the rate and
nature of dividends, the price and terms and conditions on which shares may be
redeemed, the amount payable in the event of voluntary or involuntary
liquidation, the terms and conditions for conversion or exchange into any other
class or series of the stock, voting rights and other terms. The Company may
issue, without the approval of the holders of common stock, preferred stock
which has voting, dividend or liquidation rights superior to the common stock
and which may adversely affect the rights of holders of common stock.
Pursuant to the Runoff Support Agreement (see Note 16), the Company has agreed
that, in the event that Allstate makes a payment contemplated by the Allstate
Support Agreements or the Runoff Support Agreement, Allstate will have the right
to receive preferred stock of TPG or PMI with a liquidation preference equal to
the amount of such payment. Such preferred stock will rank senior in right of
payment to the issuer's common stock and, so long as such preferred stock is
outstanding, the issuer thereof will be prohibited from paying any dividends or
making any other distributions on its common stock.
37
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
Equity Incentive Plan and Directors Plan - During 1998, the Company amended and
restated The PMI Group, Inc. Equity Incentive Plan ("Equity Incentive Plan") and
The PMI Group, Inc. Stock Plan for Non-Employee Directors ("Directors Plan").
Pursuant to such plans, an aggregate of 1,500,000 shares of common stock was
reserved for issuance to directors, officers, and employees of TPG and its
subsidiaries. The Equity Incentive Plan provides for awards of both
non-qualified stock options and incentive stock options, stock appreciation
rights, restricted stock subject to forfeiture and restrictions on transfer, and
performance awards entitling the recipient to receive cash or common stock in
the future following the attainment of performance goals determined by the Board
of Directors. Generally, options are granted with an exercise price equal to the
market value on the date of grant, expire ten years from the date of grant and
have a three-year vesting period. The Directors Plan provides that each director
who is not an employee of the Company or its subsidiaries will receive an annual
grant of up to 300 shares of common stock and will receive stock options for
1,500 shares annually, after an initial option of up to 3,000 shares. The shares
will be granted on June 1 of each year or as soon as administratively
practicable after each anniversary of the director's commencement of service.
The following is a summary of activity in the Equity Incentive Plan and the
Directors Plan during 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
- -----------------------------------------------------------------------------------------------------------
Weighted Weighted
Shares Average Shares Average
Under Option Exercise Price Under Option Exercise Price
------------------ --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Options outstanding at
beginning of year 616,388 $ 42.30 538,604 $ 36.40
Options granted 366,650 71.04 206,310 54.61
Options exercised (51,928) 35.67 (92,653) 34.33
Options forfeited (21,356) 64.21 (35,873) 43.19
---------------------------------------------------------------------------
Outstanding at end of year 909,754 $ 53.75 616,388 $ 42.30
===========================================================================
Exercisable at year end 402,978 $ 39.07 230,331 $ 35.28
Reserved for future grants 398,145 - 743,439 -
- -----------------------------------------------------------------------------------------------------------
</TABLE>
Note: The weighted average remaining contractual life of shares under option was
8.0 years (for an exercise price between $32.14 and $76.25) in 1998 and 8.0
years ($32.14 and $67.97) in 1997.
================================================================================
In addition, in February 1999, the Equity Incentive Plan was amended and
restated, subject to shareholder approval, to reserve an additional 1,500,000
shares for issuance.
As discussed in Note 2, the Company accounts for stock-based compensation under
APB No. 25 and its related interpretations. SFAS No. 123, Accounting for
Stock-Based Compensation, requires the disclosure of pro-forma net income and
earnings per share had the Company adopted the fair value method as of the
beginning of fiscal year 1995. The fair value of stock-based awards to employees
is calculated through the use of option pricing models, even though such models
were developed to estimate the fair value of freely tradable, fully transferable
options without vesting restrictions, which differ significantly from the
Company's stock option awards. These models also require subjective assumptions,
including future stock price volatility and expected time to exercise, which
greatly affect the calculated values. The Company's calculations were made using
the Black-Scholes option pricing model with the following weighted average
assumptions: dividend yield of 0.26% and 0.28% for the 1998 options, 0.29% to
0.37% for the 1997 options, and 0.35% to 0.44% for the 1996 options; expected
volatility range of 21.92% and 23.15% for the 1998 options, 20.61% to 21.90% for
the 1997 options and 21.08% to 23.12% for the 1996 options; risk-free interest
rates of 5.45% and 5.58% for the 1998 options, 6.06%, 6.43%, 6.36%, 6.18% and
5.86% for the 1997 options and 5.40%, 5.83%, 6.51%, 6.53% and 6.54% for the 1996
options; and an expected life of four years following the vesting. Forfeitures
are recognized as they occur.
38
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
If the computed fair values of the 1998, 1997 and 1996 awards had been amortized
to expense over the vesting period of the awards, the Company's net income,
basic net income per share and diluted net income per share would have been
reduced to the pro forma amounts indicated below:
<TABLE>
<CAPTION>
(In thousands, except per share amounts) 1998 1997 1996
- ----------------------------------------------- ----------------- ---------------- -------------
<S> <C> <C> <C> <C>
Net income: As reported $ 190,360 $ 175,309 $ 157,918
Pro-forma 187,776 174,487 157,663
Basic earnings per share: As reported $ 6.06 $ 5.25 $ 4.52
Pro-forma 5.98 5.23 4.51
Diluted earnings per share: As reported $ 6.04 $ 5.23 $ 4.51
Pro-forma 5.95 5.21 4.50
</TABLE>
NOTE 14. STATUTORY ACCOUNTING
The Company's insurance subsidiaries prepare statutory financial statements in
accordance with the accounting practices prescribed or permitted by their
respective state's Department of Insurance, which is a comprehensive basis of
accounting other than GAAP. The principles used in determining statutory
financial amounts differ from GAAP primarily for the following reasons:
Under statutory accounting practices, mortgage guaranty insurance
companies are required to establish each year a contingency reserve
equal to 50% of premiums earned in such year. Such amount must be
maintained in the contingency reserve for 10 years after which time it
is released to unassigned surplus. Prior to 10 years, the contingency
reserve may be reduced with regulatory approval to the extent that
losses in any calendar year exceed 35% of earned premiums for such
year. Under GAAP, the contingency reserve is not permitted.
Under statutory accounting practices, insurance policy acquisition
costs are charged against operations in the year incurred. Under GAAP,
these costs are deferred and amortized over 24 months. (See Note 5,
"Deferred Acquisition Costs.")
Statutory financial statements only include a provision for current
income taxes due, and purchases of tax and loss bonds are accounted for
as investments. GAAP financial statements provide for deferred income
taxes including the purchase of tax and loss bonds, which are recorded
as a deferral of the income tax provision.
Under statutory accounting practices, certain assets, designated as
nonadmitted assets, are charged directly against statutory surplus.
Such assets are reflected on the GAAP financial statements.
Under statutory accounting practices, fixed maturity investments in
good standing are valued at amortized cost. Under GAAP, those
investments which the Company does not have the ability or intent to
hold to maturity are considered to be available for sale and are
recorded at market, with the unrealized gain or loss recognized, net of
tax, as an increase or decrease to accumulated other comprehensive
income.
The statutory net income, statutory surplus and contingency reserve liability of
PMI as of and for the years ended December 31 are as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
- ----------------------------------------------------------------------------
<S> <C> <C> <C>
Statutory net income $ 214,040 $ 227,148 $ 202,584
---------------------------------------
Statutory surplus $ 165,459 $ 274,864 $ 313,635
---------------------------------------
Contingency reserve liability $ 1,028,440 $ 839,478 $ 674,841
---------------------------------------
</TABLE>
39
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
The differences between the statutory net income and equity presented above for
PMI and the consolidated net income and equity presented on a GAAP basis
primarily represent the differences between GAAP and statutory accounting
practices as well as the results of operations and equity of other Company
subsidiaries.
NOTE 15. BUSINESS SEGMENTS
The Company's reportable operating segments include Mortgage Guaranty Insurance
and Title Insurance. The Mortgage Guaranty Insurance segment includes PMI, PMG,
RGC and Residential Insurance Co. The Title Insurance segment consists of the
results for APTIC. The Other segment includes TPG, MSC, PCI, and SEC. Key
products for each of the reportable segments are disclosed in Note 2, "Business
and Summary of Significant Accounting Policies." The Other segment includes the
income and expenses of the holding company, the results from the business of
contract underwriting and software licensing, and the activity of an inactive
broker-dealer.
The accounting policies of the segments are the same as disclosed in Note 2,
"Business and Summary of Significant Accounting Policies." Intersegment
transactions are not significant. The Company evaluates performance primarily
based on segment net income.
The following tables present information about reported segment income (loss)
and segment assets for the periods indicated.
<TABLE>
<CAPTION>
Mortgage
1998 Guaranty Title Intersegment Consolidated
(in thousands) Insurance Insurance Other Adjustments Total
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Premiums earned $ 411,922 $ 79,304 $ - $ - $ 491,226
=========== =========== =========== =========== ===========
Net underwriting income (expenses)
before tax-external customers $ 172,414 $ 9,606 $ (9,049) $ - $ 172,971
Investment and other income 97,989 1,427 6,676 - 106,092
Equity in earnings of affiliates - - 392 2,833 3,225
Interest expense (3) - (7,026) - (7,029)
Distributions on preferred capital securities - - (8,311) - (8,311)
----------- ----------- ----------- ----------- -----------
Income (loss) before income tax expense 270,400 11,033 (17,318) 2,833 266,948
Income tax expense (benefit) 78,732 4,182 (6,326) - 76,588
----------- ----------- ----------- ----------- -----------
Net income (loss) $ 191,668 $ 6,851 $ (10,992) $ 2,833 $ 190,360
=========== =========== =========== =========== ===========
Total assets $1,643,482 $ 42,165 $ 92,223 $ - $1,777,870
=========== =========== =========== =========== ===========
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
40
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Mortgage
1997 Guaranty Title Intersegment Consolidated
(in thousands) Insurance Insurance Other Adjustments Total
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Premiums earned $ 394,010 $ 59,938 $ - $ - $ 453,948
=========== =========== =========== =========== ===========
Net underwriting income (expenses)
before tax-external customers $ 159,360 $ 4,992 $ (9,906) $ - $ 154,446
Investment and other income 93,625 1,257 6,467 - 101,349
Equity in earnings of affiliates - - - 1,455 1,455
Interest expense - - (6,766) - (6,766)
Distributions on preferred capital securities - - (7,617) - (7,617)
----------- ----------- ----------- ----------- -----------
Income (loss) before income tax expense 252,985 6,249 (17,822) 1,455 242,867
Income tax expense (benefit) 72,099 2,218 (6,759) - 67,558
----------- ----------- ----------- ----------- -----------
Net income (loss) $ 180,886 $ 4,031 $ (11,063) $ 1,455 $ 175,309
=========== =========== =========== =========== ===========
Total assets $1,503,596 $ 37,050 $ 145,957 $ - $1,686,603
=========== =========== =========== =========== ===========
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Mortgage
1996 Guaranty Title Intersegment Consolidated
(in thousands) Insurance Insurance Other Adjustments Total
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Premiums earned $ 359,527 $ 53,211 $ - $ - $ 412,738
=========== =========== =========== =========== ===========
Net underwriting income (expenses)
before tax-external customers $ 144,189 $ 3,433 $ (7,035) $ - $ 140,587
Investment and other income 78,365 1,162 2,707 - 82,234
Equity in earnings of affiliates - - - 192 192
Interest expense - - (907) - (907)
----------- ----------- ----------- ----------- -----------
Income (loss) before income tax expense 222,554 4,595 (5,235) 192 222,106
Income tax expense (benefit) 63,113 1,591 (516) - 64,188
----------- ----------- ----------- ----------- -----------
Net income (loss) $ 159,441 $ 3,004 $ (4,719) $ 192 $ 157,918
=========== =========== =========== =========== ===========
Total assets $1,369,166 $ 33,408 $ 107,345 $ - $1,509,919
=========== =========== =========== =========== ===========
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
The Company did not have any major customers that accounted for more than 10% of
its consolidated revenues for any of the years presented.
The Company does not have any material revenues and assets attributed to or
located outside the United States.
NOTE 16. CAPITAL SUPPORT AGREEMENTS
PMI's claims-paying ratings from certain national rating agencies have, in the
past, been based in significant part on various capital support commitments from
Allstate and Sears ("Allstate Support Agreements"). On October 27, 1994, the
Allstate Support Agreements were terminated with respect to policies issued
after October 27, 1994, but continue in modified form (as so modified, the
"Runoff Support Agreement") for policies written prior to such termination.
Under the terms of the Runoff Support Agreement, Allstate may, at its option,
either directly pay or cause to be paid, claims relating to policies written
during the terms of the respective Allstate Support Agreements if PMI fails to
pay such claims or, in lieu thereof, make
41
<PAGE>
NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS
contributions directly to PMI or TPG. In the event any amounts were so paid or
contributed (which possibility management believes is remote), Allstate would
receive subordinated debt or preferred stock of PMI or TPG in return.
The Runoff Support Agreement contains certain covenants, including covenants
that (i) PMI will write no new business after its risk-to-capital ratio equals
or exceeds 23 to 1; (ii) PMI will pay no dividends if, after the payment of any
such dividend, PMI's risk-to-capital ratio would equal or exceed 23 to 1; and
(iii) on the date that any of the following events occur: (A) PMI's
risk-to-capital ratio exceeds 24.5 to 1, (B) Allstate shall have paid any claims
relating to PMI policies directly to a policyholder or by paying an amount equal
to such claims to PMI (or to TPG for contribution to PMI) pursuant to the Runoff
Support Agreement, or (C) any regulatory order is issued restricting or
prohibiting PMI from making full or timely payments under policies, PMI will
transfer substantially all of its assets in excess of $50.0 million to a trust
account established for the payment of claims.
On June 6, 1996, a CMG Capital Support Agreement was executed by PMI and CMIC
whereby both parties agreed to contribute funds, subject to certain limitations,
so as to maintain CMG's risk-to-capital ratio at or below 18.0 to 1. In
addition, the agreement specifies that under certain circumstances, PMI and CMIC
will each contribute up to an additional $4.4 million to CMG, over and above
obligations, net of prior contributions, of $0.9 million each, agreed to in a
shareholder agreement dated September 30, 1998. At December 31, 1998 CMG's
risk-to-capital ratio was 15.8 to 1.
NOTE 17. QUARTERLY RESULTS (UNAUDITED)
<TABLE>
<CAPTION>
First Quarter Second Quarter Third Quarter Fourth Quarter
---------------- --------------- --------------- ---------------
1998 1997 1998 1997 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------------------------------
(In thousands, except per share amounts)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues $ 150,634 $ 147,546 $ 147,469 $ 132,909 $ 167,409 $ 141,204 $ 155,397 $ 142,988
===============================================================================================
Net income $ 45,768 $ 49,172 $ 46,787 $ 42,279 $ 53,728 $ 41,913 $ 44,077 $ 41,945
===============================================================================================
Basic EPS $ 1.41 $ 1.44 $ 1.47 $ 1.26 $ 1.74 $ 1.26 $ 1.45 $ 1.29
===============================================================================================
Diluted EPS $ 1.40 $ 1.43 $ 1.46 $ 1.25 $ 1.73 $ 1.26 $ 1.45 $ 1.28
===============================================================================================
Diluted operating EPS * $ 1.24 $ 1.09 $ 1.41 $ 1.24 $ 1.43 $ 1.25 $ 1.45 $ 1.27
===============================================================================================
</TABLE>
* Diluted operating earnings per share represents diluted earnings per share
excluding realized capital gains and their related income tax effect.
Earnings per share is computed independently for the quarters presented.
Therefore, the sum of the quarterly earnings per share amounts may not equal the
total computed for the year.
42
<PAGE>
<TABLE>
<S> <C>
R e p o r t o f R e p o r t o f
M a n a g e m e n t I n d e p e n d e n t
A u d i t o r s
To the Board Of Directors and Shareholders
To the Shareholders of The PMI Group, Inc. of The PMI Group, Inc.
The consolidated financial statements of We have audited the accompanying
The PMI Group, Inc. and subsidiaries have consolidated balance sheets of The PMI
been prepared by management and have been Group, Inc. and subsidiaries ("Company")
audited by the Company's independent as of December 31, 1998 and 1997, and the
auditors, Deloitte & Touche LLP, whose related consolidated statements of
report appears on this page. Management operations, shareholders' equity and cash
is responsible for the consolidated flows for each of the three years in the
financial statements, which have been period ended December 31, 1998. These
prepared in conformity with generally consolidated financial statements are the
accepted accounting principles and include responsibility of the Company's
amounts based on management's judgments. management. Our responsibility is to
express an opinion on these consolidated
Management is also responsible for financial statements based on our audits.
maintaining internal control systems
designed to provide reasonable assurance, We conducted our audits in accordance with
at appropriate cost, that assets are generally accepted auditing standards.
safeguarded and that transactions are Those standards require that we plan and
executed and recorded in accordance with perform the audit to obtain reasonable
established policies and procedures. The assurance about whether the consolidated
Company's systems are under continuing financial statements are free of material
review and are supported by, among other misstatement. An audit includes
things, business conduct and other written examining, on a test basis, evidence
guidelines, an internal audit function and supporting the amounts and disclosures in
the selection and training of qualified the consolidated financial statements. An
personnel. audit also includes assessing the
accounting principles used and significant
The Board of Directors, through its Audit estimates made by management, as well as
Committee, oversees management's financial evaluating the overall financial statement
reporting responsibilities. The Audit presentation. We believe that our audits
Committee meets regularly with the provide a reasonable basis for our opinion.
independent auditors, representatives of
management and the internal auditors to In our opinion, such consolidated
discuss and make inquiries into their financial statements present fairly, in
activities. Both the independent auditors all material respects, the financial
and the internal auditors have free access position of The PMI Group, Inc. and
to the Audit Committee, with and without subsidiaries as of December 31, 1998 and
management representatives in attendance. 1997, and the results of their operations
and their cash flows for each of the three
years in the period ended December 31,
1998, in conformity with generally
W. Roger Haughton accepted accounting principles.
Chairman and Chief Executive Officer
John M. Lorenzen, Jr. Deloitte & Touche LLP
Executive Vice President and Chief San Francisco, California
Financial Officer January 20, 1999
January 20, 1999
</TABLE>
43
<PAGE>
Ten Year Summary of Financial and Operating Data (Dollars in thousands, except
per share data or otherwise noted)
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
------------- ------------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Summary of Consolidated Operations:
Net premiums written $ 489,100 $ 432,052 $ 403,020 $ 314,021 $ 277,747
============= ============= ============ ============ ============
Premiums earned $ 491,226 $ 453,948 $ 412,738 $ 328,756 $ 296,345
Investment income, less investment expense 84,681 83,136 67,442 62,041 56,774
Realized capital gains, net 24,636 19,584 14,296 11,934 3,064
Other income 20,366 7,979 6,948 2,309 3,802
------------- ------------- ------------ ------------ ------------
Total revenues 620,909 564,647 501,424 405,040 359,985
Total losses and expenses(1) 353,961 321,780 279,318 224,499 221,434
------------- ------------- ------------ ------------ ------------
Income from continuing operations before taxes 266,948 242,867 222,106 180,541 138,551
Income (loss) from discontinued operations - - - - -
Income tax expense (benefit)(2) 76,588 67,558 64,188 45,310 32,419
------------- ------------- ------------ ------------ ------------
Net income $ 190,360 $ 175,309 $ 157,918 $ 135,231 $ 106,132
============= ============= ============ ============ ============
Mortgage Insurance Operating Ratios:
Loss ratio 32.8% 38.2% 41.9% 38.5% 40.5%
Expense ratio 25.5% 22.7% 18.4% 24.9% 30.1%
------------- ------------- ------------ ------------ ------------
Combined ratio 58.3% 60.9% 60.3% 63.4% 70.6%
============= ============= ============ ============ ============
Consolidated Balance Sheet Data:
Total assets $ 1,777,870 $ 1,686,603 $ 1,509,919 $ 1,304,440 $ 1,097,421
Reserve for losses and loss adjustment expenses $ 215,259 $ 202,387 $ 199,774 $ 192,087 $ 173,885
Long-term debt $ 99,476 $ 99,409 $ 99,342 $ - $ -
Preferred capital securities of subsidiary trust $ 99,040 $ 99,006 $ - $ - $ -
Shareholders' equity $ 1,097,515 $ 1,061,180 $ 986,862 $ 870,503 $ 687,178
Per Share Data:
Net income
Basic $ 6.06 $ 5.25 $ 4.52 $ 3.86 $ 3.03
Diluted(3) $ 6.04 $ 5.23 $ 4.51 $ 3.85 $ 3.03
Shareholders' equity $ 36.25 $ 32.69 $ 28.60 $ 24.87 $ 19.63
Cash dividends declared $ 0.20 $ 0.20 $ 0.20 $ 0.15 $ -
PMI Operating and Statutory Data:
Number of policies in force 714,210 698,831 700,084 657,800 612,806
Default rate 2.31% 2.38% 2.19% 1.98% 1.88%
Persistency 68.0% 80.8% 83.3% 86.4% 83.6%
Direct primary insurance in force (in millions) $ 80,682 $ 77,787 $ 77,312 $ 71,430 $ 65,982
Direct primary risk in force (in millions) $ 19,324 $ 18,092 $ 17,336 $ 15,130 $ 13,243
Statutory capital $ 1,193,699 $ 1,114,342 $ 988,475 $ 824,156 $ 659,402
Risk-to-capital ratio 14.9:1 14.6:1 15.9:1 15.8:1 17.7:1
New insurance written (NIW) $ 27,820,065 $ 15,307,147 $17,882,702 $14,459,260 $18,441,612
Policies issued 211,161 119,190 142,900 119,631 156,055
NIW market share 14.8% 12.7% 14.1% 13.2% 14.0%
</TABLE>
Ten Year Summary of Financial and Operating Data (Continued)
(Dollars in thousands, except per share data or otherwise noted)
<TABLE>
<CAPTION>
1993 1992 1991 1990 1989
------------- ------------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Summary of Consolidated Operations:
Net premiums written $ 291,089 $ 208,602 $ 143,305 $ 120,532 $ 102,940
============= ============= ============ ============ ============
Premiums earned $ 268,554 $ 173,039 $ 120,195 $ 101,913 $ 91,447
Investment income, less investment expense 45,733 40,847 40,402 38,261 35,943
Realized capital gains, net 1,229 686 1,335 (524) (437)
Other income - - - - -
------------- ------------- ------------ ------------ ------------
Total revenues 315,516 214,572 161,932 139,650 126,953
Total losses and expenses(1) 202,543 119,912 39,879 78,979 86,572
------------- ------------- ------------ ------------ ------------
Income from continuing operations before taxes 112,973 94,660 122,053 60,671 40,381
Income (loss) from discontinued operations (28,863) 6,726 3,709 1,562 974
Income tax expense (benefit)(2) 24,305 (10,911) 69,661 9,649 2,535
------------- ------------- ------------ ------------ ------------
Net income $ 59,805 $ 112,297 $ 56,101 $ 52,584 $ 38,820
============= ============= ============ ============ ============
Mortgage Insurance Operating Ratios:
Loss ratio 41.4% 33.2% 3.1% 47.4% 61.8%
Expense ratio 28.2% 27.0% 25.3% 25.5% 29.2%
------------- ------------- ------------ ------------ ------------
Combined ratio 69.6% 60.2% 28.4% 72.9% 91.0%
============= ============= ============ ============ ============
Consolidated Balance Sheet Data:
Total assets $ 985,129 $ 815,136 $ 663,215 $ 569,550 $ 493,853
Reserve for losses and loss adjustment expenses $ 135,471 $ 94,002 $ 78,045 $ 115,805 $ 125,210
Long-term debt $ - $ - $ - $ - $ -
Preferred capital securities of subsidiary trust $ - $ - $ - $ - $ -
Shareholders' equity $ 575,300 $ 513,583 $ 399,489 $ 338,632 $ 286,591
Per Share Data:
Net income
Basic $ 1.71 $ 3.21 $ 1.60 $ 1.50 $ 1.11
Diluted(3) $ 1.71 $ 3.21 $ 1.60 $ 1.50 $ 1.11
Shareholders' equity $ 16.44 $ 14.67 $ 11.41 $ 9.68 $ 8.19
Cash dividends declared $ - $ - $ - $ - $ -
PMI Operating and Statutory Data:
Number of policies in force 543,924 428,745 347,232 313,035 300,429
Default rate 1.81% 2.03% 2.38% 2.38% 2.46%
Persistency 70.0% 74.6% 85.2% 86.5% 85.9%
Direct primary insurance in force (in millions) $ 56,991 $ 43,698 $ 31,982 $ 26,938 $ 24,448
Direct primary risk in force (in millions) $ 11,267 $ 8,676 $ 6,481 $ 5,554 $ 5,152
Statutory capital $ 494,621 $ 456,931 $ 372,568 $ 314,037 $ 272,687
Risk-to-capital ratio 20.8:1 19.0:1 18.8:1 18.6:1 19.5:1
New insurance written (NIW) $25,469,907 $19,463,000 $ 8,663,000 $ 5,795,000 $ 5,117,000
Policies issued 207,356 161,893 75,095 49,943 45,134
NIW market share 18.6% 19.4% 15.9% 14.9% 13.7%
</TABLE>
(1) In 1991, the Company significantly revised its estimate for losses and loss
adjustment expense, reducing total losses by $42.1 million and the loss
ratio by 35 percentage points, and increasing income from continuing
operations by $27.8 million.
(2) During 1991, the Company increased its tax liabilities and income tax
expense by $40.9 million in light of an unfavorable judgment by the U.S.
Tax Court. In 1992, the 1991 judgment was overturned, and the Company re-
evaluated its tax balances and reduced its tax liabilities and income tax
expense by $30.9 million.
(3) Diluted earnings per share per Statement of Financial Accounting Standards
No. 128, "Earnings per Share."
<PAGE>
EXHIBIT 21.1
------------
THE PMI GROUP, INC. - SUBSIDIARIES
Name Under Which
Subsidiary Does Jurisdiction of
Subsidiary Name Business (If Different) Incorporation
- --------------- ----------------------- ---------------
PMI Mortgage Insurance Co. Arizona
Residential Guaranty Co. Arizona
American Pioneer Title
Insurance Company Chelsea Title Company Florida
PMI Mortgage Services Co. California
PMI Capital I Delaware
PMI Mortgage Guaranty Co. Arizona
PMI Securities Co. Delaware
Residential Insurance Co. Arizona
CLM Technologies, Ltd. California
PMI Capital Corporation Delaware
TPG Segregated Portfolio Company Cayman Islands
TPG Insurance Co. Vermont
PMI PAC Arizona
<PAGE>
EXHIBIT 23.1
------------
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statements No. 33-
92636, No. 33-99378, No. 333-47473, and No. 333-66829 of The PMI Group, Inc.
(the "Company") on Form S-8 and Registration Statements No. 333-48035, and No.
333-67125 of the Company on Form S-3 and Registration Statement No. 333-29777 of
the Company on Form S-4 of our reports dated January 20, 1999 appearing in and
incorporated by reference in this Annual Report on Form 10-K of the Company for
the year ended December 31, 1998.
/s/ Deloitte & Touche LLP
San Francisco, California
March 26, 1999
57
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 7
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<DEBT-HELD-FOR-SALE> 1,356,869
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 136,941
<MORTGAGE> 0
<REAL-ESTATE> 0
<TOTAL-INVEST> 1,532,224
<CASH> 9,757
<RECOVER-REINSURE> 42,102
<DEFERRED-ACQUISITION> 61,605
<TOTAL-ASSETS> 1,777,870
<POLICY-LOSSES> 215,259
<UNEARNED-PREMIUMS> 94,886
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 0
<NOTES-PAYABLE> 99,476
0
0
<COMMON> 352
<OTHER-SE> 1,097,163
<TOTAL-LIABILITY-AND-EQUITY> 1,777,870
491,226
<INVESTMENT-INCOME> 84,681
<INVESTMENT-GAINS> 24,636
<OTHER-INCOME> 20,366
<BENEFITS> 135,716
<UNDERWRITING-AMORTIZATION> 60,280
<UNDERWRITING-OTHER> 142,625
<INCOME-PRETAX> 266,948
<INCOME-TAX> 76,588
<INCOME-CONTINUING> 190,360
<DISCONTINUED> 0
<EXTRAORDINARY> 0
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</TABLE>
