10-Q 1 0001.txt FORM 10-Q FOR EVEREST REINSURANCE HOLDINGS, INC. SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended: Commission File Number: June 30, 2000 1-13816 --------------------- ---------------------- Everest Reinsurance Holdings, Inc. ------------------------------------------------------ (Exact name of Registrant as specified in its charter) Delaware 22-3263609 ------------------------ ---------------------------- (State or other juris- (IRS Employer Identification diction of incorporation Number) or organization) Westgate Corporate Center Liberty Corner, New Jersey 07938-0830 ---------------------------- (908) 604-3000 ---------------------------- 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 the filing requirements for at least the past 90 days. YES X NO ----- ----- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: Number of Shares Outstanding Class at August 10, 2000 ----- ---------------------------- Common Stock, $.01 par value 1,000 EVEREST REINSURANCE HOLDINGS, INC. Index To Form 10-Q PART I FINANCIAL INFORMATION --------------------- Page ---- ITEM 1. FINANCIAL STATEMENTS -------------------- Consolidated Balance Sheets at June 30, 2000 (unaudited) and December 31, 1999 3 Consolidated Statements of Operations and Comprehensive Income for the three months and six months ended June 30, 2000 and 1999 (unaudited) 4 Consolidated Statements of Changes in Stockholders' Equity for the three months and six months ended June 30, 2000 and 1999 (unaudited) 5 Consolidated Statements of Cash Flows for the three months and six months ended June 30, 2000 and 1999 (unaudited) 6 Notes to Consolidated Interim Financial Statements 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION ----------------------------------------------------------- AND RESULTS OF OPERATIONS 17 ------------------------- ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 27 ---------------------------------------------------------- PART II OTHER INFORMATION ----------------- ITEM 1. LEGAL PROCEEDINGS 28 ----------------- ITEM 2. CHANGES IN SECURITIES None --------------------- ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ------------------------------- ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None --------------------------------------------------- ITEM 5. OTHER INFORMATION None ----------------- ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 28 -------------------------------- Part I - Item 1 EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED BALANCE SHEETS (Dollars in thousands, except par value per share)
June 30, December 31, ----------- ----------- 2000 1999 ----------- ----------- ASSETS: (unaudited) Fixed maturities - available for sale, at market value (amortized cost: 2000, $4,029,951; 1999, $3,940,625) $ 4,010,134 $ 3,885,278 Equity securities, at market value (cost: 2000, $23,035; 1999, $50,224) 41,984 90,693 Short-term investments 101,481 73,558 Other invested assets 28,666 27,482 Cash 66,169 62,227 ----------- ----------- Total investments and cash 4,248,434 4,139,238 Accrued investment income 64,042 64,898 Premiums receivable 338,716 294,941 Reinsurance receivables 759,552 742,513 Funds held by reinsureds 170,238 157,237 Deferred acquisition costs 93,396 82,713 Prepaid reinsurance premiums 22,040 9,582 Deferred tax asset 188,009 188,326 Other assets 30,836 24,854 ----------- ----------- TOTAL ASSETS $ 5,915,263 $ 5,704,302 =========== =========== LIABILITIES: Reserve for losses and adjustment expenses $ 3,605,768 $ 3,646,992 Unearned premium reserve 351,673 308,563 Funds held under reinsurance treaties 187,392 178,520 Losses in the course of payment 100,051 67,065 Contingent commissions 25,445 58,169 Other net payable to reinsurers 27,256 13,217 Current federal income taxes (14,894) (4,475) 8.5% Senior notes due 3/15/2005 249,578 - 8.75% Senior notes due 3/15/2010 198,969 - Revolving credit agreement borrowings 106,000 59,000 Interest accrued on debt and borrowings 11,849 106 Other liabilities 65,324 49,663 ----------- ----------- Total liabilities 4,914,411 4,376,820 ----------- ----------- STOCKHOLDERS' EQUITY: Common stock, par value: $0.01; 200 million shares authorized; 1,000 shares issued in 2000 and 50.9 million shares issued in 1999 - 509 Additional paid-in capital 253,177 390,912 Unearned compensation - (109) Accumulated other comprehensive income, net of deferred income taxes benefit of $1.1 million in 2000 and deferred income taxes benefit of $9.1 million in 1999 (7,802) (16,701) Retained earnings 755,477 1,074,941 Treasury stock, at cost; 0.0 million shares in 2000 and 4.4 million shares in 1999 - (122,070) ----------- ----------- Total stockholders' equity 1,000,852 1,327,482 ----------- ----------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 5,915,263 $ 5,704,302 =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. 3 EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (Dollars in thousands, except per share amounts)
Three Months Ended Six Months Ended June 30, June 30, ---------------------- ---------------------- 2000 1999 2000 1999 --------- --------- --------- --------- (unaudited) REVENUES: Premiums earned $ 285,780 $ 275,419 $ 551,964 $ 509,554 Net investment income 66,941 64,570 130,750 126,650 Net realized capital (loss) (8,185) (7,267) (321) (9,453) Other income/(expense) (370) (1,700) 440 (1,603) --------- --------- --------- --------- Total revenues 344,166 331,022 682,833 625,148 --------- --------- --------- --------- CLAIMS AND EXPENSES: Incurred loss and loss adjustment expenses 233,669 196,852 430,058 365,721 Commission, brokerage, taxes and fees 46,272 74,590 111,930 136,241 Other underwriting expenses 12,734 12,457 24,242 23,984 Interest expense on senior notes 9,722 - 11,342 - Interest expense on credit facility 1,888 283 3,351 283 --------- --------- --------- --------- Total claims and expenses 304,285 284,182 580,923 526,229 --------- --------- --------- --------- INCOME BEFORE TAXES 39,881 46,840 101,910 98,919 Income tax 8,340 8,775 21,319 19,612 --------- --------- --------- --------- NET INCOME $ 31,541 $ 38,065 $ 80,591 $ 79,307 ========= ========= ========= ========= Other comprehensive income/ (loss), net of tax (6,035) (68,671) 8,899 (98,521) --------- --------- --------- --------- COMPREHENSIVE INCOME/(LOSS) $ 25,506 $ (30,606) $ 89,490 $ (19,214) ========= ========= ========= =========
The accompanying notes are an integral part of the consolidated financial statements. 4 EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (Dollars in thousands, except per share amounts)
Three Months Ended Six Months Ended June 30, June 30, ----------------------- ----------------------- 2000 1999 2000 1999 ---------- ---------- ---------- ---------- (unaudited) COMMON STOCK (shares outstanding): Balance, beginning of period 1,000 49,006,740 46,457,817 49,989,204 Issued during the period - - 8,500 16,800 Treasury stock acquired during the period - (353,800) (648,400) (1,354,120) Treasury stock reissued during the period - 1,288 1,780 2,344 Common stock retired during the period - - (45,819,697) - Issued during the period - - 1,000 - ---------- ---------- ---------- ---------- Balance, end of period 1,000 48,654,228 1,000 48,654,228 ========== ========== ========== ========== COMMON STOCK (par value): Balance, beginning of period $ - $ 509 $ 509 $ 509 Common stock retired during the period - - (509) - Issued during the period - - - - ---------- ---------- ---------- ---------- Balance, end of period - 509 - 509 ---------- ---------- ---------- ---------- ADDITIONAL PAID IN CAPITAL: Balance, beginning of period 252,979 390,881 390,912 390,559 Retirement of treasury stock during the period - - (138,546) - Common stock issued during the period - - 157 307 Treasury stock reissued during the period - 10 (2) 25 Contribution from subsidiary 198 - 198 - Common stock retired during the period - - 458 - ---------- ---------- ---------- ---------- Balance, end of period 253,177 390,891 253,177 390,891 ---------- ---------- ---------- ---------- UNEARNED COMPENSATION: Balance, beginning of period - (200) (109) (240) Net increase during the period - 40 109 80 ---------- ---------- ---------- ---------- Balance, end of period - (160) - (160) ---------- ---------- ---------- ---------- ACCUMULATED OTHER COMPREHENSIVE INCOME, NET OF DEFERRED INCOME TAXES: Balance, beginning of period (1,767) 155,668 (16,701) 185,518 Net increase (decrease) during the period (6,035) (68,671) 8,899 (98,521) ---------- ---------- ---------- ---------- Balance, end of period (7,802) 86,997 (7,802) 86,997 ---------- ---------- ---------- ---------- RETAINED EARNINGS: Balance, beginning of period 723,914 966,737 1,074,941 928,500 Net income 31,541 38,065 80,591 79,307 Restructure adjustments 22 - (55) - Dividends paid to parent - (2,896) (400,000) (5,901) ---------- ---------- ---------- ---------- Balance, end of period 755,477 1,001,906 755,477 1,001,906 ---------- ---------- ---------- ---------- TREASURY STOCK AT COST: Balance, beginning of period - (58,344) (122,070) (25,642) Treasury stock retired during the period - - 138,454 - Treasury stock acquired during the period - (11,072) (16,426) (43,799) Treasury stock reissued during the period - 30 42 55 ---------- ---------- ---------- ---------- Balance, end of period - (69,386) - (69,386) ---------- ---------- ---------- ---------- TOTAL STOCKHOLDERS' EQUITY, END OF PERIOD $1,000,852 $1,410,757 $1,000,852 $1,410,757 ========== ========== ========== ==========
The accompanying notes are an integral part of the consolidated financial statements. 5 EVEREST REINSURANCE HOLDINGS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands)
Three Months Ended Six Months Ended June 30, June 30, ----------------------- ----------------------- 2000 1999 2000 1999 ---------- ---------- ---------- ---------- CASH FLOWS FROM OPERATING (unaudited) ACTIVITIES: Net income $ 31,540 $ 38,065 $ 80,591 $ 79,307 Adjustments to reconcile net income to net cash provided by operating activities: (Increase) decrease in premiums receivable (17,269) 9,411 (47,162) (16,841) Decrease (increase) in funds held, net 7,920 (23,492) (5,968) (20,098) (Increase) decrease in reinsurance receivables (26,843) 43,063 (18,146) 128,701 (Increase) in deferred tax asset (1,711) (2,110) (4,482) (9,182) (Decrease) in reserve for losses and loss adjustment expenses (2,213) (41,487) (15,864) (62,848) Increase (decrease) in unearned premiums 14,653 (1,343) 44,928 8,648 Decrease in other assets and liabilities (13,316) (32,190) (7,189) (9,963) Non cash compensation expense - 40 109 80 Accrual of bond discount/ amortization of bond premium (2,076) (1,228) (3,583) (2,540) Amortization of underwriting discount on senior notes 34 - 40 - Restructure adjustment 23 - (55) - Realized capital losses 8,185 7,267 321 9,453 ---------- ---------- ---------- ---------- Net cash (used in) provided by operating activities (1,073) (4,004) 23,540 104,717 ---------- ---------- ---------- ---------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from fixed maturities matured/called - available for sale 58,159 50,048 87,615 123,679 Proceeds from fixed maturities sold - available for sale 313,447 250,976 411,137 327,094 Proceeds from equity securities sold 4,917 2,620 47,580 2,620 Proceeds from other invested assets sold - 131 - 131 Cost of fixed maturities acquired - available for sale (379,238) (299,940) (625,678) (537,645) Cost of equity securities acquired (13) (645) (1,191) (645) Cost of other invested assets acquired (28) (67) (1,558) (1,829) Net (purchases) of short-term securities (643) (22,653) (26,349) (18,715) Net increase (decrease) increase in unsettled securities transactions 13,949 (6,023) 11,868 14,051 ---------- ---------- ---------- ---------- Net cash provided by (used in) investing activities 10,550 (25,553) (96,576) (91,259) ---------- ---------- ---------- ---------- CASH FLOWS FROM FINANCING ACTIVITIES: Acquisition of treasury stock net of reissuances - (11,042) (16,478) (43,729) Common stock issued during the period - 10 106 317 Dividends paid to stockholders - (2,896) (400,000) (5,901) Proceeds from issuance of senior notes - - 448,507 - Net borrowing on revolving credit agreement - 35,000 47,000 35,000 Contribution from subsidiary 198 - 198 - ---------- ---------- ---------- ---------- Net cash provided by (used in) financing activities 198 21,072 79,333 (14,313) ---------- ---------- ---------- ---------- EFFECT OF EXCHANGE RATE CHANGES ON CASH (2,211) (1,980) (2,355) (4,361) ---------- ---------- ---------- ---------- Net increase (decrease) increase in cash 7,464 (10,465) 3,942 (5,216) Cash, beginning of period 58,705 44,575 62,227 39,326 ---------- ---------- ---------- ---------- Cash, end of period $ 66,169 $ 34,110 $ 66,169 $ 34,110 ========== ========== ========== ========== SUPPLEMENTAL CASH FLOW INFORMATION: Cash transactions: Income taxes paid, net $ 32,026 $ 33,634 $ 37,016 $ 33,634 Interest paid $ 1,987 $ 213 $ 2,910 $ 213 Non-cash financing transaction: Issuance of common stock $ - $ 40 $ - $ 80
The accompanying notes are an integral part of the consolidated financial statements. 6 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 1. GENERAL On February 24, 2000, a corporate restructuring was completed and Everest Re Group, Ltd. ("Group") became the new parent holding company of Everest Reinsurance Holdings, Inc. (the "Company"), which remains the holding company for Group's U.S. based operations. The Company is filing this report as a result of its public issuance of debt securities on March 14, 2000. The consolidated financial statements of the Company for the three months and six months ended June 30, 2000 and 1999 include all adjustments, consisting of normal recurring accruals, which, in the opinion of management, are necessary for a fair presentation of the results on an interim basis. Certain financial information, which is normally included in annual financial statements prepared in accordance with generally accepted accounting principles has been omitted since it is not required for interim reporting purposes. The year end consolidated balance sheet data was derived from audited financial statements, but does not include all disclosures required by generally accepted accounting principles. The results for the three months and six months ended June 30, 2000 and 1999 are not necessarily indicative of the results for a full year. These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the years ended December 31, 1999, 1998 and 1997. 2. CONTINGENCIES The Company continues to receive claims under expired contracts which assert alleged injuries and/or damages relating to or resulting from toxic torts, toxic waste and other hazardous substances, such as asbestos. The Company's asbestos claims typically involve potential liability for bodily injury from exposure to asbestos or for property damage resulting from asbestos or products containing asbestos. The Company's environmental claims typically involve potential liability for (a) the mitigation or remediation of environmental contamination or (b) bodily injury or property damages caused by the release of hazardous substances into the land, air or water. The Company's reserves include an estimate of the Company's ultimate liability for asbestos and environmental claims for which ultimate value cannot be estimated using traditional reserving techniques. There are significant uncertainties in estimating the amount of the Company's potential losses from asbestos and environmental claims. Among the complications are: (a) potentially long waiting periods between exposure and manifestation of any bodily injury or property damage; (b) difficulty in identifying sources of asbestos or environmental contamination; (c) difficulty in properly allocating responsibility and/or liability for asbestos or environmental damage; (d) changes in underlying laws and judicial interpretation of those laws; (e) potential for an asbestos or environmental claim to involve many insurance providers over many policy periods; (f) long reporting delays, both from insureds to insurance companies and ceding companies to reinsurers; (g) historical data concerning asbestos and environmental losses, which is more limited than historical information on other types of casualty claims; (h) questions concerning interpretation and application of insurance and reinsurance coverage; and (i) 7 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 uncertainty regarding the number and identity of insureds with potential asbestos or environmental exposure. Although these complications have become less severe in recent years, management believes that these factors continue to render reserves for asbestos and environmental losses significantly less subject to traditional actuarial methods than are reserves on other types of losses. Given these uncertainties, management believes that no meaningful range for such ultimate losses can be established. The Company establishes reserves to the extent that, in the judgement of management, the facts and prevailing law reflect an exposure for the Company or its ceding companies. In connection with its initial public offering in October 1995, the Company purchased an aggregate stop loss retrocession agreement (the "Stop Loss Agreement") from Gibraltar Casualty Company ("Gibraltar"), an affiliate of the Company's former parent, The Prudential Insurance Company of America ("The Prudential"). This coverage protects the Company's consolidated earnings against up to $375.0 million of the first $400.0 million of adverse development, if any, on the Company's consolidated reserves for losses, allocated loss adjustment expenses and uncollectible reinsurance at June 30, 1995 (December 31, 1994 for catastrophe losses). Through June 30, 2000, cessions under the Stop Loss Agreement have aggregated $285.6 million with available remaining limits net of coinsurance of $89.4 million. Due to the uncertainties discussed above, the ultimate losses may vary materially from current loss reserves and, if coverage under the Stop Loss Agreement is exhausted, could have a material adverse effect on the Company's future financial condition, results of operations and cash flows. 8 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 The following table shows the development of prior year asbestos and environmental reserves on both a gross and net of retrocessional basis for the three months and six months ended June 30, 2000 and 1999:
(dollar amounts in thousands) Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------- Gross basis: Beginning of period reserves $ 598,046 $ 654,417 $ 614,236 $ 660,793 Incurred losses - 985 - 2,586 Paid losses (17,778) (15,909) (33,968) (23,886) ------------------------------------------------- End of period reserves $ 580,268 $ 639,493 $ 580,268 $ 639,493 ================================================= Net basis: Beginning of period reserves $ 357,085 $ 379,828 $ 365,069 $ 263,542 Incurred losses (1) - - - - Paid losses (2) (12,181) (6,815) (20,165) 109,471 ------------------------------------------------- End of period reserves $ 344,904 $ 373,013 $ 344,904 $ 373,013 =================================================
(1) No losses were ceded in either the three months or the six months ended June 30, 2000 or in the three months or six months ended June 30, 1999 under the incurred loss reimbursement feature of the Stop Loss Agreement. (2) No losses were ceded in either the three months or the six months ended June 30, 2000 and $0.0 million and $118.8 million were ceded as paid losses under the Stop Loss Agreement in the three months ended and the six months ended June 30, 1999, respectively. At June 30, 2000, the gross reserves for asbestos and environmental losses were comprised of $120.4 million representing case reserves reported by ceding companies, $78.1 million representing additional case reserves established by the Company on assumed reinsurance claims, $51.1 million representing case reserves established by the Company on direct excess insurance claims and $330.6 million representing incurred but not reported ("IBNR") reserves. To the extent loss reserves on assumed reinsurance need to be increased and were not ceded to unaffiliated reinsurers under existing reinsurance agreements, the Company would be entitled to partial reimbursements consistent with the terms of the Stop Loss Agreement. To the extent loss reserves on direct excess insurance policies needed to be increased and were not ceded to unaffiliated reinsurers under existing reinsurance agreements, the Company would be entitled to 9 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 100% protection from Gibraltar under a retrocessional agreement that has been in place since 1986. While there can be no assurance that reserves for and losses from these claims would not increase in the future, management believes that the Company's existing reserves and ceded reinsurance arrangements, including reimbursements available under the Stop Loss Agreement, lessen the probability that such increases, if any, would have a material adverse effect on the Company's financial condition, results of operations or cash flows. On February 24, 2000, the Company announced an agreement with The Prudential to acquire all of the issued and outstanding shares of Gibraltar for approximately $52.0 million. Closing of the acquisition will be subject to the satisfaction of customary closing conditions and the receipt of regulatory approvals. Upon the closing of the acquisition, the Company's current reinsurance contracts with Gibraltar, including the Stop Loss Agreement, will remain in effect. However, these contracts will become transactions with affiliates with the financial impact eliminated through inter-company accounts. The Prudential's guarantee of Gibraltar's obligations to the Company will be terminated. In connection with the acquisition, a subsidiary of The Prudential will provide reinsurance to Gibraltar covering 80% of the first $200.0 million of any adverse development in Gibraltar's reserves and The Prudential will guarantee the subsidiary's obligations to Gibraltar. The Company is involved from time to time in ordinary routine litigation and arbitration proceedings incidental to its business. The Company does not believe that there are any other material pending legal proceedings to which it or any of its subsidiaries or their properties are subject. The Prudential sells annuities, which are purchased by property and casualty insurance companies to settle certain types of claim liabilities. In 1993 and prior years, the Company, for a fee, accepted the claim payment obligation of these property and casualty insurers, and, concurrently, became the owner of the annuity or assignee of the annuity proceeds. In these circumstances, the Company would be liable if The Prudential were unable to make the annuity payments. The estimated cost to replace all such annuities for which the Company was contingently liable at June 30, 2000 was $141.7 million. The Company has purchased annuities from an unaffiliated life insurance company to settle certain claim liabilities of the Company. Should the life insurance company become unable to make the annuity payments, the Company would be liable for those claim liabilities. The estimated cost to replace such annuities at June 30, 2000 was $12.4 million. 10 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 3. OTHER COMPREHENSIVE INCOME The Company's other comprehensive income / (loss) is comprised as follows:
(dollar amounts in thousands) Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------- Net unrealized appreciation (depreciation) of investments, net of deferred income taxes ($ 6,681) ($ 71,248) $ 9,093 ($ 102,412) Currency translation 646 2,577 (194) 3,891 ------------------------------------------------- Other comprehensive income/(loss), net of deferred income taxes ($ 6,035) ($ 68,671) $ 8,899 ($ 98,521) =================================================
4. CREDIT LINE On December 21, 1999, the Company entered into a three-year senior revolving credit facility with a syndicate of lenders (the "Credit Facility"). First Union National Bank is the administrative agent for the Credit Facility. The Credit Facility will be used for liquidity and general corporate purposes and to refinance existing debt under the Company's prior credit facility, which has been terminated. The Credit Facility provides for the borrowing of up to $150.0 million with interest at a rate selected by the Company equal to either (i) the Base Rate (as defined below) or (ii) an adjusted London InterBank Offered Rate ("LIBOR") plus a margin. The Base Rate is the higher of the rate of interest established by First Union National Bank from time to time as its prime rate or the Federal Funds rate plus 0.5% per annum. The amount of margin and the fees payable for the Credit Facility depend upon the Company's senior unsecured debt rating. Group has guaranteed all of the Company's obligations under the Credit Facility. The Credit Facility requires Group to maintain a debt to capital ratio of not greater than 0.35 to 1, Holdings to maintain a minimum interest coverage ratio of 2.5 to 1 and Everest Reinsurance Company ("Everest Re") to maintain its statutory surplus at $850.0 million plus 25% of future aggregate net income and 25% of future aggregate capital contributions. The Company was in compliance with these requirements at June 30, 2000 as well as for the three months and the six months ended June 30, 2000. 11 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 As of June 30, 2000 and 1999, the Company had outstanding credit line borrowings of $106.0 million and $35.0 million, respectively. Interest expense incurred in connection with these borrowings was $3.4 million and $0.3 million for the periods ended June 30, 2000 and 1999, respectively. 5. SENIOR NOTES During the first quarter of 2000, the Company completed a public offering of $200.0 million principal amount of 8.75% senior notes due March 15, 2010 and $250.0 million principal amount of 8.5% senior notes due March 15, 2005. The Company distributed $400.0 million of these proceeds to Group, of which $250.0 million was used by Group to capitalize Everest Reinsurance (Bermuda), Ltd. Interest expense incurred in connection with these senior notes was $11.3 million for the period ended June 30, 2000. 6. SEGMENT REPORTING The Company, through its subsidiaries, operates in five segments: U.S. Broker Treaty, U.S. Direct Treaty Reinsurance and Insurance, U.S. Facultative, Marine, Aviation and Surety and International. The U.S. Broker Treaty operation writes property, casualty and accident and health reinsurance through reinsurance brokers within the United States. The U.S. Direct Treaty Reinsurance and Insurance operation writes property, casualty and accident and health reinsurance directly with ceding companies and primary property and casualty insurance through agency relationships and program administrators within the United States. The U.S. Facultative operation writes property, casualty and specialty business through brokers and directly with ceding companies within the United States. The Marine, Aviation and Surety operation writes marine, aviation and surety business within the United States and worldwide. The International operation writes reinsurance through the Company's branches in Belgium, London, Canada, Hong Kong and Singapore, in addition to foreign "home-office" business. The U.S. Facultative, Marine, Aviation and Surety and International operations write business through brokers and directly with ceding companies. 12 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 These segments are managed in a carefully coordinated fashion with strong elements of central control, including with respect to capital, investments and support operations. As a result, management monitors and evaluates the financial performance of these operating segments based upon their underwriting gain or loss ("underwriting results"). Underwriting results include earned premium less loss and loss adjustment expenses incurred, commission and brokerage expenses and other underwriting expenses. The following tables present the relevant underwriting results for the operating segments for the three months and six months ended June 30, 2000 and 1999, with all dollar values presented in thousands.
U.S. BROKER TREATY ------------------------------------------------------------------------------- Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------ Earned premiums $ 103,655 $ 102,558 $ 209,718 $ 177,883 Incurred losses and loss adjustment expenses 96,709 75,751 174,011 143,880 Commission and brokerage 1,223 24,392 23,271 44,272 Other underwriting expenses 2,536 2,528 4,880 4,764 ------------------------------------------------ Underwriting gain/(loss) $ 3,187 ($ 113) $ 7,556 ($ 15,033) =================================================
U.S. DIRECT TREATY REINSURANCE AND INSURANCE ------------------------------------------------------------------------------- Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------ Earned premiums $ 63,464 $ 52,192 $ 116,249 $ 88,222 Incurred losses and loss adjustment expenses 43,090 37,147 76,785 62,222 Commission and brokerage 14,137 14,514 29,688 24,587 Other underwriting expenses 3,370 3,729 6,651 5,929 ------------------------------------------------ Underwriting gain/(loss) $ 2,867 ($ 3,198) $ 3,125 ($ 4,516) ================================================
13 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999
U.S. FACULTATIVE ------------------------------------------------------------------------------- Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------ Earned premiums $ 18,247 $ 15,915 $ 35,096 $ 34,944 Incurred losses and loss adjustment expenses 12,698 9,051 23,739 20,338 Commission and brokerage 3,711 3,384 7,190 7,582 Other underwriting expenses 1,491 1,633 2,992 3,126 ------------------------------------------------ Underwriting gain/(loss) $ 347 $ 1,847 $ 1,175 $ 3,898 ================================================
MARINE, AVIATION AND SURETY ------------------------------------------------------------------------------- Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------ Earned premiums $ 25,473 $ 29,168 $ 49,761 $ 60,539 Incurred losses and loss adjustment expenses 24,447 20,314 42,299 40,604 Commission and brokerage 8,117 10,181 16,895 19,530 Other underwriting expenses 987 975 1,903 1,844 ------------------------------------------------ Underwriting gain/(loss) ($ 8,078) ($ 2,302) ($ 11,336) ($ 1,439) ================================================
INTERNATIONAL ------------------------------------------------------------------------------- Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 ------------------------------------------------ Earned premiums $ 74,941 $ 75,588 $ 141,140 $ 147,968 Incurred losses and loss adjustment expenses 56,722 54,590 113,224 98,678 Commission and brokerage 19,087 22,120 34,886 40,271 Other underwriting expenses 3,460 3,991 6,846 7,550 ------------------------------------------------ Underwriting gain/(loss) ($ 4,328) ($ 5,113) ($ 13,816) $ 1,469 ================================================
14 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 The following table reconciles the underwriting results for the operating segments to income before tax as reported in the consolidated statements of operations and comprehensive income, with all dollar values presented in thousands:
--------------------------------------------------- Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 --------------------------------------------------- Underwriting gain (loss) ($ 6,005) ($ 8,879) ($ 13,296) ($ 15,621) Net investment income 66,941 64,570 130,750 126,650 Realized gain (loss) (8,185) (7,267) (321) (9,453) Corporate expenses 890 (399) 970 771 Interest expense 11,610 283 14,693 283 Other income (expense) (370) (1,700) 440 (1,603) --------------------------------------------------- Income before taxes $ 39,881 $ 46,840 $ 101,910 $ 98,919 ===================================================
The Company writes premium in the United States and selected international markets. The revenues, net income and identifiable assets of any individual non-U.S. country in which the Company writes business are, in each case, less than 10% of the Company's consolidated results. 7. FUTURE APPLICATION OF ACCOUNTING STANDARDS The Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities". This statement requires all derivatives to be recognized as either assets or liabilities in the statement of financial position and to be measured at fair value. This statement shall be effective for all fiscal quarters of all fiscal years beginning after June 15, 2000. In June 2000, the Financial Accounting Standards Board amended SFAS No. 133 with SFAS No. 138, which facilitates the implementation of SFAS No. 133. Management believes that these statements will not have a material impact on the financial position of the Company. 8. RELATED-PARTY TRANSACTIONS During the normal course of business, the Company, through its affiliates, engages in arms-length reinsurance and brokerage and commission business transactions with companies controlled or affiliated with Group's outside directors. These transactions are immaterial to the Company's financial condition, results of operations and cash flows. 15 EVEREST REINSURANCE HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) (continued) FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999 In addition, the Company engages in business transactions with Group. The only material transaction with Group that occurred during the period ended June 30, 2000 was a $400.0 million distribution to Group to facilitate the completion of the corporate restructuring. 16 PART I - ITEM 2 EVEREST REINSURANCE HOLDINGS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS RESTRUCTURING On February 24, 2000, a corporate restructuring was completed and Everest Re Group, Ltd. ("Group") became the new parent holding company of Everest Reinsurance Holdings, Inc. (the "Company"), which remains the holding company for Group's U.S. based operations. The Company is filing this report as a result of its public issuance of debt securities on March 14, 2000. INDUSTRY CONDITIONS Since 1987, a number of factors, including the emergence of significant reinsurance capacity from the Bermuda and rejuvenated Lloyd's markets, higher retentions by primary insurance companies and consolidation and increased capital levels in the insurance industry, have caused increasingly competitive global market conditions across most lines of business and have influenced the softening of prices and contract terms in the current market place. Recently, market conditions, including industry-wide results of operations, have led to modest premium rate increases in some lines of insurance and reinsurance. Although the Company is encouraged by these improvements in some market conditions, the Company cannot predict with any reasonable certainty if, when or to what extent market conditions as a whole will change. SEGMENT INFORMATION The Company, through its subsidiaries, operates in five segments: U.S. Broker Treaty, U.S. Direct Treaty Reinsurance and Insurance, U.S. Facultative, Marine, Aviation and Surety and International. The U.S. Broker Treaty operation writes property, casualty and accident and health reinsurance through reinsurance brokers within the United States. The U.S. Direct Treaty Reinsurance and Insurance operation writes property, casualty and accident and health reinsurance directly with ceding companies and primary property and casualty insurance through agency relationships and program administrators within the United States. The U.S. Facultative operation writes property, casualty and specialty business through brokers and directly with ceding companies within the United States. The Marine, Aviation and Surety operation writes marine, aviation and surety business within the United States and worldwide. The International operation writes reinsurance through the Company's branches in Belgium, London, Canada, Hong Kong and Singapore, in addition to foreign "home-office" business. The U.S. Facultative, Marine, Aviation and Surety and International operations write business through brokers and directly with ceding companies. 17 These segments are managed in a carefully coordinated fashion with strong elements of central control, including with respect to capital, investments and support operations. As a result, management monitors and evaluates the financial performance of these operating segments based upon their underwriting results. THREE MONTHS ENDED JUNE 30, 2000 COMPARED TO THREE MONTHS ENDED JUNE 30, 1999 PREMIUMS. Gross premiums written increased 15.2% to $326.2 million in the three months ended June 30, 2000 from $283.2 million in the three months ended June 30, 1999 as the Company took advantage of selected growth opportunities, while continuing to generally maintain a disciplined underwriting approach. Premium growth areas included a 53.6% ($27.9 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation, mainly attributable to growth in accident and health reinsurance and primary insurance writings, a 33.4% ($5.3 million) increase in the U.S. Facultative operation, attributable to growth across all lines coupled with reporting variability, a 7.8% ($8.5 million) increase in the U.S. Broker Treaty operation, attributable to growth across its property and casualty lines and a 6.7% ($5.1 million) increase in the International operation. These increases were partially offset by a 12.0% ($3.7 million) decrease in the Marine, Aviation and Surety operation, reflecting the continued highly competitive current market conditions faced by this operation. The Company continued to decline business that did not meet its objectives regarding underwriting profitability. Ceded premiums increased to $31.1 million in the three months ended June 30, 2000 from $11.8 million in the three months ended June 30, 1999. This increase was principally attributable to adjustment premiums of $11.7 million ceded in 2000 relating to claims made under the 1999 accident year aggregate excess of loss element of the Company's corporate retrocessional program, together with the higher utilization of contract specific retrocessions in the U.S. Broker Treaty and U.S. Direct Reinsurance and Insurance operations. Net premiums written increased by 8.7% to $295.1 million in the three months ended June 30, 2000 from $271.4 million in the three months ended June 30, 1999. This increase was consistent with the increase in gross premiums written, partially offset by the increase in ceded premiums. PREMIUM REVENUES. Net premiums earned increased by 3.4% to $285.8 million in the three months ended June 31, 2000 from $275.4 million in the three months ended June 30, 1999. Contributing to this increase was a 21.6% ($11.3 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation, a 14.7% ($2.3 million) increase in the U.S. Facultative operation and a 1.1% ($1.1 million) increase in the U.S. Broker Treaty operation. These increases were partially offset by a 12.7% ($3.7 million) decrease in the Marine, Aviation and Surety operation and a 0.9% ($0.6 million) decrease in the International operation. All of these changes reflect period to period changes in net written premiums and business mix together with normal variability in earnings patterns. EXPENSES. Incurred loss and loss adjustment expenses ("LAE") increased by 18.7% to $233.7 million in the three months ended June 30, 2000 from $196.9 million in the three months ended June 30, 1999. The increase in incurred losses and LAE was principally attributable to the increase in net premiums earned together with strengthening of prior period reserves in select areas, including on a multi-year reinsurance treaty where such losses within the current experience band were accompanied by correspondingly lower commissions. This increase was 18 partially offset by losses ceded under the Company's corporate retrocessional program and the impact of changes in the Company's mix of business. Incurred losses and LAE include catastrophe losses, which include the impact of both current period events and favorable and unfavorable development on prior period events, and are net of reinsurance. Catastrophe losses, net of contract specific cessions but before cessions under the corporate retrocessional program, in the three months ended June 30, 2000 were $6.2 million, mainly reflecting modest net adverse development on 1999 catastrophe events, compared to net catastrophe losses of $6.2 million in the three months ended June 30, 1999. Net incurred losses and LAE for the three months ended June 30, 2000 reflected ceded losses and LAE of $40.5 million, including $23.5 million ceded under the 1999 accident year aggregate excess of loss component of the Company's corporate retrocessional program and $0.0 million ceded under the Stop Loss Agreement. Ceded losses and LAE in the three months ended June 30, 1999 were $8.9 million with no cessions under the Stop Loss Agreement or the accident year aggregate excess of loss component of the Company's corporate retrocessional program. Contributing to the increase in incurred losses and LAE in the three months ended June 30, 2000 from the three months ended June 30, 1999 were a 40.3% ($3.6 million) increase in the U.S. Facultative operation mainly attributable to increased premium volume, a 27.7% ($21.0 million) increase in the U.S. Broker Treaty operation attributable to the increased premium volume as well as the loss reserve strengthening on the multi-year reinsurance treaty noted above, an 20.3% ($4.1 million) increase in the Marine, Aviation and Surety operation, principally reflecting reserve strengthening relating to prior period aviation exposures, a 16.0% ($5.9 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation, principally as a result of increased premium volume and a 3.9% ($2.1 million) increase in the International operation due to reserve strengthening relating to prior period exposures, including 1999 accident year catastrophe losses. Incurred losses and LAE for each operation were also impacted by variability relating to changes in the level of premium volume and mix of business by class and type. The Company's loss and LAE ratio ("loss ratio"), which is calculated by dividing incurred losses and LAE by premiums earned, increased by 10.3 percentage points to 81.8% for the three months ended June 30, 2000 from 71.5% for the three months ended June 30, 1999 reflecting the incurred losses and LAE discussed above. The Marine, Aviation and Surety, U.S. Broker Treaty, U.S. Facultative and International operations' loss ratios increased to 96.0%, 93.3%, 69.6% and 75.7% for the three months ended June 30, 2000 from 69.6%, 73.9%, 56.9% and 72.2% for the three months ended June 30, 1999, respectively. The U.S. Direct Treaty Reinsurance and Insurance operations' loss ratio decreased to 67.9% for the three months ended June 30, 2000 from 71.2% for the three months ended June 30, 1999. The loss ratios for all operations are impacted by the factors noted above. Underwriting expenses decreased by 32.2% to $59.0 million in the three months ended June 30, 2000 from $87.0 million in the three months ended June 30, 1999. Commission, brokerage, taxes and fees decreased by $28.3 million, principally reflecting the Company's reassessment of the expected losses on the multi-year reinsurance treaty noted above that led to a $32.3 million decrease in contingent commissions with a corresponding increase to losses, partially offset by the increases in premiums written and changes in the business mix. Other underwriting expenses increased by $0.3 million. Contributing to these underwriting expense decreases were an 86.0% ($23.2 million) decrease in the U.S. Broker Treaty operation, which included the impact of the contingent commission adjustment noted above, an 18.4% ($2.1 million) decrease in the Marine, Aviation and Surety operation, a 13.6% ($3.6 million) decrease in the 19 International operation and a 4.0% ($0.8 million) decrease in the U.S. Direct Treaty Reinsurance and Insurance operation. These decreases were partially offset by a 3.7% ($0.2 million) increase in the U.S. Facultative operation. Except as noted, the changes for each operation's expenses principally resulted from changes in commission expenses related to changes in premium volume and business mix by class and type. The Company's expense ratio, which is calculated by dividing underwriting expenses by premiums earned, was 20.6% for the three months ended June 30, 2000 compared to 31.6% for the three months ended June 30, 1999. The Company's combined ratio, which is the sum of the loss and expense ratios, decreased to 102.4% in the three months ended June 30, 2000 compared to 103.1% in the three months ended June 30, 1999. The U.S. Broker Treaty, International and U.S. Direct Treaty Reinsurance and Insurance operations' combined ratios decreased to 96.9%, 105.8% and 95.5%, respectively, for the three months ended June 30, 2000 from 100.1%, 106.8% and 106.1%, respectively, for the three months ended June 30, 1999. The Marine, Aviation and Surety and U.S. Facultative operations' combined ratios increased to 131.7% and 98.1%, respectively, for the three months ended June 30, 2000 from 107.9% and 88.4%, respectively, for the three months ended June 30, 1999. These changes reflect the loss and expense ratio variability noted above. Interest expense for the three months ended June 30, 2000 was $11.6 million compared to $0.3 million for the three months ended June 30, 1999. Interest expense for the three months ended June 30, 2000 reflects $9.7 million relating to the Company's issuance of senior notes and $1.9 million relating to the Company's borrowing under it's revolving credit facility. Interest expense for the three months ended June 30, 1999 reflects $0.3 million relating to the Company's borrowing under its revolving credit facility. Other expense for the three months ended June 30, 2000 was $0.4 million compared to $1.7 million for the three months ended June 30, 1999. The change in other expense for the respective periods was principally attributable to the impact of fluctuations in foreign currency exchange rates. INVESTMENTS. Net investment income increased 3.7% to $66.9 million in the three months ended June 30, 2000 from $64.6 million in the three months ended June 30, 1999, principally reflecting the effect of investing the $122.3 million of cash flow from operations in the twelve months ended June 30, 2000 as well as the investment of $50.0 million in proceeds from the Company's debt issuance. The annualized pre-tax yield on average cash and invested assets was 6.3% in the three months ended June 30, 2000 and 1999. The imbedded pre-tax yield of cash and invested assets at June 30, 2000 was 6.6% compared with 6.2% at December 31, 1999, reflecting the additional funds invested over the intervening period, as well as the continued emphasis on enhancing investment yields through changes in asset mix, all in the context of changes in investment market conditions. Net realized capital losses were $8.2 million in the three months ended June 30, 200, reflecting realized capital losses on the Company's investments of $12.0 million, partially offset by $3.8 million of realized capital gains, compared to net realized capital losses of $7.3 million in the three months ended June 30, 1999. The net realized capital losses in the three months ended June 30, 1999 reflected realized capital losses of $8.5 million, partially offset by $1.2 million of realized capital gains. The realized capital losses in the three months ended June 30, 2000 and 1999 arose mainly from activity in the Company's 20 fixed maturity portfolio. The realized capital gains in the three months ended June 30, 2000 and 1999 arose mainly from activity in the Company's equity portfolio. INCOME TAXES. The Company recognized income tax expense of $8.3 million in the three months ended June 30, 2000 compared to $8.8 million in the three months ended June 30, 1999. NET INCOME. Net income was $31.5 million in the three months ended June 30, 2000 compared to $38.1 million in the three months ended June 30, 1999. This decrease generally reflects increased interest expense, partially offset by the improved underwriting and investment results. SIX MONTHS ENDED JUNE 30, 2000 COMPARED TO SIX MONTHS ENDED JUNE 30, 1999 PREMIUMS. Gross premiums written increased 17.4% to $630.5 million in the six months ended June 30, 2000 from $537.1 million in the six months ended June 30, 1999 as the Company took advantage of selected growth opportunities, while continuing to generally maintain a disciplined underwriting approach. Premium growth areas included a 53.9% ($52.6 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation, mainly attributable to growth in accident and health reinsurance and primary insurance writings, a 26.4% ($50.2 million) increase in the U.S. Broker Treaty operation, attributable to growth across its property and casualty lines and a 4.9% ($1.7 million) increase in the U.S. Facultative operation. These increases were partially offset by a 14.4% ($8.8 million) decrease in the Marine, Aviation and Surety operation and a 1.5% ($2.3 million) decrease in the International operation reflecting the continued highly competitive current market conditions faced by these operations. The Company continued to decline business that did not meet its objectives regarding underwriting profitability. Ceded premiums increased to $47.8 million in the six months ended June 30, 2000 from $23.1 million in the six months ended June 30, 1999. This increase was principally attributable to the higher utilization of contract specific retrocessions in the U.S. Broker Treaty and U.S. Direct Reinsurance and Insurance operations, together with adjustment premiums of $11.7 million ceded in 2000 relating to claims made under the 1999 accident year aggregate excess of loss element of the Company's corporate retrocessional program. Net premiums written increased by 13.4% to $582.7 million in the six months ended June 30, 2000 from $513.9 million in the six months ended June 30, 1999. This increase was consistent with the increase in gross premiums written, partially offset by the increase in ceded premiums. PREMIUM REVENUES. Net premiums earned increased by 8.3% to $552.0 million in the six months ended June 31, 2000 from $509.6 million in the six months ended June 30, 1999. Contributing to this increase was a 31.8% ($28.0 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation, a 17.9% ($31.8 million) increase in the U.S. Broker Treaty operation and a 0.4% ($0.2 million) increase in the U.S. Facultative operation. These increases were partially offset by a 17.8% ($10.8 million) decrease in the Marine, Aviation and Surety operation and a 4.6% ($6.8 million) decrease in the International operation. All of these changes reflect period to period changes in net written premiums and business mix together with normal variability in earnings patterns. EXPENSES. Incurred loss and LAE increased by 17.6% to $430.1 million in the six months ended June 30, 2000 from $365.7 million in the six months ended June 30, 1999. The increase in incurred losses and LAE was principally attributable to 21 the increase in net premiums earned together with strengthening of prior period reserves in select areas, including on a multi-year reinsurance treaty where such losses within the current experience band were accompanied by correspondingly lower commissions. This increase was partially offset by losses ceded under the Company's corporate retrocessional program and the impact of changes in the Company's mix of business. Incurred losses and LAE include catastrophe losses, which include the impact of both current period events and favorable and unfavorable development on prior period events and are net of reinsurance. Catastrophe losses, net of contract specific cessions but before cessions under the corporate retrocessional program, in the six months ended June 30, 2000 were $9.2 million, mainly reflecting modest net adverse development on 1999 catastrophe events, compared to net catastrophe losses of $17.6 million in the six months ended June 30, 1999. Net incurred losses and LAE for the six months ended June 30, 2000 reflected ceded losses and LAE of $57.3 million, including $23.5 million ceded under the 1999 accident year aggregate excess of loss component of the corporate retrocessional program and $0.0 million ceded under the Stop Loss Agreement. Ceded losses and LAE in the six months ended June 30, 1999 were $19.2 million with no cessions under the Stop Loss Agreement or the accident year aggregate excess of loss component of the corporate retrocessional program. Contributing to the increase in incurred losses and LAE in the six months ended June 30, 2000 compared to the six months ended June 30, 1999 were a 23.4% ($14.6 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation, principally as a result of increased premium volume, a 20.9% ($30.1 million) increase in U.S. Broker Treaty operation, attributable to the increased premium volume as well as the loss reserve strengthening on the multi-year reinsurance treaty noted above, a 16.7% ($3.4 million) increase in the U.S. Facultative operation, a 14.7% ($14.5 million) increase in the International operation due to reserve strengthening related to prior period exposures, including 1999 accident year catastrophe losses, partially offset by the decrease in premium volume, and a 4.2% ($1.7 million) increase in the Marine, Aviation and Surety operation, principally reflecting reserve strengthening relating to prior period aviation exposures, partially offset by the decrease in premium volume. Incurred losses and LAE for each operation were also impacted by variability relating to changes in the level of premium volume and mix of business by class and type. The Company's loss ratio increased by 6.1 percentage points to 77.9% for the six months ended June 30, 2000 from 71.8% for the six months ended June 30, 1999 reflecting the incurred losses and LAE discussed above. The U.S. Broker Treaty, International, Marine, Aviation and Surety and U.S. Facultative operations' loss ratios increased to 83.0%, 80.2%, 85.0% and 67.6% for the six months ended June 30, 2000 from 80.9%, 66.7%, 67.1% and 58.2% for the six months ended June 30, 1999, respectively. The U.S. Direct Treaty Reinsurance and Insurance operations' loss ratio decreased to 66.1% for the six months ended June 30, 2000 from 70.5% for the six months ended June 30, 1999. The loss ratios for all operations are impacted by the factors noted above. Underwriting expenses decreased by 15.0% to $136.2 million in the six months ended June 30, 2000 from $160.2 million in the six months ended June 30, 1999. Commission, brokerage, taxes and fees decreased by $24.3 million, principally reflecting the Company's reassessment of the expected losses on a multi-year reinsurance treaty noted above that led to a $32.3 million decrease in contingent commissions with a corresponding increase to losses, partially offset by the increases in premiums written and changes in the mix of business. Other underwriting expenses increased by $0.3 million. Contributing to the underwriting expense decreases were a 42.6% ($20.9 million) decrease in the U.S. Broker Treaty operation, which included the impact of the contingent commission 22 adjustment noted above, a 12.7% ($6.1 million) decrease in the International operation, a 12.1% ($2.6 million) decrease in the Marine, Aviation and Surety operation and a 4.9% ($0.5 million) decrease in the U.S. Facultative operation. These decreases were partially offset by a 19.1% ($5.8 million) increase in the U.S. Direct Treaty Reinsurance and Insurance operation. Except as noted, the changes for each operation's expenses principally resulted from changes in commission expenses related to changes in premium volume and business mix by class and type. The Company's expense ratio was 24.7% for the six months ended June 30, 2000 compared to 31.4% for the six months ended June 30, 1999. The Company's combined ratio decreased to 102.6% in the six months ended June 30, 2000 compared to 103.2% in the six months ended June 30, 1999. The U.S. Broker Treaty and U.S. Direct Treaty Reinsurance and Insurance operations' combined ratios decreased to 96.4% and 97.3%, respectively, for the six months ended June 30, 2000 from 108.5% and 105.1%, respectively, for the six months ended June 30, 1999. The International, Marine, Aviation and Surety and U.S. Facultative operations' combined ratios increased to 109.8%, 122.8% and 96.7%, respectively, for the six months ended June 30, 2000 from 99.0%, 102.4% and 88.8%, respectively, for the six months ended June 30, 1999. These changes reflect the loss and expense ratio variability noted above. Interest expense for the six months ended June 30, 2000 was $14.7 million compared to $0.3 million for the six months ended June 30, 1999. Interest expense for the six months ended June 30, 2000 reflects $11.3 million relating to the Company's issuance of senior notes and $3.4 million relating to the Company's borrowing under it's revolving credit facility. Interest expense for the six months ended June 30, 1999 reflects $0.3 million relating to the Company's borrowing under its revolving credit facility. Other income for the six months ended June 30, 2000 was $0.4 million compared to other expenses of $1.6 million for the six months ended June 30, 1999. The change in other income and expense for the respective periods was principally attributable to the impact of fluctuations in foreign currency exchange rates. INVESTMENTS. Net investment income increased 3.2% to $130.8 million in the six months ended June 30, 2000 from $126.7 million in the six months ended June 30, 1999, principally reflecting the effect of investing the $122.3 million of cash flow from operations in the twelve months ended June 30, 2000 as well as the investment of $50.0 million in proceeds from the Company's debt issuance. The annualized pre-tax yield on average cash and invested assets was 6.2% in the six months ended June 30, 2000 and 1999. The imbedded pre-tax yield of cash and invested assets at June 30, 2000 was 6.6% compared with 6.2% at December 31, 1999, reflecting the additional funds invested over the intervening period, as well as the continued emphasis on enhancing investment yields through changes in asset mix, all in the context of changes in investment market conditions. Net realized capital losses were $0.3 million in the six months ended June 30, 200, reflecting realized capital losses on the Company's investments of $19.7 million, partially offset by $19.4 million of realized capital gains, compared to net realized capital losses of $9.5 million in the six months ended June 30, 1999. The net realized capital losses in the six months ended June 30, 1999 reflected realized capital losses of $10.9 million, partially offset by $1.4 million of realized capital gains. The realized capital losses in the six months ended June 30, 2000 and 1999 arose mainly from activity in the Company's fixed 23 maturity portfolio. The realized capital gains in the six months ended June 30, 2000 and 1999 arose mainly from activity in the Company's equity portfolio. INCOME TAXES. The Company recognized income tax expense of $21.3 million in the six months ended June 30, 2000 compared to $19.6 million in the six months ended June 30, 1999. NET INCOME. Net income was $80.6 million in the six months ended June 30, 2000 compared to $79.3 million in the six months ended June 30, 1999. This increase generally reflects the decreases in net realized capital losses, together with the improved underwriting and investment results, partially offset by increased interest expense. FINANCIAL CONDITION INVESTED ASSETS. Aggregate invested assets, including cash and short-term investments, were $4,248.4 million at June 30, 2000 and $4,139.2 million at December 31, 1999. The increase in invested assets between December 31, 1999 and June 30, 2000 resulted primarily from the Company's issuance of senior notes from which $50.0 million was retained in the Company and subsequently invested, $47.0 million in credit facility borrowings, $35.6 million in net unrealized appreciation of the Company's fixed maturity investments and $23.5 million in cash flows from operations generated during the six months ended June 30, 2000. This increase was partially offset by $21.6 million in net unrealized depreciation of the Company's equity portfolio and $16.4 million in share repurchases. LIQUIDITY. The Company's liquidity requirements are met on both a short- and long-term basis by funds provided by premiums collected, investment income, collected reinsurance receivables balances and from the sale and maturity of investments together with the availability of funds under the Company's revolving credit facility. The Company's net cash flows from operating activities were $23.5 million and $104.7 million in the six months ended June 30, 2000 and 1999, respectively. These cash flows were impacted by recoveries under the Company's Stop Loss Agreement with Gibraltar, which contributed $9.5 million and $79.0 million of such net cash flows in the six months ended June 30, 2000 and 1999, respectively. Through June 30, 2000, cessions under the Stop Loss Agreement have aggregated $285.6 million with available remaining limits net of coinsurance of $89.4 million. These cash flows were also impacted by net catastrophe loss payments of $30.2 million and $20.5 million in the six months ended June 30, 2000 and 1999, respectively, net loss payments on asbestos and environmental exposures of $20.2 million and $9.3 million for the six months ended June 30, 2000 and 1999, respectively, and by net income taxes paid of $37.0 million and $33.3 million for the six months ended June 30, 2000 and 1999, respectively. Management believes that net cash flows from operating activities, after consideration of the factors noted above, are generally consistent with expectations given changes in the Company's mix of business over the past few years toward products with shorter loss development and payout periods and normal variability in the payout of loss reserves. On February 24, 2000, the Company announced an agreement with The Prudential to acquire all of the issued and outstanding shares of Gibraltar for approximately $52.0 million. Closing of the acquisition will be subject to the satisfaction of customary closing conditions and the receipt of regulatory approvals. 24 Upon the closing of the acquisition, the Company's current reinsurance contracts with Gibraltar, including the Stop Loss Agreement, will remain in effect. However, these contracts will become transactions with affiliates with the financial impact eliminated through inter-company accounts. The Prudential's guarantee of Gibraltar's obligations to the Company will be terminated. In connection with the acquisition, a subsidiary of The Prudential will provide reinsurance to Gibraltar covering 80% of the first $200.0 million of any adverse development in Gibraltar's reserves and The Prudential will guarantee the subsidiary's obligations to Gibraltar. Proceeds from sales, calls and maturities and investment asset acquisitions were $558.2 million and $654.8 million, respectively, in the six months ended June 30, 2000, compared to $467.6 million and $558.9 million, respectively, in the six months ended June 30, 1999. The activity in the six months ended June 30, 2000 generally reflected normal portfolio management activity aimed at enhancing the Company's portfolio yield along with investment asset acquisitions made utilizing $50.0 million of the proceeds from the Company's debt issuance. The Company's current investment strategy seeks to maximize after-tax income through a high quality, diversified, duration sensitive, taxable bond and tax-exempt municipal bond portfolio, while maintaining an adequate level of liquidity. On December 21, 1999, the Company entered into a three-year senior revolving credit facility with a syndicate of lenders (the "Credit Facility"), which replaced its prior credit facility which had been extended in June 1999 and increased from $50.0 million to $75.0 million on November 9, 1999. First Union National Bank is the administrative agent for the Credit Facility. The Credit Facility will be used for liquidity and general corporate purposes and to refinance existing debt under the Company's prior credit facility, which has been terminated. The Credit Facility provides for the borrowing of up to $150.0 million with interest at a rate selected by the Company equal to either (i) the Base Rate (as defined below) or (ii) an adjusted London InterBank Offered Rate ("LIBOR") plus a margin. The Base Rate is the higher of the rate of interest established by First Union National Bank from time to time as its prime rate or the Federal Funds rate plus 0.5% per annum. The amount of margin and the fees payable for the Credit Facility depend upon the Company's senior unsecured debt rating. Group has guaranteed all of the Company's obligations under the Credit Facility. The Credit Facility requires Group to maintain a debt to capital ratio of not greater than 0.35 to 1, the Company to maintain a minimum interest coverage ratio of 2.5 to 1 and Everest Re to maintain its statutory surplus at $850.0 million plus 25% of future aggregate net income and 25% of future aggregate capital contributions. The Company was in compliance with these requirements at June 30, 2000 as well as for the three months and six months ended June 30, 2000. At June 30, 2000 and 1999, the Company had outstanding borrowings under the Credit Facility of $106.0 million and $35.0 million, respectively. Interest expense incurred in connection with these borrowings was $3.4 million and $0.3 million for the periods ended June 30, 2000 and 1999, respectively. During the first quarter of 2000, the Company completed a public offering of $200.0 million principal amount of 8.75% senior notes due March 15, 2010 and $250.0 million principal amount of 8.5% senior notes due March 15, 2005. The Company distributed $400.0 million of these proceeds to Group of which $250.0 25 million was used by Group to capitalize Everest Reinsurance (Bermuda), Ltd. Interest expense incurred in connection with these senior notes was $11.3 million for the six months ended June 30, 2000. SHAREHOLDERS' EQUITY. The Company's shareholders' equity decreased to $1,000.9 million as of June 30, 2000, from $1,327.5 million as of December 31, 1999, principally reflecting a $400.0 million distribution to Group as a result of the Company's debt issuance and $16.4 million in treasury stock acquired in the three months ended March 31, 2000, partially offset by net income of $80.6 million for the six months ended June 30, 2000. Prior to the restructuring, the Company repurchased 0.648 million shares of its common shares at an average price of $25.23 per share, raising the total repurchases under the Company's authorized repurchase program to 4.718 million shares at an average price of $27.60 per share with a total repurchase expenditure to date of $130.3 million. As part of the Company's restructuring: (i) the treasury stock held by the Company prior to February 24, 2000 was retired, resulting in a reduction to treasury stock with a corresponding reduction of paid-in capital and common stock; (ii) all issued and outstanding common stock of the Company was retired, as the stockholders of the Company became shareholders of Group; and (iii) the Company issued 1,000 shares of common stock to Group as its sole stockholder. In support of Group's share repurchase plan, the Company purchased 2,000 shares of Group's common shares at an average price of $27.44 per share subsequent to the restructuring in the three months ended March 31, 2000. MARKET SENSITIVE INSTRUMENTS. The Company's risks associated with market sensitive instruments have not changed materially since the period ended December 31, 1999. SAFE HARBOR DISCLOSURE. In connection with the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 (the "Act"), the Company in its Form 10-K for the fiscal year ended December 31, 1999 set forth cautionary statements identifying important factors, among others, that could cause its actual results to differ materially from those which might be projected, forecasted or estimated in its forward-looking statements, as defined in the Act, made by or on behalf of the Company in press releases, written statements or documents filed with the Securities and Exchange Commission, or in its communications and discussions with investors and analysts in the normal course of business through meetings, phone calls and conference calls. These cautionary statements supplement other factors contained in this report which could cause the Company's actual results to differ materially from those which might be projected, forecasted or estimated in its forward-looking statements. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the Company's results to differ materially from such forward-looking statements. Such forward-looking statements may include, but are not limited to, projections of premium revenue, investment income, other revenue, losses, expenses, earnings (including earnings per share), cash flows, and common shareholders' equity (including book value per share), plans for future operations, investments, financing needs, capital plans, dividends, plans relating to products or services of the Company, and estimates concerning the effects of litigation or other disputes, as well as assumptions for any of the foregoing and are generally expressed with words such as "believes," "estimates," "expects," "anticipates," "plans," "projects," "forecasts," "goals," "could have," "may have" and similar expressions. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. 26 PART I - ITEM 3 EVEREST REINSURANCE HOLDINGS, INC. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK MARKET RISK INSTRUMENTS. The Company's risks associated with market sensitive instruments have not changed materially since the period ended December 31, 1999. 27 EVEREST REINSURANCE HOLDINGS, INC. OTHER INFORMATION Part II - ITEM 1. LEGAL PROCEEDINGS The Company is involved from time to time in ordinary routine litigation and arbitration proceedings incidental to its business. The Company does not believe that there are any other material pending legal proceedings to which it or any of its subsidiaries or their properties are subject. Part II - ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a) Exhibit Index: Exhibit No. Description Location ----------- ----------- -------- 10.1 Stock Purchase Agreement Incorporated between The Prudential Insurance herein by Company of America and Everest reference to Reinsurance Holdings, Inc. for the Exhibit 10.32 sale of common stock of Gibraltar to the Everest Casualty Company dated Re Group, Ltd. February 24, 2000 Annual Report on Form 10-K For the year ended December 31, 1999 10.2 Amendment No. 1 to Stock Purchase Agreement between The Prudential Insurance Company of America and Everest Reinsurance Holdings, Inc. for the sale of common stock of Gibraltar Casualty Company dated August 8, 2000 Filed herewith 27 Financial Data Schedule Filed herewith b) There were no reports on Form 8-K filed during the three-month period ending June 30, 2000. Omitted from this Part II are items which are inapplicable or to which the answer is negative for the period covered. 28 Everest Reinsurance 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. Everest Reinsurance Holdings, Inc. (Registrant) /S/ Stephen L. Limauro --------------------------------- Stephen L. Limauro Duly Authorized Officer and Principal Accounting Officer Senior Vice President and Chief Financial Officer Dated: August 10, 2000