-----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, AnlDe4WpbQQGxCGvpO8F2rBZOk+0H74Gd/udW0XgnxVIbnBEgiLx+TQCDygrbhNS uZwaacIF2Ksy/CL0J19NxQ== 0001083750-04-000005.txt : 20040512 0001083750-04-000005.hdr.sgml : 20040512 20040512150000 ACCESSION NUMBER: 0001083750-04-000005 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20040331 FILED AS OF DATE: 20040512 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CHANDLER USA INC CENTRAL INDEX KEY: 0001083750 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 731325906 STATE OF INCORPORATION: OK FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-15135 FILM NUMBER: 04799033 BUSINESS ADDRESS: STREET 1: 1010 MANVEL AVE CITY: CHANDLER STATE: OK ZIP: 74834 BUSINESS PHONE: 4052580804 MAIL ADDRESS: STREET 1: 1010 MANVEL AVE CITY: CHANDLER STATE: OK ZIP: 74834 10-Q 1 mar04q.txt CHANDLER USA MARCH 2004 10-Q ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------------------------- FORM 10-Q X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE --- SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2004 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE --- SECURITIES EXCHANGE ACT OF 1934 For the Transition Period from ________ to ________ COMMISSION FILE NUMBER: 1-15135 CHANDLER (U.S.A.), INC. (Exact name of registrant as specified in its charter) OKLAHOMA 73-1325906 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 1010 MANVEL AVENUE, CHANDLER, OKLAHOMA 74834 (Address of principal executive offices and zip code) Registrant's telephone number, including area code: (405) 258-0804 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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES NO X --- --- The number of common shares, $1.00 par value, of the registrant outstanding on April 30, 2004 was 2,484, which are owned by Chandler Insurance Company, Ltd. ============================================================================= PAGE i CHANDLER (U.S.A.), INC. INDEX PART I - FINANCIAL INFORMATION - ------------------------------ ITEM 1. - ------- Consolidated Balance Sheets as of March 31, 2004 and December 31, 2003 ...... 1 Consolidated Statements of Operations for the three months ended March 31, 2004 and 2003 .......................................... 2 Consolidated Statements of Comprehensive Income for the three months ended March 31, 2004 and 2003 ................................... 3 Consolidated Statements of Cash Flows for the three months ended March 31, 2004 and 2003 .......................................... 4 Notes to Interim Consolidated Financial Statements .......................... 5 ITEM 2. - ------- Management's Discussion and Analysis of Financial Condition and Results of Operations .................................................. 7 ITEM 4. - ------- Controls and Procedures ..................................................... 10 PART II - OTHER INFORMATION - --------------------------- Item 1. Legal Proceedings ............................................... 11 Item 2. Changes in Securities and Use of Proceeds ....................... 11 Item 3. Defaults Upon Senior Securities ................................. 11 Item 4. Submission of Matters to a Vote of Security Holders ............. 11 Item 5. Other Information ............................................... 11 Item 6. Exhibits and Reports on Form 8-K ................................ 11 Signatures .................................................................. 12 PAGE 1 CHANDLER (U.S.A.), INC. CONSOLIDATED BALANCE SHEETS (Amounts in thousands except share amounts)
March 31, December 31, 2004 2003 ----------- ------------ (Unaudited) ASSETS Investments Fixed maturities available for sale, at fair value Restricted (amortized cost $7,596 and $7,622 in 2004 and 2003, respectively) ..... $ 7,733 $ 7,677 Unrestricted (amortized cost $59,423 and $53,549 in 2004 and 2003, respectively).. 60,567 54,303 Equity securities available for sale, at fair value ................................ 92 92 ----------- ------------ Total investments ................................................................ 68,392 62,072 Cash and cash equivalents ($601 restricted in 2004 and 2003, respectively) ........... 9,952 7,126 Premiums receivable, less allowance for non-collection of $84 and $133 at 2004 and 2003, respectively ..................................... 19,133 20,304 Reinsurance recoverable on paid losses, less allowance for non-collection of $3,034 and $2,934 at 2004 and 2003, respectively ................................ 4,574 9,036 Reinsurance recoverable on paid losses from related parties .......................... - 271 Reinsurance recoverable on unpaid losses, less allowance for non-collection of $347 and $380 at 2004 and 2003, respectively .................................... 50,110 48,688 Reinsurance recoverable on unpaid losses from related parties ........................ 9,565 9,737 Prepaid reinsurance premiums ......................................................... 15,101 15,269 Prepaid reinsurance premiums to related parties ...................................... 10,255 9,521 Deferred policy acquisition costs .................................................... 315 165 Property and equipment, net .......................................................... 9,682 9,879 Amounts due from related parties ..................................................... 9,809 9,642 State insurance licenses, net ........................................................ 3,745 3,745 Other assets ......................................................................... 12,368 12,758 ----------- ------------ Total assets ......................................................................... $ 223,001 $ 218,213 =========== ============ LIABILITIES AND SHAREHOLDER'S EQUITY Liabilities Unpaid losses and loss adjustment expenses ......................................... $ 90,374 $ 87,768 Unearned premiums .................................................................. 49,779 47,325 Policyholder deposits .............................................................. 4,483 4,807 Accrued taxes and other payables ................................................... 5,412 5,617 Premiums payable ................................................................... 1,342 983 Premiums payable to related parties ................................................ 442 - Senior debentures .................................................................. 6,979 7,254 Junior subordinated debentures issued to affiliated trusts ......................... 20,620 20,620 ----------- ------------ Total liabilities ................................................................ 179,431 174,374 ----------- ------------ Shareholder's equity Common stock, $1.00 par value, 50,000 shares authorized; 2,484 shares issued and outstanding .............................................. 2 2 Paid-in surplus .................................................................... 60,584 60,584 Accumulated deficit ................................................................ (17,922) (17,342) Accumulated other comprehensive income: Unrealized gain on investments available for sale, net of deferred income taxes .. 906 595 ----------- ------------ Total shareholder's equity ..................................................... 43,570 43,839 ----------- ------------ Total liabilities and shareholder's equity ........................................... $ 223,001 $ 218,213 =========== ============
See accompanying Notes to Interim Consolidated Financial Statements. PAGE 2 CHANDLER (U.S.A.), INC. CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (Amounts in thousands)
Three months ended March 31, -------------------------------- 2004 2003 ------------- ------------ Premiums and other revenues Direct premiums written and assumed ........................... $ 31,661 $ 33,108 Reinsurance premiums ceded .................................... (9,150) (12,434) Reinsurance premiums ceded to related parties ................. (6,751) (8,306) ------------- ------------ Net premiums written and assumed ............................ 15,760 12,368 Decrease (increase) in unearned premiums ...................... (1,888) 2,169 ------------- ------------ Net premiums earned ......................................... 13,872 14,537 Interest income, net ............................................ 1,135 486 Interest income, net from related parties ....................... 103 110 Realized investment gains, net .................................. 463 151 Other income .................................................... 479 209 ------------- ------------ Total premiums and other revenues ........................... 16,052 15,493 ------------- ------------ Operating costs and expenses Losses and loss adjustment expenses, net of amounts ceded to related parties of $2,680 and $3,170 in 2004 and 2003, respectively ................................. 10,632 8,709 Policy acquisition costs, net of ceding commissions received from related parties of $2,557 and $2,747 in 2004 and 2003, respectively ................................. 2,508 2,897 General and administrative expenses ........................... 3,313 3,640 Interest expense .............................................. 595 558 ------------- ------------ Total operating costs and expenses .......................... 17,048 15,804 ------------- ------------ Loss before income taxes ........................................ (996) (311) Federal income tax benefit ...................................... 416 88 ------------- ------------ Net loss ...................................................... $ (580) $ (223) ============= ============
See accompanying Notes to Interim Consolidated Financial Statements. PAGE 3 CHANDLER (U.S.A.), INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited) (Amounts in thousands)
Three months ended March 31, -------------------------------- 2004 2003 ------------- ------------ Net loss ........................................................ $ (580) $ (223) ------------- ------------ Other comprehensive income, before income tax: Unrealized gains on securities: Unrealized holding gains arising during period .............. 934 1,220 Less: Reclassification adjustment for gains included in net loss .................................................. (463) (151) ------------- ------------ Other comprehensive income, before income tax ................... 471 1,069 Income tax benefit (provision) related to items of other comprehensive income .......................................... (160) 7 ------------- ------------ Other comprehensive income, net of income tax ................... 311 1,076 ------------- ------------ Comprehensive income (loss) ..................................... $ (269) $ 853 ============= ============
See accompanying Notes to Interim Consolidated Financial Statements. PAGE 4 CHANDLER (U.S.A.), INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (Amounts in thousands)
Three months ended March 31, ------------------------------- 2004 2003 ------------ ------------ OPERATING ACTIVITIES Net loss ..................................................................... $ (580) $ (223) Add (deduct): Adjustments to reconcile net loss to cash provided by (applied to) operating activities: Realized investment gains, net ........................................... (463) (151) Gain on retirement of debentures ......................................... (36) - Net gains on sale of property and equipment .............................. (369) (136) Amortization and depreciation ............................................ 354 367 Provision for non-collection of premiums ................................. (50) 75 Provision for non-collection of reinsurance recoverables ................. 150 138 Net change in non-cash balances relating to operating activities: Premiums receivable .................................................... 1,221 266 Reinsurance recoverable on paid losses ................................. 4,280 415 Reinsurance recoverable on paid losses from related parties ............ 271 (183) Reinsurance recoverable on unpaid losses ............................... (1,390) 9,142 Reinsurance recoverable on unpaid losses from related parties .......... 172 117 Prepaid reinsurance premiums ........................................... 168 (168) Prepaid reinsurance premiums to related parties ........................ (734) (1,871) Deferred policy acquisition costs ...................................... (150) 355 Other assets ........................................................... 221 1,185 Unpaid losses and loss adjustment expenses ............................. 2,606 (10,939) Unearned premiums ...................................................... 2,454 (129) Policyholder deposits .................................................. (324) 168 Accrued taxes and other payables ....................................... 163 (450) Premiums payable ....................................................... 359 (93) Premiums payable to related parties .................................... 442 - ------------ ------------ Cash provided by (applied to) operating activities ....................... 8,765 (2,115) ------------ ------------ INVESTING ACTIVITIES Unrestricted fixed maturities available for sale: Purchases ................................................................ (17,929) (5,243) Sales .................................................................... 12,176 8,480 Maturities ............................................................... 248 1,604 Cost of property and equipment purchased ................................... (24) (117) Proceeds from sale of property and equipment ............................... 1 34 ------------ ------------ Cash provided by (applied to) investing activities ....................... (5,528) 4,758 ------------ ------------ FINANCING ACTIVITIES Payments on retirement of debentures ....................................... (226) - Debt issue costs ........................................................... (18) - Payments and loans from related parties .................................... 867 218 Payments and loans to related parties ...................................... (1,034) (172) ------------ ------------ Cash provided by (applied to) financing activities ....................... (411) 46 ------------ ------------ Increase in cash and cash equivalents during the period ...................... 2,826 2,689 Cash and cash equivalents at beginning of period ............................. 7,126 9,336 ------------ ------------ Cash and cash equivalents at end of period ................................... $ 9,952 $ 12,025 ============ ============
See accompanying Notes to Consolidated Financial Statements. PAGE 5 CHANDLER (U.S.A.), INC. NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS THREE MONTHS ENDED MARCH 31, 2004 AND 2003 (Unaudited) NOTE 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Chandler (U.S.A.), Inc. ("Chandler USA") have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. They do not include all information and footnotes required by generally accepted accounting principles for complete financial statements. However, except as disclosed herein, there have been no material changes in the information included in Chandler USA's Annual Report on Form 10-K for the year ended December 31, 2003. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. The results of operations for the three-month period ended March 31, 2004 are not necessarily indicative of the results that may be expected for the year. Certain reclassifications of prior years have been made to conform to the 2004 presentation. The consolidated financial statements include the accounts of Chandler USA and all wholly owned subsidiaries that meet consolidation requirements including National American Insurance Company ("NAICO"). Chandler USA is wholly owned by Chandler Insurance Company, Ltd. ("Chandler Insurance"), a Cayman Islands company. Prior to December 2003, Chandler USA was a wholly owned subsidiary of Chandler Insurance (Barbados), Ltd. ("Chandler Barbados") which, in turn, was a wholly owned subsidiary of Chandler Insurance. In December 2003, Chandler Barbados was dissolved following the transfer of its assets, liabilities and business to Chandler Insurance. Chandler Insurance assumed the obligations of Chandler Barbados including those under its reinsurance agreements with NAICO pursuant to a Distribution Agreement and a General Conveyance. The reorganization of Chandler Barbados and Chandler Insurance was approved by the Cayman Islands Monetary Authority, the Supervisor of Insurance in Barbados and the Oklahoma Insurance Department. NOTE 2. LITIGATION Certain officers and directors of Chandler USA and Chandler Insurance were named as defendants in certain litigation involving CenTra, Inc. This litigation was concluded in 2002. In accordance with its Articles of Association, Chandler Insurance and its subsidiaries have advanced the litigation expenses of these persons in exchange for undertakings to repay such expenses if those persons are later determined to have breached the standard of conduct provided in the Articles of Association. These expenses together with certain other expenses may be recovered from Chandler Insurance's director and officer liability insurance policy (the "D&O Insurer"). As a result of various events in 1995, 1996 and 1997, Chandler Barbados and Chandler USA recorded estimated recoveries of costs from its D&O Insurer totaling $3,456,000 and $1,044,000, respectively, for reimbursable amounts previously paid that relate to allowable defense and litigation costs for such parties. Chandler Barbados and Chandler USA received payment for a 1995 claim during 1996 in the amount of $636,000 and $159,000, respectively. The balance of $2,820,000 and $885,000 is included in other assets in Chandler Insurance's and Chandler USA's respective balance sheets. Chandler Insurance assumed this receivable from Chandler Barbados during December 2003 under the reorganization of these companies. Chandler Insurance and its subsidiaries contend they are entitled to a total of $5 million under the applicable insurance policy to the extent they have advanced reimbursable expenses. The D&O Insurer contends that certain policy provisions exclude coverage for these claims. On August 22, 2001, Chandler Insurance and its subsidiaries, including Chandler USA, filed an action in the State District Court in Oklahoma City, Oklahoma ("Oklahoma State Court") alleging that the director and officer liability insurance policies should be rescinded and seeking repayment of more than $5 million in premiums they previously paid. Chandler Insurance and its subsidiaries are currently involved in litigation with the insurer for payment of the policy balance or rescission and repayment of premiums previously paid. The litigation is pending in the Oklahoma State Court. The case is still in the early pleading stages and Chandler USA cannot predict the date of resolution or the outcome of this case. Chandler Insurance and its subsidiaries may or may not recover the remaining policy limits or the previously paid premiums and could incur significant costs in resolving this matter. PAGE 6 Transamerica Occidental Life Insurance Company ("Transamerica") reinsured NAICO for certain workers compensation risks during 1989, 1990 and 1991. Beginning in 1996, Transamerica refused to pay NAICO for balances that it owed under the reinsurance treaties. On March 15, 2004, an arbitration panel ordered Transamerica to pay the losses and loss adjustment expenses owed to NAICO in the amount of $1,607,704 plus interest at 6%, or approximately $577,000, plus $25,000 in costs. NAICO has received payment for these amounts. Chandler USA and its subsidiaries are not parties to any other material litigation other than as is routinely encountered in their respective business activities. While the outcome of these matters cannot be predicted with certainty, Chandler USA does not expect these matters to have a material adverse effect on its financial condition, results of operations or cash flows. NOTE 3. SEGMENT INFORMATION Chandler USA has one reportable operating segment for property and casualty insurance. Net premiums earned and losses and loss adjustment expenses within the property and casualty segment can be identified to Chandler USA designated insurance programs. Chandler USA's chief operating decision makers review net premiums earned and losses and loss adjustment expenses in assessing the performance of an insurance program. In addition, Chandler USA's chief operating decision makers consider many other factors such as the lines of business offered within an insurance program and the states in which the insurance programs are offered. Certain discrete financial information is not readily available by insurance program, including assets, interest income, and investment gains or losses, allocated to each insurance program. Chandler USA does not consider its insurance programs to be reportable segments, however, the following supplemental information pertaining to each insurance program's net premiums earned and losses and loss adjustment expenses is presented for the property and casualty segment.
THREE MONTHS ENDED MARCH 31, ---------------------------- 2004 2003 ------------ ------------ (In thousands) INSURANCE PROGRAM - -------------------------------------------- NET PREMIUMS EARNED Standard property and casualty ............. $ 11,597 $ 11,690 Political subdivisions ..................... 1,686 2,349 Surety bonds ............................... 504 407 Other (1) .................................. 85 91 ------------ ------------ $ 13,872 $ 14,537 ============ ============ LOSSES AND LOSS ADJUSTMENT EXPENSES Standard property and casualty ............. $ 7,499 $ 6,751 Political subdivisions ..................... 2,419 1,808 Surety bonds ............................... 400 (46) Other (1) .................................. 314 196 ------------ ------------ $ 10,632 $ 8,709 ============ ============ - -------------------------------------------------------- (1) This program is comprised primarily of the run-off of other discontinued programs and NAICO's participation in various mandatory workers compensation pools and assigned risks.
NOTE 4. COMMITMENTS AND CONTINGENCIES During March 2001, Chandler USA entered into a $3.8 million sale and leaseback transaction for certain owned equipment for a three year term. During March 2004, the lease was extended for an additional three years with monthly rental installments equal to the sum of (i) $17,512 plus (ii) interest on the unpaid lease balance at a floating interest rate of 1% over JP Morgan Chase Bank prime, which was 4.0% at March 31, 2004. Chandler USA has the option to repurchase the equipment at the end of the lease for approximately $2.4 million (the "Balloon Payment"), or may elect to have the lessor sell the equipment. If the election to sell the equipment is made, Chandler USA would retain any proceeds exceeding the Balloon Payment. If the proceeds were less than the Balloon Payment, Chandler USA would be required to pay the difference between the proceeds and the Balloon Payment, not to exceed approximately $1.9 million. PAGE 7 NOTE 5. NEW ACCOUNTING STANDARD In December 2003, the Financial Accounting Standards Board issued Revised Interpretation No. 46 ("FIN 46R"), CONSOLIDATION OF VARIABLE INTEREST ENTITIES. FIN 46R provides guidance on the identification of, and financial reporting for, entities over which control is achieved through means other than voting rights. FIN 46R is used to determine whether consolidation is required or, alternatively, whether the variable-interest model under FIN 46R should be used to account for existing and new entities. Chandler USA adopted FIN 46R effective January 1, 2004. The result of adoption was the deconsolidation of the two capital trusts that were created during 2003 in connection with the issuance of trust preferred securities. Chandler USA now reports the $20.6 million of junior subordinated debentures that were issued to the capital trusts on its consolidated balance sheet, and the December 31, 2003 balances were restated accordingly. The adoption of FIN 46R had no effect on net earnings. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS Some of the statements made in this Form 10-Q report, as well as statements made by Chandler (U.S.A.), Inc. ("Chandler USA") in periodic press releases and oral statements made by Chandler USA's officials constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of Chandler USA to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Such factors include, among other things, (i) general economic and business conditions; (ii) interest rate changes; (iii) competition and regulatory environment in which Chandler USA and its subsidiaries operate, including the ability to implement price increases; (iv) claims frequency; (v) claims severity; (vi) catastrophic events of unanticipated frequency or severity; (vii) the number of new and renewal policy applications submitted to National American Insurance Company ("NAICO") by its agents; (viii) the ability of NAICO to obtain adequate reinsurance in amounts and at rates that will not adversely affect its competitive position; (ix) the ability of NAICO to collect reinsurance recoverables; (x) the ability of NAICO to maintain favorable insurance company ratings; and (xi) various other factors. RESULTS OF OPERATIONS PREMIUMS EARNED The following table sets forth premiums earned on a gross basis (before reductions for premiums ceded to reinsurers) and on a net basis (after such reductions) for each insurance program for the three month periods ended March 31, 2004 and 2003:
GROSS PREMIUMS EARNED NET PREMIUMS EARNED --------------------------- --------------------------- THREE MONTHS ENDED MARCH 31, 2004 2003 2004 2003 ---------------------------------- ------------ ------------ ------------ ------------ (In thousands) Standard property and casualty ... $ 22,676 $ 24,091 $ 11,597 $ 11,690 Political subdivisions ........... 5,760 8,179 1,686 2,349 Surety bonds ..................... 686 875 504 407 Other ............................ 85 92 85 91 ------------ ------------ ------------ ------------ TOTAL ............................ $ 29,207 $ 33,237 $ 13,872 $ 14,537 ============ ============ ============ ============
Gross premiums earned decreased $4.0 million or 12% in the first quarter of 2004 compared to the first quarter of 2003. Gross premiums earned in Oklahoma and Texas decreased $2.1 million and $1.5 million, respectively, from the first quarter of 2003. These decreases were primarily the result of NAICO's continued efforts to improve underwriting profitability. Net premiums earned decreased $665,000 or 5% in the first quarter of 2004 compared to the first quarter of 2003. PAGE 8 Gross premiums earned in the standard property and casualty program decreased $1.4 million or 6% in the first quarter of 2004 compared to the first quarter of 2003. Approximately $1.3 million of the total decrease was in the workers compensation line of business. Gross premiums earned in Oklahoma increased by $244,000 in the first quarter of 2004 compared to the first quarter of 2003 while gross premiums earned in Texas decreased by $1.4 million. Net premiums earned decreased $93,000 or 1% in the first quarter of 2004 versus the first quarter of 2003. Gross premiums earned in the political subdivisions program decreased $2.4 million or 30% in the first quarter of 2004 compared to the first quarter of 2003. The decrease was primarily in the school districts portion of the program in Oklahoma. Net premiums earned in the political subdivisions program decreased $663,000 or 28% in the first quarter of 2004 versus the first quarter of 2003. Gross premiums earned in the surety bond program decreased $189,000 or 22% in the first quarter of 2004 compared to the first quarter of 2003. The decrease was primarily due to stricter underwriting policies as NAICO continues to focus on improving underwriting profitability in this program. Net premiums earned in the surety bond program increased $97,000 or 24% in the first quarter of 2004 versus the first quarter of 2003. Even though gross premiums earned decreased from the prior quarter, net premiums earned increased due to NAICO's election to not renew its surety bond excess of loss reinsurance program effective April 1, 2003. NET INTEREST INCOME AND NET REALIZED INVESTMENT GAINS At March 31, 2004, Chandler USA's investment portfolio consisted primarily of fixed income U.S. Government and high-quality corporate bonds, with approximately 13% invested in cash and money market instruments. Income generated from this portfolio is largely dependent upon prevailing levels of interest rates. Chandler USA's portfolio contains no non-investment grade bonds or real estate investments. Chandler USA also receives interest income from related parties on intercompany loans. Net interest income, excluding interest income from related parties, increased $649,000 or 134% in the first quarter of 2004 versus the first quarter of 2003 due primarily to an arbitration award in favor of NAICO that included approximately $577,000 in interest. Excluding the arbitration award, net interest income increased $72,000 or 15% in the first quarter of 2004. Cash and invested assets were $78.3 million at March 31, 2004 compared to $67.2 million at March 31, 2003. Net interest income from related parties was $103,000 in the first quarter of 2004 compared to $110,000 in the first quarter of 2003. Net realized investment gains were $463,000 for the first quarter of 2004 compared to $151,000 during the first quarter of 2003. OTHER INCOME Chandler USA's other income included $368,000 and $142,000 during the first quarter of 2004 and 2003, respectively, for the amortization of a deferred gain related to a sale and leaseback transaction. LOSSES AND LOSS ADJUSTMENT EXPENSES Chandler USA estimates losses and loss adjustment expenses based on historical experience and payment and reporting patterns for the type of risk involved. These estimates are based on data available at the time of the estimate and are periodically reviewed by independent professional actuaries. Although such estimates are management's best estimates of the expected values, the ultimate liability for unpaid claims may vary from these values. The percentage of losses and loss adjustment expenses to net premiums earned ("loss ratio") was 76.6% for the first quarter of 2004 versus 59.9% in the first quarter of 2003. The increase in the 2004 loss ratio was due to an increase in losses related to prior accident years. The increase was primarily in the workers compensation portion of the standard property and casualty program, and in the municipalities portion of the political subdivisions program. Weather-related losses from wind and hail totaled $142,000 in the first quarter of 2004 and increased the loss ratio by 1.0 percentage point. Weather-related losses totaled $89,000 in the first quarter of 2003, and increased the 2003 loss ratio by 0.6 percentage points. PAGE 9 POLICY ACQUISITION COSTS Policy acquisition costs consist of costs associated with the acquisition of new and renewal business and generally include direct costs such as premium taxes, commissions to agents and ceding companies and premium-related assessments and indirect costs such as salaries and expenses of personnel who perform and support underwriting activities. NAICO also receives ceding commissions from the reinsurers who assume premiums from NAICO under certain reinsurance contracts and the ceding commissions are accounted for as a reduction of policy acquisition costs. Direct policy acquisition costs and ceding commissions are deferred and amortized over the terms of the policies. When the sum of the anticipated losses, loss adjustment expenses and unamortized policy acquisition costs exceeds the related unearned premiums, including anticipated investment income, a provision for the indicated deficiency is recorded. The following table sets forth Chandler USA's policy acquisition costs for each of the three month periods ended March 31, 2004 and 2003:
THREE MONTHS ENDED MARCH 31, ---------------------------- 2004 2003 ------------ ------------ (In thousands) Commissions expense ....................... $ 4,300 $ 4,954 Other premium related assessments ......... 296 350 Premium taxes ............................. 734 761 Excise taxes .............................. 68 83 Dividends to policyholders ................ - 5 Other expense ............................. 64 145 ------------ ------------ Total direct expenses ..................... 5,462 6,298 Indirect underwriting expenses ............ 1,878 2,040 Commissions received from reinsurers ...... (4,682) (5,860) Adjustment for deferred acquisition costs.. (150) 419 ------------ ------------ Net policy acquisition costs .............. $ 2,508 $ 2,897 ============ ============
Total gross direct and indirect expenses as a percentage of direct written and assumed premiums were 23.2% for the first quarter of 2004 versus 25.2% for the first quarter of 2003. Commission expense as a percentage of gross written and assumed premiums was 13.6% for the first quarter of 2004 versus 15.0% for the 2003 quarter. Indirect underwriting expenses were 5.9% and 6.2% of total direct written and assumed premiums in the three month periods ended March 31, 2004 and 2003, respectively. Indirect expenses include general overhead and administrative costs associated with the acquisition of new and renewal business, some of which is relatively fixed in nature, thus, the percentage of such expenses to direct written and assumed premiums will vary depending on Chandler USA's overall premium volume. GENERAL AND ADMINISTRATIVE EXPENSES General and administrative expenses were 11.3% and 11.0% of gross premiums earned in the first quarter of 2004 and 2003, respectively. General and administrative expenses have historically not varied in direct proportion to the Company's revenues. A portion of such expenses is allocated to policy acquisition costs (indirect underwriting expenses) and loss adjustment expenses based on various factors including employee counts, salaries, occupancy and specific identification. Because certain types of expenses are fixed in nature, the percentage of such expenses to revenues will vary depending on Chandler USA's overall premium volume. INTEREST EXPENSE Interest expense was $595,000 in the first quarter of 2004 compared to $558,000 in the year-ago quarter. Substantially all of Chandler USA's interest expense is related to its outstanding senior debentures and junior subordinated debentures. PAGE 10 LIQUIDITY AND CAPITAL RESOURCES In the first quarter of 2004, Chandler USA provided $8.8 million in cash from operations which included $4.6 million from reinsurance recoverable on paid losses. In the first quarter of 2003, Chandler USA used $2.1 million in cash from operations. At March 31, 2004, Chandler Insurance owed approximately $9.8 million to Chandler USA versus $9.6 million at December 31, 2003 under an Intercompany Credit Agreement (the "Credit Agreement") covering intercompany loans between the parties. The Credit Agreement requires interest to be paid at the prime interest rate published in The Wall Street Journal each month, and balances owed by either party are payable at any time upon demand. During March 2001, Chandler USA entered into a $3.8 million sale and leaseback transaction for certain owned equipment for a three year term. During March 2004, the lease was extended for an additional three years with monthly rental installments equal to the sum of (i) $17,512 plus (ii) interest on the unpaid lease balance at a floating interest rate of 1% over JP Morgan Chase Bank prime, which was 4.0% at March 31, 2004. Chandler USA has the option to repurchase the equipment at the end of the lease for approximately $2.4 million (the "Balloon Payment"), or may elect to have the lessor sell the equipment. If the election to sell the equipment is made, Chandler USA would retain any proceeds exceeding the Balloon Payment. If the proceeds were less than the Balloon Payment, Chandler USA would be required to pay the difference between the proceeds and the Balloon Payment, not to exceed approximately $1.9 million. ITEM 4. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES As of the end of the period covered by this report and pursuant to Rule 13a-15 of the Securities Exchange Act of 1934 (the "Exchange Act"), Chandler USA's management, including the Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness and design of Chandler USA's disclosure controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act). Based upon that evaluation, Chandler USA's Chief Executive Officer and Chief Financial Officer concluded, as of the end of the period covered by this report, that Chandler USA's disclosure controls and procedures were effective in recording, processing, summarizing and reporting information required to be disclosed by Chandler USA, within the time periods specified in the Securities and Exchange Commission's rules and forms. CHANGES IN INTERNAL CONTROLS In addition and as of the end of the period covered by this report, there have been no changes in internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) of the Exchange Act) during the quarter to which this report relates that have materially affected or is reasonably likely to materially affect, the internal control over financial reporting. PAGE 11 PART II. OTHER INFORMATION ----------------- Item 1. LEGAL PROCEEDINGS ----------------- In response to this item, the Company incorporates by reference to Note 2. Litigation to its Interim Consolidated Financial Statements contained elsewhere in this report. Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS ----------------------------------------- None. Item 3. DEFAULTS UPON SENIOR SECURITIES ------------------------------- None. Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS --------------------------------------------------- None. Item 5. OTHER INFORMATION ----------------- None. Item 6. EXHIBITS AND REPORTS ON FORM 8-K -------------------------------- INDEX OF EXHIBITS ----------------- 31.1 Rule 13a-14(a)/15d-14(a) Certifications. 32.1 Section 1350 Certifications. REPORTS ON FORM 8-K ------------------- None. PAGE 12 SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: May 11, 2004 CHANDLER (U.S.A.), INC. By: /s/ W. Brent LaGere -------------------------------- W. Brent LaGere Chairman of the Board and Chief Executive Officer (Principal Executive Officer) By: /s/ Mark C. Hart -------------------------------- Mark C. Hart Vice President - Finance, Chief Financial Officer and Treasurer (Principal Accounting Officer) EXHIBIT 31.1 Certifications I, W. Brent LaGere, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Chandler (U.S.A.), Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 11, 2004 /s/ W. Brent LaGere --------------------------------- W. Brent LaGere Chairman of the Board and Chief Executive Officer EXHIBIT 31.1 (continued) Certifications I, Mark C. Hart, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Chandler (U.S.A.), Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 11, 2004 /s/ Mark C. Hart --------------------------------- Mark C. Hart Vice President - Finance, Chief Financial Officer and Treasurer EXHIBIT 32.1 SECTION 1350 CERTIFICATIONS In connection with the Quarterly Report of Chandler (U.S.A.), Inc. (the "Company") on Form 10-Q for the period ending March 31, 2004 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), W. Brent LaGere, as Chief Executive Officer of the Company, and Mark C. Hart, as Chief Financial Officer of the Company, each hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes - Oxley Act of 2002, to the best of his knowledge, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. /s/ W. Brent LaGere ----------------------------- W. Brent LaGere Chief Executive Officer May 11, 2004 /s/ Mark C. Hart ----------------------------- Mark C. Hart Chief Financial Officer May 11, 2004 A signed original of this written statement required by Section 906 has been provided to Chandler (U.S.A.), Inc. and will be retained by Chandler (U.S.A.), Inc. and furnished to the Securities and Exchange Commission or its staff upon request. -----END PRIVACY-ENHANCED MESSAGE-----