-----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, MYUNcgXnxdmnRWJu1E3OhZ7JVFnVIEF3R3FGbRtSASj9yT62blHpsyjO+P0STY38 J5AcfkWaH6iXURb0eRukYQ== 0000912057-96-017515.txt : 19960814 0000912057-96-017515.hdr.sgml : 19960814 ACCESSION NUMBER: 0000912057-96-017515 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19960630 FILED AS OF DATE: 19960813 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: FIRST MERCURY FINANCIAL CORP CENTRAL INDEX KEY: 0000929186 STANDARD INDUSTRIAL CLASSIFICATION: UNKNOWN SIC - 0000 [0000] IRS NUMBER: 383164336 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 033-83382 FILM NUMBER: 96610760 BUSINESS ADDRESS: STREET 1: 29621 NORTHWESTERN HWY STREET 2: PO BOX 5096 CITY: SOUTHFIELD STATE: MI ZIP: 48034 BUSINESS PHONE: 8103584010 MAIL ADDRESS: STREET 1: 29621 NORTHWESTERN HGWY STREET 2: PO BOX 5096 CITY: SOUTHFIELD STATE: MI ZIP: 48086 10-Q 1 FORM 10-Q - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 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 June 30, 1996 Commission File Number 33-83382 FIRST MERCURY FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) Delaware 38-3164336 (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 29621 Northwestern Highway, P.O. Box 5096 Southfield, Michigan 48086 (Address of principal executive offices) (zip code) Registrant's telephone number, including area code: (810) 358-4010 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 --- --- The number of shares outstanding of the registrant's Common Stock, par value $.01, as of August 13, 1996 was 6,164.07. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- FIRST MERCURY FINANCIAL CORPORATION INDEX PART I. FINANCIAL INFORMATION Page No. -------- Item 1. Financial Statements Condensed Consolidated Balance Sheets; June 30, 1996 (Unaudited) and December 31, 1995 2 Condensed Consolidated Statements of Operations (Unaudited); Three Months and Six Months Ended June 30, 1996 and 1995 3 Condensed Consolidated Statements of Stockholders' Equity (Unaudited); Six Months Ended June 30, 1996 and 1995 4 Condensed Consolidated Statements of Cash Flows (Unaudited); Six Months Ended June 30, 1996 and 1995 5 Notes to Condensed Consolidated Financial Statements (Unaudited) 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 7 Part II. OTHER INFORMATION 12 FIRST MERCURY FINANCIAL CORPORATION Condensed Consolidated Balance Sheets
June 30, December 31, ASSETS 1996 1995 -------------- -------------- (Unaudited) Investments: Debt securities available for sale, at market value $ 74,688,912 77,626,804 Preferred stocks, at market 3,083,430 3,694,910 Short-term investments 4,014,085 4,413,700 -------------- -------------- Total investments 81,786,427 85,735,414 Cash and cash equivalents 2,746,404 2,336,140 Premiums and reinsurance balances receivable 3,053,803 3,095,948 Accrued investment income receivable 1,028,629 905,699 Other receivables 1,370,572 300,000 Reinsurance recoverable on unpaid losses 4,416,871 3,556,940 Prepaid reinsurance premiums 2,707,578 705,870 Deferred acquisition costs 1,098,361 1,673,291 Deferred federal income taxes 2,447,222 1,813,631 Federal income taxes recoverable 863,336 1,199,775 Fixed assets, net of accumulated depreciation 1,809,705 1,654,401 Other assets 914,613 1,068,272 -------------- -------------- Total assets $ 104,243,521 104,045,381 -------------- -------------- -------------- -------------- LIABILITIES AND STOCKHOLDERS' EQUITY Loss and loss adjustment expense reserves $ 57,277,022 56,570,332 Unearned premium reserves 8,603,673 8,800,175 Long-term debt 10,000,000 10,000,000 Ceded reinsurance payable 227,601 254,657 Accounts payable and accrued expenses 2,975,979 2,015,347 -------------- -------------- Total liabilities 79,084,275 77,640,511 Minority interest 2,730 3,634 Stockholders' equity: Cumulative preferred stock, issued and outstanding 20,850 shares 209 209 Common stock, issued and outstanding 6,164.07 shares 62 62 Gross paid-in and contributed capital 3,474,872 3,474,872 Unrealized gains (losses) on marketable securities, net of federal income taxes (86,144) 1,270,614 Retained earnings 21,767,517 21,655,479 -------------- -------------- Total stockholders' equity 25,156,516 26,401,236 -------------- -------------- Total liabilities and stockholders' equity $ 104,243,521 104,045,381 -------------- -------------- -------------- --------------
2 FIRST MERCURY FINANCIAL CORPORATION Condensed Consolidated Statements of Operations (Unaudited)
Three Months Ended Six Months Ended June 30, June 30, --------------------------- --------------------------- 1996 1995 1996 1995 ---- ---- ---- ---- Net earned premiums $ 6,581,880 7,308,450 14,477,527 14,196,175 Net investment income 1,314,120 1,349,341 2,709,833 2,678,608 Realized gains (losses) on the sale of investments 77,567 170,988 230,258 (216,902) Gain on assignment of non-standard automobile agency contracts 1,111,292 - 1,111,292 - Miscellaneous income 316,434 36,484 332,689 65,666 ------------ ------------ ------------ ------------ Total revenues and other income 9,401,293 8,865,263 18,861,599 16,723,547 ------------ ------------ ------------ ------------ Losses and loss adjustment expenses, net 4,906,835 5,417,364 12,414,469 10,695,560 Amortization of deferred acquisition expenses 1,200,096 1,517,899 3,017,369 2,845,472 Other underwriting expenses 1,152,951 1,267,862 2,112,022 2,403,971 Interest expense 307,284 275,000 605,891 547,029 ------------ ------------ ------------ ------------ Total expenses 7,567,166 8,478,125 18,149,751 16,492,032 ------------ ------------ ------------ ------------ Income before federal income taxes 1,834,127 387,138 711,848 231,515 Federal income taxes 501,510 195,000 255,785 30,000 ------------ ------------ ------------ ------------ Net income $ 1,332,617 192,138 456,063 201,515 ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ Per-share earnings $ 216.19 31.17 73.99 32.69 ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------
3 FIRST MERCURY FINANCIAL CORPORATION Condensed Consolidated Statements of Stockholders' Equity (Unaudited)
Net Unrealized Gross Paid-in Gains (Losses), Preferred Common and Contributed Net of Federal Retained Stock Stock Capital Income Taxes Earnings Total ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 1994 $ 209 62 3,437,372 (1,752,247) 22,051,234 23,736,630 Net income - - - - 201,515 201,515 Dividends paid to preferred stockholders - - - - (344,025) (344,025) Change in market values of marketable investment securities - - - 2,550,528 - 2,550,528 ------------ ------------ ------------ ------------ ------------ ------------ Balance at June 30, 1995 $ 209 62 3,437,372 798,281 21,908,724 26,144,648 ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ Balance at December 31, 1995 $ 209 62 3,474,872 1,270,614 21,655,479 26,401,236 Net income - - - - 456,063 456,063 Dividends paid to preferred stockholders - - - - (344,025) (344,025) Change in market values of - - marketable investment securities - - - (1,356,758) - (1,356,758) ------------ ------------ ------------ ------------ ------------ ------------ Balance at June 30, 1996 $ 209 62 3,474,872 (86,144) 21,767,517 25,156,516 ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------
4 FIRST MERCURY FINANCIAL CORPORATION Condensed Consolidated Statements of Cash Flows (Unaudited)
Six Months Ended June 30, -------------------------------- 1996 1995 ---- ---- Net cash used in operating activities $ (746,700) (317,636) Cash flows from investing activities: Cost of short-term investments acquired (19,973,655) (24,903,058) Proceeds from disposals of short-term investments 20,373,270 32,178,488 Cost of debt securities acquired (10,373,212) (28,818,656) Proceeds from maturities of debt securities 4,620,066 2,739,672 Proceeds from debt securities sold 7,122,117 19,443,422 Cost of equity securities acquired (575,411) - Proceeds from equity securities sold 1,090,212 - Other, net (232,398) (43,725) ------------ ------------ Net cash provided by investing activities 2,050,989 596,143 ------------ ------------ Cash flows used in financing activities: Interest payments on senior subordinated notes (550,000) (550,000) Dividends paid to preferred stockholders (344,025) (344,025) ------------ ------------ Net cash used in financing activities (894,025) (894,025) ------------ ------------ Net increase (decrease) in cash and cash equivalents 410,264 (615,518) Cash and cash equivalents at beginning of period 2,336,140 2,290,376 ------------ ------------ Cash and cash equivalents at end of period $ 2,746,404 1,674,858 ------------ ------------ ------------ ------------
5 FIRST MERCURY FINANCIAL CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. The accompanying unaudited condensed consolidated financial statements of First Mercury Financial Corporation and subsidiaries (the "Company") have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and note disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. In management's opinion, all adjustments, consisting of normal recurring adjustments, which are necessary for a fair presentation of financial position and results of operations, have been made. It is recommended that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes related thereto included in the December 31, 1995 annual report on Form 10-K. The results of operations for the six month period ended June 30, 1996, are not necessarily indicative of the results to be expected for the full year. 2. Per share earnings are computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. 6 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS First Mercury Financial Corporation ("Mercury") is an insurance holding company incorporated in Delaware in December 1993 and engaged, through its subsidiaries, in the underwriting of specialty commercial lines and non-standard automobile insurance for individuals. Mercury's subsidiaries are First Mercury Syndicate, Inc. (the "Syndicate"), an Illinois business corporation and insurance syndicate member of the Illinois Insurance Exchange ("IIE"), First Mercury Insurance Company ("FMIC"), a newly formed Illinois property and casualty insurance company wholly owned by the Syndicate, and All Nation Insurance Company ("All Nation") and its wholly owned subsidiary, National Family Insurance Corporation ("National Family"), both Minnesota property and casualty insurance companies. Mercury and its subsidiaries are referred to herein as the "Company." National Family has been in rehabilitation under the supervision of the Minnesota Commissioner of Commerce and the Ramsey County District Court in Minnesota since 1966. Under generally accepted accounting principles, because All Nation currently lacks voting control over National Family, the financial statements of National Family are not consolidated with the financial statements of the Company. On April 30, 1996, an agreement was entered into between Mercury, All Nation, Allstate Insurance Company ("Allstate") and its wholly owned subsidiary, Deerbrook Insurance Company ("Deerbrook"), for the assignment of the independent agent contracts to Deerbrook and the ceding of associated prospective premium to Allstate on the agency-produced non-standard automobile business of All Nation. Neither Allstate nor Deerbrook are affiliates of Mercury or its subsidiaries. The agreement was effective May 1, 1996. The stated price for the independent agent contracts and associated prospective premium was $2.4 million with another $2.4 million paid by Allstate in exchange for a non-compete clause and various financial guarantees. On June 28, 1996, the Syndicate formed an Illinois property and casualty insurance subsidiary, FMIC, with an initial capitalization of $5 million and a subsequent $15 million contribution to surplus. The formation of FMIC, a licensed Illinois reinsurer, provided Mercury with an affiliated insurance company in which to place coverages previously offered by the Syndicate and in which to reinsure the Syndicate's outstanding liabilities. Under a loss portfolio transfer effected June 28, 1996, the Syndicate transferred approximately $35 million in loss and loss adjustment expense reserves and corresponding assets to FMIC, resulting in net loss and loss adjustment expense reserves remaining in the Syndicate of approximately $4 million. In conjunction with the formation of FMIC and the loss portfolio transfer, on July 8, 1996, the Syndicate notified the IIE of its intention to withdraw from the IIE. In July 1996, FMIC and Empire Fire and Marine Insurance Company ("Empire") tentatively agreed upon a quota share 7 reinsurance arrangement whereby Empire will write on a direct basis the coverages previously offered by the Syndicate and cede 50% of such business to FMIC. RESULTS OF OPERATIONS The following table reflects revenues of the Company for the three month and six month periods ended June 30, 1996 and 1995:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30, 1996 1995 1996 1995 ------------------- ------------------ -------------------- ------------------- AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT ------ ------- ------ ------- ------ ------- ------ ------- (DOLLARS IN THOUSANDS) ---------------------- NET PREMIUMS EARNED: Specialty commercial lines: Security, fire and alarm. . . . . . . $2,091 31.8% 1,984 27.1% $4,189 28.9% 3,940 27.8% Police. . . . . . . . . . . . . . . . 216 3.3 638 8.7 508 3.5 1,423 10.0 Public officials. . . . . . . . . . . 170 2.6 262 3.6 356 2.5 542 3.8 Other . . . . . . . . . . . . . . . . 206 3.1 332 4.5 513 3.5 599 4.2 Non-standard automobile lines: Agency auto liability . . . . . . . . 2,815 42.8 2,965 40.6 6,382 44.1 5,626 39.6 Direct auto liability . . . . . . . . 183 2.8 210 2.9 395 2.7 325 2.3 Agency auto physical damage . . . . . 769 11.6 823 11.3 1,852 12.8 1,588 11.2 Direct auto physical damage . . . . . 132 2.0 94 1.3 283 2.0 153 1.1 ------ ----- ------ ----- ------- ----- ------- ----- Total net premiums earned. . . . . . . . $6,582 100.0% $7,308 100.0% $14,478 100.0% $14,196 100.0% ------ ----- ------ ----- ------- ----- ------- ----- ------ ----- ------ ----- ------- ----- ------- -----
NET PREMIUMS EARNED Net premiums earned for the three months ended June 30, 1996 and the six months ended June 30, 1996 declined 9.9% and increased 2.0%, respectively, in comparison to the year earlier periods. The Company's specialty commercial lines, security, fire, alarm, police, public official and miscellaneous commercial coverages, decreased 16.6% and 14.4%, respectively, for the three months and six months ended June 30, 1996 versus the three months and six months ended June 30, 1995. Net premiums earned for security, fire and alarm coverages, however, increased 5.4% and 6.3%, respectively, in the second quarter of 1996 and in the first six months of 1996, when compared to the same periods in the prior year. The Company has experienced a 50% increase in policy counts for the six months ended June 30, 1996 in comparison to the year earlier period for these coverages. This increase has been offset by declining premium rates in the first two quarters of 1996. During the first quarter of 1996, the Company decided to non-renew a substantial amount of the police business, resulting in a 57.1% and 56.0% decrease in net premiums earned for police and public official coverages (often provided in tandem) for the three months and the six months ended June 30, 1996 in comparison to the three months and six months ended June 30, 1995. The Company has been actively pursuing a workers' compensation program as a complementary product to the security, fire and alarm coverages currently provided. 8 Net premiums earned for private passenger non-standard automobile coverages increased 15.9% for the six months ended June 30, 1996 in comparison to the year earlier period. The increase in the first six months of 1996 resulted primarily from the Company's commutation effective September 30, 1995 of a 17.5 percent non-standard automobile quota share reinsurance agreement with Prime Syndicate, Inc. For the three months ended June 30, 1996, however, net premiums earned for private passenger non-standard automobile coverages decreased 4.7% from the comparable period of the preceding year. The decrease in non-standard automobile net premiums earned in the second quarter resulted from the 100% reinsurance of all of the Company's agency-produced non-standard automobile premium with Allstate effective May 1, 1996. Net premiums earned for direct response non- standard automobile coverages have remained relatively stable for the first six months of 1996 versus the first six months of 1995, however, the Company intends to refocus its efforts toward direct response coverages starting in the third quarter of 1996. NET INVESTMENT INCOME AND REALIZED INVESTMENT GAINS (LOSSES) Net investment income decreased approximately $35,000 for the three months ended June 30, 1996 as compared to the three months ended June 30, 1995. For the six months ended June 30, 1996, net investment income increased $31,000 in comparison to the same period of the preceding year. The Company's pre-tax yield on average invested assets declined to 6.3% for the six months ended June 30, 1996 as compared to 6.4% for the first six months of 1995. For the three months ended June 30, 1996, the Company realized a net gain on the sale of investments of $78,000 versus a net gain of $171,000 for the same period in the prior year. The Company recognized a net gain on the sale of investments of $230,000 for the six months ended June 30, 1996 as compared to a $217,000 net loss for the six months ended June 30, 1995. The net loss in 1995 primarily resulted from the Company's decision to reduce its investments in tax- exempt securities in the first quarter of 1995. At June 30, 1996, the unrealized loss on investments available for sale, net of tax, was $86,000 in comparison to a $1.3 million unrealized gain as of December 31, 1995. The market value of the Company's portfolio has been adversely affected by the increase in interest rates in the first two quarters of 1996. GAIN ON ASSIGNMENT OF AGENCY CONTRACTS AND MISCELLANEOUS INCOME The gain on the assignment of the All Nation agency contracts of $1.1 million was recognized in the second quarter of 1996. The gain recognized represents the net present value of the related payments from Deerbrook reduced by All Nation's estimated liability for losses under the quota share reinsurance contract and costs attendant with the sale of a line of business. Revenue related to the non-compete clause has not been recognized as of June 30, 1996 but will be recognized over the term of the non-compete agreement. In the three months ended June 30, 1996, All Nation also recognized approximately $220,000 of ceding fees under its quota share reinsurance arrangement with Allstate. LOSS AND LOSS ADJUSTMENT EXPENSES Loss and loss adjustment expenses incurred decreased 9.4% to $4.9 million for the three months ended June 30, 1996 from $5.4 million for the three months ended June 30, 1995. For the six months ended June 30, 1996, loss and loss adjustment expenses incurred increased 16.1% versus 9 the comparable period in the preceding year. The loss and loss adjustment expense ratio for private passenger automobile coverages increased to 90.3% for the six months ended June 30, 1996 as compared to 77.4% for the six months ended June 30, 1995. The increase resulted from several factors. During 1995, the Company experienced declining rates due to competitive pressures in the non- standard automobile business placed through independent agents. In addition, the Company experienced adverse loss frequency in the first quarter of 1996. The Company implemented rate increases in all states during March 1996 in an effort to recognize pricing inadequacies and second quarter results have improved from the 103% loss ratio experienced in the first quarter of 1996. Under the quota share reinsurance agreement with Allstate, all agency-produced non-standard automobile premium incepting subsequent to May 1, 1996 and the related losses have been ceded to Allstate. Within the specialty commercial lines, the loss and loss adjustment expense ratio increased to 75.8% for the six months ended June 30, 1996 versus 72.9% for the comparable period in the preceding year. The 1995 loss ratio reflects a release of reserve redundancies approximating $200,000. There were no reserve redundancy releases in the first six months of 1996. AMORTIZATION OF DEFERRED ACQUISITION COSTS, OTHER UNDERWRITING EXPENSES AND INTEREST EXPENSE Amortization of deferred acquisition costs and other underwriting expenses represent the Company's costs to generate premium volume. For the second quarter of 1996, acquisition costs and other underwriting expenses decreased approximately $433,000 to $2.4 million as compared to $2.8 million for the same period in the preceding year. For the six months ended June 30, 1996, amortization of deferred acquisition costs and other underwriting expenses decreased $120,000 to $5.1 million versus $5.2 million for the same period in the preceding year. The Company's underwriting expense ratio increased in the first six months of 1996 to 38.9% in comparison to 36.2% for the six months ended June 30, 1995. The increase in the expense ratio occurred due to a $115,000 writedown of deferred acquisition costs resulting from the loss ratios on the Company's non-standard automobile business, and declining premium writings in the first six months of 1996. FEDERAL INCOME TAXES The effective tax rate for the six months ended June 30, 1996 of 35.9% has increased from the effective tax rate for the first two quarters of 1995 of 13.0%. The Company has substantially eliminated tax-exempt securities in its portfolio since the first quarter of 1995, resulting in an effective tax rate closer to the federal tax rate of 34%. NET INCOME Net income for the three months ended June 30, 1996 was $1.3 million compared to $192,000 for the same period in the preceding year, primarily due to the recognition of the gain on the assignment of the non-standard automobile agency contracts to Deerbrook of $1.1 million. For the first six months of 1996, net income was $456,000 versus $202,000 for the six months ended June 30, 1995. Net income for the first two quarters of 1996 includes the gain on the assignment of $1.1 million and realized gains on investment sales of $230,000 while the results for the six months ended June 30, 1995 include realized losses on investment sales of $217,000. Excluding these two items, the Company experienced a net loss of $885,000 for the six months ended June 30, 1996 as compared to net income of $418,000 for the six months ended June 30, 1995, primarily due to increases in the loss and loss adjustment expense ratio and the underwriting expense ratio, as previously discussed. 10 LIQUIDITY AND CAPITAL RESOURCES Mercury is a holding company whose principal assets are its investment in the capital stock of the Syndicate, FMIC and All Nation. Generally, Mercury is dependent upon the receipt of dividends from the Syndicate and All Nation to fund any necessary cash requirements, including debt service expenses. The Syndicate and All Nation are restricted by regulation as to the amount of dividends they may pay without regulatory approval. The Syndicate's board of directors has authorized dividend payments from the Syndicate to Mercury of up to $2.0 million during 1996. In addition, Mercury anticipates cash payments from Deerbrook of $1.2 million each in 1996 and 1997, respectively, for the non- compete agreement. The Company believes these amounts are sufficient to meet Mercury's current cash flow requirements. The Company's subsidiaries' primary sources of cash flow are from premiums collected and amounts earned from the investment of this cash flow. The principal uses of funds are the payment of claims and related expenses and other operating expenses. The Company's insurance operations utilized cash of $747,000 during the six months ended June 30, 1996 as compared to $318,000 in the first two quarters of 1995. The decreased cash flow primarily resulted from a decline in premium revenues at All Nation under the quota share reinsurance agreement with Allstate. At June 30, 1996, the insurance subsidiaries maintained cash and cash equivalents and short-term investments of $5.2 million to meet short-term payment obligations. In addition, the Company's investment portfolio is heavily weighted toward short-term fixed maturities and a portion of the portfolio could be liquidated without material adverse financial impact should further liquidity be necessary. As part of its investment strategy, and as required by debt covenants, the Company establishes a level of cash and highly liquid short- and intermediate- term securities which, combined with expected cash flow, is believed adequate to meet foreseeable payment obligations. As part of this strategy, the Company attempts to maintain an appropriate relationship between the average duration of the investment portfolio and the approximate duration of its liabilities. The weighted average maturity of the Company's fixed income portfolio as of June 30, 1996 was approximately three years. 11 FIRST MERCURY FINANCIAL CORPORATION PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company's subsidiaries are subject to routine legal proceedings in connection with their property and casualty insurance business. Neither Mercury nor any of its subsidiaries are involved in any pending or threatened legal proceedings which reasonably could be expected to have a material adverse impact on the Company's financial condition or results of operations. ITEM 2. CHANGES IN SECURITIES Not applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders during the second quarter of 1996. ITEM 5. OTHER INFORMATION Effective in July 1996, the Company has entered into a letter of intent to purchase a Michigan insurance agency. Purchase price and other terms are subject to the results of due diligence proceedings to be performed within a 90 day period of exclusive dealing. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a. EXHIBITS 10.20 Reinsurance Agreement effective June 28, 1996 between the Syndicate and FMIC. b. REPORTS ON FORM 8-K No report on Form 8-K was filed by the Registrant during the quarter ended June 30, 1996. 12 SIGNATURE 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. FIRST MERCURY FINANCIAL CORPORATION Date: August 13, 1996 By: /s/ William S. Weaver ------------------------------ William S. Weaver Chief Financial Officer (Principal Financial Officer and duly authorized to sign on behalf of the Registrant) 13 EX-10.20 2 EXHIBIT 10.20 EXHIBIT 10.20 REINSURANCE AGREEMENT THIS REINSURANCE AGREEMENT (this "Agreement") is made and entered into to be effective as of the 28th day of June, 1996, by and between FIRST MERCURY SYNDICATE, INC., an Illinois corporation and syndicate on the Illinois Insurance Exchange (the "Company"), and FIRST MERCURY INSURANCE COMPANY, an Illinois insurance corporation (the "Reinsurer"). WHEREAS, the Company previously has negotiated and entered into certain property, liability and other insurance policies, reinsurance agreements and conducted other business incidental thereto through the effective date hereof; and WHEREAS, the Company desires to transfer and cede, on an indemnity basis, certain of its existing and future liabilities, rights and obligations relating to certain business conducted by it prior to the effective date hereof to Reinsurer, and Reinsurer desires to accept and assume such liability, rights and obligations. NOW, THEREFORE, in consideration of the foregoing premises and the mutual agreements set forth herein, the parties hereto agree as follows: SECTION 1. The Company hereby transfers and cedes to Reinsurer, and Reinsurer hereby accepts and reinsures, on an indemnity basis, all of the Company's liabilities and obligations relating to any and all insurance or reinsurance business which it may have conducted prior to the date hereof and to any renewals of such business or other policies issued by the Company thereafter that are required by contract or applicable law; provided, however, that the Company is not transferring or ceding to Reinsurer (I) any unearned premium reserves, (ii) the Company's police claims made class of business, or (iii) any of the Company's liabilities which are not directly related to the losses and loss adjustment expenses on the Reinsured Business (as defined below), such as any liabilities relating to the Company's membership on the Illinois Insurance Exchange. The liabilities and 14 obligations transferred and ceded hereunder are referred to herein as the "Reinsured Business". In addition, the Company hereby transfers and conveys to Reinsurer, and Reinsurer hereby accepts, (a) all files, books and records in the Company's possession that are associated with the Reinsured Business, (b) all rights that the Company possesses with respect to ownership of the Reinsured Business and the police claims made class of business, -C- all other assets relating to the Reinsured Business, and (d) all other rights (but not the liabilities or obligations) relating to the police claims made class of business. The Company and Reinsurer agree to perform such additional acts and execute such additional documents and agreements as may be necessary or desirable to carry out the purposes and objectives of this Agreement and this Section in particular, it being the specific intent of the parties that the Company be relieved of each and every duty, obligation and liability which has or may accrue as a result of any Reinsured Business. SECTION 2. In consideration for the transfer and reinsurance of liability set forth in Section 1 hereof, on the effective date hereof, the Company shall pay to Reinsurer, in the form of cash or other acceptable assets at market value, a reinsurance premium equal to the dollar value of the Company's statutory loss and loss adjustment expense reserves relating to the Reinsured Business, plus all premiums received by the Company after the effective date hereof with respect to the Reinsured Business. SECTION 3. The unearned premium on the statutory financial statements of the Company shall be ceded to the Reinsurer on an "earned basis," such that as the Company's unearned premium is earned, the Company shall pay to Reinsurer the amount of such earned portion NET of a ceding commission at the same rates of commission paid or payable by the Company to its agents, brokers or other producers. SECTION 4. Pursuant to its obligations under this Agreement, Reinsurer shall indemnify the Company for liabilities reinsured in connection with the Reinsured Business. Additionally, at the request of the Company, Reinsurer, in its sole discretion, may provide the Company in advance with funds the Company reasonably anticipates to be necessary to pay its liabilities and obligations in connection with the Reinsured Business. SECTION 5. Company represents and warrants that Mercury Management, Inc., a Michigan corporation that provides certain administrative services to the Company, and CoverX Corporation, a Michigan corporation that provides certain production and underwriting services to the Company, will continue to be obligated to provide their designated services with respect to the Reinsured Business, including their various claims handling and reporting functions. SECTION 6. As promptly as possible after the Company or its claims service providers receive notice of a claim with respect to the Reinsured Business, the Company or its claims service providers shall provide Reinsurer with full information pertaining thereto. At Reinsurer's request, the Company and its claims service providers shall cooperate fully with Reinsurer in adjudicating and settling claims. The Company and Reinsurer each shall provide to the other all financial information necessary for each to complete its insurance regulatory and other reporting requirements. SECTION 7. Within twenty (20) days after the end of each calendar month, the Company shall render a monthly account to Reinsurer summarizing the credits and debits to their intercompany account, as well as the net balance due to the Company or Reinsurer. Such account shall include amounts advanced to the Company by Reinsurer pursuant to Section 4 hereof. The balance due to either party shall be paid within forty-five (45) days after the end of the month at issue. SECTION 8. If any of the Reinsured Business has been previously reinsured or retroceded to 15 another reinsurer prior to the effective date of this Agreement, Reinsurer shall assume all of the obligations of the Company under such prior reinsurance or retrocession agreements, and the Company hereby assigns to Reinsurer all of its interest under such prior reinsurance or retrocession agreements. If, for any reason, any of the obligations and interests of the Company under such prior reinsurance or retrocession agreements cannot be effectively assigned by the Company and assumed by Reinsurer, or if such an assignment and assumption in any way jeopardizes a recovery under such prior reinsurance or retrocession agreements, this Agreement shall be deemed not to apply to the effected agreement and the Company and Reinsurer shall take all steps necessary to preserve recovery under the effected agreement. SECTION 9. The liabilities and obligations of Reinsurer with respect to any of the Reinsured Business shall in no way be abrogated, diminished or altered in the event of the insolvency, change of ownership, control or character, change or loss of license or authority or any other change of the Company. In the event of insolvency of the Company, the reinsurance under this Agreement shall be payable by the Reinsurer to the Company or to its liquidator, receiver or statutory successor on the basis of liability of the Company under the policy or policies reinsured without diminution because of the insolvency of the Company except as provided by law or except where the policy, treaty or contract specifically provides another payee of such reinsurance in the event of the insolvency of the Company. SECTION 10. This Agreement shall be governed and construed in accordance with the laws of the State of Illinois, without regard to principles of conflicts of law. SECTION 11. The parties agree that this Agreement is the complete and exclusive statement of the agreement between the parties and supersedes all proposals, contracts or agreements, either oral or written, and all other communication between the parties relating to the subject matter hereof. This Agreement may not be altered, modified or amended except by an instrument in writing duly executed by proper officers or other authorized representatives of each party. SECTION 12. If any provision of this Agreement is held by a court of competent jurisdiction or other authority to be invalid, void, unenforceable or against public policy, the remainder of the provisions of this Agreement shall remain in full force and effect and shall in no way be affected, impaired or invalidated, and the affected provision shall be modified to the minimum extent necessary to render it valid and enforceable. SECTION 13. All the terms and provisions of this Agreement shall be binding upon, inure to the benefit of and be enforceable by the respective successors and assigns of the parties hereto. Neither of the parties hereto may assign its rights or delegate its duties hereunder without the written consent of the other party. SECTION 14. The effective date of this Agreement shall be June 28, 1996, and this Agreement shall remain in full force and effect until all liabilities reinsured hereunder have been satisfied. Notwithstanding the foregoing, the arrangement set forth in Section 3 of this Agreement may be terminated by either party hereto following sixty (60) days' written notice of termination to the other party. SECTION 15. Notwithstanding Section 14 of this Agreement, the reinsurance of liabilities relating to the Reinsured Business hereunder may be commuted by either party hereto following sixty (60) days' written notice thereof to the other party. Within forty-five (45) days following such commutation date, the Company shall provide Reinsurer with an actuarial determination, reasonably acceptable to Reinsurer, of all remaining unpaid losses and loss adjustment expenses, both reported and unreported, relating to the Reinsured Business (the "Commuted Losses"). 16 Effective as of the commutation date, the Company shall re-assume all liabilities previously transferred with respect to the remaining portion of the Reinsured Business, and Reinsurer shall pay to the Company acceptable assets in the amount of the Commuted Losses. Payment by Reinsurer to the Company in the amount of the Commuted Losses shall constitute a complete and final release of Reinsurer with respect to liabilities relating to the Reinsured Business. In the event of such a commutation, the arrangement set forth in Section 3 of this Agreement shall be terminated effective as of the commutation date described above. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the 28th day of June, 1996. FIRST MERCURY SYNDICATE, INC. BY: /s/ Jerome. M. Shaw ------------------------------------- NAME: Jerome M. Shaw ----------------------------------- ITS: President ------------------------------------ FIRST MERCURY INSURANCE COMPANY BY: /s/ Richard H. Smith ------------------------------------- NAME: Richard H. Smith ----------------------------------- ITS: President ------------------------------------ 17 EX-27 3 FINANCIAL DATA SCHEDULE
7 1,000 3-MOS DEC-31-1995 JUN-30-1996 74,689 0 0 3,083 0 0 81,786 2,746 716 1,098 104,244 0 8,604 57,277 0 10,000 0 0 0 3,475 104,244 14,478 2,710 230 1,444 12,414 3,017 2,112 712 256 456 0 0 0 456 74.0 74.0 53,014 12,882 (243) 4,939 7,854 52,860 0
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