-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, NAvdvFoeKT9fbb3CKFAdZOPAE7ekt52Z0/tcHwOHd1Zqb+eYf2iEtuGk/jh/qAgz idSDEqm3cSTTQTdt1McHSg== 0000005016-98-000016.txt : 19980817 0000005016-98-000016.hdr.sgml : 19980817 ACCESSION NUMBER: 0000005016-98-000016 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19980630 FILED AS OF DATE: 19980814 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: AMERICAN FINANCIAL GROUP INC CENTRAL INDEX KEY: 0001042046 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 311544320 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-13653 FILM NUMBER: 98689679 BUSINESS ADDRESS: STREET 1: ONE EAST FOURTH STREET STREET 2: SUITE 919 CITY: CINCINNATI STATE: OH ZIP: 45202 BUSINESS PHONE: 513-579-25 MAIL ADDRESS: STREET 1: ONE EAST FOURTH STREET STREET 2: SUITE 919 CITY: CINCINNATI STATE: OH ZIP: 45202 FORMER COMPANY: FORMER CONFORMED NAME: AMERICAN FINANCIAL GROUP HOLDINGS INC DATE OF NAME CHANGE: 19970709 10-Q 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended Commission File June 30, 1998 No. 1-13653 AMERICAN FINANCIAL GROUP, INC. Incorporated under IRS Employer I.D. the Laws of Ohio No. 31-1544320 One East Fourth Street, Cincinnati, Ohio 45202 (513) 579-2121 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, and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___ As of August 1, 1998, there were 61,427,374 shares of the Registrant's Common Stock outstanding, excluding 18,666,614 shares owned by subsidiaries. Page 1 of 20 AMERICAN FINANCIAL GROUP, INC. 10-Q PART I FINANCIAL INFORMATION AMERICAN FINANCIAL GROUP, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET (Dollars In Thousands) June 30, December 31, 1998 1997 Assets: Cash and short-term investments $ 283,256 $ 257,117 Investments: Bonds and redeemable preferred stocks: Held to maturity - at amortized cost (market - $2,910,700 and $3,202,300) 2,822,029 3,120,106 Available for sale - at market (amortized cost - $7,819,968 and $7,225,736) 8,149,168 7,532,836 Other stocks - principally at market (cost - $182,109 and $153,322) 437,309 446,222 Investment in investee corporation 239,649 200,714 Loans receivable 409,584 513,694 Real estate and other investments 222,635 219,216 Total investments 12,280,374 12,032,788 Recoverables from reinsurers and prepaid reinsurance premiums 1,076,346 998,743 Agents' balances and premiums receivable 729,577 691,005 Deferred acquisition costs 558,029 521,898 Other receivables 266,776 243,330 Deferred tax asset 17,141 41,413 Assets held in separate accounts 343,590 300,491 Prepaid expenses, deferred charges and other assets 341,101 369,156 Cost in excess of net assets acquired 298,327 299,408 $16,194,517 $15,755,349 Liabilities and Capital: Unpaid losses and loss adjustment expenses $ 4,368,302 $ 4,225,336 Unearned premiums 1,323,952 1,328,910 Annuity benefits accumulated 5,589,107 5,528,111 Life, accident and health reserves 752,671 709,899 Long-term debt: Holding companies 435,877 386,661 Subsidiaries 213,980 194,084 Liabilities related to separate accounts 343,590 300,491 Accounts payable, accrued expenses and other liabilities 907,680 906,151 Total liabilities 13,935,159 13,579,643 Minority interest 521,875 512,997 Shareholders' Equity: Common Stock, no par value - 200,000,000 shares authorized - 61,388,349 and 61,048,904 shares outstanding 61,388 61,049 Capital surplus 785,903 775,689 Retained earnings 553,192 477,071 Net unrealized gain on marketable securities, net of deferred income taxes 337,000 348,900 Total shareholders' equity 1,737,483 1,662,709 $16,194,517 $15,755,349 2 AMERICAN FINANCIAL GROUP, INC. 10-Q AMERICAN FINANCIAL GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF EARNINGS (In Thousands, Except Per Share Data)
Three months ended Six months ended June 30, June 30, 1998 1997 1998 1997 Income: Property and casualty insurance premiums $ 707,294 $698,381 $1,383,466 $1,362,143 Life, accident and health premiums 48,460 27,331 95,276 52,696 Investment income 228,912 214,622 449,240 427,494 Equity in net earnings of investee 17,996 17,228 31,914 32,008 Realized gains on sales of: Securities 7,142 4,198 14,588 6,011 Investee and subsidiary 1,716 - 9,420 731 Other investments - - 6,843 - Other income 26,326 25,839 63,877 52,286 1,037,846 987,599 2,054,624 1,933,369 Costs and Expenses: Property and casualty insurance: Losses and loss adjustment expenses 564,078 495,187 1,063,903 964,511 Commissions and other underwriting expenses 191,027 193,304 384,632 377,605 Annuity benefits 69,111 70,607 140,221 139,437 Life, accident and health benefits 36,555 25,825 74,661 49,988 Interest charges on borrowed money 13,995 13,844 27,946 27,554 Minority interest expense 12,908 15,652 27,167 30,057 Other operating and general expenses 83,607 77,684 160,800 147,225 971,281 892,103 1,879,330 1,736,377 Earnings before income taxes and extraordinary items 66,565 95,496 175,294 196,992 Provision for income taxes 26,000 34,314 67,842 72,595 Earnings before extraordinary items 40,565 61,182 107,452 124,397 Extraordinary items - loss on prepayment of debt (40) (23) (727) (78) Net Earnings $ 40,525 $ 61,159 $ 106,725 $ 124,319 Basic earnings (loss) per Common Share: Before extraordinary items $.66 $1.03 $1.75 $2.07 Loss on prepayment of debt - - (.01) - Net earnings available to Common Shares $.66 $1.03 $1.74 $2.07 Diluted earnings (loss) per Common Share: Before extraordinary items $.65 $1.02 $1.72 $2.04 Loss on prepayment of debt - - (.01) - Net earnings available to Common Shares $.65 $1.02 $1.71 $2.04 Average number of Common Shares: Basic 61,353 59,217 61,229 60,158 Diluted 62,595 60,151 62,376 61,085
3 AMERICAN FINANCIAL GROUP, INC. 10-Q AMERICAN FINANCIAL GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (dollars in thousands)
Common Stock Unrealized Common and Capital Retained Gain on Comprehensive Shares Surplus Earnings Securities Income Balance at January 1, 1998 61,048,904 $836,738 $477,071 $348,900 Net earnings - - 106,725 - $106,725 Dividends on Common Stock - - (30,604) - - Shares issued: Exercise of stock options 235,190 7,012 - - - Dividend reinvestment plan 5,030 211 - - - Employee stock purchase plan 33,830 1,408 - - - 401-K plan company match 44,035 1,783 - - - Portion of bonuses paid in stock 20,300 816 - - - Directors fees paid in stock 1,099 45 - - - Shares repurchased (39) - - - - Capital transactions of subsidiaries - (980) - - - Change in unrealized - - - (11,900) (11,900) Other - 258 - - - Balance at June 30, 1998 61,388,349 $847,291 $553,192 $337,000 $ 94,825 Balance at January 1, 1997 61,071,626 $806,721 $559,716 $188,000 Net earnings - - 124,319 - $124,319 Dividends on Common Stock - - (30,112) - - Shares issued: Exercise of stock options 88,557 1,985 - - - Dividend reinvestment plan 5,143 187 - - - Employee stock purchase plan 35,793 1,309 - - - Portion of bonuses paid in stock 40,500 1,521 - - - Directors fees paid in stock 613 22 - - - Shares repurchased (2,327,927) (30,774) (53,452) - - Capital transactions of subsidiaries - (980) - - - Change in unrealized - - - 50,600 50,600 Other - (187) - - - Balance at June 30, 1997 58,914,305 $779,804 $600,471 $238,600 $174,919
4 AMERICAN FINANCIAL GROUP, INC. 10-Q AMERICAN FINANCIAL GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS (In Thousands)
Six months ended June 30, 1998 1997 Operating Activities: Net earnings $ 106,725 $ 124,319 Adjustments: Extraordinary items 727 78 Depreciation and amortization 51,233 36,057 Annuity benefits 140,221 139,437 Equity in net earnings of investee (31,914) (32,008) Changes in reserves on assets 1,083 506 Realized gains on investing activities (44,411) (6,742) Increase in reinsurance and other receivables (138,770) (77,372) Increase in other assets (56,446) (18,523) Increase in insurance claims and reserves 167,165 65,484 Increase (decrease) in other liabilities 51,508 (110,026) Increase in minority interest 8,030 9,158 Dividends from investee 2,400 2,400 Other, net (8,897) (2,372) 248,654 130,396 Investing Activities: Purchases of and additional investments in: Fixed maturity investments (1,243,852) (1,206,131) Equity securities (33,137) (16,555) Subsidiaries (30,325) (4,900) Real estate, property and equipment (34,932) (22,872) Maturities and redemptions of fixed maturity investments 772,645 360,774 Sales of: Fixed maturity investments 358,597 698,990 Equity securities 12,194 9,552 Subsidiary - 2,500 Real estate, property and equipment 30,989 1,914 Cash and short-term investments of acquired (former) subsidiaries 20,841 (70) Increase in other investments (4,843) (2,233) (151,823) (179,031) Financing Activities: Fixed annuity receipts 238,198 259,708 Annuity surrenders, benefits and withdrawals (354,790) (288,531) Additional long-term borrowings 202,248 7,053 Reductions of long-term debt (134,164) (54,820) Issuances of Common Stock 8,209 3,294 Repurchases of Common Stock - (84,226) Issuances of trust preferred securities - 149,353 Cash dividends paid (30,393) (29,925) (70,692) (38,094) Net Increase (Decrease) in Cash and Short-term Investments 26,139 (86,729) Cash and short-term investments at beginning of period 257,117 448,296 Cash and short-term investments at end of period $ 283,256 $ 361,567
5 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS A. Accounting Policies Basis of Presentation The accompanying consolidated financial statements for American Financial Group, Inc. ("AFG") and subsidiaries are unaudited; however, management believes that all adjustments (consisting only of normal recurring accruals unless otherwise disclosed herein) necessary for fair presentation have been made. The results of operations for interim periods are not necessarily indicative of results to be expected for the year. The financial statements have been prepared in accordance with the instructions to Form 10-Q and therefore do not include all information and footnotes necessary to be in conformity with generally accepted accounting principles. Certain reclassifications have been made to prior years to conform to the current year's presentation. All significant intercompany balances and transactions have been eliminated. All acquisitions have been treated as purchases. The results of operations of companies since their formation or acquisition are included in the consolidated financial statements. The preparation of the financial statements requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Changes in circumstances could cause actual results to differ materially from those estimates. AFG's ownership of subsidiaries and significant investees with publicly traded common shares was as follows: June 30, December 31, 1998 1997 1996 American Annuity Group, Inc. ("AAG") 81% 81% 81% American Financial Enterprises, Inc. ("AFEI") - (*) 83% Chiquita Brands International, Inc. 37% 39% 43% (*) Became a 100%-owned subsidiary in December 1997. Investments Debt securities are classified as "held to maturity" and reported at amortized cost if AFG has the positive intent and ability to hold them to maturity. Debt and equity securities are classified as "available for sale" and reported at fair value with unrealized gains and losses reported as a separate component of shareholders' equity if the securities are not classified as held to maturity or bought and held principally for selling in the near term. Only in certain limited circumstances, such as significant issuer credit deterioration or if required by insurance or other regulators, may a company change its intent to hold a certain security to maturity without calling into question its intent to hold other debt securities to maturity in the future. Premiums and discounts on mortgage-backed securities are amortized over their expected average lives using the interest method. Gains or losses on sales of securities are recognized at the time of disposition with the amount of gain or loss determined on the specific identification basis. When a decline in the value of a specific investment is considered to be other than temporary, a provision for impairment is charged to earnings and the carrying value of that investment is reduced. Short-term investments are carried at cost; loans receivable are stated primarily at the aggregate unpaid balance. 6 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED Investment in Investee Corporation Investments in securities of 20%- to 50%-owned companies are generally carried at cost, adjusted for AFG's proportionate share of their undistributed earnings or losses. Cost in Excess of Net Assets Acquired The excess of cost of subsidiaries and investees over AFG's equity in the underlying net assets ("goodwill") is being amortized over 40 years. Insurance As discussed under "Reinsurance" below, unpaid losses and loss adjustment expenses and unearned premiums have not been reduced for reinsurance recoverable. Reinsurance In the normal course of business, AFG's insurance subsidiaries cede reinsurance to other companies to diversify risk and limit maximum loss arising from large claims. To the extent that any reinsuring companies are unable to meet obligations under the agreements covering reinsurance ceded, AFG's insurance subsidiaries would remain liable. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability associated with the reinsurance policies. AFG's insurance subsidiaries report as assets (a) the estimated reinsurance recoverable on unpaid losses, including an estimate for losses incurred but not reported, and (b) amounts paid to reinsurers applicable to the unexpired terms of policies in force. AFG's insurance subsidiaries also assume reinsurance from other companies. Income on reinsurance assumed is recognized based on reports received from ceding reinsurers. Deferred Acquisition Costs Policy acquisition costs (principally commissions, premium taxes and other underwriting expenses) related to the production of new business are deferred ("DPAC"). For the property and casualty companies, the deferral of acquisition costs is limited based upon their recoverability without any consideration for anticipated investment income. DPAC is charged against income ratably over the terms of the related policies. For the annuity companies, DPAC is amortized, with interest, in relation to the present value of expected gross profits on the policies. Unpaid Losses and Loss Adjustment Expenses The net liabilities stated for unpaid claims and for expenses of investigation and adjustment of unpaid claims are based upon (a) the accumulation of case estimates for losses reported prior to the close of the accounting period on the direct business written; (b) estimates received from ceding reinsurers and insurance pools and associations; (c) estimates of unreported losses based on past experience; (d) estimates based on experience of expenses for investigating and adjusting claims and (e) the current state of the law and coverage litigation. These liabilities are subject to the impact of changes in claim amounts and frequency and other factors. In spite of the variability inherent in such estimates, management believes that the liabilities for unpaid losses and loss adjustment expenses are adequate. Changes in estimates of the liabilities for losses and loss adjustment expenses are reflected in the Statement of Earnings in the period in which determined. Annuity Benefits Accumulated Annuity receipts and benefit payments are recorded as increases or decreases in "annuity benefits accumulated" rather than as revenue and expense. Increases in this liability for interest credited are charged to expense and decreases for surrender charges are credited to other income. Life, Accident and Health Reserves Liabilities for future policy benefits under traditional ordinary life, accident and health policies are computed using a net level premium method. Computations are based on anticipated investment yield, mortality, morbidity and surrenders and include provisions for unfavorable deviations. Reserves are modified as necessary to reflect actual experience and developing trends. 7 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED Assets Held In and Liabilities Related to Separate Accounts Separate account assets and related liabilities represent deposits maintained by several banks under a previously offered tax-deferred annuity program and, to a lesser extent, variable annuity deposits. AAG receives an annual fee from each bank for sponsoring the program; if depositors elect to purchase an annuity from AAG, funds are transferred to AAG. Premium Recognition Property and casualty premiums are earned over the terms of the policies on a pro rata basis. Unearned premiums represent that portion of premiums written which is applicable to the unexpired terms of policies in force. On reinsurance assumed from other insurance companies or written through various underwriting organizations, unearned premiums are based on reports received from such companies and organizations. For traditional life, accident and health products, premiums are recognized as revenue when legally collectible from policyholders. For interest-sensitive life and universal life products, premiums are recorded in a policyholder account which is reflected as a liability. Revenue is recognized as amounts are assessed against the policyholder account for mortality coverage and contract expenses. Policyholder Dividends Dividends payable to policyholders are included in "Accounts payable, accrued expenses and other liabilities" and represent estimates of amounts payable on participating policies which share in favorable underwriting results. The estimate is accrued during the period in which the related premium is earned. Changes in estimates are included in income in the period determined. Policyholder dividends do not become legal liabilities unless and until declared by the boards of directors of the insurance companies. Minority Interest For balance sheet purposes, minority interest represents the interests of noncontrolling shareholders in AFG subsidiaries, including American Financial Corporation ("AFC") preferred stock and preferred securities issued by trust subsidiaries of AFG. For income statement purposes, minority interest expense represents those shareholders' interest in the earnings of AFG subsidiaries as well as AFC preferred dividends and accrued distributions on the trust preferred securities. Issuances of Stock by Subsidiaries and Investees Changes in AFG's equity in a subsidiary or an investee caused by issuances of the subsidiary's or investee's stock are accounted for as gains or losses where such issuance is not part of a broader reorganization. Income Taxes AFC and American Premier Underwriters, Inc. ("American Premier" or "APU") have each filed consolidated federal income tax returns which include all 80%-owned U.S. subsidiaries, except for certain life insurance subsidiaries and their subsidiaries. AFG (parent) was included in American Premier's consolidated return for 1996. At the close of business on December 31, 1996, AFG contributed 81% of the common stock of AmericanPremier to AFC. Accordingly, AFC and American Premier will file a consolidated return for 1997. Because holders of AFC Preferred Stock hold in excess of 20% of AFC's voting rights, AFG (parent) and AFC Holding Company own less than 80% of AFC, and therefore, will file separate returns. Deferred income taxes are calculated using the liability method. Under this method, deferred income tax assets and liabilities are determined based on differences between financial reporting and tax bases and are measured using enacted tax rates. Deferred tax assets are recognized if it is more likely than not that a benefit will be realized. 8 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED Stock-Based Compensation As permitted under Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation", AFG accounts for stock options and other stock-based compensation plans using the intrinsic value based method prescribed by Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." Benefit Plans AFG provides retirement benefits to qualified employees of participating companies through contributory and noncontributory defined contribution plans contained in AFG's Retirement and Savings Plan. Under the retirement portion of the plan, company contributions (approximately 6% of covered compensation in 1997) are invested primarily in securities of AFG and affiliates. Under the savings portion of the plan, AFG matches a specific portion of employee contributions. Contributions to benefit plans are charged against earnings in the year for which they are declared. AFG and many of its subsidiaries provide health care and life insurance benefits to eligible retirees. AFG also provides postemployment benefits to former or inactive employees (primarily those on disability) who were not deemed retired under other company plans. The projected future cost of providing these benefits is expensed over the period the employees earn such benefits. Under AFG's stock option plan, options are granted to officers, directors and key employees at exercise prices equal to the fair value of the shares at the dates of grant. No compensation expense is recognized for stock option grants. Start-up Costs Costs associated with introducing new products and distribution channels are deferred by AAG until normal operations are reached. These deferred costs are amortized on a straight-line basis over 5 years. See Management's Discussion and Analysis - "New Accounting Standard to be Implemented." Earnings Per Share In 1997, AFG implemented SFAS No. 128, "Earnings Per Share". This standard requires the presentation of basic and diluted earnings per share. Basic earnings per share are calculated using the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share include the effect of the assumed exercise of dilutive common stock options. Per share amounts for prior periods have been restated to conform to the current presentation. Comprehensive Income Effective January 1, 1998, AFG implemented SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 uses the term "comprehensive income" to describe the total of net earnings plus other comprehensive income. For AFG, other comprehensive income represents the change in net unrealized gain on marketable securities net of deferred taxes and a reclassification adjustment for gains and losses included in net earnings. Implementation of this statement had no impact on net earnings or shareholders' equity. Prior periods have been restated to conform to the current presentation. Statement of Cash Flows For cash flow purposes, "investing activities" are defined as making and collecting loans and acquiring and disposing of debt or equity instruments and property and equipment. "Financing activities" include obtaining resources from owners and providing them with a return on their investments, borrowing money and repaying amounts borrowed. Annuity receipts, benefits and withdrawals are also reflected as financing activities. All other activities are considered "operating". Short-term investments having original maturities of three months or less when purchased are considered to be cash equivalents for purposes of the financial statements. 9 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED B. Segments of Operations AFG operates its property and casualty insurance business in three major segments: nonstandard automobile, specialty lines, and commercial and personal lines. AFG's annuity and life business primarily sells tax-deferred annuities to employees of primary and secondary educational institutions and hospitals. In addition, AFG has owned significant portions of the voting equity securities of certain companies (investee corporation - see Note C). The Financial Accounting Standards Board issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information", which is scheduled to become effective during the fourth quarter of 1998. The implementation of SFAS No. 131 is not expected to have a material effect on the segments currently disclosed by AFG. The following table (in thousands) shows AFG's revenues by significant business segment. Six months ended June 30, 1998 1997 Property and casualty insurance: Premiums earned: Nonstandard automobile $ 580,565 $ 574,604 Specialty lines 517,875 482,711 Commercial and personal lines 263,332 286,647 Other lines (a) 21,694 18,181 1,383,466 1,362,143 Investment and other income 253,556 216,274 1,637,022 1,578,417 Annuities and life (b) 373,992 302,426 Other 11,696 20,518 2,022,710 1,901,361 Equity in net earnings of investee 31,914 32,008 $2,054,624 $1,933,369 (a) NSA operations in the United Kingdom have been reclassified to other lines. (b) Represents primarily investment income. C. Investment in Investee Corporation Investment in investee corporation reflects AFG's ownership of 24 million shares of Chiquita common stock. The market value of this investment was $337 million and $391 million at June 30, 1998 and December 31, 1997, respectively. Chiquita is a leading international marketer, producer and distributor of bananas and other quality fresh and processed food products. Summarized financial information for Chiquita follows (in millions): Six months ended June 30, 1998 1997 Net Sales $1,461 $1,278 Operating Income 144 139 Net Income 94 84 10 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED D. Long-Term Debt The carrying value of long-term debt consisted of the following (in thousands): June 30, December 31, 1998 1997 Holding Companies: AFG 7-1/8% Senior Debentures due December 2007 $100,000 $100,000 AFC notes payable to banks due December 2002 97,000 45,000 AFC 9-3/4% Debentures due April 2004 79,049 79,792 APU 9-3/4% Subordinated Notes due August 1999 90,733 92,127 APU 10-5/8% Subordinated Notes due April 2000 43,299 43,889 APU 10-7/8% Subordinated Notes due May 2011 17,558 17,586 Other 8,238 8,267 $435,877 $386,661 Subsidiaries: AAG 6-7/8% Senior Notes due June 2008 $100,000 $ - AAG notes payable to banks due in installments to December 2003 57,000 107,000 AAG 11-1/8% Senior Subordinated Notes - 24,080 Notes payable secured by real estate 44,114 49,525 Other 12,866 13,479 $213,980 $194,084 At June 30, 1998, sinking fund and other scheduled principal payments on debt for the balance of 1998 and the subsequent five years were as follows (in thousands): Holding Companies Subsidiaries Total 1998 $ - $ 967 $ 967 1999 89,853 2,039 91,892 2000 42,042 8,751 50,793 2001 - 1,473 1,473 2002 102,349 1,364 103,713 2003 - 58,402 58,402 Debentures purchased in excess of scheduled payments may be applied to satisfy any sinking fund requirement. The scheduled principal payments shown above assume that debentures previously purchased are applied to the earliest scheduled retirements. In February 1998, AFC entered into a new unsecured credit agreement with a group of banks under which AFC can borrow up to $300 million through December 2002. Borrowings bear interest at floating rates based on prime or Eurodollar rates. In January 1998, AAG replaced its existing bank lines with a new $200 million unsecured credit agreement. Loans under the credit agreement mature from 2000 to 2003 and bear interest at floating rates based on prime or Eurodollar rates. In February 1998, AAG borrowed $50 million under the line and retired its 11-1/8% Notes (including $24.3 million principal amount held by AAG and its subsidiaries). In June 1998, AAG sold $100 million principal amount of 6-7/8% Senior Notes due 2008 to the public and used the net proceeds to reduce outstanding indebtedness under the credit agreement. 11 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED E. Minority Interest Minority interest in AFG's balance sheet is comprised of the following (in thousands): June 30, December 31, 1998 1997 Interest of noncontrolling shareholders in subsidiaries' common stock $124,721 $115,843 Preferred securities issued by subsidiary trusts 325,000 325,000 AFC preferred stock 72,154 72,154 $521,875 $512,997 Preferred Securities Wholly-owned subsidiary trusts of AFC Holding ("AFCH") and AAG have issued $325 million of preferred securities and, in turn, purchased $325 million of newly authorized AFC X Holding and AAG subordinated debt issues which provide interest and principal payments to fund the respective trusts' obligations. The preferred securities are mandatorily redeemable upon maturity or redemption of the subordinated debt. The preferred securities are summarized as follows:
Date of Optional Issuance Issue (Maturity Date) Amount Redemption Dates October 1996 AFCH 9-1/8% TOPrS (2026) $100,000,000 On or after 10/22/2001 November 1996 AAG 9-1/4% TOPrS (2026) 75,000,000 On or after 11/7/2001 March 1997 AAG 8-7/8% Pfd (2027) 75,000,000 On or after 3/1/2007 May 1997 AAG 7-1/4% ROPES (2041) 75,000,000 Prior to 9/28/2000 and after 9/28/2001
AFC Holding and AAG effectively provide unconditional guarantees of their respective trusts' obligations and AFG guarantees AFC Holding's obligation. AFC Preferred Stock AFC's Preferred Stock was voting, cumulative, and consisted of the following: Series J, no par value; $25.00 liquidating value per share; annual dividends per share $2.00; redeemable at $25.75 per share beginning December 2005 declining to $25.00 at December 2007; 2,886,161 shares (stated value $72.2 million) outstanding at June 30, 1998 and December 31, 1997. Minority Interest Expense Minority interest expense is comprised of (in thousands): Six months ended June 30, 1998 1997 Interest of noncontrolling shareholders in earnings of subsidiaries $10,177 $ 7,743 Accrued distributions by subsidiaries on preferred securities: Trust issued securities 14,104 10,571 AFC preferred stock 2,886 11,743 $27,167 $30,057 12 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED F. Shareholders' Equity At June 30, 1998, there were 61,388,349 shares of AFG Common Stock outstanding, including 1,368,346 shares held by American Premier for distribution to certain creditors and other claimants pursuant to a plan of reorganization relating to American Premier's predecessor. AFG is authorized to issue 12.5 million shares of Voting Preferred Stock and 12.5 million shares of Nonvoting Preferred Stock, each without par value. At June 30, 1998, there were 4.7 million shares of AFG Common Stock reserved for issuance upon exercise of stock options. As of that date, AFG had options for 3.9 million shares outstanding. Options become exercisable at the rate of 20% per year commencing one year after grant; those granted to non-employee directors of AFG are generally fully exercisable upon grant. All options expire ten years after the date of grant. The change in net unrealized gain on marketable securities for the six months ended June 30 included the following (in millions): Minority Pretax Taxes Interest Net 1998 Unrealized holding gains (losses) on securities arising during the period ($ 6.8) $ 2.5 ($1.3) ($ 5.6) Less reclassification adjustment for realized gains included in net income (10.1) 3.5 .3 (6.3) Change in net unrealized gain on marketable securities ($16.9) $ 6.0 ($1.0) ($11.9) 1997 Unrealized holding gains (losses) on securities arising during the period $87.2 ($30.6) ($2.5) $54.1 Less reclassification adjustment for realized gains included in net income (5.4) 1.9 - (3.5) Change in net unrealized gain on marketable securities $81.8 ($28.7) ($2.5) $50.6 G. Extraordinary Items Extraordinary items represent AFG's proportionate share of losses related to debt retirements by the following companies. Amounts shown are net of minority interest and income tax benefits (in thousands): Six months ended June 30, 1998 1997 Holding Companies: AFC (parent) ($ 35) ($36) APU (parent) (43) (42) Subsidiaries: AAG (649) - ($727) ($78) 13 AMERICAN FINANCIAL GROUP, INC. 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED H. Cash Flows - Fixed Maturity Investments "Investing activities" related to fixed maturity investments in AFG's Statement of Cash Flows consisted of the following (in thousands): Held to Available Maturity For Sale Total 1998 Purchases $ 826 $1,243,026 $1,243,852 Maturities and redemptions 374,774 397,871 772,645 Sales 31,940(*) 326,657 358,597 1997 Purchases $ 2,018 $1,204,113 $1,206,131 Maturities and redemptions 197,546 163,228 360,774 Sales - 698,990 698,990 (*) Sold (at a gain of $.2 million) due to significant deterioration in the issuers' creditworthiness. I. Commitments and Contingencies Other than as disclosed in "Legal Proceedings" in Part II of this report, there have been no significant changes to the matters discussed and referred to in Note N "Commitments and Contingencies" in AFG's Annual Report on Form 10-K for 1997. J. Subsequent Event In July 1998, AAG reached a definitive agreement to sell its funeral services division for $164 million in cash. At June 30, 1998, the carrying value of the funeral services division was approximately $125 million. Completion of the sale, which is expected to occur in the fourth quarter of 1998, is subject to certain conditions, including receipt of regulatory approval. 14 AMERICAN FINANCIAL GROUP, INC. 10-Q ITEM 2 Management's Discussion and Analysis of Financial Condition and Results of Operations GENERAL AFG and its subsidiaries, AFC Holding, AFC and American Premier, are organized as holding companies with almost all of their operations being conducted by subsidiaries. These parent corporations, however, have continuing cash needs for administrative expenses, the payment of principal and interest on borrowings, shareholder dividends, and taxes. Therefore, certain analyses are best done on a parent only basis while others are best done on a total enterprise basis. In addition, since most of its businesses are financial in nature, AFG does not prepare its consolidated financial statements using a current-noncurrent format. Consequently, certain traditional ratios and financial analysis tests are not meaningful. Forward-Looking Statements The Private Securities Litigation Reform Act of 1995 encourages corporations to provide investors with information about the company's anticipated performance and provides protection from liability if future results are not the same as management's expectations. This document contains certain forward-looking statements that are based on assumptions which management believes are reasonable, but by their nature, inherently uncertain. Future results could differ materially from those projected. Factors that could cause such differences include, but are not limited to: changes in economic conditions, regulatory actions, level of catastrophe losses, and competitive pressures. AFG undertakes no obligation to update any forward-looking statements. LIQUIDITY AND CAPITAL RESOURCES Ratios AFG's debt to total capital ratio (at the parent holding company level) was approximately 19% at June 30, 1998 and 17% at December 31, 1997. AFG's ratio of earnings to fixed charges (on a total enterprise basis) was 3.93 for the first six months of 1998 and 3.98 for the entire year of 1997. Sources of Funds Management believes the parent holding companies have sufficient resources to meet their liquidity requirements through operations in the short-term and long-term future. If funds generated from operations, including dividends and tax payments from subsidiaries, are insufficient to meet fixed charges in any period, these companies would be required to generate cash through borrowings, sales of securities or other assets, or similar transactions. A new five-year, $300 million bank credit line was established by AFC in February 1998, replacing two subsidiary holding company lines. The new credit line provides ample liquidity and can be used to obtain funds for operating subsidiaries or, if necessary, for the parent companies. At June 30, 1998, there was $97 million borrowed under the credit line. Dividend payments from subsidiaries have been very important to the liquidity and cash flow of the individual holding companies in the past. However, the reliance on such dividend payments has been lessened by the combination of (i) strong capital at AFG's insurance subsidiaries (and the related decreased likelihood of a need for investment in those companies), (ii) the reductions of debt at the holding companies (and the related decrease in ongoing cash needs for interest and principal payments), (iii) AFG's ability to obtain financing in capital markets, as well as (iv) the sales of non-core investments. 15 AMERICAN FINANCIAL GROUP, INC. 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued Investments Approximately 91% of the bonds and redeemable preferred stocks held by AFG were rated "investment grade" (credit rating of AAA to BBB) by nationally recognized rating agencies at June 30, 1998. Investment grade securities generally bear lower yields and lower degrees of risk than those that are unrated and non-investment grade. Management believes that the high quality investment portfolio should generate a stable and predictable investment return. AFG's equity securities are concentrated in a relatively limited number of major positions. This approach allows management to more closely monitor the companies and the industries in which they operate. RESULTS OF OPERATIONS General Pretax earnings before extraordinary items for the three months and six months ended June 30, 1998 were $66.6 million and $175.3 million, respectively, compared to $95.5 million and $197.0 million in the comparable 1997 periods. The decrease reflects a deterioration in underwriting results in the property and casualty operations due primarily to severe storms in the midwestern part of the country during the 1998 second quarter and a continuation of the adverse claims environment in the California workers' compensation business. These items were partially offset by growth in investment income, higher realized gains on sales of certain investments and income from the sale of real estate properties (primarily in the first quarter). Property and Casualty Insurance - Underwriting AFG manages and operates its property and casualty business as three major sectors. The nonstandard automobile insurance companies (the "NSA Group") insure risks not typically accepted for standard automobile coverage because of the applicant's driving record, type of vehicle, age or other criteria. The specialty lines are a diversified group of over twenty-five business lines that offer a wide variety of specialty insurance products. Some of the more significant areas are California workers' compensation, executive liability, inland and ocean marine, U.S.-based operations of Japanese companies, agricultural-related coverages, non-profit liability, general aviation coverages, fidelity and surety bonds, and umbrella and excess coverages. The commercial and personal lines provide coverages in workers' compensation, commercial multi- peril, umbrella, commercial automobile, standard private passenger automobile and homeowners insurance. Underwriting profitability is measured by the combined ratio which is a sum of the ratios of underwriting losses, loss adjustment expenses, underwriting expenses and policyholder dividends to premiums. When the combined ratio is under 100%, underwriting results are generally considered profitable; when the ratio is over 100%, underwriting results are generally considered unprofitable. The combined ratio does not reflect investment income, other income or federal income taxes. For certain lines of business and products where the credibility of the range of loss projections is less certain (primarily the various specialty lines listed above), management believes that it is prudent and appropriate to use conservative assumptions until such time as the data, experience and projections have more credibility, as evidenced by data volume, consistency and maturity of the data. While this practice mitigates the risk of adverse development on this business, it does not eliminate it. 16 AMERICAN FINANCIAL GROUP, INC. 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued Net written premiums and combined ratios for AFG's property and casualty insurance subsidiaries were as follows (dollars in millions): Three months ended Six months ended June 30, June 30, 1998 1997 1998 1997 Net Written Premiums (GAAP) NSA Group $284.3 $320.9 $ 606.7 $ 642.1 Specialty Operations 272.6 257.6 519.5 522.0 Commercial and Personal Operations 121.3 135.8 239.2 230.6 Other Lines 7.9 7.3 15.6 15.8 $686.1 $721.6 $1,381.0 $1,410.5 Combined Ratios (GAAP) NSA Group 97.0% 96.9% 96.4% 96.8% Specialty Operations 110.0 88.0 105.9 90.3 Commercial and Personal Operations 116.7 102.7 110.4 102.9 Aggregate (including other lines) 106.8 98.6 104.7 98.5 (*) NSA operations in the United Kingdom have been reclassified to other lines. NSA Group The NSA Group's net written premiums decreased 11% in the second quarter and 5.5% in the first six months of the year compared to the same 1997 periods. The decline is due primarily to stronger price competition in the industry. Underwriting results for the second quarter and the first six months of the year were comparable to the previous periods. Specialty Operations The Specialty Operations' net written premiums increased 6% during the second quarter from the comparable 1997 period due primarily to the acquisition of a general aviation division during 1997. Net written premiums for the first six months of 1998 were down slightly from 1997 due to the inclusion in 1997 of certain in-force amounts obtained under a reinsurance agreement at the beginning of that year. Underwriting results for the second quarter and first six months of 1998 worsened from the comparable periods in 1997 due to (i) losses from the midwestern storms in the second quarter of 1998, (ii) the continuation of the adverse claims environment in the California workers' compensation business, (iii) weak results in the general aviation business and (iv) unusually good results in 1997 in the executive liability and non-profit organization lines. Commercial and Personal Operations The Commercial and Personal Operations' net written premiums declined 11% in the second quarter from the comparable period in 1997 primarily due to a decrease in personal automobile coverages in certain states and intense price competition in the commercial casualty markets. Net written premiums were 4% higher in the first six months of 1998 due to the initial impact of a reinsurance agreement for AFG's homeowners' business (which is still in effect) which made first quarter 1997 premiums unusually low. Excluding this impact, premiums declined approximately 9% during the first six months of 1998. The combined ratio for the second quarter of 1998 includes 17 percentage points due to losses from the midwestern storms. Life, Accident and Health Premiums and Benefits The increase in life, accident and health premiums and benefits reflects primarily AAG's acquisition of General Accident Life Assurance Company in December 1997 and increased sales of pre-need life insurance. 17 AMERICAN FINANCIAL GROUP, INC. 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued Investment Income Investment income increased approximately $14.3 million (7%) for the second quarter of 1998 and $21.7 million (5%) in the first six months of 1998 compared to 1997 due primarily to an increase in the average amount of investments held partially offset by decreasing market interest rates. Investee Corporations Equity in net earnings of investee corporations represents AFG's proportionate share of Chiquita's earnings. Chiquita reported net income for the second quarter and first six months of 1998 of $53 million and $94 million, respectively, compared to $41 million and $84 million for the same periods in 1997. Realized Gains Realized capital gains have been an important part of the return on investments in marketable securities. Individual securities are sold creating gains and losses as market opportunities exist. Gain on Sale of Investee and Subsidiary Chiquita's public issuance of shares of its common stock in the first and second quarters of 1998 resulted in pretax gains to AFG of $7.7 million and $1.7 million in those periods. Other Income Other income increased $11.6 million (22%) in the first six months of 1998 compared to 1997 due primarily to income of $10.4 million from the sale of operating real estate assets in the first quarter of 1998. Annuity Benefits Annuity benefits reflect interest credited to annuity policyholders' funds accumulated. The majority of AAG's fixed rate annuity products permit AAG to change the crediting rate at any time (subject to minimum interest rate guarantees of 3% or 4% per annum). As a result, management has been able to react to changes in market interest rates and maintain a desired interest rate spread without a substantial effect on persistency. Other Operating and General Expenses Other operating and general expenses increased $5.9 million (8%) during the second quarter and $13.6 million (9%) in the first six months of 1998 compared to 1997 due primarily to inclusion of the operations of General Accident following its acquisition in late 1997. New Accounting Standard to be Implemented Statement of Position 98-5, "Reporting on the Costs of Start-Up Activities," was issued during the second quarter of 1998. The SOP is effective for fiscal years beginning after December 15, 1998, and requires that costs of start-up activities be expensed as incurred. The SOP requires that unamortized balances of previously deferred costs be expensed no later than the first quarter of 1999 and reported as the cumulative effect of a change in accounting principle. AAG had $11 million in capitalized start-up costs at June 30, 1998. 18 AMERICAN FINANCIAL GROUP, INC. 10-Q PART II OTHER INFORMATION Item 1 Legal Precedings Since 1994, AFG and its subsidiary, American Premier, have disclosed the existence of lawsuits which had been filed by USX Corporation and one of its former subsidiaries seeking $600 million. The disclosures stated that the companies believed they had sufficient defenses and did not expect to suffer any material loss from the litigation. On May 29, 1998, AFG's subsidiary, American Premier, received notice that the largest and last of the lawsuits had been dismissed in state court. This decision is similar to one issued earlier in the year by the United States District Court for the Northern District of Ohio granting American Premier's Motion for Summary Judgment in separate cases based on the same facts. All of USX's claims against American Premier have now been dismissed with prejudice. Although USX has appealed the earlier District Court decision and will likely appeal the May 1998 state court decision, AFG and American Premier continue to believe that they will not suffer a material loss from this litigation. Item 4 Submission of Matters to a Vote of Security Holders AFG's Annual Meeting of Shareholders was held on May 28, 1998; the only issue voted upon was the election of a Board of Directors. All of the eight nominees were elected. The votes cast for and those withheld are set forth below: Name For Against Withheld Abstain Theodore H. Emmerich 55,334,146 N/A 305,799 N/A James E. Evans 55,336,602 N/A 303,343 N/A Thomas M. Hunt 55,329,047 N/A 310,898 N/A Carl H. Lindner 55,283,556 N/A 356,389 N/A Carl H. Lindner III 55,322,851 N/A 317,094 N/A Keith E. Lindner 55,325,197 N/A 314,748 N/A S. Craig Lindner 55,322,413 N/A 317,532 N/A William R. Martin 55,334,832 N/A 305,113 N/A N/A - Not Applicable Item 5 Other Information Shareholder Proposals The Proxy Form used by the Company for its Annual Meeting of Shareholders typically grants authority to management's proxies to vote in their discretion on any matters that come before the Meeting as to which adequate notice has not been received. In order for a notice to be deemed adequate for the 1999 Annual Meeting, it must be received by March 7, 1999. In order for a proposal to be considered for inclusion in the Company's proxy statement for that Meeting, it must be received by December 31, 1998. 19 AMERICAN FINANCIAL GROUP, INC. 10-Q PART II OTHER INFORMATION - CONTINUED Item 6 Exhibits and Reports on Form 8-K (a) Exhibit 27.1 - Financial Data Schedule as of June 30, 1998. For submission in electronic filing only. (b) Reports on Form 8-K: None. Signature Pursuant to the requirements of the Securities Exchange Act of 1934, American Financial Group, Inc. has duly caused this Report to be signed on its behalf by the undersigned duly authorized. American Financial Group, Inc. August 12, 1998 BY: Fred J. Runk Fred J. Runk Senior Vice President and Treasurer 20 EX-27 2
5 This schedule contains summary financial information extracted from American Financial Group, Inc. 10-Q for the six months ended June 30, 1998 and is qualified in its entirety by reference to such financial statements. 1,000 6-MOS DEC-31-1998 JUN-30-1998 $283,256 11,648,155 729,577 0 0 0 0 0 16,194,517 0 649,857 0 0 61,388 1,676,095 16,194,517 0 2,054,624 0 0 160,800 0 27,946 175,294 67,842 107,452 0 (727) 0 $106,725 1.74 1.71 Includes an investment in investee corporation of $240 million.
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