-----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, EmdrdR3ENEOS0fVAOeOPtpZUkim56/yAqIXU+IrW2Mt/0gjPXyvQNRKFzbgX1R8p rd0bS3gd1BeMsJnGBvqLfQ== 0000897430-98-000012.txt : 19981116 0000897430-98-000012.hdr.sgml : 19981116 ACCESSION NUMBER: 0000897430-98-000012 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: 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: 98748407 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 SEC FILING ON FORM 10-Q - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 _______________ FORM 10-Q (X) Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended September 30, 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 September 30, 1998: 51,314,515 excluding 16,258,097 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 September 30, 1998 (unaudited) and December 31, 1997 ..............3 Condensed consolidated statements of income for the three and nine months ended September 30, 1998 (unaudited) and September 30, 1997 (unaudited).....................4 Condensed consolidated statement of changes in shareholders' equity for the nine months ended September 30, 1998 (unaudited).....................................5 Condensed consolidated statements of cash flow for the nine months ended September 30, 1998 (unaudited) and September 30, 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.....................14 2.1 Consolidated Results..............................................15 2.2 Reinsurance.......................................................18 2.3 Commercial Specialty..............................................20 2.4 Custom Markets....................................................22 2.5 Other Lines.......................................................24 2.6 Investments.......................................................25 2.7 Reserves..........................................................28 2.8 Liquidity and Capital Resources...................................29 2.9 Year 2000.........................................................31 2.10 Forward-Looking Statements........................................34 2.11 Glossary..........................................................35 PART II. OTHER INFORMATION Item 1. Legal Proceedings.................................................37 Item 6. Exhibits and Reports on Form 8-K..................................39 SIGNATURE..................................................................41 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS
September 30, December 31, (In millions, except share data) 1998 1997 - --------------------------------------------------------------- --------------- --------------- Assets (unaudited) Investments: Fixed maturities at market $3,967 $3,874 (cost: $3,792 in 1998 and $3,725 in 1997) Short-term and other investments (cost: $242 in 1998 and $316 in 1997) 236 318 - --------------------------------------------------------------- --------------- --------------- Total investments 4,203 4,192 Cash 36 18 Accrued investment income 52 56 Premium receivable (net of allowance of: $13 in 1998 and $5 in 1997) 540 453 Reinsurance recoverable (net of allowance of: $33 in 1998 and $6 in 1997) 1,848 1,529 Deferred policy acquisition costs 147 155 Prepaid reinsurance premium 190 177 Income taxes 111 140 Other assets 169 147 - --------------------------------------------------------------- --------------- --------------- Total assets $7,296 $6,867 - --------------------------------------------------------------- --------------- --------------- Liabilities Reserves for: Losses $3,566 $3,459 Loss adjustment expenses 466 476 Unearned premium 766 738 - --------------------------------------------------------------- --------------- --------------- Total reserves 4,798 4,673 Reinsurance premium payable 115 61 Funds withheld under reinsurance agreements 530 319 Notes payable 164 122 Other liabilities 376 379 - --------------------------------------------------------------- --------------- --------------- Total liabilities 5,983 5,554 - --------------------------------------------------------------- --------------- --------------- Mandatory redeemable 8.597% capital securities of subsidiary 125 125 trust - --------------------------------------------------------------- --------------- --------------- Mandatory redeemable preferred stock 25 25 - --------------------------------------------------------------- --------------- --------------- Shareholders' Equity Common stock - par value $0.01 per share 1,272 1,257 (authorized: 180,000,000 shares; issued and outstanding:67,574,664 shares in 1998 and 66,955,288 shares in 1997) Retained earnings 244 253 Accumulated other comprehensive income 108 96 - --------------------------------------------------------------- --------------- --------------- 1,624 1,606 Treasury stock (16,258,097 shares in 1998 and 15,597,021 shares in 1997) (461) (443) - --------------------------------------------------------------- --------------- --------------- Total shareholders' equity 1,163 1,163 - --------------------------------------------------------------- --------------- --------------- Total liabilities and shareholders' equity $7,296 $6,867 - --------------------------------------------------------------- --------------- --------------- See Notes to Condensed Consolidated Financial Statements.
1 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
Three Months Nine Months Ended September 30, Ended September 30, ---------------------- ---------------------- (In millions, except per share data) 1998 1997 1998 1997 - ------------------------------------------------ ---------- ----------- ---------- ----------- Revenues Net premium earned $383 $380 $1,117 $1,092 Net investment income 58 70 184 219 Net realized investment gain (loss) (2) 2 2 6 - ------------------------------------------------ ---------- ----------- ---------- ----------- Total revenues 439 452 1,303 1,317 - ------------------------------------------------ ---------- ----------- ---------- ----------- Losses and expenses Net losses and loss adjustment expenses 326 259 818 762 incurred Commissions and premium related expenses 98 93 261 251 Other underwriting expenses 61 29 140 93 Corporate expenses 22 11 52 30 Interest expense 7 5 17 15 - ------------------------------------------------ ---------- ----------- ---------- ----------- Total losses and expenses 514 397 1,288 1,151 - ------------------------------------------------ ---------- ----------- ---------- ----------- Income (loss) before income tax benefit (75) 55 15 166 (expense) Income tax benefit (expense) 28 (15) 1 (51) - ------------------------------------------------ ---------- ----------- ---------- ----------- Net income (loss) ($47) $40 $16 $115 - ------------------------------------------------ ---------- ----------- ---------- ----------- Net income (loss) per common share ($0.93) $0.74 $0.28 $2.10 - ------------------------------------------------ ---------- ----------- ---------- ----------- Dividend per common share $0.15 $0.15 $0.45 $0.45 - ------------------------------------------------ ---------- ----------- ---------- ----------- See Notes to Condensed Consolidated Financial Statements.
2 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (Unaudited)
Accumulated Total Other Share- Common Retained Comprehensive Treasury holders' (In millions) Stock Earnings Income Stock Equity ------------------------------ ----------- ---------- --------------- ---------- ----------- Balance at December 31, 1997 $1,257 $253 $96 $(443) $1,163 Net income 16 16 Common and preferred stock dividends (25) (25) Common stock issued 10 10 Amortization of unearned compensation 5 5 Change in net unrealized gain on investments 12 12 Treasury stock purchased (18) (18) ------------------------------ ----------- ---------- --------------- ---------- ----------- Balance at September 30, 1998 $1,272 $244 $108 $(461) $1,163 ------------------------------ ----------- ---------- --------------- ---------- ----------- See Notes to Condensed Consolidated Financial Statements.
3 TIG HOLDINGS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)
Nine Months Ended September 30, ----------------------------- (In millions) 1998 1997 ----------------------------------------------------------- -------------- -------------- Operating Activities Net income $16 $115 Adjustments to reconcile net income to cash provided by operating activities: Changes in: Accrued investment income 4 (2) Premium receivable (87) (60) Reinsurance recoverable (319) (70) Deferred policy acquisition costs 8 (27) Prepaid reinsurance premium (13) 13 Income taxes 29 37 Loss reserves 107 23 Loss adjustment expenses reserves (10) (92) Unearned premium reserves 28 63 Reinsurance premium payable 54 10 Funds held under reinsurance agreements 211 98 Other assets, other liabilities and other 30 (83) ----------------------------------------------------------- -------------- -------------- Net cash provided by operating activities 58 25 ----------------------------------------------------------- -------------- -------------- Investing Activities Purchases of fixed maturity investments (2,040) (2,071) Sales of fixed maturity investments 1,683 1,896 Maturities and calls of fixed maturity investments 277 180 Net decrease (increase) in short-term and other 74 (20) investments Net additions to property, furniture and equipment (14) (29) Other (30) 15 ----------------------------------------------------------- -------------- -------------- Net cash used in investing activities (50) (29) ----------------------------------------------------------- -------------- -------------- Financing Activities Common stock issued 10 29 Treasury stock purchased (18) (140) Mandatory redeemable capital securities issued - 125 Common stock and preferred stock dividends (25) (26) Increase in notes payable 42 1 Other 1 1 ----------------------------------------------------------- -------------- -------------- Net cash provided by (used in) financing activities 10 (10) ----------------------------------------------------------- -------------- -------------- Increase (decrease) in cash 18 (14) Cash at beginning of period 18 19 ----------------------------------------------------------- -------------- -------------- Cash at end of period $36 $5 ----------------------------------------------------------- -------------- -------------- See Notes to Condensed Consolidated Financial Statements.
4 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- NOTE A. DESCRIPTION OF BUSINESS - -------------------------------------------------------------------------------- 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". TIG markets its products through three principal operating divisions. A description of each operating division's principal products follows. Reinsurance. TIG's reinsurance operations are conducted through TIG Reinsurance Company ("TIG Re"). Reinsurance is a form of insurance whereby the reinsurer (i.e. TIG Re) agrees to indemnify another insurance company (the "ceding company") for all or a portion of the insurance risks underwritten by the ceding company under an insurance policy or policies. TIG Re writes both pro rata and excess of loss coverages. TIG Re's primary strategy for excess of loss treaties is to take large participations in working layers of a limited number of programs. TIG Re's predominant source of business is through reinsurance intermediaries. Net premium written for the Reinsurance division was 31% of consolidated net premium written for the three months and nine months ended September 30, 1998, respectively. Commercial Specialty. Commercial Specialty coverages provide protection against property loss and legal liability for injuries to other persons or damage to their property arising from the policyholder's business operations. Commercial Specialty primarily develops and markets insurance programs where the nature of the risk does not lend itself to traditional commercial insurance. Significant programs include Sports and Leisure, with products for professional and amateur sports events; Workers' Compensation, which provides liability coverage to employers for payment of employee benefits associated with employment related accidents as mandated by state laws; Primary Casualty which focuses on commercial auto, professional liability, construction and marine programs; Excess Casualty which offers lead umbrella and excess umbrella policies; and participation in three Lloyd's of London syndicates writing marine, UK property and aviation business. Commercial Specialty products are principally marketed through large general agents, with which TIG sometimes has exclusive marketing contracts. Net premium written for the Commercial Specialty division comprised 52% and 53% of consolidated net premium written for the three months and nine months ended September 30, 1998, respectively. Custom Markets. Custom Markets provides personal lines coverages, principally standard automobile, non-standard automobile and homeowners. Automobile policies cover liability to third parties for bodily injury and property damage and physical damage to the insured's own vehicle resulting from collision or various other causes of loss. Homeowners policies protect against loss of dwellings and contents arising from a variety of perils, as well as liability arising from ownership or occupancy. Products are distributed through strategic relationships with general agents ("GAs") and other key distribution partners. Net premium written for the Custom Markets division comprised 19% and 17% of consolidated net premium written for the three and nine months ended September 30, 1998, respectively. 5 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- NOTE B. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - -------------------------------------------------------------------------------- Basis of Presentation. 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 nine months ended September 30, 1998 are not necessarily indicative of the results to be expected for the full year. In addition, the Company is actively considering strategic alternatives with its investment banker, Goldman Sachs, including a sale, restructuring or recapitalization of the Company, any of which could cause full year operating results to be materially different from those during the first nine months of 1998. For further information, refer to Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations included in this Form 10-Q and 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 Nine Months Ended September 30, September 30, ------------------------ ------------ ------------ (In millions, except earnings per 1998 1997 1998 1997 share) - ---------------------------------------- ------------ ------------ ------------ ------------ Numerator: Net income (loss) ($47) $40 $16 $115 Less: Preferred stock dividends - - 1 1 - ---------------------------------------- ------------ ------------ ------------ ------------ Income available to common ($47) $40 15 114 stockholders Denominator: Weighted average shares outstanding for basic EPS 51.0 51.2 51.1 52.2 Effect of dilutive options 0.3 1.8 0.8 1.8 - ---------------------------------------- ------------ ------------ ------------ ------------ Adjusted weighted average shares for diluted EPS 51.3 53.0 51.9 54.0 Basic EPS ($0.93) $0.77 $0.29 $2.18 - ---------------------------------------- ------------ ------------ ------------ ------------ Diluted EPS - $0.74 $0.28 $2.10 - ---------------------------------------- ------------ ------------ ------------ ------------
6 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- 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 as a component of accumulated other comprehensive income directly in shareholders' equity and, accordingly, has no effect on net income. Deferred Policy Acquisition Costs. Acquisition costs that vary with and are primarily related to the production of new business are generally deferred and amortized ratably over the terms of the underlying policies. These costs principally consist of commissions, premium taxes, and other expenses incurred at policy issuance and renewal. Premium Deficiency Recognition. A premium deficiency is recognized for an operating division when the sum of expected claim costs and claim adjustment expenses, expected dividends to policyholders, maintenance costs and unamortized acquisition costs exceeds future earned premiums related to non-cancelable in-force policies and related anticipated investment income. A premium deficiency is first recognized by charging unamortized deferred policy acquisition costs to expense and then accruing a liability for any remaining deficiency. 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 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 into income as losses are paid. Amortization of deferred gain of $2 million and $6 million was recorded as a reduction of incurred losses for the three and nine months ended September 30, 1998, respectively. The contract covers 80% of any adverse loss development incurred in excess of $280 million up to a maximum of $343 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. Related funds held interest of $4 million and $8 million was recorded as a reduction of net investment income for the three months and nine months ended September 30, 1998. 7 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- Treasury Stock. At September 30, 1998, the Board of Directors had authorized the repurchase of up to 18.75 million shares of TIG Holdings common stock. As of September 30, 1998, the Company has repurchased 16.3 million shares at an aggregate cost of $461 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 was recognized in income during 1998 as the related ceded premium was earned. TIG recognized $3 million and $20 million of pre-tax ceding commissions for the three and nine months ended September 30, 1998, respectively. - -------------------------------------------------------------------------------- NOTE C. PREMIUM DEFICIENCY RECOGNITION - -------------------------------------------------------------------------------- In third quarter 1998, a contract dispute arose between the Company and MBNA America Bank, N.A., the producer of an automobile insurance program within the Custom Markets division ("the MBNA program"). The dispute related to certain underwriting and pricing changes to be made by TIG to produce contractually guaranteed rates of return. In September 1998, the MBNA program was terminated. The producer elected under the termination provisions of the agency contract to require TIG to provide a renewal market through September 1, 1999. As a result, TIG recognized a premium deficiency of $33 million in third quarter 1998 related to future earned premium from existing Custom Markets business and mandatory renewals through September 1, 1999, for the MBNA program. The premium deficiency was recorded in TIG's third quarter 1998 income statement by expensing all Custom Markets deferred policy acquisition costs, which totaled $19 million, and establishing additional loss reserves of $14 million. Net premium written for the MBNA program was $30 million for the year ended December 31, 1997 and $65 million for the nine months ended September 30, 1998. - -------------------------------------------------------------------------------- NOTE D. ALLOWANCE FOR REINSURANCE RECOVERABLE - -------------------------------------------------------------------------------- In third quarter 1998, TIG recorded a $30 million provision for reinsurance recoverables. This provision was based upon new information resulting primarily from an analysis as of the third quarter 1998 and recent dispute negotiations. 8 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- NOTE E. 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. 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. Subsequently, on July 12, 1998, the complaint was amended. The amended complaint alleges that TIG violated the federal securities laws by misrepresenting the adequacy of its underwriting and monitoring standards and loss reserves, and that five 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. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- On July 17, 1998, TIG Premier Insurance Company ("TIG Premier") filed a complaint and jury demand against MBNA America Bank, N.A. d.b.a. MBNA Insurance Services ("MBNA") in federal court in the Northern District of Texas that was based on an agency agreement between TIG Premier and MBNA (the "Agency Agreement") pursuant to which TIG Premier offered an insurance program that was marketed by MBNA to its customers. In its complaint, TIG Premier sought a declaratory relief judgement declaring that TIG Premier could reduce the commission payable to MBNA and lengthen the 5-year term of the Agency Agreement in order to, at a minimum, reduce TIG Premier's underwriting losses and improve the possibility of TIG Premier achieving the agreed upon 15% minimum rate of return. On August 19, 1998, TIG Premier filed an amended complaint seeking money damages for MBNA's repudiation and breach of the Agency Agreement, including, without limitation the underwriting losses that TIG Premier incurred and the minimum 15% rate of return over the entire five-year initial term of the Agency Agreement, in an amount to be determined at trial. In its amended answer, dated August 31, 1998, MBNA instituted a counterclaim against TIG Premier based on TIG Premier's alleged breach and repudiation of the Agency Agreement, seeking damages in an amount not less than $100 million dollars. Management believes that the liability arising from this case, if any, will not materially impact consolidated operating results. 10 TIG HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS For the Nine Months Ended September 30, 1998 (unaudited) - -------------------------------------------------------------------------------- NOTE F. 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 changes in 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, 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 shareholders' equity. During the first nine months of 1998 and 1997, total comprehensive income was $28 million and $151 million, respectively. The components of comprehensive income, net of related tax are as follows:
Three Months Ended Nine Months Ended September 30, September 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 - --------------------------------------------- ---------- ----------- ----------- ---------- Net income (loss) ($47) $40 $16 $115 Unrealized gain on marketable securities 12 38 12 36 - --------------------------------------------- ---------- ----------- ----------- ---------- Comprehensive income (loss) ($35) $78 $28 $151 - --------------------------------------------- ---------- ----------- ----------- ----------
The components of accumulated other comprehensive income, net of related tax, at September 30, 1998 and December 31, 1997 are as follows:
September 30, December 31, (In millions) 1998 1997 ------------------------------------------ ----------------- ---------------- Unrealized gain on marketable securities $110 $98 Foreign currency translation adjustments (2) (2) ------------------------------------------ ----------------- ---------------- Accumulated other comprehensive income $108 $96 ------------------------------------------ ----------------- ----------------
- -------------------------------------------------------------------------------- NOTE G. NOTES PAYABLE - -------------------------------------------------------------------------------- The Company borrowed $70 million on its $250 million revolving line of credit in the first quarter of 1998, of which $40 million is currently outstanding at September 30, 1998. The proceeds of the borrowing were utilized for general corporate purposes, including capital contributions to insurance subsidiaries. This borrowing bears interest at a floating rate, currently 5.8275 %. 11 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 and nine months ended September 30, 1998 as compared to the three and nine months ended September 30, 1997 and material changes in financial position from December 31, 1997 to September 30, 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 on Form 10-K and should be read in conjunction therewith. In addition, reference should be made to Item 1 - Financial Statements of this Form 10-Q. 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). 12 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 and nine months ended September 30, 1998 and 1997 are presented below:
Three Months Nine Months Ended September 30, Ended September 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 - ---------------------------------------- ----------- ---------- ----------- ---------- Gross premium written $551 $533 $1,668 $1,467 - ---------------------------------------- ----------- ---------- ----------- ---------- Net premium written $361 $410 $1,135 $1,179 - ---------------------------------------- ----------- ---------- ----------- ---------- Net premium earned $383 $380 $1,117 $1,092 Less: Net loss and LAE incurred 326 259 818 762 Commission expense 88 82 232 219 Premium related expense 10 11 29 32 Other underwriting expense 53 27 123 88 Policyholder dividends incurred 8 2 17 5 - ---------------------------------------- ----------- ---------- ----------- ---------- Underwriting loss (102) (1) (102) (14) Net investment income 58 70 184 219 Net realized investment gain (losses) (2) 2 2 6 Corporate expenses 22 11 52 30 Interest expense 7 5 17 15 - ---------------------------------------- ----------- ---------- ----------- ---------- Income (loss) before tax benefit (75) 55 15 166 (expense) Income tax benefit (expense) 28 (15) 1 (51) - ---------------------------------------- ----------- ---------- ----------- ---------- Net income (loss) ($47) $40 $16 $115 - ---------------------------------------- ----------- ---------- ----------- ----------
Net income declined by $87 million in the third quarter and $99 million for the first nine months of 1998 as compared to the corresponding 1997 periods. Third quarter 1998 results were impacted by a number of adjustments and expenses which totaled $101 million pre-tax or $66 million after tax. These adjustments and expenses were composed of the following: a) $47 million of pre-tax adjustments and expenses related to a program within the Custom Markets division, which was placed in run-off in the third quarter. This included the recognition of a premium deficiency of $33 million (See Notes B and C to the Condensed Consolidated Financial Statements) and underwriting losses of $14 million which reflected revised loss incurred and reinsurance benefit assumptions; b) a provision for reinsurance recoverable of $30 million (see Note D to the Condensed Consolidated Financial Statements); c) an increase in premium receivable allowances for TIG Re and Other Lines of $5 million and $3 million, respectively; and d) other adjustments and expenses including severance for former employees of $6 million, Year 2000 expenditures of $4 million, and other adjustments of $6 million pre-tax, net of $3 million of ceding commission income arising from the December 1997 sale of TIG's Independent Agents business. 13 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Excluding these adjustments and expenses, income declined by approximately $21 million after-tax or $29 million pre-tax in the third quarter and $33 million after-tax or $50 million pre-tax for the first nine months of 1998 compared to the corresponding 1997 periods. The adjusted decline in third quarter 1998 pre-tax income was principally attributable to an increase in underwriting losses of $11 million in Commercial Specialty and Other Lines, a decline in net investment income of $12 million and a decline in capital gains of $4 million. The adjusted decline in pre-tax income for the first nine months of 1998 was principally due to a $35 million reduction in investment income and a $12 million increase in selling and administration expense attributable to planned corporate systems and other projects. Increased utilization of aggregate stop loss and other finite reinsurance coverages provided an additional underwriting benefit of approximately $7 million and $21 million for the third quarter and first nine months of 1998, respectively, as compared to the corresponding 1997 periods. The increased utilization of finite reinsurance coverages is partially in response to favorable market conditions and partially to mitigate the inherent financial volatility of a changing book of business. In addition, ceding commission income arising from the December 1997 sale of TIG's Independent Agents business benefited underwriting results by $3 million and $20 million for the third quarter and first nine months of 1998, respectively. As described below, both the sale of Independent Agents business and increased utilization of finite reinsurance has had a negative impact on investment income. As previously mentioned, net investment income decreased $12 million or 17% and $35 million or 16% for the third quarter and first nine months of 1998, respectively, as compared to the corresponding 1997 periods. Approximately, $7 million of the year-to-date 1998 decrease is attributable to net assets transferred in December 1997 in connection with the sale of Independent Agents business while approximately $17 million results from increased funds held interest expense resulting from additional utilization of finite reinsurance coverages. The remaining decrease in net investment income is principally attributable to declining gross market investment yields in 1998. Consideration of Strategic Alternatives. In October 1998, the Company made a public announcement that it is actively considering strategic alternatives with its investment banker, Goldman Sachs, including a sale, restructuring, or recapitalization of the Company. As a result, future operating results could vary materially from those reported for the first nine months of the year. Ratings. During third quarter 1998 and in October 1998, Standard and Poor's lowered TIG's insurance subsidiaries financial strength rating and TIG Holdings, Inc.'s senior debt rating. These two actions resulted in TIG's insurance subsidiaries financial strength rating being lowered to A from AA- and TIG Holdings, Inc.'s senior debt rating being lowered to BBB from A-. Additionally, A.M. Best Co. placed the "A" (excellent) ratings of TIG Insurance (including subsidiaries which cede 100% of net premium written to TIG Insurance) and TIG Re, under review with negative implications. Further, Moody's Investors Service placed TIG Holdings, Inc.'s senior debt rating of Baa1 under review for possible downgrade. TIG's ability to compete for insurance and reinsurance business and the cost of financing arrangements could be materially impacted by these and any future actions by these agencies. 14 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Premium. Oversupply of capital in the insurance industry has resulted in significant downward pricing pressure and has provided additional leverage to brokers and ceding companies in establishing terms, including commission rates, 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 by division:
Three Months Nine Months Ended September 30, Ended September 30, ------------------------------- ------------------------------- 1998 1997 1998 1997 ------- ------- ------- ------- ------- ------- ------- ------- (In millions) NPW % NPW % NPW % NPW % ------------------------ ------- ------- ------- ------- ------- ------- ------- ------- Reinsurance $111 31% $124 30% $348 31% $409 35% Commercial Specialty 187 52% 179 44% 607 53% 455 39% Custom Markets 70 19% 49 12% 197 17% 120 10% Other Lines (7) (2%) 58 14% (17) (1%) 195 16% ------------------------ ------- ------- ------- ------- ------- ------- ------- ------- Net premium written $361 100% $410 100% $1,135 100% $1,179 100% ------------------------ ------- ------- ------- ------- ------- ------- ------- -------
Consolidated net premium written decreased by $49 million or 12% and $44 million or 4% for the third quarter and first nine months of 1998, respectively, as compared to the corresponding 1997 periods, while ongoing operations net premium written increased $16 million or 5% and $168 million or 17%, respectively. Growth in ongoing operations net premium written slowed in the third quarter of 1998 compared to the first nine months of 1998 due to the seasonality of Lloyd's syndicates and workers compensation premium and the buying down of net retentions in the Managed Compensation business unit from $1 million to $100 thousand in second quarter 1998 (see Item 2.3). Management expects that the termination of the MBNA program in third quarter 1998 will put further pressure on premium growth for the remainder of the year (see Item 2.4). As expected, ongoing operations premium growth was offset in 1998 by a decline in Other Lines net premium written resulting from the sale and 100% reinsurance of TIG's Independent Agents business in December 1997 (see Item 2.5). Statutory Combined Ratio. The following table presents the components of the Company's statutory combined ratio:
Three Months Nine Months Ended September 30, Ended September 30, --------------------------- ---------------------------- Statutory ratios 1998 1997 1998 1997 ----------------------------- ------------- ------------- -------------- ------------- Loss and LAE 82.2 68.1 72.6 69.8 ----------------------------- ------------- ------------- -------------- ------------- Commission expense 20.4 21.3 21.0 19.9 Premium related expense 2.1 2.9 2.6 2.8 Other underwriting expense 11.8 8.2 10.1 8.4 ----------------------------- ------------- ------------- -------------- ------------- Total underwriting expense 34.3 32.4 33.7 31.1 Policyholder dividends 0.7 0.7 1.0 0.9 ----------------------------- ------------- ------------- -------------- ------------- Combined 117.2 101.2 107.3 101.8 ----------------------------- ------------- ------------- -------------- -------------
15 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- The statutory combined ratio for the third quarter and first nine months of 1998 increased 16.0 and 5.5 percentage points as compared to the corresponding 1997 periods. Excluding the pre-tax adjustments and expenses of $101 million recorded in third quarter 1998, the combined ratio deteriorated approximately 2.1 percentage points for the third quarter and 0.8 percentage points for the first nine months of 1998 compared to the corresponding 1997 periods. The increase in the combined ratio is primarily attributable to an increase in other underwriting expenses for TIG Re and Commercial Specialty which reflects start-up costs incurred for new business initiatives in conjunction with lower consolidated net premium written. Increased benefits in 1998 from finite reinsurance coverages and a decrease in retention limits for Managed Compensation business from $1 million to $100 thousand (See Item 2.3), have offset, for the most part, a general decline in margins resulting from soft market conditions. - -------------------------------------------------------------------------------- 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. 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 eight branch offices dedicated to the marketing and underwriting of direct facultative reinsurance on an automatic and individual risk basis. Beginning in the second quarter of 1998, the majority of Reverse Flow business has been placed in run-off, with the remainder being transferred to the Company's Commercial Specialty operations. 16 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Premium. The following table summarizes TIG Re's premium production:
Three Months Nine Months Ended September 30, Ended September 30, ------------------------------ ------------------------------- 1998 1997 1998 1997 --------------- -------------- --------------- --------------- (In millions) NPW % NPW % NPW % NPW % -------------------------- ------- ------- ------- ------ ------- ------- ------- ------- Specialty Casualty $48 43% $56 45% $146 42% $168 41% London Branch & Lloyd's 25 23% 16 13% 73 21% 61 15% Traditional Treaty 22 20% 25 20% 59 17% 81 20% Reverse Flow 19 17% 24 19% 58 17% 55 13% Facultative 10 9% 5 4% 28 8% 17 4% Specialty Property 6 5% 8 7% 16 4% 37 9% Finite 3 3% 4 3% 13 4% 28 7% Other (22) (20%) (14) (11%) (45) (13%) (38) (9%) -------------------------- ------- ------- ------- ------ ------- ------- ------- ------- -------------------------- ------- ------- ------- ------ ------- ------- ------- ------- Net premium written $111 100% $124 100% $348 100% $409 100% -------------------------- ------- ------- ------- ------ ------- ------- ------- ------- Gross premium written $141 $147 $420 $459 -------------------------- ------- ------- ------- ------ ------- ------- ------- -------
Net premium written declined by $13 million or 10% in the third quarter of 1998 and $61 million or 15% in the first nine months of 1998 compared to the corresponding 1997 periods. The decrease in net premium written is due to the non-renewal or reduced participation in several large and unprofitable accounts combined with increased use of reinsurance to manage the Company's net underwriting exposure. These declines are being somewhat offset by increased production from new initiatives such as London Branch, Lloyd's and Facultative. During the first nine months of 1998, TIG Re appointed a new Chief Executive Officer, a new Chief Actuary, a new Chief Financial Officer and replaced several senior underwriters. The appointment of these new executives and the departure of their predecessors, could impact, positively or negatively, existing producer relationships and the availability of new business opportunities Underwriting Results. The following table summarizes TIG Re's underwriting results:
Three Months Nine Months Ended September Ended September 30, 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 ---------------------------------------- ----------- ---------- ---------- ----------- Net premium earned $127 $146 $391 $394 Less: Net loss and LAE incurred 88 101 264 281 Commission expense 34 40 107 97 Other underwriting expense 18 9 43 29 ---------------------------------------- ----------- ---------- ---------- ----------- Underwriting loss ($13) ($4) ($23) $(13) ---------------------------------------- ----------- ---------- ---------- ----------- Statutory ratios ---------------------------------------- ----------- ---------- ---------- ----------- Loss and LAE 69.6 69.4 67.7 71.3 Commission 26.1 27.2 28.0 24.2 Premium related 0.6 0.8 0.6 0.4 Other underwriting 9.8 8.3 10.0 7.3 ---------------------------------------- ----------- ---------- ---------- ----------- Combined ratio 106.1 105.7 106.3 103.2 ---------------------------------------- ----------- ---------- ---------- -----------
17 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- TIG Re's underwriting loss for the third quarter and first nine months of 1998 increased $9 million and $10 million, respectively, compared to the corresponding 1997 periods. Results for both 1998 periods include approximately $8 million of adjustments related to an increase in the allowance for uncollectible premiums ($5 million) and for adjustments related to retrospectively rated premiums ($3 million). Results for both 1998 periods reflect overall lower program profitability expectations, partially offset by increased aggregate stop loss reinsurance utilization. The first nine months of 1998 include a favorable arbitration award which reduced first quarter 1998 incurred losses and LAE, while a similar unplanned benefit from a novation transaction reduced incurred losses and LAE in the second quarter of 1998. The statutory combined ratio increased slightly in the third quarter 1998 and 3.1 points for the first nine months of 1998 compared to the corresponding 1997 periods. The increase in the combined ratio for the first nine months of 1998 is primarily due to an increase in the statutory other underwriting expense ratio as a result of spending on new initiatives and lower net premium volume in 1998 compared to the 1997 periods. - -------------------------------------------------------------------------------- 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. Included in the Excess Casualty and Other unit is an operation which began in 1997, the Special Risk Operation, which focuses on healthcare, excess property and excess casualty business. Premium. The following table summarizes Commercial Specialty's premium production:
Three Months Nine Months Ended September 30, Ended September 30, ------------------------------- ------------------------------- 1998 1997 1998 1997 --------------- --------------- --------------- --------------- (In millions) NPW % NPW % NPW % NPW % -------------------------- ------- ------- ------- ------- ------- ------- ------- ------- Managed Compensation $71 38% $80 44% $260 43% $189 41% Sports & Leisure 50 27% 57 32% 149 24% 145 32% Lloyd's Syndicates 21 11% 3 2% 89 15% 27 6% Primary Casualty 28 15% 30 17% 73 12% 71 16% Excess Casualty and other 17 9% 9 5% 36 6% 23 5% -------------------------- ------- ------- ------- ------- ------- ------- ------- ------- Net premium written $187 100% $179 100% $607 100% $455 100% -------------------------- ------- ------- ------- ------- ------- ------- ------- ------- Gross premium written $267 $245 $823 $594 -------------------------- ------- ------- ------- ------- ------- ------- ------- -------
18 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Net premium written increased $8 million and $152 million for the third quarter and first nine months of 1998 compared to the corresponding 1997 periods. The increase in the third quarter of 1998 is principally attributable to increased production from Lloyd's Syndicates, while the increase for the first nine months of 1998 is attributable to increased production in the Managed Compensation business unit, from Lloyd's Syndicates, as well as new programs brought on since the beginning of the year. The increase in Managed Compensation for the first nine months is primarily attributable to 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 $17 million and $84 million of premium in the third quarter and first nine months of 1998 compared to $52 million in both the third quarter and first nine months of 1997. Also contributing to the increase in Managed Compensation premium for the first nine months of 1998 is a better competitive environment in Illinois, and growth in Arizona. The increased production in Lloyd's Syndicates is primarily due to increased participation in the capacity of the syndicates from approximately 18% in 1997 to 41% in 1998. Growth in the third quarter of 1998 has slowed relative to the first nine months of 1998. This is due to the seasonality of both Lloyd's Syndicates premium production (a large portion of premium is written in the first quarter) and workers compensation renewals (premium writings are greatest in the first quarter), and the second quarter 1998 decision to buy down the net retention in the Managed Compensation business unit from $1 million to $100 thousand. The change in net retention was made to take advantage of favorable reinsurance pricing available due to soft market conditions. Underwriting Results. Underwriting results for Commercial Specialty are presented below:
Three Months Nine Months Ended September Ended September 30, 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 ---------------------------------------- ----------- ---------- ---------- ----------- Net premium earned $191 $129 $546 $357 Less: Net loss and LAE incurred 138 87 374 246 Commission expense 29 27 94 67 Premium related expense 6 4 19 13 Other underwriting expense 21 9 54 32 Policyholder dividends incurred 8 2 16 5 ---------------------------------------- ----------- ---------- ---------- ----------- Underwriting loss ($11) $ - ($11) $(6) ---------------------------------------- ----------- ---------- ---------- ----------- Statutory ratios ---------------------------------------- ----------- ---------- ---------- ----------- Loss and LAE 72.8 67.0 68.6 68.8 Commission 17.5 20.9 18.4 19.1 Premium related 2.8 2.6 3.6 3.2 Other underwriting 10.1 6.6 9.0 8.0 Policyholder dividends 1.4 1.9 1.9 2.6 ---------------------------------------- ----------- ---------- ---------- ----------- Combined ratio 104.6 99.0 101.5 101.7 ---------------------------------------- ----------- ---------- ---------- -----------
19 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Commercial Specialty's underwriting loss increased by $11 million in the third quarter and $5 million for the first nine months of 1998 compared to the corresponding 1997 periods. Third quarter 1998 results include adjustments and expenses of $4 million to increase policyholder dividend reserves and $2 million of reinsurance recoverable write-offs. In addition, the 1998 underwriting loss is net of benefits realized as a result of changes in the Managed Compensation unit's reinsurance strategy. As previously described, the Managed Compensation unit's net retention was reduced to $100 thousand from $1 million effective April 1, 1998. Managed Compensation also purchased finite reinsurance that allows the unit to stay competitive with other insurers whose states of domicile allow discounting of workers' compensation loss reserves effective January 1, 1998. These changes improved Commercial Specialty's underwriting results by $11 million and $26 million for the third quarter and first nine months of 1998, respectively, compared to the corresponding 1997 periods. Excluding the 1998 increase in policyholder dividend reserves, write-off of reinsurance recoverables and benefits derived from changing Managed Compensation's reinsurance strategy, Commercial Specialty's underwriting loss increased $16 million in the third quarter and $25million for the first nine months of 1998, respectively, compared to the corresponding 1997 periods. This deterioration is primarily due to pricing pressures in most business units due to soft market conditions and increased underwriting expenses to support new business initiatives and the development of new business processes. - -------------------------------------------------------------------------------- 2.4 CUSTOM MARKETS - -------------------------------------------------------------------------------- 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 Nine Months Ended September 30, Ended September 30, --------------- --------------- ------------------------------- 1998 1997 1998 1997 --------------- --------------- --------------- --------------- (In millions) NPW % NPW % NPW % NPW % -------------------------- ------- ------- ------- ------- ------- ------- ------- ------- Non-standard Auto $31 44% $26 53% $85 43% $56 47% Alternative Distributions 29 41% 9 18% 73 37% 16 13% Small Business 15 22% 14 29% 49 25% 48 40% Other (5) (7%) - - (10) (5%) - - -------------------------- ------- ------- ------- ------- ------- ------- ------- ------- Net premium written $70 100% $49 100% $197 100% $120 100% -------------------------- ------- ------- ------- ------- ------- ------- ------- ------- Gross premium written $81 $57 $223 $134 -------------------------- ------- ------- ------- ------- ------- ------- ------- -------
20 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Custom Markets net premium written increased $21 million for the third quarter of 1998 and $77 million for the first nine months of 1998 as compared to the corresponding 1997 periods. The increased production noted in Alternative Distribution is due to this unit having been formed in late 1996 with limited production in the 1997 periods. The increases noted in Non-standard Auto are principally due to new general agent relationships in California and Texas. In the third quarter of 1998, the MBNA program within the Alternative Distribution unit was placed in run-off. Under termination provisions of the agency contract, the Company is required to provide a renewal market through September 1, 1999, for this program; however, no new policies are expected to be written during this period. Accordingly, Alternative Distribution net premium written is expected to decline in future quarters. Net premium written for the MBNA program was $30 million for the year ended December 31, 1997 and $65 million for the nine months ended September 30, 1998. Underwriting Results. Underwriting results for Custom Markets are presented below:
Three Months Nine Months Ended September Ended September 30, 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 ---------------------------------------- ----------- ---------- ---------- ----------- Net premium earned $71 $42 $195 $112 Less: Net loss and LAE incurred 78 28 175 73 Commission expense 27 8 51 22 Premium related expense 3 3 6 6 Other underwriting expense 11 6 23 15 ---------------------------------------- ----------- ---------- ---------- ----------- Underwriting loss ($48) ($3) ($60) ($4) ---------------------------------------- ----------- ---------- ---------- ----------- Statutory ratios ---------------------------------------- ----------- ---------- ---------- ----------- Loss and LAE 90.2 67.3 82.3 65.0 Commission 17.8 19.7 18.7 18.9 Premium related 1.8 5.3 1.9 5.6 Other underwriting 11.9 13.1 10.2 13.2 ---------------------------------------- ----------- ---------- ---------- ----------- Combined ratio 121.7 105.4 113.1 102.7 ---------------------------------------- ----------- ---------- ---------- -----------
Custom Markets underwriting losses increased by $45 million in the third quarter of 1998 and $56 million for the first nine months of 1998 compared to the corresponding 1997 periods. This deterioration is principally due to $47 million of pre-tax adjustments and expenses related to the placement of the aforementioned MBNA program in run-off. These adjustments and expenses included the recognition of a premium deficiency of $33 million in third quarter 1998 (See Notes B and C to the Condensed Consolidated Financial Statements), and underwriting losses of $14 million which incorporated revised loss and reinsurance benefit assumptions. The premium deficiency adjustment was based on an analysis by management which estimated future earned premium from existing Custom Markets business and mandatory renewals related to the MBNA program. The estimate of future earned premium and related losses incorporated management's expectations that corrective pricing actions initiated in third quarter 1998 will be completed by the end of 1998 for major state filings, with all filings completed by April 1999. Should management's estimates of future earned premium and losses vary from actual results, future operating results could be impacted either positively or negatively by the MBNA program. 21 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Excluding the third quarter 1998 adjustments and expenses, the third quarter 1998 Custom Markets underwriting loss was comparable to third quarter 1997, while the first nine months of 1998 deteriorated approximately $9 million compared to the 1997 period. The deterioration is primarily due to a $10 million increase in underwriting losses in the Alternative Distribution unit during the first six months of 1998. - -------------------------------------------------------------------------------- 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. Underwriting Results. Underwriting results for Other Lines are presented below:
Three Months Nine Months Ended September Ended September 30, 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 ---------------------------------------- ----------- ---------- ---------- ----------- Gross premium written $62 $84 $202 $280 ---------------------------------------- ----------- ---------- ---------- ----------- Net premium written ($7) $58 ($17) $195 ---------------------------------------- ----------- ---------- ---------- ----------- Net premium earned ($6) $63 ($15) $229 Less: Net loss and LAE incurred 22 43 5 162 Commission expense (2) 7 (20) 33 Premium related expense - 3 2 11 Other underwriting expense 4 4 5 14 Policyholder dividends incurred - - 1 - ---------------------------------------- ----------- ---------- ---------- ----------- Underwriting gain (loss) ($30) $6 ($8) $9 ---------------------------------------- ----------- ---------- ---------- -----------
Other Lines underwriting loss of $30 million in third quarter 1998 and $8 million in the first nine months of 1998 compares to underwriting gains of $6 million and $9 million for the corresponding 1997 periods. The third quarter and first nine months of 1998 include an approximate $28 million increase in reinsurance recoverable allowances and write-offs (see Note D to the Condensed Consolidated Financial Statements), a $3 million increase in premium receivable allowances and $2 million for the write-off of certain capitalized software. Partially offsetting these charges is the recognition of $3 million and $20 million in the third quarter and first nine months of 1998, respectively, of ceding commissions related to the sale of the Independent Agents unit in December 1997 (see Note B to the Condensed Consolidated Financial Statements). Other Lines results for third quarter 1998 and first nine months of 1998 include $7 million and $22 million, respectively, of benefit recorded under aggregate stop loss and other reinsurance coverage compared to $2 million and $11 million for the corresponding 1997 periods. 22 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.6 INVESTMENTS - -------------------------------------------------------------------------------- Investment Mix. 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 and subject to management's risk tolerance. The following chart summarizes TIG's investment portfolio by investment type:
September 30, 1998 December 31, 1997 -------------------------- ------------------------ Market % of Market Market % of Market (In millions) Value Portfolio Value Portfolio --------------------------------- ----------- -------------- ------------ ------------ Corporate and other bonds $1,197 28.5% $1,282 30.6% Mortgage-backed securities 1,094 26.0% 941 22.4% U.S. government bonds 1,030 24.5% 1,014 24.2% Municipal bonds 646 15.4% 637 15.2% --------------------------------- ----------- -------------- ------------ ------------ Total fixed maturity investments 3,967 94.4% 3,874 92.4% Short-term and other investments 236 5.6% 318 7.6% --------------------------------- ----------- -------------- ------------ ------------ Total invested assets $4,203 100.0% $4,192 100.0% --------------------------------- ----------- -------------- ------------ ------------
The portfolio gross book yield at September 30, 1998 was 7.1%, as compared to 7.4% at December 31, 1997. The weighted average duration of the portfolio increased to 6.1 years at September 30, 1998 as compared to 5.4 years at December 31, 1997 due to a decline in short-term investments. TIG's objective is to maintain the weighted average duration of its investment portfolio between 4 and 7 years. Approximately 26% of TIG's portfolio consists of mortgage-backed securities ("MBS"). AAA rated United States federal government agency mortgages now represent approximately 91% 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. Pre-payments of MBS securities during 1998 and the subsequent reinvestment of such funds in lower market yield securities have contributed to the aforementioned 1998 decline in portfolio gross book yield. 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. 23 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- No futures contracts positions were open at September 30, 1998, or December 31, 1997. There were no interest rate swaps at September 30, 1998 compared to $14 million notional face amount of interest rate swaps at December 31, 1997. The total fair value of derivative positions was approximately $63 million, representing 1.6% of total investment asset holdings at September 30, 1998, a slight decrease from 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. 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 September 30, 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 increased $18 million at September 30, 1998, compared to December 31,1997. The following is a summary of net unrealized gains by type of security.
(In millions) September 30, December 31, 1998 1997 Change -------------------------------------- ----------------- ----------------- ------------ Municipal bonds $45 $41 $4 Mortgage-backed securities 13 8 5 US government bonds 130 73 57 Corporate and other bonds (13) 27 (40) Other investments (6) 2 (8) -------------------------------------- ----------------- ----------------- ------------ Net unrealized gains $169 $151 $18 -------------------------------------- ----------------- ----------------- ------------
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 Nine Months Ended September 30, Ended September 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 ------------------------------------ ---------- ----------- ----------- ---------- Fixed maturity investments: Taxable $58 $66 $179 $203 Tax-exempt 9 8 28 23 Short-term and other investments 2 1 6 4 ------------------------------------ ---------- ----------- ----------- ---------- Total gross investment income 69 75 213 230 Investment expenses - - 1 - Interest expense on funds held 11 5 28 11 ------------------------------------ ---------- ----------- ----------- ---------- Total net investment income $58 $70 $184 $219 ------------------------------------ ---------- ----------- ----------- ---------- Gross investment yield 7.0% 7.3% 7.1% 7.4% ------------------------------------ ---------- ----------- ----------- ---------- After-tax gross investment yield 4.8% 5.0% 4.9% 5.0% ------------------------------------ ---------- ----------- ----------- ----------
24 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- The $6 million and $17 million decline in gross investment income for the three and nine month periods ended September 30, 1998 compared to the corresponding 1997 periods is due to a lower average invested asset base and a lower average gross yield for the 1998 periods compared to the 1997 periods. 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 gross investment yield is due to a general decline in market yields and a $300 million shift away from high-risk, high-yield securities. The increase in interest expense on funds held is the result of increased utilization of finite 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. Investment Quality. The table below shows the rating distribution of TIG's fixed maturity portfolio:
(In millions) September 30, 1998 December 31, 1997 ---------------------- ---------------------- Market % of Market % of Standard & Poor's/Moody's Value Portfolio Value Portfolio ------------------------------------- ----------- ---------- ---------- ----------- AAA/Aaa $2,710 68.3% $2,541 65.6% AA/Aa 252 6.4% 261 6.7% A/A 294 7.4% 209 5.4% BBB/Baa 296 7.4% 220 5.7% Below BBB/Baa 415 10.5% 643 16.6% ------------------------------------- ----------- ---------- ---------- ----------- Total fixed maturity investments $3,967 100.0% $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 domiciliary 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 September 30, 1998 and December 31, 1997, approximately 89% and 84%, respectively, of TIG's portfolio, measured on a statutory carrying value basis, was invested in securities rated as "1" or "2". 25 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 $4,032 million and $3,935 million at September 30, 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 $29 million and $34 million at September 30, 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 Initial Public Offering 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 September 30, 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. 26 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, interest expenses and debt obligations. 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, interest expenses and debt obligations. Cash Flow From Operating Activities. The following table summarizes the significant components of cash flow from operations:
Three Months Nine Months Ended September 30, Ended September 30, ---------------------- ---------------------- (In millions) 1998 1997 1998 1997 --------------------------------- ---------- ----------- ---------- ----------- Reinsurance operations $2 $21 $84 $91 Primary operations and corporate 23 28 94 63 --------------------------------- ---------- ----------- ---------- ----------- On-going operations 25 49 178 154 Run-off (Other Lines operations) (24) (11) (120) (129) --------------------------------- ---------- ----------- ---------- ----------- Total $1 $38 $58 $25 --------------------------------- ---------- ----------- ---------- -----------
The decline in ongoing operations cash flow for third quarter 1998 compared to 1997 is driven by decreased reinsurance operations premium in conjunction with increased loss payments on programs that have been non-renewed. The decrease in primary operations and corporate cash flow is primarily due to increased loss payments and a decrease in investment income received, offset in part by increased premium receipts. Cash outflow for runoff operations increased due to the timing of loss payments. Both ongoing operations and runoff operations cash flow improved for the first nine months of 1998 compared to 1997. Reinsurance operations benefited from the net receipt of $62 million in connection with the assumption of certain runoff liabilities of another reinsurer offset in part by increased loss payments relative to premium collections. Primary operations generated increased cash flow due to increased premium production. Contributing to the improvement in runoff cash flow is the expected decline in losses paid. In October 1998, Standard and Poor's Financial Strength rating ("S&P rating") for TIG's insurance subsidiaries was lowered from A+ to A. Under one of the Company's reinsurance arrangements, the reinsurer has the right to convert the treaty to a funds transferred basis from a funds held basis if the S&P rating falls below A+. Funds withheld subject to transfer were approximately $169 million at September 30, 1998. Any such transfer would result in an approximately equal reduction in gross investment income and funds held interest expense in future periods. 27 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 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 insurance subsidiaries that can be made without regulatory approval during 1998 is $180 million. TIG Holdings received $125 million in dividends from its insurance subsidiaries in the first nine months of 1998, as compared to $95 million for the first nine months of 1997. Aggregate investments and cash at TIG Holdings were $85 million at September 30, 1998, compared to $39 million at December 31, 1997. 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, of which $40 million remains outstanding at September 30, 1998. In 1995, TIG Insurance Company entered into a five-year $50 million credit facility of which approximately $25 million and $24 million was outstanding as of September 30, 1998 and December 31, 1997, respectively. 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 September 30, 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). Shareholder's Equity. Shareholders' equity was unchanged during the first nine months of 1998, primarily due to $16 million in net income, a $12 million increase in unrealized gains, $12 million in common stock issued, and $3 million of unearned compensation amortization which was offset by $18 million of common stock repurchases, and $25 million of common and preferred stock dividends. Book value per share was $22.82 at September 30, 1998 and December 31, 1997. Excluding the impact of unrealized investment gains, the book value per share would have been $20.65 at September 30, 1998 and $20.90 at December 31, 1997. As of September 30, 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 September 30, 1998, 16.3 million shares have been repurchased (24% of total issued and outstanding including treasury shares at September 30, 1998) at an average cost per share of $28.34, for an aggregate cost of $461 million. There were no shares repurchased in the third quarter 1998. In February, May and August 1998, TIG Holdings paid quarterly stock dividends of $0.15 per share, the same as the quarterly dividend rate for 1997. 28 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.9 YEAR 2000 - -------------------------------------------------------------------------------- The Year 2000 issue relates to the ability or inability of systems (including computer hardware, software and embedded microprocessors) to properly interpret date information relating to the year 2000 and beyond. Many existing systems, including many of TIG's existing systems, use only the last two digits to refer to a year (i.e., "98" is used for 1998). Therefore, these systems may not properly recognize a year that begins with "20" instead of "19". If not corrected, these systems could fail or create erroneous results. Specific information technology systems that are utilized by TIG, and by third parties with whom TIG has business relationships, include policy, claim and reinsurance processing and administration, accounting, payroll, financial reporting, product development, rate and form development and maintenance, business planning, tax, accounts receivable, accounts payable and numerous word processing and spreadsheet programs. In addition, TIG and third parties with whom TIG has a business relationship are dependent on many non-information technology based systems, such as utility, communication and security systems. TIG's State of Readiness. TIG has conducted an extensive review of its core processing computer systems, including computer hardware and software vendors, to identify and address all changes, testing and implementation procedures required to make such systems Year 2000 compliant. The Company has a coordinated process to facilitate the necessary changes, testing and implementation procedures. TIG has completed and implemented substantially all of the required code changes of its Year 2000 system remediation project. The Year 2000 system project testing remains slightly behind schedule, and TIG now expects necessary third party software implementation and most major testing of its computer systems to be completed by March 31, 1999. TIG will continue testing its internal systems, as well as its internal systems' abilities to operate with the systems of key third parties, during the remainder of 1999. TIG has significant business relationships with numerous third parties (other than computer software and hardware vendors discussed above) that impact virtually all aspects of TIG's business, including, without limitation, general agents and brokers which produce and service policies, third party administrators which provide services such as claims adjusting, banks, general suppliers and facility related vendors. In the event that one or more key third parties are unable to make their systems Year 2000 compliant, TIG's operations could suffer a material adverse impact. TIG has a coordinated process to identify key third parties, request information regarding Year 2000 compliance, assess potential risk based upon responses received, and determine any action required to mitigate potential risks. TIG expects to complete mailing requests for information to key third parties by the end of November 1998. TIG has evaluated approximately 35% of the responses received to date from such third parties and is analyzing the need for further action on a case-by-case basis. TIG expects to complete substantially all of its initial evaluation of third party responses by December 31, 1998. Determination of any action required is expected to be completed by March 31, 1999, and TIG will continue to monitor Year 2000 issues relating to such key third parties during the remainder of 1999. Notwithstanding efforts by TIG to assess the third party's systems, there can be no guarantee that such systems will be Year 2000 compliant. 29 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- The Cost to Address TIG's Year 2000 Issues. TIG currently estimates that approximately $10 to $12 million will be incurred for services rendered by outside vendors related to Year 2000 system modifications, of which approximately $8 million has been incurred to date. During the nine months ended September 30, 1998, such Year 2000 system project costs represented approximately 15% of TIG's actual information systems costs during that period. Substantially all of the amounts incurred on Year 2000 systems modifications have been used for software remediation and testing. To date, TIG's Year 2000 system project has not caused any significant delays in other key information system projects. In addition to the costs incurred for Year 2000 system modifications, TIG will incur expenses in ascertaining whether key third parties with which it has a material relationship are Year 2000 compliant. TIG estimates that such expenses will not exceed $1 million. All estimates of future costs related to assessing and achieving Year 2000 compliance are based on management's best estimates and there can be no guarantee that actual amounts expended will not differ from such estimates. The Risks of TIG's Year 2000 Issues. The insurance business, by its nature, is date sensitive. Proper processing of core policy, reinsurance and claims data is dependent upon correct policy effective dates, policy expiration dates, endorsement dates, premium payment dates, loss dates, loss report dates, and the like. Inaccurate date processing of policy, reinsurance, claims and other information could have a significant adverse impact on the conduct of TIG's daily business operations and the preparation of accurate financial information. During the fourth quarter of 1998, TIG has begun processing insurance contracts expiring in Year 2000. Although some minor Year 2000 related problems have been encountered in processing such contracts, there has not been any material processing disruption to date. However, some Year 2000 related problems may only become apparent over time, beginning as early as the end of 1998. It is possible that future Year 2000 related problems could result in disruptions of TIG's operations in the event that TIG is unable to make its systems fully Year 2000 compliant. In addition, TIG's policyholders may incur losses stemming from Year 2000 problems. A small percentage of these losses may be insured under certain TIG professional liability policies. In general, however, the types of problems expected to arise from Year 2000 problems will be business risks which are not insurable under standard property and casualty policies. It is possible, however, that certain TIG policies may be reformed by judicial decisions to cover Year 2000 losses which were not contemplated. Further, one of the insurance industry's actuarial methodologies utilizes past losses in order to determine the potential for future losses. The unique nature of the Year 2000 problem, and the resulting unknown impact of this problem, make such an actuarial analysis based on past losses indeterminable at this time. As a result, TIG is unable to determine to what extent Year 2000 claims would be held to have merit or whether such claims, if upheld, would have a material impact on TIG's financial results. To date, TIG has not incurred any losses relating to Year 2000 claims under its insurance and reinsurance policies. 30 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Although the Company has taken the actions described above to address the Year 2000 problem, if those actions are not sufficient, the most reasonably likely worst case Year 2000 scenario is that TIG would experience widespread internal and third party systems failures and would be temporarily unable, through automated means, to receive or process new policies, reinsurance, claims and other information and transactions. In addition, the most reasonably likely worst case scenario would include some judicial reformation of policies extending coverage beyond the scope contemplated by TIG's underwriting practices. Depending on the duration and severity of any systems failures and the extent of any insurable Year 2000 losses, and any other unknowns, including those mentioned above, the most reasonably likely worst case scenario could result in a material adverse effect on the Company. TIG's Contingency Plans. TIG is in the process of determining the risks it would face in the event certain aspects of its Year 2000 readiness plan fail. TIG is also developing a contingency plan for mission-critical processes and expects to complete this plan by March 31, 1999. 31 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 or result in loss of key producer relationships * 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 * delays in regulatory approvals for rate and form filings * changes in ratings assigned to TIG which could impact demand for the Company's products * 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 * inability of the Company or third parties with whom the Company has material relations to address Year 2000 issues on a timely basis * change in strategic business plans due to sale, restructure or recapitalization of the Company Many of these uncertainties and contingencies can affect TIG's 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. 32 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- 2.11 GLOSSARY - -------------------------------------------------------------------------------- Catastrophe: An event that is designated to be a "catastrophe" by the Property Claim Service Division of American Services Group, an industry body. It generally defines events which are estimated to cause more that $5 million in insured property damage and which affect a significant number of insureds and insurers. 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. Facultative reinsurance: The reinsurance of all or a portion of the insurance coverage provided by a single policy. Each policy reinsured is separately negotiated. Finite reinsurance: Reinsurance that contains an ultimate negotiated limit of risk to the reinsurer with respect to minimum and maximum exposure. This form of reinsurance can be used to mitigate the financial volatility of new programs, or cover exposure to large deductibles under other reinsurance treaties. It can also be used to provide surplus relief or loss development protection. 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). Incurred losses: 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 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 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. 33 TIG HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Net premium written: Direct premium written plus premium on assumed reinsurance less premium on ceded business for a given period. Policyholder dividend ratio: The ratio of dividends paid to policyholders to earned premium determined in accordance with statutory accounting practices. 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 managing general agents. 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. Reverse flow business: Alternative distribution mechanism whereby general agents submit program business to a reinsurer. The reinsurer then works with a reinsurance intermediary to provide a primary insurer to the transaction who will issue the primary policy and then cede a significant portion of the risk to the reinsurer. Treaty reinsurance: The reinsurance of a specified type or category of risks defined in a reinsurance agreement (a "treaty") between a primary insurer or other reinsured and a reinsurer. Typically, in treaty reinsurance, the primary insurer or reinsured is obligated to offer and the reinsurer is obligated to accept a specified portion of all such type or category of risks originally underwritten by the primary insurer or reinsured. 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. Workers' compensation insurance: Insurance that 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. 34 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. Subsequently, on July 12, 1998, the complaint was amended. The amended complaint alleges that TIG violated the federal securities laws by misrepresenting the adequacy of its underwriting and monitoring standards and loss reserves, and that five 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. 35 TIG HOLDINGS, INC. PART II. OTHER INFORMATION - -------------------------------------------------------------------------------- On July 17, 1998, TIG Premier Insurance Company ("TIG Premier") filed a complaint and jury demand against MBNA America Bank, N.A. d.b.a. MBNA Insurance Services ("MBNA") in federal court in the Northern District of Texas that was based on an agency agreement between TIG Premier and MBNA (the "Agency Agreement") pursuant to which TIG Premier offered an insurance program that was marketed by MBNA to its customers. In its complaint, TIG Premier sought a declaratory relief judgement declaring that TIG Premier could reduce the commission payable to MBNA and lengthen the 5-year term of the Agency Agreement in order to, at a minimum, reduce TIG Premier's underwriting losses and improve the possibility of TIG Premier achieving the agreed upon 15% minimum rate of return. On August 19, 1998, TIG Premier filed an amended complaint seeking money damages for MBNA's repudiation and breach of the Agency Agreement, including, without limitation the underwriting losses that TIG Premier incurred and the minimum 15% rate of return over the entire five-year initial term of the Agency Agreement, in an amount to be determined at trial. In its amended answer, dated August 31, 1998, MBNA instituted a counterclaim against TIG Premier based on TIG Premier's alleged breach and repudiation of the Agency Agreement, seeking damages in an amount not less than $100 million dollars. Management believes that the liability arising from this case, if any, will not materially impact consolidated operating results. 36 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 Holding' 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, Inc. 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, Inc. 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, Inc. 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, Inc. 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, Inc., 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). 37 TIG HOLDINGS, INC. PART II. OTHER INFORMATION - -------------------------------------------------------------------------------- Exhibit 10.1: Transition Services Agreement dated June 11, 1998 between TIG Holdings, Inc. and Edwin G. Pickett. Exhibit 10.2: Employment Agreement dated August 18, 1998 between TIG Holdings, Inc. and Mary R. Hennessy. (b) The Company did not file any reports on Form 8-K during the three months ended September 30, 1998. 38 EX-10 2 EXHIBIT 10:1 EDWIN G. PICKETT TRANSITION AGREEMENT TRANSITION SERVICES AGREEMENT This TRANSITION SERVICES AGREEMENT ("Transition Services Agreement") is made and entered into as of the 11th day of June, 1998 by and between Edwin G. Pickett, residing at Green Valley Farm, Route 2, Box 304X, Aubrey, Texas 76227(the "Executive"), and TIG Holdings, Inc., a Delaware corporation, having its principal executive offices at 65 East 55th Street, New York, New York 10022 (the "Corporation"). W I T N E S E T H: WHEREAS, the Executive has been employed by the Corporation at its Irving, Texas offices as its Executive Vice President and Chief Financial Officer pursuant to a letter agreement dated June 15, 1993, as supplemented by a letter dated June 22, 1993 (as so supplemented, the "Letter Agreement"); and WHEREAS, the Corporation has advised the Executive that it has determined that it is in the best interests of the Corporation that its chief financial officer be located at the Corporation's principal executive offices in New York, New York along with the Corporation's chief executive officer and chief operating officer, and the Executive has determined that he does not wish to relocate from Texas to New York and would prefer to resign his positions with the Corporation and its subsidiaries and assume retirement status; WHEREAS, the Corporation is willing to accept the Executive's resignation but has requested, and the Executive has agreed, that the Executive remain with the Corporation through the end of the year while the Corporation conducts a search for and completes the transition to a new chief financial officer; and WHEREAS, the Executive and the Corporation desire to establish the terms for the Executive's retirement status with the Corporation and to settle fully and finally all matters between them, including, but not limited to, any issues that might arise out of the Executive's employment or the Letter Agreement or the termination of his employment, and accordingly, have agreed that it is in the best interests of the Corporation and the Executive that they enter into this Transition Services Agreement; NOW, THEREFORE, in consideration of the mutual covenants and promises contained herein, the parties hereto, intending to be legally bound, agree as follows: 1. Agreement to Resign; Termination of Employment. 1.1 The Executive hereby resigns, effective as of the close of business on December 31, 1998 or such earlier date as the Corporation appoints a new chief financial officer (the earlier of such dates being referred to herein as the "Resignation Date"), as Executive Vice President and Chief Financial Officer of the Corporation, from all other officer and employee positions with the Corporation and its subsidiaries and affiliates and from all directorships that he holds with subsidiaries and other affiliates of the Corporation. Until the Resignation Date, the Executive will continue in his current positions with the Corporation and its subsidiaries and will, consistent with the duties and responsibilities of a chief financial officer of a public company, assist the Corporation and its subsidiaries in good faith and to the best of his abilities as directed by the Chief Executive Officer of the Corporation in order to help the Corporation achieve its objectives. 1.2 Notwithstanding the foregoing, in the event that the Resignation Date occurs prior to December 31, 1998, the Executive will, as of the Resignation Date, become an "inactive" employee of the Corporation and will continue in that capacity through the close of business on December 31, 1998 (the "Termination Date"). As a result, the Executive will qualify for contributions made in respect of 1998 under the Corporation's Employee Stock Ownership Plan and Diversified Savings and Profit Sharing Plan, including under the "top hat" supplemental plans established with respect to such plans. In the event that the Resignation Date occurs prior to the Termination Date, the Executive will provide such reasonable assistance to the new Chief Financial Officer of the Corporation in facilitating his or her transition as may be requested from time to time by the Chief Executive Officer of the Corporation or the new Chief Financial Officer prior to the Termination Date. During the first thirty (30) days of such period, the Executive will be entitled to retain his office and secretarial support. Thereafter, until the Termination Date, the Executive will be provided with an appropriate office and secretarial support to the extent that he is required to work out of the Corporation's Irving, Texas offices in order to carry out his duties pursuant to the third sentence of this paragraph. In addition, as soon as possible following the Resignation Date, the Corporation will transfer to the Executive title to the cellular telephone and Libretto computer currently made available by the Corporation to the Executive, subject to the Executive arranging for the billing on the cellular telephone to be transferred to his name and for the issuance of licenses to him to use the software in connection with the computer. 1.3 Following the Resignation Date and until the Termination Date, the Corporation will continue to pay the Executive at his current rate of base salary ($467,500 per annum), and the Executive shall continue to be considered an employee of the Corporation for purposes of eligibility to participate in and to receive all benefits under any and all welfare benefit plans, practices, policies and programs maintained or provided by the Corporation and/or its subsidiaries, in accordance with their terms, for the benefit of employees of the Corporation (other than the Corporation's vacation plan, in which the Executive shall be entitled to participate only through the Resignation Date to the extent provided in the next sentence). The Executive will cease to accrue additional vacation days as of and from the Resignation Date through the Termination Date and will, on the Resignation Date, be entitled to receive a cash payment for his unused accrued vacation days based upon his $467,500 current rate of base salary and otherwise determined in accordance with the Corporation's policies. 1.4 Notwithstanding anything to the contrary contained in this Section 1, the Executive's employment with the Corporation may be terminated by the Corporation at any time following the date hereof for "cause". For purposes of this Transition Services Agreement, "cause" means (i) an act or acts of personal dishonesty taken by the Executive and intended to result in the Executive's personal enrichment at the expense of the Corporation or any of its subsidiaries, excluding for this purpose any isolated, insubstantial or inadvertent action not taken in bad faith which is remedied by the Executive in a reasonable period of time after receipt of written notice thereof from the Corporation, (ii) repeated violations by the Executive of his obligations under this Transition Services Agreement which are demonstrably willful and deliberate and which are not remedied in a reasonable period of time by the Executive after receipt of written notice thereof from the Corporation or (iii) the Executive's conviction of a felony involving moral turpitude. In the event that the Executive's employment is terminated for "cause", the Executive shall cease to be an employee of the Corporation and its subsidiaries for all purposes and the Corporation shall have no further obligations to the Executive under this Transition Services Agreement (including, without limitation, under the second sentence of Section 1.2, the first sentence of Section 1.3 and the third sentence of Section 4), other than (a) to pay his base salary and other benefits accrued through the date of termination and (b) to make the Cash Payment pursuant to Section 2. 2. Cash Payments. 2.1 Upon the execution of this Transition Services Agreement, the Letter Agreement shall automatically terminate, and the Executive shall thereupon cease to be entitled to receive any payments or benefits payable under the Letter Agreement or under any other plan, arrangement or practice maintained by the Corporation or any of its subsidiaries as a result of his termination of employment. In lieu of any other cash payments or benefits to which the Executive may have been entitled under the Letter Agreement or otherwise as a result of the termination of his employment, the Corporation shall, following the Termination Date and regardless of whether the Executive's employment has previously been terminated for "cause", make a cash payment to the Executive in the amount of $1,076,250 (the "Cash Payment") payable in two installments as follows: (a) the first installment in the amount of $315,000 (the "First Installment") shall be payable on the eighth day (or if such day is not a business day, on the next succeeding business day) following the date (which shall not be earlier than December 31, 1998) on which the Executive signs a general release in the form of Exhibit A hereto, provided that the Executive shall not have revoked such release during such interim period and the release shall remain in full force and effect on the date of payment, and (b) the second installment in an amount equal to the difference between the First Installment and the Cash Payment (the "Second Installment") shall be payable on April 1, 1999, together with interest on the Second Installment, payable at the rate of 8.5% per annum, from and including the date of payment of the First Installment to but excluding April 1, 1999. 2.2 Simultaneous with the payment of the First Installment, the Corporation shall make a cash payment of $10,000 to the Executive in full satisfaction of expenses incurred and to be incurred by the Executive in connection with the negotiation of this Transition Services Agreement, the transition of his relationship with the Corporation and other miscellaneous expenses. 3 Retirement Status. The Compensation Committee of the Board of Directors of the Corporation (the "Compensation Committee") has approved a Supplemental Executive Retirement Plan, a copy of which is attached hereto as Exhibit B (the "Retirement Plan"), providing for the Executive's status as an individual in "Retirement" and the entitlements arising as a result of such status following his termination of employment under the Corporation's 1993 Long-Term Incentive Plan and the Corporation's 1996 Long-Term Incentive Plan. By signing this Transition Services Agreement, the Executive agrees to be bound by the terms of the Retirement Plan in all respects. 4. Employee Benefits. Following the Termination Date (or, if earlier, the date that the Executive's employment is terminated for "cause"), the Executive shall not be treated as or deemed to be an employee for purposes of participation or eligibility under any plan, program or arrangement maintained or sponsored by the Corporation or any of its subsidiaries or affiliates, other than as specifically provided in the second sentence of Section 1.2 and except as provided in the next sentence. If (x) in the sole, good faith judgment of the Chief Executive Officer of the Corporation the Executive has performed his obligations under this Transition Services Agreement to the best of his abilities, (y) the Corporation has achieved its targeted performance goals for 1998 and (z) the Executive has executed a general release when and as contemplated by Section 2, the Chief Executive Officer will recommend to the Compensation Committee that the Executive receive a cash bonus in respect of 1998 services equal to the cash bonus paid to the Executive in respect of 1997 services (determined by adding the amount of the Executive's cash bonus to the value of his restricted stock grants valued as of the date of grant), pro rated based on the portion of 1998 that the Executive is not deemed an "inactive" employee in accordance with this Transition Services Agreement. The Compensation Committee will take into account the Chief Executive Officer's recommendation in considering whether the Executive should receive a cash bonus in recognition of the Executive's performance, contribution and cooperation during 1998 and, if so, the amount of such bonus. The determination regarding the Executive's cash bonus for 1998 will be made at the time that the Compensation Committee generally considers bonus awards for employees in respect of 1998 services. In addition, if the Executive elects health, medical and dental welfare benefit continuation under the Consolidated Omnibus Budget Reconciliation Act of 1985, as amended ("COBRA"), the Corporation will pay the COBRA premium amounts required to maintain the same level and type of coverage the Executive (and his dependents, if applicable) enjoys on the date of this Transition Services Agreement for the period commencing January 1, 1999 and terminating on June 30, 2000. The payment referred to in the preceding sentence will be grossed-up by the Corporation to take account of income taxes payable by the Executive in respect of such payment. The Executive acknowledges that, for COBRA purposes only, a COBRA "qualifying event" will occur on December 31, 1998 and that the Executive's COBRA coverage period will commence on January 1, 1999. 5. Confidential Information. During the Executive's employment with the Corporation and for a period of four (4) years thereafter, the Executive shall hold in confidence and shall not, without the prior written consent of the Corporation, communicate, use or divulge to any person or entity any secret, confidential or proprietary information, knowledge or data (collectively, "Confidential Information") relating to the Corporation (and/or any of its subsidiaries or affiliates) which has been obtained by the Executive during or by reason of his employment with the Corporation and/or any of its subsidiaries or affiliates. Notwithstanding the foregoing, for purposes hereof, the term "Confidential Information" shall not include any information which (i) is or becomes publicly available without breach of this Transition Services Agreement or (ii) the Executive rightfully received from a third party without obligation of confidence. 6. Non-solicitation. For a period of four (4) years following the Termination Date (or, if earlier, the date that the Executive's employment is terminated for "cause"), the Executive shall not knowingly, directly or indirectly, (a) solicit or induce customers, clients, suppliers, agents or other persons under contract or otherwise associated or doing business with the Corporation or any subsidiary or affiliate of the Corporation (a "Business Associate"), or any of such persons or entities with whom the Corporation or any of its subsidiaries or affiliates is in active negotiations to become a Business Associate, to terminate, reduce or alter any such association or business with or from the Corporation or any subsidiary or affiliate of the Corporation, and/or (b) solicit or induce any person then in the employment of the Corporation or any subsidiary or affiliate of the Corporation (other than the Executive's current senior executive secretary) or any consultant to the Corporation or any subsidiary or affiliate of the Corporation to (i) terminate such employment or consulting arrangement, and/or (ii) accept employment, or enter into any consulting arrangement with anyone other than the Corporation or any subsidiary or affiliate of the Corporation. 7. Non-Disparagement; Publicity. Neither the Executive nor the Corporation will hereafter make any oral or written statement concerning the other to any person, company or agency which is not made in good faith and is intended to disparage or damage the personal or professional reputation or interfere with business opportunities of the Executive, on the one hand, or the Corporation and/or any of its subsidiaries or affiliates (and their respective directors and officers), on the other. (b) The Corporation will give the Executive a reasonable opportunity to review any press release or public filing with the Securities and Exchange Commission which announces the Executive's termination of employment with the Corporation, and the Corporation will consider in good faith any reasonable comments provided by the Executive on a timely basis with respect to such press release or filing. 8. Releases. 8.1 In consideration of the payments and benefits to the Executive under this Transition Services Agreement and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged by the Executive, the Executive knowingly, voluntarily and unconditionally hereby forever waives, releases and discharges, and covenants never to sue on, any and all claims, liabilities, causes of actions, judgments, orders, assessments, penalties, fines, expenses and costs (including without limitation attorneys' fees) and/or suits of any kind arising out of any actions, events or circumstances occurring before the date of this Transition Services Agreement ("Claims") which the Executive has, ever had or may have, or which the Executive's heirs, executors, administrators and assigns, or any of them hereafter can, shall or may have, against the Corporation and/or any of its subsidiaries, shareholders, officers, directors, agents, affiliates, employee benefit plan fiduciaries, trustees and administrators, and employees, past or present, and their respective heirs, successors and assigns (collectively, the "Releasees"), including, without limitation, any Claims arising in whole or in part from the Executive's employment with the Corporation and/or any of its subsidiaries or affiliates or the Letter Agreement or the termination of the Executive's employment with the Corporation or the manner of such termination; provided, however, that this Section 8 shall not apply to any of the obligations of the Corporation specifically provided for in or pursuant to this Transition Services Agreement. This Transition Services Agreement is intended as a full and final settlement and compromise of each, every and all Claims of every kind and nature, whether known or unknown, which have been or could be asserted against any of the Releasees, including, without limitation: (1) any Claims arising out of any employment agreement or other contract (including, without limitation, the Letter Agreement), side-letter, resolution, promise or understanding of any kind, whether written or oral or express or implied; and (2) any Claims arising under any federal, state, or local civil rights, human rights, anti-discrimination, labor, employment, contract or tort law, rule, regulation, order or decision, including, without limitation, the Family and Medical Leave Act, the Employee Retirement Income Security Act of 1974, the Americans with Disabilities Act of 1990, 42 U.S.C. S. 12101 et seq., and Title VII of the Civil Rights Act of 1964, 42 U.S.C. S. 2000 et seq., and as each of these laws have been or will be amended. 8.2 In consideration of the obligations of the Executive under this Transition Services Agreement and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged by the Corporation, the Corporation knowingly, voluntarily and unconditionally hereby forever waives, releases and discharges, and covenants never to sue on, any and all Claims arising out of any actions, events or circumstances occurring before the date of this Transition Services Agreement which the Corporation has, ever had or may have, including, without limitation, any Claims arising in whole or in part from the Executive's employment with the Corporation and/or any of its subsidiaries or affiliates or the Letter Agreement or the termination of the Executive's employment with the Corporation or the manner of said termination; provided, however, that this Section 8.2 shall not apply to any of the obligations of the Executive specifically provided for in or pursuant to this Transition Services Agreement. This Transition Services Agreement is intended as a full and final settlement and compromise of each, every and all Claims of every kind and nature, whether known or unknown, which have been or could be asserted against the Executive and his respective heirs, successors and assigns. 8.3 Notwithstanding anything to the contrary in Section 8.2, but subject to the other provisions of this Transition Services Agreement, the Executive does not release any claim he may have under any employee benefit plan, program or arrangement (including, without limitation, any qualified plans and related restoration plans) in which he was a participant during his employment with the Corporation or any of its subsidiaries for the payment of a benefit thereunder to which he would be entitled upon his termination of employment in accordance with the terms of any such plan, program or arrangement. 8.4 The Executive acknowledges that the Executive has carefully read and fully understands all of the terms of this Transition Services Agreement, including without limitation the releases contained herein. The Executive further acknowledges that the Executive has entered into this Transition Services Agreement willingly, freely, without duress or coercion and after having had explained to him by counsel of his choice, his rights under all laws referred to in this Transition Services Agreement and the terms and consequences of this Transition Services Agreement. The Executive also acknowledges that he has been given the opportunity to take at least twenty-one (21) days to consider and accept or reject this Transition Services Agreement and has chosen to execute, deliver and agree to this Transition Services Agreement as of the date of this Transition Services Agreement. The Executive agrees that the Executive has been given a fair, reasonable and sufficient time to fully consider all of the terms of this Transition Services Agreement. The Executive may revoke the portion of this Transition Services Agreement that relates to the release of any claim the Executive may have under the Age Discrimination in Employment Act of 1967 (including, without limitation, the Older Workers Benefit Protection Act) at any time within seven (7) days after the date of execution of this Transition Services Agreement by notifying the Corporation of such revocation in writing. Notwithstanding the foregoing, no such revocation shall affect or alter any other term or provision of this Transition Services Agreement or any other release granted hereunder, all of which shall survive any such revocation in accordance with their terms. 8.5 Except as specifically provided for in or pursuant to this Transition Services Agreement, the Executive shall not be entitled to any compensation, remuneration or other payments from the Corporation and/or the Corporation's subsidiaries or affiliates and the Corporation (and its subsidiaries and affiliates) shall have no further obligations to the Executive, including without limitation under any contract, plan, agreement, understanding or resolution. Without limiting the foregoing, except as expressly provided for in or pursuant to this Transition Services Agreement, the Executive shall have no further rights and shall be entitled to no further benefits under the Letter Agreement, which the Executive agrees is superseded in all respects by this Transition Services Agreement and shall be of no further force or effect on and as of the date hereof. 9. Scope of Agreement; Enforceability. This Transition Services Agreement (together with the exhibits hereto) constitutes the entire understanding and agreement between the Corporation and the Executive with regard to all matters herein and supersedes all prior oral and written agreements and understandings of the parties with respect to such matters, whether express or implied, including, to the extent provided in Section 8.5 of this Transition Services Agreement, the Letter Agreement. Notwithstanding the foregoing, this Transition Services Agreement shall not supersede the stock option and restricted share award agreements previously entered into between the Corporation and the Executive on the terms of the Corporation's 1993 Long-Term Incentive Plan and 1996 Long-Term Incentive Plan, which shall survive the execution and delivery of this Transition Services Agreement and the General Release and the termination of the Executive's employment with the Corporation and shall remain binding upon the Corporation and the Executive in accordance with their respective terms. This Transition Services Agreement shall inure to the benefit of and be enforceable by the Executive's heirs, beneficiaries and/or legal representatives. This Transition Services Agreement shall inure to the benefit of and be binding upon the Corporation and its respective successors and assigns. If any term or provision of this Transition Services Agreement, or the application thereof to any person or circumstances, will to any extent be invalid or unenforceable, the remainder of this Transition Services Agreement, or the application of such terms to persons or circumstances other than those as to which it is invalid or unenforceable, will not be affected thereby, and each term of this Transition Services Agreement will be valid and enforceable to the fullest extent permitted by law. 10. Remedies. The Executive acknowledges and agrees that the Corporation will have no adequate remedy at law for a breach of any of the provisions of Sections 5, 6 and/or 7 of this Transition Services Agreement, and would be irreparably harmed, if the Executive breaches any of the provisions of Sections 5, 6 and/or 7 of this Transition Services Agreement. The Executive further agrees that the Corporation shall be entitled to equitable and/or injunctive relief to prevent any breach or threatened breach of Sections 5, 6 and/or 7 of this Transition Services Agreement, and to specific performance of each of the terms of such Sections in addition to any other legal or equitable remedies that the Corporation may have. The Executive also agrees that he shall not, in any equity proceeding relating to the enforcement of the terms of Sections 5, 6 and/or 7 of this Transition Services Agreement, raise the defense that the Corporation has an adequate remedy at law. Anything herein to the contrary notwithstanding, the Corporation specifically hereby acknowledges and agrees that its remedies hereunder, in the event of a breach or an alleged breach of this Transition Services Agreement by the Executive, shall not include the right of offset against amounts otherwise due to the Executive hereunder. 11. Amendments/Waiver. This Transition Services Agreement may not be amended, waived, or modified otherwise than by a written agreement executed by the parties to this Transition Services Agreement or their respective successors and legal representatives. No waiver by any party to this Transition Services Agreement of any breach of any term, provision or condition of this Transition Services Agreement by the other party shall be deemed a waiver of a similar or dissimilar condition or provision at the same time, or any prior or subsequent time. 12. Notices. All notices and other communications hereunder shall be in writing and shall be deemed effective upon receipt if by hand-delivery to the other party, receipt if by facsimile transmission, the next business day if by overnight courier, or the third business day after mailing if by registered or certified mail, return receipt requested, postage prepaid, addressed as follows: If to the Executive: Edwin G. Pickett Green Valley Farm Route 2 Box 304X Aubrey, Texas 76227 If to the Corporation: TIG Holdings, Inc. 65 East 55th Street New York, New York 10022 Attn: General Counsel with a copy to: Milbank, Tweed, Hadley & McCloy 1 Chase Manhattan Plaza New York, New York 10005 Facsimile No.: 212-530-5219 Attn: Robert S. Reder, Esq. or to such other address as either party shall have furnished to the other in writing in accordance herewith. 12. Governing Law; Binding Effect. This Transition Services Agreement shall be governed by and construed and enforced in accordance with the laws of the State of New York without reference to its choice of law provisions, and shall be binding upon the parties and their respective heirs, executors, successors and assigns. 14. Counterparts. This Transition Services Agreement may be executed in counterparts, each of which shall be deemed to be an original, but which together shall constitute one and the same instrument. 15. Withholding. The Corporation may withhold from any amounts or benefits payable under this Transition Services Agreement such federal, state and local income and payroll taxes as shall be required to be withheld pursuant to any applicable law or regulation. IN WITNESS WHEREOF, the Corporation and the Executive have caused this Transition Services Agreement to be executed on and as of the date first above written. TIG HOLDINGS, INC. By: /s/Jon W. Rotenstreich Name: Jon W. Rotenstreich Title: Chairman and Chief Executive Officer /s/Edwin G. Pickett Executive NY1:#3167578v7 EXHIBIT A GENERAL RELEASE THIS GENERAL RELEASE (this "General Release") is made and entered into as of the ____ day of __________, 199_ by and between Edwin G. Pickett, residing at Green Valley Farm, Route 2, Box 304X, Aubrey, Texas 76227 (the "Executive"), and TIG Holdings, Inc., a Delaware corporation, having its principal executive offices at 65 East 55th Street, New York, New York 10022 (the "Corporation"). W I T N E S E T H: WHEREAS, the Executive and the Corporation have entered into a Transition Services Agreement dated as of June 11, 1998 (the "Transition Services Agreement") providing for the terms upon which the Executive has resigned and retired from his positions with the Corporation and its subsidiaries and affiliates; and WHEREAS, the Transition Services Agreement contemplates that, on the "Termination Date" under the Transition Services Agreement, the Executive and the Corporation will enter into this General Release; NOW, THEREFORE, the parties hereto, intending to be legally bound, agree as follows: 8. In consideration of the payments and benefits to the Executive under the Transition Services Agreement, and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged by the Executive, the Executive knowingly, voluntarily and unconditionally hereby forever waives, releases and discharges, and covenants never to sue on, any and all claims, liabilities, causes of actions, judgments, orders, assessments, penalties, fines, expenses and costs (including without limitation attorneys' fees) and/or suits of any kind arising out of any actions, events or circumstances occurring before the date of this General Release ("Claims") which the Executive has, ever had or may have, or which the Executive's heirs, executors, administrators and assigns, or any of them hereafter can, shall or may have, against the Corporation and/or any of its subsidiaries, shareholders, officers, directors, agents, affiliates, employee benefit plan fiduciaries, trustees and administrators, and employees, past or present, and their respective heirs, successors and assigns (collectively, the "Releasees"), including, without limitation, any Claims arising in whole or in part from the Executive's employment with the Corporation and/or any of its subsidiaries or affiliates, either before or after the execution and delivery of the Transition Services Agreement, or the letter agreement dated June 15, 1993 between the Executive and the Corporation, as supplemented by a letter dated June 22, 1993 (as so supplemented, the "Letter Agreement"), or the termination of the Executive's employment with the Corporation or the manner of such termination; provided, however, that this paragraph shall not apply to any of the obligations of the Corporation specifically provided for in or pursuant to the Transition Services Agreement. This General Release and the Transition Services Agreement are intended as a full and final settlement and compromise of each, every and all Claims of every kind and nature, whether known or unknown, which have been or could be asserted against any of the Releasees, including, without limitation: (1) any Claims arising out of any employment agreement or other contract (including, without limitation, the Letter Agreement), side-letter, resolution, promise or understanding of any kind, whether written or oral or express or implied; and (2) any Claims arising under any federal, state, or local civil rights, human rights, anti-discrimination, labor, employment, contract or tort law, rule, regulation, order or decision, including, without limitation, the Family and Medical Leave Act, the Employee Retirement Income Security Act of 1974, the Americans with Disabilities Act of 1990, 42 U.S.C. S. 12101 et seq., and Title VII of the Civil Rights Act of 1964, 42 U.S.C. S. 2000 et seq., and as each of these laws have been or will be amended. 2. In consideration of the obligations of the Executive under the Transition Services Agreement and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged by the Corporation, the Corporation knowingly, voluntarily and unconditionally hereby forever waives, releases and discharges, and covenants never to sue on, any and all Claims arising out of any actions, events or circumstances occurring before the date of this General Release which the Corporation has, ever had or may have, including, without limitation, any Claims arising in whole or in part from the Executive's employment with the Corporation and/or any of its subsidiaries or affiliates, either before or after the execution and delivery of the Transition Services Agreement, or the Letter Agreement or the termination of the Executive's employment with the Corporation or the manner of said termination; provided, however, that this paragraph shall not apply to any of the obligations of the Executive specifically provided for in or pursuant to the Transition Services Agreement. This General Release and the Transition Services Agreement are intended as a full and final settlement and compromise of each, every and all Claims of every kind and nature, whether known or unknown, which have been or could be asserted against the Executive and his respective heirs, successors and assigns. 3. Notwithstanding anything to the contrary in Section 8.2 of the Transition Services Agreement or in this General Release, but subject to the other provisions of the Transition Services Agreement and the Retirement Plan (as defined in the Transition Services Agreement), the Executive does not release any claim he may have under any employee benefit plan, program or arrangement (including, without limitation, any qualified plans and related restoration plans) in which he was a participant during his employment with the Corporation or any of its subsidiaries for the payment of a benefit thereunder to which he would be entitled upon his termination of employment in accordance with the terms of any such plan, program or arrangement. 4. The Executive acknowledges that the Executive has carefully read and fully understands all of the terms of this General Release and the Transition Services Agreement, including without limitation the releases contained herein and therein. The Executive further acknowledges that the Executive has entered into this General Release and the Transition Services Agreement willingly, freely, without duress or coercion and after having had explained to him by counsel of his choice, his rights under all laws referred to in this General Release and the Transition Services Agreement and the terms and consequences of this General Release and the Transition Services Agreement. The Executive also acknowledges that he has been given the opportunity to take at least twenty-one (21) days to consider and accept or reject this General Release and has chosen to execute, deliver and agree to this General Release as of the date of this General Release. The Executive agrees that the Executive has been given a fair, reasonable and sufficient time to fully consider all of the terms of the Transition Services Agreement. The Executive may revoke the portion of this General Release that relates to any claim the Executive may have under the Age Discrimination in Employment Act of 1967 (including, without limitation, the Older Workers Benefit Protection Act) at any time within seven (7) days after the date of execution of this General Release by notifying the Corporation of such revocation in writing. The Executive agrees that, in the event of any such revocation, the Corporation shall not be obligated to make the cash payment to the Executive contemplated by Section 2 of the Transition Services Agreement or to pay any cash bonus pursuant to Section 4 of the Transition Services Agreement. Notwithstanding the foregoing, no such revocation shall affect or alter any other term or provision of the Transition Services Agreement or any other release granted under this General Release, all of which shall survive any such revocation in accordance with their terms. 5. This General Release shall be governed by and construed and enforced in accordance with the laws of the State of New York without reference to its choice of law provisions, and shall be binding upon the parties and their respective heirs, executors, successors and assigns. If any provision of this General Release is held invalid or unenforceable for any reason, the remaining provisions shall not be affected thereby and shall be construed as if the invalid or unenforceable provision had not been included. 6. This General Release may be executed in counterparts, each of which shall be deemed to be an original, but which together shall constitute one and the same instrument. IN WITNESS WHEREOF, the Corporation and the Executive have caused this General Release to be executed on and as of the date first written above. TIG HOLDINGS, INC. By:__________________________ Name: Title: _____________________________ Executive EXHIBIT B TIG HOLDINGS, INC. SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN FOR EDWIN G. PICKETT I. Introduction TIG Holdings, Inc. (the "Company") hereby establishes the TIG Holdings, Inc. Supplemental Executive Retirement Plan for Edwin G. Pickett (the "Plan") to provide supplemental benefits to Edwin G. Pickett ("Participant"). II. Participation Participant shall be eligible to retire from the Company and all related and affiliated entities (collectively, the "Employer") effective as of the close of business on December 31, 1998, provided that: a) Participant executes a Transition Services Agreement in a form and containing such terms and conditions deemed appropriate by the Company's General Counsel; and b) Participant remains employed by the Employer through the close of business on December 31, 1998 under the terms of the Transition Services Agreement and Participant's employment thereunder is not terminated for "cause" as defined in such Agreement; and c) Participant resigns and retires from Employer on and effective as of the close of business on December 31, 1998; and d) Concurrent with his retirement, Participant executes and timely delivers to the Company a General Release in a form and containing such terms and conditions deemed appropriate by the Company's General Counsel. III. Benefits Participant shall be entitled to the following benefits hereunder upon his retirement and compliance with all terms and conditions specified above: Participant shall be deemed to have satisfied the definition of "Retirement" contained in his stock option agreements and restricted shares award agreements (as amended by resolution of the Compensation Committee of the Board of Directors of the Company on February 21, 1996 and May 2, 1996, respectively) under the TIG Holdings, Inc. 1993 Long-Term Incentive Plan, and contained in Section 2.21 of the TIG Holdings, Inc. 1996 Long-Term Incentive Plan ("1996 LTIP"), regardless of his actual age at time of retirement. Nothing herein shall entitle Participant to retiree medical coverage under the TIG Insurance Company Retiree HealthCare Plan. Medical coverage, if any, shall apply to Participant only as set forth in the Transition Services Agreement or as otherwise agreed in a writing signed by the Participant and the Company or its subsidiaries. IV. Miscellaneous The Plan shall be binding upon and shall inure to the benefit of the Employer, its successors, purchasers, and assigns, and Participant and his heirs, administrators, successors and assigns. ATTEST TIG HOLDINGS, INC. ________________________ By:________________________ Secretary Title:_____________________ EX-10 3 EXHIBIT 10:2 MARY R. HENNESSY EMPLOYMENT AGREEMENT August 18, 1998 Ms. Mary R. Hennessy 1 Nostrand Road Cranbury, New Jersey 08512 Re: Employment Agreement Dear Mary: The purpose of this letter agreement is to set forth the terms and conditions of your employment with TIG Holdings, Inc. (the "Company") for the employment period described below. Such terms and conditions shall be as follows: 1. Term of Employment; Renewal The term of your employment under this letter agreement shall commence on the date of this letter agreement (the "Effective Date") and, unless sooner terminated in accordance with paragraph 4 of this letter agreement or extended as provided below, shall terminate on the third annual anniversary of the Effective Date (the "Employment Period"). Commencing on the third annual anniversary of the Effective Date and on each annual anniversary of such date (each, a "Renewal Date"), the Employment Period shall be automatically extended so as to terminate on the first annual anniversary of each Renewal Date unless either the Company or you shall have given the other written notice, not less than sixty (60) days prior to any Renewal Date, of the Company's or your election, as the case may be, not to so extend the Employment Period, in which case the Employment Period shall terminate on such Renewal Date. The election by the Company not to extend the Employment Period in accordance with the preceding sentence shall not be deemed a termination without "cause" or give you grounds to terminate your employment for "good reason" for purposes of paragraph 4(b) of this letter agreement. 2. Position and Responsibilities During the Employment Period, you shall be employed as the President and Chief Operating Officer of the Company, having the duties, authority and responsibilities normally associated with the positions and offices of President and Chief Operating Officer of a publicly-traded corporation. In that position, you will report solely to the Chairman of the Board and Chief Executive Officer of the Company. During the Employment Period, you will devote your full attention and business time to the business and affairs of the Company and its subsidiaries, and you will use your best efforts to perform faithfully and efficiently and to discharge the duties and responsibilities assumed by you under this letter agreement. Nevertheless, you will be entitled to manage your personal affairs and to serve on community, corporate, civic, professional or charitable boards or committees, so long as such activities do not unreasonably interfere with the performance of your duties and responsibilities under this letter agreement. 3. Compensation; Stock Options Your base salary during the Employment Period shall be no less than $600,000 per year, payable in accordance with the Company's payroll practices as in effect from time to time. Your base salary will be reviewed annually by the Compensation Committee of the Company's Board of Directors (the "Compensation Committee") to determine whether an increase is warranted or appropriate. In addition, you shall be entitled to participate in the employment benefits provided by the Company under the TIG Executive Benefit Plan, including five (5) weeks of paid vacation. You also will be entitled to be considered for awards under the Company's then existing incentive bonus program which, in your case, will take into account individual and Company-wide performance, or such other performance criteria as the Compensation Committee may from time to time apply. It is understood and agreed that your initial target total annual compensation (i.e., base salary plus annual cash bonus plus the value of restricted stock grants valued as of the date of grant) will be $1.25 million. Your target total annual compensation will be reviewed annually by the Compensation Committee to determine whether an increase is warranted or appropriate. In addition, simultaneous with the execution and delivery of this letter agreement, you are being granted options to purchase 200,000 shares of common stock of the Company under the Company's 1996 Long-Term Incentive Plan, as amended from time to time (the "Plan"). The options will have an exercise price equal to the fair market value of the common stock of the company on the date of grant as determined in accordance with the Plan and will vest in four equal annual installments commencing on the first anniversary of the date of grant. The grant of such options will be evidenced by the Company's standard form Executive Non-Qualified Stock Option Agreement. 4. Termination of Employment (a) Your employment with the Company may be terminated prior to the scheduled expiration of the Employment Period (i) by the Company with or without "cause" (as defined below), (ii) by you with or without "good reason" (as defined below) or (iii) due to your death or disability in accordance with the applicable programs and policies of the Company. In the event that you wish to resign from the Company without "good reason" prior to the scheduled expiration of the Employment Period, you shall provide the Company with three (3) months' advance written notice and, in such case, the Company may terminate your employment prior to the end of such three (3) month period provided that the Company makes the payments to you described in paragraph (d) below. A termination of your employment by the Company as provided in the preceding sentence shall not be deemed a termination without "cause" or give you grounds to terminate your employment for "good reason" for purposes of paragraph (b) below. (b) In the event that your employment with the Company is terminated pursuant to paragraph (a) above (i) by the Company without "cause" or (ii) by you with "good reason", you shall be entitled to receive, in addition to accrued salary and benefits payable to you through the date of termination of your employment, a severance payment from the Company in the amount of $2,500,000; provided that if any such termination of employment occurs within two (2) years following a "change of control" (as such term is defined in the Company's 1996 Long-Term Incentive Plan) of the Company, the amount of the severance payment that you shall be entitled to receive shall be $3,000,000; provided further that the severance payments provided for in this paragraph shall be in lieu of any severance, bonus or retention payment that you otherwise would be entitled to receive upon termination of your employment with the Company and its subsidiaries (whether in the event of a "change of control" of the Company or otherwise) under the terms of any program or agreement maintained by the Company and its subsidiaries. The Company's obligation to make the severance payments referred to in this paragraph shall be conditioned on your execution of a general release agreement in accordance with the Company's customary practice. (c) In the event of the termination of your employment for one of the reasons described in paragraph (b) above, all outstanding restricted stock grants and stock options previously granted to you by the Company will automatically become fully vested as of the date of such termination, notwithstanding anything to the contrary contained in the terms or provisions of such grants or the related plans. (d) In the event that your employment with the Company is terminated pursuant to paragraph (a) above (i) by the Company for "cause", (ii) by you without "good reason" or (iii) due to your death or disability, you shall be entitled to receive only the accrued salary and benefits payable to you through the date of termination of your employment or otherwise payable to you under plans maintained by the Company in accordance with their terms and nothing else. In addition, in the event that you terminate your employment with the Company without "good reason" in accordance with the second sentence of paragraph 4(a) of this letter agreement, the Company shall be required (even if the Company subsequently elects to terminate your employment prior to the effective date of your termination in accordance with the second sentence of paragraph 4(a) of this letter agreement) to continue to provide you with your salary and benefits until the earlier of the effective date of your termination and the end of the Employment Period. (e) If, in the event of the termination of your employment for one of the reasons described in paragraph (b) above, you are required, pursuant to Section 4999 of the Internal Revenue Code of 1986, as amended (the "Code"), to pay (through withholding or otherwise) an excise tax on "excess parachute payments" (as defined in Section 280G of the Code), the Company shall pay you the amount necessary to place you in the same after-tax financial position that you would have been in if you had not incurred any excise tax liability under Section 4999 of the Code. In addition, it is hereby confirmed that the Company's obligations to you under the Tax Reimbursement Agreement dated November 11, 1996 between the Company and you will survive the termination of your employment with the Company for any reason. (f) For purposes of this letter agreement: (ii) "cause" means (x) an act or acts of personal dishonesty taken by you and intended to result in your material personal enrichment at the expense of the Company and its subsidiaries, excluding for this purpose any isolated, insubstantial or inadvertent action not taken in bad faith which is remedied by you in a reasonable period of time after receipt of reasonably prompt written notice thereof from the Company, (y) repeated violations by you of your obligations under this letter agreement which are demonstrably willful and deliberate and which are not remedied in a reasonable period of time by you after receipt of reasonably prompt written notice thereof from the Company or (z) your conviction of a felony involving moral turpitude; and (ii) "good reason" means (w) without your consent, the assignment to you of any duties inconsistent in any material respect with your position, authority, duties or responsibilities as contemplated by paragraph 2 of this letter agreement, excluding for this purpose any isolated, insubstantial or inadvertent action not taken in bad faith which is remedied by the Company in a reasonable period of time after receipt of reasonably prompt written notice thereof from you, (x) the sale or other disposition by the Company of all or substantially all of its primary insurance operations or its reinsurance operations, or if the head of the Company's primary insurance operations or reinsurance operations does not report directly to the Executive or to a subordinate of the Executive who reports directly to the Executive, (y) repeated violations by the Company of its obligations under this letter agreement which are demonstrably willful and deliberate and which are not remedied in a reasonable period of time by the Company after receipt of reasonably prompt written notice thereof from you, or (z) without your consent, the Company reduces your then current base salary or reduces your then current target total annual compensation. 5. Confidential Information During the Employment Period, you shall hold in a fiduciary capacity for the benefit of the Company and its subsidiaries all secret or confidential information, knowledge or data relating to the Company and its subsidiaries, and their respective businesses, which you shall have obtained as a result of your employment by the Company and which shall not be or become public knowledge (other than by acts taken by you in violation of this letter agreement) or which shall not be required to be disclosed by law, by applicable rule or regulation, by court order or by any recognized subpoena power. Following the end of the Employment Period and, if you remain employed with the Company following the end of the Employment Period, after the termination of your employment with the Company and its subsidiaries for any reason, you shall not, without the prior written consent of the Company, communicate or divulge any such information, knowledge or data to anyone other than the Company or its designees, except as may be required by law, by applicable rule or regulation, by court order or by any recognized subpoena power. 6. Non-Competition; Non-Solicitation During the Employment Period and, if your employment with the Company is terminated prior to the scheduled expiration of the Employment Period by the Company for "cause" or by you without "good reason", for six (6) months after the date of termination (in the case of paragraph (a) below) and for one (1) year after the date of termination (in the case of paragraph (b) below), without the prior consent of the Company, you will not, directly or indirectly: (a) either as principal, manager, agent, consultant, officer, stockholder, partner, investor, lender or employee or in any other capacity, carry on, engage in or have any financial interest in any business which is in competition with any of the businesses of the Company and its subsidiaries (a "Competing Business"); provided that you may act as an independent consultant to the insurance industry so long as (i) you are in compliance with your confidentiality obligations set forth in paragraph 5 of this letter agreement and (ii) you do not, on behalf of any Competing Business for whom you are acting as an independent consultant, solicit business from any customer or client of the Company or any of its subsidiaries, or any person, firm or company known to you as of the date of the termination of your employment to have been targeted for solicitation by the Company or any of its subsidiaries in the reasonably foreseeable future, or otherwise seek to disrupt or reduce the business provided by such customer or client to the Company and its subsidiaries; or (b) solicit or induce (i) customers, clients, suppliers, agents or other persons under contract or otherwise associated or doing business with the Company or any subsidiary or affiliate of the Company (a "Business Associate"), or any of such persons or entities with whom the Company or any of its subsidiaries or affiliates is in active negotiations to become a Business Associate, to terminate, reduce or alter any such association or business with or from the Company or any subsidiary or affiliate of the Company, and/or (ii) any person then in the employment of the Company or any subsidiary or affiliate of the Company or any consultant to the Company or any subsidiary or affiliate of the Company to (x) terminate such employment or consulting arrangement, and/or (y) accept employment, or enter into any consulting arrangement, with anyone other than the Company or any subsidiary or affiliate of the Company, provided, however, that this clause (y) shall not apply to a consultant who does not perform substantially all of such person's consulting services for the Company and its subsidiaries and affiliates. Nothing in subparagraph (a) of this paragraph 6 shall be construed to preclude you from investing in any publicly-held company, provided that your beneficial ownership of any class of any such company's securities does not exceed five percent (5%) of the outstanding securities of such class. 7. Successors and Assigns Without the prior written consent of the Company, your rights and obligations under this letter agreement shall not be assignable otherwise than by will or the laws of descent and distribution. This letter agreement shall (i) inure to the benefit of, and be enforceable by, your legal representatives and (ii) inure to the benefit of, be enforceable by, and be binding upon the Company and its successors and assigns. 8. Withholding The Company shall have the right to deduct from any payments due hereunder any amount in respect of federal, state or local taxes that the Company deems necessary to be withheld. 9. Resolution of Disputes Any disputes arising under or in connection with this letter agreement shall at the request of either party be resolved by binding arbitration in the Borough of Manhattan in New York, New York by three arbitrators, in accordance with the rules and procedures of the American Arbitration Association. Judgment upon the award rendered by the arbitrators may be entered in any court having jurisdiction thereof. Each party shall bear such party's own costs of the arbitration or litigation. 10. Notices All notices and other communications under this letter agreement shall be in writing and shall be deemed effective upon receipt if by hand-delivery to the other party, receipt if by facsimile transmission, the next business day if by overnight courier, or the third business day after mailing if by registered or certified mail, return receipt requested, postage prepaid, addressed as follows: If to you: Mary R. Hennessy 1 Nostrand Road Cranbury, New Jersey 08512 with a copy to: Sullivan & Cromwell 125 Broad Street New York, New York 10004-2498 Facsimile No.: 212-558-3588 Attn: Theodore O. Rogers, Jr., Esq. If to the Corporation: TIG Holdings, Inc. 65 East 55th Street New York, New York 10022 Attn: General Counsel with a copy to: Milbank, Tweed, Hadley & McCloy 1 Chase Manhattan Plaza New York, New York 10005 Facsimile No.: 212-530-5219 Attn: Robert S. Reder, Esq. or to such other address as either party shall have furnished to the other in writing in accordance herewith. 11. Expenses The Company will reimburse you for any amounts that you have paid or are required to pay to Sullivan & Cromwell as your legal counsel in connection with the negotiation, execution and delivery of this letter agreement. 12. Miscellaneous This letter agreement shall be governed by and shall be construed in accordance with the laws of the State of New York, without reference to the principles of conflict of laws thereof. If any provision of this letter agreement is held invalid or unenforceable for any reason, the remaining provisions shall not be affected thereby and shall be construed as if the invalid or unenforceable provision had not been included. This letter agreement contains the entire agreement between the Company and you with respect to the subject matter contained herein, and supersedes all prior agreements or prior understandings, whether oral or written, between the Company and you relating to such subject matter; provided that certain Tax Reimbursement Agreement dated November 11, 1996 between the Company and you, and that certain Indemnification Agreement dated November 11, 1996 between the Company and you, and any and all stock option agreements and restricted stock agreements between the Company and you shall all remain in full force and effect in accordance with their terms. This letter agreement may only be modified by a writing executed by each of the Company and you. * * * If you are in agreement with the terms of this letter agreement, please so indicate by signing in the space provided below, at which time this letter agreement will become a binding agreement between the Company and you. Very truly yours, TIG HOLDINGS, INC. By: /s/ Jon W. Rotenstreich Jon W. Rotenstreich Chairman of the Board and Chief Executive Officer AGREED AND ACCEPTED AS OF THE DATE FIRST ABOVE WRITTEN: /s/Mary R. Hennessy Mary R. Hennessy 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: November 13, 1998 TIG HOLDINGS, INC. By: /s/CYNTHIA B. KOENIG Name: Cynthia B. Koenig Title: Controller (Principal Accounting Officer) By: /s/LOUIS J. PAGLIA Name: Louis J. Paglia Title: Executive Vice President, Chief Financial Officer and Treasurer (Principal Financial Officer) 39 EX-27 4 FDS --
7 (Replace this text with the legend) 0000897430 TIG Holdings, Inc. 1,000,000 US Dollar 3-Mos Dec-31-1998 Apr-01-1998 Jun-30-1998 1.00 0 4,006 4,006 0 0 0 4,196 33 115 172 7,270 3,977 761 0 0 178 25 0 1,269 (66) 7,270 374 60 1 0 246 0 0 43 13 30 0 0 0 30 0.57 0.56 0 0 0 0 0 0 0
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