-----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, Dyw5I6w27AaBFHk96yyGuYWBF9xiKEL6c2UBRQa2+jeCHpyRSCuNBwoHAbjmavM4 SE8ChKMOowKdmQ1hodkGww== 0000005016-99-000011.txt : 19990517 0000005016-99-000011.hdr.sgml : 19990517 ACCESSION NUMBER: 0000005016-99-000011 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990514 FILER: COMPANY DATA: COMPANY CONFORMED NAME: AMERICAN FINANCIAL CORP CENTRAL INDEX KEY: 0000005016 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 310624874 STATE OF INCORPORATION: OH FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-07361 FILM NUMBER: 99624545 BUSINESS ADDRESS: STREET 1: ONE E 4TH ST CITY: CINCINNATI STATE: OH ZIP: 45202 BUSINESS PHONE: 5135792121 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 March 31, 1999 No. 1-7361 AMERICAN FINANCIAL CORPORATION Incorporated under IRS Employer I.D. the Laws of Ohio No. 31-0624874 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 May 1, 1999, there were 10,593,000 shares of the Registrant's Common Stock outstanding, all of which were owned by American Financial Group, Inc. Page 1 of 20 AMERICAN FINANCIAL CORPORATION 10-Q PART I FINANCIAL INFORMATION AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET (Dollars In Thousands) March 31, December 31, 1999 1998 Assets: Cash and short-term investments $ 343,232 $ 289,944 Investments: Fixed maturities - at market (amortized cost - $9,987,367 and $9,920,407) 10,248,767 10,323,407 Other stocks - at market (cost - $214,321 and $207,345) 442,521 430,345 Investment in investee corporation 207,255 192,138 Policy loans 219,341 220,496 Real estate and other investments 250,969 268,171 Total investments 11,368,853 11,434,557 Recoverables from reinsurers and prepaid reinsurance premiums 1,854,355 1,973,895 Agents' balances and premiums receivable 596,952 618,198 Deferred acquisition costs 489,682 464,047 Other receivables 274,406 318,154 Assets held in separate accounts 162,252 120,049 Prepaid expenses, deferred charges and other assets 332,275 343,554 Cost in excess of net assets acquired 282,394 285,469 $15,704,401 $15,847,867 Liabilities and Capital: Unpaid losses and loss adjustment expenses $ 4,684,377 $ 4,773,377 Unearned premiums 1,084,399 1,232,848 Annuity benefits accumulated 5,482,277 5,449,633 Life, accident and health reserves 350,814 341,595 Payable to American Financial Group, Inc. 212,309 270,500 Other Long-term debt: Holding companies 365,384 315,536 Subsidiaries 195,497 176,896 Liabilities related to separate accounts 162,252 120,049 Accounts payable, accrued expenses and other liabilities 1,136,402 1,112,442 Total liabilities 13,673,711 13,792,876 Minority interest 512,251 524,335 Shareholders' Equity: Preferred Stock (liquidation value $72,154) 72,154 72,154 Common Stock, no par value - 20,000,000 shares authorized - 10,593,000 shares outstanding 9,625 9,625 Capital surplus 948,142 943,359 Retained earnings 211,618 157,218 Net unrealized gain on marketable securities, net of deferred income taxes 276,900 348,300 Total shareholders' equity 1,518,439 1,530,656 $15,704,401 $15,847,867 2 AMERICAN FINANCIAL CORPORATION 10-Q AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF EARNINGS (In Thousands, Except Per Share Data) Three months ended March 31, 1999 1998 Income: Property and casualty insurance premiums $537,466 $ 676,172 Life, accident and health premiums 25,588 46,816 Investment income 205,460 220,231 Equity in net earnings of investee 16,317 13,918 Realized gains on sales of: Securities 4,449 7,446 Investee - 7,704 Other investments - 6,843 Other income 27,805 37,533 817,085 1,016,663 Costs and Expenses: Property and casualty insurance: Losses and loss adjustment expenses 365,829 499,825 Commissions and other underwriting expenses 168,221 193,605 Annuity benefits 64,941 71,110 Life, accident and health benefits 18,879 38,106 Interest charges on borrowed money 16,847 17,031 Minority interest expense 13,619 12,141 Other operating and general expenses 76,227 76,699 724,563 908,517 Earnings before income taxes, extraordinary items and cumulative effect of accounting change 92,522 108,146 Provision for income taxes 34,268 41,736 Earnings before extraordinary items and cumulative effect of accounting change 58,254 66,410 Extraordinary items - loss on prepayment of debt - (685) Cumulative effect of accounting change (3,854) - Net Earnings $ 54,400 $ 65,725 3 AMERICAN FINANCIAL CORPORATION 10-Q AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (Dollars in Thousands)
Common Stock Unrealized Preferred and Capital Retained Gain on Comprehensive Stock Surplus Earnings Securities Income (Loss) Balance at January 1, 1999 $72,154 $952,984 $157,218 $348,300 Net earnings - - 54,400 - $54,400 Capital contribution from parent - 3,067 - - - Change in unrealized - - - (71,400) (71,400) Other - 1,716 - - - Balance at March 31, 1999 $72,154 $957,767 $211,618 $276,900 ($17,000) Balance at January 1, 1998 $72,154 $945,779 $34,350 $341,200 Net earnings - - 65,725 - $65,725 Capital contribution from parent - 4,177 - - - Change in unrealized - - - 8,300 8,300 Other - 95 - - - Balance at March 31, 1998 $72,154 $950,051 $100,075 $349,500 $74,025
4 AMERICAN FINANCIAL CORPORATION 10-Q AMERICAN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS (In Thousands) Three months ended March 31, 1999 1998 Operating Activities: Net earnings $ 54,400 $ 65,725 Adjustments: Extraordinary items - 685 Cumulative effect of accounting change 3,854 - Depreciation and amortization 21,947 24,582 Annuity benefits 64,941 71,110 Equity in net earnings of investee (16,317) (13,918) Realized gains on investing activities (7,247) (35,299) Deferred annuity and life policy acquisition costs (28,236) (24,263) Decrease (increase) in reinsurance and other receivables 179,424 (34,832) Decrease (increase) in other assets (10,838) 67,689 Increase (decrease) in insurance claims and reserves (133,449) 41,375 Increase (decrease) in other liabilities 25,935 (5,942) Increase in minority interest 4,634 5,144 Dividends from investee 1,200 1,200 Other, net (3,030) (6,140) 157,218 157,116 Investing Activities: Purchases of and additional investments in: Fixed maturity investments (535,513) (631,793) Equity securities (19,183) (19,297) Subsidiaries (26,636) (31,000) Real estate, property and equipment (18,541) (16,621) Maturities and redemptions of fixed maturity investments 340,961 284,517 Sales of: Fixed maturity investments 180,604 206,843 Equity securities 15,763 2,781 Real estate, property and equipment 2,990 30,043 Cash and short-term investments of acquired subsidiaries, net 11,740 21,678 Decrease in other investments 21,563 1,281 (26,252) (151,568) Financing Activities: Fixed annuity receipts 107,487 107,832 Annuity surrenders, benefits and withdrawals (191,124) (164,034) Additional long-term borrowings 69,150 50,248 Reductions of long-term debt (549) (32,185) Borrowings from AFG 3,000 - Repayments of borrowings from AFG (64,800) - Capital contribution 4,667 4,667 Repurchases of trust preferred securities (5,509) - (77,678) (33,472) Net Increase (Decrease) in Cash and Short-term Investments 53,288 (27,924) Cash and short-term investments at beginning of period 289,944 231,227 Cash and short-term investments at end of period $343,232 $203,303 5 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS A. Accounting Policies Basis of Presentation The accompanying consolidated financial statements for American Financial Corporation ("AFC") 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. Investments All fixed maturity securities are "available for sale" and reported at fair value with unrealized gains and losses reported as a separate component of shareholders' equity. Short-term investments are carried at cost; loans receivable are carried primarily at the aggregate unpaid balance. 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. Investment in Investee Corporation Investments in securities of 20%- to 50%-owned companies are generally carried at cost, adjusted for AFC'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 AFC'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, AFC'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, AFC's insurance subsidiaries would remain liable. Amounts recoverable from reinsurers are estimated in a manner consistent with the claim liability 6 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED associated with the reinsured policies. AFC'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. AFC'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 life, accident and health policies are computed using the 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. Assets Held In and Liabilities Related to Separate Accounts Separate account assets and related liabilities represent variable annuity deposits. 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. 7 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED 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 (i) the interests of noncontrolling shareholders in AFC subsidiaries, including preferred securities issued by trust subsidiaries of American Annuity Group, Inc. ("AAG"), and (ii) the American Financial Group, Inc. ("AFG") direct ownership interest in American Premier Underwriters, Inc. ("American Premier" or "APU") and American Financial Enterprises, Inc. For income statement purposes, minority interest expense represents those shareholders' interest in the earnings of AFC subsidiaries as well as accrued distributions on the trust preferred securities. Issuances of Stock by Subsidiaries and Investees Changes in AFC'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 a part of a broader reorganization. Income Taxes AFC files consolidated federal income tax returns which include all 80%-owned U.S. subsidiaries, except for certain life insurance subsidiaries and their subsidiaries. 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. Benefit Plans AFC provides retirement benefits to qualified employees of participating companies through contributory and noncontributory defined contribution plans contained in AFC's Retirement and Savings Plan. Under the retirement portion of the plan, company contributions (approximately 6% of covered compensation in 1998) are invested primarily in securities of AFC and affiliates. Under the savings portion of the plan, AFC matches a specific portion of employee contributions. Contributions to benefit plans are charged against earnings in the year for which they are declared. AFC and many of its subsidiaries provide health care and life insurance benefits to eligible retirees. AFC 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. Start-up Costs Prior to 1999, AAG, an 83%-owned subsidiary, deferred certain costs associated with introducing new products and distribution channels and amortized them on a straight-line basis over 5 years. In 1999, AAG implemented Statement of Position ("SOP") 98-5, "Reporting on the Costs of Start-Up Activities." The SOP requires that (i) costs of start-up activities be expensed as incurred and (ii) unamortized balances of previously deferred costs be expensed and reported as the cumulative effect of a change in accounting principle. Accordingly, AFC expensed previously capitalized start-up costs of $3.8 million (net of minority interest and taxes), effective January 1, 1999. 8 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED Derivatives The Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," during the second quarter of 1998. AFC must implement SFAS No. 133 no later than January 1, 2000. SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including derivative instruments that are embedded in other contracts, and for hedging activities. SFAS No. 133 requires the recognition of all derivatives (both assets and liabilities) in the balance sheet at fair value. Changes in fair value of derivative instruments are included in current income or as a component of comprehensive income (outside current income) depending on the type of derivative. Implementation of SFAS No. 133 is not expected to have a material effect on AFC's financial position or results of operations. Comprehensive Income Comprehensive income represents the total of net earnings plus other comprehensive income. For AFC, other comprehensive income represents the change in net unrealized gain on marketable securities net of deferred taxes. 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 CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED B. Segments of Operations Having sold substantially all of its Commercial lines division in December 1998, AFC's property and casualty group is engaged primarily in private passenger automobile and specialty insurance businesses. The Personal group consists of the nonstandard auto group along with the preferred/standard private passenger auto and other personal insurance business. The Specialty group includes a highly diversified group of specialty business units. AFC's annuity and life business markets primarily retirement products as well as life and supplemental health insurance. In addition, AFC has owned significant portions of the voting equity securities of Chiquita Brands International, Inc. (an investee corporation - see Note C). The following table (in thousands) shows AFC's revenues and operating profit (loss) by significant business segment. Operating profit (loss) represents total revenues less operating expenses. Three months ended March 31, 1999 1998 Revenues (a) Property and casualty insurance: Premiums earned: Personal $ 285,817 $ 327,972 Specialty 250,588 336,909 Other lines (primarily discontinued) 1,061 11,291 537,466 676,172 Investment and other income 102,268 132,301 639,734 808,473 Annuities and life (b) 154,016 188,557 Other 7,018 5,715 800,768 1,002,745 Equity in net earnings of investee 16,317 13,918 $ 817,085 $1,016,663 Operating Profit (Loss) Property and casualty insurance: Underwriting: Personal $ 4,480 $ 11,974 Specialty 349 (9,313) Other lines (primarily discontinued) (1,413) (19,919) 3,416 (17,258) Investment and other income 64,528 102,510 67,944 85,252 Annuities and life 26,760 32,054 Other (c) (18,499) (23,078) 76,205 94,228 Equity in net earnings of investee 16,317 13,918 $ 92,522 $ 108,146 (a) Revenues include sales of products and services as well as other income earned by the respective segments. (b) Represents primarily investment income. (c) Includes holding company expenses. 10 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED C. Investment in Investee Corporation Investment in investee corporation reflects AFC's ownership of 24 million shares (37%) of Chiquita common stock. The market value of this investment was $244 million and $229 million at March 31, 1999 and December 31, 1998, respectively. Chiquita is a leading international marketer, producer and distributor of quality fresh fruits and vegetables and processed foods. Summarized financial information for Chiquita follows (in millions): Three months ended March 31, 1999 1998 Net Sales $693 $717 Operating Income 77 70 Net Income 49 41 D. Payable to American Financial Group In December 1997, AFC entered into a ten-year reciprocal Master Credit Agreement among AFG and several of AFG's subsidiary holding companies, including APU and AFC's direct parent, AFC Holding Company, under which funds are made available to each other at one percent over LIBOR. E. Other Long-Term Debt The carrying value of other long-term debt consisted of the following (in thousands): March 31, December 31, 1999 1998 Holding Companies: AFC notes payable under bank line $130,000 $ 80,000 AFC 9-3/4% Debentures due April 2004 78,575 78,560 APU 9-3/4% Subordinated Notes due August 1999 89,258 89,467 APU 10-5/8% Subordinated Notes due April 2000 41,350 41,518 APU 10-7/8% Subordinated Notes due May 2011 17,457 17,473 Other 8,744 8,518 $365,384 $315,536 Subsidiaries: AAG 6-7/8% Senior Notes due June 2008 $100,000 $100,000 AAG notes payable under bank line 46,000 27,000 Notes payable secured by real estate 37,457 37,602 Other 12,040 12,294 $195,497 $176,896 In April 1999, AFG issued $350 million principal amount of 7-1/8% senior debentures due 2009. The net proceeds from this offering will be used to retire (in May) the AFC 9-3/4% debentures due 2004 and to retire (at maturity) the APU subordinated notes due in 1999 and 2000. The remainder of the proceeds were used to reduce AFC's revolving bank line of credit. At March 31, 1999, sinking fund and other scheduled principal payments on debt for the balance of 1999 and the subsequent five years, adjusted to reflect the planned debt retirements, were as follows (in thousands): Holding Companies Subsidiaries Total 1999 $ - $ 1,568 $ 1,568 2000 - 8,685 8,685 2001 - 1,383 1,383 2002 5,823 1,267 7,090 2003 - 47,294 47,294 2004 - 14,241 14,241 11 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED 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. AFC and AAG each have an unsecured credit agreement with a group of banks under which they can borrow up to $300 million and $200 million, respectively. Borrowings bear interest at floating rates based on prime or Eurodollar rates. Loans mature December 2002 under the AFC credit agreement and from 2000 to 2003 under the AAG credit agreement. F. Minority Interest Minority interest in AFC's balance sheet is comprised of the following (in thousands): March 31, December 31, 1999 1998 Interest of AFG (parent) and noncontrolling shareholders in subsidiaries' common stock $292,651 $299,335 Preferred securities issued by subsidiary trusts 219,600 225,000 $512,251 $524,335 Trust Issued Preferred Securities Wholly-owned subsidiary trusts of AAG have issued $225 million of preferred securities and, in turn, purchased a like amount of AAG subordinated debt which provides interest and principal payments to fund the respective trusts' obligations. The preferred securities must be redeemed upon maturity or redemption of the subordinated debt. AAG effectively provides unconditional guarantees of its trusts' obligations. The preferred securities consisted of the following (in thousands):
Date of March 31, December 31, Optional Issuance Issue (Maturity Date) 1999 1998 Redemption Dates November 1996 AAG 9-1/4% TOPrS (2026) 74,600 75,000 On or after 11/7/2001 March 1997 AAG 8-7/8% Pfd (2027) 70,000 75,000 On or after 3/1/2007 May 1997 AAG 7-1/4% ROPES (2041) 75,000 75,000 Prior to 9/28/2000 and after 9/28/2001
In the first quarter of 1999, AAG retired $5.4 million of its preferred securities for $5.5 million in cash. Minority Interest Expense Minority interest expense is comprised of (in thousands): Three months ended March 31, 1999 1998 Interest of AFG (parent) and noncontrolling shareholders in earnings of subsidiaries $ 8,861 $ 7,383 Accrued distributions by subsidiaries on trust issued preferred securities 4,758 4,758 $13,619 $12,141 12 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED G. Shareholders' Equity Preferred Stock Under provisions of both the Nonvoting (4.0 million shares authorized) and Voting (4.0 million shares authorized) Cumulative Preferred Stock, the Board of Directors may divide the authorized stock into series and set specific terms and conditions of each series. The outstanding voting shares of AFC's Preferred Stock consisted of the following: Series J, no par value; $25.00 liquidation 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 March 31, 1999 and December 31, 1998. Unrealized Gain on Marketable Securities The change in net unrealized gain on marketable securities for the three months ended March 31 included the following (in millions): Minority Pretax Taxes Interest Net 1999 Unrealized holding gains (losses) on securities arising during the period ($120.5) $41.4 $ 9.8 ($69.3) Less reclassification adjustment for realized gains included in net income (4.4) 1.6 .7 (2.1) Change in net unrealized gain on marketable securities ($124.9) $43.0 $10.5 ($71.4) 1998 Unrealized holding gains (losses) on securities arising during the period $ 14.8 ($ 5.0) $1.0 $10.8 Less reclassification adjustment for realized gains included in net income (4.3) 1.5 .3 (2.5) Change in net unrealized gain on marketable securities $ 10.5 ($ 3.5) $1.3 $ 8.3 H. Extraordinary Items Extraordinary items represent AFC'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): Three months ended March 31, 1998 Holding Companies: AFC (parent) ($ 22) APU (parent) (14) Subsidiaries: AAG (649) ($685) 13 AMERICAN FINANCIAL CORPORATION 10-Q NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED I. Cash Flows - Fixed Maturity Investments "Investing activities" related to fixed maturity investments in AFC's Statement of Cash Flows consisted of the following (in thousands): Available Held to For Sale Maturity(a) Total 1999 Purchases $535,513 $ - $535,513 Maturities and redemptions 340,961 - 340,961 Sales 180,604 - 180,604 1998 Purchases $631,717 $ 76 $631,793 Maturities and redemptions 113,955 170,562 284,517 Sales 182,883 23,960(b) 206,843 (a) At December 31, 1998, AFC reclassified all of its "held to maturity" fixed maturity securities to "available for sale." (b) Sold (at a gain of $.5 million) due to significant deterioration in the issuers' creditworthiness. J. Commitments and Contingencies There have been no significant changes to the matters discussed and referred to in Note M "Commitments and Contingencies" in AFC's Annual Report on Form 10-K for 1998. K. Subsequent Event In April 1999, AFC completed the acquisition of Worldwide Insurance Company (formerly Providian Auto and Home Insurance Company) for approximately $160 million. Worldwide is a provider of direct response private passenger automobile insurance. 14 AMERICAN FINANCIAL CORPORATION 10-Q ITEM 2 Management's Discussion and Analysis of Financial Condition and Results of Operations GENERAL 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, AFC does not prepare its consolidated financial statements using a current-noncurrent format. Consequently, certain traditional ratios and financial analysis tests are not meaningful. Year 2000 Status AFC's Year 2000 Project is a corporate-wide program designed to ensure that its computer systems and other equipment using date-sensitive computer chips will function properly in the year 2000. The Project also encompasses communicating with agents, vendors, financial institutions and others with which the companies conduct business to determine their Year 2000 readiness and resulting effects on AFC. AFC's Year 2000 Project Office monitors and coordinates the work being performed by the various business units and reports monthly to the Audit Committee of the Board of Directors and more frequently to senior management. To address the Year 2000 issue, AFC's operations have been divided into separate systems groups. At March 31, 1999, these groups were in the process of either (i) modifying their software programs or (ii) replacing programs with new software that is Year 2000 compliant. A majority of the groups have met AFC's goal of having program modifications and new software installations substantially completed by the end of 1998, with testing continuing in and through 1999. About one-fourth of the groups are being "closely watched" because there is some degree of risk that critical dates in the project schedule may be missed. AFC's goal is to have Year 2000 testing and new installations for these groups completed during mid-1999. A few groups have experienced significant delays in meeting internal project deadlines. Plans are being modified and resources are being redirected towards these groups which are now expected to be completed during the third quarter of 1999. Contingency plans are being developed for certain business processes and systems deemed most critical to operations. These plans provide a documented order of actions necessary to keep the business functions operating. Such plans typically include procedures and workflow processes for developing and operating contingent databases. Contingency planning for other business processes and systems deemed critical to operations and reasonably likely not to be modified on schedule will be completed by mid- 1999. Many of the systems being replaced were planned replacements which were accelerated due to the Year 2000 considerations. In addition, a significant portion of AFC's Year 2000 Project is being completed using internal staff. Therefore, cost estimates for the Year 2000 Project do not represent solely incremental costs. From the inception of the Year 2000 Project in the early 1990s through March 31, 1999, AFC estimates that it has incurred approximately $56 million in costs related to the Project, including capitalized costs of $13 million for new systems. During the first three months of 1999, $7 million in such costs have been expensed. AFC estimates that it will incur an additional $18 million of such costs in completing the Project, about three-fourths of which is projected to be expensed. 15 AMERICAN FINANCIAL CORPORATION 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued Projected Year 2000 costs and completion dates are based on management's best estimates. However, there can be no assurances that these estimates will be achieved. Should software modifications and new software installations not be completed on a timely basis, the resulting disruptions could have a material adverse affect on operations. AFC's operations could also be affected by the inability of third parties such as agents and vendors to become Year 2000 compliant. While assessments of independent agents and evaluations of third party vendors are progressing slowly, efforts are being intensified to complete these assessments in the second quarter of 1999. In addition, AFC's property and casualty insurance subsidiaries are reviewing the potential impact of the Year 2000 issue on insureds as part of their underwriting process. They are also reviewing policy forms, issuing clarifying endorsements where appropriate and examining coverage issues for Year 2000 exposures. While it is possible that Year 2000 claims may emerge in future periods, it is not possible to estimate any such amounts. 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 especially with regard to availability of and returns on capital, regulatory actions, changes in legal environment, levels of catastrophe and other major losses, availability of reinsurance, the Year 2000 issue, and competitive pressures. AFC undertakes no obligation to update any forward-looking statements. LIQUIDITY AND CAPITAL RESOURCES Ratios AFC's debt to total capital ratio at the parent holding company level (excluding amounts due AFG) was approximately 19% at March 31, 1999 and 17% at December 31, 1998. Including amounts due AFG, the ratio was 28% at March 31, 1999 and December 31, 1998. AFC's ratio of earnings to fixed charges, excluding and including preferred dividends, (on a total enterprise basis) was 4.20 and 3.85 for the first three months of 1999 and 3.44 and 3.15 for the entire year of 1998. 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. AFC has a revolving credit agreement with several banks under which it can borrow up to $300 million. The credit line provides ample liquidity and can be used to obtain funds for operating subsidiaries or, if necessary, for the parent companies. At March 31, 1999, there was $130 million borrowed under the credit line. This amount was repaid in May 1999. 16 AMERICAN FINANCIAL CORPORATION 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued In April 1999, AFG issued $350 million principal amount of 7-1/8% senior debentures due 2009; the proceeds are to be used to retire certain AFC and APU public debt and borrowings under AFC's 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 AFC's insurance subsidiaries (and the related decreased likelihood of a need for investment in those companies), (ii) the reduction of debt at the holding companies from historical levels (and the related decrease in ongoing cash needs for interest and principal payments), (iii) AFC's ability to obtain financing in capital markets, as well as (iv) the sales of noncore investments. Investments Approximately 91% of the fixed maturities held by AFC were rated "investment grade" (credit rating of AAA to BBB) by nationally recognized rating agencies at March 31, 1999. Investment grade securities generally bear lower yields and lower degrees of risk than those that are unrated and noninvestment grade. Management believes that the high quality investment portfolio should generate a stable and predictable investment return. AFC'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 and cumulative effect of accounting change for the first quarter of 1999 were $93 million compared to $108 million for the first quarter of 1998. While results included improvements in underwriting profitability in the property and casualty operations and investee earnings, these were more than offset by reductions in investment income, realized gains and income from the sale of real estate properties. Property and Casualty Insurance - Underwriting AFC's property and casualty group consists of two major business groups: Personal and Specialty. The Personal group consists of the nonstandard auto group along with the preferred/standard private passenger auto and other personal insurance business. The nonstandard automobile insurance companies 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 group includes a highly diversified group of business lines. Some of the more significant areas are executive liability, inland and ocean marine, U.S.-based operations of Japanese companies, agricultural- related coverages, California workers' compensation, nonprofit liability, general aviation coverages, fidelity and surety bonds, and umbrella and excess coverages. Commercial lines businesses sold included certain coverages in workers' compensation, commercial multi-peril, commercial automobile, and umbrella. 17 AMERICAN FINANCIAL CORPORATION 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued 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 businesses 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. Net written premiums and combined ratios for AFC's property and casualty insurance subsidiaries were as follows (dollars in millions): Three months ended March 31, 1999 1998 Net Written Premiums (GAAP) Personal $276.5 $358.2 Specialty 248.1 329.0 Other lines .2 7.7 $524.8 $694.9 Combined Ratios (GAAP) Personal 98.5% 96.3% Specialty 99.8 102.8 Aggregate (including other lines) 99.4 102.6 Personal The Personal group's net written premiums for the first three months of 1999 were substantially equivalent to the fourth quarter of 1998, but $81.7 million (23%) lower than the first quarter of 1998. The decline is due primarily to stronger price competition in the personal automobile market over the last twelve months. Specialty For the first three months of 1999, net written premiums for the Specialty group were $80.9 million (25%) below that of the comparable 1998 period due primarily to the sale of the Commercial lines division in December 1998 and the effect on California workers' compensation premiums of a reinsurance agreement implemented during the third quarter of 1998. Excluding these items, the net written premiums increased 2% during the first quarter of 1999. A deferred gain of $103 million on the Commercial lines business ceded to Ohio Casualty in December 1998 is being recognized over the estimated settlement period (weighted average 4.25 years) of the claims ceded. The Specialty group's underwriting results for the first quarter of 1999 include $6.7 million in earnings recognized on the ceded business. Underwriting results for the first quarter of 1999 also benefited from improved underwriting margins in the California workers' compensation business and the absence of underwriting losses included in the 1998 period attributable to the commercial lines sold. 18 AMERICAN FINANCIAL CORPORATION 10-Q Management's Discussion and Analysis of Financial Condition and Results of Operations - Continued Life, Accident and Health Premiums and Benefits The decrease in life, accident and health premiums and benefits reflects primarily the sale of AAG's Funeral Services division in September 1998. Investment Income Investment income decreased approximately $14.8 million (7%) in the first three months of 1999 compared to 1998 due primarily to the transfer of investment assets in connection with the sales of the Commercial lines division and Funeral Services division in 1998. Investee Corporation Equity in net earnings of investee corporation represents AFC's proportionate share of Chiquita's earnings. Chiquita reported net income for the first three months of 1999 of $48.7 million compared to $41.1 million for the same period in 1998. 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 Chiquita's public issuance of shares of its common stock in the first quarter of 1998 resulted in a pretax gain to AFC of $7.7 million. Other Income Other income decreased $9.7 million (26%) in the first three months of 1999 compared to 1998 due primarily to a reduction in income from the sale of operating real estate assets. Annuity Benefits Annuity benefits reflect amounts accrued on 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. Annuity benefits decreased $6.2 million (9%) in the first quarter of 1999 compared to the same period in 1998 due primarily to (i) decreases in crediting rates, (ii) changes in actuarial assumptions, (iii) the sale of the Funeral Services division and (iv) decreased sales and persistency of fixed annuities. Cumulative Effect of Accounting Change In the first quarter of 1999, AAG implemented Statement of Position 98-5, "Reporting on the Costs of Start- Up Activities." The SOP requires that costs of start-up activities be expensed as incurred and that unamortized balances of previously deferred costs be expensed and reported as the cumulative effect of a change in accounting principle. Accordingly, AFC expensed previously capitalized start-up costs of $3.8 million (net of minority interest and taxes) in the first quarter of 1999. Item 3 Quantitative and Qualitative Disclosure of Market Risk As of March 31, 1999, there were no material changes to the information provided in AFC's Form 10-K for 1998 under the caption "Exposure to Market Risk" in Management's Discussion and Analysis of Financial Condition and Results of Operations. 19 AMERICAN FINANCIAL CORPORATION 10-Q PART II OTHER INFORMATION Item 6 Exhibits and Reports on Form 8-K (a) Exhibit 27.1 - Financial Data Schedule as of March 31, 1999. 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 Corporation has duly caused this Report to be signed on its behalf by the undersigned duly authorized. American Financial Corporation May 13, 1999 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 the American Financial Corporation 10-Q for the three months ended March 31, 1999 and is qualified in its entirety by reference to such financial statements. 1,000 3-MOS DEC-31-1999 MAR-31-1999 343,232 10,898,543 596,952 0 0 0 0 0 15,704,401 0 560,881 0 0 9,625 1,508,814 15,704,401 0 817,085 0 0 76,227 0 16,847 92,522 34,268 58,254 0 0 (3,854) 54,400 0 0 Includes an investment in investee of $207 million. Not applicable since all common shares are owned by American Financial Group, Inc.
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