-----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, To/qZkEdKCO8QRv7f7ssNOZWM8YsB1Wpy9CyF6HEakyxKA8fKjOHsyXIyIo1koue ig3orroPsXlD+hUO2jCDSg== 0000897430-98-000007.txt : 19980515 0000897430-98-000007.hdr.sgml : 19980515 ACCESSION NUMBER: 0000897430-98-000007 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19980331 FILED AS OF DATE: 19980514 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: TIG HOLDINGS INC CENTRAL INDEX KEY: 0000897430 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 943172455 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-11856 FILM NUMBER: 98621471 BUSINESS ADDRESS: STREET 1: 65 EAST 55TH STREET 28TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10022 BUSINESS PHONE: 9728315393 MAIL ADDRESS: STREET 1: 65 EAST 55TH STREET 28TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10022 10-Q 1 TIG HOLDINGS, INC., FORM 10-Q ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 _______________ FORM 10-Q (X) Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended March 31, 1998 OR ( )TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Transition Period from to Commission File Number 1-11856 ================================================================================ TIG HOLDINGS, INC. (Exact name of registrant as specified in its charter) Delaware 94-3172455 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 65 East 55th Street, 28th Floor New York, New York 10022 (Address of principal executive offices) (212) 446-2700 (Registrant's telephone number, including area code) ================================================================================ 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 _____ Number of shares of Common Stock, $0.01 par value per share, outstanding as of close of business on March 31, 1998: 51,381,296 excluding 15,717,021 treasury shares. TIG HOLDINGS, INC. INDEX TO FORM 10-Q PART I. FINANCIAL INFORMATION Page Item 1. Financial Statements Condensed consolidated balance sheets as of March 31, 1998 (unaudited) and December 31, 1997 ...................3 Condensed consolidated statements of income for the three months ended March 31, 1998 (unaudited) and March 31, 1997 (unaudited)..........................4 Condensed consolidated statement of changes in shareholders' equity for the three months ended March 31, 1998 (unaudited).............................5 Condensed consolidated statements of cash flows for the three months ended March 31, 1998 (unaudited) and March 31, 1997 (unaudited)..........................6 Notes to condensed consolidated financial statements (unaudited)..............................................7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations......................11 2.1 Consolidated Results...............................................12 2.2 Reinsurance........................................................14 2.3 Commercial Specialty...............................................16 2.4 Custom Markets.....................................................18 2.5 Other Lines........................................................19 2.6 Investments........................................................20 2.7 Reserves...........................................................23 2.8 Liquidity and Capital Resources....................................24 2.9 Year 2000..........................................................25 2.10 Forward-Looking Statements.........................................26 2.11 Glossary...........................................................27 PART II. OTHER INFORMATION Item 1. Legal Proceedings..................................................29 Item 6. Exhibits and Reports on Form 8-K...................................30 SIGNATURES...................................................................31 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS
March 31, December 31, (In millions, except share data) 1998 1997 - ---------------------------------------------------------------------------- ------------------ ------------------ Assets (unaudited) Investments: Fixed maturities at market (cost: $3,881 in 1998 and $3,725 in 1997) $4,014 $3,874 Short-term and other investments, (cost: $219 in 1998 and $316 in 1997) 223 318 - ---------------------------------------------------------------------------- ------------------ ------------------ Total investments 4,237 4,192 Cash 37 18 Accrued investment income 54 56 Premium receivable (net of allowance of: $5 in 1998 and 1997) 523 453 Reinsurance recoverable on paid losses (net of allowance of: $5 in 1998 and $6 in 1997) 128 125 Reinsurance recoverable on unpaid losses 1,648 1,404 Deferred policy acquisition costs 172 155 Prepaid reinsurance premium 172 177 Income taxes 115 140 Other assets 176 147 - ---------------------------------------------------------------------------- ------------------ ------------------ Total assets $7,262 $6,867 - ---------------------------------------------------------------------------- ------------------ ------------------ Liabilities Reserves for: Losses $3,428 $3,459 Loss adjustment expenses 481 476 Unearned premium 794 738 - ---------------------------------------------------------------------------- ------------------ ------------------ Total reserves 4,703 4,673 Reinsurance premium payable 91 61 Funds held under reinsurance agreements 598 319 Notes payable 192 122 Other liabilities 343 379 - ---------------------------------------------------------------------------- ------------------ ------------------ Total liabilities 5,927 5,554 - ---------------------------------------------------------------------------- ------------------ ------------------ Mandatory redeemable 8.597% capital securities of subsidiary trust 125 125 - ---------------------------------------------------------------------------- ------------------ ------------------ Mandatory redeemable preferred stock 25 25 - ---------------------------------------------------------------------------- ------------------ ------------------ Shareholders' Equity Common stock - par value $0.01 per share (authorized: 180,000,000 shares; issued and outstanding: 67,473,454 shares in 1998 and 66,955,288 shares in 1997) 1,267 1,257 Retained earnings 277 253 Accumulated other comprehensive income 88 96 - ---------------------------------------------------------------------------- ------------------ ------------------ 1,632 1,606 Treasury stock (15,717,021 shares in 1998 and 15,597,021 shares in 1997) (447) (443) - ---------------------------------------------------------------------------- ------------------ ------------------ Total shareholders' equity 1,185 1,163 - ---------------------------------------------------------------------------- ------------------ ------------------ Total liabilities and shareholders' equity $7,262 $6,867 - ---------------------------------------------------------------------------- ------------------ ------------------ See Notes to Condensed Consolidated Financial Statements.
3 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
Three Months Ended March 31, ----------------------------------------- (In millions, except per share data) 1998 1997 - ------------------------------------------------------------------- -------------------- -------------------- Revenues Net premium earned $359 $353 Net investment income 66 75 Net investment and other gain 2 1 - ------------------------------------------------------------------- -------------------- -------------------- Total revenues 427 429 - ------------------------------------------------------------------- -------------------- -------------------- Losses and expenses Net losses and loss adjustment expenses incurred 246 253 Commissions and premium related expenses 78 77 Other underwriting expenses 37 32 Corporate expenses 13 9 Interest expense 6 4 - ------------------------------------------------------------------- -------------------- -------------------- Total losses and expenses 380 375 - ------------------------------------------------------------------- -------------------- -------------------- Income before income tax expense 47 54 Income tax expense (14) (18) - ------------------------------------------------------------------- -------------------- -------------------- Net income $33 $36 - ------------------------------------------------------------------- -------------------- -------------------- Net income per common share Basic $0.64 $0.67 Diluted $0.62 $0.64 - ------------------------------------------------------------------- -------------------- -------------------- Dividend per common share $0.15 $0.15 - ------------------------------------------------------------------- -------------------- -------------------- See Notes to Condensed Consolidated Financial Statements.
4 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (Unaudited)
Accumulated Other Total Comprehensive Share- Common Retained Income Treasury holders' (In millions) Stock Earnings Stock Equity - ----------------------------------- ------------- ------------- ------------------- ------------- ------------- Balance at December 31, 1997 $1,257 $253 $96 $(443) $1,163 Net income 33 33 Common and preferred stock dividends (9) (9) Common stock issued 9 9 Amortization of unearned compensation 1 1 Treasury stock purchased (4) (4) Change in foreign currency translation adjustment 1 1 Change in net unrealized gain on fixed maturity investments (9) (9) - ----------------------------------- ------------- ------------- ------------------- ------------- ------------- Balance at March 31, 1998 $1,267 $277 $88 $(447) $1,185 - ----------------------------------- ------------- ------------- ------------------- ------------- ------------- See Notes to Condensed Consolidated Financial Statements.
5 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)
Three Months Ended March 31, ------------------------------------ (In millions) 1998 1997 ------------------------------------------------------------- ----------------- ------------------ Operating Activities Net income $33 $36 Adjustments to reconcile net income to cash provided by operating activities: Changes in: Accrued investment income 2 (6) Premium receivable (70) (15) Reinsurance recoverable (247) 10 Deferred policy acquisition costs (17) (8) Prepaid reinsurance premium 5 8 Income taxes 30 17 Loss reserves (31) (8) Loss adjustment expense reserves 5 (57) Unearned premium reserves 56 12 Reinsurance premium payable 30 (2) Funds held under reinsurance agreements 279 16 Other assets, other liabilities and other 12 1 ------------------------------------------------------------- ----------------- ------------------ Net cash provided by operating activities 87 4 ------------------------------------------------------------- ----------------- ------------------ Investing Activities Purchases of fixed maturity investments (849) (745) Sales of fixed maturity investments 373 642 Maturities and calls of fixed maturity investments 275 36 Net decrease (increase) in short-term investments 148 (1) Other (81) (11) ------------------------------------------------------------- ----------------- ------------------ Net cash used in investing activities (134) (79) ------------------------------------------------------------- ----------------- ------------------ Financing Activities Common stock issued 9 6 Treasury stock purchased (4) (43) Mandatory redeemable capital securities issued - 125 Common stock and preferred stock dividends (9) (9) Increase in notes payable 70 - Other - 1 ------------------------------------------------------------- ----------------- ------------------ Net cash provided by financing activities 66 80 ------------------------------------------------------------- ----------------- ------------------ Increase in cash 19 5 Cash at beginning of period 18 19 ------------------------------------------------------------- ----------------- ------------------ Cash at end of period $37 $24 ------------------------------------------------------------- ----------------- ------------------ See Notes to Condensed Consolidated Financial Statements.
6 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Three Months Ended March 31, 1998 (Unaudited) - -------------------------------------------------------------------------------- NOTE A. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - -------------------------------------------------------------------------------- Basis of Presentation. TIG Holdings, Inc. ("TIG Holdings") is primarily engaged in the business of property/casualty insurance and reinsurance through its 14 domestic insurance subsidiaries (collectively "TIG" or the "Company"). The accompanying unaudited condensed consolidated financial statements include the accounts of TIG Holdings and its subsidiaries and have been prepared in accordance with generally accepted accounting principles ("GAAP") for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. Financial statements prepared in accordance with GAAP require the use of management estimates. In the opinion of management, all adjustments, including normal recurring accruals, considered necessary for a fair presentation have been included. Certain reclassifications of prior year amounts have been made to conform with the 1998 presentation. Operating results for the three months ended March 31, 1998 are not necessarily indicative of the results to be expected for the full year. For further information, refer to the consolidated financial statements and footnotes thereto included in TIG's annual report on Form 10-K for the year ended December 31, 1997. Earnings per Share ("EPS"). Basic EPS is calculated based upon the weighted average common shares outstanding ("average shares") during the period. In order to calculate EPS, unallocated Employee Stock Ownership Plan shares and treasury shares are deducted from the outstanding common shares. For diluted EPS, common stock options increase weighted average shares outstanding to the extent that they are dilutive. To obtain net income attributable to common shareholders for EPS computations, the preferred stock dividend is deducted from net income. The following schedule presents the calculation of Basic and Diluted EPS:
Three Months Ended March 31, ------------------------------------------------------- --------------------- -------------------- (In millions, except earnings per share data) 1998 1997 ------------------------------------------------------- --------------------- -------------------- Numerator: Net income $33 $36 Less: Preferred stock dividends - - ------------------------------------------------------- --------------------- -------------------- Income available to common stockholders $33 $36 Denominator: Weighted average shares outstanding for basic EPS 51.2 53.4 Effect of dilutive options 1.3 2.6 ------------------------------------------------------- --------------------- -------------------- Adjusted weighted average shares for diluted EPS 52.5 56.0 Basic EPS $0.64 $0.67 ------------------------------------------------------- --------------------- -------------------- Diluted EPS $0.62 $0.64 ------------------------------------------------------- --------------------- --------------------
Investments. Fixed maturities are classified as available for sale, as TIG has no positive intent to hold such securities until maturity, and are carried at market value. Short-term investments are carried at cost, which approximates market value. Market value is principally based upon quoted market prices. Quoted market prices are available for substantially all securities held by the Company. The difference between the aggregate market value and amortized cost of securities, after deferred income tax effect, is reported as unrealized gain or loss directly in shareholders' equity and, accordingly, has no effect on net income. 7 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Three Months Ended March 31, 1998 (Unaudited) - -------------------------------------------------------------------------------- Loss and Loss Adjustment Expense Reserves. The liability for loss and loss adjustment expenses ("LAE") is based on an evaluation of reported losses and on estimates of incurred but unreported losses ("IBNR"). The reserve liabilities are determined using estimates of losses for individual claims (case basis reserves) and statistical projections of reserves for IBNR. Management considers many factors when setting reserves, including: (i) current legal interpretations of coverage and liability; (ii) economic conditions; and, (iii) internal methodologies which analyze TIG's experience with similar cases, information from ceding companies and historical trends, such as reserving patterns, loss payments, pending levels of unpaid claims and product mix. Based on these considerations, management believes that adequate provision has been made for TIG's loss and LAE reserves. Actual losses and LAE paid may deviate, perhaps substantially, from such reserves. Adjustments to the reserves resulting from subsequent developments or revisions to the estimate are reflected in results of operations in the period in which such adjustments become known. Loss Portfolio Reinsurance. Effective January 1, 1998, the Company entered into a loss portfolio reinsurance agreement on a funds held basis for loss and LAE reserves of $265 million related to certain run-off programs. The gain on the cession was deferred and will be amortized to income as losses are paid. Amortization of deferred gain of $2.4 million was recorded as a reduction of incurred losses during the first quarter of 1998. The contract covers 80% of any adverse loss development incurred in excess of $280 million up to a maximum of $342.5 million. Any additional future benefit from the contract triggered by adverse loss development will also be deferred and amortized into income as the related losses are paid. Funds held bear interest at 1.7% per quarter beginning April 1, 1998. Treasury Stock. At March 31, 1998, the Board of Directors had authorized the repurchase of up to 18.75 million shares of TIG Holdings common stock. As of March 31, 1998, the Company has repurchased 15.7 million shares at an aggregate cost of $447 million. The Company uses the cost method to record the repurchase of treasury shares. Independent Agents Business Ceding Commission. On December 31, 1997, TIG completed the sale of its Independent Agents personal lines operations, which was principally effected through reinsurance transactions. At close, TIG received a ceding commission in excess of related deferred acquisition costs of $20 million related to the 100% reinsurance of certain Independent Agents business. This ceding commission will be recognized in income during 1998 as the related ceded premium is earned. During the first quarter of 1998, TIG recognized $9.1 million of pre-tax ceding commissions. - -------------------------------------------------------------------------------- NOTE B. CONTINGENCIES - -------------------------------------------------------------------------------- TIG's insurance subsidiaries are routinely engaged in litigation in the normal course of their business. As a liability insurer, the Company defends third-party claims brought against its insureds. As an insurer, the Company defends against coverage claims. On January 11, 1994, a Los Angeles County Superior Court jury returned a verdict of $28 million for punitive damages against TIG Insurance Company ("TIC") in Talbot Partners v. Cates Construction, Inc. and TIC (the "Talbot Case"). The award arose out of TIC's handling of a surety bond claim on a construction project. On March 28, 1997, the California Court of Appeals reduced the trial court's punitive damage award to $15 million. On July 23, 1997, the California Supreme Court granted TIC's petition to review the Court of Appeals' decision. Management believes that the ultimate liability arising from the Talbot Case will not materially impact consolidated operating results. 8 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Three Months Ended March 31, 1998 (Unaudited) - -------------------------------------------------------------------------------- TIG's Federal income tax returns are routinely audited by the Internal Revenue Service (IRS) and provisions are made in the financial statements in anticipation of the results of these audits. Following a routine federal income tax audit by the IRS, in September 1997, the IRS issued a Statutory Notice of Deficiency for the tax year 1993 and a Revenue Agents Report for 1994 asserting a tax liability of approximately $170 million excluding interest. The IRS's asserted tax adjustments principally relate to the acquisition made by TIG under the Section 338(h)(10) election of April 27, 1993 in conjunction with TIG's Initial Public Offering and primarily generate temporary differences by creating income in 1993 with corresponding deductions in 1993 and future tax years. TIG strongly disagrees with the IRS's position, and on December 11, 1997, TIG filed a Tax Court Petition challenging it. In connection with the Statutory Notice of Deficiency issued by the IRS for the 1993 tax year, TIG made a $40 million advance tax payment in December 1997, that has been reflected as a current tax asset. While the timing of cash tax payments may be impacted, management believes that revisions to TIG's recorded tax liability, if any, arising from the IRS's audit will not materially impact consolidated net income or the financial condition of the Company. On February 12, 1998, a purported class action complaint, naming TIG and two of its executive officers as defendants, was filed in the United States District Court for the Southern District of New York on behalf of persons who purchased TIG common stock during the period from October 21, 1997 to January 30, 1998, when TIG announced its fourth quarter 1997 results. The complaint alleges that TIG violated the federal securities laws by misrepresenting the adequacy of its underwriting and monitoring standards and loss reserves, and that three of its officers and directors sold shares at prices that were artificially inflated as a result of the alleged misrepresentations. Plaintiffs seek unspecified monetary damages, including punitive damages. Management believes that the lawsuit is without merit and it will be vigorously defended. 9 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- NOTE C. COMPREHENSIVE INCOME - -------------------------------------------------------------------------------- In January 1998, TIG adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income" ("Statement 130"). Statement 130 establishes new rules for the reporting and display of comprehensive income and its components. Statement 130 requires unrealized gains or losses on the Company's available-for-sale securities and foreign currency translation adjustments, which prior to adoption were reported separately in shareholders' equity, to be included in other comprehensive income. Prior year financial statements have been reclassified to conform to the requirements of Statement 130. The adoption of this statement had no impact on TIG's net income or shareholder's equity. During the first quarter of 1998 and 1997, total comprehensive income for 1998 was $25 million and for 1997 total comprehensive loss was ($17) million. The components of comprehensive income, net of related tax are as follows:
Three months ended March 31, ----------------------------------------- (In millions) 1998 1997 -------------------------------------------------- -------------------- -------------------- Net income $33 $36 Unrealized loss on marketable securities (9) (53) Foreign currency translation adjustments 1 - -------------------------------------------------- -------------------- -------------------- Comprehensive income (loss) $25 $(17) -------------------------------------------------- -------------------- --------------------
The components of accumulated other comprehensive income, net of related tax, at March 31, 1998 and December 31, 1997 are as follows:
March 31, December 31, (In millions) 1998 1997 -------------------------------------------------- -------------------- -------------------- Unrealized gain on marketable securities $89 $98 Foreign currency translation adjustments (1) (2) -------------------------------------------------- -------------------- -------------------- Accumulated other comprehensive income $88 $96 -------------------------------------------------- -------------------- --------------------
- -------------------------------------------------------------------------------- NOTE D. NOTES PAYABLE - -------------------------------------------------------------------------------- The Company borrowed $70 million on its $250 million revolving line of credit in the first quarter of 1998. The proceeds of the borrowing are being utilized for general corporate purposes. This borrowing bears interest at a floating rate, currently 5.83%. 10 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- The following discussion provides management's assessment of financial results for the three months ended March 31, 1998 as compared to the three months ended March 31, 1997 and material changes in financial position from December 31, 1997 to March 31, 1998 for TIG Holdings, Inc. ("TIG Holdings") and its subsidiaries (collectively "TIG" or the "Company") and presents management's expectations for the near term. The analysis focuses on the performance of TIG's three major operating divisions, Reinsurance, Commercial Specialty, and Custom Markets, and its investment portfolio, which are discussed at Items 2.2, 2.3, 2.4, and 2.6, respectively. Lines of business that have been de-emphasized ("Other Lines") are discussed at Item 2.5. This discussion updates the "Management's Discussion and Analysis" in the 1997 Annual Report to Shareholders and should be read in conjunction therewith. Key industry terms that appear in the Management's Discussion and Analysis and elsewhere in this document are defined at Item 2.11 - - Glossary. Certain reclassifications of prior years' amounts have been made to conform with the 1998 presentation. Statements contained in the Management's Discussion and Analysis, and elsewhere in this document that are not based on historical information are forward-looking statements and are based on management's projections, estimates and assumptions. Management would like to caution readers regarding its forward-looking statements (see Item 2.10 - Forward-Looking Statements). 11 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.1 CONSOLIDATED RESULTS - -------------------------------------------------------------------------------- Overview. Results of operations for the three months ended March 31, 1998 and 1997 are presented below:
Three Months Ended March 31, -------------------------------------- (In millions) 1998 1997 ---------------------------------------------------------- ------------------ ------------------- Gross premium written $591 $469 ---------------------------------------------------------- ------------------ ------------------- Net premium written $420 $388 ---------------------------------------------------------- ------------------ ------------------- Net premium earned $359 $353 Less: Net loss and LAE incurred 246 253 Commission expense 70 66 Premium related expense 8 11 Other underwriting expense 33 30 Policyholder dividends incurred 4 2 ---------------------------------------------------------- ------------------ ------------------- Underwriting loss (2) (9) Net investment income 66 75 Net investment and other gain 2 1 Corporate expenses 13 9 Interest expense 6 4 ---------------------------------------------------------- ------------------ ------------------- Income before tax expense 47 54 Income tax expense (14) (18) ---------------------------------------------------------- ------------------ ------------------- Net income $33 $36 ---------------------------------------------------------- ------------------ -------------------
Net income of $33 million for first quarter 1998 decreased 8% from 1997 as improved underwriting results were more than offset by lower investment income and increased corporate and interest expense. The $7 million improvement in underwriting results is principally due to ceding commissions recognized in Other Lines (see Item 2.5). The $9 million decline in net investment income is attributable to a lower average invested asset base due to the December 1997 sale of Independent Agents personal lines operations, a lower average yield and higher funds held interest in the first quarter of 1998 as compared to 1997 (see Item 2.6). The $4 million increase in corporate expenses is attributable to planned corporate systems projects, including Year 2000 initiatives (see Item 2.9), and increased staffing, principally for the corporate actuarial unit which was formed in the second quarter of 1997. The $2 million increase in interest expense is attributable to an increase in average debt outstanding of $65 million for the first quarter of 1998 as compared to 1997 (see Item 2.8). Premium. Overall market conditions remain extremely competitive in 1998, which has provided additional leverage to brokers and ceding companies in establishing terms, including commission rates. Oversupply of capital in the insurance industry has resulted in significant downward pricing pressure, making it increasingly difficult for TIG to write business which meets its profitability standards. TIG's marketing focus for all divisions is to develop program business which caters to a specific market niche. The following table summarizes net premium written ("NPW") by division:
Three Months Ended March 31, -------------------------------------------------------------- 1998 1997 ------------------------------- ------------------------------ (In millions) NPW % NPW % ----------------------------------- --------------- --------------- -------------- --------------- Reinsurance $119 28% $145 37% Commercial Specialty 245 58% 139 36% Custom Markets 61 15% 31 8% Other Lines (5) (1%) 73 19% ----------------------------------- --------------- --------------- -------------- --------------- Net premium written $420 100% $388 100% ----------------------------------- --------------- --------------- -------------- ---------------
12 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- First quarter 1998 premium increased $32 million, or 8% over first quarter 1997; however, the Company's on-going operating divisions had premium growth of $110 million, or 35%. Growth in Commercial Specialty resulted primarily from increased production in Managed Compensation, increased participation in Lloyd's Syndicate capacity in 1998 and increased production in Primary Casualty (see Item 2.3). Growth in Custom Markets premium was driven by the Alternative Distribution unit and from the Non-standard Auto unit (see Item 2.4). The premium growth in ongoing operating divisions was partially offset by a $78 million decline in Other Lines premium primarily due to the sale and 100% reinsurance of the Independent Agents personal lines operations in December 1997 (see Item 2.5), as well as a decline in Reinsurance production due to the non-renewal of several significant treaties (see Item 2.2). Statutory Combined Ratio. The following table presents the components of the Company's statutory combined ratio:
Three Months Ended March 31, 1998 1997 ----------------------------------------------- ------------------------- ------------------------- Statutory ratios: Loss and LAE 68.8 71.5 ----------------------------------------------- ------------------------- ------------------------- Commission expense 20.1 19.0 Premium related expense 2.4 2.9 Other underwriting expense 8.3 8.1 ----------------------------------------------- ------------------------- ------------------------- Total underwriting expense 30.8 30.0 Policyholder dividends ratio 1.1 1.2 ----------------------------------------------- ------------------------- ------------------------- Combined ratio 100.7 102.7 ----------------------------------------------- ------------------------- -------------------------
The combined ratio for first quarter 1998 improved by two percentage points over the first quarter 1997, principally due to an improved loss and LAE ratio. The loss and LAE ratio decline is attributable to the recognition of a favorable arbitration award in the Reinsurance division (see Item 2.2), the amortization of deferred gain related to loss portfolio reinsurance (see Item 2.5) and increased utilization of aggregate stop loss covers by Reinsurance and Other Lines. The first quarter 1998 commission ratio was favorably impacted by 2.3 percentage points for statutory ceding commissions recognized as a result of the 100% reinsurance of Independent Agents personal lines operations beginning January 1998 (see Item 2.5). The consolidated commission ratio increased despite this favorable impact as a result of an increased statutory commission ratio in Reinsurance (see Item 2.2) and in Commercial Specialty (see Item 2.3). 13 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.2 REINSURANCE - -------------------------------------------------------------------------------- TIG's reinsurance operations are conducted through TIG Reinsurance Company ("TIG Re") which is based in Stamford, Connecticut. TIG Re operates through a number of business units which employ similar underwriting principles but serve differing market needs: Specialty Casualty, Traditional Treaty, London Branch, a Lloyd's Syndicate, Reverse Flow, Specialty Property, Finite Reinsurance and Facultative. Specialty Casualty emphasizes general liability and professional liability lines. TIG Re is often a lead underwriter in these transactions which are usually structured on an excess-of-loss basis. Traditional Treaty reinsures "standard" property/casualty business. The London Branch focuses on worldwide property exposures, with casualty underwriting having been introduced in late 1996, while a fully integrated Lloyd's vehicle (underwriting syndicate) was introduced in December 1996. Reverse Flow is an alternative distribution mechanism whereby general agents or intermediaries submit program business to TIG Re. TIG Re then works with the reinsurance intermediary to provide a primary insurer to issue the primary policy and then cede a significant portion of the risk to TIG Re. Beginning in the second quarter of 1998, management and reporting of reverse flow business is being transitioned to the Company's Irving, Texas location, principally under the control of its Commercial Specialty operations. Specialty Property covers both domestic and international exposures. Finite Reinsurance provides clients with integrated underwriting approaches to control the volatility of financial results over time. TIG Re maintains nine branch offices dedicated to the marketing and underwriting of direct facultative insurance on an automatic and individual risk basis. Premium. The following table summarizes TIG Re's premium production:
Three Months Ended March 31, -------------------------------------------------------- 1998 1997 --------------------------- ---------------------------- (In millions) NPW % NPW % ------------------------------------------- ------------- ------------- ------------- -------------- Specialty Casualty $57 48% $ 55 38% London Branch & Syndicate 1218 25 21% 21 14% Reverse Flow 15 12% 19 13% Traditional Treaty 14 12% 24 17% Finite 4 3% 17 12% Specialty Property 7 6% 12 8% Facultative 7 6% 5 3% Other (10) (8%) (8) (5%) ------------------------------------------- ------------- ------------- ------------- -------------- Net premium written $119 100% $145 100% ------------------------------------------- ------------- ------------- ------------- -------------- Gross premium written $140 $156 ------------------------------------------- ------------- ------------- ------------- --------------
Net premium written declined by $26 million or 18% in the first quarter of 1998 as compared to 1997. Approximately $10 million of the decrease was related to lower program retentions in the Specialty Casualty and Reverse Flow units and increased aggregate stop loss cessions. The remaining decrease in net premium written was attributable to declines in Finite and Traditional Treaty production. The majority of the decrease in Finite production is attributable to one client company which adopted a voluntary resolution of liquidation in the first quarter of 1998. Limited production was recorded for this client in the first quarter of 1998 as compared to approximately $11 million in the first quarter of 1997. Traditional Treaty net premium written declined in first quarter 1998 as compared to 1997 primarily due to first quarter 1997 being unusually high as a result of the recording of the initial six months of premium on one program, resulting in first quarter 1997 writings being $6 million greater than first quarter 1998. 14 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Several senior underwriters left TIG Re to join a competitor in the first quarter of 1998. In addition, the Chief Operating Officer of TIG Re resigned in early May 1998 for personal reasons. Underwriting Results. The following table summarizes TIG Re's underwriting results:
Three Months Ended March 31, --------------------------------------------- (In millions) 1998 1997 ----------------------------------------------------- ---------------------- ---------------------- Net premium earned $134 $129 Less: Net loss and LAE incurred 89 95 Commission expense 37 29 Other underwriting expense 13 10 ----------------------------------------------------- ---------------------- ---------------------- Underwriting loss $(5) $(5) ----------------------------------------------------- ---------------------- ---------------------- Statutory ratios: ----------------------------------------------------- ---------------------- ---------------------- Loss and LAE 66.6 73.8 Commission 29.2 22.8 Premium related 0.6 0.1 Other underwriting 10.7 6.5 ----------------------------------------------------- ---------------------- ---------------------- Combined ratio 107.1 103.2 ----------------------------------------------------- ---------------------- ----------------------
TIG Re's underwriting loss for the first quarter of 1998 approximated 1997 as Canadian ice storm property losses and overall lower program profitability expectations were offset by the receipt of a favorable arbitration award and increased aggregate stop loss reinsurance utilization which reduced the statutory loss and LAE ratio by approximately 6.7 percentage points. The statutory commission ratio increased by 6.4 percentage points in first quarter 1998 as compared to 1997 due principally to a changing mix of business with higher commissions and competitive market conditions. The statutory other underwriting expense ratio increased as a result of an approximate 27% increase in average staffing levels due primarily to new initiatives and lower net premium volume in the first quarter of 1998 as compared to first quarter 1997. 15 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.3 COMMERCIAL SPECIALTY - -------------------------------------------------------------------------------- Commercial Specialty, based in Irving, Texas, provides specialized insurance products through five main business units: Managed Compensation, Sports and Leisure, Lloyd's Syndicates, Primary Casualty and Excess Casualty. Managed Compensation provides workers' compensation insurance coverages and occupational care management. Workers Compensation insurance covers medical care, rehabilitation, and lost wages of employees who suffer work-related injuries, and provides death benefits for dependents of employees killed in work related accidents. The Sports and Leisure unit offers coverages for professional and amateur sports events. Coverages include spectator liability and participant legal liability, including property and liability packages for a variety of entertainment and leisure activities. Commercial Specialty participates in three Lloyd's syndicates which principally write marine, U.K. property and aviation business. The Primary Casualty unit focuses on commercial auto, professional liability, construction and marine programs. The Excess Casualty unit offers lead umbrella and excess umbrella policies. Premium. The following table summarizes Commercial Specialty's premium production:
Three Months Ended March 31, ---------------------------------------------------------------- 1998 1997 ----------------------------- ---------------------------------- (In millions) NPW % NPW % --------------------------------------- -------------- -------------- -------------- ------------------- Managed Compensation $117 48% $55 40% Lloyd's Syndicates 54 22% 20 14% Sports and Leisure 44 18% 40 29% Primary Casualty 21 8% 17 12% Excess Casualty and other 9 4% 7 5% --------------------------------------- -------------- -------------- -------------- ------------------- Net premium written $245 100% $139 100% --------------------------------------- -------------- -------------- -------------- ------------------- Gross premium written $315 $178 --------------------------------------- -------------- -------------- -------------- -------------------
Net premium written increased by 76% for the first quarter of 1998 as compared to the corresponding 1997 period. This increase is principally derived from increased production in the Managed Compensation business unit and from Lloyd's Syndicates. The increase in Managed Compensation was primarily derived from TIG entering into a strategic relationship in the third quarter of 1997 with a general agent that writes program business and also provides loss management services. This relationship contributed $47 million of premium in first quarter 1998. Also contributing to the increase in Managed Compensation premium is a better competitive environment in Illinois and growth in Arizona. The increased production in Lloyd's Syndicates is due to increased participation in the capacity of the syndicates from approximately 18% in 1997 to 41% in 1998. As a significant portion of syndicate business is written in the first quarter, syndicate premium is not expected to have as significant an impact on production for the remainder of 1998. 16 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Underwriting Results. Underwriting results for Commercial Specialty are presented below:
Three Months Ended March 31, ------------------------------------------------- (In millions) 1998 1997 --------------------------------------------------- --------------------- --------------------------- Net premium earned $171 $109 Less: Net loss and LAE incurred 121 77 Commission expense 30 18 Premium related expense 6 5 Other underwriting expense 15 10 Policyholder dividends incurred 4 2 --------------------------------------------------- --------------------- --------------------------- Underwriting loss $(5) $(3) --------------------------------------------------- --------------------- --------------------------- Statutory ratios: --------------------------------------------------- --------------------- --------------------------- Loss and LAE 70.4 70.5 Commission 18.3 17.1 Premium related 3.2 3.7 Other underwriting 6.9 7.9 Policyholder dividends 1.9 3.4 --------------------------------------------------- --------------------- --------------------------- Combined ratio 100.7 102.6 --------------------------------------------------- --------------------- ---------------------------
Commercial Specialty's underwriting loss increased $2 million in first quarter 1998 compared to first quarter 1997. The deterioration in the underwriting loss is due to involuntary costs for the Managed Compensation unit being $2 million higher in first quarter 1998 than 1997. The improvement in the combined ratio is due to increased premium volume without a commensurate increase in other underwriting expenses and the timing of policyholder dividend payments. These improvements were offset in part by an increased commission ratio primarily due to a favorable contingent commission adjustment in first quarter 1997. 17 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.4 CUSTOM MARKETS - -------------------------------------------------------------------------------- The Custom Markets division provides personal lines and small business insurance products through three main business units: Non-standard Auto, Alternative Distribution and Small Business. Non-standard Auto provides auto physical damage and liability coverages to higher risk insureds principally through general agents. Alternative Distribution markets personal lines insurance through non-traditional channels, such as direct marketing, and group and affiliation marketing. Small Business provides commercial property, liability, and auto coverages to small business owners through independent agents, primarily in Hawaii, Arizona and California. Premium. The following table summarizes Custom Markets premium production:
Three Months Ended March 31, ------------------------------------------------------------------ 1998 1997 --------------------------------- -------------------------------- (In millions) NPW % NPW % --------------------------------------- ---------------- ---------------- ---------------- --------------- Non-Standard Auto $25 41% $12 39% Alternative Distribution 18 30% 1 3% Small Business 18 29% 18 58% --------------------------------------- ---------------- ---------------- ---------------- --------------- Net premium written $61 100% $31 100% --------------------------------------- ---------------- ---------------- ---------------- --------------- Gross premium written $65 $32 --------------------------------------- ---------------- ---------------- ---------------- ---------------
Custom Markets net premium written increased by $30 million or 97% in the first quarter of 1998 as compared to first quarter 1997. Alternative Distribution production increased by $17 million as this unit was formed in late 1996 and had nominal production in the first quarter of 1997. Non-standard auto production increased by $13 million due principally to new general agent relationships in California and Texas. Underwriting Results. Underwriting results for Custom Markets are presented below:
Three Months Ended March 31, ----------------------------------------- (In millions) 1998 1997 ------------------------------------------------------- -------------------- -------------------- Net premium earned $58 $31 Less: Net loss and LAE incurred 45 20 Commission expense 12 6 Premium related expense 1 2 Other underwriting expense 5 4 ------------------------------------------------------- -------------------- -------------------- Underwriting loss $(5) $(1) ------------------------------------------------------- -------------------- -------------------- Statutory ratios: ------------------------------------------------------- -------------------- -------------------- Loss and LAE 77.6 64.7 Commission 19.6 18.8 Premium related 1.8 6.4 Other underwriting 8.3 13.8 ------------------------------------------------------- -------------------- -------------------- Combined ratio 107.3 103.7 ------------------------------------------------------- -------------------- --------------------
Custom Markets underwriting loss increased by $4 million in first quarter 1998 compared to first quarter 1997, principally as a result of program start-up costs in the Alternative Distribution unit, which began operations in late 1996. The underwriting loss was $5 million in the Alternative Distribution unit in first quarter 1998 compared to a first quarter 1997 underwriting loss of $1 million. 18 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.5 OTHER LINES - -------------------------------------------------------------------------------- Other Lines principally includes the results of Independent Agents personal lines operations which were sold and 100% reinsured effective December 31, 1997, commercial products which have been placed in run-off, and aggregate stop loss reinsurance activity not related to a specific division. Independent Agents gross and net premium written was $66 million and zero for the first quarter of 1998, respectively, as compared to $76 million and $73 million, respectively, for the first quarter of 1997.
Three Months Ended March 31, --------------------------------------------- (In millions) 1998 1997 --------------------------------------------------------- ---------------------- ---------------------- Gross premium written $71 $103 --------------------------------------------------------- ---------------------- ---------------------- Net premium written $(5) $73 --------------------------------------------------------- ---------------------- ---------------------- Net premium earned $(4) $84 Less: Net loss and LAE incurred (9) 61 Commission expense (9) 13 Premium related expense 1 4 Other underwriting expense - 6 --------------------------------------------------------- ---------------------- ---------------------- Underwriting gain $13 $ - --------------------------------------------------------- ---------------------- ----------------------
The underwriting gain of $13 million in first quarter 1998 is principally due to the recognition of $9.1 million of ceding commissions related to the sale of the Independent Agents unit in December 1997 (see Note A to the Condensed Consolidated Financial Statements). Other Lines first quarter 1998 results also include $5.9 million of benefit recorded under aggregate stop loss reinsurance coverages compared to $2.5 million in first quarter 1997. In addition, net loss and LAE incurred for first quarter 1998 was reduced by amortization of deferred gain of $2.4 million related to a loss portfolio reinsurance agreement (see Note A to the Condensed Consolidated Financial Statements). Retroactive premium and other miscellaneous adjustments partially offset the benefit of the aforementioned transactions in the first quarter of 1998. 19 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.6 INVESTMENTS - -------------------------------------------------------------------------------- Investment Mix. Management continues to modify TIG's investment strategy by allocating additional funds to assets with higher return expectations. The goal of ongoing investment strategies is to provide TIG with the most advantageous balance of liquidity with the highest possible return over inflation, within corporate credit guidelines and regulatory restrictions. The following chart summarizes TIG's investment portfolio by investment type:
March 31, 1998 December 31, 1997 -------------------------------- ----------------------------- Market % of Market Market % of Market (In millions) Value Portfolio Value Portfolio --------------------------------------------- ---------------- --------------- -------------- -------------- Corporate and other bonds $1,319 31.1% $1,282 30.6% U.S. government bonds 997 23.5% 1,014 24.2% Mortgage-backed securities 1,069 25.2% 941 22.4% Municipal bonds 629 14.9% 637 15.2% --------------------------------------------- ---------------- --------------- -------------- -------------- Total fixed maturity investments 4,014 94.7% 3,874 92.4% Short-term and other investments 223 5.3% 318 7.6% --------------------------------------------- ---------------- --------------- -------------- -------------- Total invested assets $4,237 100.0% $4,192 100.0% --------------------------------------------- ---------------- --------------- -------------- --------------
The portfolio gross book yield at March 31, 1998 was 7.1%, as compared to 7.4% at December 31, 1997. Approximately one-fourth of TIG's portfolio consists of mortgage-backed securities ("MBS"). AAA rated United States federal government agency mortgages now represent approximately 80% of TIG's exposure to MBS. A risk inherent in MBS is prepayment risk related to interest rate volatility. The underlying mortgages may be repaid earlier or later than originally anticipated, depending on the repayment and refinancing activity of the underlying homeowners. Should this occur, TIG would receive paydowns on the principal amount which may have been purchased at a premium or discount and TIG's investment income would be affected by any adjustments to amortization resulting from the prepayments. TIG's consolidated financial results have not been materially impacted by prepayments of MBS. Additionally, interest rate volatility can affect the market value of MBS. All MBS held in the portfolio can be traded in the public market. Derivatives/Hedges. In the normal course of business, TIG may choose to hedge some of its interest rate risk with futures contracts and/or interest rate swaps. Alternatively, derivative financial instruments may also be utilized to enhance prospective returns. TIG's interest rate swap arrangements generally provide that one party pays interest at a floating rate in relation to movements in an underlying index, and the other party pays interest at a fixed rate. While TIG is exposed to credit risk in the event of nonperformance by the other party, nonperformance is not anticipated due to the credit rating of the counterparties. No futures contracts positions were open at March 31, 1998, or December 31, 1997. There were no interest rate swaps at March 31, 1998 compared to $14 million notional face amount of interest rate swaps at December 31, 1997. Total fair value of derivative positions were approximately $79 million, representing 1.9% of the total investment asset holdings at March 31, 1998 as compared to $78 million at December 31, 1997. All TIG derivative financial instruments were with financial institutions rated "A" or better by one or more of the major credit rating agencies. Investment Life and Duration. TIG's objective is to maintain the weighted average life of its investment portfolio between 8 and 11 years and the weighted average duration between 4 and 7 years. At March 31, 1998, the weighted average life of TIG's investment portfolio was 10.9 years compared to 10.7 years at December 31, 1997. At March 31, 1998, the weighted average duration of TIG's investment portfolio was 5.9 years compared to 5.4 years at December 31, 1997. 20 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Investments in TBA's. TIG routinely enters into commitments to purchase securities on a "To Be Announced" ("TBA") basis for which the interest rate risk remains with TIG until the date of delivery and payment. Delivery and payment of securities purchased on a TBA basis can take place a month or more after the date of the transaction. These securities are subject to market fluctuations during this period and it is the Company's policy to recognize any gains and losses only when they are realized. TIG maintains cash and short-term investments with a fair value exceeding the amount of its TBA purchase commitments. At March 31, 1998, there were no outstanding TBA commitments, compared to TBA commitments of $24 million with a fair value of $26 million at December 31, 1997. Unrealized gains. Net pre-tax unrealized gains decreased by $14 million during the first three months of 1998 due to an overall decline in market values. As of March 31, 1998, the aggregate net unrealized gain on TIG's investment portfolio was $137 million. The following is a summary of net unrealized gains (losses) by type of security:
(In millions) March 31, 1998 December 31, 1997 Change -------------------------------------------- --------------------- ---------------------- ------------- Municipal bonds $40 $41 $(1) Mortgage-backed securities 5 8 (3) US government bonds 69 73 (4) Corporate bonds and other 23 29 (6) -------------------------------------------- --------------------- ---------------------- ------------- Net unrealized gains $137 $151 $(14) -------------------------------------------- --------------------- ---------------------- -------------
Investment Income. The following table displays the components of TIG's investment income and mean after-tax investment yields. The yields include interest earned and exclude realized investment gains and losses. These yields are computed using the average of the end of the month asset balances during the period.
Three Months Ended March 31, ----------------------------------------------------- (In millions) 1998 1997 ------------------------------------------------- -------------------------- -------------------------- Fixed maturity investments: Taxable $62 $69 Tax-exempt 9 7 Short-term and other investments - 2 ------------------------------------------------- -------------------------- -------------------------- Total gross investment income 71 78 Interest expense on funds held (5) (3) ------------------------------------------------- -------------------------- -------------------------- Total net investment income $66 $75 ------------------------------------------------- -------------------------- -------------------------- After-tax gross investment yield 4.9% 5.0% ------------------------------------------------- -------------------------- --------------------------
The $7 million decline in gross investment income is due to a lower average invested asset base and a lower average yield for first quarter 1998 as compared to first quarter 1997. The decline in average investable assets is principally due to the transfer of $149 million of investment assets related to the sale of the Independent Agents personal lines operations on December 31, 1997. The decline in investment yield is due to a general decline in market yields. The increase in interest expense on funds held is the result of increased utilization of aggregate stop loss reinsurance in 1997 and 1998. As a result of this increased utilization, funds held interest expense is expected to continue to increase in future periods. 21 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Investment Quality. The table below shows the rating distribution of TIG's fixed maturity portfolio:
March 31, 1998 December 31, 1997 ----------------------------- ------------------------- Market % of Market % of Standard & Poor's/Moody's Value Portfolio Value Portfolio ----------------------------------------- ------------- --------------- ------------ ------------ (In millions) AAA/Aaa $2,627 65% $2,541 65% AA/Aa 283 7% 261 7% A/A 195 5% 209 5% BBB/Baa 207 5% 220 6% Below BBB/Baa 702 18% 643 17% ----------------------------------------- ------------- --------------- ------------ ------------ Total fixed maturity investments $4,014 100.0% $3,874 100.0% ----------------------------------------- ------------- --------------- ------------ ------------
TIG minimizes the credit risk of its fixed maturity portfolio by investing primarily in investment grade securities; however, management has authorized the purchase of high yield less than investment grade securities up to statutory limitations. The Company's high yield portfolio is comprised of bonds whose issuers are subjected to rigorous credit analysis, including tests of prospective profitability, liquidity, leverage, and interest coverage. This analysis is updated regularly as financial results are released, and bonds are constantly evaluated for their value. The information on credit quality in the preceding table is based upon the higher of the rating assigned to each issue of fixed income securities by either Standard & Poor's or Moody's. Where neither Standard & Poor's or Moody's has assigned a rating to a particular fixed maturity issue, classification is based on 1) ratings available from other recognized rating services, 2) ratings assigned by the National Association of Insurance Commissioners Securities Valuation Office (the "SVO"), or 3) an internal assessment of the characteristics of the individual security, if no other rating is available. The SVO assigns bond ratings for most publicly held bonds. The SVO ratings are used by insurers when preparing their annual statutory financial statements. State departments of insurance use the bond rating data when attempting to determine whether an insurer's holdings are sound. Investments must fit within certain regulatory guidelines of an insurer's domicilary state in order for an insurer to be licensed to do business in that state. The SVO ratings range from "1" to "6", with "1" and "2" being the higher quality, "3" being medium grade, and "4" through "6" being lower grade obligations. As of March 31, 1998 and December 31, 1997, approximately 72% and 84%, respectively, of TIG's portfolio, measured on a statutory carrying value basis, was invested in securities rated as "1" or "2". 22 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.7 RESERVES - -------------------------------------------------------------------------------- TIG maintains reserves to cover its estimated liability for losses and loss adjustment expenses ("LAE") with respect to reported and unreported claims. TIG's reserves for losses and LAE totaled $3,909 million and $3,935 million at March 31, 1998 and December 31, 1997, respectively. The process of estimating loss and LAE reserves involves the active participation of an experienced actuarial staff with input from the underwriting, claims, reinsurance, financial, and legal departments. Management, using the advice of loss reserve specialists, makes a judgment as to the appropriate amount to record in the financial statements. Because reserves are estimates of ultimate losses and LAE, management monitors reserve adequacy over time, evaluating new information as it becomes known and adjusting reserves as necessary. Such adjustments are reflected in current operations. The inherent uncertainty in estimating reserves is increased when significant changes occur. Examples of such changes include: (1) changes in production sources for existing lines of business; (2) writings of significant blocks of new business; (3) changes in economic conditions; and (4) changes in state or federal laws and regulations, particularly insurance reform measures. TIG has experienced significant changes in each of these areas during the past several years. The inherent uncertainties in estimating reserves are greater with respect to reinsurance than for primary insurance due to the diversity of the development patterns among different types of reinsurance contracts, the necessary reliance on ceding companies for information regarding reported claims and differing reserving practices among ceding companies. TIG's reserves include an estimate of TIG's ultimate liability for asbestos-related matters, environmental pollution, toxic tort, and other non-sudden and accidental claims for which ultimate values cannot be estimated using traditional reserving techniques. TIG's "environmental" loss and LAE reserves totaled $30 million and $34 million at March 31, 1998 and December 31, 1997, respectively. TIG's environmental claims activity is predominately from hazardous waste and pollution-related claims arising from commercial insurance policies. In connection with TIG's IPO in April 1993, an affiliate of TIG's former parent, Transamerica Corporation, agreed to pay 75% of up to $119 million of reserve development and newly reported claims, up to a maximum reimbursement of $89 million, on policies written prior to January 1, 1993, with respect to certain environmental claims involving paid losses and certain LAE in excess of TIG's environmental loss and LAE reserves at December 31, 1992. At March 31, 1998, the Transamerica affiliate had incurred no liability under this agreement. Management considers many factors when setting reserves, including: (i) current legal interpretations of coverage and liability; (ii) economic conditions; and (iii) internal methodologies which analyze TIG's experience with similar cases, information from ceding companies and historical trends, such as reserving patterns, loss payments, pending levels of unpaid claims and product mix. Based on these considerations, management believes that adequate provision has been made for TIG's loss and LAE reserves. Actual losses and LAE paid may deviate, perhaps substantially, from such reserves. 23 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.8 LIQUIDITY AND CAPITAL RESOURCES - -------------------------------------------------------------------------------- Liquidity is a measure of an entity's ability to secure enough cash to meet its contractual obligations and operating needs. TIG requires cash primarily to pay policyholders' claims, operating expenses, policyholder dividends and interest expenses. Generally, premium is collected months or years before claims are paid under the policies purchased by the premium. These funds are used first to pay current claims and expenses. The balance is invested in securities to augment the investment income generated by the existing portfolio. Historically, TIG has had, and expects to continue to have, more than sufficient funds to pay claims, operating expenses, policyholder dividends and interest expenses. Cash Flow From Operating Activities. The following table summarizes the significant components of cash flow from operations:.
Three Months Ended March 31, (In millions) 1998 1997 -------------------------------------------------- -------------------- --------------------- Reinsurance operations $88 $29 Primary operations and corporate 32 11 -------------------------------------------------- -------------------- --------------------- On-going operations 120 40 Run-off (Other Lines operations) (33) (36) -------------------------------------------------- -------------------- --------------------- Total $87 $4 -------------------------------------------------- -------------------- ---------------------
The increase in on-going operations cash flow for first quarter 1998 compared to first quarter 1997 is primarily attributable to a $75 million receipt of funds in the Reinsurance operation as a one time deposit in connection with an agreement to assume certain run-off liabilities which was partially offset by $20 million of delayed claims payments in certain run-off accounts. Increased cash flow is also being generated in the primary operations due to increased premium production. Partially offsetting these favorable trends are increased corporate selling and administrative expenses and debt interest paid. Restrictions on Dividends from Insurance Subsidiaries. The maximum amount of shareholders dividends which the insurance subsidiaries can pay to TIG Holdings is limited to the greater of (i) 10% of statutory surplus as of the end of the preceding year or (ii) the statutory net income for the preceding year except that such amount may not exceed earned surplus. Accordingly, the maximum dividend payout to TIG Holdings from its subsidiaries that can be made without regulatory approval during 1998 is $180 million. TIG Holdings received $55 million in dividends from its insurance subsidiaries in the first three months of 1998, as compared to $25 million for the first three months of 1997. Aggregate investments and cash at TIG Holdings were $68 million at March 31, 1998, compared to $39 million at December 31, 1997. 24 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Notes Payable. In December 1995, TIG Holdings established an unsecured revolving line of credit with maximum borrowings of $250 million. During first quarter 1998, TIG borrowed $70 million against this facility. In 1995, TIG Insurance Company entered into a five-year $50 million credit facility of which approximately $23 million was outstanding as of March 31, 1998 and December 31, 1997. The facility is a direct financing arrangement with a third-party related to the sale leaseback of certain fixed assets. In addition, TIG Holdings had $99 million of 8.125% notes payable maturing in 2005 outstanding at March 31, 1998 and December 31, 1997. In January 1997, TIG Capital Trust I, a statutory business trust created under Delaware law as a trust subsidiary of TIG Holdings, completed a private offering of $125 million of 8.597% capital securities. TIG Holdings issued $128.75 million in 8.597% Junior Subordinated Debentures to TIG Capital Trust I (including approximately $3.75 million with respect to the capital contributed to the Trust by TIG Holdings). All of the net proceeds received by TIG Holdings from the issuance of the debentures are being used for general corporate purposes which includes repurchases of TIG Holding's common stock. Shareholders' Equity. Shareholders' equity increased by $22 million during the first three months of 1998, primarily due to $33 million in net income and $9 million in common stock issues partially offset by $4 million of common stock repurchases, $9 million of common and preferred stock dividends and a $9 million decrease in unrealized gain on fixed maturities. Book value per share increased to $23.07 at March 31, 1998 from $22.82 at December 31, 1997. Excluding the impact of unrealized investment gains, the book value per share would have been $21.33 at March 31, 1998 and $20.90 at December 31, 1997. As of March 31, 1998, the Board of Directors has authorized common stock repurchases of up to 18.75 million shares of TIG Holdings common stock. Under the repurchase plan, repurchases may be made from time to time on the open market at prevailing market prices or in privately negotiated transactions. Through March 31, 1998, 15.7 million shares have been repurchased (23% of total issued and outstanding including treasury shares at March 31, 1998) at an average cost per share of $28.47, for an aggregate cost of $447 million. In January 1998 and 1997, TIG Holdings declared quarterly common stock dividends of $.15 per share. - -------------------------------------------------------------------------------- 2.9 YEAR 2000 - -------------------------------------------------------------------------------- TIG has conducted a review of its core processing computer systems to identify and address all code changes, testing and implementation procedures required to make its systems Year 2000 compliant. The Company has instituted a centralized management process to facilitate the necessary changes, testing and implementation procedures. Based upon the nature of TIG's business, TIG believes that the failure to make its systems Year 2000 compliant could result in a material disruption of its operations commencing at the end of the fourth quarter of 1998. Although TIG has not determined the aggregate costs to be incurred in making the necessary modifications to its systems for Year 2000 compatibility, TIG does not expect amounts expensed for Year 2000 projects to be material to its results of operations. To date, TIG has expended approximately $2.2 million in making necessary modifications of its systems to make them Year 2000 compatible. TIG expects the necessary modifications of its systems to be completed by the end of 1998. In addition, TIG has identified key suppliers, producers, customers and facilities (e.g., telephone and electric systems) with potential Year 2000 issues. Currently, TIG does not have substantive information concerning the compliance status of such entities. Further, at this time, TIG does not have enough information to determine the ultimate impact on TIG in the event that one or more of such entities are unable to make their systems Year 2000 compliant. 25 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.10 FORWARD-LOOKING STATEMENTS - -------------------------------------------------------------------------------- TIG Holdings would like to caution readers regarding certain forward-looking statements in the Management's Discussion and Analysis and elsewhere in this Form 10-Q. Statements which are based on management's projections, estimates and assumptions are forward-looking statements. The words "believe", "expect", "anticipate" and similar expressions generally identify forward-looking statements. While TIG Holdings believes in the veracity of all statements made herein, forward-looking statements are necessarily based upon a number of estimates and assumptions that, while considered reasonable by TIG Holdings, are inherently subject to significant business, economic and competitive uncertainties and contingencies, including without limitation: * changes in interest rates which could impact investment yields, the market value of invested assets and ultimately product pricing * changes in the frequency and severity of catastrophes which could impact net income, reinsurance costs and cash flow * increased competition (on the basis of price, services, or other factors) which could generally reduce operating margins * regulatory and legislative changes which could increase the Company's overhead costs, increase federal and state tax assessments, restrict access to profitable markets or force participation in unprofitable markets * changes in loss payment patterns which could impact cash flow and net investment income * changes in estimated overall adequacy of loss and LAE reserves which could impact net income, statutory surplus adequacy and management's decision to continue certain product lines * changes in general market or economic conditions which could impact the demand for the Company's products and loss frequency and severity for certain lines of business * loss of key management personnel which could impact the development and execution of the Company's business strategy and impact key customer and vendor relationships. Many of these uncertainties and contingencies can affect TIG Holdings' actual results and could cause its actual results to differ materially from those expressed in any forward-looking statements made by, or on behalf of, TIG Holdings. 26 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.11 GLOSSARY - -------------------------------------------------------------------------------- Combined ratio: A combination of the underwriting expense ratio, the loss and LAE ratio, and the policyholder dividends ratio, determined in accordance with statutory accounting practices. A combined ratio below 100% generally indicates profitable underwriting results. A combined ratio over 100% generally indicates unprofitable underwriting results. Gross premium written: Total premium for direct insurance written and reinsurance assumed during a given period. Incurred but not reported ("IBNR") reserves: Reserves for estimated losses and LAE which have been incurred but not reported to the insurer (including future developments on losses that are known to the insurer). Loss adjustment expenses ("LAE"): The expenses of settling claims, including legal and other fees, and the portion of general expenses allocated to claim settlement costs. Loss and LAE Incurred: The total losses sustained by an insurance company under a policy or policies, whether paid or unpaid. Incurred losses include a provision for claims that have occurred but have not yet been reported to the insurer. Loss development: The emergence of actual loss data as compared to estimate for specific accident years and for specific lines of business. Loss and LAE ratio: The ratio of incurred losses and LAE to earned premium, determined in accordance with statutory accounting practices. Loss and LAE reserves: Liabilities established by insurers and reinsurers to reflect the estimated cost of claims payments that the insurer will ultimately be required to pay in respect to insurance or reinsurance it has written. Reserves are established for losses and for LAE, and consist of case reserves and IBNR reserves. Net premium earned: The portion of net premium written in a particular period that is recognized for accounting purposes as income during that period. Net premium written: Direct premium written plus premium on assumed reinsurance less premium on ceded reinsurance for a given period. Policyholder dividend ratio: The ratio of dividends paid to policyholders to earned premium determined in accordance with statutory accounting practices. Primary Insurance: The insurance coverage provided under the primary policy issued by the primary insurer to the primary insured (sometimes called "underlying insurance"). Program business: Tailored products developed for a particular industry segment (i.e., sporting events, railroads) or distribution system (i.e., trade associations, affinity groups). Programs are often developed and controlled by general agents. 27 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Reinsurance: The practice whereby one party, called the reinsurer, in consideration of a premium paid to it agrees to indemnify another party, called the reinsured, for part or all of the liability assumed by the reinsured under a policy or policies of insurance which it has issued. The reinsured may be referred to as the original or primary insurer, the direct writing company, or the ceding company. Reinsurance does not legally discharge the primary insurer from its liability to the insured. Retention; Retention level: The amount or portion of risk which an insurer or reinsurer retains for its own account. Losses in excess of the retention level are paid by the reinsurer or retrocessionaire. In pro rata treaties, the retention may be a percentage of the original policy's limit. In excess of loss reinsurance, the retention is a dollar amount of loss, a loss ratio, or a percentage of loss. Underwriting: The insurer's process of reviewing applications submitted for insurance coverage, deciding whether to accept all or part of the coverage requested and determining the applicable premium. Underwriting expense ratio: The ratio of underwriting expenses to net premium written, determined in accordance with statutory accounting practices. Underwriting expenses: The aggregate of policy acquisition costs, including commissions, and the portion of administrative, general, and other expenses attributable to underwriting operations. Underwriting results: The measure of profitability of the insurance operations of an insurer, calculated as the result of earned premium, less losses, loss expenses, and underwriting expenses. Underwriting results is an indicator of a company's underwriting success. 28 TIG HOLDINGS, INC. PART II. OTHER INFORMATION - -------------------------------------------------------------------------------- ITEM 1. LEGAL PROCEEDINGS - -------------------------------------------------------------------------------- TIG's insurance subsidiaries are routinely engaged in litigation in the normal course of their business. As a liability insurer, the Company defends third-party claims brought against its insureds. As an insurer, the Company defends against coverage claims. On January 11, 1994, a Los Angeles County Superior Court jury returned a verdict of $28 million for punitive damages against TIG Insurance Company ("TIC") in Talbot Partners v. Cates Construction, Inc. and TIC (the "Talbot Case"). The award arose out of TIC's handling of a surety bond claim on a construction project. On March 28, 1997, the California Court of Appeals reduced the trial court's punitive damage award to $15 million. On July 23, 1997, the California Supreme Court granted TIC's petition to review the Court of Appeals' decision. Management believes that the ultimate liability arising from the Talbot Case will not materially impact consolidated operating results. TIG's Federal income tax returns are routinely audited by the Internal Revenue Service (IRS) and provisions are made in the financial statements in anticipation of the results of these audits. Following a routine federal income tax audit by the IRS, in September 1997, the IRS issued a Statutory Notice of Deficiency for the tax year 1993 and a Revenue Agents Report for 1994 asserting a tax liability of approximately $170 million excluding interest. The IRS's asserted tax adjustments principally relate to the acquisition made by TIG under the Section 338(h)(10) election of April 27, 1993 in conjunction with TIG's Initial Public Offering and primarily generate temporary differences by creating income in 1993 with corresponding deductions in 1993 and future tax years. TIG strongly disagrees with the IRS's position and, on December 11, 1997, TIG filed a Tax Court Petition challenging it. In connection with the Statutory Notice of Deficiency issued by the IRS for the 1993 tax year, TIG made a $40 million advance tax payment in December 1997, that has been reflected as a current tax asset. While the timing of cash tax payments may be impacted, management believes that revisions to TIG's recorded tax liability, if any, arising from the IRS's audit will not materially impact consolidated net income or the financial condition of the Company. On February 12, 1998, a purported class action complaint, naming TIG and two of its executive officers as defendants, was filed in the United States District Court for the Southern District of New York on behalf of persons who purchased TIG common stock during the period from October 21, 1997 to January 30, 1998, when TIG announced its fourth quarter 1997 results. The complaint alleges that TIG violated the federal securities laws by misrepresenting the adequacy of its underwriting and monitoring standards and loss reserves, and that three of its officers and directors sold shares at prices that were artificially inflated as a result of the alleged misrepresentations. Plaintiffs seek unspecified monetary damages, including punitive damages. Management believes that the lawsuit is without merit and it will be vigorously defended. 29 TIG HOLDINGS, INC. PART II. OTHER INFORMATION - -------------------------------------------------------------------------------- ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K - -------------------------------------------------------------------------------- (a) Exhibits: Exhibit 3.1: Amended and Restated Certificates of Incorporation of TIG Holdings as filed with the Delaware Secretary of State on April 16, 1993 (incorporated by reference to Exhibit 3.1 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1993, Commission File No. 1-11856). Exhibit 3.2: Amended and Restated Bylaws of TIG Holdings as adopted by TIG Holdings' Board of Directors on May 18, 1993 (incorporated by reference to Exhibit 3.2 to TIG Holdings' Registration Statement on Form S-8, File No. 33-63148). Exhibit 4.1: Certificate of Designation of TIG Holdings relating to the $7.75 Cumulative Preferred Stock of TIG Holdings as filed with the Delaware Secretary of State on April 16, 1993 (incorporated by reference to Exhibit 4.1 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1993, Commission File No. 1-11856). Exhibit 4.2: Indenture dated as of April 1, 1995 between TIG Holdings and the First National Bank of Chicago, as Trustee (incorporated by reference to Exhibit 4.2 to Registration Statement No. 33-90594, filed March 24, 1995). Exhibit 4.3: Junior Subordinated Indenture, dated January 30, 1997, between TIG Holdings and The Chase Manhattan Bank, as Trustee (incorporated by reference to Exhibit 4.3 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1997). Exhibit 4.4: Certificate of Trust of TIG Capital Trust I, dated January 24, 1997 between TIG Holdings and The Chase Manhattan Bank, Chase Manhattan Bank Delaware, as Trustees (incorporated by reference to Exhibit 4.4 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1997). Exhibit 4.5: Capital Securities Guarantee Agreement, dated January 30, 1997, between TIG Holdings and The Chase Manhattan Bank, as Trustee (incorporated by reference to Exhibit 4.5 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1997). Exhibit 4.6: Trust Agreement, dated January 24, 1997, between TIG Holdings and The Chase Manhattan Bank, Chase Manhattan Bank Delaware, as Trustees (incorporated by reference to Exhibit 4.6 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1997). Exhibit 4.7: Amended and Restated Trust Agreement, dated January 30, 1997, between TIG Holdings, the Administrators named therein and The Chase Manhattan Bank, Chase Manhattan Bank Delaware, as Trustees (incorporated by reference to Exhibit 4.7 to TIG Holdings' Quarterly Report on Form 10-Q for the quarter ended March 31, 1997). Exhibit 4.8: Form of Capital Securities Certificate of TIG Capital Trust I, (included as Exhibit E to Exhibit 4.7). (b) The Company did not file any reports on Form 8-K during the three months ended March 31, 1998. 30 TIG HOLDINGS, INC. 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. Dated: May 14, 1998 TIG HOLDINGS, INC. By: /s/CYNTHIA B. KOENIG ------------------------- Name: Cynthia B. Koenig Title: Controller (Principal Accounting Officer) By: /s/EDWIN G. PICKETT ------------------------- Name: Edwin G. Pickett Title: Executive Vice President and Chief Financial Officer (Principal Financial Officer) 31 EX-27 2 FDS --
7 (Replace this text with the legend) 0000897430 TIG Holdings, Inc. 1,000,000 US Dollar 3-Mos Dec-31-1998 Jan-01-1998 Mar-31-1998 1.000 0 4,014 4,014 0 0 0 4,237 37 128 172 7,262 3,909 794 0 0 192 25 0 1,267 (82) 7,262 359 66 2 0 246 0 0 47 14 33 0 0 0 33 0.64 0.62 0 0 0 0 0 0 0
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