-----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, PSuYdRNHXUmfYxoxP2nkJK1MnB4at9aVOOoWndPJRW0x8KaCT06AU1RdtxooS9JZ PF3JIlZexGC6nw51zN63Ew== 0000074931-98-000026.txt : 19981116 0000074931-98-000026.hdr.sgml : 19981116 ACCESSION NUMBER: 0000074931-98-000026 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19980930 FILED AS OF DATE: 19981113 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ORION CAPITAL CORP CENTRAL INDEX KEY: 0000074931 STANDARD INDUSTRIAL CLASSIFICATION: SURETY INSURANCE [6351] IRS NUMBER: 956069054 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-07801 FILM NUMBER: 98746798 BUSINESS ADDRESS: STREET 1: 600 FIFTH AVE CITY: NEW YORK STATE: NY ZIP: 10020 BUSINESS PHONE: 8606746600 MAIL ADDRESS: STREET 1: 600 FIFTH AVENUE STREET 2: 24TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10020-2302 FORMER COMPANY: FORMER CONFORMED NAME: EQUITY FUNDING CORP OF AMERICA DATE OF NAME CHANGE: 19760518 FORMER COMPANY: FORMER CONFORMED NAME: TONGOR CORP OF AMERICA DATE OF NAME CHANGE: 19670330 FORMER COMPANY: FORMER CONFORMED NAME: TONGOR CORP DATE OF NAME CHANGE: 19661024 10-Q 1 CONFORMED FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 (x) QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For Quarter Ended September 30, 1998 ( ) TRANSITION REPORT, PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 1-7801 ORION CAPITAL CORPORATION (Exact name of registrant as specified in its charter) Delaware 95-6069054 (State of other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 9 Farm Springs Road, Farmington, Connecticut 06032 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (860) 674-6600 Former name, former address and former fiscal year if changed since last report. 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 ( ) 27,092,000 shares of Common Stock, $1.00 par value, of the registrant were outstanding on October 30, 1998. Exhibit Index Appears at Page 32 ORION CAPITAL CORPORATION FORM 10-Q INDEX For the Quarter Ended September 30, 1998 Page PART I. FINANCIAL INFORMATION Item 1. Consolidated Financial Statements: Consolidated Balance Sheet at September 30, 1998 (Unaudited) and December 31, 1997 3 - 4 Consolidated Statement of Earnings for the three and nine- months ended September 30, 1998 and 1997 (Unaudited) 5 Consolidated Statement of Stockholders' Equity for the nine-months ended September 30, 1998 and 1997 (Unaudited), and for the year ended December 31, 1997 6 Consolidated Statement of Cash Flows for the nine-months ended September 30, 1998 and 1997 (Unaudited) 7 - 8 Notes to Consolidated Financial Statements (Unaudited) 9 -13 Independent Accountants' Review Report 14 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 15 - 29 PART II. OTHER INFORMATION 30 2 PART I. FINANCIAL INFORMATION ORION CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET ASSETS
September 30, 1998 December 31, (In millions) (Unaudited) 1997 - ------------------------------------------------------------------------------------------ Assets: Investments: - Fixed maturities, at amortized cost (market $271.9 - 1998 and $322.4 - 1997) $ 260.0 $ 312.8 Fixed maturities, at market (amortized cost $1,330.0 - 1998 and $1,395.4 - 1997) 1,394.3 1,469.8 Common stocks, at market (cost $163.3 - 1998 and $163.0 - 1997) 195.3 245.4 Non-redeemable preferred stocks, at market (cost $228.9 - 1998 and $183.6 - 1997) 227.4 193.1 Other long-term investments 107.9 94.3 Short-term investments 292.8 228.3 --------- --------- Total investments 2,477.7 2,543.7 Cash 38.5 9.3 Accrued investment income 20.3 29.6 Investment in affiliate 30.5 31.3 Accounts and notes receivable 226.1 189.3 Reinsurance recoverables and prepaid reinsurance 820.2 622.2 Deferred policy acquisition costs 154.6 147.1 Property and equipment 89.1 70.8 Excess of cost over fair value of net assets acquired 168.6 140.0 Other assets 177.3 100.8 --------- --------- Total assets $ 4,202.9 $ 3,884.1 ========= =========
[FN] See Notes to Consolidated Financial Statements (Unaudited) 3 ORION CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET LIABILITIES AND STOCKHOLDERS' EQUITY
September 30, 1998 December 31, (In millions, except for share data) (Unaudited) 1997 - ---------------------------------------------------------------------------------------------------- Liabilities: Policy liabilities: - Losses $ 1,589.6 $ 1,476.4 Loss adjustment expenses 416.9 395.3 Unearned premiums 605.7 551.6 Policyholders' dividends 20.8 20.5 --------- --------- Total policy liabilities 2,633.0 2,443.8 Notes payable 219.9 310.2 Other liabilities 384.6 282.0 --------- --------- Total liabilities 3,237.5 3,036.0 --------- --------- Contingencies (Note 8) Company-obligated mandatorily redeemable preferred capital securities of subsidiary trusts holding solely the junior subordinated debentures of the Company 250.0 125.0 Stockholders' equity: Preferred stock, authorized 5,000,000 shares; issued and outstanding - none Common stock, $1 par value; authorized 50,000,000 shares; issued 30,675,300 shares 30.7 30.7 Capital surplus 149.7 152.1 Retained earnings 538.0 469.5 Accumulated other comprehensive income 62.9 109.2 Treasury stock, at cost (3,497,737 shares - 1998 and 3,069,756 shares - 1997) (58.2) (34.3) Deferred compensation on restricted stock (7.7) (4.1) --------- --------- Total stockholders' equity 715.4 723.1 --------- --------- Total liabilities and stockholders' equity $ 4,202.9 $ 3,884.1 ========= =========
[FN] See Notes to Consolidated Financial Statements (Unaudited) 4 ORION CAPITAL CORPORATON AND SUBSIDIARIES CONSOLIDATED STATEMENT OF EARNINGS (UNAUDITED)
Three Months Ended Nine Months Ended September 30, September 30, -------------------------- --------------------------- (In millions, except for per share data) 1998 1997 1998 1997 - -------------------------------------------------------------------------------- ---------------------------- Revenues: Premiums earned $ 396.5 $ 347.4 $ 1,115.7 $ 1,006.6 Net investment income 22.3 40.8 106.2 122.3 Realized investment gains 0.4 5.2 52.1 29.3 Other income 2.1 5.0 14.7 15.2 ------- ------- --------- --------- Total revenues 421.3 398.4 1,288.7 1,173.4 ------- ------- --------- --------- Expenses: Losses incurred 223.0 177.3 600.7 520.8 Loss adjustment expenses 57.7 51.8 163.0 153.0 Amortization of deferred policy acquisition costs 101.7 99.5 305.6 287.6 Other insurance expenses 24.4 9.5 39.1 26.1 Dividends to policyholders 9.7 7.9 23.3 17.8 Interest expense 6.0 6.2 14.9 18.5 Other expenses 6.4 8.5 29.9 30.1 Restructuring expenses and other (Note 3) (15.3) - (15.3) - ------- ------- --------- --------- Total expenses 413.6 360.7 1,161.2 $ 1,053.9 ------- ------- --------- --------- Earnings before equity in earnings (loss) of affiliate, federal income taxes and minority interest expense 7.8 37.7 127.5 119.5 Equity in earnings (loss) of affiliate 0.2 0.4 (0.4) 1.3 ------- ------- --------- --------- Earnings before federal income taxes and minority interest expense 8.0 38.1 127.1 120.8 Federal income taxes 2.3 9.7 35.0 30.5 Minority interest expense: Subsidiary trust preferred securities, net of federal income taxes 3.4 1.8 9.4 5.1 Subsidiary net earnings - 2.1 - 5.8 ------- ------- --------- --------- Net earnings $ 2.3 $ 24.5 $ 82.7 $ 79.4 ======= ======= ========= ========= Net earnings per basic common share $ 0.08 $ 0.90 $ 3.02 $ 2.91 ======= ======= ========= ========= Net earnings per diluted common share $ 0.08 $ 0.88 $ 2.95 $ 2.85 ======= ======= ========= =========
[FN] See Notes to Consolidated Financial Statements (Unaudited) 5 ORION CAPITAL CORPORATON AND SUBSIDIARIES CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Nine Months Ended Nine Months Ended Year Ended September 30, 1998 September 30, 1997 December 31, 1997 (In millions) (Unaudited) (Unaudited) - --------------------------------------------------------------------------------------------------------------- Common Stock: Balance, beginning of period $ 30.7 $ 15.3 $ 15.3 Stock issued in 2-for-1 common stock split - 15.4 15.4 ------- ------- ------- Balance, end of period $ 30.7 $ 30.7 $ 30.7 ======= ======= ======= Capital Surplus: Balance, beginning of period $ 152.1 $ 158.6 $ 158.6 Exercise of stock options and net issuance of restricted stock (2.4) 0.5 0.5 Acquisition of Guaranty National - - 8.4 Stock issued in 2-for-1 common stock split - (15.4) (15.4) ------- ------- ------- Balance, end of period $ 149.7 $ 143.7 $ 152.1 ======= ======= ======= Retained Earnings: Balance, beginning of period $ 469.5 $ 370.8 $ 370.8 Net earnings 82.7 $ 82.7 79.4 $ 79.4 115.8 $ 115.8 ------- ------- ------- Dividends declared (14.2) (12.7) (17.1) ------- ------- ------- Balance, end of period $ 538.0 $ 437.5 $ 469.5 ======= ======= ======= Accumulated Other Comprehensive Income: Balance, beginning of period $ 109.2 $ 70.1 $ 70.1 Unrealized investment gains (losses), net of taxes (46.5) 42.7 41.3 Unrealized foreign exchange translation gains (losses), net of taxes 0.2 (1.1) (2.2) ------- ------- ------- Other comprehensive income (loss) (46.3) (46.3) 41.6 41.6 39.1 39.1 ------- ------- ------- ------- ------- ------- Comprehensive income $ 36.4 $ 121.0 $ 154.9 ======= ======= ======= Balance, end of period $ 62.9 $ 111.7 $ 109.2 ======= ======= ======= Treasury Stock: Balance, beginning of period $ (34.3) $ (35.0) $ (35.0) Exercise of stock options and net issuance of restricted stock 11.4 1.7 3.2 Acquisition of treasury stock (35.3) (1.5) (2.5) ------- ------- ------- Balance, end of period $ (58.2) $ (34.8) $ (34.3) ======= ======= ======= Deferred Compensation on Restricted Stock: Balance, beginning of period $ (4.1) $ (3.1) $ (3.1) Net issuance of restricted stock (4.8) (1.6) (1.9) Amortization of deferred compensation on restricted stock 1.2 0.7 0.9 ------- ------- ------- Balance, end of period $ (7.7) $ (4.0) $ (4.1) ======= ======= =======
[FN] See Notes to Consolidated Financial Statements (Unaudited) 6 ORION CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS (UNAUDITED)
Nine Months Ended September 30, ------------------------------- (In millions) 1998 1997 - ---------------------------------------------------------------------------------------- Cash flows from operating activities: Premiums collected $ 1,144.4 $ 1,034.6 Net investment income collected 111.4 104.4 Losses and loss adjustment expenses paid (728.5) (658.4) Policy acquisition costs paid (343.2) (307.2) Dividends paid to policyholders (23.1) (19.0) Interest paid (18.3) (22.2) Payments on trust preferred securities (12.8) (5.1) Federal income tax payments (43.6) (23.2) Other payments (61.7) (26.1) --------- --------- Net cash provided by operating activities 24.6 77.8 --------- --------- Cash flows from investing activities: Maturities of fixed maturity investments 170.4 107.4 Sales of fixed maturity investments 613.1 231.9 Sales of equity securities 337.6 134.1 Investments in fixed maturities (595.3) (509.4) Investments in equity securities (338.3) (135.9) Net purchases of short-term investments (73.3) (26.5) Acquisition of businesses, net of cash acquired (61.6) - Sale of business, net of cash sold 13.4 - Purchases of property and equipment (20.9) (11.6) Other receipts (payments) (17.5) 13.7 --------- --------- Net cash provided by (used in) investing activities 27.6 (196.3) --------- --------- Cash flows from financing activities: Net proceeds from issuance of trust preferred securities 121.9 123.0 Net repayments of notes payable (99.5) (0.6) Dividends paid to stockholders (13.6) (13.2) Purchases of common stock (32.9) (1.4) Proceeds from exercise of stock options 1.1 0.4 Other receipts - 1.3 --------- --------- Net cash provided by (used in) financing activities (23.0) 109.5 --------- --------- Net increase (decrease) in cash 29.2 (9.1) Cash balance, beginning of period 9.3 11.6 --------- --------- Cash balance, end of period $ 38.5 $ 2.5 ========= =========
[FN] See Notes to Consolidated Financial Statements (Unaudited) 7 ORION CAPITAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CASH FLOWS - (Continued) (UNAUDITED)
Nine Months Ended September 30, ------------------------------- (In millions) 1998 1997 - ------------------------------------------------------------------------------------------ Reconciliation of net earnings to net cash provided by operating activities: Net earnings $ 82.7 $ 79.4 ------ ------ Adjustments: Depreciation and amortization 12.5 9.4 Amortization of excess of cost over fair value of net assets acquired 4.6 2.3 Deferred federal income taxes (7.5) 0.3 Amortization of fixed maturity investments (1.1) (1.7) Non-cash investment loss (income) 4.0 (13.4) Equity in (earnings) loss of affiliate, net of dividends received 0.8 (1.0) Realized investment gains (52.1) (29.3) Restructuring expenses and other (Note 3) (15.3) - Minority interest in subsidiary earnings - 5.8 Changes in assets and liabilities, net of acquisitions, divestiture and restructuring: Decrease (increase) in accrued investment income 9.5 (2.3) Increase in accounts and notes receivable (40.8) (2.8) Increase in reinsurance recoverable and prepaid reinsurance (66.5) (4.7) Increase in deferred policy acquisition costs (12.3) (9.2) Increase in other assets (28.5) (8.2) Increase (decrease) in losses 42.6 (14.1) Increase in loss adjustment expenses 24.1 33.5 Increase in unearned premiums 40.7 12.7 Increase (decrease) in policyholders' dividends 0.2 (1.2) Increase in other liabilities 27.0 22.3 ------ ------ Total adjustments and changes (58.1) (1.6) ------ ------ Net cash provided by operating activities $ 24.6 $ 77.8 ====== ======
[FN] See Notes to Consolidated Financial Statements (Unaudited) 8 ORION CAPITAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Nine Months Ended September 30, 1998 and 1997 Note 1 - Basis of Financial Statement Presentation The consolidated financial statements and notes thereto are prepared in accordance with generally accepted accounting principles for property and casualty insurance companies. The consolidated financial statements include Orion Capital Corporation ("Orion") and its wholly-owned subsidiaries (collectively the "Company"). The Company's investment in its unconsolidated affiliate (Intercargo Corporation) is accounted for using the equity method. All material intercompany balances and transactions have been eliminated. The Company completed a tender offer that increased its ownership of Guaranty National Corporation ("Guaranty National") from 81% to 100% in December 1997. A minority interest charge was recorded by the Company for the portion of Guaranty National's earnings attributable to the shares not owned by the Company in 1997 until it became a wholly-owned subsidiary. As of January 1, 1998 the Company adopted Financial Accounting Standard No. 130, "Reporting Comprehensive Income". This statement establishes standards for the reporting and presentation of comprehensive income and its components in financial statements. Comprehensive income encompasses all changes in shareholders' equity (except those arising from transactions with shareholders) and includes net income, net unrealized capital gains or losses on available-for-sale securities and foreign currency translation adjustments. This standard requires additional disclosures and does not affect the Company's financial position or results of operations. In the opinion of management, the accompanying consolidated financial statements reflect all adjustments (consisting solely of normal recurring adjustments) necessary to present fairly the Company's results of operations, financial position and cash flows for all periods presented. Although these consolidated financial statements are unaudited, they have been reviewed by the Company's independent accountants, Deloitte & Touche LLP, for conformity with accounting requirements for interim financial reporting. Their report on such review is included herein. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's 1997 Annual Report on Form 10-K. Note 2 - Acquisitions On April 30, 1998 the Company completed the acquisition of the non-standard personal automobile insurance business of North Carolina - based Strickland Insurance Group, Inc. ("Strickland"). The acquisition included two insurance companies, a premium finance company, a claim adjusting company and a general agency in Florida. In 1997, Strickland reported approximately $99 million of personal automobile gross premiums written and $46 million of net premiums written. The purchase price was $44.0 million in cash, subject to adjustment, and included acquisition expenses of $0.2 million. The Company made cash payments of $38.5 million to Strickland on April 30, 1998 and $2.0 million in 1997, with $3.3 million of the purchase price retained by the Company in part 9 to secure obligations of Strickland. Simultaneous with the acquisition, the Company repaid $9.4 million of Strickland bank debt. The acquisition includes a purchase price contingency for loss development incurred by the acquired business during the period from the acquisition date to December 31, 2000 relating to accident years prior to the acquisition date. The Company used cash and short-term investments to fund the acquisition and debt payments. The acquisition was accounted for as a purchase and accordingly, the acquired business has been included in the Company's consolidated financial statements from the date of acquisition. The total consideration exceeded the fair value of the net assets acquired by approximately $28.9 million, subject to adjustment, and is being amortized over 25 years. On July 9, 1998 the Company completed the acquisition of Grocers Insurance Group ("Grocers") from United Grocers, Inc ("United"). Grocers is an Oregon-based specialty insurance holding company serving the grocery and food service industry. In 1997, Grocers reported approximately $23 million of net premiums written, principally general liability, property and workers compensation with the majority of its volume concentrated in the Northwestern states. The purchase price was $36.7 million in cash including acquisition expenses of $ 0.4 million. The Company paid approximately $32.3 million to United at closing. The Company retained $4.0 million of the purchase price to secure obligations of United and Grocers. The Company used cash and short-term investments to fund the purchase. The acquisition was accounted for as a purchase and accordingly, Grocers has been included in the Company's consolidated financial statements from the date of acquisition. The total consideration exceeded the fair value of the net assets acquired by approximately $7.7 million, subject to adjustment , and is being amortized over 25 years. Note 3 - Orion Specialty Realignment In the third quarter of 1998, the Company announced the realignment of its Orion Specialty unit because it has not met the Company's profitability expectations. The realignment will result in Orion Specialty's continued shift away from commodity business, primarily commercial auto and transportation, to a smaller number of more client-focused programs and specialty niches. The realignment includes the cancellation of approximately $100 million in annualized net written premiums of unprofitable commodity and marginal lines of business, the reduction of approximately 90 employees related to the cancelled business, and the sale of Colorado Casualty. Colorado Casualty produced approximately $55 million in annual net premiums but consists largely of business that does not fit the Company's specialization strategy. The Company expects to complete the realignment in 1999. The Company recorded severance and program termination expenses of $7.0 million and asset write downs of $1.9 million related to the cancelled business in the third quarter of 1998. On September 29, 1998, the Company sold Colorado Casualty to Liberty Mutual Insurance Company resulting in a pre-tax gain of approximately $24.2 million. Charges for severance and program termination expenses and asset write-offs, and the gain from the sale of Colorado Casualty, representing a pre-tax gain of $15.3 million, are reflected as "Restructuring expenses and other" in the consolidated statement of earnings. The liability for severance and program termination expenses was reduced to $6.8 million at September 30, 1998 for cash payments related to program terminations. In connection with the realignment, in the third quarter of 1998, the Company completed a detailed actuarial analysis for the business to be 10 cancelled. As a result of this actuarial study, the Company recorded a provision for losses and loss adjustment expenses of $27.8 million in the third quarter of 1998. Note 4 - Investment in Affiliate As of September 30, 1998 the Company owned 24.7% of the common stock of Intercargo Corporation ("Intercargo"), a publicly held company. The Company records its share of Intercargo's operating results on a quarterly lag basis, after Intercargo has reported its financial results. Summarized financial information of Intercargo as reflected by the Company for the three and nine months ended September 30, 1998 and 1997 is as follows:
Three Months Ended Nine Months Ended September 30, September 30, ------------------------- ---------------------- (In millions) 1998 1997 1998 1997 - ---------------------------------------------------------------------------------------------------- Premiums earned $ 13.1 $ 13.8 $ 41.7 $ 43.9 Investment and other income 3.0 1.3 6.7 6.3 Equity in earnings of affiliate - 1.4 - 3.4 ------------------------- ---------------------- Total revenues 16.1 16.5 48.4 53.6 Expenses 14.5 14.2 46.2 46.0 ------------------------- ---------------------- Earnings before federal income taxes 1.6 2.3 2.2 7.6 Federal income taxes (0.3) (0.3) (2.6) (0.9) ------------------------- ---------------------- Net earnings (losses) $ 1.3 $ 2.0 $ (0.4) $ 6.7 ========================= ====================== Company's proportionate share, including goodwill amortization $ 0.2 $ 0.4 $ (0.4) $ 1.3 ========================= ======================
Note 5 - Reinsurance In the normal course of business, the Company's insurance subsidiaries reinsure certain risks, generally on an excess-of-loss or pro rata basis, with other companies to limit exposure to losses. Reinsurance does not discharge the primary liability of the original insurer. The table below summarizes certain reinsurance information.
Three Months Ended Nine Months Ended September 30, September 30, ----------------------- ---------------------- (In millions) 1998 1997 1998 1997 - ---------------------------------------------------------------------------------------------------- Direct premiums written $ 485.2 $ 394.3 $1,395.7 $1,142.6 Reinsurance assumed 20.0 18.8 65.7 74.0 ------------------------ ---------------------- Gross premiums written 505.2 413.1 1,461.4 1,216.6 Reinsurance ceded (97.9) (61.6) (300.3) (190.6) ------------------------ ---------------------- Net premiums written $ 407.3 $ 351.5 $1,161.1 $1,026.0 ======================== ====================== Direct premiums earned $ 464.2 $ 379.0 $1,342.3 $1,113.2 Reinsurance assumed 38.9 27.0 79.1 89.6 ------------------------ ---------------------- Gross premiums earned 503.1 406.0 1,421.4 1,202.8 Reinsurance ceded (106.6) (58.6) (305.7) (196.2) ------------------------ ---------------------- Net premiums earned $ 396.5 $ 347.4 $1,115.7 $1,006.6 ======================== ====================== Loss and loss adjustment expenses incurred recoverable from reinsurers $ 143.0 $ 56.5 $ 308.8 $ 130.7 ======================== ======================
11 Note 6 - Trust Preferred Securities The Company-obligated mandatorily redeemable preferred capital securities of subsidiary trusts holding solely the junior subordinated debentures of the Company ("Trust Preferred Securities") comprise the following: September 30, December 31, (In millions) 1998 1997 - ------------------------------------------------------------------------------- 8.73% Trust Preferred Securities due January 1, 2037 $ 125.0 $ 125.0 7.701% Trust Preferred Securities due April 15, 2028 125.0 - ------- ------- $ 250.0 $ 125.0 ======= ======= On February 2, 1998 Orion issued $125 million of 7.701% Junior Subordinated Deferrable Interest Debentures due April 15, 2028 to Orion Capital Trust II, a Delaware statutory business trust sponsored by the Company. Orion Capital Trust II then sold $125 million of 7.701% capital securities, which mature on April 15, 2028 ("Capital Securities"), in a private placement. Approximately $100 million of the net proceeds from the sale of the junior subordinated debentures were used to retire bank indebtedness of Guaranty National. Orion registered the Capital Securities under the Securities Act of 1933 pursuant to an exchange offer which expired on June 4, 1998. On January 13, 1997 Orion issued $125 million of 8.73% Trust Preferred Securities which may be redeemed without premium on or after January 1, 2007. The Trust Preferred Securities are subordinate to all liabilities of the Company. The Company may defer interest distributions on the Trust Preferred Securities; however, during any period when such cumulative distributions have been deferred, Orion may not declare or pay any dividends or distributions on its common stock. The Trusts are consolidated in the Company's financial statements because they are wholly-owned by the Company. The sole assets of the Trusts are the Debentures issued by Orion. Orion has given its partial guarantee, which when taken together with the Company's obligations under the declaration of the Trusts, the Debentures, and the indentures pursuant to which the Trust Preferred Securities are issued including its obligations to pay costs, expenses, debts and liabilities of the Trusts (other than with respect to the Trust Preferred Securities), provides a full and unconditional guarantee of amounts due on the Trust Preferred Securities. Note 7 - Stockholders' Equity and Earnings Per Common Share In the nine months ended September 30, 1998 the Company repurchased 750,300 shares of its common stock at an aggregate cost of $32.9 million under the Company's stock repurchase program and 45,153 shares at an aggregate cost of $2.4 million relating to the Company's employee benefit plans. The Company's Board of Directors increased authorization for purchases of its common stock by an additional $50 million on August 4, 1998. The remaining stock purchases authorization was $42.5 million at October 30, 1998. Basic earnings per share computations are based on the weighted average number of shares of common stock outstanding during the period excluding 12 dilution. Diluted earnings per share reflects the potential decrease that could occur if all stock options and other stock-based awards were exercised and converted into common stock, if their effect is dilutive. The weighted average common shares were 27,215,000 and 27,335,000 for the three months ended, and 27,357,000 and 27,313,000 for the nine months ended September 30, 1998 and 1997, respectively. The weighted average common and diluted equivalent shares were 27,853,000 and 27,881,000 for the three months ended, and 28,051,000 and 27,828,000 for the nine months ended September 30, 1998 and 1997, respectively. Note 8 - Contingencies Orion and its subsidiaries are routinely engaged in litigation incidental to their businesses. Management believes that there are no significant legal proceedings pending against the Company which, net of reserves established therefor, are likely to result in judgments for amounts that are material to the financial condition, liquidity or results of operations of Orion and its consolidated subsidiaries, taken as a whole. Note 9 - Accumulated Other Comprehensive Income Accumulated other comprehensive income balances, net of taxes, are as follows:
Unrealized Unrealized Foreign Accumulated Other Investment Gains Exchange Translation Comprehensive (Losses) Gains (Losses) Income (Loss) (In millions) - ------------------------------------------------------------------------------------------------------------ Nine Months ended Sept. 30, 1998: Balance, beginning of period $ 113.6 $ (4.4) $ 109.2 Current period change (46.5) 0.2 (46.3) ------- ------- ------- Balance, end of period $ 67.1 $ (4.2) $ 62.9 ======= ======= ======= Nine Months ended Sept. 30, 1997: Balance, beginning of period $ 72.3 $ (2.2) $ 70.1 Current period change 42.7 (1.1) 41.6 ------- ------- ------- Balance, end of period $ 115.0 $ (3.3) $ 111.7 ======= ======= ======= Year ended December 31, 1997: Balance, beginning of year $ 72.3 $ (2.2) $ 70.1 Current year change 41.3 (2.2) 39.1 ------- ------- ------- Balance, end of year $ 113.6 $ (4.4) $ 109.2 ======= ======= =======
The pretax unrealized investment gains (losses) were $(71.5) million and $65.0 million for the nine months ended September 30, 1998 and 1997, respectively, and $62.9 million for the year ended December 31, 1997. The pre-tax unrealized foreign exchange translation gains (losses) were $0.3 million and $(1.7) million for the nine months ended September 30, 1998 and 1997, respectively, and $(3.4) million for the year ended December 31, 1997. 13 INDEPENDENT ACCOUNTANTS' REVIEW REPORT Board of Directors and Stockholders Orion Capital Corporation Farmington, Connecticut We have reviewed the accompanying consolidated balance sheet of Orion Capital Corporation and subsidiaries (the "Company") as of September 30, 1998, and the related consolidated statements of earnings for the three-month and nine-month periods ended September 30, 1998 and 1997, and the statements of stockholders' equity and cash flows for the nine-month periods ended September 30, 1998 and 1997. These financial statements are the responsibility of the Company's management. We conducted our review in accordance with standards established by the American Institute of Certified Public Accountants. A review of interim financial information consists principally of applying analytical procedures to financial data and of making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with generally accepted auditing standards, the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion. Based on our review, we are not aware of any material modifications that should be made to such consolidated financial statements for them to be in conformity with generally accepted accounting principles. We have previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet of Orion Capital Corporation and subsidiaries as of December 31, 1997, and the related consolidated statements of earnings, stockholders' equity and cash flows for the year then ended; and in our report dated February 11, 1998, we expressed an unqualified opinion on those consolidated financial statements. The consolidated statements of earnings and cash flows for the year ended December 31, 1997 are not presented herein. In our opinion, the information set forth in the accompanying consolidated balance sheet as of December 31, 1997 and related consolidated statement of stockholders' equity for the year then ended is fairly stated, in all material respects, in relation to the consolidated financial statements from which it has been derived. DELOITTE & TOUCHE LLP Hartford, Connecticut October 23, 1998 14 ORION CAPITAL CORPORATION AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997 GENERAL Orion Capital Corporation ("Orion") and its wholly-owned subsidiaries (collectively the "Company") operate principally in the property and casualty insurance business. The Company reports its insurance operations in three segments. In addition, the miscellaneous income and expenses (primarily interest, general and administrative expenses and other consolidating elimination entries) of the parent company are reported as a fourth segment. As a result of the acquisition of Guaranty National, the 1997 segment disclosures have been revised to conform with the current basis of presentation. The three insurance segments as of September 30, 1998 are as follows: Regional Operations - this segment includes the workers compensation insurance products and services sold by the EBI Companies ("EBI"). Special Programs - this segment comprises the following: DPIC Companies ("DPIC"), which markets professional liability insurance; Orion Specialty, which writes client-focused specialty insurance programs; Wm. H. McGee ("McGee"), an underwriting management company that specializes in ocean marine, inland marine and commercial property insurance; and The Company's 24.7% interest in Intercargo Corporation ("Intercargo"), which sells insurance coverages for international trade. Guaranty National Companies ("Guaranty National") - this segment specializes in non-standard personal automobile insurance. The Company increased its ownership of Guaranty National to 100% in December 1997. The Company increased its ownership in Guaranty National, in part, to provide Guaranty National with additional financing options, on terms that may not be available to it as an independent entity, so that it can continue its expansion in the non-standard personal automobile insurance business. Beginning in 1998, the commercial business lines of Guaranty National were consolidated with Connecticut Specialty to form a new company named Orion Specialty. Following the formation of Orion Specialty, Guaranty National became a personal non-standard automobile insurance operation. Orion Specialty focuses on specialty commercial insurance. On April 30, 1998 the Company completed the acquisition of the non-standard personal automobile insurance business of North Carolina - based Strickland Insurance Group, Inc. ("Strickland"). The acquisition included two insurance companies, a premium finance company, a claim adjusting company and a general agency in Florida. In 1997, Strickland reported approximately $99 million of 15 personal automobile gross premiums written and $46 million of net premiums written. The purchase price was $44.0 million in cash subject to adjustment. The acquisition was accounted for as a purchase and accordingly, the acquired business has been included in the Company's consolidated financial statements from the date of acquisition. The total consideration exceeded the fair value of the acquired net assets by approximately $28.9 million, subject to adjustment, and is being amortized over 25 years. On July 9, 1998 the Company completed the acquisition of Grocers Insurance Group ("Grocers") from United Grocers, Inc. for $36.7 million in cash including acquisition expenses of $0.4 million. Grocers is an Oregon-based specialty insurance holding company serving the grocery and food service industry. In 1997, Grocers wrote approximately $23 million of net premiums, principally general liability, property and workers compensation with the majority of its volume concentrated in the Northwestern states. The acquisition was accounted for as a purchase and accordingly, Grocers has been included in the Company's consolidated financial statements from the date of acquisition. The total consideration exceeded the fair value of the net assets acquired by approximately $7.7 million and is being amortized over 25 years. In the third quarter of 1998, the Company announced the realignment of its Orion Specialty unit because it has not met the Company's profitability expectations. The realignment will result in Orion Specialty's continued shift away from commodity business, primarily commercial auto and transportation, to a smaller number of more client-focused programs and specialty niches. The realignment includes the cancellation of approximately $100 million in annualized net written premiums of unprofitable commodity and marginal lines of business, the reduction of approximately 90 employees related to the cancelled business, and the sale of Colorado Casualty. Colorado Casualty produced approximately $55 million in annual net premiums but consists largely of business that does not fit the Company's specialization strategy. The Company expects to complete the realignment in 1999. The Company recorded severance and program termination expenses of $7.0 million and asset write downs of $1.9 million related to the cancelled business in the third quarter of 1998. On September 29, 1998, the Company sold Colorado Casualty to Liberty Mutual Insurance Company resulting in a pre-tax gain of approximately $24.2 million. In connection with the realignment, in the third quarter of 1998, the Company completed a detailed actuarial analysis for the business to be cancelled. As a result of this actuarial study, the Company recorded a provision for losses and loss adjustment expenses of $27.8 million in the third quarter of 1998. 16 RESULTS OF OPERATIONS Overview Earnings (loss) by segment before federal income taxes and minority interest expense are summarized as follows:
Three Months Ended Nine Months Ended September 30, September 30, ---------------------------------- ---------------------------------- (In millions) 1998 1997 % Change 1998 1997 % Change - --------------------------------------------------------------------------------------------------------------- Regional Operations $ 10.8 $ 22.9 -52.9% $ 63.7 $ 60.4 5.6% Special Programs (9.1) 9.6 -194.1% 48.3 47.2 2.4% Guaranty National 7.3 9.8 -25.2% 25.6 26.4 -3.2% ---------------------------------- ---------------------------------- 9.0 42.3 -78.7% 137.6 134.0 2.7% Other (1.0) (4.2) -75.7% (10.5) (13.2) -20.3% ---------------------------------- ---------------------------------- $ 8.0 $ 38.1 -79.0% $127.1 $ 120.8 5.2% ================================== ==================================
Operating earnings, after-tax realized investment gains, net earnings and per diluted common share amounts are summarized as follows:
Three Months Ended Nine Months Ended September 30, September 30, ------------------------------------ ------------------------------------- (In millions, except share data) 1998 1997 % Change 1998 1997 % Change - --------------------------------------------------------------------------------------------------------------- Operating earnings $ 2.0 $ 21.6 -90.9% $ 48.8 $ 61.3 -20.4% After-tax realized investment gains 0.3 2.9 -88.5% 33.9 18.1 87.1% ---------------------------------- ----------------------------------- Net earnings $ 2.3 $ 24.5 -90.6% $ 82.7 $ 79.4 4.1% ================================== =================================== Per diluted common share: Operating earnings $0.07 $ 0.78 -90.9% $ 1.74 $ 2.20 -21.1% After-tax realized investment gains 0.01 0.10 -88.5% 1.21 0.65 85.6% ---------------------------------- ----------------------------------- Net earnings $0.08 $ 0.88 -90.6% $ 2.95 $ 2.85 3.3% ================================== ===================================
Operating earnings represents earnings after taxes, excluding net realized investment gains. Operating earnings of $2.0 million in the third quarter of 1998 reflects the realignment of Orion Specialty and losses from the Company's limited partnership investments. The Company recorded a $12.5 million net pre-tax charge, or $.35 per diluted share on an after-tax basis, in connection with the realignment of Orion Specialty and related reserve strengthening for cancelled business. Furthermore, the Company reported pre-tax investment losses of $14.1 million, or $.33 per diluted share on an after-tax basis, related to declines in the value of the Company's limited partnership investments which are accounted for on an equity basis. These charges and losses have offset the continued strong operating performance from the Company's insurance operations, in particular EBI, DPIC and Guaranty National, and are combined with significant 17 increases in year-to-date after-tax realized investment gains to arrive at net earnings. Weighted average common shares and diluted equivalents outstanding were 27,853,000 for the third quarter of 1998 and 28,051,000 for the nine months ended September 30, 1998 and 27,881,000 and 27,828,000, for the corresponding 1997 periods, respectively. REVENUES Revenues are summarized as follows:
Three Months Ended Nine Months Ended September 30, September 30, ---------------------------------- ---------------------------------- (In millions) 1998 1997 % Change 1998 1997 % Change - ----------------------------------------------------------------------------------------------------------- Net premiums written $ 407.3 $ 351.5 15.9% $ 1,161.1 $ 1,026.0 13.2% ================================= ================================== Net premiums earned $ 396.5 $ 347.4 14.1% $ 1,115.7 $ 1,006.6 10.8% Net investment income 22.3 40.8 -45.3% 106.2 122.3 -13.2% Realized investment gains 0.4 5.2 -91.8% 52.1 29.3 77.8% Other 2.1 5.0 -58.3% 14.7 15.2 -2.7% --------------------------------- ---------------------------------- $ 421.3 $ 398.4 5.8% $ 1,288.7 $ 1,173.4 9.8% ================================= ==================================
Premiums Written The Company's net premiums written by segment are as follows:
Three Months Ended Nine Months Ended September 30, September 30, ---------------------------------- ----------------------------------- (In millions) 1998 1997 % Change 1998 1997 % Change - ----------------------------------------------------------------------------------------------------------- Regional Operations $ 132.0 $ 99.2 33.1% $ 349.4 $ 277.0 26.2% Special Programs 168.1 168.3 -0.1% 501.9 500.5 0.3% Guaranty National 107.2 84.0 27.6% 309.8 248.5 24.7% --------------------------------- ----------------------------------- $ 407.3 $351.5 15.9% $1,161.1 $1,026.0 13.2% ================================= ===================================
In November 1996, the Company sold the renewal book of business of its assumed reinsurance operation to concentrate on businesses where the Company can better service its specialized niche markets. Excluding premiums from this operation, the Company's net premiums written increased by 16.3% in the third quarter of 1998 and 14.3% in the first nine months of 1998 over the same 1997 periods. Regional Operations Net premiums written for Regional Operations increased by 33.1% in the third quarter of 1998 and 26.2% in the first nine months of 1998 from the comparable 1997 periods largely due to new business written through EBI's multi-state program established last year and continued geographic expansion and penetration, partly offset by the impact of statutory rate reductions of last year. 18 Special Programs Net premiums written from Special Programs are as follows:
Three Months Ended Nine Months Ended September 30, September 30, -------------------------------- --------------------------------- (In millions) 1998 1997 % Change 1998 1997 % Change - -------------------------------------------------------------------------------------------------------- Orion Specialty $ 83.4 $ 101.4 -17.7% $ 288.7 $ 305.1 -5.4% DPIC 46.6 51.1 -8.8% 138.5 142.0 -2.4% McGee 38.2 14.7 160.4% 75.1 43.3 73.5% --------------------------------- --------------------------------- 168.2 167.2 0.7% 502.3 490.4 2.4% Assumed reinsurance (0.1) 1.1 -109.4% (0.4) 10.1 -104.3% --------------------------------- --------------------------------- $ 168.1 $ 168.3 -0.1% $ 501.9 $ 500.5 0.3% ================================= =================================
Net premiums written by DPIC for professional liability insurance decreased in 1998 compared to 1997 primarily as a result of rate reductions in a very competitive professional liability insurance market offset in part by continual high levels of policy renewals and growth in project policies. Orion Specialty's net premiums written decreased in 1998 compared to 1997 due to the cancellation of unprofitable commodity and marginal lines of business primarily related to the realignment of Orion Specialty. Cancelled programs with the largest year-over-year impact on net premiums written were truck liability, ocean marine, coal mine, and non-standard automobile personal injury protection. Net premiums written also reflect lower premiums from Orion Specialty's collateral protection business. These decreases were partly offset by higher premiums from Colorado Casualty, which was sold on September 29, 1998 as part of the realignment of Orion Specialty, and from the acquisition of Grocers Insurance on July 9, 1998. McGee's net premiums written increased in 1998 compared to 1997 due to the Company's greater participation in the underwriting pools managed by McGee and increased premium retention reflecting a change in McGee's reinsurance programs. The Company's participation in McGee's United States pool is approximately 71% and 52% in 1998 and 1997, respectively. Participation in McGee's Canadian pool is approximately 72% and 61% in 1998 and 1997, respectively. Guaranty National The net premiums written growth in 1998 over the comparable 1997 periods is primarily due to the acquisitions of Strickland and Unisun Insurance Company, modest year-to-date growth in the monthly product business in California, and increases in premiums from the Northwestern states, offset in part by modest rate reductions due from a very competitive market. Premium growth in California is primarily attributed to enacted legislation requiring all drivers to maintain liability insurance. 19 Premiums Earned The Company's premiums earned increased 14.1% and 10.8% in the third quarter and first nine months of 1998 compared to the same 1997 periods, respectively. Premiums earned reflect the recognition of income from the changing levels of net premium writings. Net Investment Income Pre-tax net investment income was $106.2 million and $122.3 million for the nine months of 1998 and 1997, and $22.3 million and $40.8 million for the corresponding third quarter periods, respectively. Net investment income in the third quarter of 1998 was negatively impacted by losses of $14.1 million on the Company's limited partnership investments which are accounted for on an equity basis. The pre-tax yields on the average investment portfolio were 5.9% for the nine months of 1998 and 7.0% for the nine months of 1997, with after-tax yields of 4.5% and 5.3%, respectively. Excluding equity earnings (losses) in limited partnership investments, the pre-tax yields on the average investment portfolio were 6.3% and 6.5% in the nine months of 1998 and 1997, respectively. The pre-tax investment yields have also been impacted by a shifting of the Company's investment portfolio from taxable to tax-advantage securities during 1998. Net investment income was favorably affected by a modestly higher average investment base in 1998 as compared to 1997, reflecting positive operating cash flow and net cash provided by investing activities. Net investment income reflects equity losses in limited partnership investments of $14.1 million and $5.1 million for the third quarter and nine months of 1998, respectively, and equity earnings of $3.8 million and $12.3 million in the same 1997 periods. As a result of recent volatility and declines in the financial markets, three of the Company's limited partnership investments significantly declined in value in the third quarter of 1998. Earnings (losses) from limited partnership investments can vary considerably from year-to-year. The Company's long-term experience with limited partnership investments has been quite favorable. The Company plans to reduce its proportion of limited partnership investments to total investments from 4.2% at September 30, 1998 by exiting some of the more volatile partnerships in 1999. Fixed maturity investments, which the Company has both the positive intent and the ability to hold to maturity, are recorded at amortized cost. Fixed maturity investments which may be sold in response to, among other things, changes in interest rates, prepayment risk, income tax strategies or liquidity needs are classified as available-for-sale and are carried at market value. The carrying value of fixed maturity and short-term investments is $1,947.2 million at September 30, 1998 and $2,010.9 million at December 31, 1997, or approximately 77.4% and 78.8% of the Company's cash and investments, respectively. The Company's investment philosophy is to achieve a superior rate of return after taxes, while maintaining a proper balance of safety, liquidity, maturity and marketability. The Company invests primarily in investment grade securities and strives to enhance the average return of its portfolio through limited investment in a diversified group of non-investment grade fixed maturity securities or securities that are not rated. The risk of loss due to default is generally considered greater for non-investment grade securities than for investment grade securities because the former, among other things, are often subordinated to other indebtedness of the issuer and are often issued by highly leveraged companies. At September 30, 1998 and December 31, 1997, the Company's 20 investments in non-investment grade and non-rated fixed maturity securities were carried at $225.9 million and $256.7 million, respectively. These investments represented a total of 9.0% and 10.1% of cash and investments and 5.4% and 6.6% of total assets at September 30, 1998 and December 31, 1997, respectively. Realized Investment Gains Net realized investment gains are $52.1 million and $29.3 million for the nine months of 1998 and 1997, and $0.4 million and $5.2 million for corresponding third quarter periods, respectively. Approximately 25% of the year-to-date 1998 net realized investment gains resulted from the sale of two investments in entities which were acquired or taken public during the first quarter. Realized investment gains may be reduced by provisions for losses on securities deemed to be other-than-temporarily impaired. Impairment provisions of $2.5 million and $1.8 million were recognized in the nine months ended September 30, 1998 and 1997, respectively. Any such provision is based on available information at the time and is made in consideration of the decline in the financial condition of the issuers of such securities. Realized investment gains (losses) vary from period to period, depending on market conditions relative to the Company's investment holdings, the timing of investment sales generating gains and losses, the occurrence of events which give rise to other-than-temporary impairment of investments, and other factors. Net unrealized investment gains, after taxes, recorded in stockholders' equity were $67.1 million and $113.6 million at September 30, 1998 and December 31, 1997. Such amounts can vary significantly depending upon fluctuations in the financial markets. EXPENSES AND OTHER Operating Ratios The following table sets forth certain ratios of insurance operating expenses to premiums earned:
Three Months Ended Nine Months Ended September 30, September 30, ----------------------- --------------------- 1998 1997 1998 1997 - ------------------------------------------------------------------------------------------------------ Loss and loss adjustment expenses 70.8% 65.9% 68.5% 66.9% Policy acquisition costs and other insurance expenses 31.7% 31.4% 30.8% 31.2% ---------------------- --------------------- Total before policyholders' dividends 102.5% 97.3% 99.3% 98.1% Policyholders' dividends 2.5% 2.3% 2.1% 1.8% ---------------------- --------------------- Combined ratio 105.0% 99.6% 101.4% 99.9% ====================== ===================== Loss and loss adjustment expenses ratio by segment: Regional Operations 56.2% 49.4% 56.9% 55.5% Special Programs 83.7% 73.2% 75.8% 71.2% Guaranty National 67.1% 70.1% 69.2% 70.9%
Excluding reserve strengthening related to the cancellation of Orion Specialty business in the third quarter of 1998, the consolidated combined ratio would have been 98.0% and 98.9% for three months ended and nine months ended September 30, 1998, respectively. 21 The higher loss ratio for Regional Operations is attributed to the effects of competitive pricing pressure and less favorable loss development relating to prior accident years, partly offset by lower loss expenses achieved by EBI through its service-oriented approach. EBI's service-oriented approach is to work with its customers to prevent losses and reduce claim costs. Guaranty National's loss ratio improved in 1998 compared to 1997 primarily due to a decline in claims frequency and claims severity partly offset by higher loss expenses. The increased loss ratio for Special Programs in 1998 compared to 1997 is primarily attributable to $27.8 million of loss reserve strengthening recorded in the third quarter of 1998 related to business being canceled in connection with the Orion Specialty realignment. Excluding this charge, the loss ratio for Special Programs would be 67.2% in third quarter of 1998 and 70.1% in nine months of 1998. Additionally, the loss ratio for Special Programs was negatively impacted by assumed reinsurance business exited in late 1996 because net earned premiums from this business declined at a greater rate than losses in 1998 compared to 1997. These increases were partly offset by an improvement in DPIC's loss ratio in 1998 as compared to 1997 from its loss prevention competencies. The ratios of policy acquisition costs and other insurance expenses to premiums earned (the "expense ratio") are 31.7% and 30.8% for the three months and nine months ended September 30, 1998, respectively, and 31.4% and 31.2% for the respective 1997 periods. Policy acquisition costs include direct costs, such as commissions, premium taxes, and salaries that relate to and vary with the production of new business. These costs are deferred and amortized as the related premiums are earned, subject to a periodic test for recoverability. Management believes that the Company's reserves for loss and loss adjustment expenses make reasonable and sufficient provision for the ultimate cost of all losses on claims incurred. However, there can be no assurance that changes in loss trends will not result in additional development of prior years' reserves in the future. Provisions for losses and loss adjustment expenses include development of loss and loss adjustment expense reserves relating to prior accident years, which increased the calendar year combined ratio by 2.5 percentage points in the first nine months of 1998 and 0.7 percentage points in the same period of 1997. In the third quarter of 1998, the Company recorded $17.0 million of loss reserves pertaining to prior accident years for business being canceled in connection with the Orion Specialty realignment. Excluding this charge, adverse development of prior accident years increased the calendar year combined ratio by 1.0 percentage points in 1998. Variability in claim emergence and settlement patterns and other trends in loss experience can result in future development patterns different than expected. After considering the additional reserve strengthening recorded for Orion Specialty, the Company believes that any such variability or development will generally continue at the low levels experienced in recent years, considering actions that have been taken to increase reserving levels, improve underwriting standards and emphasize loss prevention and control. The Company limits both current losses and future development of losses by ceding business to reinsurers. The Company continually monitors the financial strength of its reinsurers and, to the Company's knowledge, has no material exposure with regard to potential unrecognized losses due to reinsurers having known financial difficulties. 22 Interest Expense Interest expense is $6.0 million and $6.2 million for the third quarters of 1998 and 1997, and $14.9 million and $18.5 million for the first nine months of 1998 and 1997, respectively. Interest expense declined in 1998 as a result of the repayment of the $100 million bank indebtedness of Guaranty National in February 1998 with proceeds from the issuance of the Company's 7.701% Trust Preferred Securities. Equity in Earnings (Loss) of Affiliate Equity in earnings (loss) of affiliate consists of earnings (loss) from the Company's 24.7% investment in Intercargo. The Company records its share of Intercargo's results in the subsequent quarter as Intercargo reports its quarterly earnings after the Company reports its earnings. Federal Income Taxes Federal income taxes (including tax benefits from subsidiary trust preferred securities) and the related effective tax rates are $29.9 million (26.6%) and $27.8 million (24.6%) for the nine months of 1998 and 1997, respectively. The Company's effective tax rates for 1998 and 1997 are less than the statutory tax rate of 35% primarily because of income derived from tax-advantaged securities. Minority Interest Expense Minority interest expense in subsidiary Trust Preferred Securities was $3.4 million and $9.4 million for three months and nine months ended September 30, 1998, and $1.8 million and $5.1 million for corresponding 1997 periods, respectively. Minority interest expense in subsidiary Trust Preferred Securities represents the financing cost, after the federal income tax benefit, on Orion's 8.73% and 7.701% Trust Preferred Securities. The increase in 1998 reflects minority interest expense associated with the issuance of $125 million 7.701% Trust Preferred Securities in February 1998. Minority interest expense of $2.1 million and $5.8 million was recorded for the after-tax portion of Guaranty National's 1997 third quarter and nine month earnings attributable to stockholders of Guaranty National other than the Company, respectively. Guaranty National became a wholly owned subsidiary of the Company in December 1997. LIQUIDITY AND CAPITAL RESOURCES Cash provided by operating activities decreased by $53.2 million to $24.6 million in the first nine months of 1998 from $77.8 million in the same 1997 period. The decrease in operating cash flow for 1998 is primarily the result of higher payments for losses, policy acquisition costs, federal income taxes, minority interest from subsidiary trust preferred securities and an increase in funds due from others. The higher loss payments in 1998 reflect both an acceleration of claims settlement in two of our operations and loss payments related to the assumed reinsurance business exited by the Company in 1996. Higher payments for policy acquisition costs are related to the Company's current rate of growth. Federal tax payments are higher in part due to increased realized investment gains in 1998. Funds due from others related to a commuted 23 reinsurance agreement executed in the third quarter of 1998 to be settled in the fourth quarter of 1998. Partially offsetting these increased cash outflows are higher premiums collected, reflective of the Company's current rate of growth, as well as higher investment income collected. The Company's investment activities provided $27.6 million of cash in the first nine months of 1998 and used $196.3 million of cash in the 1997 period. Cash is used in or provided by investment activities primarily for purchases or from sales/maturities of investments and for acquisition activities. Investment purchases are funded by maturities and sales of investments, as well as by the net cash from operating cash flows after cash provided by or used in financing activities. Cash used for acquisitions totaled $79.1 million (excluding acquired cash of $17.5 million) in the first nine months of 1998. The Company paid $38.5 million to Strickland for the purchase of its non-standard personal automobile insurance business on April 30,1998 and $2.0 million in 1997 with $3.3 million of the purchase price retained by the Company in part to secure obligations of Strickland. On July 9, 1998 the Company paid approximately $32.3 million to United Grocers, Inc. for the purchase of Grocers Insurance with $4.0 million of the purchase price retained by the Company to secure obligations of United and Grocers. On September 29, 1998, the Company sold Colorado Casualty which provided cash proceeds to the Company (net of cash sold with Colorado Casualty and before taxes) of approximately $13.4 million. The Company's financing activities used $23.0 million of cash for the first nine months of 1998 and provided $109.5 million of cash for the same 1997 period. The net proceeds from the issuance of trust preferred securities by the Company provided $121.9 million and $123.0 million of cash in 1998 and 1997, respectively. Approximately $100 million of net proceeds from the issuance of the 7.701% Trust Preferred Securities were used to repay bank indebtedness of Guaranty National in February 1998. Simultaneous with the acquisition of Strickland's non-standard personal automobile business, the Company repaid $9.4 million of assumed bank debt in the acquisition. Cash used in financing activities also includes dividend payments, scheduled debt repayments and payments related to the Company's common stock repurchase program. During the third quarter of 1998, the Company used $10 million from unsecured borrowings under its bank credit facility to fund uses of cash. Orion increased the quarterly dividend rate on its common stock by 12.5% and 14.3% in the second quarters of 1998 and 1997, respectively. Orion's uses of cash consist of debt service, dividends to stockholders and overhead expenses. These cash uses are funded from existing available cash, financing transactions and receipt of dividends, reimbursement of overhead expenses and amounts in lieu of federal income taxes from Orion's insurance subsidiaries. Payments of dividends by Orion's insurance subsidiaries must comply with insurance regulatory limitations concerning stockholder dividends and capital adequacy. State insurance regulators have broad discretionary authority with respect to limitations on the payment of dividends by insurance companies. Limitations under current regulations are well in excess of Orion's cash requirements. Orion's insurance subsidiaries maintain liquidity in their investment portfolios substantially in excess of that required to pay claims and expenses. The insurance subsidiaries held cash and short-term investments of $320.3 million and $160.4 million at September 30, 1998 and December 31, 1997, respectively. The consolidated policyholders' surplus of Orion's insurance subsidiaries is 24 $755.4 million and $789.0 million at September 30, 1998 and December 31, 1997, respectively. The Company's statutory operating leverage ratios of trailing twelve months net premiums written to policyholders' surplus is 2.0:1 at September 30, 1998 and 1.8:1 at December 31, 1997. On July 8, 1998 the Company entered into a credit agreement with a group of banks which provides for unsecured borrowings up to $150 million. The credit agreement expires on July 8, 2003 and provides for two one-year extension periods. The Company intends to use the credit facility for general corporate purposes that may include acquisitions. The credit agreement carries an annual facility fee on the unused amounts of the credit facility. Borrowings under the credit agreement bear interest at LIBOR (London Interbank Offerred Rate) plus a margin based upon the Company's credit ratings. The credit agreement requires the Company to maintain certain financial covenants including a maximum debt to total capitalization ratio of 0.4 to 1.0, as defined, and a minimum combined statutory surplus of $650 million plus 30% of the Company's aggregate combined annual statutory net income. The credit agreement limits the Company's ability to incur secured indebtedness or certain contingent obligations except for indebtedness secured by liens specifically permitted by the credit agreement and additional secured indebtedness with a principal amount not exceeding 10% of the Company's consolidated net worth, as defined. Borrowings of $10.0 million are outstanding under this credit agreement at September 30, 1998. Management does not believe that the credit agreement's covenants or limitations unduly restrict the Company's operations or limit Orion's ability to acquire additional indebtedness. The terms of Orion's indentures for its $100 million of 7.25% Senior Notes due 2005 and its $110 million of 9.125% Senior Notes due 2002 limit the amount of liens and guarantees by the Company and its ability to incur secured indebtedness without equally and ratably securing the senior notes. Management does not believe that these limitations unduly restrict the Company's operations or limit Orion's ability to pay dividends on its stock. At September 30, 1998 the Company is in compliance with the terms of its senior note indentures. Management believes that the Company continues to have substantial sources of capital and liquidity from the capital markets and bank borrowings. On January 13, 1997 Orion issued $125 million of 8.73% Junior Subordinated Deferrable Interest Debentures due January 1, 2037 (the "8.73% Debentures") to Orion Capital Trust I ("Trust I"), a Delaware statutory business trust sponsored by Orion. Trust I simultaneously sold $125 million of 8.73% capital securities (the "8.73% Trust Preferred Securities") which have substantially the same terms as the 8.73% Debentures. The net proceeds from the sale of the 8.73% Trust Preferred Securities were used in part for the acquisition of Guaranty National common stock in December 1997. The 8.73% Trust Preferred Securities may be redeemed without premium on or after January 1, 2007. On February 2, 1998 Orion issued $125 million of 7.701% Junior Subordinated Deferrable Interest Debentures due April 15, 2028 (the "7.701% Debenture") to Orion Capital Trust II ("Trust II"), a Delaware statutory business trust sponsored by Orion. Trust II then sold $125 million of 7.701% capital securities (the "7.701% Trust Preferred Securities"), which have substantially the same terms as the 7.701% Debentures, in a private placement. Approximately $100 million of net proceeds from the sales of the 7.701% Trust Preferred Securities were used to repay bank indebtedness of Guaranty National in February 1998. 25 The 8.73% and 7.701% capital securities are subordinated to all liabilities of the Company. The Company may defer interest distributions on these capital securities; however, during any period when such cumulative distributions have been deferred, Orion may not declare or pay any dividends or distributions on its common stock. For the year-to-date period to October 30, 1998 the Company has repurchased 750,300 shares of its common stock at an aggregate cost of $32.9 million under the Company's stock repurchase program . The Company's Board of Directors increased authorization for purchases of its common stock by an additional $50 million on August 4, 1998. The remaining stock purchase authorization was $42.5 million at October 30, 1998. LEGAL PROCEEDINGS Orion and its subsidiaries are routinely engaged in litigation incidental to their businesses. Management believes that there are no significant legal proceedings pending against the Company which, net of reserves established therefor, are likely to result in judgments for amounts that are material to the financial condition, liquidity or results of operations of Orion and its consolidated subsidiaries, taken as a whole. YEAR 2000 COMPLIANCE The "Year 2000 problem" exists because many computer programs which companies use rely on only the last two digits to refer to a particular year. As a result, these computer programs may interpret the year 2000 as 1900. If not corrected, computer software may fail or create erroneous results. The potential impact of the Year 2000 problem on business, financial and governmental entities throughout the world is not known and, if not timely corrected, may broadly affect the national economy in which we operate. The Company concluded that as an extensive user of technology, it has a material exposure to the Year 2000 problem and has taken steps to assess and address that exposure. In response to this issue, the Company has inventoried and assessed, for all its operations and locations, its insurance policy issuance, billing and collection, claims paying, and other operational systems, along with the hardware and software used in its computing facilities, embedded chips used in its physical structures, third party data-exchanges, and reliance on external business relations. This work has been carried out by the Company through central coordination supported by dedicated teams working at each Company site. Progress has been reviewed regularly by senior management. The process by which the Company is managing its Year 2000 efforts has also been reviewed by independent consultants. The Company began addressing its computer programs in 1996 at the locations where its most significant technology concentration exists. Similar work commenced shortly thereafter at other locations. As of September 30, 1998, the Company had completed approximately 75% of its scheduled remediation of its critical production systems for processing Year 2000 dates. This places the Company on or ahead of its plan for meeting Year 2000 processing needs. Non-critical systems will be tested and critical systems will be re-tested during 1999. The total costs to test or modify these existing systems, which include both internal and external costs of programming and 26 testing, is estimated to be approximately $19.8 million, of which $13.4 million has been expensed ($2.4 million in 1997 and $11.0 million in the nine months ended September 30, 1998). With a timely start on correcting the Year 2000 problem, the Company has been able to address this potential exposure without delaying other important projects. This has allowed the Company to continue replacement of outdated systems with newer versions offering greater functionality and cost efficiencies. The Company will complete replacing its financial, personnel, and payroll systems in 1998 and begin phasing in new integrated processing systems for certain of its operations in 1999. The total estimated cost for these major technology improvement projects are estimated at $11.5 million of which $8.1 million has been capitalized through September 30, 1998. All costs are being funded through operating cash flows. In addition to addressing its own hardware, software and processing exposure, the Company has been engaged since 1996 in a process of identifying and prioritizing critical suppliers and customers at the direct interface level, and communicating with them about their plans and progress in addressing the Year 2000 problem. The Company has mailed letters to its significant vendors and service providers and has verbally communicated with many strategic customers to determine the extent to which interfaces with such entities are vulnerable to Year 2000 problems and whether the products and services purchased from or by such entities are Year 2000 compliant. As of September 30, 1998, the Company had received responses from approximately 70% of such third parties and 95% of the companies that have responded have provided written assurances that they expect to address all their significant Year 2000 problems on a timely basis. A follow-up mailing to significant vendors and service providers that did not initially respond, or whose responses were deemed unsatisfactory by the Company, will be completed by March 31, 1999. Evaluations of the most critical third parties have been initiated. These evaluations will be followed by the development of contingency plans, which have been prepared for third parties having near term Year 2000 impact or are being developed for other third parties, with completion during the first quarter of 1999. The Company estimates that this aspect of its Year 2000 effort was on schedule at September 30, 1998. The Company presently believes that the Year 2000 problems will not pose significant operational problems for the Company. However, if all Year 2000 problems are not properly identified, or assessment, remediation and testing are not effected timely with respect to Year 2000 problems that are identified, there can be no assurance that the Year 2000 issue will not materially adversely impact the Company's results of operations or adversely affect the Company's relationships with customers, vendors, or others. The Company is unable to determine at this time whether the consequences of counter-parties Year 2000 failures will have a material impact on the Company's results of operations, liquidity or financial condition. The possibility exists that a portion of its third-party distribution channels may not be ready, that communications with its agents could be disrupted, that underwriting data, such as motor vehicle reports, could be unobtainable, that the claim settling process could be delayed or that the frequency and severity of losses may increase due to external factors. When concern appears justified about an aspect of 27 readiness, contingency plans have been prepared or are being developed. However, there can be no assurance that unanticipated Year 2000 issues of other entities will not have a material adverse impact on the Company's systems or results of operations. This is a Year 2000 Readiness Disclosure statement. Readers are cautioned that forward-looking statements contained in "Year 2000 Compliance" should be read in conjunction with the company's disclosures under the heading: "Forward-Looking Statements". ACCOUNTING PRONOUNCEMENTS TO BE ADOPTED In June 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures About Segments of an Enterprise and Related Information", which changes the way public companies report information about segments. This statement will be adopted by the Company in the fourth quarter of 1998. Financial statement disclosures for prior periods are required to be restated. The Company is in the process of evaluating the disclosure requirements and presently expects that the adoption of this standard will have no impact on the Company's consolidated results of operation, financial position or cash flows. In 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 requires that derivatives be reported on the balance sheet at fair value. Changes in fair value are recognized in net income or, for derivatives that are hedging market risk related to future cash flows, in the accumulated other comprehensive income section of shareholders' equity. Implementation is required by the first quarter of 2000, with the cumulative effect of adoption reflected in net income and accumulated other comprehensive income, as appropriate. Orion has not determined the effect or timing of implementation of this pronouncement. FORWARD-LOOKING STATEMENTS All statements made in this quarterly report that do not reflect historical information are 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 the Company 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 the Company operates; (iv) claims frequency; (v) claims severity; (vi) medical cost inflation; (vii) increases in the cost of property repair; (viii) the number of new and renewal policy applications submitted to the Company; (ix) Year 2000 problems and (x) other factors over which the Company has little or no control. The Company's expectation that it's plan for Year 2000 Compliance will be completed on schedule depends, in large part, on the Company's own efforts and expenditures on hardware, software and systems, which is on schedule as to those exposures which the Company has been able to identify. However, Year 2000 problems could also arise because of unanticipated non-compliance on the part of vendors, agents, customers and other third parties including governmental entities. Significant Year 2000 problems could materially and adversely affect future performance and results of operations. The Company disclaims any 28 obligation to update or to publicly announce the impact of any such factors or any revisions to any forward-looking statements to reflect future events or developments. 29 PART II. OTHER INFORMATION Items 1-5. - None Item 6. Exhibits and reports on Form 8-K Exhibits Exhibit 11: Computation of Earnings Per Common Share. Exhibit 15: Deloitte & Touche LLP Letter re: unaudited interim financial information. Exhibit 27: Financial Data Schedule. Report on Form 8-K None. 30 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. ORION CAPITAL CORPORATION Date: November 12, 1998 By: /s/ W. Marston Becker -------------------------- Chairman of the Board and Chief Executive Officer Date: November 12, 1998 By: /s/ Donald W. Ebbert, Jr. ----------------------------- Executive Vice President and Chief Financial Officer 31 EXHIBIT INDEX Exhibit 11: Computation of Earnings Per Common Share Exhibit 15: Deloitte & Touche LLP Letter re: unaudited interim financial information Exhibit 27: Financial Data Schedule Exhibits have been omitted in the conformed copy. 32 EX-11 2 Exhibit 11 ORION CAPITAL CORPORATION AND SUBSIDIARIES COMPUTATION OF EARNINGS PER COMMON SHARE (UNAUDITED)
Three Months Ended Nine Months Ended September 30, September 30, ------------------- --------------------- (In thousands, except per share data) 1998 1997 1998 1997 - -------------------------------------------------------------------------------------------------------- Basic: Weighted average number of shares outstanding 27,215 27,335 27,357 27,313 ===================== ===================== Net earnings attributable to common stockholders $ 2,308 $ 24,526 $ 82,655 $ 79,385 ===================== ===================== Net earnings per basic common share $ 0.08 $ 0.90 $ 3.02 $ 2.91 ===================== ===================== Diluted: Computation of weighted average number of common and diluted equivalent shares outstanding:- Weighted average number of shares outstanding 27,215 27,335 27,357 27,313 Dilutive effect of stock options and stock awards 638 546 694 515 --------------------- --------------------- Weighted average number of common and diluted equivalent shares 27,853 27,881 28,051 27,828 ===================== ==================== Net earnings attributable to common stockholders $ 2,308 $ 24,526 $ 82,655 $ 79,385 ===================== ==================== Net earnings per diluted common share $ 0.08 $ 0.88 $ 2.95 $ 2.85 ===================== ====================
EX-15 3 Exhibit 15 November 10, 1998 Orion Capital Corporation Farmington, Connecticut We have made a review, in accordance with standards established by the American Institute of Certified Public Accountants, of the unaudited interim financial information of Orion Capital Corporation and subsidiaries for the periods ended September 30, 1998 and 1997, as indicated in our report dated October 23, 1998; because we did not perform an audit, we expressed no opinion on that information. We are aware that our report referred to above, which is included in your Quarterly Report on Form 10-Q for the quarter ended September 30, 1998, is incorporated by reference in Registration Statements No. 2-80636 and No. 333-58941 on Form S-8 relating to the Orion Capital Corporation 1982 Long-Term Performance Incentive Plan, No. 333-58905 on Form S-8 relating to Orion Capital Corporation Equity Incentive Plan, No. 2-63344 and No. 333-58889 on Form S-8 relating to the Orion Capital 401(K) and Profit Sharing Plan, No. 33-59847 and No. 333-58939 on Form S-8 relating to the Orion Capital Corporation 1994 Stock Option Plan for Non-Employee Directors, No. 333-44901 on Form S-8 relating to the Wm. H. McGee & Co., Inc. 401(K) and Profit Sharing Plan, No. 333-55671 on Form S-8 relating to Orion Capital Corporation Employees' Stock Purchase Plan, and No.333-62951 on Form S-8 relating to Retirement Savings Plan for Employees of Guaranty National Insurance Company. We also are aware that the aforementioned report, pursuant to Rule 436(c) under the Securities Act of 1933, is not considered a part of the Registration Statement prepared or certified by an accountant or a report prepared or certified by an accountant within the meaning of Sections 7 and 11 of that Act. DELOITTE & TOUCHE LLP Hartford, Connecticut EX-27 4 ORION CAPITAL FDS
7 THIS FINANCIAL SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM ORION CAPITAL CORPORATION'S FINANCIAL STATEMENTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 9-MOS DEC-31-1998 SEP-30-1998 1,394,335 259,994 271,898 422,659 2,227 0 2,477,654 38,502 666,179 154,607 4,202,867 2,006,487 605,650 0 20,808 219,911 180,436 0 0 534,967 4,202,867 1,115,716 106,209 52,079 14,717 763,712 305,578 62,427 127,077 35,018 82,655 0 0 0 82,655 3.02 2.95 1,390,727 735,757 27,955 246,746 481,767 1,449,644 27,955
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