-----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, MRNHy42vumLwEa2QY+lOFK+7JpkBCV67iLw9YJnTe/TWu/DI+lz2kDsxzzXXIOk2 cPnsLngEbzxsxh3b7cKXTg== 0000356130-99-000002.txt : 19990330 0000356130-99-000002.hdr.sgml : 19990330 ACCESSION NUMBER: 0000356130-99-000002 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 25 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990329 FILER: COMPANY DATA: COMPANY CONFORMED NAME: EMC INSURANCE GROUP INC CENTRAL INDEX KEY: 0000356130 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 426234555 STATE OF INCORPORATION: IA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-10956 FILM NUMBER: 99575361 BUSINESS ADDRESS: STREET 1: 717 MULBERRY ST CITY: DES MOINES STATE: IA ZIP: 50309 BUSINESS PHONE: 5152802902 10-K 1 1998 EMC INSURANCE GROUP INC 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [No Fee Required] For the Fiscal Year Ended December 31, 1998 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [No Fee Required] For the transition period from___________to___________ Commission File Number: 0-10956 EMC INSURANCE GROUP INC. ------------------------------------------------------ (Exact Name of Registrant as Specified in its Charter) Iowa 42-6234555 - ------------------------------- ---------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 717 Mulberry Street, Des Moines, Iowa 50309 - -------------------------------------- ---------- (Address of Principal Executive Office) (Zip Code) Registrant's telephone number, including area code: (515) 280-2902 ------------------ Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, Par Value $1.00 ----------------------------- (Title of Class) 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 ----- ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] The aggregate market value of the voting stock held by non-affiliates of the registrant as of March 1, 1999 was $40,938,766. The number of shares outstanding of the registrant's common stock, $1.00 par value, on March 1, 1999, was 11,501,693. DOCUMENTS INCORPORATED BY REFERENCE 1. Portions of the registrant's annual report to stockholders for the year ended December 31, 1998 are incorporated by reference under Parts II and IV. 2. Portions of the registrant's definitive proxy statement, which will be filed with the Securities and Exchange Commission on or before April 30, 1999, are incorporated by reference under Part III. TABLE OF CONTENTS Part I Item 1. Business ........................................................ 2 Item 2. Properties ...................................................... 26 Item 3. Legal Proceedings ............................................... 26 Item 4. Submission of Matters to a Vote of Security Holders ............. 26 Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters .................................. 27 Item 6. Selected Financial Data ......................................... 27 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations .......................... 27 Item 7A. Quantitative and Qualitative Disclosures about Market Risk ...... 27 Item 8. Financial Statements and Supplementary Data ..................... 27 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure .......................... 27 Part III Item 10. Directors and Executive Officers of the Registrant .............. 28 Item 11. Executive Compensation .......................................... 29 Item 12. Security Ownership of Certain Beneficial Owners and Management ............................................... 29 Item 13. Certain Relationships and Related Transactions .................. 29 Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K .................................................. 30 Index to Financial Statement Schedules ................................... 30 Signatures ............................................................... 33 Index to Exhibits ........................................................ 43 PART I ------ ITEM 1. BUSINESS. - ------- --------- GENERAL - ------- EMC Insurance Group Inc. is an insurance holding company incorporated in Iowa in 1974. EMC Insurance Group Inc. is approximately 68 percent owned by Employers Mutual Casualty Company (Employers Mutual), a multiple-line property and casualty insurance company organized as an Iowa mutual insurance company in 1911 that is licensed in all 50 states and the District of Columbia. The term "Company" is used interchangeably to describe EMC Insurance Group Inc. (Parent Company only) and EMC Insurance Group Inc. and its subsidiaries. Employers Mutual and all of its subsidiaries and an affiliate (including the Company), are referred to as the "EMC Insurance Companies." The Company conducts its insurance business through two business segments as follows: ............................... : : : EMC INSURANCE GROUP INC. : :.............................: : Property and : Casualty Insurance : Reinsurance ......................:................................ : : : : Illinois EMCASCO Insurance Company (Illinois EMCASCO) EMC Dakota Fire Insurance Company (Dakota Fire) Reinsurance Farm and City Insurance Company (Farm and City) Company EMCASCO Insurance Company (EMCASCO) : : EMC Underwriters, LLC. EMCASCO was formed in Iowa in 1958, Illinois EMCASCO was formed in Illinois in 1976 and Dakota Fire was formed in North Dakota in 1957 for the purpose of writing property and casualty insurance. Farm and City was formed in Iowa in 1962 to write nonstandard risk automobile insurance and was purchased by the Company in 1984. These companies are licensed to write insurance in a total of 35 states and are participants in a pooling agreement with Employers Mutual. (See "Property and Casualty Insurance - Pooling Agreement"). The reinsurance subsidiary was formed in 1981 to assume reinsurance business from Employers Mutual. The company assumes a portion of Employers Mutual's assumed reinsurance business, exclusive of certain reinsurance contracts, and is licensed to do business in 11 states. The Company's excess and surplus lines insurance agency, EMC Underwriters, LLC., was acquired in 1985. The company was formed in Iowa in 1975 as a broker for excess and surplus lines insurance. Effective December 31, 1998, the excess and surplus lines insurance agency was converted to a limited liability company and the ownership was contributed to EMCASCO. FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS - --------------------------------------------- The Company adopted Statement of Financial Accounting Standard No. 131, "Disclosures about Segments of an Enterprise and Related Information" in the fourth quarter of 1998. Implementation of this standard caused the Company to redefine its reportable segments and restate prior years' segment information. For information concerning the Company's revenues, operating income and identifiable assets attributable to each of its industry segments over the past three years, see note 8 of Notes to Consolidated Financial Statements under Item 8 of this Form 10-K. PROPERTY AND CASUALTY INSURANCE - ------------------------------- POOLING AGREEMENT The four property and casualty insurance subsidiaries of the Company and two subsidiaries and an affiliate of Employers Mutual (Union Insurance Company of Providence, American Liberty Insurance Company and Hamilton Mutual Insurance Company) are parties to reinsurance pooling agreements with Employers Mutual (collectively the "pooling agreement"). Under the terms of the pooling agreement, each company cedes to Employers Mutual all of its insurance business, with the exception of any voluntary reinsurance business assumed from nonaffiliated insurance companies, and assumes from Employers Mutual an amount equal to its participation in the pool. All losses, settlement expenses and other underwriting and administrative expenses, excluding the voluntary reinsurance business assumed by Employers Mutual from nonaffiliated insurance companies, are prorated among the parties on the basis of participation in the pool. Operations of the pool give rise to intercompany balances with Employers Mutual, which are settled on a quarterly basis. The investment and income tax activities of the pool participants are not subject to the pooling agreement. The purpose of the pooling agreement is to spread the risk of an exposure insured by any of the pool participants among all the companies. The pooling agreement produces a more uniform and stable underwriting result from year to year for all companies in the pool than might be experienced individually. In addition, each company benefits from the capacity of the entire pool, rather than being limited to policy exposures of a size commensurate with its own assets, and from the wide range of policy forms, lines of insurance written, rate filings and commission plans offered by each of the companies. A single set of reinsurance treaties is maintained for the protection of all companies in the pool. Effective January 1, 1998, Farm and City, a subsidiary of the Company that writes nonstandard risk automobile insurance business, became a participant in the pooling agreement. Farm and City assumes a 1.5 percent participation in the pool, which increased the Company's aggregate participation in the pool from 22 percent in 1997 and 1996 to 23.5 percent in 1998. In connection with this change in the pooling agreement, the Company's liabilities increased $6,224,586 and invested assets increased $5,569,567. The Company reimbursed Employers Mutual $726,509 for expenses that were incurred to generate the additional business assumed by the Company and Employers Mutual paid the Company $71,490 in interest income as the actual cash transfer did not occur until March 25, 1998. Effective January 1, 1997, Hamilton Mutual Insurance Company (Hamilton Mutual) became a participant in the pooling agreement. The addition of Hamilton Mutual did not impact the Company's aggregate participation in the pooling agreement. In connection with this change in the pooling agreement, the Company's liabilities increased $6,393,063 and invested assets increased $5,674,458. The Company reimbursed Employers Mutual $794,074 for expenses incurred to generate the additional business assumed by the Company and Employers Mutual paid the Company $75,469 in interest income as the actual cash transfer did not occur until March 24, 1997. PRINCIPAL PRODUCTS The Company's property and casualty insurance subsidiaries and the other parties to the pooling agreement underwrite both commercial and personal lines of insurance. The following table sets forth the aggregate direct written premiums of all parties to the pooling agreement for the three years ended December 31, 1998. The pooling agreement is continuous, but may be amended or terminated at the end of any calendar year as to any one or more parties. Percent Percent Percent of of of Line of Business 1998 total 1997 total 1996 total - ---------------- ---- ----- ---- ----- ---- ----- (Dollars in thousands) Commercial Lines: Automobile ............ $131,317 18.9% $118,624 18.2% $107,786 18.6% Property .............. 115,815 16.6 110,637 17.0 92,963 16.0 Workers' compensation 117,120 16.8 115,117 17.6 118,479 20.4 Liability ............. 115,377 16.6 110,647 16.9 105,889 18.3 Other ................. 15,418 2.2 15,139 2.3 13,998 2.4 -------- ----- -------- ----- -------- ----- Total commercial lines 495,047 71.1 470,164 72.0 439,115 75.7 -------- ----- -------- ----- -------- ----- Personal Lines: Automobile ............ 130,693 18.8 119,580 18.3 92,653 16.0 Property .............. 68,365 9.8 61,569 9.4 46,459 8.0 Liability ............. 2,134 0.3 2,026 0.3 1,946 0.3 Other ................. 52 - 51 - 53 - -------- ----- -------- ----- -------- ----- Total personal lines 201,244 28.9 183,226 28.0 141,111 24.3 -------- ----- -------- ----- -------- ----- Total ............ $696,291 100.0% $653,390 100.0% $580,226 100.0% ======== ===== ======== ===== ======== ===== MARKETING Marketing of insurance by the parties to the pooling agreement, excluding the nonstandard risk automobile insurance sold by Farm and City, is conducted through 18 offices located throughout the United States and approximately 2,900 independent agencies. These offices maintain close contact with the local market conditions and are able to react rapidly to change. Each office employs underwriting, claims, marketing and risk improvement representatives, as well as field auditors and branch administrative technicians. The offices are supported by Employers Mutual technicians and specialists. Systems are in place to monitor the underwriting results of each office and to maintain guidelines and policies consistent with the underwriting and marketing environment in each region. Farm and City specializes in insuring private passenger automobile risks that are found to be unacceptable in the standard automobile insurance market. Farm and City is licensed in a six state area that includes Iowa, Kansas, Missouri, Nebraska, North Dakota and South Dakota. Private passenger automobile policies are solicited through the American Agency System using approximately 1,100 independent agencies. The following table sets forth the geographic distribution of the aggregate direct written premiums of all parties to the pooling agreement for the three years ended December 31, 1998. 1998 1997 1996 ------ ------ ------ Alabama ............................ 3.7% 3.6% 3.6% Arizona ............................ 3.7 3.7 4.1 Colorado ........................... 2.6 2.8 3.1 Illinois ........................... 5.2 5.3 6.4 Iowa ............................... 19.3 19.0 20.6 Kansas ............................. 7.8 8.3 9.1 Michigan ........................... 3.6 4.1 3.2 Minnesota .......................... 3.8 3.8 4.0 Nebraska ........................... 7.1 7.2 8.0 North Carolina ..................... 3.2 3.3 4.0 North Dakota ....................... 3.1 2.4 2.3 Ohio ............................... 2.3 3.2 - Rhode Island ....................... 2.6 2.6 3.1 Texas .............................. 4.4 4.4 3.8 Wisconsin .......................... 4.4 4.4 4.7 Other * ............................ 23.2 21.9 20.0 ----- ----- ----- 100.0% 100.0% 100.0% ===== ===== ===== * Includes all other jurisdictions, none of which accounted for more than 3%. COMPETITION The property and casualty insurance business is highly competitive. The Company's property and casualty insurance subsidiaries and the other pool members compete in the United States insurance market with numerous insurers, many of which have greater financial resources. Competition in the types of insurance in which the property and casualty insurance subsidiaries are engaged is based on many factors, including the perceived overall financial strength of the insurer, premiums charged, contract terms and conditions, services offered, speed of claim payments, reputation and experience. In this competitive environment, insureds have tended to favor large, financially strong insurers and the Company faces the risk that insureds may become more selective and may seek larger and/or more highly rated insurers. BEST'S RATING A.M. Best rates insurance companies based on their relative financial strength and ability to meet their contractual obligations. The A (Excellent) rating assigned to the Company's property and casualty insurance subsidiaries and the other pool members is based on the pool members' 1997 operating results and financial condition as of December 31, 1997. Best's reevaluates its ratings from time to time (normally on an annual basis) and there can be no assurance that the Company's property and casualty insurance subsidiaries and the other pool members will maintain their current rating in the future. Management believes that a Best's rating of "A (Excellent)" or better is important to the Company's business since many insureds require that companies with which they insure be so rated. Best's publications indicate that these ratings are assigned to companies which Best's believes have achieved excellent overall performance and have a strong ability to meet their obligations over a long period of time. Best's ratings are based upon factors of concern to policyholders and insurance agents and are not necessarily directed toward the protection of investors. REINSURANCE CEDED The parties to the pooling agreement cede insurance in the ordinary course of business for the purpose of limiting their maximum loss exposure through diversification of their risks. The pool participants also purchase catastrophe reinsurance to cover multiple losses arising from a single event. All major reinsurance treaties, with the exception of the pooling agreement and a boiler treaty, are on an "excess of loss" basis whereby the reinsurer agrees to reimburse the primary insurer for covered losses in excess of a predetermined amount, up to a stated limit. The boiler treaty provides for 100 percent reinsurance of the pool's direct boiler coverage written. Facultative reinsurance from approved domestic markets, which provides reinsurance on an individual risk basis and requires specific agreement of the reinsurer as to the limits of coverage provided, is purchased when coverage by an insured is required in excess of treaty capacity or where a high-risk type policy could expose the treaty reinsurance programs. Each type of reinsurance coverage is purchased in layers, and each layer may have a separate retention level. Retention levels are adjusted according to reinsurance market conditions and the surplus position of Employers Mutual. The intercompany pooling arrangement aids efficient buying of reinsurance since it allows for higher retention levels and correspondingly decreased dependence on the reinsurance marketplace. A summary of the reinsurance treaties benefitting the parties to the pooling agreement is presented below. Retention amounts reflect the accumulated retentions of all layers within a coverage. Type of Coverage Retention Limits Property per risk ........... $ 2,000,000 100 percent of $18,000,000 Property catastrophe ........ $11,550,000 95 percent of $51,000,000 Casualty .................... $ 2,000,000 100 percent of $38,000,000 Workers' Compensation excess $ - $20,000,000 excess of $40,000,000 Umbrella .................... $ 1,400,000* 100 percent of $ 8,600,000 Fidelity and Surety ......... $ 750,000 100 percent of $ 3,250,000 Surety excess .............. $ 1,350,000 100 percent of $ 8,650,000 Boiler ...................... $ 0 100 percent of $50,000,000 * An annual aggregate deductible of $3,600,000 must be reached before the reinsurers may be petitioned. Although reinsurance does not discharge the original insurer from its primary liability to its policyholders, it is the practice of insurers for accounting purposes to treat reinsured risks as risks of the reinsurer since the primary insurer would only reassume liability in those situations where the reinsurer is unable to meet the obligations it assumed under the reinsurance agreements. The ability to collect reinsurance is subject to the solvency of the reinsurers. The major participants in the pool members' reinsurance programs are presented below. The percentages represent the reinsurers' share of the total reinsurance protection under all coverages. Each type of coverage is purchased in layers, and an individual reinsurer may participate in more than one coverage and at various layers within these coverages. The property per risk, property catastrophe and casualty reinsurance programs are handled by a reinsurance intermediary (broker). The reinsurance of those programs is syndicated to approximately 50 domestic and foreign reinsurers. Percent of total 1998 Property per risk, property catastrophe reinsurance Best's and casualty coverages: protection rating - --------------------------------------- ----------- ------ Underwriters at Lloyd's of London .................... 20.6% A Hannover Ruckversicherung AG ......................... 5.7 (1) Zurich Reinsurance (North America), Inc .............. 5.2 A Hartford Fire Insurance Company ...................... 5.0 A+ AXA Reinsurance Company .............................. 5.1 A+ St. Paul Fire and Marine ............................. 3.7 A+ NAC Reinsurance Corporation .......................... 3.6 A+ PMA Reinsurance Corporation .......................... 3.2 A+ Umbrella coverage: - ------------------ General Reinsurance Corporation ...................... 100.0 A++ Fidelity and surety coverages: - ------------------------------ SCOR Reinsurance Company ............................. 42.0 A+ GE Reinsurance Corporation ........................... 20.0 A Signet Star Reinsurance Company ...................... 20.0 A Winterthur Reinsurance Corporation of America ........ 18.0 A Boiler coverage: - ---------------- Hartford Steam Boiler Inspection and Insurance Company 100.0 A+ (1) Not rated. Premiums ceded by all pool members and by the Company's property and casualty insurance subsidiaries for the year ended December 31, 1998 are presented below. Each type of reinsurance coverage is purchased in layers, and an individual reinsurer may participate in more than one coverage and at various layers within the coverages. Since each layer of each coverage is priced separately, with the lower layers being more expensive than the upper layers, a reinsurer's overall participation in a reinsurance program does not necessarily correspond to the amount of premiums it receives. Premiums ceded by ------------------------ Property and casualty All pool insurance Reinsurer members subsidiaries - --------- ----------- ------------ General Reinsurance Corporation..................... $ 3,888,866 $ 913,884 Hartford Steam Boiler Inspection & Insurance Company 1,838,328 432,007 Hartford Fire Insurance Company .................... 971,749 228,361 PMA Reinsurance Corporation ........................ 891,740 209,559 AXA Reassurance Corporation ........................ 602,425 141,570 Spreckley Villers Burnhope & Company ............... 500,200 117,547 SCOR Reinsurance Company ........................... 486,576 114,345 Signet Star Reinsurance Company .................... 475,292 111,694 GE Reinsurance Corporation ......................... 433,793 101,941 American Re-Insurance Company ...................... 429,824 101,009 Other Reinsurers ................................... 6,505,393 1,528,767 ----------- ------------ Total ............................................ $17,024,186 $ 4,000,684 =========== ============ The parties to the pooling agreement also cede reinsurance on both a voluntary and a mandatory basis to state and national organizations in connection with various workers' compensation and assigned risk programs and to private organizations established to handle large risks. Premiums ceded by all pool members and by the Company's property and casualty insurance subsidiaries for the year ended December 31, 1998 are presented below. Premiums ceded by ------------------------ Property and casualty All pool insurance Reinsurer members subsidiaries - --------- ----------- ------------ Wisconsin Compensation Rating Bureau ............... $ 3,896,652 $ 915,714 National Workers' Compensation Reinsurance Pool .... 3,259,776 766,047 North Carolina Reinsurance Facility ................ 1,222,227 287,223 Mutual Reinsurance Bureau .......................... 471,465 110,794 Michigan Catastrophe Claims Association (1) ........ (1,298,454) (305,137) Other Reinsurers ................................... 140,540 33,027 ----------- ------------ $ 7,692,206 $ 1,807,668 =========== ============ (1) The Michigan Catastrophe Claims Association distributed excess funds to its members in 1998. Distributions totaling $1,294,560 were received by the parties to the pooling agreement and were recorded as a return of ceded premium. In formulating reinsurance programs, Employers Mutual is selective in its choice of reinsurers. Employers Mutual selects reinsurers on the basis of financial stability and long-term relationships, as well as price of the coverage. Reinsurers are generally required to have a Best's rating of "A-" or higher and policyholders' surplus of $50,000,000 ($100,000,000 for casualty reinsurance). For information concerning amounts due the Company from reinsurers for losses and settlement expenses and prepaid reinsurance premiums and the effect of reinsurance on premiums written and earned, and losses and settlement expenses incurred, see "Property and Casualty Insurance Subsidiaries and Reinsurance Subsidiary - Reinsurance Ceded." REINSURANCE ASSUMED The parties to the pooling agreement assume insurance from involuntary pools and associations in conjunction with direct business written in various states. Through the Company's participation in the pooling agreement, it assumes insurance business from the North Carolina Reinsurance Facility (NCRF), which is a state run assigned risk program. The Company has not previously recognized its share of certain surcharges reported by the NCRF. During the fourth quarter of 1998, the Company received clarification regarding such amounts and recorded its share of these cumulative surcharges. As a result, the consolidated financial statements for the year ended December 31, 1998 reflect assumed premium income of $542,656 and assumed loss recoveries of $661,818 related to prior years. Prospectively, these surcharges will be recorded on a quarterly basis. RELATIONSHIP BETWEEN NET PREMIUMS WRITTEN AND SURPLUS The amount of insurance a property and casualty insurance company writes under industry standards is a multiple of its surplus calculated in accordance with statutory accounting practices. Generally, a ratio of 3 to 1 or less is considered satisfactory by regulatory authorities. The ratios of the pool members for the past three years are as follows: Year ended December 31, ------------------------------ 1998 1997 1996 ---- ---- ---- Employers Mutual .................... .82 .80 .95 EMCASCO ............................. 1.66 1.62 1.67 Illinois EMCASCO .................... 1.87 1.68 1.73 Dakota Fire ......................... 1.79 1.59 1.61 American Liberty Insurance Company .. .65 1.08 1.05 Union Insurance Company of Providence .75 .72 .68 Hamilton Mutual ..................... 1.41 1.17 - Farm and City ....................... 2.15 1.60 1.30 OUTSTANDING LOSSES AND SETTLEMENT EXPENSES The property and casualty insurance subsidiaries' reserve information is included in the property and casualty loss reserve development for 1998. See "Property and Casualty Insurance Subsidiaries and Reinsurance Subsidiary - Outstanding Losses and Settlement Expenses." REINSURANCE The reinsurance subsidiary is a property and casualty treaty reinsurer with a concentration in property lines. The reinsurance subsidiary assumes a quota share portion of Employers Mutual's assumed reinsurance business, exclusive of certain reinsurance contracts. The reinsurance subsidiary assumes its quota share portion of all premiums and related losses and settlement expenses of this business, subject to a maximum loss per event. The reinsurance subsidiary does not reinsure any of Employers Mutual's direct insurance business, nor any "involuntary" facility or pool business that Employers Mutual assumes pursuant to state law. In addition, the reinsurance subsidiary is not liable for credit risk in connection with the insolvency of any reinsurers of Employers Mutual. Operations of the quota share agreement give rise to intercompany balances with Employers Mutual, which are settled on a quarterly basis. Effective January 1, 1997, the reinsurance subsidiary's quota share participation was increased from 95 percent to 100 percent and the maximum loss per event assumed by the reinsurance subsidiary was increased from $1,000,000 to $1,500,000. In connection with the change in the quota share percentage, the Company's liabilities increased $3,173,647 and invested assets increased $3,066,705. The Company reimbursed Employers Mutual $106,942 for expenses that were incurred to generate the additional business assumed by the Company. PRINCIPAL PRODUCTS The reinsurance subsidiary assumes both pro rata and excess of loss reinsurance from Employers Mutual. The following table sets forth the assumed written premiums of the reinsurance subsidiary for the three years ended December 31, 1998. The amounts reported in the Company's financial statements for the year 1997 reflect an adjustment of $354,735 related to the change in quota share percentage. This adjustment was made to offset the income statement effect that resulted from the increase in the reinsurance subsidiary's reserve for unearned premiums on January 1, 1997 in connection with this transaction. Percent Percent Percent of of of Line of Business 1998 total 1997 total 1996 total - ---------------- ------- ----- ------- ----- ------ ----- (Dollars in thousands) Pro rata reinsurance: Property and Casualty .. $15,105 38.7% $ 8,985 26.2% $ 7,724 21.4% Property ............... 2,601 6.7 6,546 19.0 8,735 24.3 Crop ................... 3,967 10.2 3,101 9.0 3,704 10.3 Casualty ............... 3,919 10.0 2,879 8.4 2,796 7.7 Marine/aviation ........ 1,424 3.6 1,866 5.4 2,762 7.7 Other .................. 1,661 4.2 2,116 6.2 228 0.6 ------- ----- ------- ----- ------- ----- Total pro rata reinsurance 28,677 73.4 25,493 74.2 25,949 72.0 ------- ----- ------- ----- ------- ----- Excess per risk reinsurance: Property ............... 2,099 5.4 2,110 6.2 2,258 6.3 Casualty ............... 2,104 5.4 1,595 4.6 1,182 3.3 Marine/aviation ........ - - - - 9 - Other .................. 868 2.2 647 1.9 628 1.7 ------- ----- ------- ----- ------- ----- Total excess per risk reinsurance ...... 5,071 13.0 4,352 12.7 4,077 11.3 ------- ----- ------- ----- ------- ----- Excess catastrophe/ aggregate reinsurance: Property ............... 4,744 12.1 4,293 12.5 5,671 15.7 Crop ................... 284 0.7 252 0.8 242 0.7 Marine/aviation ........ 38 0.1 8 - 29 0.1 Other .................. 260 0.7 (62) (0.2) 84 0.2 ------- ----- ------- ----- ------- ----- Total excess catastrophe/ aggregate reinsurance 5,326 13.6 4,491 13.1 6,026 16.7 ------- ----- ------- ----- ------- ----- Total excess reinsurance 10,397 26.6 8,843 25.8 10,103 28.0 ------- ----- ------- ----- ------- ----- $39,074 100.0% $34,336 100.0% $36,052 100.0% ======= ===== ======= ===== ======= ===== MARKETING Over the last three years Employers Mutual has emphasized writing excess of loss reinsurance business and has worked to increase its participation on existing contracts that had favorable terms. Employers Mutual strives to be flexible in the types of reinsurance products it offers, but generally limits its writing to direct reinsurance business rather than providing retrocessional covers. During the last two years there has been a trend in the reinsurance marketplace for "across the board" participation on excess of loss reinsurance contracts. As a result, reinsurance companies must be willing to participate in all coverages and on all layers offered under a specific contract in order to be considered a viable reinsurer. COMPETITION The reinsurance marketplace is very competitive. Employers Mutual competes in the global reinsurance market with numerous reinsurers, many of which have greater financial resources. In this competitive environment, reinsurance brokers have tended to favor large, financially strong reinsurers who are able to provide "mega" line capacity for all lines of business. Employers Mutual is addressing this by accepting a larger share of coverage on desirable programs and strengthening its relationships with reinsurance intermediaries. REINSURANCE CEDED Prior to 1997, the reinsurance subsidiary had an aggregate excess of loss reinsurance treaty with Employers Mutual which provided protection from a large accumulation of retentions resulting from multiple catastrophes in any one calendar year. The coverage provided was $2,000,000, excess of $3,000,000 aggregate losses retained, excess of $200,000 per event. Maximum recovery was limited to $2,000,000 per accident year. The reinsurance subsidiary did not have any recoveries under this treaty during 1996. Premiums paid to Employers Mutual amounted to $500,000 in 1996. This reinsurance treaty was canceled effective January 1, 1997. For information concerning amounts due the Company from reinsurers for losses and settlement expenses and prepaid reinsurance premiums and the effect of reinsurance on premiums written and earned and losses and settlement expenses incurred, see "Property and Casualty Insurance Subsidiaries and Reinsurance Subsidiary - Reinsurance Ceded." BEST'S RATING The most recent Best's Property Casualty Key Rating Guide gives the reinsurance subsidiary a B++ (Very Good) policyholders' rating. Best's ratings are based upon factors of concern to policyholders and insurance agents and are not necessarily directed toward the protection of investors. OUTSTANDING LOSSES AND SETTLEMENT EXPENSES The reinsurance subsidiary's reserve information is included in the property and casualty loss reserve development for 1998. See "Property and Casualty Insurance Subsidiaries and Reinsurance Subsidiary - Outstanding Losses and Settlement Expenses." PROPERTY AND CASUALTY INSURANCE SUBSIDIARIES AND REINSURANCE SUBSIDIARY - ----------------------------------------------------------------------- Employers Mutual provides various services to all of its subsidiaries. Such services include data processing, claims, financial, actuarial, auditing, marketing and underwriting. Costs of these services are allocated to the subsidiaries outside the pooling agreement based upon a number of criteria, including usage and number of transactions. Costs not allocated to these subsidiaries are charged to the pool and each pool participant shares in the total cost in proportion to its participation percentage. STATUTORY COMBINED RATIOS The following table sets forth the Company's insurance subsidiaries' statutory combined ratios and the property and casualty insurance industry averages for the five years ended December 31, 1998. The combined ratios below are the sum of the following: the loss ratio, calculated by dividing losses and settlement expenses incurred by net premiums earned, and the expense ratio, calculated by dividing underwriting expenses incurred by net premiums written and policyholder dividends by net premiums earned. Generally, if the combined ratio is below 100 percent, a company has an underwriting profit; if it is above 100 percent, a company has an underwriting loss. Year ended December 31, -------------------------------------- 1998 1997 1996 1995 1994 ------ ------ ------ ------ ------ Property and casualty insurance Loss ratio ................... 83.5% 74.3% 70.5% 67.3% 67.6% Expense ratio ................ 33.3 32.8 34.3 32.6 30.4 ------ ------ ------ ------ ------ Combined ratio ............. 116.8% 107.1% 104.8% 99.9% 98.0% ====== ====== ====== ====== ====== Reinsurance Loss ratio ................... 75.4% 68.4% 68.7% 66.3% 82.0% Expense ratio ................ 31.1 34.1 31.5 32.3 30.4 ------ ------ ------ ------ ------ Combined ratio ............. 106.5% 102.5% 100.2% 98.6% 112.4% ====== ====== ====== ====== ====== Total insurance operations Loss ratio ................... 81.9% 73.1% 70.0% 67.1% 70.9% Expense ratio ................ 32.9 33.1 33.6 32.5 30.4 ------ ------ ------ ------ ------ Combined ratio ............. 114.8% 106.2% 103.6% 99.6% 101.3% ====== ====== ====== ====== ====== Property and casualty insurance industry averages (1) Loss ratio ................... 76.2% 72.8% 78.3% 78.9% 81.1% Expense ratio ................ 28.8 28.8 27.5 26.1 27.3 ------ ------ ------ ------ ------ Combined ratio ............. 105.0% 101.6% 105.8% 105.0% 108.4% ====== ====== ====== ====== ====== (1) As reported by A.M. Best Company. The ratio for 1998 is an estimate; the actual combined ratio is not currently available. REINSURANCE CEDED The following table presents amounts due to the Company from reinsurers for losses and settlement expenses and prepaid reinsurance premiums as of December 31, 1998: 1998 Amount Percent Best's recoverable of total rating ----------- -------- ------ Wisconsin Compensation Rating Bureau .. $ 5,327,161 29.9% (1) National Workers' Compensation Reinsurance Pool .................... 1,957,751 11.0 (1) American Re-Insurance Company ......... 1,837,755 10.3 A++ General Reinsurance Corporation ....... 1,562,792 8.8 A++ Hartford Fire Insurance Company ....... 634,780 3.5 A+ PMA Reinsurance Corporation ........... 527,904 3.0 A+ Mutual Reinsurance Bureau (MRB)........ 482,520 2.7 (2) AXA Reinsurance Corporation ........... 455,607 2.5 A+ GE Reinsurance Corporation ............ 449,394 2.5 A Munchener Ruckversicherungs ........... 407,192 2.3 (3) Other Reinsurers ...................... 4,186,672 23.5 ----------- -------- Total ........................... $17,829,528(4) 100.0% =========== ======== (1) Amounts recoverable reflect the property and casualty insurance subsidiaries' pool participation percentage of amounts ceded to these organizations by Employers Mutual in connection with its role as "service carrier." Under these arrangements, Employers Mutual writes business for these organizations on a direct basis and then cedes 100 percent of the business to these organizations. Credit risk associated with these amounts is minimal as all companies participating in these organizations are responsible for the liabilities of such organizations on a pro rata basis. (2) The amount recoverable reflects the property and casualty insurance subsidiaries' pool participation percentage of amounts ceded to this underwriting organization by Employers Mutual. MRB is composed of Employers Mutual and five other nonaffiliated mutual insurance companies. Each of the six members cede primarily property insurance to MRB and assume equal proportionate shares of this business. Each member benefits from the increased capacity provided by MRB. MRB is backed by the financial strength of the six member companies. All of the members of MRB were assigned an A (Excellent) or better rating by A.M. Best. (3) Not rated. (4) The total amount at December 31, 1998 represented $1,064,191 in paid losses and settlement expenses recoverable, $15,563,600 in unpaid losses and settlement expenses recoverable and $1,201,737 in unearned premiums recoverable. The effect of reinsurance on premiums written and earned, and losses and settlement expenses incurred for the three years ended December 31, 1998 is presented below. Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ Premiums written: Direct ........................ $213,134,588 $175,350,677 $156,161,030 Assumed from nonaffiliates .... 1,888,951 1,219,564 1,951,071 Assumed from affiliates ....... 204,964,038 178,624,357 161,671,754 Ceded to nonaffiliates ........ (5,808,352) (5,615,772) (7,930,381) Ceded to affiliates ........... (213,249,508) (164,978,055) (147,467,508) ------------ ------------ ------------ Net premiums written ........ $200,929,717 $184,600,771 $164,385,966 ============ ============ ============ Premiums earned: Direct ........................ $202,514,027 $169,304,584 $154,859,778 Assumed from nonaffiliates .... 1,969,067 1,403,778 2,350,321 Assumed from affiliates ....... 197,166,272 171,514,339 162,326,189 Ceded to nonaffiliates ........ (5,801,680) (5,937,679) (8,219,290) Ceded to affiliates ........... (201,603,281) (159,066,776) (146,126,332) ------------ ------------ ------------ Net premiums earned ......... $194,244,405 $177,218,246 $165,190,666 ============ ============ ============ Losses and settlement expenses incurred: Direct ........................ $171,209,604 $126,922,536 $117,368,771 Assumed from nonaffiliates .... 1,298,167 926,403 948,218 Assumed from affiliates ....... 171,681,607 122,827,934 113,083,014 Ceded to nonaffiliates ........ (7,395,934) (3,364,737) (6,817,132) Ceded to affiliates ........... (178,917,350) (117,458,832) (109,215,656) ------------ ------------ ------------ Net losses and settlement expenses incurred ......... $157,876,094 $129,853,304 $115,367,215 ============ ============ ============ OUTSTANDING LOSSES AND SETTLEMENT EXPENSES The Company maintains reserves for losses and settlement expenses with respect to both reported and unreported claims. The amount of reserves for reported claims is primarily based upon a case-by-case evaluation of the specific type of claim, knowledge of the circumstances surrounding each claim and the policy provisions relating to the type of loss. Reserves on assumed business are the amounts reported by the ceding company. The amount of reserves for unreported claims is determined on the basis of statistical information for each line of insurance with respect to the probable number and nature of claims arising from occurrences which have not yet been reported. Established reserves are closely monitored and are frequently recomputed using a variety of formulas and statistical techniques for analyzing actual claim costs, frequency data and other economic and social factors. The Company does not discount reserves. Inflation is implicitly provided for in the reserving function through analysis of cost trends, reviews of historical reserving results and projections of future economic conditions. Large ($100,000 and over) incurred and reported gross reserves are reviewed regularly for adequacy. In addition, long-term and lifetime medical claims are periodically reviewed for cost trends and the applicable reserves are appropriately revised. Loss reserves are estimates at a given time of what the insurer expects to pay on incurred losses, based on facts and circumstances then known. During the loss settlement period, which may be many years, additional facts regarding individual claims become known, and accordingly, it often becomes necessary to refine and adjust the estimates of liability on a claim. Settlement expense reserves are intended to cover the ultimate cost of investigating claims and defending lawsuits arising from claims. These reserves are established each year based on previous years experience to project the ultimate cost of settlement expenses. To the extent that adjustments are required to be made in the amount of loss reserves each year, settlement expense reserves are correspondingly revised. Despite the inherent uncertainties of estimating insurance company loss and settlement expense reserves, management believes that the Company's reserves are being calculated in accordance with sound actuarial practices and, based upon current information, that the Company's reserves for losses and settlement expenses at December 31, 1998 are adequate. The following table sets forth a reconciliation of beginning and ending reserves for losses and settlement expenses of the property and casualty insurance subsidiaries and the reinsurance subsidiary. Amounts presented are on a net basis, with a reconciliation of beginning and ending reserves to the gross amounts presented in the consolidated financial statements. Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ Gross reserves at beginning of year $217,777,942 $202,502,986 $205,422,109 Ceded reserves at beginning of year (13,030,150) (13,796,769) (12,226,680) ------------ ------------ ------------ Net reserves at beginning of year, before adjustments ............... 204,747,792 188,706,217 193,195,429 Adjustment to beginning reserves due to change in pooling agreement ........................ 3,600,220 3,795,453 - Adjustment to beginning reserves due to change in quota share percentage ....................... - 2,726,913 - ------------ ------------ ------------ Net reserves at beginning of year, after adjustments ................ 208,348,012 195,228,583 193,195,429 Incurred losses and settlement expenses: - ---------------------- Provision for insured events of the current year .......... 168,953,309 137,300,762 131,375,234 Decrease in provision for insured events of prior years (11,077,215) (7,447,458) (16,008,019) ------------ ------------ ------------ Total incurred losses and settlement expenses ...... 157,876,094 129,853,304 115,367,215 ------------ ------------ ------------ Payments: - --------- Losses and settlement expenses attributable to insured events of the current year ............ 73,228,354 57,649,830 59,948,110 Losses and settlement expenses attributable to insured events of prior years ................. 62,949,029 62,684,265 59,908,317 ------------ ------------ ------------ Total payments ............. 136,177,383 120,334,095 119,856,427 ------------ ------------ ------------ Net reserves at end of year ........ 230,046,723 204,747,792 188,706,217 Ceded reserves at end of year ...... 15,563,600 13,030,150 13,796,769 ------------ ------------ ------------ Gross reserves at end of year ...... $245,610,323 $217,777,942 $202,502,986 ============ ============ ============ The following table shows the calendar year development of loss and settlement expense reserves of the property and casualty insurance subsidiaries and the reinsurance subsidiary. Amounts presented are on a net basis with, beginning in 1992, (i) a reconciliation of the net loss and settlement expense reserves, to the gross amounts presented in the consolidated financial statements and (ii) disclosure of the gross re-estimated loss and settlement expense reserves and the related re-estimated reinsurance receivables. Reflected in this table is (1) the increase in the property and casualty insurance subsidiaries' collective participation in the pool from 17 percent to 22 percent in 1992, (2) the change in the pooling agreement whereby effective January 1, 1993 the voluntary reinsurance business written by Employers Mutual is no longer subject to cession to the pool members, (3) the commutation of two reinsurance contracts under the reinsurance subsidiary's quota share agreement in 1993, (4) the gross-up of reserve amounts associated with the National Workers' Compensation Reinsurance Pool at December 31, 1993, (5) the reinsurance subsidiary's commutation of all outstanding reinsurance balances ceded to Employers Mutual under catastrophe and aggregate excess of loss reinsurance treaties related to accident years 1991 through 1993 in 1994, and (6) the increase in the reinsurance subsidiary's quota share assumption of Employers Mutual's assumed reinsurance business from 95 percent to 100 percent in 1997. The table has been restated to reflect the addition of Hamilton Mutual to the pooling agreement effective January 1, 1997 and the addition of Farm and City to the pooling agreement effective January 1, 1998. In evaluating the table, it should be noted that each cumulative redundancy (deficiency) amount includes the effects of all changes in reserves for prior periods. Conditions and trends that have affected development of the liability in the past, such as a time lag in the reporting of assumed reinsurance business, the high rate of inflation associated with medical services and supplies and the reform measures implemented by several states to control administrative costs for workers' compensation insurance, may not necessarily occur in the future. Accordingly, it may not be appropriate to project future development of reserves based on this table. During the last three years the Company has experienced favorable development in the provision for insured events of prior years. The majority of the favorable development has come from the property and casualty insurance subsidiaries, which have benefitted from state reform measures in workers' compensation insurance and various loss control functions implemented by Employers Mutual. Favorable development has also been experienced in the reinsurance subsidiary. The property and casualty insurance subsidiaries have historically experienced favorable development in their reserves and current reserving practices have not been relaxed; however, the amount of favorable development experienced in recent years is not expected to continue.
Year ended December 31, ------------------------------------------------------------------------------------------------- (Dollars in thousands) 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ---- Statutory reserves for losses and settlement expenses ...... $121,667 127,870 131,623 139,317 180,797 182,072 191,514 196,293 191,892 205,606 230,937 Reclassification of reserve amounts associated with the National Workers' Compensation Reinsurance Pool ............. 2,911 3,855 4,338 6,830 11,364 - - - - - - Retroactive restatement of reserves in conjunction with admittance of new participants into the pooling agreement ... 219 2,182 3,334 4,364 5,314 5,248 6,603 6,809 7,018 3,600 - ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Statutory reserves after reclassification ............. 124,797 133,907 139,295 150,511 197,475 187,320 198,117 203,102 198,910 209,206 230,937 GAAP adjustments: Salvage and subrogation ...... (930) (930) (1,203) (1,284) (2,026) (1,804) (1,799) (2,369) (2,400) - - Reclass of statutory settlement expense portion of retirement benefit liability - - - - - (601) (680) (729) (786) (858) (890) ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Reserves for losses and settlement expenses .......... 123,867 132,977 138,092 149,227 195,449 184,915 195,638 200,004 195,724 208,348 230,047 Paid (cumulative) as of: One year later ............... 33,346 42,480 42,990 31,577 78,000 60,162 57,247 62,012 59,856 62,949 - Two years later .............. 56,293 66,185 59,579 79,619 109,985 89,153 88,831 92,626 92,191 - - Three years later ............ 71,002 77,009 96,796 97,152 127,885 107,372 106,691 112,985 - - - Four years later ............. 78,278 107,215 106,391 107,114 137,783 116,856 118,705 - - - - Five years later ............. 104,753 113,112 112,200 112,598 143,876 123,843 - - - - - Six years later .............. 108,134 116,338 115,858 116,670 148,518 - - - - - - Seven years later ............ 110,193 119,039 118,725 119,699 - - - - - - - Eight years later ............ 112,154 120,879 120,122 - - - - - - - - Nine years later ............. 113,761 121,758 - - - - - - - - - Ten years later .............. 114,400 - - - - - - - - - - Reserves reestimated as of: End of year .................. 123,867 132,977 138,092 149,227 195,449 184,915 195,638 200,004 195,724 208,348 230,047 One year later ............... 125,971 137,442 143,884 155,537 197,008 179,527 179,818 183,760 188,579 197,271 - Two years later .............. 126,577 140,272 145,101 152,771 192,318 170,653 173,162 182,285 185,465 - - Three years later ............ 128,460 139,949 143,413 148,867 186,730 166,778 172,118 179,797 - - - Four years later ............. 130,226 140,315 142,496 148,017 186,133 166,133 170,570 - - - - Five years later ............. 130,505 139,380 143,063 148,098 186,319 165,548 - - - - - Six years later .............. 129,779 141,133 143,638 148,686 186,095 - - - - - - Seven years later ............ 131,899 142,650 144,318 148,991 - - - - - - - Eight years later ............ 133,466 143,763 144,679 - - - - - - - - Nine years later ............. 134,735 143,051 - - - - - - - - - Ten years later .............. 132,564 - - - - - - - - - - -------- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Cumulative redundancy (Deficiency) ................. $ (8,697) (10,074) (6,587) 236 9,354 19,367 25,068 20,207 10,259 11,077 - ======== ======= ======= ======= ======= ======= ======= ======= ======= ======= ======= Gross loss and settlement expense reserves - end of year (A) ...... $220,703 202,370 209,785 212,231 209,521 221,378 245,610 Reinsurance receivables ............................................ 25,254 17,455 14,147 12,227 13,797 13,030 15,563 -------- ------- ------- ------- ------- ------- ------- Net loss and settlement expense reserves - end of year ............. $195,449 184,915 195,638 200,004 195,724 208,348 230,047 ======== ======= ======= ======= ======= ======= ======= Gross re-estimated reserves - latest (B) ........................... $209,226 180,809 184,698 194,770 202,561 212,031 245,610 Re-estimated reinsurance receivables - latest ...................... 23,131 15,261 14,128 14,973 17,096 14,760 15,563 -------- ------- ------- ------- ------- ------- ------- Net re-estimated reserves - latest ................................. $186,095 165,548 170,570 179,797 185,465 197,271 230,047 ======== ======= ======= ======= ======= ======= ======= Gross cumulative redundancy (deficiency) (A-B) ..................... $ 11,477 21,561 25,087 17,461 6,960 9,347 - ======== ======= ======= ======= ======= ======= =======
Asbestos and Environmental Claims The Company has exposure to asbestos and environmental related claims associated with the insurance business written by the parties to the pooling agreement and the reinsurance business assumed from Employers Mutual by the reinsurance subsidiary. Estimating loss and settlement expense reserves for asbestos and environmental claims is very difficult due to the many uncertainties surrounding these types of claims. These uncertainties exist because the assignment of responsibility varies widely by state and claims often emerge long after the policy has expired, which makes assignment of damages to the appropriate party and to the time period covered by a particular policy difficult. In establishing reserves for these types of claims, management monitors the relevant facts concerning each claim, the current status of the legal environment, the social and political conditions and the claim history and trends within the Company and the industry. Based upon current facts, management believes the reserves established for asbestos and environmental related claims at December 31, 1998 are adequate. Although future changes in the legal and political environment may result in adjustments to these reserves, management believes any adjustments will not have a material impact on the financial condition or results of operations of the Company. Asbestos Claims The Company's asbestos claim activity primarily relates to bodily injury claims where a former insured has been named as one of multiple defendants covering exposure over many years. The following table presents selected data on asbestos related losses and settlement expenses incurred and reserves outstanding for the Company: Year ended December 31, ------------------------------- 1998 1997 1996 ---------- ---------- --------- Total losses incurred ....................... $ - $ 394,524 $ 100,090 Total settlement expenses incurred .......... 34,287 25,246 5,847 ---------- ---------- --------- Total losses and settlement expenses incurred ................................ $ 34,287 $ 419,770 $ 105,937 ========== ========== ========= Loss reserves ............................... $ 932,227 $ 942,822 $ 662,910 Settlement expense reserves ................. 48,237 32,909 28,089 ---------- ---------- --------- Total loss and settlement expense reserves $ 980,464 $ 975,731 $ 690,999 ========== ========== ========= Number of outstanding claims ................ 145 92 57 ========== ========== ========= The incurred and reserve amounts for 1998, 1997 and 1996 reflect 88, 63 and 40 claims, respectively, by individuals asserting asbestos exposure to products allegedly manufactured by a former insured. Environmental Claims The Company's environmental claims activity is predominately related to pollution from hazardous waste of former insureds. The parties to the pooling agreement have not written primary coverage for the major oil or chemical companies. The greatest exposure arises out of claims from small regional operations or local businesses having pollution on their own property due to hazardous material use or leaking underground storage tanks. These insureds include small manufacturing operations, tool makers, automobile dealerships, contractors and gasoline stations. The remaining exposure arises out of commercial general liability and umbrella policies issued during the 1970's and early 1980's which allegedly cover contamination emanating from closed landfills. Claims related to misdeliveries or minor spills of petroleum products covered under properly endorsed commercial auto policies are not considered environmental claims since coverage is normally not disputed, damages are readily determinable and settlement normally occurs over a short period of time. The following table presents selected data on environmental losses and settlement expenses incurred and reserves outstanding for the Company. Year ended December 31, ---------------------------------- 1998 1997 1996 ---------- ---------- ---------- Total losses incurred .................... $ - $ 374,822 $ 85,454 Total settlement expenses incurred ....... 18,288 25,615 (27,761) ---------- ---------- ---------- Total losses and settlement expenses incurred ............................. $ 18,288 $ 400,437 $ 57,693 ========== ========== ========== Loss reserves ............................ $1,132,412 $1,184,569 $1,103,466 Settlement expense reserves .............. 259,222 252,435 308,145 ---------- ---------- ---------- Total loss and settlement expense reserves ............................. $1,391,634 $1,437,004 $1,411,611 ========== ========== ========== Number of outstanding claims ............. 53 46 63 ========== ========== ========== Included in the above table at December 31, 1998, 1997 and 1996 are two closed landfills which involve three and six policyholders, respectively. Coverage is disputed in all 53 of the claims which were outstanding at December 31, 1998. The coverage disputes relate to claims involving contamination at or from (i) insured property and (ii) closed landfills based on the generation of waste disposed of at these sites. INVESTMENTS Securities classified as held-to-maturity are purchased with the intent and ability to be held to maturity and are carried at amortized cost. Unrealized holding gains and losses on securities held-to-maturity are not reflected in the financial statements. All other securities have been classified as securities available-for-sale and are carried at fair value, with unrealized holding gains and losses reported as accumulated other comprehensive income in stockholders' equity, net of deferred income taxes. At December 31, 1998, approximately 87 percent of the Company's bonds were invested in government or government agency issued securities. A variety of maturities are maintained in the Company's portfolio to assure adequate liquidity. The maturity structure of bond investments is also established by the relative attractiveness of yields on short, intermediate and long-term bonds. The Company does not invest in any high-yield debt investments (commonly referred to as junk bonds). The Company's equity investment holdings include common stock and preferred stock. During 1998 the Company liquidated its common stock mutual fund portfolio and reinvested the proceeds in individual stock issues that are being managed on a tax-aware basis. Investments of the Company's insurance subsidiaries are subject to the insurance laws of the state of their incorporation. These laws prescribe the kind, quality and concentration of investments which may be made by insurance companies. In general, these laws permit investments, within specified limits and subject to certain qualifications, in federal, state and municipal obligations, corporate bonds, preferred and common stocks and real estate mortgages. The Company believes it is in compliance with these laws. The investments of EMC Insurance Group Inc. and its subsidiaries are supervised by investment committees of each entity's respective board of directors. The investment portfolios are managed by an internal staff which is composed of employees of Employers Mutual. Investment expenses are based on actual expenses incurred plus an allocation of other investment expenses incurred by Employers Mutual, which is based on a weighted average of total invested assets and number of investment transactions. The following table shows the composition of the Company's investment portfolio (at amortized cost), by type of security, as of December 31, 1998 and 1997. In the Company's consolidated financial statements, securities held-to-maturity are carried at amortized cost; securities available-for-sale are carried at fair value. Year ended December 31, -------------------------------------------- 1998 1997 --------------------- --------------------- Amortized Amortized Cost Percent Cost Percent ------------ ------- ------------ ------- Securities held-to-maturity: Fixed maturity securities: U.S. treasury securities and obligations of U.S. government corporations and agencies ............. $ 90,851,839 21.4% $103,826,052 26.0% Obligations of states and political subdivisions ... 49,189,315 11.6 41,989,442 10.5 Mortgage-backed securities 24,885,036 5.8 40,013,569 10.0 ------------ ------- ------------ ------- Total securities held- to-maturity ............ 164,926,190 38.8 185,829,063 46.5 ------------ ------- ------------ ------- Securities available-for-sale: Fixed maturity securities: U.S. treasury securities and obligations of U.S. government corporations and agencies ............. 3,491,259 0.8% - - Obligations of states and political subdivisions ... 155,138,275 36.5 130,945,594 32.8 Public utilities ........... 7,304,015 1.7 8,760,899 2.2 Corporate securities ....... 42,181,578 9.9 32,861,713 8.2 Redeemable preferred stocks - - 149,000 - ------------ ------- ------------ ------- Total fixed maturity securities ............. 208,115,127 48.9 172,717,206 43.2 Equity securities: Common stock ............... 26,782,547 6.3 - - Common stock mutual funds .. - - 20,988,146 5.3 Non-redeemable preferred stocks ................... 3,145,886 0.7 5,273,011 1.3 ------------ ------- ------------ ------- Total equity securities .. 29,928,433 7.0 26,261,157 6.6 ------------ ------- ------------ ------- Total securities available-for-sale ..... 238,043,560 55.9 198,978,363 49.8 ------------ ------- ------------ ------- Short-term investments ......... 22,660,011 5.3 14,926,994 3.7 ------------ ------- ------------ ------- Total investments ........ $425,629,761 100.0% $399,734,420 100.0% ============ ======= ============ ======= Fixed maturity securities held by the Company generally have an investment quality rating of "A" or better by independent rating agencies. The following table shows the composition of the Company's fixed maturity securities, by rating, as of December 31, 1998. Securities Securities held-to-maturity available-for-sale (at amortized cost) (at fair value) --------------------- --------------------- Amount Percent Amount Percent ------------ ------- ------------ ------- Rating(1) AAA ..................... $164,926,190 100.0% $ 67,211,897 30.9% AA ...................... - - 102,611,869 47.2 A ....................... - - 47,329,666 21.8 BAA ..................... - - 346,168 .1 ------------ ------- ------------ ------- Total fixed maturities $164,926,190 100.0% $217,499,600 100.0% ============ ======= ============ ======= (1) Ratings for preferred stocks and fixed maturity securities with initial maturities greater than one year are assigned by Moody's Investor's Services, Inc. Moody's rating process seeks to evaluate the quality of a security by examining the factors that affect returns to investors. Moody's ratings are based on quantitative and qualitative factors, as well as the economic, social and political environment in which the issuing entity exists. The quantitative factors include debt coverage, sales and income growth, cash flows and liquidity ratios. Qualitative factors include management quality, access to capital markets and the quality of earnings and balance sheet items. Ratings for securities with initial maturities less than one year are based on an evaluation of the underlying assets or the credit rating of the issuer's parent company. The amortized cost and estimated fair value of fixed maturity securities at December 31, 1998, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Estimated Amortized fair cost value ------------ ------------ Securities held-to-maturity: Due in one year or less ................... $ 31,987,844 $ 32,501,255 Due after one year through five years ..... 26,101,561 27,331,391 Due after five years through ten years .... 72,229,770 78,512,195 Due after ten years ....................... 9,721,979 10,375,963 Mortgage-backed securities ................ 24,885,036 25,902,635 ------------ ------------ Totals .................................. $164,926,190 $174,623,439 ============ ============ Securities available-for-sale: Due in one year or less ................... $ 22,931,915 $ 23,009,649 Due after one year through five years ..... 49,120,202 50,518,753 Due after five years through ten years .... 56,627,240 60,522,488 Due after ten years ....................... 79,435,770 83,448,710 ------------ ------------ Totals .................................. $208,115,127 $217,499,600 ============ ============ The mortgage-backed securities shown in the above table include $14,533,676 of securities issued by government corporations and agencies and $10,351,360 of collateralized mortgage obligations (CMOs). CMOs are securities backed by mortgages on real estate which come due at various times. The Company has attempted to minimize the prepayment risks associated with mortgage-backed securities by not investing in "principal only" and "interest only" CMOs. The CMOs that the Company has invested in are designed to reduce the risk of prepayment by providing predictable principal payment schedules within a designated range of prepayments. Investment yields may vary from those anticipated due to changes in prepayment patterns of the underlying collateral. Investment results of the Company for the periods indicated are shown in the following table: Year ended December 31, 1998 1997 1996 ------------ ------------ ------------ Average invested assets (1) ........ $412,682,091 $386,852,093 $367,276,871 Investment income (2) .............. 24,859,063 23,780,303 24,006,977 Average yield ...................... 6.02% 6.15% 6.54% Realized investment gains (3) ...... $ 5,901,049 $ 4,100,006 $ 1,890,923 (1) Average of the aggregate invested amounts (amortized cost) at the beginning and end of the year. (2) Investment income is net of investment expenses and does not include realized gains or provision for income taxes. (3) The amount for 1998 reflects realized gains of $7,585,293 resulting from the liquidation of the Company's common stock mutual fund portfolio. The Company reinvested the proceeds from the liquidation into individual stock issues that are being managed on a tax-aware basis. The change in the Company's investment strategy for equity securities, from a common stock mutual fund portfolio to individual stock issues, will allow the Company to control both the timing and the amount of sales that occur in these investments. As a result, realized investment gains reported in future periods are expected to decline significantly from the amounts reported during the last several years. The amounts for 1997 and 1996 reflect capital gain distributions of $4,010,683 and $1,655,564, respectively, related to the Company's common stock mutual fund portfolio. EMPLOYEES - --------- EMC Insurance Group Inc. has no employees of its own, although approximately 15 employees of Employers Mutual perform administrative duties on a part-time basis. Otherwise, the Company's business activities are conducted by employees of Employers Mutual and one of the property and casualty insurance subsidiaries, which have 1,886 and 67 employees, respectively. The property and casualty insurance subsidiaries share the costs associated with the pooling agreement in accordance with their pool participation percentages. See "Property and Casualty Insurance - Pooling Agreement." REGULATION - ---------- The Company's insurance subsidiaries are subject to extensive regulation and supervision by their home states, as well as those in which they do business. The purpose of such regulation and supervision is primarily to provide safeguards for policyholders rather than to protect the interests of stockholders. The insurance laws of the various states establish regulatory agencies with broad administrative powers, including the power to grant or revoke operating licenses and to regulate trade practices, investments, premium rates, deposits of securities, the form and content of financial statements and insurance policies, accounting practices and the maintenance of specified reserves and capital for the protection of policyholders. Premium rate regulation varies greatly among jurisdictions and lines of insurance. In most states in which the Company's subsidiaries write insurance, premium rates for their lines of insurance are subject to either prior approval or limited review upon implementation. States require rates for property and casualty insurance that are adequate, not excessive, and not unfairly discriminatory. The Company's insurance subsidiaries are required to file detailed annual reports with the appropriate regulatory agency in each state where they do business based on applicable statutory regulations, which differ from generally accepted accounting principles. Their businesses and accounts are subject to examination by such agencies at any time. Since EMC Insurance Group Inc. and Employers Mutual are domiciled in Iowa, the State of Iowa exercises principal regulatory supervision, and Iowa law requires periodic examination. The Company's insurance subsidiaries are subject to examination by state insurance departments on a periodic basis as applicable law requires. State laws governing insurance holding companies also impose standards on certain transactions with related companies, which include, among other requirements, that all transactions be fair and reasonable and that an insurer's surplus as regards policyholders be reasonable and adequate in relation to its liabilities. Under Iowa law, dividends or distributions made by registered insurers are restricted in amount and may be subject to approval from the Iowa Commissioner of Insurance. "Extraordinary" dividends or distributions are subject to prior approval and are defined as dividends or distributions which exceed the greater of 10 percent of statutory surplus as regards policyholders as of the preceding December 31, or net income of the preceding calendar year on a statutory basis. Both Illinois and North Dakota impose restrictions which are similar to those of Iowa on the payment of dividends and distributions. At December 31, 1998, $12,725,145 was available for distribution in 1999 to EMC Insurance Group Inc. without prior approval. See note 6 of Notes to Consolidated Financial Statements under Item 8 of this Form 10-K. The National Association of Insurance Commissioners (NAIC) utilizes a risk-based capital model to help state regulators assess the capital adequacy of insurance companies and identify property/casualty insurers that are in (or are perceived as approaching) financial difficulty by establishing minimum capital needs based on the risks applicable to the operations of the individual insurer. The risk-based capital requirements for property and casualty insurance companies measure three major areas of risk: asset risk, credit risk and underwriting risk. Companies having less statutory surplus than required by the risk-based capital requirements are subject to varying degrees of regulatory scrutiny and intervention, depending on the severity of the inadequacy. At December 31, 1998, each of the Company's insurance subsidiaries has a ratio of total adjusted capital to risk-based capital well in excess of the minimum level required. ITEM 2. PROPERTIES. - ------- ----------- The Company does not own any real property. Lease costs of the Company's two office facilities in West Des Moines, Iowa totaled approximately $12,000 and $28,500 in 1998. These leases expired on February 28, 1998 and November 30, 1998, at which time the operations were moved into facilities owned by Employers Mutual. Lease costs of the Company's office facilities in Oak Brook, Illinois, and Bismarck, North Dakota, which total approximately $293,000 and $275,000 annually, are included as expenses under the pooling agreement. Expenses of office facilities owned and leased by Employers Mutual are borne by the parties to the pooling agreement, less the rent received from the space used and paid for by non-insurance subsidiaries and outside tenants. See "Property and Casualty Insurance - Pooling Agreement" under Item 1 of this Form 10-K. ITEM 3. LEGAL PROCEEDINGS. - ------- ------------------ The Company and Employers Mutual and its other subsidiaries are parties to numerous lawsuits arising in the normal course of the insurance business. The Company believes that the resolution of these lawsuits will not have a material adverse effect on its financial condition or its results of operations. The companies involved have reserves which are believed adequate to cover any potential liabilities arising out of all such pending or threatened proceedings. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. - ------- ---------------------------------------------------- None. PART II ------- ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED - ------- ------------------------------------------------- STOCKHOLDER MATTERS. -------------------- The "Market for Common Stock and Related Security Holder Matters" section from the Company's Annual Report to Stockholders for the year ended December 31, 1998, which is included as Exhibit 13(d) to this Form 10-K, is incorporated herein by reference. ITEM 6. SELECTED FINANCIAL DATA. - ------- ------------------------ The "Selected Consolidated Financial Data" section from the Company's Annual Report to Stockholders for the year ended December 31, 1998, which is included as Exhibit 13(a) to this Form 10-K, is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND - ------- --------------------------------------------------------------- RESULTS OF OPERATIONS. ---------------------- The "Management's Discussion and Analysis of Financial Condition and Results of Operations" section from the Company's Annual Report to Stockholders for the year ended December 31, 1998, which is included as Exhibit 13(b) to this Form 10-K, is incorporated herein by reference. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. - -------- ----------------------------------------------------------- The information under the caption "Market Risk" in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" section from the Company's Annual Report to Stockholders for the year ended December 31, 1998, which is included as Exhibit 13(b) to this Form 10-K, is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. - ------- -------------------------------------------- The consolidated financial statements from the Company's Annual Report to Stockholders for the year ended December 31, 1998, which is included as Exhibit 13(c) to this Form 10-K, are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON - ------- ------------------------------------------------ ACCOUNTING AND FINANCIAL DISCLOSURE. ------------------------------------ None. PART III -------- ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. - -------- --------------------------------------------------- See the information under the caption "Election of Directors" in the Company's Proxy Statement in connection with its Annual Meeting to be held on May 24, 1999, which information is incorporated herein by reference. The following sets forth information regarding all executive officers of the Company. NAME AGE POSITION Bruce G. Kelley 45 President and Chief Executive Officer of the Company and of Employers Mutual since 1992 and Treasurer of both organizations since 1996. He was elected President of the Company and Employers Mutual in 1991. Mr. Kelley was Executive Vice President of the Company and Employers Mutual from 1989 to 1991. He has been employed by Employers Mutual since 1985. Fred A. Schiek 64 Executive Vice President and Chief Operating Officer of the Company and of Employers Mutual since 1992. He was Vice President of Employers Mutual from 1983 until 1992. He has been employed by Employers Mutual since 1959. John D. Isenhart 61 Senior Vice President of the Company since 1997 and of Employers Mutual since 1992. He has been employed by Employers Mutual since 1963. Margaret A. Ball 60 Senior Vice President of the Company since 1998 and of Employers Mutual since 1997. She has been employed by Employers Mutual since 1971. Ronald W. Jean 50 Senior Vice President of the Company and Employers Mutual since 1997. He has been employed by Employers Mutual since 1979. Raymond W. Davis 53 Senior Vice President of the Company and Employers Mutual since 1998. He has been employed by Employers Mutual since 1979. NAME AGE POSITION Donald D. Klemme 53 Senior Vice President and Secretary of the Company since 1998. Senior Vice President of Employers Mutual since 1998. He has been employed by Employers Mutual since 1972. David O. Narigon 46 Senior Vice President of the Company and of Employers Mutual since 1998. He has been employed by Employers Mutual since 1983. Mark E. Reese 41 Vice President of the Company and Employers Mutual since 1996 and Chief Financial Officer of the Company and Employers Mutual since 1997. He has been employed by Employers Mutual since 1984. ITEM 11. EXECUTIVE COMPENSATION. - -------- ----------------------- See the information under the caption "Compensation of Management" in the Company's Proxy Statement in connection with its Annual Meeting to be held on May 24, 1999, which information is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. - -------- --------------------------------------------------------------- See the information under the captions "Security Ownership of Certain Beneficial Owners" and "Security Ownership of Management" in the Company's Proxy Statement in connection with its Annual Meeting to be held on May 24, 1999, which information is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. - -------- ----------------------------------------------- See the information under the caption "Certain Relationships and Related Transactions" in the Company's Proxy Statement in connection with its Annual Meeting to be held on May 24, 1999, which information is incorporated herein by reference. PART IV ------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. - -------- ----------------------------------------------------------------- (a) List of Financial Statements and Schedules. Page ------ 1. Financial Statements Independent Auditors' Report ................................ 11* Consolidated Balance Sheets, December 31, 1998 and 1997 ..... 26-27* Consolidated Statements of Income for the Years ended December 31, 1998, 1997 and 1996 ......................... 28* Consolidated Statements of Comprehensive Income for the Years ended December 31, 1998, 1997 and 1996 ............. 28* Consolidated Statements of Stockholders' Equity for the Years ended December 31, 1998, 1997 and 1996 ............. 29* Consolidated Statements of Cash Flows for the Years ended December 31, 1998, 1997 and 1996 ......................... 30-31* Notes to Consolidated Financial Statements .................. 32-52* Form 10-K 2. Schedules Page ------ Independent Auditors' Report on Schedules ................... 34 Schedule I - Summary of Investments ....................... 35 Schedule II - Condensed Financial Information of Registrant 36 Schedule III - Supplementary Insurance Information .......... 39 Schedule IV - Reinsurance .................................. 40 Schedule VI - Supplemental Information Concerning Property-Casualty Insurance Operations ..... 41 All other schedules have been omitted for the reason that the items required by such schedules are not present in the consolidated financial statements, are covered in notes to consolidated financial statements or are not significant in amount. * Refers to the respective page of EMC Insurance Group Inc.'s 1998 Annual Report to Stockholders. The Consolidated Financial Statements and Independent Auditors' Report, which are included as Exhibit 13(c), are incorporated by reference. With the exception of the portions of such Annual Report specifically incorporated by reference in this Item and Items 5, 6, 7 and 8, such Annual Report shall not be deemed filed as part of this Form 10-K or otherwise subject to the liabilities of Section 18 of the Securities Exchange Act of 1934. 3. Management contracts and compensatory plan arrangements Exhibit 10(b). Management Incentive Compensation Plan. Exhibit 10(d). 1982 Employers Mutual Casualty Company Incentive Stock Option Plan, as amended. Exhibit 10(e). Deferred Bonus Compensation Plans. Exhibit 10(f). EMC Reinsurance Company Executive Bonus Program. Exhibit 10(h). Employers Mutual Casualty Company Excess Retirement Benefit Agreement. Exhibit 10(i). Employers Mutual Casualty Company 1993 Employee Stock Purchase Plan. Exhibit 10(j). 1993 Employers Mutual Casualty Company Incentive Stock Option Plan, as amended. Exhibit 10(k). Employers Mutual Casualty Company Non-Employee Director Stock Option Plan. Exhibit 10(l). Employers Mutual Casualty Company Supplemental Executive Retirement Plan. (b) Reports on Form 8-K. On November 20, 1998, EMC Insurance Group Inc. filed a report on Form 8-K related to a November 20, 1998 press release announcing a repurchase plan for up to $3,000,000 of its common stock. (c) Exhibits. 3. Articles of incorporation and bylaws: (a) Articles of Incorporation of the Company, as amended. (b) Bylaws of the Company, as amended. 10. Material contracts. (a) Quota Share Reinsurance Contract between Employers Mutual Casualty Company and EMC Reinsurance Company. (Incorporated by reference to the Company's Form 10-K for the calendar year ended December 31, 1997.) (b) Management Incentive Compensation Plan. (c) EMC Insurance Companies reinsurance pooling agreements between Employers Mutual Casualty Company and certain of its affiliated companies, as amended. (d) 1982 Employers Mutual Casualty Company Incentive Stock Option Plan, as amended. (e) Deferred Bonus Compensation Plans. (f) EMC Reinsurance Company Executive Bonus Program. (g) EMC Insurance Group Inc. Amended and Restated Dividend Reinvestment and Common Stock Purchase Plan. (Incorporated by reference to Registration No. 33-34499.) (h) Employers Mutual Casualty Company Excess Retirement Benefit Agreement. (i) Employers Mutual Casualty Company 1993 Employee Stock Purchase Plan. (Incorporated by reference to Registration No. 33-49335.) (j) 1993 Employers Mutual Casualty Company Incentive Stock Option Plan. (Incorporated by reference to Registration Nos.33-49337 and 333-45279.) (k) Employers Mutual Casualty Company Non-Employee Director Stock Option Plan. (Incorporated by reference to Registration No. 33-49339.) (l) Employers Mutual Casualty Company Supplemental Executive Retirement Plan. (Incorporated by reference to the Company's Form 10-K for the calendar year ended December 31, 1995.) 13. Annual Report to Security Holders. (a) Selected Financial Data from the Company's 1998 Annual Report to Stockholders. (b) Management's Discussion and Analysis of Financial Condition and Results of Operations from the Company's 1998 Annual Report to Stockholders. (c) Consolidated Financial Statements from the Company's 1998 Annual Report to Stockholders. (d) Market for Common Stock and Related Security Holder Matters from the Company's 1998 Annual Report to Stockholders. 21. Subsidiaries of the Registrant. 23. Consent of KPMG Peat Marwick LLP with respect to Forms S-8 (Registration Nos. 2-93738, 33-49335, 33-49337, 33-49339 and 333-45279) and Form S-3 (Registration No. 33-34499). 24. Power of Attorney. (d) Financial statements required by Regulation S-X which are excluded from the Annual Report to Stockholders by Rule 14a-3(b)(1). None. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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, on March 26, 1999. EMC INSURANCE GROUP INC. /s/ Bruce G. Kelley ------------------------ Bruce G. Kelley President, Treasurer and Chief Executive Officer /s/ Mark E. Reese ------------------------ Mark E. Reese Vice President - Chief Financial Officer (Principal Accounting Officer) Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on March 26, 1999. /s/ Mark E. Reese ------------------------ George C. Carpenter III* Director /s/ Mark E. Reese ------------------------ E. H. Creese* Director /s/ Mark E. Reese ------------------------ David J. Fisher* Director /s/ Bruce G. Kelley ------------------------ Bruce G. Kelley Director /s/ Mark E. Reese ------------------------ George W. Kochheiser* Chairman of the Board /s/ Mark E. Reese ------------------------ Raymond A. Michel* Director /s/ Mark E. Reese ------------------------ Fredrick A. Schiek* Director * by power of attorney INDEPENDENT AUDITORS' REPORT ON SCHEDULES The Board of Directors and Stockholders EMC Insurance Group Inc.: Under date of February 25, 1999, we reported on the consolidated balance sheets of EMC Insurance Group Inc. and Subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 1998, as contained in Part II, Item 8 of the Form 10-K. In connection with our audits of the aforementioned consolidated financial statements, we also audited the related supplementary financial statement schedules listed in Part IV, Item 14(a)2. These supplementary financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these supplementary financial statement schedules based on our audits. In our opinion, such supplementary financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein. /s/ KPMG Peat Marwick LLP Des Moines, Iowa February 25, 1999 EMC INSURANCE GROUP INC. AND SUBSIDIARIES Schedule I - Summary of Investments - Other Than Investments in Related Parties December 31, 1998 Amount at which shown Fair in the Type of investment Cost value balance sheet ------------------ ------------ ------------ ------------- Securities held-to-maturity: Fixed maturities: United States Government and government agencies and authorities .............. $ 90,851,839 $ 98,636,188 $ 90,851,839 States, municipalities and political subdivisions ....... 49,189,315 50,084,616 49,189,315 Mortgage - backed securities ... 24,885,036 25,902,635 24,885,036 ------------ ------------ ------------ Total fixed maturity securities 164,926,190 174,623,439 164,926,190 ------------ ------------ ------------ Securities available-for-sale: Fixed maturities: United States Government and government agencies and authorities .............. 3,491,259 3,486,905 3,486,905 States, municipalities and political subdivisions ....... 155,138,275 163,078,673 163,078,673 Public utilities ............... 7,304,015 7,516,310 7,516,310 Corporate securities ........... 42,181,578 43,417,712 43,417,712 ------------ ------------ ------------ Total fixed maturity securities 208,115,127 217,499,600 217,499,600 Equity securities: Common stocks .................. 26,782,547 29,524,441 29,524,441 Non-redeemable preferred stocks 3,145,886 3,260,988 3,260,988 ------------ ------------ ------------ Total equity securities ...... 29,928,433 32,785,429 32,785,429 Short-term investments ............. 22,660,011 22,660,011 22,660,011 ------------ ------------ ------------ Total investments ...... $425,629,761 $447,568,479 $437,871,230 ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Schedule II - Condensed Financial Information of Registrant Condensed Balance Sheets December 31, -------------------------- 1998 1997 ------------ ------------ ASSETS - ------ Investment in common stock of subsidiaries (equity method) .................. $157,416,941 $154,839,418 Fixed maturity securities held-to-maturity, at amortized cost ............................. 3,999,138 6,494,491 Short-term investments .......................... 2,552,944 909,698 Cash ............................................ 62,448 3,884 Accrued investment income ....................... 50,417 108,945 Accounts receivable ............................. 216 166,488 Deferred tax asset .............................. 3,850 - ------------ ------------ Total assets ............................... $164,085,954 $162,522,924 ============ ============ LIABILITIES - ----------- Accounts payable ................................ $ 128,245 $ 127,846 Income taxes payable ............................ 18,000 37,000 Indebtedness to related party ................... 1,869 8,490 Deferred tax liability .......................... - 3,132 ------------ ------------ Total liabilities .......................... 148,114 176,468 ------------ ------------ STOCKHOLDERS' EQUITY - -------------------- Common stock, $1 par value, authorized 20,000,000 shares; issued and outstanding, 11,496,389 shares in 1998 and 11,351,119 shares in 1997 ......... 11,496,389 11,351,119 Additional paid-in capital ...................... 67,822,412 65,916,681 Accumulated other comprehensive income .......... 8,079,371 7,687,092 Retained earnings ............................... 76,539,668 77,391,564 ------------ ------------ Total stockholders' equity ................. 163,937,840 162,346,456 ------------ ------------ Total liabilities and stockholders' equity $164,085,954 $162,522,924 ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Condensed Statements of Income Years ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Equity in undistributed earnings ...... $ 1,685,244 $ 9,377,037 $11,914,842 Dividends received from consolidated subsidiaries ........... 4,275,035 3,750,032 3,060,026 Investment income ..................... 463,889 445,816 406,952 ----------- ----------- ----------- 6,424,168 13,572,885 15,381,820 Operating expenses .................... 387,056 313,762 313,087 ----------- ----------- ----------- Income from operations before income taxes ..................... 6,037,112 13,259,123 15,068,733 Income taxes .......................... 24,247 42,556 34,569 ----------- ----------- ----------- Net income............... $ 6,012,865 $13,216,567 $15,034,164 =========== =========== =========== Condensed Statements of Comprehensive Income Years ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Net income ............................ $ 6,012,865 $13,216,567 $15,034,164 ----------- ----------- ----------- Other Comprehensive Income: Unrealized holding gains arising during the period, net of income taxes ...................... 4,264,242 6,399,757 931,486 Reclassification adjustment for gains included in net income, net of income taxes ...................... (3,871,963) (2,704,732) (1,229,400) ----------- ----------- ----------- Other comprehensive income (loss) 392,279 3,695,025 (297,914) ----------- ----------- ----------- Total comprehensive income ...... $ 6,405,144 $16,911,592 $14,736,250 =========== =========== =========== EMC INSURANCE GROUP INC. AND SUBSIDIARIES Condensed Statements of Cash Flows Years ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Net cash provided by operating activities ................ $ 4,015,569 $ 3,702,567 $ 3,178,773 ----------- ----------- ----------- Cash flows from investing activities: Purchases of fixed maturity securities held-to-maturity ....... - (3,999,340) (2,485,938) Disposals of fixed maturity securities held-to-maturity ....... 2,500,000 2,000,000 2,000,000 Net (purchases) sales of short-term investments ...................... (1,643,245) 1,413,904 364,526 ----------- ----------- ----------- Net cash provided by (used in) investing activities ........... 856,755 (585,436) (121,412) ----------- ----------- ----------- Cash flows from financing activities: Issuance of common stock ........... 823,927 1,019,919 1,251,119 Dividends paid to stockholders ..... (5,637,687) (4,314,083) (4,017,222) Purchases of treasury stock, net ... - - (129,877) ----------- ----------- ----------- Net cash used in financing activities ..................... (4,813,760) (3,294,164) (2,895,980) ----------- ----------- ----------- Net increase (decrease) in cash ....... 58,564 (177,033) 161,381 Cash at beginning of year ............. 3,884 180,917 19,536 ----------- ----------- ----------- Cash at end of year ................... $ 62,448 $ 3,884 $ 180,917 =========== =========== =========== Income taxes paid ..................... $ 50,229 $ 40,000 $ 20,993
EMC INSURANCE GROUP INC. AND SUBSIDIARIES Schedule III - Supplementary Insurance Information For Years Ended December 31, 1998, 1997 and 1996 Deferred policy Losses and Net Losses and acquisition settlement Unearned Premium investment settlement Segment costs expenses premiums revenue income expenses ------- ----------- ------------ ----------- ------------ ----------- ------------ Year ended December 31, 1998: Property and casualty insurance $10,666,188 $182,529,015 $53,785,443 $155,523,486 $17,635,076 $128,666,666 Reinsurance ................... 1,689,294 63,081,308 7,678,608 38,720,919 6,760,098 29,209,428 Parent company ................ - - - - 463,889 - ----------- ------------ ----------- ------------ ----------- ------------ Consolidated ............. $12,355,482 $245,610,323 $61,464,051 $194,244,405 $24,859,063 $157,876,094 =========== ============ =========== ============ =========== ============ Year ended December 31, 1997: Property and casualty insurance $ 8,949,126 $159,403,277 $47,532,320 $143,112,560 $16,719,458 $106,547,480 Reinsurance ................... 1,611,531 58,374,665 7,325,143 34,105,686 6,615,029 23,305,824 Parent company ................ - - - - 445,816 - ----------- ------------ ----------- ------------ ----------- ------------ Consolidated ............. $10,560,657 $217,777,942 $54,857,463 $177,218,246 $23,780,303 $129,853,304 =========== ============ =========== ============ =========== ============ Year ended December 31, 1996: Property and casualty insurance $ 7,539,067 $150,685,988 $41,168,971 $128,515,835 $17,163,930 $ 90,187,193 Reinsurance ................... 1,482,796 51,816,998 6,739,983 36,674,831 6,436,095 25,180,022 Parent company ................ - - - - 406,952 - ----------- ------------ ----------- ------------ ----------- ------------ Consolidated ............. $ 9,021,863 $202,502,986 $47,908,954 $165,190,666 $24,006,977 $115,367,215 =========== ============ =========== ============ =========== ============
EMC INSURANCE GROUP INC. AND SUBSIDIARIES Schedule III - Supplementary Insurance Information For year ended December 31, 1998, 1997 and 1996 Amortization of deferred policy Other acquisition underwriting Premiums Segment costs expenses written ------- ------------ ------------ ------------ Year ended December 31, 1998: Property and casualty insurance $ 35,754,919 $ 13,829,886 $161,855,333 Reinsurance ................... 8,907,722 3,186,535 39,074,384 Parent company ................ - - - ------------ ------------ ------------ Consolidated .............. $ 44,662,641 $ 17,016,421 $200,929,717 ============ ============ ============ Year ended December 31, 1997: Property and casualty insurance $ 27,688,763 $ 16,557,572 $149,909,925 Reinsurance ................... 8,253,329 3,498,497 34,690,846 Parent company ................ - - - ------------ ------------ ------------ Consolidated $ 35,942,092 $ 20,056,069 $184,600,771 ============ ============ ============ Year ended December 31, 1996: Property and casualty insurance $ 24,603,275 $ 15,773,051 $128,834,349 Reinsurance ................... 7,951,458 3,506,366 35,551,617 Parent company ................ - - - ------------ ------------ ------------ Consolidated $ 32,554,733 $ 19,279,417 $164,385,966 ============ ============ ============
EMC INSURANCE GROUP INC. AND SUBSIDIARIES Schedule IV - Reinsurance For years ended December 31, 1998, 1997 and 1996 Percentage Ceded to Assumed of amount Gross other from other Net assumed amount companies companies amount to net ------------ ------------ ------------ ------------ ---------- Year ended December 31, 1998: Earned premiums: Consolidated property and casualty insurance .......................... $202,514,027 $207,404,961 $199,135,339 $194,244,405 102.5% ============ ============ ============ ============ ========== Year ended December 31, 1997: Earned premiums: Consolidated property and casualty insurance .......................... $169,304,584 $165,004,455 $172,918,117 $177,218,246 97.6% ============ ============ ============ ============ ========== Year ended December 31, 1996: Earned premiums: Consolidated property and casualty insurance .......................... $154,859,778 $154,345,622 $164,676,510 $165,190,666 99.7% ============ ============ ============ ============ ==========
EMC INSURANCE GROUP INC. AND SUBSIDIARIES Schedule VI - Supplemental Insurance Information Concerning Property-Casualty Insurance Operations For Years Ended December 31, 1998, 1997 and 1996 Discount, Deferred Reserves for if any, policy losses and deducted Net Consolidated property- acquisition settlement from Unearned Earned investment casualty entities costs expenses reserves premiums premiums income - ---------------------- ----------- ------------ -------- ----------- ------------ ----------- Year ended December 31, 1998: $12,355,482 $245,610,323 $ -0- $61,464,051 $194,244,405 $24,395,174 =========== ============ ======== =========== ============ =========== Year ended December 31, 1997: $10,560,657 $217,777,942 $ -0- $54,857,463 $177,218,246 $23,334,487 =========== ============ ======== =========== ============ =========== Year ended December 31, 1996: $ 9,021,863 $202,502,986 $ -0- $47,908,954 $165,190,666 $23,600,025 =========== ============ ======== =========== ============ ===========
Losses and Amortization settlement expenses of deferred Paid incurred related to policy losses and Consolidated property- Current Prior acquisition settlement Premiums casualty entities Year Years costs expenses (1) Written - ---------------------- ------------ ------------ ------------ ------------ ------------ Year ended December 31, 1998: $168,953,309 ($11,077,215) $ 44,662,641 $132,577,163 $200,929,717 ============ ============ ============ ============ ============ Year ended December 31, 1997: $137,300,762 ($ 7,447,458) $ 35,942,092 $113,811,729 $184,600,771 ============ ============ ============ ============ ============ Year ended December 31, 1996: $131,375,234 ($16,008,019) $ 32,554,733 $119,856,427 $164,385,966 ============ ============ ============ ============ ============
(1) The amount for 1998 reflects an adjustment of ($3,600,220) related to the 1998 change in the property and casualty insurance subsidiaries' pooling agreement. This adjustment was made to offset the income statement effect that resulted from the $3,600,220 increase in reserves for losses and settlement expenses on January 1,1998 related to this transaction. The 1997 amount reflects an adjustment of ($3,795,453) related to the 1997 change in the property and casualty insurance subsidiaries' pooling agreement and ($2,726,913) related to the change in the reinsurance subsidiary's quota share percentage. These adjustments were made to offset the income statement effect that resulted from the $6,522,366 increase in reserves for losses and settlement expenses on January 1, 1997 related to these transactions. The index to exhibits in the electronic format indicates the exhibits are included in the direct transmission. The circulated document contains the page numbers of the exhibits. EMC Insurance Group Inc. and Subsidiaries Index to Exhibits Exhibit number Item ------ ---- 3(a) Articles of Incorporation of the Company Included in direct transmission 3(b) Bylaws of the Company Included in direct transmission 10(b) Management Incentive Compensation Plan Included in direct transmission 10(c) EMC Insurance Companies reinsurance Included in pooling agreements between Employers direct transmission Mutual Casualty Company and certain of its affiliated companies. 10(d) 1982 Employers Mutual Casualty Company Included in Incentive Stock Option Plan direct transmission 10(e) Deferred Bonus Compensation Plans Included in direct transmission 10(f) EMC Reinsurance Company Executive Bonus Included in Program direct transmission 10(h) Employers Mutual Casualty Company Excess Included in Retirement Benefit Agreement direct transmission 13(a) Selected Financial Data. Included in direct transmission 13(b) Management's Discussion and Analysis Included in of Financial Condition and Results direct transmission of Operations. 13(c) Financial Statements and Supplementary Included in Data. direct transmission 13(d) Market for Registrant's Common Equity Included in and Related Stockholder Matters. direct transmission 21 Subsidiaries of the Registrant. Included in direct transmission 23 Consent of KPMG Peat Marwick LLP with Included in respect to Forms S-8 and Form S-3 direct transmission 24 Power of Attorney. Included in direct transmission EX-3.A 2 Exhibit 3 (a) ARTICLES OF INCORPORATION ------------ OF EMC INSURANCE GROUP INC. TO THE SECRETARY OF STATE OF THE STATE OF IOWA: We, the undersigned, acting as incorporators of a corporation under the Iowa Business Corporation Act, Chapter 496A, Code of Iowa, adopt the following Articles of Incorporation for such corporation: I. The name of the corporation is EMC Insurance Group Inc. II. The period of its duration is perpetual. III. The purpose which the corporation is authorized to pursue is, or includes, the transaction of any or all lawful business for which the corporation may be incorporated under the Iowa Business Corporation Act. IV. The aggregate number of shares which the corporation has authority to issue is: Twenty million (20,000,000) shares of common stock of the par value of one dollar ($1.00) per share. V. The address of the initial registered office of the corporation in the County of Polk, is 717 Mulberry Street, Des Moines, Iowa 50309, and the name of its initial registered agent at such address is Philip T. Van Ekeren. VI. The number of directors constituting the initial board of directors of the corporation is five, and the names and addresses of the persons who are to serve as directors until the first annual meeting of shareholders or until their successors are elected and shall qualify are: Name Address ---- ------- Robb B. Kelley 717 Mulberry Street Des Moines, Iowa 50309 D. B. Southern 717 Mulberry Street Des Moines, Iowa 50309 G W. Kochheiser 717 Mulberry Street Des Moines, Iowa 50309 W. Z. Proctor 11th Floor, Des Moines Building Des Moines, Iowa 50309 Edward W. Bird 717 Mulberry Street Des Moines, Iowa 50309 VII. The name and address of each incorporator is: Name Address ---- ------- Robb B. Kelley 717 Mulberry Street Des Moines, Iowa 50309 D. B. Southern 717 Mulberry Street Des Moines, Iowa 50309 G W. Kochheiser 717 Mulberry Street Des Moines, Iowa 50309 VIII. Except as may be otherwise provided by the Iowa Business Corporation Act, all corporate powers shall be exercised by or under authority of, and the business and affairs of the corporation shall be managed under the direction of the board of directors. A director of this corporation shall not be personally liable to the corporation or its shareholders for monetary damage for breach of fiduciary duty as a director, except for liability (I) for any breach of the director's duty of loyalty to the corporation or its shareholders, (II) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (III) for any transaction from which the director derived an improper personal benefit, (IV) under Section 496A.44 of the Code of Iowa, or (V) for any act or omission occurring prior to the date this paragraph becomes effective. If Chapter 496A of the Code of Iowa is amended to authorize corporate action further eliminating or limiting personal liability of directors, then the liability of a director of the corporation shall be eliminated or limited to the fullest extent permitted by Chapter 496A of the Code of Iowa, as so amended. Any repeal or modification of the provisions of this Article shall not adversely affect any right or protection of a director of the corporation existing at the time of such repeal or modification. IX. The by-laws may provide that the directors be divided into either two or three classes, each class to be nearly equal in number as possible, the term of office of directors of the first class to expire at the first annual meeting of shareholders after their election, that of the second class to expire at the second annual meeting after their election, and that of the third class, if any, to expire at the third annual meeting after their election; that at each annual meeting after such classification the number of directors equal to the number of the class whose term expires at the time of such meeting shall be elected to hold office until the second succeeding annual meeting, if there be two classes or until the third succeeding annual meeting, if there be three classes; and that no classification of directors shall be effective prior the first annual meeting of shareholders. In the absence of such provision in the by-laws, the whole number of directors shall be elected annually. X. The corporation is expressly empowered to indemnify officers, directors, employees or agents, possessing all rights and powers with respect thereto: (a) now or hereafter permitted by section 4, subsection 19 of the Iowa Business Corporation Act, or (b) otherwise permitted by law. XI. The shareholders shall have no preemptive right to acquire unissued or treasury shares of the corporation, or securities of the corporation convertible into or carrying a right to subscribe or acquire shares. EX-3.B 3 Exhibit 3 (b) BY-LAWS ------------ OF EMC INSURANCE GROUP INC. ARTICLE I. OFFICES The principal office of the corporation in the State of Iowa shall be located in the City of Des Moines, County of Polk. The corporation may have such other offices, either within or without the State of Iowa, as the board of directors may designate or as the business of the corporation may require from time to time. The registered office of the corporation required by The Iowa Business Corporation Act to be maintained in the State of Iowa may be, but need not be, identical with the principal office in the State of Iowa, and the address of the registered office may be changed from time to time by the board of directors. ARTICLE II. SHAREHOLDERS Section 1. Annual Meeting. The regular annual meeting of the shareholders shall be held at 9:00 o'clock A.M. on the third Wednesday in the month of May in each year, or at such other time on said day or on such other day within such month as shall be fixed by the chief executive officer or the Board of Directors, for the purpose of electing directors and for the transaction of such other business as may come before the meeting. If the day fixed for the annual meeting shall be a legal holiday in the State of Iowa, such meeting shall be held on the next succeeding business day. If the election of directors shall not be held on the day designated herein for any annual meeting of the shareholders, or at any adjournment thereof, the board of directors shall cause the election to be held at a special meeting of the shareholders as soon thereafter as conveniently may be. Section 2. Special Meetings. Special meetings of the shareholders, for any purpose or purposes, unless otherwise prescribed by statute, may be called by the chief executive officer or by the board of directors, and shall be called by the chief executive officer at the request of the holders of not less than one-tenth of all the outstanding shares of the corporation entitled to vote at the meeting. Section 3. Place of Meeting. The chief executive officer or the board of directors may designate any place, either within or without the State of Iowa as the place of meeting for any annual meeting or for any special meeting. A waiver of notice signed by all shareholders entitled to vote at a meeting may designate any place, either within or without the State of Iowa, as the place for the holding of such meeting. If no designation is made, or if a special meeting be otherwise called, the place of meeting shall be the registered office of the corporation in the State of Iowa. Section 4. Notice of Meeting. Written or printed notice stating the place, day and hour or the meeting and, in case of a special meeting, the purpose or purposes for which the meeting is called, shall, unless otherwise prescribed by statute, be delivered not less than ten nor more than sixty days before the date of the meeting, either personally or by mail, by or at the direction of the chief executive officer, the secretary, or the officer or persons calling the meeting. If mailed, such notice shall be deemed to be delivered when deposited in the United States mail, addressed to the shareholder at his address as it appears on the stock transfer books of the corporation, with postage thereon prepaid. Section 5. Closing of Transfer Books or Fixing of Records Date. For the purpose of determining shareholders entitled to notice of or to vote at any meeting of shareholders or any adjournment thereof, or shareholders entitled to receive payment of any dividend, or in order to make a determination of shareholders for any other proper purpose, the board of directors of the corporation may provide that the stock transfer books shall be closed for a stated period but not to exceed, in any case, sixty days. If the stock transfer books shall be closed for the purpose of determining shareholders entitled to notice of or to vote at a meeting of shareholders, such books shall be closed for at least ten days immediately preceding such meeting. In lieu of closing the stock transfer books, the board of directors may fix in advance a date as the record date for any such determination of shareholders, such date in any case to be not more than sixty days, and, in case of a meeting of shareholders, not less than ten days prior to the date on which the particular action, requiring such determination of shareholders, is to be taken. If the stock transfer books are not closed and no record date is fixed for the determination of shareholders entitled to notice of or to vote at a meeting of shareholders entitled to receive payment of a dividend, the date on which notice of the meeting is mailed or the date on which the resolution of the board of directors declaring such dividend is adopted, as the case may be, shall be the record date for such determination of shareholders. When a determination of shareholders entitled to vote at the meeting of shareholders has been made as provided in this section, such determination shall apply to any adjournment thereof, except where the determination has been made through closing of the stock transfer books and the stated period of closing has expired. Section 6. Voting Record. The officer or agent having charge of the stock transfer books for shares of the corporation shall make, at least ten days before each meeting of shareholders, a complete list of the shareholders entitled to vote at such meeting, or adjournment thereof, arranged in alphabetical order, with the address of and the number of shares held by each, which list, for a period of ten days prior to such meeting, shall be kept on file at the registered office of the corporation and shall be subject to inspection by any shareholder at any time during usual business hours. Such list shall also be produced and kept open at the time and place of the meeting and shall be subject to the inspection of any shareholder during the whole time of the meeting. The original stock transfer book shall be prima facie evidence as to who are the shareholders entitled to examine such list or transfer books or to vote at any meeting of shareholders. Section 7. Quorum. A majority of the outstanding shares of the corporation entitled to vote, represented in person or by proxy, shall constitute a quorum at a meeting of shareholders. If less than a majority of the outstanding shares are represented at a meeting, a majority of the shares so represented may adjourn the meeting from time to time without further notice. At such adjourned meeting at which a quorum shall be present or represented, any business may be transacted which might have been transacted at the meeting as originally notified. The shareholders present at a duly organized meeting may continue to transact business until adjournment, notwithstanding the withdrawal of enough shareholders to leave less than a quorum. Section 8. Proxies. At all meetings of shareholders, a shareholder may vote by proxy executed in writing by the shareholder or his duly authorized attorney in fact. Such proxy shall be filed with the Secretary of the corporation before or at the time of the meeting. No proxy shall be valid after eleven months from the date of its execution, unless otherwise provided in the proxy. Section 9. Voting of Shares. Each outstanding share entitled to vote shall be entitled to one vote upon such matter submitted to a vote at a meeting of shareholders, and the vote of a majority of the shares voted at a meeting of shareholders, duly held at which a quorum is present, shall be sufficient to take or authorize the action upon any matter which may properly come before the meeting except as otherwise provided by law or by these By- Laws. There shall be no right of cumulative voting. Section 10. Voting of Shares by Certain Holders. Shares standing in the name of another corporation may be voted by such officer, agent or proxy as the by-laws of such corporation may prescribe, or, in the absence of such provision, as the board of directors of such other corporation may determine. Shares held by an administrator, executor, guardian or conservator may be voted by him either in person or by proxy, without a transfer of such shares into his name. Shares standing in the name of a trustee may be voted by him either in person or by proxy, but no trustee shall be entitled to vote shares held by him without a transfer of such shares into his name. Shares standing in the name of a receiver may be voted by such receiver, and shares held by or under the control of a receiver may be voted by such receiver without the transfer thereof into his name if authority so to do be contained in an appropriate order of the court by which such receiver was appointed. A shareholder whose shares are pledged shall be entitled to vote such shares until the shares have been transferred into the name of the pledgee, and thereafter the pledgee shall be entitled to vote the shares so transferred. Neither treasury shares of its own stock held by the corporation, nor shares held by another corporation if a majority of the shares entitled to vote for the election of directors of such other corporation are held by the corporation, shall be voted at any meeting or counted in determining the total number of outstanding shares at any given time for the purposes of any meeting. Section 11. Informal Action by Shareholders. Any action required or permitted to be taken at a meeting of the shareholders, may be taken without a meeting if a consent in writing, setting forth the action so taken shall be signed by all the shareholders entitled to vote with respect to the subject matter thereof. Section 12. Preemptive Rights. The shareholders shall have no preemptive right to acquire unissued or treasury shares of the corporation, or securities of the corporation convertible into or carrying a right to subscribe to or acquire shares. ARTICLE III. BOARD OF DIRECTORS Section 1. Powers and Duties. Except as may be otherwise provided by the Iowa Business Corporation Act, all corporate powers shall be exercised by or under authority of, and the business and affairs of the corporation shall be managed under the direction of the board of directors. A. Director shall perform his duties as a director, including his duties as a member of any committee of the board upon which he may serve, in good faith, in a manner he believes to be in the best interests of the corporation, and with such care as an ordinarily prudent person in a like position would use under similar circumstances. In performing his duties, a director shall be entitled to rely on information, opinions, reports or statements, including financial statements and other financial data, in each case prepared or presented by: (a) one or more officers or employees of the corporation whom the director reasonably believes to be reliable and competent in the matters presented, (b) counsel, public accountants or other persons as to matters which the director reasonable believes to be within such person's professional or expert competence, or (c) a committee of the board upon which he does not serve, duly designated in accordance with a provision of the articles of incorporation or by-laws, as to matters within its designated authority, which committee the director reasonable believes to merit confidence, but he shall not be considered to be acting in good faith if he has knowledge concerning the matter in question that would cause such reliance to be unwarranted. A person who so performs his duties, shall have no liability by reason of being or having been a director of the corporation. Section 2. Number, Tenure and Qualifications. The number of directors of the corporation shall be fixed at seven. Each director shall hold office until the next annual meeting of shareholders and until his successor shall have been elected and qualified. Directors need not be residents of the State of Iowa or shareholders of the corporation, but shall be subject to other qualifications, if any, as to age or otherwise as these by-laws may provide. Section 3. Regular Meetings. A regular meeting of the board of directors shall be held without other notice than this by-law immediately after, and at the same place as, the annual meeting of shareholders. Such additional regular meetings, if any, of the board of directors shall be held on call of the chief executive officer or the executive committee at such time and place within or without the State of Iowa and upon such notice as he or it shall determine. Section 4. Special Meetings. Special meetings of the board of directors may be called by the chief executive officer or by the Executive Committee and shall be called by him or it at the request of any four of the directors, at such locality within or without the State of Iowa, and on such time and date as he or it shall determine. Five (5) days written notice thereof shall be given, by regular mail, specifying the date, time, place and purpose thereof, such five day period to begin on date of mailing such notice. Such notice shall not be necessary when all of the director have executed written waivers consenting to the meeting and when a quorum of directors is present. Attendance of a director at a meeting shall constitute a waiver of notice of such meeting. Section 5. Quorum. A majority of the directors shall constitute a quorum for the transaction of business at any meeting of the board of directors, but if less than such majority is present at a meeting, a majority of the directors present may adjourn the meeting from time to time without further notice. Section 6. Manner of Acting. The act of the majority of the directors present at a meeting at which a quorum is present shall be the act of the board of directors. Section 7. Action Without a Meeting. Any action required or permitted to be taken by the board of directors at a meeting may be taken without a meeting if a consent in writing, setting forth the action so taken, shall be signed by all the directors. Section 8. Vacancies. Any vacancy occurring in the board of directors may be filled by the affirmative vote of a majority of the remaining directors though less than a quorum of the board of directors. A director elected to fill a vacancy shall be elected for the unexpired term of his predecessor in office. Any directorship to be filled by reason of an increase in the number of directors may be filled by the board of directors for a term of office continuing only until the next election of directors by the shareholders. Section 9. Compensation. Compensation of directors shall be fixed by the shareholders of the corporation, or by its board of directors. The basis for such compensation may be (1) a fixed amount for attendance at each directors' meeting, in which case, no compensation shall be allowed or paid at any given meeting to any director not in attendance, or (2) a stated annual fee, or (3) a combination of both (1) and (2). In no case shall a director receive such fee if such director draws a salary from the corporation, or any affiliated company, as an officer or employee. A director attending any meeting of the board of directors held without the city within which said director resides shall, in addition to such fixed compensation, if any, be paid an amount, to be approved by the chief executive officer, sufficient to reimburse him for his expenses in attending such meeting. Notwithstanding the foregoing, directors shall also be eligible to participate in certain benefit plans which may be provided by the corporation, including but not limited to stock option and retirement plans, if such benefit plans have been approved by the shareholders of the corporation or by its board of directors, and if the directors are eligible pursuant to the terms of such benefit plan(s). Section 10. Presumption of Assent. A director of the corporation who is present at a meeting of the board of directors at which action on any corporate matter is taken shall be presumed to have assented to the action taken unless his dissent shall be entered in the minutes of the meeting or unless he shall file his written dissent to such action with the secretary of the meeting before the adjournment thereof or shall forward such dissent by registered or certified mail to the secretary of the corporation immediately after the adjournment of the meeting. Such right to dissent shall not apply to a director who voted in favor, of such action. Section 11. Age Eligibility of Directors. No person shall be nominated for or elected a director of the Company' after he has attained the age of seventy-two. However, this section shall not apply to persons serving as directors of the Company on November 1, 1981. Section 12. Removal. At a meeting called expressly for that purpose, directors may be removed in the manner provided in this section. Any director or the entire board may be removed, with or without cause, by a vote of the holders of a majority of the shares then entitled to vote at an election of directors. Section 13. Telephone Meetings. Members of the board of directors may participate in a meeting of the board or such committee by conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and participation in a meeting pursuant to the provisions of this section shall constitute presence in person at such meeting. ARTICLE IV. OFFICERS Section 1. Executive Officers. The executive officers of the corporation shall be a chairman, a president, an executive vice president, one or more senior vice presidents, one or more vice presidents, a secretary, and a treasurer, each of whom shall be elected by the board of directors. Any executive office, except that of president, one vice president, treasurer and secretary may be left unfilled, as the board of directors may, from time to time, determine. Any two or more offices may be held by the same person except the offices of president and secretary. Other Officers. The board of directors may elect or appoint, a vice chairman, one or more resident vice presidents, a controller, and any assistant officers it may deem necessary. Section 2. Election and Term of Office. The executive officers of the corporation shall be elected annually by the board of directors at its regular annual meeting. If the election of officers shall not be held at such meeting, such election shall be held as soon thereafter as conveniently may be. Any unfilled executive office may, from time to time, be filled at any meeting of the board of directors. Other officers may be elected by the board of directors at such annual meeting or from time to time. Each officer shall hold office until his successor shall have been duly elected and shall have qualified, or until his death or until he shall resign or shall have been removed in the manner hereinafter provided. Section 3. Removal. Any officer or agent may be removed, with or without cause, by the board of directors whenever in its judgment, the best interests of the corporation will be served thereby, but such removal shall be without prejudice to the contract rights, if any, of the person so removed. Election or appointment of an officer or agent shall not of itself create contract rights. Section 4. Vacancies. A vacancy in any office because of death, resignation, removal, disqualification or otherwise, may be filled by the board of directors for the unexpired portion of the term. Section 5. Chairman. The Chairman of the Board shall be the Chief Executive officer of the corporation. Section 6. Vice Chairman. The Vice Chairman of the board of directors, if any, shall perform such duties as may, from time to time, be assigned to him by the board of directors. Section 7. President. The President, except at such times as the office of the office of Chairman of the Board of directors is not vacant, shall be the chief operating officer of the corporation. At such times as the office of chairman of the board of directors is vacant he shall be the chief executive officer. Section 8. Chief Executive Officer. The chief executive officer of the corporation, subject to the control of the board of directors, shall, in general, supervise and control all of the business and affairs of the corporation. He shall, when present, preside at all meetings of the members and the board of directors. He or she shall sign, with the secretary, an assistant secretary, or any other proper officers of the corporation thereunto authorized by the board of directors, deeds, mortgages, bonds, contracts, or other instruments which the board of directors has authorized to be executed, except in cases where the signing and execution thereof shall be expressly delegated by the board of directors or by these By-laws to some other officer or agent of the corporation, or shall be required by law to be otherwise signed or executed; and in general shall perform all duties incident to the office of chief executive officer and such other duties as may be prescribed by the board of directors from time to time. Section 9. Chief Operating Officer. The chief operating officer of the corporation shall, subject to the express direction of the board of directors and the chairman, perform all duties incident to that office and as may from time to time be assigned to him by the board of directors or by the chairman. Section 10. Executive Vice President. At such times as the office of the chairman of the board is vacant, the executive vice president shall be chief operating officer. Section 11. The Vice Presidents. The vice presidents shall act under the direction of the chief executive officer and in his absence or disability shall perform the duties and exercise his powers. They shall perform such other duties and have such other powers as the chief executive officer or the board of directors may from time to time prescribe. The board of directors may designate the executive vice president, or one or more senior vice presidents, or may otherwise specify. The order of seniority of the vice presidents. The duties and powers of the chief executive officer shall descend to the vice presidents in such specified order of seniority. Section 12. The Secretary. The secretary shall act under the direction of the chief executive officer. Subject to the direction of the chief executive officer he shall attend all meetings of the board of directors and all meetings of the shareholders and record the proceedings. He shall perform like duties for the standing and other committees when required. He shall give, or cause to be given, notice of all meetings of the shareholders and special meetings of the board of directors, and shall perform such other duties as may be prescribed by the chief executive officer or the board of directors. He shall keep in safe custody the seal of the corporation and when authorized by the chief executive officer or the board of directors, cause it to be affixed to any instrument requiring it. Section 13. The Assistant Secretaries. The assistant secretaries shall act under the direction of the chief executive officer. In the order of their seniority, unless otherwise determined by the chief executive officer or the board of directors, they shall, in the absence or disability of the secretary, perform the duties and exercise the powers of the secretary. They shall perform such other duties as the chief executive officer or the board of directors may from time to time prescribe. Section 14. The Treasurer. The treasurer shall act under the direction of the chief executive officer. Subject to his direction he shall have custody of the corporate funds and securities and shall keep full and accurate accounts of receipts and disbursements in books belonging to the corporation and shall deposit all moneys and other valuable effects in the name and to the credit of the corporation in such depositories as may by designated by the board of directors. He shall disburse the funds of the corporation as may be ordered by the chief executive officer or the board of directors, taking proper vouchers for such disbursements, and shall render to the chief executive officer and the board of directors, at its regular meeting, or when the board of directors so requires, an account of all his transactions as treasurer and of the financial condition of the corporation. He may affix or cause to be affixed the seal of the corporation to documents so requiring. If required by the board of directors, the treasurer shall give a bond for the faithful discharge of his duties in such sum and with such surety or sureties as the board of directors shall determine. The board of directors may, by resolution, delegate the duties of the treasurer to an assistant treasurer or and executive officer of the company. Section 15. The Assistant Treasurers. The assistant treasurers in the order of their seniority, unless otherwise determined by the chief executive officer or the board of directors, shall, in the absence or disability of the treasurer, perform the duties and exercise the powers of the treasurer. They shall perform such other duties and have such other powers as the chief executive officer or the board of directors may from time to time prescribe. Section 16. Salaries. The salaries of the executive officers shall be fixed from time to time by the board of directors. The salaries of other officers shall be fixed, from time to time, by the chief executive officer. No officer shall be prevented from receiving a salary by reason of the fact he or she is also a director of the corporation. ARTICLE V. COMMITTEES Section 1. Appointment. The board of directors shall, at its regular annual meeting, appoint an executive committee, and may at such meeting, or from time to time, appoint such other committees, with such name or names as it may determine. The appointment of any such committee and the delegation thereto of authority shall not relieve the board of directors, or any member thereof, of any responsibility imposed by law. Section 2. Composition. All committees shall consist of three or more directors. The chief executive officer of the corporation shall be a member and chairman of the executive committee, and may be a member of any other committee. Section 3. Authority. The executive committee, when the board of directors is not session shall have and may exercise all of the authority of the board of directors not otherwise delegated to other committees and except to the extent, if any, that such authority shall be limited by the resolution appointing the executive committee and except also that the executive committee shall not have the authority of the board of directors in reference to amending the articles of incorporation, adopting a plan of merger or consolidation, to appoint or remove executive officers, recommending to the shareholders the sale, lease or other disposition of all or substantially all of the property and assets of the corporation otherwise than in the usual and regular course of its business, recommending to the shareholders a voluntary dissolution of the corporation or revocation thereof, or amending the by-laws of the corporation. All other committees shall, when the board of directors is not in session, perform the duties and exercise the powers delegated to it in the resolution designating and constituting the same. Section 4. Tenure and Qualifications. Each member of any committee shall hold office until the next regular annual meeting of the board of directors following his designation and until his successor is designated as a member of such committee and is elected and qualified. Section 5. Meetings. Regular meetings of any committee may be held without notice at such times and places as the committee may fix from time to time by resolution. Special meetings of any committee may be called by any member thereof, or by the chief executive officer of the corporation, upon not less than one day's notice stating the place, date and hour of the meeting, which notice may be written or oral, and if mailed shall be deemed to be delivered when deposited in the United States mail addressed to the member of such committee at his business address. Any member of the committee may waive notice of any meeting and no notice of any meeting need be given to any member thereof who attends in person. The notice of a meeting of any committee need not state the business proposed to be transacted at the meeting. Section 6. Quorum. A majority of the members of any committee shall constitute a quorum for the transaction of business at any meeting thereof and action of any committee must be unauthorized by the affirmative vote of a majority of the members present at a meeting at which a quorum is present. Section 7. Action without a Meeting. Any action required or permitted to be taken by any committee at a meeting may be taken without a meeting if a consent in writing, setting forth the action so taken, shall be signed by all of the members of such committee. Section 8. Vacancies. Any vacancy in any committee may be filled by a resolution adopted by a majority of the full board of directors. Section 9. Resignations and Removal. Any member of any committee may be removed at any time with or without cause by resolution adopted by a majority of the full board of directors. Any member of any committee may resign from such committee at any time by giving written notice to the chief executive officer or secretary of the corporation, and unless otherwise specified therein, the acceptance of such resignation shall not be necessary to make it effective. Section 10. Procedure. Each committee, except the executive committee, shall elect a presiding officer from its members and may fix its own rules of procedure which shall not be inconsistent with these By-Laws. It shall keep regular minutes of its proceedings and report the same to the board of directors for its information at the meeting thereof held next after the proceedings shall have been taken. Section 11. Compensation. The compensation, if any, and expense allowance, if any, to be paid to members of a committee shall be fixed by the board of directors, provided, however, no committee member shall receive compensation for his services as such if he draws a salary from the corporation, or any affiliated corporation, as an officer or employee. ARTICLE VI. TRANSFERS, FUNDS, SECURITIES AND CONTRACTS Section 1. Transfers. The chief executive officer, the treasurer, a vice president or any officer authorized by the board of directors shall have authority to transfer registered bonds or stocks; to assign or satisfy mortgages and to executive deeds or other instruments affecting real estate on behalf of the corporation, and to affix the corporate seal thereto when customary or required; and all instruments affecting real estate shall be attested by the secretary or by any assistant secretary when required by the laws of the State in which the real estate is located. In all transactions any officer of the corporation is hereby authorized to receive and receipt for all money due and payable to the corporations and to endorse checks, drafts and other orders in its name and on its behalf, and to give full discharge for the same. Section 2. Funds. The funds of the corporation shall be deposited in the name of the corporation in such depositories as the board of directors shall designate; and shall be disbursed only upon checks, drafts or other orders bearing such personal or facsimile signatures as may be authorized by resolution of the board of directors or as may be authorized by the chief executive officer or treasurer or by such other officers as the board of directors may designate. Section 3. Securities. All securities owned by the corporation shall be deposited for safe-keeping in such safety deposit vault or vaults as the board of directors may designate and approve, or the law may require, and access thereto shall be only by such officer or officers, or employee or employees, together with such additional officer or officers, or employee or employees, as may from time to time be designated by resolution of the board of directors; provided, however such securities may, if the board of directors shall deem advisable, be deposited for safe keeping and servicing in one or more legal custodianships, with one or more banks or trust companies, designated by the board of directors, under such usual regulations, restrictions and safeguards as the board of directors by resolution shall fix. Unless other provisions are made by the board of directors, the chief executive officer or the secretary is empowered to vote such securities either in person or by proxy. Section 4. Contracts. The board of directors may authorize any officer or officers, agent or agents, to enter into a contract or executive and deliver any instrument on behalf of the corporation, and such authority may be general or confined to specific instances. Section 5. Loan. No loans or borrowings shall be contracted on behalf of the corporation and no evidence of indebtedness shall be issued in its name unless authorized by resolution of the board of directors. Such authority may be general or confined to specific instances. ARTICLE VII. BY-LAWS AND OTHER POWERS IN EMERGENCY The Emergency By-Laws provided in this Article VII shall be operative during any emergency in the conduct of the business of the corporation resulting from an attack on the United States or any nuclear or atomic disaster, notwithstanding any difference provision in the preceding Articles of the By-Laws or in the Articles of Incorporation of the corporation. To the extent not inconsistent with the provisions of this Article, the By-Laws provided in the preceding Articles shall remain in effect during such emergency and upon its termination the Emergency By-Laws shall cease to be operative. During any such emergency: (a) A meeting of the board of directors may be called by an officer or director of the corporation. Notice of the time an place of the meeting shall be given by the person calling the meeting to such of the directors as it may be feasible to reach by any available means of communication. Such notice shall be given at such time in advance of the meeting as circumstances permit in the judgment of the person calling the meeting. (b) At any such meeting of the board of directors, a quorum shall consist of three (3). (c) The board of directors, either before or during any such emergency, may provide, and from time to time modify, lines of succession in the event that during such an emergency any of all officers or agents of the corporation shall for any reason be rendered incapable of discharging their duties. (d) The board of directors, either before or during any such emergency, may, effective in the emergency, change the head office or designate several alternative head offices or regional offices, or authorize the officers so to do. No officer, director or employee acting in accordance with these Emergency By-Laws shall be liable except for willful misconduct. These Emergency By-Laws shall be subject to repeal or change by further action of the board of directors or by action of the shareholders, but no such repeal or change shall modify the provisions of the next preceding paragraph with regard to action taken prior to the time of such repeal or change. Any amendment of these Emergency By-Laws may make any further or different provision that may be practical and necessary for the circumstances of the emergency. ARTICLE VIII. DIRECTOR CONFLICTS OF INTERESTS No contract or other transaction between the corporation and one or more of its directors or any other corporation, firm, association or entity in which one or more of its directors are directors or officers or are financially interested, shall be either void or voidable because of such relationship or interest or because such director or directors are present at the meeting of the board of directors or a committee thereof which authorizes, approves or ratifies the contract or transaction by a vote or consent sufficient for the purpose without counting the votes or consents of such interest directors; or (b) the fact of such relationship or interest is disclosed or known to the shareholders entitled to vote and they authorize, approve or ratify such contract or transaction by vote or written consent; or (c) the contract or transaction is fair and reasonable to the corporation. Common or interest directors may be counted in determining the presence of a quorum at a meeting of the board of directors or a committee thereof which authorizes, approves or ratifies such contract or transaction. ARTICLE IX. INDEMNIFICATION OF OFFICERS DIRECTORS, EMPLOYEE OR AGENTS The corporation shall indemnify officer, directors, employees, or agents, possessing all rights and powers with respect thereto: (a) now or hereafter permitted by Section 4A of the Iowa Business Corporation Act, or (b) otherwise permitted by law ARTICLE X. DIVIDENDS The board of directors may from time to time declare, and the corporation may pay, dividends on its outstanding shares in cash, property or its own shares, pursuant to law and subject to the Articles of Incorporation. ARTICLE XI. GENERAL PROVISIONS Section 1. Seal. The corporation shall have a seal upon which shall be inscribed its name and the state of its incorporation. Section 2. Fiscal Year. The fiscal year of the corporation shall begin on the first day of January of each year and end on the thirty-first day of December of each year. ARTICLE XII. AMENDMENTS These By-Laws may be altered, amended or repealed and new By-Laws may be adopted by the board of directors or by the shareholders at any regular or special meeting. EX-10.B 4 Exhibit 10 (b) Management Incentive Compensation Plan -------------- for Employers Mutual Casualty Company Purpose and Benefits: - --------------------- 1. To improve profits, surplus and service in all areas of the Corporation. 2. To recognize the effort and contribution to profit on the part of the Senior Executives of the Companies. 3. To cause executives, under this plan, to improve the earnings of the Companies - but not be a profit sharing program. 4. Applicable to the Chairman, President and the Vice Presidents who are listed below: Bruce G. Kelley David O. Narigon Fred A. Schiek Ronald W. Jean John D. Isenhart Raymond W. Davis Doug J. Zmolek Margaret A. Ball Don D. Klemme Mark E. Reese General Program: - ---------------- Any bonus payments earned under this program will be paid to the executives in "4" above as soon as all information is available for the operating year 1997 on which to base payments. Bonuses will be paid in two parts--half about February 1, and the remainder in April when A.M. Best finalizes their figures. If there is a disagreement or misunderstanding of the basis for the bonus or in the calculation of the amounts, the decision of the Committee will be final. For purposes of the Program, the combined results for all property and casualty companies in the EMC Insurance Companies' group will be used. Underwriting Bonus Basis: - ------------------------- Bonus payment is keyed to the combined loss and expense ratio, (trade basis) after dividends compared to the industry results and will be paid according to the following scale: 1. If EMC ratio is equal to or worse than industry - no bonus. 2. If EMC ratio is 1 point better than industry 33-1/3% of bonus potential. 3. If EMC ratio is 2 points better than industry 66-2/3% of bonus potential. 4. If EMC ratio is 3 points better than industry 100% of bonus potential. Calculations will be to the nearest 1/100 of one percent. For example, for $10,000 of bonus potential, assume industry average of 101.53 and an EMC ratio of 99.68. EMC is 1.85 better than the industry and bonus payment is 62 percent of the bonus potential, or $6,200. This industry ratio shall be calculated and announced by A.M. Best Company. This ratio is an estimate by that statistical firm and is available shortly after year end. Later in the year we will adjust to their final figures as they become available. The combined loss and expense ratio after dividends of the Company as defined for purposes of calculations under this plan may be modified by reserve adjustments or corrections only by approval of the Senior Executive Compensation Committee. NOTE: Potential bonus for Vice Presidents is 35% of salary, COO 40% of - ----- salary, and CEO is 45% of salary. Administration: - --------------- 1. An executive must have been on the payroll a minimum of six months before he is eligible for a bonus payment. 2. Executive terminating employment with the Companies before the established date for the payment of bonuses will not be paid a bonus. 3. Executive retiring or becoming deceased or disabled before the established date for the payment of bonuses will receive a bonus on the basis of the portion of the year he or she was on the payroll. If an executive becomes a member of the Policy Committee at some time during the year, they will receive a pro-rated bonus for that portion of the year that they were a member. 4. If an executive is promoted during the year and given a salary increase, the bonus will be pro-rated on the basis of the salaries paid for the specific positions. 5. Deductions for Federal and State Income Taxes, and FICA, if applicable, will be made from each bonus on the basis of IRS regulations. 6. After approval by the Compensation Committee, bonuses will be paid up to 50% prior to the final adjustment which will be paid when A.M. Best finalizes their figures. 7. As a general rule, no bonus will be paid if there is not an increase in surplus for the year; however, even in the event of no increase in surplus, before making an authorization to pay or not pay a bonus, the Senior Officers Compensation Committee will take into consideration a number of factors that have a direct relationship to surplus. Example of factors to be considered would be the following: a) The direction and degree that surplus has moved in the property and casualty industry as a whole. b) The existence or absence of an excessive number, and the dollar size, of natural catastrophes. c) The Company's reserving policy and the experience of the adequacy or inadequacy thereof. d) Trends in the equity and fixed income markets as reflected by the major market indexes. e) The nature of securities transactions; the reasoning for them and the short and long term effects thereof. EX-10.C 5 Exhibit 10 (c) -------------- EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT BETWEEN EMPLOYERS MUTUAL CASUALTY COMPANY AND CERTAIN OF ITS AFFILIATED COMPANIES REWRITTEN EFFECTIVE JANUARY 1, 1987 REINSURANCE POOLING AGREEMENT This Agreement made by and between Employers Mutual Casualty Company and certain of its affiliated or subsidiary companies such as are signatory hereto by means of exhibits setting forth the interests and liabilities of the parties, attached hereto and made a part of this Agreement. Employers Mutual Casualty Company is hereinafter referred to as "EMC", and the other companies signatory hereto are hereinafter referred to as the "Affiliated Companies" or as the "Affiliated Company", as the context requires. EMC and each Affiliated Company signatory to the Pooling Agreement agree to honor the terms set forth herein as if this Agreement were solely between EMC and each such Affiliated Company. Balances payable to or recoverable from EMC and any such Affiliated Company shall not serve to offset any balances payable to or recoverable from any other Affiliated Company signatory to this Agreement. Reports and remittances between EMC and each Affiliated Company shall be in sufficient detail to identify the individual premium and loss obligation of each party to the other. ARTICLE I --------- The Companies are engaged in the insurance business and maintain a mutual business relationship having certain incidents of common management, and desire to bring about for each other added economies of operation, uniform underwriting results, diversification as respects the classes of insurance business written, and maximization of capacity. To accomplish the aforesaid, the Companies do by means of this Agreement, pool all of their insurance business then in force as of 12:01 A.M. of the date signatory hereto, and thereafter to share in the fortunes of their pooled insurance business. ARTICLE II ---------- EMC hereby reinsures and the Affiliated Company hereby cedes and transfers to EMC all liabilities incurred under or in connections with all contracts and policies of insurance issued by the Affiliated Company outstanding and in force as of 12:01 A.M. of the date signatory hereto, or thereafter issued by it. Such liabilities shall include the Affiliated Company's reserves for unearned premiums, outstanding losses and loss expenses (including unreported losses) and all other underwriting and administrative expenses as evidenced by the Affiliated Company's books and records, but shall not include inter-company balances, liabilities for Corporate Taxes including Federal or State Income Taxes, or liabilities incurred in connection with their respective investment transactions. ARTICLE III ------------ The Affiliated Company hereby assigns and transfers to EMC all right, title and interest in and to reinsurance outstanding and in force with respect to the liabilities reinsured by EMC under Article II hereof. ARTICLE IV ---------- The Affiliated Company assigns and transfers to EMC amounts equal to the aggregate of all of its liabilities reinsured by EMC under Article II hereof, less a commission allowance equal to the prepaid expenses of the Affiliated Company but not in excess of 40 percent of the Affiliated Company's combined ratio on a trade basis. Prepaid expenses is defined as those expenses records in column 2, part 4, of the Underwriting and Expense Exhibit of the Affiliated Company's convention statement. The trade combined ratio is the ratio of loss and loss adjustment expense to earned premium, plus the ratio of underwriting expenses to premiums written. ARTICLE V --------- The Affiliated Company hereby reinsures, and EMC hereby cedes and transfers to the Affiliated Company a portion of its net liabilities under all contracts and policies of insurance (including those reinsured by EMC under Article II hereof) on which EMC is subject to liability and which are outstanding and in force as of 12:01 A.M. of the date signatory hereto, or are issued thereafter, in accordance with the exhibit attached hereto to which the Affiliated Company is a signatory party. Such liabilities shall include reserves for unearned premiums, outstanding losses and loss expenses (including unreported losses) and all other underwriting and administrative expenses, but shall not include inter-company balances, liabilities for Corporate Taxes including Federal or State Income Taxes, or liabilities in connection with investment transactions. ARTICLE VI ---------- EMC hereby assigns and transfers to the Affiliated Company amounts equal to the aggregate of all liabilities of EMC reinsured by the Affiliated Company under contracts and policies of insurance which are outstanding and in force as of 12:01 A.M. of the date signatory hereto under Article V hereof, less a commission allowance equal to the prepaid expenses of EMC but not in excess of 40 percent of EMC's combined ratio on a trade basis. Prepaid expenses is defined as those expenses recorded in column 2, part 4, of the Underwriting and Expense Exhibit of EMC's convention statement. The trade combined ratio is the ratio of loss and loss adjustment expense to earned premium, plus the ratio of underwriting expenses to premiums written. ARTICLE VII ----------- EMC agrees to pay to the Affiliated Company it respective participation of all premiums written by the companies after first deducting premiums on all reinsurance ceded to reinsurers (other than the parties hereto). Similarly, it is further agreed that all losses, loss expense and other underwriting and administrative expenses (with the exceptions noted in Articles II and V hereof) of the companies, less all losses and expense recovered and recoverable under reinsurance ceded to reinsurers (other than the parties hereto), shall be pro-rated between the parties on the basis of their respective participation as reflected in the aforesaid exhibit. ARTICLE VIII ------------ The obligation of the companies under this Agreement to exchange reinsurance between themselves may be offset by reciprocal obligation so that the net amount only shall be required to be transferred, except no offset shall be valid under circumstances prohibited by Section 7472, New York Insurance Laws. An accounting on all transactions shall be rendered quarterly, and the settling of balances shall be made within 30 days after the rendering of the quarterly reports. Except as otherwise required by the context of this Agreement, the amount of all payments between the companies under this Agreement shall be determined on the basis of the convention form of annual statements of the companies. Notwithstanding anything herein contained, this Agreement shall not apply to the investment operations of the companies. ARTICLE IX ---------- The conditions of reinsurance hereunder shall in all cases be identical with the conditions of the original insurance or as changed during the term of insurance. ARTICLE X --------- This Agreement is a continuing one and is unlimited as to duration but may be terminated upon mutual consent or by 30 day prior written notice by either party. ARTICLE XI ---------- Each of the companies hereto, as the assuming insurer, hereby agrees that all reinsurance made, ceded, renewed or otherwise becoming effective under this Agreement shall be payable by the assuming insurer on the basis of the liability of the ceding insurer under the policy or contract reinsured without diminution because of insolvency of the ceding insurer; provided that such reinsurance shall be payable directly to the ceding insurer or to its liquidator, receiver or other statutory successor, except as provided by Section 4118 of New York Insurance Law or except (a) where the contract specifically provides another payee for such reinsurance in the event of the insolvency of the ceding insurer and (b) where the assuming insurer, with consent of the direct insured or insureds, has assumed such policy obligations of the ceding insurer as direct obligations of the assuming insurer to the payees under such policies and in substitution for the obligations of the ceding insurer to such payee; and further provided that the liquidator, receiver or statutory successor of the ceding insurer shall give written notice of the pendency of any claim against the insolvent ceding insurer on the policy or contract reinsured within a reasonable time after such claim; and the assuming insurer may investigate such claim and interpose, at its own expense, in the proceeding where such claim is to be adjudicated any defense or defenses which it may deem available to the ceding insurer or it liquidator, receiver or statutory successor, the expense thus incurred by the assuming insurer to be chargeable, subject to court approval against the insolvent ceding insurer as part of the expense of liquidation to the extent of proportionate share of the benefit which may accrue to the ceding insurer solely as a result of the defense undertaken by the assuming insurer. ARTICLE XII ----------- Each party shall allow the other party to inspect, at reasonable times, the records of the Company relevant to the business reinsured under this Agreement, including files concerning claims, losses, or legal proceedings which involve or are likely to involve the other party. ARTICLE XIII ------------ A. As a condition precedent to any right of action hereunder, any dispute arising out of this Agreement shall be submitted to the decision of a board of arbitration composed of two arbitrators and an umpire, meeting in Des Moines, Iowa, unless otherwise agreed. B. The members of the board of arbitration shall be active or retired disinterested officials of insurance or reinsurance companies. Each party shall appoint its arbitrator and the two arbitrators shall choose an umpire before instituting the hearing. If the respondent fails to appoint its arbitrator within four weeks after being requested to do so by the claimant, the latter shall also appoint the second arbitrator. If the two arbitrators fail to agree upon the appointment of an umpire within four weeks after their nominations, each of them shall name three, of whom the other shall decline two and the decision shall be made by drawing lots. C. The claimant shall submit its initial brief within 20 days from appointment of the umpire. The respondent shall submit its brief within 20 days after receipt of the claimant's brief and the claimant may submit a reply brief within 10 days after receipt of the respondent's brief. D. The board shall make its decision with regard to the custom and usage of the insurance and reinsurance business. The board shall issue its decision in writing based upon a hearing in which evidence may be introduced without following strict rules of evidence but in which cross examination and rebuttal shall be allowed. The board shall make its decision within 60 days following the termination of the hearings unless the parties consent to an extension. The majority decision of the board shall be final and binding upon all parties to the proceeding. Judgment may be entered upon the award of the board in any court having jurisdiction thereof. E. Each party shall bear the expense of its own arbitrator and shall jointly and equally bear with the other party the expense of the umpire. The remaining costs of the arbitration proceedings shall be allocated by the board. ARTICLE XIV ----------- By execution of this Agreement, the parties hereto simultaneously terminate any and all reinsurance agreements by and between them heretofore existing, upon the understanding that this Agreement shall supersede and exist in substitution for any such prior agreements. Executed by the parties hereto the day and year as reflected in the exhibit attached hereto. ADDENDUM #I TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT BETWEEN EMPLOYERS MUTUAL CASUALTY COMPANY AND CERTAIN OF ITS AFFILIATED COMPANIES This Pooling Agreement is amended by adding Article XV thereto, with effect from January 1, 1993, as follows: ARTICLE XV ---------- Notwithstanding the wording of this Agreement as contained in Articles II through VIII, it is agreed and understood that the voluntary reinsurance assumed business written by EMC and heretofore ceded to the Affiliated Companies under this Pooling Agreement, is hereafter not "contracts and policies of insurance" as used in this agreement, and is not business subject to cession and transfer by EMC to the Affiliated Companies. On January 1, 1993, EMC and the Affiliated Companies shall make such asset and reserve transfers as are required to give effect to the provisions of this Article XV. This Pooling Agreement is further amended by substituting "EMC Insurance Companies" for "Employers Mutual Companies" wherever it appears, consistent with and pursuant to action of the Board of Directors effecting this name change. INTEREST AND LIABILITIES EXHIBIT # II TO EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby cedes and transfers to the Affiliated Company, and the Affiliated Company hereby accepts reinsurance thereon, 3% of EMC's net liabilities, pursuant to Article V, effective January 1, 1987. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the date of this Addendum, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 3 % EMCASCO Insurance Company 8 % Illinois EMCASCO Insurance Company 6 % Union Mutual Insurance Company of Providence 2.5% ----- 24.5% EMC's Net Retained Portions of its Net Liabilities is 75.5% ----- 100.0% Executed by the parties hereto this 25th day of November, 1986. Employers Mutual Casualty Company By:/s/Richard E. Haskins ------------------------------ Dakota Fire Insurance Company By:/s/Robb B. Kelley ------------------------------ AMENDMENT # I TO INTEREST AND LIABILITIES EXHIBIT # II TO EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby cedes and transfers to the Affiliated Company, and the Affiliated Company hereby accepts reinsurance thereon, 5% of EMC's net liabilities, pursuant to Article V, effective January 1, 1992. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Illinois EMCASCO Insurance Company 8 % Union Mutual Insurance Company of Providence 2.5% ----- 29.5% EMC's Net Retained Portions of its Net Liabilities is 70.5% ----- 100.0% Executed by the parties hereto this 20th day of December, 1991. Employers Mutual Casualty Company By:/s/Richard E. Haskins ------------------------------ Dakota Fire Insurance Company By:/s/Bruce G. Kelley ------------------------------ ENDORSEMENT NO. I TO REINSURANCE POOLING AGREEMENT BETWEEN DAKOTA FIRE INSURANCE CO. AND EMPLOYERS MUTUAL CASUALTY COMPANY Whereby Dakota Fire Insurance Company does not desire to become licensed in the State of Iowa which disallows credits taken by Employers Mutual Casualty Company in their financial statements for unearned premium reserve and loss reserve for reinsurance ceded to Dakota Fire Insurance Company. In consideration of continuing with a reinsurance program between the companies, Dakota Fire Insurance Company does place the Bond and Corporate Note portion of their Custodial Account Number 1929009 at the Bankers Trust Company, Des Moines, Iowa, under the control of Employers Mutual Casualty Company. The market value of the account exceeds $9,000,000 and that amount or a greater amount will be maintained there during the life of this Agreement. It is further agreed that there will be no bonds cashed by Employers Mutual Casualty Company for their benefit unless Dakota Fire Insurance Company defaults on the reinsurance contract. This contract may be terminated by either party at such a time as may be mutually agreeable. Executed by the parties hereto 25th Day of November 1986. DAKOTA FIRE INSURANCE COMPANY By:/s/Robb B. Kelley ------------------------------ EMPLOYERS MUTUAL CASUALTY COMPANY By:/s/Richard E. Haskins ------------------------------ ENDORSEMENT NO. II TO REINSURANCE POOLING AGREEMENT BETWEEN DAKOTA FIRE AND EMPLOYERS MUTUAL CASUALTY COMPANY Endorsement No. I is hereby deleted from this Agreement. Executed by the Parties this 4th day of March, 1993. Employers Mutual Casualty Company By:/s/Fred A. Schiek ------------------------------ Dakota Fire Insurance Company By:/s/Bruce G. Kelley ------------------------------ AMENDMENT #II TO INTERESTS AND LIABILITY EXHIBIT II TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in Addendum #I to the Reinsurance Pooling Agreement to which this Exhibit is attached, EMC and the affiliated company which is signatory to this Exhibit each do hereby ratify Addendum #I as a part of the Pooling Agreement effective from January 1, 1993. Executed by the parties this 23rd day of December, 1992. Employers Mutual Casualty Company By:/s/Bruce G. Kelley ------------------------------ Dakota Fire Insurance Company By:/s/Fred A. Schiek ------------------------------ AMENDMENT #III TO INTEREST AND LIABILITIES EXHIBIT #II TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT This Amendment is effective January 1, 1997. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Hamilton Mutual Insurance Company of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 26th day of March, 1997. Employers Mutual Casualty Company By: /s/Bruce G. Kelley ----------------------------- Dakota Fire Insurance Company By: /s/Fred A. Schiek ----------------------------- AMENDMENT #IV TO INTEREST AND LIABILITIES EXHIBIT #II TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT This Amendment is effective January 1, 1998. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 3.5% Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Farm and City Insurance Company 1.5% Hamilton Mutual Insurance Company Of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 15th day of January, 1998. Employers Mutual Casualty Company By:/s/ Bruce G. Kelley ------------------------------ Print Name and Title: Bruce G. Kelley President and CEO Dakota Fire Insurance Company By:/s/ Ronald W. Jean ------------------------------- Print Name and Title: Ronald W. Jean Vice President and Actuary INTEREST AND LIABILITIES EXHIBIT #III TO EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby cedes and transfer to the Affiliated Company, and the Affiliated Company hereby accepts reinsurance thereon, 6% of EMC's net liabilities, pursuant to Article V, effective January 1, 1987. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the date of this Addendum, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 3 % EMCASCO Insurance Company 8 % Illinois EMCASCO Insurance Company 6 % Union Mutual Insurance Company of Providence 2.5% ----- 24.5% EMC's Net Retained Portions of its Net Liabilities is 75.5% ----- 100.0% Executed by the parties hereto this 25th day of November, 1986. EMPLOYERS MUTUAL CASUALTY COMPANY By:/s/Richard E. Haskins ------------------------------ ILLINOIS EMCASCO INSURANCE COMPANY By:/s/Robb B. Kelley ------------------------------- AMENDMENT # I TO INTEREST AND LIABILITIES EXHIBIT # III TO EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby cedes and transfers to the Affiliated Company, and the Affiliated Company hereby accepts reinsurance thereon, 8% of EMC's net liabilities, pursuant to Article V, effective January 1, 1992. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Illinois EMCASCO Insurance Company 8 % Union Mutual Insurance Company of Providence 2.5% ----- 29.5% EMC's Net Retained Portions of its Net Liabilities is 70.5% ----- 100.0% Executed by the parties hereto this 20th day of December, 1991. Employers Mutual Casualty Company By:/s/Richard E. Haskins ------------------------------ Illinois EMCASCO Insurance Company By:/s/Bruce G. Kelley ------------------------------- AMENDMENT #II TO INTERESTS AND LIABILITY EXHIBIT III TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in Addendum #I to the Reinsurance Pooling Agreement to which this Exhibit is attached, EMC and the affiliated company which is signatory to this Exhibit each do hereby ratify Addendum #I as a part of the Pooling Agreement effective from January 1, 1993. Executed by the parties this 23rd day of December, 1992. Employers Mutual Casualty Company By:/s/Bruce G. Kelley ------------------------------- Illinois EMCASCO Insurance Company By:/s/Fred A. Schiek ------------------------------- AMENDMENT #III TO INTEREST AND LIABILITIES EXHIBIT #III TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT This Amendment is effective January 1, 1997. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Hamilton Mutual Insurance Company of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 26th day of March, 1997. Employers Mutual Casualty Company By: /s/Bruce G. Kelley ----------------------------- Illinois EMCASCO Insurance Company By: /s/Fred A. Schiek ----------------------------- AMENDMENT #IV TO INTEREST AND LIABILITIES EXHIBIT #III TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT This Amendment is effective January 1, 1998. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 3.5% Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Farm and City Insurance Company 1.5% Hamilton Mutual Insurance Company Of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 15th day of January, 1998. Employers Mutual Casualty Company By:/s/ Bruce G. Kelley ------------------------------ Print Name and Title: Bruce G. Kelley President and CEO Illinois EMCASCO Insurance Company By:/s/ Ronald W. Jean ------------------------------- Print Name and Title: Ronald W. Jean Vice President and Actuary INTEREST AND LIABILITIES EXHIBIT #IV TO EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby cedes and transfers to the Affiliated Company, and the Affiliated Company hereby accepts reinsurance thereon, 8% of EMC's net liabilities, pursuant to Article V, effective January 1, 1987. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the date of this Addendum, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 3 % EMCASCO Insurance Company 8 % Illinois EMCASCO Insurance Company 6 % Union Mutual Insurance Company of Providence 2.5% ----- 24.5% EMC's Net Retained Portions of its Net Liabilities is 75.5% ----- 100.0% Executed by the parties hereto this 25th day of November, 1986. Employers Mutual Casualty Company By:/s/Richard E. Haskins ------------------------------ EMCASCO Insurance Company By:/s/Robb B. Kelley ------------------------------ AMENDMENT # I TO INTEREST AND LIABILITIES EXHIBIT # IV TO EMPLOYERS MUTUAL COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby cedes and transfers to the Affiliated Company, and the Affiliated Company hereby accepts reinsurance thereon, 9% of EMC's net liabilities, pursuant to Article V, effective January 1, 1992. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Illinois EMCASCO Insurance Company 8 % Union Mutual Insurance Company of Providence 2.5% ----- 29.5% EMC's Net Retained Portions of its Net Liabilities is 70.5% ----- 100.0% Executed by the parties hereto this 20th day of December, 1991. Employers Mutual Casualty Company By:/s/Richard E. Haskins ------------------------------ EMCASCO Insurance Company By:/s/Bruce G. Kelley ------------------------------ AMENDMENT #II TO INTERESTS AND LIABILITY EXHIBIT IV TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in Addendum #I to the Reinsurance Pooling Agreement to which this Exhibit is attached, EMC and the affiliated company which is signatory to this Exhibit each do hereby ratify Addendum #I as a part of the Pooling Agreement effective from January 1, 1993. Executed by the parties this 23rd day of December, 1992. Employers Mutual Casualty Company By:/s/Bruce G. Kelley ------------------------------ EMCASCO Insurance Company By:/s/Fred A. Schiek ------------------------------ AMENDMENT #III TO INTEREST AND LIABILITIES EXHIBIT #IV TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT This Amendment is effective January 1, 1997. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 5 % Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Hamilton Mutual Insurance Company of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 26th day of March, 1997. Employers Mutual Casualty Company By: /s/Bruce G. Kelley ----------------------------- EMCASCO Insurance Company By: /s/Fred A. Schiek ----------------------------- AMENDMENT #IV TO INTEREST AND LIABILITIES EXHIBIT #IV TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT This Amendment is effective January 1, 1998. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 3.5% Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Farm and City Insurance Company 1.5% Hamilton Mutual Insurance Company Of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 15th day of January, 1998. Employers Mutual Casualty Company By:/s/ Bruce G. Kelley ------------------------------- Print Name and Title: Bruce G. Kelley President and CEO EMCASCO Insurance Company By:/s/ Ronald W. Jean ------------------------------- Print Name and Title: Ronald W. Jean Vice President and Actuary INTEREST AND LIABILITIES EXHIBIT #VII TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements reflected in the Reinsurance Pooling Agreement to which this exhibit is attached, by and between EMC and the Affiliated Company which is signatory to this exhibit, EMC hereby accepts reinsurance thereon, 1.5% of EMC's net liabilities, pursuant to Article V, effective January 1, 1998. The Affiliated Companies signatory to this Agreement and their assumed portions of the net liabilities of EMC are, as of the effective date of this Amendment, as follows: American Liberty Insurance Company 3.5% Dakota Fire Insurance Company 5 % EMCASCO Insurance Company 9 % Farm and City Insurance Company 1.5% Hamilton Mutual Insurance Company Of Cincinnati, Ohio 5 % Illinois EMCASCO Insurance Company 8 % Union Insurance Company of Providence 2.5% ----- 34.5% EMC's Net Retained Portion of its Net Liabilities is 65.5% ----- 100.0% Executed by the parties hereto this 15th day of January, 1998. Employers Mutual Casualty Company By:/s/ Bruce G. Kelley ------------------------------ Print Name and Title: Bruce G. Kelley President and CEO Farm and City Insurance Company By:/s/ Ronald W. Jean ------------------------------ Print Name and Title: Ronald W. Jean Vice President and Actuary AMENDMENT #I TO INTEREST AND LIABILITIES EXHIBIT #VII TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT In consideration of the covenants and agreements as reflected in Addendum #I to the Reinsurance Pooling Agreement to which this Exhibit is attached, EMC and the Affiliated Company which is signatory to this Exhibit each do hereby ratify Addendum #I as a part of the Reinsurance Pooling Agreement effective from January 1, 1998. Executed by the parties hereto this 15th day of January, 1998. Employers Mutual Casualty Company By:/s/ Bruce G. Kelley ------------------------------ Print Name and Title: Bruce G. Kelley President and CEO Farm and City Insurance Company By:/s/ Ronald W. Jean ------------------------------ Print Name and Title: Ronald W. Jean Vice President and Actuary ADDENDUM #II TO EMC INSURANCE COMPANIES REINSURANCE POOLING AGREEMENT BETWEEN EMPLOYERS MUTUAL CASUALTY COMPANY AND CERTAIN OF ITS AFFILIATED COMPANIES This EMC Insurance Companies Reinsurance Pooling Agreement, rewritten effective January 1, 1987, including all Exhibits attached thereto, and as previously amended, is further amended by adding thereto: ARTICLE XVI This Agreement, including its attached Addenda, Exhibits, Endorsements and the Amendments thereto, constitutes the entire agreement between the parties hereto, and there are no other oral or written agreements, understandings or undertakings with respect to the subject matter hereof not expressed in this Agreement and its Addenda, Exhibits, Endorsements and the Amendments thereto. Executed this 24th day of July, 1998. EMPLOYERS MUTUAL CASUALTY COMPANY FARM AND CITY INSURANCE COMPANY By /s/ Bruce G. Kelley By /s/ Bruce G. Kelley ------------------------------ ----------------------------- Bruce G. Kelley Bruce G. Kelley Its President, Treasurer & CEO Its Chairman, Treasurer & CEO AMERICAN LIBERTY INSURANCE COMPANY THE HAMILTON MUTUAL INSURANCE COMPANY OF CINCINNATI, OHIO By /s/ Bruce G. Kelley ----------------------------- By /s/ Bruce G. Kelley Bruce G. Kelley ----------------------------- Its Chairman & CEO Bruce G. Kelley Its Chairman & CEO DAKOTA FIRE INSURANCE COMPANY ILLINOIS EMCASCO INSURANCE COMPANY By /s/ Bruce G. Kelley ----------------------------- By /s/ Bruce G. Kelley Bruce G. Kelley ----------------------------- Its Chairman & CEO Bruce G. Kelley Its Chairman EMCASCO INSURANCE COMPANY UNION INSURANCE COMPANY OF PROVIDENCE By /s/ Bruce G. Kelley ------------------------------ By /s/ Bruce G. Kelley Bruce G. Kelley ----------------------------- Its Chairman, President, Bruce G. Kelley Treasurer & CEO Its Chairman, Treasurer & CEO EX-10.D 6 Exhibit 10 (d) 1982 -------------- EMPLOYERS MUTUAL CASUALTY COMPANY INCENTIVE STOCK OPTION PLAN 1. PURPOSE. The purpose of this Stock Option Plan, which shall be known as the "1982 Employers Mutual Casualty Company Incentive Stock Option Plan" (the "Plan"), is to promote the interests of Employers Mutual Casualty Company (the "Company") and its policyholders, and the interests of all of its Subsidiaries including specifically EMC Insurance Group Inc. ("EMC Ins.") and the interests of the other shareholders of EMC Ins., by strengthening the ability of the Company to attract and retain key personnel with exceptional abilities by furnishing them with incentives for the acquisition and long term accumulation of common stock of EMC Ins., and also by giving them a common interest with the other shareholders in the continued growth and success of the Company. The Plan provides for the grant of incentive stock options in accordance with the terms and conditions set forth below. The term "Subsidiary" shall mean any corporation of which a majority of the voting stock is owned or controlled, directly or indirectly, by the Company. The term "Company" when used in the Plan with reference to employment shall include Subsidiaries of the company. Unless otherwise required by the context, the term "option" shall refer to the incentive stock options granted under the Plan. 2. ADMINISTRATION. The Plan shall be administered by the Board of Directors (the "Board") of the Company. Subject to the provisions of the Plan, the Board shall have complete authority to construe and interpret the Plan, to establish, amend and rescind appropriate rules and regulations relating to the Plan including guidelines for the awarding of options, to select persons eligible to participate in the Plan, to grant options thereunder, to administer the Plan, and to take all such steps and make all such determinations in connection with the Plan and the options granted thereunder as it may deem necessary or advisable. This authority is expressly subject to the condition that if at any time a majority of the Board consists of employees of EMC Ins. or the Company or any Subsidiary who are eligible to participate under the Plan, all of the authority granted in this Plan to the Board shall cease and shall in turn be transferred to and exercised by the Stock Option Committee of the Board as provided in Section 4 hereof; such Committee to be comprised of not less than three members of the Board all of whom are not eligible to participate in the Plan. This authority is also expressly subject to the condition that, notwithstanding the By-Laws of the Company, the Executive Committee of the Board shall not exercise any of the authority given to or vested in the Board under this Plan. 3. STOCK. The stock to be subject to options under the Plan shall be shares of EMC Ins. common stock of the par value of $1.00 per share (the "Stock"). The total amount of Stock on which options may be granted under the Plan shall not exceed 500,000 shares. Such number of shares is subject to adjustment in accordance with the provisions of Section 12 hereof. The shares involved in the unexercised portion of any terminated or expired options under the Plan may again be subjected to options under the Plan. 4. ELIGIBILITY. To be eligible for selection by the Board to participate in the Plan, an individual must be an officer or key employee of the Company, or of any Subsidiary of the Company, as of the date on which the Board grants to such individual an option; such individuals are hereinafter referred to as "Eligible Employee(s)." Those Directors who are not officers or employees of the Company or of any Subsidiary will not be eligible. Subject to the provisions of this Plan and as hereinafter provided, options may be granted to such Eligible Employees as the Board may select from among those nominated by the Stock Option Committee of the Board and for such number of shares as the Board may designate. The Stock Option Committee shall not only nominate Eligible Employees but shall also recommend the number of shares under each option; the Board may, in its discretion, increase or decrease such number of shares for any Optionee. The Stock Option Committee shall be designated by the Board of Directors of the Company and shall be comprised of not less than three members of the Board all of whom are not eligible to participate in the Plan. The Board and the Stock Option Committee shall both take into account the duties of the respective employees, their present and potential contributions to the success of the Company, and such other factors as they shall deem relevant in connection with accomplishing the purpose of the Plan. 5. GRANT OF OPTIONS. Each Eligible Employee to whom an option is granted is hereinafter sometimes referred to as the "Optionee". Where appropriate, the term "Optionee" may refer to both the individual to whom the option is granted and to his or her beneficiary or legal representative in the event of death. The granting of an option pursuant to the Plan shall take place when the Board by resolution, written consent, or other appropriate action determines to grant such an option to an Optionee. The date on which the option shall be granted (sometimes the "Date of Grant") shall be the date of the appropriate action by the Board or such later date as may then be determined by the Board. Following such grant, a notice thereof shall be sent to the Optionee stating the number of shares under option, the date of grant, and the option price per share. If deemed advisable by the Board, the notice may be accompanied by an option agreement to be signed by the Company and the Optionee, which agreement shall contain provisions not inconsistent with the Plan. Any individual may hold more than one option at any one time. The aggregate fair market value (determined as of the date of grant) of shares of stock with respect to which incentive stock options are exercisable for the first time by the Optionee during any calendar year under this Plan and each other incentive stock option plan of the Company and any Subsidiaries shall not exceed $100,000. 6. OPTION PRICE. The option price per share with respect to each option shall be determined by the Board but shall not be less than 100% of the fair marked value of the Stock on the Date of Grant. 7. FAIR MARKET VALUE. For the purpose of determining the option price, the fair market value shall be the mean between the high and low prices published in The Wall Street Journal for the business date preceding the Date of Grant. The fair market value of Stock, as of any date other than the Date of Grant, shall be the mean between the high and low prices published in The Wall Street Journal for such respective date. In the event the high and low prices for a respective business date are not published in The Wall Street Journal, then the prices published in The Wall Street Journal for the closest business date prior thereto shall be used. Provided further, in the event the high and low prices are not published in The Wall Street Journal, but the bid and asked prices are then so published in The Wall Street Journal, the bid and asked prices shall be used in lieu of the high and low prices. 8. TERM AND VESTING OF OPTIONS. Each option shall be for a period of two or more years, not to exceed ten, as determined by the Board at the time of grant of the respective option. The term shall commence on the Date of Grant. At the end of the term, all rights to the option shall expire. Each option shall have a vesting period of two, three, four, or five years, as determined by the Board at the time of granting the respective option, with the option becoming exercisable in equal annual cumulative increments. The vesting period shall commence one year from the Date of Grant. By way of example only, if the option had a term of ten years and a five year vesting period, then such option could only be exercisable in accordance with the following schedule: a. During the first year, the Optionee could not exercise the option as to any shares. b. During the second year, the Optionee may exercise the option as to not more than one/fifth (20%) of the shares under option. c. During the third year, the Optionee may exercise the option as to not more than two/fifths (40%) of the shares under option less that number of shares for which the option was exercised in the second year. d. During the fourth year, the Optionee may exercise the option as to not more than three/fifths (60%) of the shares under option less that number of shares for which the option was exercised in the prior years. e. During the fifth year, the Optionee may exercise the option as to four/fifths (80%) of the shares under option less that number of shares for which the option was exercised in the prior years. f. During the sixth through the tenth years, the Optionee may exercise the option as to all of the shares under option less that number of shares for which the option was previously exercised. As a further example, if the option had a term of eight years and a four year vesting period, then the Optionee could exercise the option as to not more than 25% during the second year, not more than 50% during the third year, not more than 75% during the fourth year, and as to 100% during the fifth through the eighth years. 9. EXERCISE OF OPTIONS. An option shall be exercised when written notice of such exercise has been given to the Company at its home office in Des Moines, Iowa (Attention: Chairman of the Board) by the Optionee accompanied by full payment for the shares with respect to which the option is exercised. All, or any portion, of the option exercise price, at the discretion of the Board and in accordance with such rules, regulations and restrictions established from time to time by the Board, may be paid by the surrender to EMC Ins., at the time of exercise, of shares of previously acquired Stock owned by the Optionee, to the extent that such payment does not require the surrender of a fractional share of such previously acquired Stock. For this purpose, shares of previously acquired Stock shall be valued at fair market value on the date the option is exercised. No shares shall be issued or delivered until full payment therefore has been made. 10. NON-TRANSFERABILITY OF RIGHTS. No option shall be transferable by an Optionee otherwise than by will or the laws of descent and distribution. During the lifetime of the Optionee, the option shall be exercisable only by such Optionee. An Optionee may file with the Company a written designation of a beneficiary or beneficiaries (subject to such limitations as to the classes and number of beneficiaries and contingent beneficiaries and such other limitations as the Board from time to time may prescribe) to exercise, in the event of the death of the Optionee, such option rights, subject to the provisions of Section 11 hereof. An Optionee may from time to time revoke or change any such delignation of beneficiary and any designation of beneficiary under the Plan shall be controlling over any other disposition, testamentary or otherwise; provided, however, that if the Board shall be in doubt as to the right of any such beneficiary to exercise any such option, the Board may determine to recognize only an exercise by the legal representative of the Optionee, in which case the Company, the Board and the members thereof shall not be under any further liability to anyone. 11. TERMINATION OF EMPLOYMENT OR DEATH. In the event of termination of employment, for a reason other than death or misconduct or disability, the Optionee shall have the right, for a period of three months from the effective date of termination, to exercise the option but only to the extent that such was exercisable on the date of termination; provided however, in the event the termination of employment is due to retirement, the Optionee shall have the right to exercise the option as to all shares, whether or not exercisable on date of termination. In the event of termination of employment due to permanent and total disability, the Optionee shall have the right, for a period of twelve months from the effective date of such termination, to exercise the option as to all shares, whether or not exercisable on date of termination, to the extent not previously exercised. In the event of termination of employment due to deliberate, willful or gross misconduct as determined by the Company, all unexercised options, whether or not exercisable on date of termination, of such Optionee shall immediately terminate and all rights thereon shall cease. In the event of the death of the Optionee, prior to his or her termination of employment, the designated beneficiary or the executor of the Optionee, as the case may be, shall have the right for a period of twelve months from date of death, to exercise the option as to all shares, whether or not exercisable as of date of death, to the extent not previously exercised. In the event of death of the Optionee, after his or her termination of employment for a reason other than deliberate, willful or gross misconduct but during the three-month period or twelve-month period, as the case may be, for exercise of the option, the designated beneficiary or the executor of the Optionee, as the case may be, shall have the right for a period of six months from date of death or the original term from date of termination of employment, whichever is longer, to exercise the option as to all shares which were subject to the exercise of such option at date of death. To the extent such options are not exercised within the three-month, six-month or twelve-month applicable periods, such shall lapse at the expiration of such period(s) but shall be available for the grant of future options under the Plan. No transfer of an option right, other than by filing a written designation of beneficiary pursuant to Section 10 hereof, shall be effective to bind the company unless the Company shall have been furnished with a copy of the Will and/or such other evidence as the Board may deem necessary to establish the validity of the transfer. Such transfer shall be subject to the terms and conditions of such option. 12. STOCK ADJUSTMENT, RECLASSIFICATION, MERGER, OR CONSOLIDATION. The total amount of Stock on which options may be granted under the Plan and the option rights (both as to the option price and the number of shares as to which the option may be exercised) shall be appropriately adjusted for any increase or decrease in the number of outstanding shares of Stock resulting from payment of a stock dividend on Stock, a subdivision or combination of shares of Stock, a stock-split of Stock, or a reclassification of Stock, and, in accordance with the provisions contained in the next following paragraph in the event of a merger or consolidation in which EMC Ins. shall be the surviving corporation. After any merger of one or more corporations into EMC Ins. or after any consolidation of EMC Ins. and one or more corporations in which EMC Ins. shall be the surviving corporation, each Optionee shall have the right to exercise, in lieu of the number of shares of Stock as to which such option right could then be so exercised, the number and class of shares of Stock or other securities to which such Optionee would have been entitled pursuant to the terms of the agreement of merger or consolidation if at the time of such merger or consolidation such Optionee had been a holder of record of a number of shares of Stock equal to the number of shares as to which such option right shall then be so exercised. Anything contained herein to the contrary notwithstanding, upon the dissolution or liquidation of EMC Ins., or upon any merger or consolidation in which EMC Ins. is not the surviving corporation, each option right granted under the Plan shall terminate. The foregoing adjustments and the manner of application of the foregoing provisions shall be determined by the Board in its sole discretion. Any such adjustment may provide for the elimination of any fractional share which might otherwise become subject to an option. 13. RIGHTS AS A STOCKHOLDER. An Optionee shall have no rights as a stockholder with respect to any share covered by the option right until the Optionee shall have become the holder of record of such share of Stock, and no adjustment shall be made for dividends (ordinary or extraordinary, whether in cash, securities or other property) or distributions or other rights in respect of such share for which the record date is prior to the date on which the Optionee shall have become the holder of record thereof, except for the adjustments required under the provisions of Section 12 hereof. 14. INVESTMENT PURPOSE. At the time of any exercise of any option right, the Company may, if it shall deem it necessary or desirable for any reason, require the Optionee to represent in writing to the Company and/or EMC Ins. that it is such person's then intention to acquire the Stock for investment and not with a view to the distribution thereof. In such event no shares shall be issued to such person unless and until the Company is satisfied with the correctness of such representation. 15. REGULATORY APPROVALS AND LISTING. EMC Ins. shall not be required to issue any certificate or certificates for shares of Stock upon the exercise of an option granted under the Plan prior to the completion of any registration or other qualification of such shares under any state or federal law or rulings or regulations of any governmental body which the Board shall, in its sole discretion, determine to be necessary or advisable. 16. INDEMNIFICATION AND EXCULPATION. The Company shall indemnify to the full extent permitted by law, any person who is made or threatened to be made, a party to any action, suit or proceeding (whether civil, criminal, administrative or investigative) by reason of any action taken or failure to act under the Plan while he, his testator or intestate is or was a member of the Board or of the Stock Option Committee or of the Board of Directors of EMC Ins. The foregoing right of indemnification shall not be exclusive of any other right or which such person may be entitled as a matter of law or otherwise (including but not limited to the Bylaws of the Company) or any power that the company may have to indemnify or hold such person harmless. Each member of the Boards of Directors or of such Committee, and each officer and employee of the Company and EMC Ins., shall be fully justified in relying or acting in good faith upon any information furnished in connection with the administration of the Plan by any appropriate person or persons other than such person. In no event shall any person who is or shall have been a member of the Boards of Directors or of such Committee, or an officer or employee of the Company or EMC Ins., be held liable for any determination made or other action taken or any omission to act in reliance upon any such information, or for any failure to act, if in good faith. The foregoing right shall not be exclusive of any other right to which such person may be entitled as a matter of law or otherwise (including without limitation the Bylaws of the Company or EMC Ins.) 17. FINALITY OF DETERMINATIONS. Each determination, interpretation, or other action made or taken pursuant to the provisions of the Plan by the Board shall be final and shall be binding and conclusive for all purposes and upon all persons, including but without limitation thereto, the Company and each of the members thereof, and the Directors, officers, and employees of the Company and its Subsidiaries, the optionees, and their respective successors in interest. 18. TERM OF PLAN. No option shall be granted pursuant to this Plan after August 31, 1992, but options theretofore granted may extend beyond that date and the terms and conditions of this Plan shall continue to apply thereto and to shares of Stock acquired upon exercise of such options. 19. AMENDMENT, MODIFICATION, AND TERMINATION OF THE PLAN. The Board at any time may terminate, and at any time and from time to time, and in any respect, may amend or modify, the Plan; provided however, that no such amendment, modification or termination of the Plan shall in any manner affect any option right theretofore granted to an Optionee under the Plan without the consent of the Optionee. 20. EFFECTIVE DATE. This Plan shall become effective on the first day of November, 1982. APPROVED by the Board of Directors of Employers Mutual Casualty Company on the 1st day of September, 1982. AMENDED by the Board of Directors of Employers Mutual Casualty Company on the 11th day of March, 1987 and on the 1st day of June, 1988. /s/ Philip T. Van Ekeren -------------------- Secretary EX-10.E 7 Exhibit 10 (e) DEFERRED BONUS COMPENSATION PLAN -------------- FOR EMPLOYERS MUTUAL CASUALTY COMPANY AND SUBSIDIARY AND AFFILIATED COMPANIES 1. Purpose of the Plan. Employers Mutual Casualty Company and some of its subsidiary and affiliated companies have established bonus compensation programs for certain executives and branch managers. The purpose of this Plan is to benefit each participating Company by providing an option to key employees with respect to deferral of certain bonus income until retirement. This Plan will aid each participating Company in retaining its present management and, should circumstances require it, to attract additions to management. Unless otherwise stated, references hereinafter to "Company" and to "Board" or "Board of Directors" shall refer separately to each participating Company which has adopted this Plan and separately to each Board of Directors of each such participating Company. 2. Administration of the Plan. Subject to the provisions of this Plan, each Board shall have exclusive power to decide whether to permit its employees who are eligible for any bonus program maintained by the Company to participate in this Plan. If any Board desires to participate in this Plan, it shall adopt a resolution adopting this Plan with respect to any bonus plan it maintains for key employees, specifying in the resolution the specific bonus plan or plans that are eligible to participate in this Plan. The Board of Directors of Employers Mutual Casualty Company shall have authority and responsibility to amend, revise, terminate and interpret the Plan, to establish and revise rules and regulations relating to the Plan, and to make any other determination that it believes necessary or advisable for administration of the Plan. 3. Participation. Individual participants in the Plan shall be those individuals who are participants under a participating company's bonus income plan that has been designated by that participating company for participation in this Plan. Prior to December 31 of each Plan year, each eligible participant, if he or she wishes to defer all or any part of the bonus that would be paid to the participant in the following Plan Year with respect to performance in the Plan Year, shall file an election designating that portion (expressed as a percentage) of his or her bonus that otherwise would have been paid in the following Plan Year with respect to performance in the Plan Year in which the election is made; provided however, in no event shall amounts of less than $500.00 be deferred. Once an election is made for a Plan Year, it may not be later revoked except upon approval of the Board of Directors of the participating Company. 4. Crediting of Deferred Compensation. Each bonus deferred by a participant shall be credited to an account maintained for such participant. Amounts shall be credited to the account of the participant on the date that the deferred bonus would have otherwise been paid in cash to the participant by the participating company. Deferred amounts that are credited to the account of the participant shall be credited with interest compounded annually based upon the effective yield for the most recent issue of ten year U.S. Treasury notes as quoted in the Wall Street Journal or a similar publication on the day the deferred compensation is credited to the account of the participant. Upon the expiration of ten years from the date of crediting, the account of the participant with respect to any deferred compensation, the amount in the account with respect to such deferred compensation shall be credited with interest from that day forward based upon the effective yield on the most recent issue of ten year U.S. Treasury notes as quoted in the Wall Street Journal or a similar publication on such date, with interest recalculated for each subsequent ten year period in a like manner. 5. Limitations on Obligations of the Company. The deferred compensation obligation of each participating Company, with respect to any Participant, shall, at all times, be unsecured and payments to be made with respect to any deferred compensation obligation under this Plan shall be paid out of the general operating revenue of the Company. 6. Conditions on Right to Payment of Deferred Compensation. A participant shall not be entitled to payment of any deferred compensation until he or she reaches retirement age (including early retirement age if he or she is eligible and takes early retirement) as defined in the participating Company's retirement plan, or upon death or permanent disability, whichever occurs first. Upon Board approval, payment may be made to a Participant prior to retirement or early retirement in the event employment terminates prior to the time the participant is eligible for retirement or early retirement under the Company's pension plan. 7. Form and Timing of Payment. At the election of the Board, upon consulting with the Participant, payments of deferred compensation shall be made in lump sum or in equal annual installments over a period of time not to exceed the life expectancy of the Participant, or the joint life expectancy of the Participant and his or her spouse, if married. Payment may commence upon retirement, early retirement, permanent disability or death, either during the Plan Year of separation or the Plan Year following separation. Upon Board approval, Participants involuntarily terminated from employment may receive payments during the first 90 days following termination. Installment payments shall be made within 15 days following the first day of the Plan Year in which payment is to be made. If payment is to be made in a lump sum, such payment shall be made within 15 days following the first day of the Plan Year in which payment is to be made. In the event of the death of the Participant occurring either before the commencement of payment or before the full balance of the Participant's account has been paid, the unpaid balance of deferred compensation shall be paid in a lump sum to the Participant's designated beneficiary, or in the absence of such designation, by will or by the laws of descent and distribution of the state of residency of the Participant at the time of his or her death. In all cases, payment shall be made within 30 days following date of death. Interest earned through the date of payment shall be credited to the Participant's account. 8. Effective Date. This Plan sets forth the policy with respect to deferral of bonus compensation as adopted by the Board of Directors of Employers Mutual Casualty Company. This Plan as to Employers Mutual Casualty Company is effective as of November 1, 1985. This Plan, as to each other company that is an affiliate or subsidiary of Employers Mutual Casualty Company, shall become effective on the date adopted by such Company. "Plan Year" means a calendar year January 1 through December 31. The first Plan Year shall be the year beginning January 1, 1985. 9. Amendment and Termination. The Board of Directors of any participating Company may at any time terminate this Plan as to its participation. The Plan may be amended at any time by the Board of Directors of Employers Mutual Casualty Company. No such action shall adversely affect any right or obligation with respect to any deferred compensation and interest credited thereto previously granted to a participant. 10. Employment Rights. Neither the adoption of the Plan nor any of its provisions shall confer upon any participant any right to continued employment with Company or affect in any way the right of the Company to terminate the employment of a participant at any time. EX-10.F 8 Exhibit 10 (f) EMC Reinsurance Company -------------- Executive Bonus Program PURPOSES AND BENEFITS: - ---------------------- 1. To improve profits, surplus and service in EMC Reinsurance Company. 2. To recognize the effort and contribution to profit by a senior executive of the company. 3. To cause an executive under this Plan to improve the earning of the company - not to be a profit sharing program. 4. Applicable to the officer who is listed below: Ronnie D. Hallebeck GENERAL PROGRAM: - ---------------- Any bonus payment earned under this program will be paid to the executive in "4" above about April 15, or as soon as all information is available for the operating year on which to base payments. If there is a disagreement or misunderstanding of the basis for the bonus or in the calculation of the amounts, the decision of the Chief Executive Officer will be final. UNDERWRITING BONUS BASES: - ------------------------- Bonus basis is keyed to the combined loss and expense ratio as adjusted by deleting from both premium and loss, all premium and loss development occurring prior to December 31, 1987. Bonus shall be computed alternatively under Scale A and Scale B following. The scale producing the better results for the executive shall apply. Calculations will be to the nearest `1/10th of 1%. Scale A: If the combined ratio is 100 or higher, no bonus is payable under this scale. If combined ratio is below 100, the 33 1/3 of the bonus potential is earned for each point below 100; i.e., a 97 or better would earn 100% bonus potential. Scale B: Keyed to performance compared to the reinsurance industry, and will be computed as follows. If the combined ratio is equal to or worse than that of the industry, no bonus is payable under this scale. For every point by which the combined ratio is below that of the industry, 33 1/3 of bonus potential is earned; i.e., if the combined ratio is three points better than the industry, 100% bonus potential is earned. The reinsurance industry combined ratio published in the second quarter by the Reinsurance Association of America shall be used to compute under this scale. The adjusted combined loss and expense ratio of the company as defined for purposes of calculation under this plan may be modified by reserve adjustments or corrections only by approval of the Senior Executive Compensation Committee. NOTE: Potential bonus under this plan is 35% of base annual salary for the - ----- program year. ADMINISTRATION: - --------------- 1. An executive must have been on the payroll a minimum of six months before he or she is eligible for a bonus payment. 2. An executive leaving the Companies before the established date for the payment of bonuses will not be paid a bonus. 3. An executive retiring or becoming deceased or disabled before the established date for the payment of bonuses will receive a bonus on the basis of the portion of the year he or she is on the payroll. 4. If an executive is promoted during the year and given a salary increase, the bonus will be pro-rated on the basis of the salaries paid for the specific position. 5. Deductions for Federal and State income taxes and FICA, if applicable, will be made from each bonus on the basis of IRS regulations. 6. As a general rule, no bonus will be paid if there is not an increase in surplus for the year; however, even in the event of no increase in surplus, before making a recommendation to pay or not pay a bonus, the Senior Officers Compensation Committee will take into consideration a number of factors that have a direct relationship to surplus. Examples of factors to be considered would be the following: a.) The direction and degree that surplus has moved in the property and casualty reinsurance industry as a whole. b.) The existence or absence of an excessive number and the dollar size, of natural catastrophes. c.) The Company's reserving policy and the experience of the adequacy or inadequacy thereof. d.) Trends in the equity and fixed income markets as reflected by the major market indexes. e.) The nature of securities transactions; the reasoning for them and the short and long-term effects thereof. EX-10.H 9 Exhibit 10 (h) EMPLOYERS MUTUAL CASUALTY COMPANY -------------- EXCESS RETIREMENT BENEFIT AGREEMENT . AGREEMENT entered into this ___ day ____________, 19__ between Employers Mutual Casualty Company, a corporation organized under the laws of the State of Iowa, and its subsidiaries and affiliates ("Company") and ____________________________ ("Employee"). WHEREAS, the benefit limitations of the Internal Revenue Code, as amended (the "Code") have severely curtailed the level of retirement income Employees otherwise would have been entitled to receive under the tax qualified Employers Mutual Casualty Company Retirement Plan, as amended from time to time (the "Pension Plan"), and WHEREAS, to assist Employee in providing for the contingencies of death, disability and old age dependency, Company desires to provide Employee with a non-qualified benefit to compensate him/her for the curtailment of his/her pension under the Pension Plan; and NOW, THEREFORE, the parties hereby agree as follows: 1. (a) Upon Employee's retirement from the employ of Company on or after his/her normal retirement date (as defined in the Pension Plan), or upon his/her termination of employment, or if Employee becomes disabled (as defined in the Pension Plan), Company agrees to pay him/her (or his/her beneficiary or contingent annuitant, as the case may be) an additional benefit equal to the difference between (A) the benefit Employee (or his/her beneficiary or contingent annuitant, as the case may be) would have been entitled to receive under the Pension Plan as if the benefit limitations of the Code were not in effect and not contained in such retirement plan, and as if his/her compensation and bonus for benefit purposes were determined without reduction with respect to any portion which Employee may have deferred pursuant to a non-qualified deferred compensation agreement between himself and Company, and (B) the actual benefit payable to Employee (or his/her beneficiary or contingent annuitant, as the case may be) under the Pension Plan taking into account such benefit limitations and taking into account only such compensation of Employee as is recognized under the Pension Plan. The benefit payable to Employee (or his/her beneficiary or contingent annuitant, as the case may be) pursuant to this Section 1(a) shall be payable to him/her as a lump sum benefit, and the calculation of the amount of such benefit shall be on the basis of the benefit formula and the same actuarial assumptions used by the Pension Plan. (b) If by reason of Employee's death prior to the time his/her benefits have commenced under the Pension Plan, his/her beneficiary or spouse becomes entitled to a benefit under said plan, Company agrees to pay to such beneficiary or spouse, as the case may be, a benefit equal to the difference between (A) the benefit that would have been payable to such beneficiary or spouse under the Pension Plan upon Employee's death if the benefit limitations of the Code were not in effect and not contained in the Pension Plan, and if Employee's compensation and bonus for benefit purposes were determined without reduction with respect to any portion which Employee may have deferred pursuant to a non-qualified deferred compensation agreement between himself/herself and Company, and (B) the actual benefit payable to such beneficiary or spouse, as the case may be, pursuant to this Section 1(b) shall be paid as a lump sum benefit and the calculation of the amount of such benefit shall be on the basis of the benefit formula and the same actuarial assumptions used by the Pension Plan . (c) Upon the termination by Employee of his/her employment, for reasons other than death or disability, with Company prior to attaining normal retirement age, Company will pay Employee (or his/her beneficiary or contingent annuitant) any such amount as may be specifically determined by the Senior Officers Compensation and Stock Option Committee of the Board of Company. Such determination shall be made within 60 days of Employee's termination of employment. (d). Any lump sum benefit payable under the terms of this agreement will be paid to Employee at the discretion of the Senior Officers Compensation and Stock Option Committee, but in no event later than the latter of 60 days following retirement date or January 2 of the year following the retirement date. (e) In the event of a hardship situation, Employee may petition the Senior Officers Compensation and Stock Option Committee for earlier payment than that prescribed in (d) above, but, in no event, can such earlier payment be made prior to Employee's retirement date. The decision to honor any such hardship petition rests solely with the Senior Officers Compensation and Stock Option Committee. (f) In the event of death or disability, any lump sum benefit payable under the terms of this agreement will be paid to Employee (or his/her beneficiary or contingent annuitant) as soon as practical after the date of such event. 2. Employee's rights under this Agreement, and the rights of a designated beneficiary, contingent annuitant or estate, may not be assigned, transferred, pledged, or encumbered. 3. Nothing contained in this Agreement shall be construed as conferring upon Employee the right to continue in the employ of Company in any capacity. 4. Nothing contained in this Agreement, and no action taken pursuant to the provision of this Agreement, shall create, or be construed to create, a trust of any kind or a fiduciary relationship between Company and Employee, his/her designated beneficiary, contingent annuitant, estate, or any other person and all payments to be made hereunder shall be made from the general assets of Company. Any rights acquired pursuant to this Agreement by Employee, a designated beneficiary, or contingent annuitant, or Employee's estate, shall be no greater than the rights of an unsecured general creditor of the Company. 5. The Senior Officers Compensation and Stock Option Committee of the Board of Directors of Company shall have full power and authority to interpret, construe and administer this Agreement, all such interpretations and constructions, including the determination of the amount of any payment to be made pursuant to the terms of this Agreement, shall be binding and conclusive upon all persons for all purposes. The Senior Officers Compensation and Stock Option Committee of the Board of Directors of Company shall not be liable to any person for any action taken or omitted in connection with the interpretation, construction or administration of this Agreement unless attributable to its members' own wilful misconduct or lack of good faith. 6. There shall be deducted from all payments by Company pursuant to this Agreement any taxes that are required to be withheld by reason of any Federal, State or local government law, statute, rule or regulation. 7. This Agreement shall be binding upon and inure to the benefit of Company, its successors and assigns, and Employee, his/her heirs, beneficiaries, contingent annuitants, executors, administrators and legal representatives. 8. This Agreement constitutes the entire agreement between the parties with respect to the subject matter hereof. 9. The place of administration of the Agreement shall be conclusively deemed to be within the State of Iowa and validity, construction, interpretation, administration and effect of this Agreement, and of its rules and regulations, and the rights of any and all persons having or claiming to have interest therein or thereunder, shall be governed by, and determined exclusively and solely in accordance with, the laws of the State of Iowa without giving effect to the principles of conflicts of law. IN WITNESS WHEREOF, Company has caused this Agreement to be executed by its duly authorized officer and Employee has hereunto set his/her hand as of the date first above written. ATTEST: EMPLOYERS MUTUAL CASUALTY COMPANY _______________________________________ By: _______________________________________ Chairman of the Board _______________________________________ Employee EX-13.A 10
SELECTED FINANCIAL DATA. EXHIBIT 13(a) - ------------------------ ------------- Year ended December 31, -------------------------------------------------------------------------------------------------- 1998 1997 1996 1995 1994 1993 1992 1991 1990 1989 1988 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- ($ in thousands, except per share amounts) Income Statement Data Insurance premiums earned ... $194,244 $177,218 $165,191 $162,266 $164,829 $156,438 $147,410 $113,419 $101,323 $ 91,728 $88,598 Investment income, net ...... 24,859 23,780 24,007 23,204 21,042 20,936 21,586 20,223 20,038 19,345 17,226 Realized investment gains ... 5,901 4,100 1,891 1,043 520 684 384 65 48 257 36 Other income ................ 1,701 1,023 904 1,005 1,128 668 701 860 888 543 426 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Total revenues ......... 226,705 206,121 191,993 187,518 187,519 178,726 170,081 134,567 122,297 111,873 106,286 Losses and expenses ......... 223,031 189,318 171,324 163,202 168,842 169,707 169,106 124,135 111,457 103,096 90,824 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Income before income taxes .. 3,674 16,803 20,669 24,316 18,677 9,019 975 10,432 10,840 8,777 15,462 Income taxes ................ (2,339) 3,586 5,635 6,967 5,171 1,885 759 3,124 2,894 2,055 3,920 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Income from: Continuing operations .... 6,013 13,217 15,034 17,349 13,506 7,134 216 7,308 7,946 6,722 11,542 Discontinued operations .. - - - - - - - 1,853 319 274 263 Accounting changes ....... - - - - - 2,621 - - - - - -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Net income ............ $ 6,013 $ 13,217 $ 15,034 $ 17,349 $ 13,506 $ 9,755 $ 216 $ 9,161 $ 8,265 $ 6,996 $11,805 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======= Net income per common share - basic and diluted: Continuing operations .. $ .53 $ 1.18 $ 1.37 $ 1.62 $ 1.29 $ .70 $ .02 $ .73 $ .80 $ .71 $ 1.29 Discontinued operations - - - - - - - .18 .03 .03 .03 Accounting changes ..... - - - - - .26 - - - - - -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Total ................. $ .53 $ 1.18 $ 1.37 $ 1.62 $ 1.29 $ .96 $ .02 $ .91 $ .83 $ .74 $ 1.32 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======= Premiums earned by segment: Property and casualty ..... $155,523 $143,113 $128,516 $126,440 $127,573 $123,114 $120,795 $ 88,410 $ 80,627 $ 73,107 $67,181 Reinsurance ............... 38,721 34,105 36,675 35,826 37,256 33,324 26,615 25,009 20,696 18,621 21,417 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ------- Total ..................$194,244 $177,218 $165,191 $162,266 $164,829 $156,438 $147,410 $113,419 $101,323 $ 91,728 $88,598 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======= Balance Sheet Data Total assets ................ $496,046 $459,110 $430,328 $412,881 $387,370 $368,936 $372,807 $311,001 $296,126 $284,396 $266,812 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Stockholders' equity ........ $163,938 $162,346 $148,729 $136,889 $116,727 $109,634 $100,911 $105,144 $100,615 $ 95,911 $ 89,604 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ========
SELECTED FINANCIAL DATA.(continued) EXHIBIT 13(a) - ----------------------------------- ------------ Year ended December 31, -------------------------------------------------------------------------------------------------- 1998 1997 1996 1995 1994 1993 1992 1991 1990 1989 1988 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- ($ in thousands, except per share amounts) Other Data Average return on equity .... 3.7% 8.5% 10.5% 13.7% 11.9% 9.3% .2% 8.9% 8.4% 7.5% 14.1% ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Book value per share ........ $ 14.26 $ 14.30 $ 13.42 $ 12.66 $ 11.03 $ 10.63 $ 9.98 $ 10.47 $ 10.04 $ 9.82 $ 9.65 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Dividends paid per share .... $ .60 $ .60 $ .57 $ .53 $ .52 $ .52 $ .52 $ .52 $ .52 $ .52 $ .49 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Property and casualty segment pool percentage ........... 23.5% 22% 22% 22% 22% 22% 22% 17% 17% 17% 17% ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Reinsurance subsidiary quota share percentage .......... 100% 100% 95% 95% 95% 95% 95% 95% 95% 95% 95% ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Closing stock price ......... $ 12 3/4 $ 13 1/4 $ 12 $ 13 3/4 $ 9 1/2 $ 9 1/2 $ 8 1/2 $ 9 1/2 $ 6 7/8 $ 8 $ 7 3/4 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Net investment yield (pretax) 6.02% 6.15% 6.54% 6.65% 6.59% 6.83% 7.50% 8.02% 8.53% 8.74% 8.58% ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Cash dividends to closing stock price........ 4.7% 4.5% 4.8% 3.9% 5.5% 5.5% 6.1% 5.5% 7.6% 6.5% 6.3% ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Common shares outstanding ... 11,496 11,351 11,084 10,814 10,577 10,317 10,112 10,046 10,015 9,762 9,287 ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== Statutory combined ratio .... 114.8% 106.2% 103.6% 99.6% 101.3% 106.3% 113.9% 109.2% 109.5% 112.7% 98.7% ======== ======== ======== ======== ======== ======== ======== ======== ======== ======== ========
Amounts previously reported in prior consolidated financial statements have been reclassified to conform to current presentation. EX-13.B 11 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL EXHIBIT 13(b) ------------------------------------------------- ------------- CONDITION AND RESULTS OF OPERATIONS. ------------------------------------ The following discussion and analysis of EMC Insurance Group Inc. and its subsidiaries' financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements included elsewhere herein. OVERVIEW EMC Insurance Group Inc., an approximately 68 percent owned subsidiary of Employers Mutual Casualty Company (Employers Mutual), is an insurance holding company with operations in property and casualty insurance and reinsurance. Property and casualty insurance is the most significant segment, representing 80.1 percent of consolidated premiums earned. For purposes of this discussion, the term "Company" is used interchangeably to describe EMC Insurance Group Inc. (Parent Company only) and EMC Insurance Group Inc. and its subsidiaries. The Company adopted Statement of Financial Accounting Standard (SFAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information" in the fourth quarter of 1998. Implementation of this standard caused the Company to redefine its reportable segments (see note 8 of Notes to Consolidated Financial Statements). The Company's four property and casualty insurance subsidiaries and two subsidiaries and an affiliate of Employers Mutual are parties to reinsurance pooling agreements with Employers Mutual (collectively the "pooling agreement"). Under the terms of the pooling agreement, each company cedes to Employers Mutual all of its insurance business, with the exception of any voluntary reinsurance business assumed from nonaffiliated insurance companies, and assumes from Employers Mutual an amount equal to its participation in the pool. All losses, settlement expenses and other underwriting and administrative expenses, excluding the voluntary reinsurance business assumed by Employers Mutual from nonaffiliated insurance companies, are prorated among the parties on the basis of participation in the pool. Operations of the pool give rise to intercompany balances with Employers Mutual, which are settled on a quarterly basis. The investment and income tax activities of the pool participants are not subject to the pooling agreement. The purpose of the pooling agreement is to spread the risk of an exposure insured by any of the pool participants among all the companies. The pooling agreement produces a more uniform and stable underwriting result from year to year for all companies in the pool than might be experienced individually. In addition, each company benefits from the capacity of the entire pool, rather than being limited to policy exposures of a size commensurate with its own assets, and from the wide range of policy forms, lines of insurance written, rate filings and commission plans offered by each of the companies. A single set of reinsurance treaties is maintained for the protection of all companies in the pool. Effective January 1, 1998, Farm and City Insurance Company (Farm and City), a subsidiary of the Company that writes nonstandard risk automobile insurance business, became a participant in the pooling agreement. Farm and City assumes a 1.5 percent participation in the pool, which increased the Company's aggregate participation in the pool from 22 percent in 1997 and 1996 to 23.5 percent in 1998. In connection with this change in the pooling agreement, the Company's liabilities increased $6,225,000 and invested assets increased $5,570,000. The Company reimbursed Employers Mutual $727,000 for the expenses that were incurred to generate the additional business assumed by the Company and Employers Mutual paid the Company $72,000 in interest income as the actual cash transfer did not occur until March 25, 1998. As a result of this change in structure, the Company now has four subsidiaries that comprise the property and casualty insurance segment and no longer has a separate segment for the nonstandard risk automobile insurance business. Effective January 1, 1997, Hamilton Mutual Insurance Company (Hamilton Mutual), a new affiliate of Employers Mutual, became a participant in the pooling agreement. In connection with this change in the pooling agreement, the Company's liabilities increased $6,393,000 and invested assets increased $5,674,000. The Company reimbursed Employers Mutual $794,000 for the expenses that were incurred to generate the additional business assumed by the Company and Employers Mutual paid the Company $75,000 in interest income as the actual cash transfer did not occur until March 24, 1997. The Company's reinsurance subsidiary assumes a quota share portion of Employers Mutual's assumed reinsurance business, exclusive of certain reinsurance contracts. The reinsurance subsidiary assumes its quota share portion of all premiums and related losses and settlement expenses of this business, subject to a maximum loss per event. The reinsurance subsidiary does not reinsure any of Employers Mutual's direct insurance business, nor any "involuntary" facility or pool business that Employers Mutual assumes pursuant to state law. In addition, the reinsurance subsidiary is not liable for credit risk in connection with the insolvency of any reinsurers of Employers Mutual. Effective January 1, 1997, the reinsurance subsidiary's quota share participation was increased from 95 percent to 100 percent and the maximum loss assumed per event was increased from $1,000,000 to $1,500,000. In connection with the change in the quota share percentage, the Company's liabilities increased $3,174,000 and invested assets increased $3,067,000. The Company reimbursed Employers Mutual $107,000 for the expenses that were incurred to generate the additional business assumed by the Company. CONSOLIDATED RESULTS OF OPERATIONS Operating results for the three years ended December 31, 1998 are as follows: ($ in thousands) 1998 1997 1996 -------- -------- -------- Premiums earned .......................... $194,244 $177,218 $165,191 Losses and settlement expenses ........... 157,876 129,853 115,367 Acquisition and other expenses ........... 63,554 58,529 55,079 -------- -------- -------- Underwriting loss ........................ (27,186) (11,164) (5,255) Net investment income .................... 24,859 23,780 24,007 Other income ............................. 100 87 26 -------- -------- -------- Operating (loss) income before income taxes ........................... (2,227) 12,703 18,778 Realized investment gains ................ 5,901 4,100 1,891 -------- -------- -------- Income before income taxes ............... $ 3,674 $ 16,803 $ 20,669 ======== ======== ======== Incurred losses and settlement expenses: Insured events of the current year ..... $168,953 $137,301 $131,375 Decrease in provision for insured events of prior years ................ (11,077) (7,448) (16,008) -------- -------- -------- Total losses and settlement expenses $157,876 $129,853 $115,367 ======== ======== ======== Catastrophe and storm losses ............. $ 13,477 $ 5,846 $ 9,192 ======== ======== ======== Operating results before income taxes have declined substantially over the last three years. This decline is primarily attributable to the property and casualty insurance segment, which has experienced intense rate competition, a significant increase in current accident year loss activity and large fluctuations in the amount of favorable development experienced in the actual settlement of claims and changes in reserves associated with prior years' losses. The reinsurance segment has also experienced a decline in operating income over the last three years, but continues to be profitable. Operating results for 1998 reflect earnings of $1,204,000 that resulted from a one-time adjustment in certain balances reported by a state run assigned risk program in which the Company's property and casualty insurance segment participates. Premium income increased substantially in 1998 and 1997 after rising moderately in 1996. The majority of this increase is attributable to the property and casualty insurance segment, which has benefitted from the regional presence provided by the Company's 18 branch offices and the addition of Hamilton Mutual to the pooling agreement in 1997. The addition of Farm and City to the pooling agreement in 1998 did not have a material impact on the revenues of the Company. The reinsurance subsidiary experienced a significant increase in premium income in 1998 with the addition of several new accounts after reporting a decline in 1997. Losses and settlement expenses increased significantly in 1998 due to a substantial increase in catastrophe and storm losses and an unusually large increase in the frequency and severity of losses unrelated to catastrophe and storm activity. This increase in current accident year loss activity was partially offset by an increase in the amount of favorable development experienced in the actual settlement of claims and changes in reserves associated with prior years' losses. Losses and settlement expenses for the year 1997 reflect a substantial decline in the amount of favorable development experienced on prior years' losses; however, the decline in favorable development was partially offset by a decline in catastrophe and storm losses. Losses and settlement expenses increased for the year 1996 despite the benefit of an elevated level of favorable development on prior years' losses. This was primarily due to an unusually large number of commercial property losses experienced by the property and casualty insurance segment and a substantial increase in catastrophe losses in the reinsurance segment. Acquisition and other expenses increased considerably in 1998 and 1997 after rising moderately in 1996. The increases for 1998 and 1997 relate primarily to the property and casualty insurance segment and reflect a variety of factors including increased production levels, higher commission costs and various loss control functions that have been implemented. The amounts reported for 1998 and 1997 also include expenses associated with the addition of Farm and City and Hamilton Mutual to the pooling agreement and the increase in the reinsurance subsidiary's quota share percentage. Net investment income increased moderately in 1998 after declining slightly in 1997. The improvement in 1998 is attributable to a higher average invested asset balance and a decline in investment expenses. The Company has experienced a decline in the average rate of return earned on fixed maturity investments over the last two years due to falling interest rates. Realized investment gains increased significantly in 1998 due to the liquidation of the Company's common stock mutual fund portfolio in the third quarter. Proceeds from the liquidation, which totaled $28,573,000 and included $7,585,000 of realized gains, were reinvested into individual stock issues that are being managed on a tax-aware basis. During the fourth quarter of 1998, the Company sold a portion of the newly acquired stock issues for tax planning purposes and recognized realized losses of $1,584,000. Realized investment gains for 1997 and 1996 reflect capital gains distributions from the common stock mutual fund portfolio. The change in the Company's investment strategy for equity securities, from a common stock mutual fund portfolio to individual stock issues, will allow the Company to control both the timing and the amount of sales that occur in these investments. As a result, realized investment gains reported in future periods are expected to decline significantly from the amounts reported during the last several years. SEGMENT RESULTS Property and Casualty Insurance Operating results for the three years ended December 31, 1998 are as follows: ($ in thousands) 1998 1997 1996 -------- -------- -------- Premiums earned .......................... $155,523 $143,112 $128,516 Losses and settlement expenses ........... 128,667 106,547 90,187 Acquisition and other expenses ........... 51,460 46,777 43,622 -------- -------- -------- Underwriting loss ........................ (24,604) (10,212) (5,293) Net investment income .................... 17,635 16,720 17,164 Other income ............................. 319 181 65 -------- -------- -------- Operating (loss) income before income taxes ........................... (6,650) 6,689 11,936 Realized investment gains ................ 5,870 4,077 1,818 -------- -------- -------- (Loss) income before income taxes ........ $ (780) $ 10,766 $ 13,754 ======== ======== ======== Incurred losses and settlement expenses: Insured events of the current year ..... $136,209 $112,192 $102,498 Decrease in provision for insured events of prior years ................ (7,542) (5,645) (12,311) -------- -------- -------- Total losses and settlement expenses $128,667 $106,547 $ 90,187 ======== ======== ======== Catastrophe and storm losses ............. $ 10,163 $ 4,570 $ 4,935 ======== ======== ======== As previously noted, Farm and City became a 1.5 percent participant in the pooling agreement on January 1, 1998, which increased the property and casualty insurance segment's aggregate participation in the pooling agreement from 22 percent in 1997 and 1996 to 23.5 percent in 1998. Prior year segment results have been restated to include the results of Farm and City for comparative purposes. Premiums earned increased substantially in 1998 and 1997 after rising moderately in 1996. The large increases in 1998 and 1997 are attributable to competitive rates, expansion into new territories and strong working relationships between local agents and the 18 regional branch offices. In addition, the Company's regional branch structure has allowed the property and casualty insurance segment to gain market share by writing roll over business made available by competitors' repositioning strategies. The increase for 1997 also reflects the addition of Hamilton Mutual to the pooling agreement, which added $8,634,000 to premiums earned. Rate competition continues to be intense, especially in the commercial lines marketplace where the property and casualty insurance segment conducts the majority of its insurance business. Overall rate adequacy continued to decline in 1998 as rates for various lines of insurance, including workers' compensation, general liability and commercial property, decreased. There were some indications of rate stabilization in the personal lines marketplace during 1998; however, overall rate adequacy is not expected to improve significantly in the near future. Losses and settlement expenses increased significantly in 1998 and 1997 after rising moderately in 1996. The large increase in 1998 reflects a substantial increase in both catastrophe and storm losses and the frequency and severity of losses unrelated to catastrophe and storm activity. The increase in catastrophe and storm losses is attributable to a series of intense storms that battered the Midwestern and Southeastern United States during the second quarter and losses associated with Hurricanes Georges and Bonnie during the third quarter. The large increase in current accident year claim activity was partially offset by an increase in the amount of favorable development experienced in the actual settlement of claims and changes in reserves associated with prior years' losses. Losses and settlement expenses increased significantly in 1997 due to a substantial decline in the amount of favorable development experienced on prior years' losses; however, this decline in favorable development was partially offset by lower catastrophe and storm losses. For the year 1996, losses and settlement expenses increased despite the benefit of an elevated level of favorable development on prior years' losses. This was primarily due to an unusually large number of severe commercial property losses. The property and casualty insurance segment has historically experienced favorable development in its reserves and current reserving practices have not been relaxed; however, the amount of favorable development experienced in recent years is not expected to continue. Acquisition and other expenses increased noticeably in 1998 and 1997 after rising moderately in 1996. The increase for 1998 reflects additional expenses associated with the higher production level noted previously, an increase in commission costs related to the intense competition for insurance business and the growing book of property business, and the payment of approximately $727,000 of expenses in connection with the addition of Farm and City to the pooling agreement. The amount reported for 1998 also reflects an increase in the estimate of deferrable acquisition expenses. This change in estimate, which was based on recent studies, had the effect of increasing the amount of acquisition costs that were deferred in 1998. The increase in acquisition and other expenses in 1997 is due to the increase in the size of the pool, higher commission rates on the property book of business, and the payment of approximately $794,000 of expenses related to the addition of Hamilton Mutual to the pooling agreement. Underwriting results for the last three years have been negatively impacted by a variety of factors ranging from a substantial increase in catastrophe and storm losses in 1998, a significant increase in the frequency and severity of losses unrelated to catastrophe and storm activity in 1998 and 1996 and a large decline in the amount of favorable development experienced on prior years' reserves in 1997. While significant in themselves, the impact of these factors has been compounded by intense rate competition within the insurance industry, especially in the commercial lines of insurance. Rates for commercial lines of insurance continue to decline due to excess capitalization in the insurance industry. As a result, increases in premium income are not keeping pace with increases in loss costs. Management is aware of the narrowing profit margin on commercial lines of insurance and continues to use strict underwriting guidelines. Other actions being taken to improve profitability include re-underwriting programs for both the current book of business and the agency force, controlled usage of discretionary rate credits and the implementation of rate increases where possible. Through its participation in the pooling agreement, the property and casualty insurance subsidiaries assume insurance business from the North Carolina Reinsurance Facility (NCRF), which is a state run assigned risk program. The property and casualty insurance subsidiaries have not previously recognized their share of certain surcharges reported by the NCRF. During 1998, the property and casualty insurance subsidiaries received clarification regarding such amounts and recorded their share of these cumulative surcharges. As a result, operating results for 1998 reflect assumed premium income of $543,000 and assumed loss recoveries of $662,000 related to prior years. Prospectively, these surcharges will be recorded on a quarterly basis . Reinsurance Operating results for the three years ended December 31, 1998 are as follows: ($ in thousands) 1998 1997 1996 -------- -------- -------- Premiums earned ............................ $ 38,721 $ 34,106 $ 36,675 Losses and settlement expenses ............. 29,209 23,306 25,180 Acquisition and other expenses ............. 12,094 11,752 11,457 -------- -------- -------- Underwriting (loss) gain ................... (2,582) (952) 38 Net investment income ...................... 6,760 6,615 6,436 Other income ............................... 168 219 274 -------- -------- -------- Operating income before income taxes ....... 4,346 5,882 6,748 Realized investment gains .................. 31 23 73 -------- -------- -------- Income before income taxes ................. $ 4,377 $ 5,905 $ 6,821 ======== ======== ======== Incurred losses and settlement expenses: Insured events of the current year ....... $ 32,744 $ 25,109 $ 28,877 Decrease in provision for insured events of prior years .................. (3,535) (1,803) (3,697) -------- -------- -------- Total losses and settlement expenses $ 29,209 $ 23,306 $ 25,180 ======== ======== ======== Catastrophe losses ......................... $ 3,314 $ 1,276 $ 4,257 ======== ======== ======== Premium income increased substantially in 1998 with the addition of several new accounts, after declining in 1997. The decline in 1997 reflects a decrease in the estimate of earned but not reported premium, rate reductions and the absence of run-off premium that was recognized in 1996. Premium income decreased in 1997 despite an increase in the quota share percentage from 95 percent to 100 percent and the cancellation of an aggregate reinsurance treaty with Employers Mutual. Rate competition within the reinsurance marketplace remains very intense and is not expected to improve in the near future due to excess capacity and the high level of merger and acquisition activity occurring in the industry. Losses and settlement expenses have fluctuated over the last three years in conjunction with the changes experienced in premium volume. Losses associated with current accident year claims increased more significantly in 1998 due to a deterioration in the loss experience of a reinsurance pool that Employers Mutual participates in, which was attributable to a high level of storm activity. The amount of favorable development experienced in the actual settlement of claims and changes in reserves associated with prior years' losses has also fluctuated over the last three years; however, the impact of these fluctuations has been mostly offset by similar fluctuations in the amount of catastrophe losses experienced in those years. Acquisition and other expenses have increased moderately but steadily over the last three years despite the fluctuations in premium income. This is primarily due to increases in contingent commission expense, which is associated with the favorable loss results experienced on the assumed book of business. Underwriting results have declined over the last three years, but are still considered satisfactory in the competitive reinsurance marketplace. The decline can be attributed in part to rate reductions, which are the result of excess capacity in the reinsurance marketplace. Employers Mutual is working to address this issue by accepting a larger share of coverage on desirable programs and strengthening its relationships with reinsurance intermediaries. Management is aware of the narrowing profit margin on reinsurance business and continues to emphasize profitability over premium growth. Parent Company Operating income before income taxes decreased to $77,000 in 1998 from $132,000 in 1997 and $94,000 in 1996. The decline in 1998 results is primarily due to higher operating expenses. Results for 1997 and 1996 reflect additional investment income that resulted from an increase in the invested asset balance. LOSS AND SETTLEMENT EXPENSE RESERVES Loss and settlement expense reserves are the Company's largest liability. Management continually reviews these reserves using a variety of statistical and actuarial techniques to analyze claim costs, frequency and severity data, and social and economic factors. Significant periods of time may elapse between the occurrence of an insured loss, the reporting of the loss and the settlement of the loss. During the loss settlement period, additional facts regarding individual claims become known, and accordingly, it often becomes necessary to refine and adjust the estimates of liability on a claim. Changes in reserve estimates are reflected in operating results in the year such changes are recorded. Estimating loss and settlement expense reserves for asbestos and environmental claims is very difficult due to the many uncertainties surrounding these types of claims. These uncertainties exist because the assignment of responsibility varies widely by state and claims often emerge long after a policy has expired, which makes assignment of damages to the appropriate party and to the time period covered by a particular policy difficult. In establishing reserves for these types of claims, management monitors the relevant facts concerning each claim, the current status of the legal environment, the social and political conditions and the claim history and trends within the Company and the industry. The Company's financial results have not been materially affected by losses associated with asbestos and environmental exposures. The Company's environmental claims activity is predominately related to pollution from hazardous waste of former insureds. The parties to the pooling agreement have not written primary coverage for the major oil or chemical companies. The greatest exposure arises out of claims from small regional operations or local businesses having pollution on their own property due to hazardous material use or leaking underground storage tanks. These insureds include small manufacturing operations, tool makers, automobile dealerships, contractors, and gasoline stations. The remaining exposure arises out of commercial general liability and umbrella policies issued to municipalities during the 1970s which allegedly cover contamination emanating from closed landfills. The Company's asbestos claims activity is predominately from insureds that have been named as one of multiple defendants covering exposure over many years. The Company has not found any evidence of injury as a result of exposure to an insured's products during the policy periods. LIQUIDITY AND INVESTMENTS The Company maintains a portion of the investment portfolio in relatively short-term and highly liquid investments to ensure the availability of funds to meet claims and expenses. The remainder of the investment portfolio, excluding investments in equity securities, is invested in securities with maturities that approximate the anticipated liabilities of the insurance issued. The Company considers itself to be a long-term investor and generally purchases fixed maturity investments with the intent to hold them to maturity. The Company has classified a portion of its investments in fixed maturity securities, primarily bonds issued by municipalities and corporations, as available-for-sale securities to provide flexibility in the management of the portfolio. Unrealized holding gains on fixed maturity securities available- for-sale, net of tax, totaled $6,194,000 at December 31, 1998 compared to $4,577,000 and $2,141,000 at December 31, 1997 and 1996, respectively. Since the Company does not actively trade in the bond market, such fluctuations in the fair value of these investments are not expected to have a material impact on the operations of the Company, as forced liquidations of investments are not anticipated. The Company closely monitors the bond market and makes appropriate adjustments in investment policy as changing conditions warrant. The majority of the Company's assets are invested in fixed maturities. These investments provide a substantial amount of income which supplements underwriting results and contributes to net earnings. As these investments mature, the proceeds will be reinvested at current rates, which may be higher or lower than those now being earned; therefore, more or less investment income may be available to contribute to net earnings depending on the interest rate level. During 1998 the Company liquidated its common stock mutual fund portfolio and reinvested the proceeds in individual stock issues that are being managed on a tax-aware basis. This change in investment philosophy is not expected to have a material impact on the operations of the Company as forced liquidations of investments are not anticipated. The major ongoing sources of the Company's liquidity are insurance premium income, investment income and cash provided from maturing or liquidated investments. The principal outflows of cash are payments of claims, commissions, premium taxes, operating expenses, income taxes, dividends and investment purchases. During 1998, the Company generated positive cash flows from operations of $25,565,000 compared to $22,564,000 in 1997 and $17,097,000 in 1996. The amount for 1998 includes $5,570,000 received from Employers Mutual in connection with the addition of Farm and City to the pooling agreement. The amount for 1997 includes $8,741,000 received from Employers Mutual in connection with the addition of Hamilton Mutual to the pooling agreement and the increase in the reinsurance subsidiary's quota share percentage. MARKET RISK The main objectives in managing the investment portfolios of the Company are to maximize after-tax investment income and total investment return while minimizing credit risks, in order to provide maximum support for the underwriting operations. Investment strategies are developed based upon many factors including underwriting results and the Company's resulting tax position, regulatory requirements, fluctuations in interest rates and consideration of other market risks. Investment decisions are centrally managed by investment professionals and are supervised by the investment committees of the respective boards of directors for each of the Company's subsidiaries. Market risk represents the potential for loss due to adverse changes in the fair value of financial instruments. The market risks of the financial instruments of the Company relate to the investment portfolio, which exposes the Company to interest rate and equity price risk, and to a lesser extent credit quality and prepayment risk. Monitoring systems and analytical tools are in place to assess each of these elements of market risk. Interest rate risk includes the price sensitivity of a fixed maturity security to changes in interest rates and the affect on future earnings from short-term investments and maturing long-term investments, given a change in interest rates. The following analysis illustrates the sensitivity of the Company's financial instruments to selected changes in market rates and prices. A hypothetical one percent increase or decrease in interest rates as of December 31, 1998 would have caused a corresponding pretax decrease or increase in the fair value of the fixed maturity portfolio of approximately $16,000,000 or 3.9 percent. In addition, a hypothetical one percent increase or decrease in interest rates at December 31, 1998 would result in a corresponding increase or decrease in pretax income of approximately $800,000 for 1999, assuming the current maturity and prepayment patterns. The Company monitors interest rate risk through the analysis of interest rate simulations, and adjusts the average duration of its fixed maturity portfolio by investing in either longer or shorter term instruments given the results of interest rate simulations and judgments of cash flow needs. The valuation of the Company's marketable equity portfolios is subject to equity price risk. In general, equities have more year-to-year price variability than bonds. However, returns from equity securities over longer time frames have been consistently higher. The Company invests in a diversified portfolio of readily marketable equity securities. A hypothetical 10 percent increase or decrease in the S&P 500 as of December 31, 1998 would have resulted in a corresponding pretax increase or decrease in the fair value of the Company's equity portfolio of approximately $2,900,000. The Company invests in high quality fixed maturity securities, thus minimizing credit quality risk. The portfolio of long-term fixed maturity securities consists of 24.5 percent U.S. Treasury, 13.3 percent government agency, 6.8 percent mortgage-backed, 42.1 percent municipal, and 13.3 percent corporate securities. No securities are below investment grade. Prepayment risk refers to the changes in prepayment patterns that can either shorten or lengthen the expected timing of the principal repayments and thus the average life and the effective yield of a security. Such risk exists primarily within the portfolio of mortgage-backed securities. The prepayment risk analysis is monitored regularly through the analysis of interest rate simulations. The effective duration of the mortgage-backed securities is 1.5 years with an average life and current yield of 2.1 years and 7.7 percent, respectively. CAPITAL RESOURCES Insurance company operations require capital to support premium writings. The Company believes that its insurance company subsidiaries have sufficient capital to support their expected near-term writings. The National Association of Insurance Commissioners (NAIC) maintains certain risk-based capital standards for property and casualty insurance companies. Risk-based capital requirements attempt to measure minimum statutory capital needs based upon the risks in a company's mix of products and investment portfolio. At December 31, 1998, each of the Company's insurance subsidiaries has a ratio of total adjusted capital to risk-based capital well in excess of the minimum level required. A major source of cash flows for the Company is dividend payments from its subsidiaries. State insurance regulations restrict the maximum amount of dividends insurance companies can pay without prior regulatory approval. See note 6 of Notes to Consolidated Financial Statements for additional information regarding dividend restrictions. The Company received $4,275,000, $3,750,000 and $3,060,000 of dividends from its insurance subsidiaries in 1998, 1997 and 1996, respectively. The Company paid cash dividends to its stockholders totaling $5,638,000, $4,314,000 and $4,017,000 in 1998, 1997 and 1996, respectively. Total dividends, including amounts reinvested in shares of the Company's common stock, amounted to $6,865,000, $6,715,000 and $6,234,000 in 1998, 1997 and 1996, respectively. For the last three years, Employers Mutual has elected to receive 50 percent of its dividends in common stock under the Company's dividend reinvestment and common stock purchase plan. As of December 31, 1998, the Company had no material commitments for capital expenditures. IMPACT OF INFLATION Inflation has a widespread effect on the Company's results of operations, primarily through increased losses and settlement expenses. The Company considers inflation, including social inflation which reflects an increasingly litigious society and increasing jury awards, when setting reserve amounts. Premiums are also affected by inflation, although they are often restricted or delayed by competition and the regulatory rate-setting environment. IMPACT OF YEAR 2000 REMEDIATION ON OPERATIONS The Year 2000 issue presents both operational and underwriting risks to the Company. Operational risks include the failure of computer systems and equipment owned and operated by Employers Mutual, as well as those owned and operated by vendors and other parties with which the Company conducts business. Underwriting risks include, but are not limited to, potential claims by the Company's insureds to recover losses due to interruption of business or liability to third parties that result from the failure of computer systems. Employers Mutual owns and maintains the computer systems utilized in the operation of the Company's businesses, and is currently in the process of finalizing changes to these systems in order to be Year 2000 compliant. Employers Mutual uses a four step process for preparing systems for Year 2000 compliance: 1) Inventory and impact - systems are reviewed to assess the impact of Year 2000, including the consequences of failure to achieve Year 2000 compliance. 2) Planning and scheduling - modifications are planned and scheduled. 3) Modification and testing - necessary system modifications are made and tested. 4) Certification - a formal test of the system for compliance and approval by the appropriate management personnel. All critical systems, including policy issuance, billing and claims processing, have been certified as compliant. The majority of the non- critical systems are at or near completion of the four step process for Year 2000 compliance, with all remaining work scheduled for completion in the first half of 1999. Employers Mutual has contacted its vendors of computer and facility equipment and software to ascertain whether those systems are Year 2000 compliant. All necessary upgrades to the equipment and software to achieve Year 2000 compliance have been scheduled for implementation by the first half of 1999. Employers Mutual has also contracted with an outside consulting firm to provide an independent assessment of Year 2000 compliance efforts. The consultants issued a report which included findings and recommendations. This information has all been considered by management in its assessment of Year 2000 compliance issues. Employers Mutual is also monitoring Year 2000 compliance of third parties with which it has a material business relationship. Employers Mutual has contacted financial institutions providing custodial and other services and suppliers to ascertain their Year 2000 compliance status. The Company is relying upon the Year 2000 readiness statements of these third parties and has not independently verified the accuracy of such statements. The Company has distributed a letter to all of its commercial insureds notifying them that their current policies do not cover Year 2000 losses, but that coverage may be available through an endorsement to the policy. A questionnaire has been developed and provided to them to aide in assessing potential risks from Year 2000 noncompliance. Employers Mutual has in place reinsurance protection for potential third party liability claims against policyholders arising from Year 2000 issues. Year 2000 compliance efforts have been in process for a number of years. The majority of the costs associated with these efforts is the internal payroll and payroll related expenses of the information systems department. These expenses were charged to operations in the year incurred and were not separately tracked. In addition, nearly all purchases of software and hardware applications were not made specifically for Year 2000 compliance, and are not considered costs of the Year 2000 compliance effort. Costs incurred to date for outside consultants and software and hardware applications specifically purchased for Year 2000 compliance efforts have amounted to less than $100,000 for the EMC Insurance Companies. The Company's share of all remaining costs associated with the Year 2000 compliance project are not expected to exceed $50,000. The most likely worst case scenario for failing to achieve Year 2000 compliance would be a delay in processing of non-critical functions. Due to the current state of readiness, it is unlikely that the processing of policy issuance, billing, or claim handling activities will be delayed. However, it is reasonably likely that delays in the processing of ancillary activities may be experienced. The effect of these delays are not expected to be material to the Company's results of operations, liquidity, or financial condition. The Company believes it has addressed the potential exposures related to Year 2000 noncompliance. If an unforeseen Year 2000 failure occurs, manual processing may be used until the necessary corrections are implemented. In addition, data on the computer systems is regularly backed-up and held off- site in both soft and hard copy format. This historical data would be available in the event of any processing failures. A formalized and documented business continuation plan is also in place to support operations in cases of business interruption. NEW ACCOUNTING PRONOUNCEMENTS The Company adopted the disclosure requirements of SFAS 130, "Reporting Comprehensive Income" in 1998. SFAS 130 requires certain disclosures of comprehensive income. Adoption of this statement had no impact on the operating results of the Company. The Company adopted the presentation requirements of SFAS 131, "Disclosures about Segments of an Enterprise and Related Information" in the fourth quarter of 1998. Adoption of this statement had no impact on the operating results of the Company. The Company adopted the disclosure requirements of SFAS 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits" in 1998. Adoption of this statement had no impact on the operating results of the Company. In June 1998, the Financial Accounting Standards Board issued SFAS 133, "Accounting for Derivative Instruments and Hedging Activities", effective for fiscal years beginning after June 15, 1999. Currently, the Company's investment strategy does not include investments in derivative instruments or hedging activities. Adoption of this statement is not expected to have any effect on the operating results of the Company. DEVELOPMENTS IN INSURANCE REGULATION In 1996 the NAIC adopted model legislation governing insurance company investments. This model investment law has been adopted by one state (Illinois) and is not expected to have a material impact on the operations of the Company's insurance subsidiaries. The NAIC is in the final stages of a project to codify statutory accounting principles. The goal of this project is to establish a uniform set of accounting rules and regulations that will be utilized by all insurance companies when preparing financial reports submitted to regulatory authorities. The issue papers documenting this new comprehensive basis of accounting have been finalized; however, the adoption process is not yet complete. The Company has begun a study to determine the impact of adopting the proposed accounting and reporting requirements in the codification of statutory accounting principles, but has not determined what impact, if any, this project will have on the statutory surplus of its insurance subsidiaries when enacted. CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS The Private Securities Litigation Reform Act of 1995 provides issuers the opportunity to make cautionary statements regarding forward-looking statements. Accordingly, any forward-looking statement contained in this report is based on management's current expectations and actual results of the Company may differ materially from such expectations. The risks and uncertainties that may affect the actual results of the Company include but are not limited to the following: catastrophic events and the occurrence of significant severe weather conditions; state and federal legislation and regulations; rate competition; changes in interest rates and the performance of financial markets; the adequacy of loss and settlement expense reserves, including asbestos and environmental claims; failure in Year 2000 compliance by the Company, its vendors or third party service providers; and other risks and uncertainties inherent in the Company's business. EX-13.C 12 FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. EXHIBIT 13(c) - -------------------------------------------- ------------- Management's Responsibility for Financial Reporting The management of EMC Insurance Group Inc. and Subsidiaries is responsible for the preparation, integrity and objectivity of the accompanying financial statements, as well as other financial information in this report. The financial statements have been prepared in accordance with generally accepted accounting principles and include amounts that are based on management's estimates and judgments where necessary. The Company's financial statements have been audited by KPMG Peat Marwick LLP, independent certified public accountants. Management has made available to KPMG Peat Marwick LLP all of the Company's financial records and related data, as well as the minutes of the shareholders' and directors' meetings. Furthermore, management believes that all representations made to KPMG Peat Marwick LLP during its audit were valid and appropriate. Their report appears elsewhere in this annual report. Management of the Company has established and continues to maintain a system of internal controls that are designed to provide assurance as to the integrity and reliability of the financial statements, the protection of assets from unauthorized use or disposition, and the prevention and detection of fraudulent financial reporting. The system of internal controls provides for appropriate division of responsibility. Certain aspects of these systems and controls are tested periodically by the Company's internal auditors. Management considers the recommendations of its internal auditors and independent accountants concerning the Company's internal controls and takes the necessary actions that are cost-effective in the circumstances to respond appropriately to the recommendations presented. Management believes that as of December 31, 1998, the Company's system of internal controls was adequate to accomplish the above objectives. The Audit Committee of the Board of Directors, composed solely of outside directors, met during the year with management and the independent accountants to review and discuss audit findings and other financial and accounting matters. The independent accountants and the internal auditors have free access to the Audit Committee, with and without management present, to discuss the results of their audit work. /s/ Bruce G. Kelley /s/ Mark E. Reese - ------------------------------------ ------------------------------------- Bruce G. Kelley Mark E. Reese President, Treasurer and Vice President and Chief Executive Officer Chief Financial Officer Independent Auditors' Report The Board of Directors and Stockholders EMC Insurance Group Inc.: We have audited the accompanying consolidated balance sheets of EMC Insurance Group Inc. and Subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 1998. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of EMC Insurance Group Inc. and Subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1998, in conformity with generally accepted accounting principles. /s/ KPMG Peat Marwick LLP Des Moines, Iowa February 25, 1999 EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Balance Sheets December 31, -------------------------- 1998 1997 ------------ ------------ ASSETS Investments (note 9): Fixed maturities: Securities held-to-maturity, at amortized cost (fair value $174,623,439 and $193,835,013) ... $164,926,190 $185,829,063 Securities available-for-sale, at fair value (amortized cost $208,115,127 and $172,717,206) 217,499,600 179,652,738 Equity securities available-for-sale, at fair value (cost $29,928,433 and $26,261,157) ...... 32,785,429 30,972,732 Short-term investments, at cost ................. 22,660,011 14,926,994 ------------ ------------ Total investments .......................... 437,871,230 411,381,527 Cash .............................................. 2,133,056 1,200,300 Indebtedness of related party (note 2) ........... - 822,403 Accrued investment income ......................... 5,865,307 5,752,295 Accounts receivable (net of allowance for uncollectible accounts of $400,000 and $0) ...... 2,779,041 1,457,312 Income tax recoverable ............................ 3,224,000 - Reinsurance receivables (note 3) .................. 16,627,791 13,601,691 Deferred policy acquisition costs ................. 12,355,482 10,560,657 Deferred income taxes (note 10) ................... 10,371,754 9,751,721 Intangible assets, including goodwill, at cost less accumulated amortization of $2,212,695 and $2,078,182 .................................. 1,345,125 1,479,638 Prepaid reinsurance premiums (note 3) ............. 1,201,737 1,195,065 Other assets ...................................... 2,271,829 1,907,187 ------------ ------------ Total assets ............................... $496,046,352 $459,109,796 ============ ============ See accompanying Notes to Consolidated Financial Statements. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Balance Sheets December 31, -------------------------- 1998 1997 ------------ ------------ LIABILITIES Losses and settlement expenses (notes 2,4 and 5) $245,610,323 $217,777,942 Unearned premiums (note 2) ....................... 61,464,051 54,857,463 Other policyholders' funds ....................... 1,951,683 2,781,544 Indebtedness to related party (note 2) ........... 3,393,182 - Income taxes payable ............................. - 3,548,000 Postretirement benefits (note 12) ................ 6,017,565 5,428,913 Deferred income .................................. 277,854 446,678 Other liabilities ................................ 13,393,854 11,922,800 ------------ ------------ Total liabilities ......................... 332,108,512 296,763,340 ------------ ------------ STOCKHOLDERS' EQUITY (notes 6,7 and 13) Common stock, $1 par value, authorized 20,000,000 shares; issued and outstanding, 11,496,389 shares in 1998 and 11,351,119 shares in 1997 .......... 11,496,389 11,351,119 Additional paid-in capital ....................... 67,822,412 65,916,681 Accumulated other comprehensive income ........... 8,079,371 7,687,092 Retained earnings ................................ 76,539,668 77,391,564 ------------ ------------ Total stockholders' equity ................ 163,937,840 162,346,456 ------------ ------------ Contingent liabilities (notes 3 and 15) Total liabilities and stockholders' equity $496,046,352 $459,109,796 ============ ============ See accompanying Notes to Consolidated Financial Statements. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Statements of Income Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ REVENUES: Premiums earned (notes 2 and 3) .... $194,244,405 $177,218,246 $165,190,666 Investment income, net (note 9) .... 24,859,063 23,780,303 24,006,977 Realized investment gains (note 9) 5,901,049 4,100,006 1,890,923 Other income ....................... 1,700,331 1,022,371 904,985 ------------ ------------ ------------ 226,704,848 206,120,926 191,993,551 ------------ ------------ ------------ LOSSES AND EXPENSES (note 2): Losses and settlement expenses (notes 3,4 and 5) ....... 157,876,094 129,853,304 115,367,215 Dividends to policyholders ......... 1,874,900 2,530,747 3,245,036 Amortization of deferred policy acquisition costs ......... 44,662,641 35,942,092 32,554,733 Other underwriting expenses ........ 17,016,421 20,056,069 19,279,417 Other expenses ..................... 1,600,936 935,981 877,797 ------------ ------------ ------------ 223,030,992 189,318,193 171,324,198 ------------ ------------ ------------ Income before income taxes (benefit) .................. 3,673,856 16,802,733 20,669,353 ------------ ------------ ------------ INCOME TAXES (BENEFIT) (note 10): Current .......................... (1,516,892) 4,266,959 4,534,961 Deferred ......................... (822,117) (680,793) 1,100,228 ------------ ------------ ------------ (2,339,009) 3,586,166 5,635,189 ------------ ------------ ------------ Net income ................... $ 6,012,865 $ 13,216,567 $ 15,034,164 ============ ============ ============ Net income per common share - basic and diluted .............. $ 0.53 $ 1.18 $ 1.37 ============ ============ ============ Average number of shares outstanding - basic and diluted .............. 11,440,592 11,193,243 10,936,897 ============ ============ ============ See accompanying Notes to Consolidated Financial Statements. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Statements of Comprehensive Income Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Net income ............................ $ 6,012,865 $13,216,567 $15,034,164 ----------- ----------- ----------- OTHER COMPREHENSIVE INCOME (note 9): Unrealized holding gains arising during the period, before deferred income taxes ...................... 6,460,974 9,696,600 1,411,342 Deferred income taxes ............... 2,196,732 3,296,843 479,856 ----------- ----------- ----------- 4,264,242 6,399,757 931,486 ----------- ----------- ----------- Reclassification adjustment for gains included in net income, before income taxes ...................... (5,866,610) (4,098,079) (1,862,728) Income taxes ........................ 1,994,647 1,393,347 633,328 ----------- ----------- ----------- (3,871,963) (2,704,732) (1,229,400) ----------- ----------- ----------- Other comprehensive income (loss) 392,279 3,695,025 (297,914) ----------- ----------- ----------- Total comprehensive income ...... $ 6,405,144 $16,911,592 $14,736,250 =========== =========== =========== See accompanying Notes to Consolidated Financial Statements. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- COMMON STOCK: Beginning of year ................... $11,351,119 $11,084,461 $10,821,978 Issuance of common stock: Stock option plans ................ 55,102 71,073 91,062 Dividend reinvestment plan (note 13) .................. 90,168 195,585 188,072 Retirement of treasury stock (note 13) ......................... - - (16,651) ----------- ----------- ----------- End of year ......................... 11,496,389 11,351,119 11,084,461 ----------- ----------- ----------- ADDITIONAL PAID-IN CAPITAL: Beginning of year ................... 65,916,681 62,762,613 59,787,926 From issuance of common stock: Stock option plans ................ 722,511 854,641 1,105,155 Dividend reinvestment plan ........ 1,183,220 2,299,427 2,099,436 Losses on sale of treasury stock .... - - (16,257) Retirement of treasury stock ........ - - (213,647) ----------- ----------- ----------- End of year ......................... 67,822,412 65,916,681 62,762,613 ----------- ----------- ----------- ACCUMULATED OTHER COMPREHENSIVE INCOME: Beginning of year ................... 7,687,092 3,992,067 4,289,981 Change in other comprehensive income ............................ 392,279 3,695,025 (297,914) ----------- ----------- ----------- End of year ......................... 8,079,371 7,687,092 3,992,067 ----------- ----------- ----------- RETAINED EARNINGS: Beginning of year ................... 77,391,564 70,889,887 62,089,294 Net income .......................... 6,012,865 13,216,567 15,034,164 Dividends on common stock ($.60 per share in 1998 and 1997 and $.57 in 1996): Cash dividends .................. (5,637,687) (4,314,083) (4,017,222) Dividends reinvested in shares of common stock ............... (1,227,074) (2,400,807) (2,216,349) ----------- ----------- ----------- End of year ......................... 76,539,668 77,391,564 70,889,887 ----------- ----------- ----------- TREASURY STOCK, AT COST: Beginning of year ................... - - (100,421) Purchase of stock for the treasury .. - - (265,499) Sale of stock from the treasury ..... - - 135,622 Retirement of treasury stock ........ - - 230,298 ----------- ----------- ----------- End of year ......................... - - - ----------- ----------- ----------- Total stockholders' equity ........$163,937,840 $162,346,456 $148,729,028 =========== =========== =========== See accompanying Notes to Consolidated Financial Statements. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income .......................... $ 6,012,865 $13,216,567 $15,034,164 Adjustments to reconcile net income to net cash provided by operating activities: Losses and settlement expenses .. 24,524,043 9,356,859 (2,919,123) Unearned premiums ............... 4,345,359 4,125,443 (858,193) Other policyholders' funds ...... (829,861) (685,905) (125,879) Deferred policy acquisition costs (1,794,825) (1,538,794) (307,094) Indebtedness of related party ... 4,215,585 (7,822,885) 6,572,019 Accrued investment income ....... (113,012) 814,891 (263,435) Accrued income taxes: Current ....................... (6,772,000) 606,000 403,331 Deferred ...................... (822,116) (680,794) 1,100,228 Realized investment gains ....... (5,901,049) (4,100,006) (1,890,923) Postretirement benefits ......... 588,652 496,079 443,022 Reinsurance receivables ......... (3,026,100) 1,134,095 (1,818,843) Prepaid reinsurance premiums .... (6,672) 321,907 288,909 Amortization of deferred income (168,824) (218,872) (274,459) Other, net ...................... (257,078) (1,201,298) 1,712,868 ----------- ----------- ----------- 13,982,102 606,720 2,062,428 Cash provided by the change in the property and casualty insurance subsidiaries' pooling agreement (note 2) ............ 5,569,567 5,674,458 - Cash provided by the change in the reinsurance subsidiary's quota share agreement (note 2) - 3,066,705 - ----------- ----------- ----------- Net cash provided by operating activities .... $25,564,534 $22,564,450 $17,096,592 ----------- ----------- ----------- EMC INSURANCE GROUP INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows, continued Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of fixed maturity securities held-to-maturity .... $(20,959,844) $(35,504,382) $(30,412,885) Maturities of fixed maturity securities held-to-maturity .... 42,025,415 38,138,196 33,576,694 Purchases of fixed maturity securities available-for-sale .. (57,514,297) (46,586,660) (30,619,591) Disposals of fixed maturity securities available-for-sale .. 22,210,930 20,769,810 21,202,597 Purchases of equity securities available-for-sale ............. (40,789,067) (5,024,876) (6,464,857) Disposals of equity securities available-for-sale ............. 42,941,862 4,010,683 1,101,431 Net (purchases) sales of short-term investments ......... (7,733,017) 2,626,614 (281,808) ------------ ------------ ----------- Net cash used in investing activities .............. (19,818,018) (21,570,615) (11,898,419) ----------- ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Issuance of common stock ......... 823,927 1,019,919 1,251,119 Dividends paid to stockholders (note 13) ......... (5,637,687) (4,314,083) (4,017,222) Purchases of treasury stock, net - - (129,877) ------------ ------------ ------------ Net cash used in financing activities .............. (4,813,760) (3,294,164) (2,895,980) ------------ ------------ ------------ Net increase (decrease) in cash .... 932,756 (2,300,329) 2,302,193 Cash at beginning of year .......... 1,200,300 3,500,629 1,198,436 ------------ ------------ ------------ Cash at end of year ................ $ 2,133,056 $ 1,200,300 $ 3,500,629 ============ ============ ============ Income taxes paid .................. $ 5,236,047 $ 3,660,959 $ 4,131,630 Interest paid ...................... - 88,922 57,938 See accompanying Notes to Consolidated Financial Statements EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION EMC Insurance Group Inc., an approximately 68 percent owned subsidiary of Employers Mutual Casualty Company (Employers Mutual), is an insurance holding company with operations in property and casualty insurance and reinsurance. Both commercial and personal lines of insurance are written, with the focus on medium-sized commercial accounts. About one-half of the premiums written are in Iowa and contiguous states. The term "Company" is used interchangeably to describe EMC Insurance Group Inc.(Parent Company only) and EMC Insurance Group Inc. and its subsidiaries. The Company's subsidiaries include EMCASCO Insurance Company, Illinois EMCASCO Insurance Company, Dakota Fire Insurance Company, Farm and City Insurance Company, EMC Reinsurance Company and EMC Underwriters, LLC. The consolidated financial statements have been prepared on the basis of generally accepted accounting principles (GAAP), which differ in some respects from those followed in reports to insurance regulatory authorities. All significant intercompany balances and transactions have been eliminated. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. PROPERTY AND CASUALTY INSURANCE AND REINSURANCE OPERATIONS Premiums are recognized as revenue ratably over the terms of the respective policies. Unearned premiums are calculated on the daily pro rata method. Amounts paid as ceded reinsurance premiums are reported as prepaid reinsurance premiums and amortized over the remaining contract period in proportion to the amount of insurance protection provided. Certain costs of acquiring new business, principally commissions, premium taxes and other underwriting expenses that vary with and are directly related to the production of business have been deferred. Such deferred costs are being amortized as premium revenue is recognized. The method followed in computing deferred policy acquisition costs limits the amount of such deferred costs to their estimated realizable value, which gives effect to the premium to be earned, related investment income, losses and settlement expenses and certain other costs expected to be incurred as the premium is earned. Liabilities for losses are based upon case-basis estimates of reported losses, estimates of unreported losses based upon prior experience adjusted for current trends, and estimates of losses expected to be paid under assumed reinsurance contracts. Liabilities for loss adjusting expenses are provided by estimating expenses expected to be incurred in settling the claims provided for in the loss reserves. Changes in estimates are reflected in current operating results (note 4). Ceded reinsurance amounts with nonaffiliated reinsurers relating to reinsurance receivables for paid and unpaid losses and loss settlement expenses and prepaid reinsurance are reported on the balance sheet on a gross basis. Amounts ceded to Employers Mutual relating to the affiliated reinsurance pooling agreement have not been grossed up because the contracts provide that receivables and payables may be offset upon settlement. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The liabilities for losses and settlement expenses are considered adequate to cover the ultimate net cost of losses and claims incurred to date. Since the provisions are necessarily based on estimates, the ultimate liability may be more or less than such provisions. INVESTMENTS Securities classified as held-to-maturity are purchased with the intent and ability to be held to maturity and are carried at amortized cost. Unrealized holding gains and losses on securities held-to-maturity are not reflected in the financial statements. All other securities have been classified as securities available-for-sale and are carried at fair value, with unrealized holding gains and losses reported as accumulated other comprehensive income in stockholders' equity, net of deferred income taxes. Short-term investments represent money market funds and are carried at cost. The Company's carrying value for investments is reduced to its estimated realizable value if a decline in the fair value is deemed other than temporary. Such reductions in carrying value are recognized as realized losses and charged to income. Premiums and discounts on debt securities are amortized over the life of the security as an adjustment to yield using the effective interest method. Realized gains and losses on disposition of investments are included in net income. The cost of investments sold is determined on the specific identification method using the highest cost basis first. Included in investments at December 31, 1998 and 1997 are securities on deposit with various regulatory authorities as required by law amounting to $11,958,675 and $12,178,402, respectively. BENEFIT PLANS The Company participates in Employers Mutual's defined benefit retirement plan covering substantially all employees. The plan is funded by employer contributions and provides benefits based on the employee's years of service and compensation level. Benefits generally vest after five years of service. It is Employers Mutual's policy to fund pension costs according to regulations provided under the Internal Revenue Code. Assets held in the plan are a mix of equity, debt and guaranteed interest securities and real estate funds. The Company also participates in Employers Mutual's postretirement benefit plans which provide certain health care and life insurance benefits for retired employees. Substantially all employees may become eligible for those benefits if they reach normal retirement age and have attained the required length of service while working for Employers Mutual or its subsidiaries. The health care postretirement plan requires contributions from participants and contains certain cost sharing provisions such as coinsurance and deductibles. The life insurance plan is noncontributory. The benefits provided under both plans are subject to change. During 1998, Employers Mutual established two Voluntary Employee Beneficiary Association (VEBA) trusts to accumulate funds for the payment of postretirement health care and life insurance benefits. Contributions to the VEBA trusts are used to fund the accumulated postretirement benefit obligation as well as pay current year benefits. The Company adopted Statement of Financial Accounting Standards (SFAS) 132, "Employers' Disclosure about Pensions and Other Postretirement Benefits", in 1998. SFAS 132 requires additional disclosures about the changes in the benefit obligations and fair value of plan assets as regards pensions and other postretirement benefits. Adoption of this statement had no effect on the operating results of the Company. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued INCOME TAXES The Company files a consolidated Federal income tax return with its subsidiaries. Consolidated income taxes/benefits are allocated among the entities based upon separate tax liabilities. Deferred income taxes are provided for temporary differences between the tax basis of assets and liabilities and the reported amounts of those assets and liabilities for financial reporting purposes. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Income tax expense provisions increase or decrease in the same period in which a change in tax rates is enacted. A valuation allowance is established to reduce deferred tax assets to their net realizable value if it is "more likely than not" that a tax benefit will not be realized. NET INCOME PER SHARE - BASIC AND DILUTED The Company's basic and diluted net income per share are computed by dividing net income by the weighted average number of common shares outstanding during each year. The Company had no potential common shares outstanding during 1998, 1997 and 1996. COMPREHENSIVE INCOME The Company adopted SFAS 130, "Reporting Comprehensive Income", in 1998. SFAS 130 establishes standards for the reporting and presentation of comprehensive income and its components in a full set of financial statements. Comprehensive income includes all changes in stockholders' equity during a period, except those resulting from transactions with shareholders. The Company has restated prior years' financial statements to conform to the reporting standard. Adoption of this statement had no effect on the operating results of the Company. INTANGIBLE ASSETS Goodwill, which represents the excess of cost over the fair value of net assets of acquired subsidiaries, is being amortized on a straight-line basis over 25 years. The Company reviews the recoverability of the unamortized balance of goodwill on a periodic basis using projected cash flows. The assessment of the recoverability of goodwill will be impacted if estimated future operating cash flows are not achieved. RECLASSIFICATIONS Certain amounts previously reported in prior years' consolidated financial statements have been reclassified to conform to current year presentation. 2. AFFILIATION AND TRANSACTIONS WITH AFFILIATES PROPERTY AND CASUALTY INSURANCE SUBSIDIARIES The Company's four property and casualty insurance subsidiaries and two subsidiaries and an affiliate of Employers Mutual are parties to reinsurance pooling agreements with Employers Mutual (collectively the "pooling agreement"). Under the terms of the pooling agreement, each company cedes to Employers Mutual all of its insurance business, with the exception of any voluntary reinsurance business assumed from nonaffiliated insurance companies, and assumes from Employers Mutual an amount equal to its participation in the EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued pool. All losses, settlement expenses and other underwriting and administrative expenses, excluding the voluntary reinsurance business assumed by Employers Mutual from nonaffiliated insurance companies, are prorated among the parties on the basis of participation in the pool. Operations of the pool give rise to intercompany balances with Employers Mutual, which are settled on a quarterly basis. The investment and income tax activities of the pool participants are not subject to the pooling agreement. Effective January 1, 1998, Farm and City Insurance Company (Farm and City), a subsidiary of the Company that writes nonstandard risk automobile insurance business, became a participant in the pooling agreement. Farm and City assumes a 1.5 percent participation in the pool, which increased the Company's aggregate participation in the pool from 22 percent in 1997 and 1996 to 23.5 percent in 1998. In connection with this change in the pooling agreement, the Company's liabilities increased $6,224,586 and invested assets increased $5,569,567. The Company reimbursed Employers Mutual $726,509 for expenses that were incurred to generate the additional business assumed by the Company and Employers Mutual paid the Company $71,490 in interest income as the actual cash transfer did not occur until March 25, 1998. Effective January 1, 1997, a new affiliate of Employers Mutual became a participant in the pooling agreement. In connection with this change in the pooling agreement, the Company's liabilities increased $6,393,063 and invested assets increased $5,674,458. The Company reimbursed Employers Mutual $794,074 for expenses that were incurred to generate the additional business assumed by the Company and Employers Mutual paid the Company $75,469 in interest income as the actual cash transfer did not occur until March 24, 1997. REINSURANCE SUBSIDIARY Employers Mutual voluntarily assumes reinsurance business from nonaffiliated insurance companies and cedes a portion of this business to the Company's reinsurance subsidiary, exclusive of certain reinsurance contracts. The reinsurance subsidiary assumes its share of all premiums and related losses and settlement expenses of this business, subject to a maximum loss per event. The reinsurance subsidiary does not reinsure any of Employers Mutual's direct insurance business, nor any "involuntary" facility or pool business that Employers Mutual assumes pursuant to state law. In addition, the reinsurance subsidiary is not liable for credit risk in connection with the insolvency of any reinsurers of Employers Mutual. Operations of the quota share agreement give rise to intercompany balances with Employers Mutual, which are settled on a quarterly basis. Effective January 1, 1997, the reinsurance subsidiary's quota share participation was increased from 95 percent to 100 percent and the maximum loss per event assumed by the reinsurance subsidiary was increased from $1,000,000 to $1,500,000. In connection with the change in the quota share percentage, the Company's liabilities increased $3,173,647 and invested assets increased $3,066,705. The Company reimbursed Employers Mutual $106,942 for expenses that were incurred to generate the additional business assumed by the Company. Premiums assumed by the reinsurance subsidiary from Employers Mutual amounted to $39,074,384, $34,690,846 and $36,051,617 in 1998, 1997 and 1996, respectively. It is customary in the reinsurance business for the assuming company to compensate the ceding company for the acquisition expenses incurred in the generation of the business. Commissions paid by the reinsurance subsidiary to Employers Mutual amounted to $9,862,675, $8,134,202 and $8,200,072 in 1998, 1997 and 1996, respectively. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The reinsurance subsidiary pays an annual override commission to Employers Mutual in connection with the $1,500,000 ($1,000,000 in 1996) cap on losses assumed per event, which totaled $2,051,405, $1,821,270 and $1,892,710 in 1998, 1997 and 1996, respectively. Employers Mutual retained losses and settlement expenses totaling $144,329 in 1998,($93,621) in 1997 and $166,573 in 1996 under this agreement. The reinsurance subsidiary also pays for 100 percent (95 percent in 1996) of the outside reinsurance protection Employers Mutual purchases to protect itself from catastrophic losses on the assumed reinsurance business. This cost is recorded as a reduction to the premiums received by the reinsurance subsidiary and amounted to $1,648,583, $1,841,000 and $1,315,750 in 1998, 1997 and 1996, respectively. Prior to 1997, the reinsurance subsidiary had an aggregate excess of loss reinsurance treaty with Employers Mutual which provided protection from a large accumulation of retentions resulting from multiple catastrophes in any one calendar year. The coverage provided was $2,000,000, excess of $3,000,000 aggregate losses retained, excess of $200,000 per event. Maximum recovery was limited to $2,000,000 per accident year. The reinsurance subsidiary did not have any recoveries under this treaty during 1996. Premiums paid to Employers Mutual amounted to $500,000 in 1996. This reinsurance treaty was canceled effective January 1, 1997. SERVICES PROVIDED BY EMPLOYERS MUTUAL Employers Mutual provides various services to all of its subsidiaries. Such services include data processing, claims, financial, actuarial, auditing, marketing and underwriting. Costs of these services are allocated to the subsidiaries outside the pooling agreement based upon a number of criteria, including usage and number of transactions. Costs not allocated to these subsidiaries are charged to the pool and each pool participant shares in the total cost in proportion to its participation percentage. 3. REINSURANCE The parties to the pooling agreement cede insurance business to other insurers in the ordinary course of business for the purpose of limiting their maximum loss exposure through diversification of their risks. In its consolidated financial statements, the Company treats risks to the extent they are reinsured as though they were risks for which the Company is not liable. Insurance ceded by the pool participants does not relieve their primary liability as the originating insurers. Employers Mutual evaluates the financial condition of the reinsurers of the parties to the pooling agreement and monitors concentrations of credit risk arising from similar geographic regions, activities or economic characteristics of the reinsurers to minimize exposure to significant losses from reinsurer insolvencies. As of December 31, 1998, reinsurance ceded to two nonaffiliated reinsurers aggregated $7,284,912, which represents a significant portion of the total prepaid reinsurance premiums and reinsurance receivables for losses and settlement expenses. These amounts reflect the property and casualty insurance subsidiaries' pool participation percentage of amounts ceded by Employers Mutual to these organizations in connection with its role as "service carrier". Under these arrangements, Employers Mutual writes business for these organizations on a direct basis and then cedes 100 percent of this business to these organizations. Credit risk associated with these amounts is minimal as all companies participating in these organizations are responsible for the liabilities of such organizations on a pro rata basis. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The parties to the pooling agreement also assume insurance from involuntary pools and associations in conjunction with direct business written in various states. Through the Company's participation in the pooling agreement, it assumes insurance business from the North Carolina Reinsurance Facility (NCRF), which is a state run assigned risk program. The Company has not previously recognized its share of certain surcharges reported by the NCRF. During the fourth quarter of 1998, the Company received clarification regarding such amounts and recorded its share of these cumulative surcharges. As a result, the consolidated financial statements for the year ended December 31, 1998 reflect assumed premium income of $542,656 and assumed loss recoveries of $661,818 related to prior years. Prospectively, these surcharges will be recorded on a quarterly basis. The effect of reinsurance on premiums written and earned, and losses and settlement expenses incurred, for the three years ended December 31, 1998 is presented below. Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ PREMIUMS WRITTEN Direct ......................... $213,134,588 $175,350,677 $156,161,030 Assumed from nonaffiliates ..... 1,888,951 1,219,564 1,951,071 Assumed from affiliates ........ 204,964,038 178,624,357 161,671,754 Ceded to nonaffiliates ......... (5,808,352) (5,615,772) (7,930,381) Ceded to affiliates ............ (213,249,508) (164,978,055) (147,467,508) ------------ ------------ ------------ Net premiums written ......... $200,929,717 $184,600,771 $164,385,966 ============ ============ ============ PREMIUMS EARNED Direct ......................... $202,514,027 $169,304,584 $154,859,778 Assumed from nonaffiliates ..... 1,969,067 1,403,778 2,350,321 Assumed from affiliates ........ 197,166,272 171,514,339 162,326,189 Ceded to nonaffiliates ......... (5,801,680) (5,937,679) (8,219,290) Ceded to affiliates ............ (201,603,281) (159,066,776) (146,126,332) ------------ ------------ ------------ Net premiums earned .......... $194,244,405 $177,218,246 $165,190,666 ============ ============ ============ LOSSES AND SETTLEMENT EXPENSES INCURRED Direct ......................... $171,209,604 $126,922,536 $117,368,771 Assumed from nonaffiliates ..... 1,298,167 926,403 948,218 Assumed from affiliates ........ 171,681,607 122,827,934 113,083,014 Ceded to nonaffiliates ......... (7,395,934) (3,364,737) (6,817,132) Ceded to affiliates ............ (178,917,350) (117,458,832) (109,215,656) ------------ ----------- ------------ Net losses and settlement expenses incurred .......... $157,876,094 $129,853,304 $115,367,215 ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 4. LIABILITY FOR LOSSES AND SETTLEMENT EXPENSES The following table sets forth a reconciliation of beginning and ending reserves for losses and settlement expenses of the Company. Amounts presented are on a net basis, with a reconciliation of beginning and ending reserves to the gross amounts presented in the consolidated financial statements. Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ Gross reserves at beginning of year $217,777,942 $202,502,986 $205,422,109 Ceded reserves at beginning of year (13,030,150) (13,796,769) (12,226,680) ------------ ------------ ------------ Net reserves at beginning of year, before adjustments ............... 204,747,792 188,706,217 193,195,429 Adjustment to beginning reserves due to change in pooling agreement (note 2) ............... 3,600,220 3,795,453 - Adjustment to beginning reserves due to change in quota share percentage (note 2) .............. - 2,726,913 - ------------ ------------ ------------ Net reserves at beginning of year, after adjustments ................ 208,348,012 195,228,583 193,195,429 ------------ ------------ ------------ Incurred losses and settlement expenses: - ---------------------- Provision for insured events of the current year .......... 168,953,309 137,300,762 131,375,234 Decrease in provision for insured events of prior years (11,077,215) (7,447,458) (16,008,019) ------------ ------------ ------------ Total incurred losses and settlement expenses ...... 157,876,094 129,853,304 115,367,215 ------------ ------------ ------------ Payments: - --------- Losses and settlement expenses attributable to insured events of the current year ............ 73,228,354 57,649,830 59,948,110 Losses and settlement expenses attributable to insured events of prior years ................. 62,949,029 62,684,265 59,908,317 ------------ ------------ ------------ Total payments ............. 136,177,383 120,334,095 119,856,427 ------------ ------------ ------------ Net reserves at end of year ........ 230,046,723 204,747,792 188,706,217 Ceded reserves at end of year ...... 15,563,600 13,030,150 13,796,769 ------------ ------------ ------------ Gross reserves at end of year ...... $245,610,323 $217,777,942 $202,502,986 ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Underwriting results of the Company are significantly influenced by estimates of loss and settlement expense reserves. Changes in reserve estimates are reflected in operating results in the year such changes are recorded. During the last three years the Company has experienced favorable development in the provision for insured events of prior years. The majority of the favorable development has come from the property and casualty insurance subsidiaries, which have benefitted from state reform measures in workers' compensation insurance and various loss control functions implemented by Employers Mutual. Favorable development has also been experienced in the reinsurance subsidiary. The property and casualty insurance subsidiaries have historically experienced favorable development in their reserves and current reserving practices have not been relaxed; however, the amount of favorable development experienced in recent years is not expected to continue. 5. ASBESTOS AND ENVIRONMENTAL RELATED CLAIMS The Company has exposure to asbestos and environmental related claims associated with the insurance business written by the parties to the pooling agreement and the reinsurance business assumed from Employers Mutual by the reinsurance subsidiary. Reserves for asbestos and environmental related claims totaled $2,372,098 and $2,412,735 at December 31, 1998 and 1997, respectively. Estimating loss and settlement expense reserves for asbestos and environmental claims is very difficult due to the many uncertainties surrounding these types of claims. These uncertainties exist because the assignment of responsibility varies widely by state and claims often emerge long after the policy has expired, which makes assignment of damages to the appropriate party and to the time period covered by a particular policy difficult. In establishing reserves for these types of claims, management monitors the relevant facts concerning each claim, the current status of the legal environment, the social and political conditions, and the claim history and trends within the Company and the industry. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 6. RETAINED EARNINGS Retained earnings of the Company's insurance subsidiaries available for distribution as dividends are limited by law to the statutory unassigned surplus of each of the subsidiaries as of the previous December 31, as determined in accordance with accounting practices prescribed by insurance regulatory authorities of the state of domicile of each subsidiary. Subject to this limitation, the maximum dividend that may be paid by Iowa corporations without prior approval of the insurance regulatory authorities is restricted to the greater of 10 percent of statutory surplus as regards policyholders as of the preceding December 31, or net income of the preceding calendar year on a statutory basis. Both Illinois and North Dakota impose restrictions which are similar to those of Iowa on the payment of dividends and distributions. At December 31, 1998, $12,725,145 was available for distribution to the Company in 1999 without prior approval. The National Association of Insurance Commissioners utilizes a risk-based capital model to help state regulators assess the capital adequacy of insurance companies and identify insurers that are in (or are perceived as approaching) financial difficulty by establishing minimum capital needs based on the risks applicable to the operations of the individual insurer. The risk-based capital requirements for property and casualty insurance companies measure three major areas of risk: asset risk, credit risk and underwriting risk. Companies having less statutory surplus than required by the risk-based capital requirements are subject to varying degrees of regulatory scrutiny and intervention, depending on the severity of the inadequacy. At December 31, 1998, each of the Company's insurance subsidiaries' ratio of total adjusted capital to risk-based capital is well in excess of the minimum level required. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 7. RECONCILIATION OF STATUTORY NET INCOME AND SURPLUS A reconciliation of net income and surplus from that reported on a statutory basis to that reported in the accompanying consolidated financial statements on a GAAP basis is as follows: Year ended December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ Net income from insurance subsidiaries, statutory basis .... $ 2,117,464 $ 10,389,599 $ 15,126,408 Change in deferred policy acquisition costs ................ 1,794,825 1,538,794 307,094 Change in salvage and subrogation accrual .......................... - (419,578) 290,917 Change in other policyholders' funds 829,861 685,905 125,879 Change in pension accrual .......... (33,749) 476,705 251,042 GAAP postretirement benefit cost in excess of statutory cost ...... (368,061) (235,916) (256,119) Deferred income tax benefit (expense) ........................ 822,117 680,793 (1,100,228) Prior years' income taxes and related interest ................. - (117,948) 24,002 GAAP basis amortization of reserve discount on commutation of reinsurance contract ............. 168,824 218,872 274,459 Prior years' NCRF surcharges (note 3) ......................... 1,204,474 - - Other, net ......................... (568,494) (92,713) (69,162) ------------ ------------ ------------ Net income from insurance subsidiaries, GAAP basis ......... 5,967,261 13,124,513 14,974,292 Net income from Parent Company ..... 45,604 92,054 59,872 ------------ ------------ ------------ Net income, GAAP basis ............. $ 6,012,865 $ 13,216,567 $ 15,034,164 ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued December 31, ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ Surplus from insurance subsidiaries, statutory basis .................. $127,251,446 $127,222,191 $111,069,880 Deferred policy acquisition costs .. 12,355,482 10,560,657 9,021,863 Accrued salvage and subrogation .... - - 2,399,578 Other policyholders' funds payable . (1,951,683) (2,781,544) (3,467,449) Prepaid pension cost ............... 1,529,650 1,563,399 1,086,694 GAAP postretirement benefit liability in excess of statutory liability ........................ (2,768,468) (2,400,407) (2,164,491) Deferred income tax asset .......... 10,371,754 9,751,721 10,974,425 Goodwill ........................... 1,345,125 1,479,638 1,614,151 Excess of statutory reserves over statement reserves .......... 40,847 677,975 6,667,612 GAAP basis reserve discount on commutation of reinsurance contract in excess of statutory recognition ...................... (277,854) (446,678) (665,550) Unrealized holding gains on available-for-sale securities .... 9,398,727 6,940,501 3,248,859 Other, net ......................... 131,785 238,570 271,823 ------------ ------------ ------------ Equity from insurance subsidiaries, GAAP basis ......... 157,426,811 152,806,023 140,057,395 Equity from Parent Company ......... 6,511,029 9,540,433 8,671,633 ----------- ----------- ----------- Stockholders' equity, GAAP basis ... $163,937,840 $162,346,456 $148,729,028 ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 8. SEGMENT INFORMATION The Company adopted SFAS 131, "Disclosures about Segments of an Enterprise and Related Information", in the fourth quarter of 1998. SFAS 131 establishes standards for reporting operating segment information in annual and interim financial statements and requires that prior years' segment information be restated to conform to the new standards. The Company's operations consist of a property and casualty insurance segment and a reinsurance segment. The property and casualty insurance segment writes both commercial and personal lines of insurance, with a focus on medium sized commercial accounts. The reinsurance segment provides reinsurance for other insurers and reinsurers. The segments are managed separately due to differences in the insurance products sold and the business environment in which they operate. The accounting policies of the segments are described in the summary of significant accounting policies. Summarized financial information for the Company's segments is as follows: Property Year ended and casualty Parent December 31, 1998 insurance Reinsurance company Consolidated - ----------------- ------------ ------------ ------------ ------------ Premiums earned ......... $155,523,486 $ 38,720,919 $ - $194,244,405 Underwriting loss ....... (24,602,885) (2,582,766) - (27,185,651) Net investment income ... 17,635,076 6,760,098 463,889 24,859,063 Realized gains .......... 5,870,125 30,924 - 5,901,049 Other income ............ 1,531,507 168,824 - 1,700,331 Other expenses .......... (1,213,880) - (387,056) (1,600,936) ------------ ----------- ------------ ------------ Income (loss) before taxes .......... $ (780,057)$ 4,377,080 $ 76,833 $ 3,673,856 ============ ============ ============ ============ Assets .................. $372,974,038 $117,739,839 $164,085,954 $654,799,831 Eliminations ............ - - (158,753,479)(158,753,479) ------------ ------------ ------------ ------------ Net assets ......... $372,974,038 $117,739,839 $ 5,332,475 $496,046,352 ============ ============ ============ ============ Year ended December 31, 1997 - ----------------- Premiums earned ......... $143,112,560 $ 34,105,686 $ - $177,218,246 Underwriting loss ....... (10,212,002) (951,964) - (11,163,966) Net investment income ... 16,719,458 6,615,029 445,816 23,780,303 Realized gains .......... 4,077,083 22,923 - 4,100,006 Other income ............ 803,499 218,872 - 1,022,371 Other expenses .......... (622,219) - (313,762) (935,981) ------------ ------------ ------------ ------------ Income before taxes ..... $ 10,765,819 $ 5,904,860 $ 132,054 $ 16,802,733 ============ ============ ============ ============ Assets .................. $340,552,986 $111,568,145 $162,519,792 $614,640,923 Eliminations ............ - - (155,531,127)(155,531,127) ------------ ------------ ------------ ------------ Net assets ......... $340,552,986 $111,568,145 $ 6,988,665 $459,109,796 ============ ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Property Year ended and casualty Parent December 31, 1996 insurance Reinsurance company Consolidated - ----------------- ------------ ------------ ------------ ------------ Premiums earned ......... $128,515,835 $ 36,674,831 $ - $165,190,666 Underwriting (loss) income ................ (5,292,720) 36,985 - (5,255,735) Net investment income ... 17,163,930 6,436,095 406,952 24,006,977 Realized gains .......... 1,817,615 73,308 - 1,890,923 Other income ............ 630,526 274,459 - 904,985 Other expenses .......... (564,710) - (313,087) (877,797) ------------ ----------- ------------ ------------ Income before taxes ..... $ 13,754,641 $ 6,820,847 $ 93,865 $ 20,669,353 ============ ============ ============ ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 9. INVESTMENTS The amortized cost and estimated fair value of securities held-to- maturity and available-for-sale as of December 31, 1998 and 1997 are as follows. The estimated fair value is based on quoted market prices, where available, or on values obtained from independent pricing services. Gross Gross Estimated Amortized unrealized unrealized fair December 31, 1998 cost gains losses value ----------------- ------------ ----------- ----------- ------------ Securities held-to-maturity: Fixed maturity securities: U.S. treasury securities and obligations of U.S. government corporations and agencies ............. $ 90,851,839 $ 7,784,349 $ - $ 98,636,188 Obligations of states and political subdivisions ......... 49,189,315 912,636 (17,335) 50,084,616 Mortgage-backed securities ........... 24,885,036 1,017,599 - 25,902,635 ------------ ----------- ----------- ------------ Total securities held-to-maturity $164,926,190 $ 9,714,584 $ (17,335)$174,623,439 ============ =========== =========== ============ Securities available-for- sale: Fixed maturity securities: U.S. treasury securities and obligations of U.S. government corporations and agencies ............. $ 3,491,259 $ - $ (4,354)$ 3,486,905 Obligations of states and political subdivisions ......... 155,138,275 8,026,883 (86,485) 163,078,673 Public utilities ....... 7,304,015 212,312 (17) 7,516,310 Corporate securities ... 42,181,578 1,243,951 (7,817) 43,417,712 ------------ ----------- ----------- ------------ Total fixed maturity securities ....... 208,115,127 9,483,146 (98,673) 217,499,600 ------------ ----------- ----------- ------------ Equity securities: Common stocks .......... 26,782,547 4,293,187 (1,551,293) 29,524,441 Non-redeemable preferred stocks ..... 3,145,886 129,164 (14,062) 3,260,988 ------------ ----------- ----------- ------------ Total equity securities ....... 29,928,433 4,422,351 (1,565,355) 32,785,429 ------------ ----------- ----------- ------------ Total securities available-for-sale $238,043,560 $13,905,497 $(1,664,028)$250,285,029 ============ =========== =========== ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued Gross Gross Estimated Amortized unrealized unrealized fair December 31, 1997 cost gains losses value ----------------- ------------ ----------- ----------- ------------ Securities held-to-maturity: Fixed maturity securities: U.S. treasury securities and obligations of U.S. government corporations and agencies ............. $103,826,052 $ 6,008,149 $ (14,074)$109,820,127 Obligations of states and political subdivisions ......... 41,989,442 481,671 (46,164) 42,424,949 Mortgage-backed securities ........... 40,013,569 1,577,841 (1,473) 41,589,937 ------------ ----------- ----------- ------------ Total securities held-to-maturity $185,829,063 $ 8,067,661 $ (61,711)$193,835,013 ============ =========== =========== ============ Securities available-for sale: Fixed maturity securities: Obligations of states and political subdivisions ......... $130,945,594 $ 6,272,885 $ - $137,218,479 Public utilities ....... 8,760,899 82,678 (10,635) 8,832,942 Corporate securities ... 32,861,713 598,805 (13,789) 33,446,729 Redeemable preferred stocks ............... 149,000 5,588 - 154,588 ------------ ----------- ----------- ------------ Total fixed maturity securities ....... 172,717,206 6,959,956 (24,424) 179,652,738 ------------ ----------- ----------- ------------ Equity securities: Common stock mutual funds ................ 20,988,146 4,228,650 (140,831) 25,075,965 Non-redeemable preferred stocks ..... 5,273,011 628,916 (5,160) 5,896,767 ------------ ----------- ----------- ------------ Total equity securities ....... 26,261,157 4,857,566 (145,991) 30,972,732 ------------ ----------- ----------- ------------ Total securities available-for-sale $198,978,363 $11,817,522 $ (170,415)$210,625,470 ============ =========== =========== ============ EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The amortized cost and estimated fair value of fixed maturity securities at December 31, 1998, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Estimated Amortized fair cost value ------------ ------------ Securities held-to-maturity: Due in one year or less ................... $ 31,987,844 $ 32,501,255 Due after one year through five years ..... 26,101,561 27,331,391 Due after five years through ten years .... 72,229,770 78,512,195 Due after ten years ....................... 9,721,979 10,375,963 Mortgage-backed securities ................ 24,885,036 25,902,635 ------------ ------------ Totals ................................ $164,926,190 $174,623,439 ============ ============ Securities available-for-sale: Due in one year or less ................... $ 22,931,915 $ 23,009,649 Due after one year through five years ..... 49,120,202 50,518,753 Due after five years through ten years .... 56,627,240 60,522,488 Due after ten years ....................... 79,435,770 83,448,710 ------------ ------------ Totals ................................ $208,115,127 $217,499,600 ============ ============ Realized investment gains and losses from calls and prepayments of fixed maturity securities held-to-maturity and available-for-sale and sales of equity securities available-for-sale are presented below. Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Fixed maturity securities held-to-maturity: Gross realized investment gains ... $ 34,439 $ 1,927 $ 36,155 Gross realized investment losses .. - - (7,957) Fixed maturity securities available-for-sale: Gross realized investment gains ... 46,620 110,304 207,161 Gross realized investment losses .. (81) (22,908) - Equity securities available-for-sale: Gross realized investment gains ... 7,865,619 4,010,683 1,655,564 Gross realized investment losses .. (2,045,548) - - ---------- ---------- ---------- Totals .......................... $5,901,049 $4,100,006 $1,890,923 ========== ========== ========== Proceeds from sales of equity securities available-for-sale amounted to $42,941,862, $0 and $0 in 1998, 1997 and 1996, respectively. Realized investment gains for 1997 and 1996 reflect capital gain distributions of $4,010,683 and $1,655,564, respectively, related to the Company's common stock mutual fund portfolio. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued A summary of net investment income is as follows: Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Interest on fixed maturities .......... $23,496,941 $22,876,491 $22,921,309 Dividends on equity securities ........ 547,238 599,043 481,025 Interest on short-term investments .... 1,483,167 1,250,492 1,178,435 ----------- ----------- ----------- Total investment income ........... 25,527,346 24,726,026 24,580,769 Investment expense .................... (668,283) (945,723) (573,792) ----------- ----------- ----------- Net investment income ............. $24,859,063 $23,780,303 $24,006,977 =========== =========== =========== A summary of net changes in unrealized holding gains (losses) on securities available-for-sale is as follows: Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Fixed maturity securities ........... $ 2,448,942 $ 3,691,046 $(2,016,144) Applicable income (taxes) benefit ... (832,641) (1,254,955) 685,489 ----------- ----------- ----------- Total fixed maturity securities ... 1,616,301 2,436,091 (1,330,655) ----------- ----------- ----------- Equity securities ................... (1,854,578) 1,907,475 1,564,759 Applicable income (taxes) benefit ... 630,556 (648,541) (532,018) ----------- ----------- ----------- Total equity securities ........... (1,224,022) 1,258,934 1,032,741 ----------- ----------- ----------- Total available-for-sale securities $ 392,279 $ 3,695,025 $ (297,914) =========== =========== =========== EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 10. INCOME TAXES Temporary differences between the consolidated financial statement carrying amount and tax basis of assets and liabilities that give rise to significant portions of the deferred tax asset at December 31, 1998 and 1997 relate to the following: Year ended December 31, ------------------------ 1998 1997 ----------- ----------- Loss reserve discounting ........................... $12,514,967 $12,470,142 Unearned premium reserve limitation ................ 4,060,198 3,605,597 Postretirement benefits ............................ 1,743,193 1,554,085 Other policyholders' funds payable ................. 663,572 945,725 Prepayment of tax on commutation of loss reserves .. 94,470 151,871 Minimum tax credit ................................. 560,719 - Other, net ......................................... 613,221 562,653 ----------- ----------- Total gross deferred income tax asset ........ 20,250,340 19,290,073 Less valuation allowance ........................... (800,000) (1,200,000) ----------- ----------- Total deferred income tax asset .............. 19,450,340 18,090,073 ----------- ----------- Deferred policy acquisition costs .................. (4,200,864) (3,590,623) Net unrealized holding gains ....................... (4,162,100) (3,960,017) Other, net ......................................... (715,622) (787,712) ----------- ----------- Total gross deferred income tax liability .... (9,078,586) (8,338,352) ----------- ----------- Net deferred income tax asset .............. $10,371,754 $ 9,751,721 =========== =========== The valuation allowance at December 31, 1998 and 1997 relates to the tax benefits associated with postretirement benefit deductions that are scheduled to reverse more than fifteen years into the future. The valuation allowance was established due to the uncertainty concerning the future realization of these tax benefits. During the fourth quarter of 1998, the valuation allowance was reduced as the result of the establishment of VEBA trusts that will accelerate the postretirement benefit deductions and reduce the uncertainty of future realization of the tax benefits (note 1). Based upon anticipated future taxable income and consideration of all other available evidence, management believes that it is "more likely than not" that the Company's net deferred income tax asset will be realized. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued The actual income tax expense (benefit) for the years ended December 31, 1998, 1997 and 1996 differed from the "expected" tax expense for those years (computed by applying the United States federal corporate tax rate of 34 percent to income before income taxes) as follows: Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Computed "expected" tax expense ...... $ 1,249,111 $ 5,712,929 $ 7,027,580 Increases (decreases) in tax resulting from: Tax-exempt interest income ....... (2,464,971) (2,330,842) (1,980,599) Change in accrual of prior year taxes .......................... (550,000) (424,161) - Change in valuation allowance .... (400,000) - - Settlement of tax examinations ... - 29,026 (46,949) Proration of tax-exempt interest and dividends received deduction 239,147 226,175 289,705 Other, net ....................... (412,296) 373,039 345,452 ----------- ----------- ----------- Income taxes (benefit) ......... $(2,339,009) $ 3,586,166 $ 5,635,189 =========== =========== =========== Comprehensive income tax expense (benefit) included in the consolidated financial statements for the years ended December 31, 1998, 1997 and 1996 are as follows: Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Income tax expense (benefit) on: Operations .......................... $(2,339,009) $ 3,586,166 $ 5,635,189 Unrealized holding gains (losses) on revaluation of securities available-for-sale ................ 202,085 1,903,496 (153,472) ----------- ----------- ----------- Comprehensive income tax expense (benefit) ............. $(2,136,924) $ 5,489,662 $ 5,481,717 =========== =========== =========== EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 11. EMPLOYEE RETIREMENT PLAN The following table sets forth the funded status of the Employers Mutual defined benefit retirement plan, based upon a measurement date of November 1, 1998 and 1997, respectively: Year ended December 31, ------------------------ 1998 1997 ----------- ----------- Change in projected benefit obligation: Projected benefit obligation at beginning of year... $68,560,979 $66,414,419 Service cost ....................................... 3,482,226 3,174,041 Interest cost ...................................... 4,835,259 4,673,368 Actuarial loss ..................................... 10,571,289 965,166 Benefits paid ...................................... (5,005,271) (6,666,015) Other .............................................. 34,062 - ----------- ----------- Projected benefit obligation at end of year ........ 82,478,544 68,560,979 ----------- ----------- Change in plan assets: Fair value of plan assets at beginning of year...... 85,475,793 76,056,949 Actual return on plan assets ....................... 9,629,471 12,575,950 Employer contribution .............................. - 3,508,909 Benefits paid ...................................... (5,005,271) (6,666,015) ----------- ----------- Fair value of plan assets at end of year ........... 90,099,993 85,475,793 ----------- ----------- Funded status ...................................... 7,621,449 16,914,814 Unrecognized net actuarial gain .................... (600,529) (8,522,657) Unrecognized initial net asset ..................... (1,805,492) (2,880,932) Unrecognized prior service costs ................... 2,485,365 2,889,260 ----------- ----------- Prepaid pension cost ............................... $ 7,700,793 $ 8,400,485 =========== =========== The components of net periodic pension cost for the Employers Mutual defined benefit retirement plan is as follows: Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Service cost .......................... $ 3,482,226 $ 3,174,041 $ 3,029,857 Interest cost ......................... 4,835,259 4,673,368 4,477,060 Expected return on plan assets ........ (6,980,310) (6,168,223) (5,557,001) Amortization of initial net asset ..... (1,075,440) (1,075,440) (1,075,440) Amortization of prior service costs ... 437,957 437,957 437,957 ----------- ----------- ----------- Net periodic pension cost ............. $ 699,692 $ 1,041,703 $ 1,312,433 =========== =========== =========== The unrecognized net asset is being recognized over 12.5 to 15.2 years beginning January 1, 1987. Prior service costs are being amortized over 12 to 14 years beginning January 1, 1993. The weighted average discount rate used to measure the projected benefit obligation was 6.75 percent for 1998 and 7.25 percent for 1997 and 1996. The assumed long-term rate of return on plan assets was 8.00 percent for 1998, 1997 and 1996. The rate of increase in future compensation levels used in measuring the projected benefit obligation was 5.96 percent in 1998, 5.26 percent in 1997 and 5.30 percent in 1996. Pension expense for the Company amounted to $172,985, $257,812 and $289,055 in 1998, 1997 and 1996, respectively. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 12. POSTRETIREMENT BENEFITS OTHER THAN PENSIONS The following tables set forth the funded status of the Employers Mutual postretirement benefit plans based upon a measurement date of November 1, 1998 and 1997, respectively. Year ended December 31, ------------------------- 1998 1997 ------------ ------------ Change in postretirement benefit obligation: Benefit obligation at beginning of year ........... $ 26,241,865 $ 21,280,865 Service cost ...................................... 1,321,054 1,039,710 Interest cost ..................................... 1,871,134 1,518,680 Actuarial loss .................................... 6,498,992 3,231,361 Benefits paid ..................................... (607,126) (828,751) ------------ ------------ Postretirement benefit obligation at end of year... 35,325,919 26,241,865 ------------ ------------ Funded status ..................................... (35,325,919) (26,241,865) Unrecognized net actuarial loss (gain) ............ 5,904,000 (594,992) Unrecognized prior service costs .................. 2,248,919 2,820,157 Employer contributions ............................ 1,471,000 - ------------ ------------ Liability for postretirement benefits ............. $(25,702,000)$(24,016,700) ============ ============ The components of net periodic postretirement benefit cost for the Employers Mutual postretirement benefit plans is as follows: Year ended December 31, ------------------------------------- 1998 1997 1996 ----------- ----------- ----------- Service cost ......................... $ 1,321,054 $ 1,039,710 $ 917,917 Interest cost ........................ 1,871,134 1,518,680 1,365,150 Amortization of net gain ............. - (147,339) (235,121) Amortization of prior service costs .. 571,238 571,238 571,238 ------------ ------------ ------------ Net periodic postretirement benefit cost ............................... $ 3,763,426 $ 2,982,289 $ 2,619,184 ============ ============ ============ Prior service costs are being amortized over 8.9 to 10 years beginning January 1, 1994. The assumed weighted average annual rate of increase in the per capita cost of covered health care benefits (i.e. the health care cost trend rate) for 1998 is 8 percent, and is assumed to decrease gradually to 5 percent in 2001 and remain at that level thereafter. The health care cost trend rate assumption has a significant effect on the amounts reported. For example, a one-percentage-point increase in the assumed health care cost trend rate for each future year would increase the accumulated postretirement benefit obligation as of December 31, 1998 by $5,641,000 and the aggregate of the service and interest cost components of net periodic postretirement benefit cost for the year ended December 31, 1998 by $638,000. The weighted average discount rate used in determining the accumulated postretirement benefit obligation was 6.75 percent for 1998 and 7.25 percent for 1997 and 1996. The Company's net periodic postretirement benefit cost for the years ended December 31, 1998, 1997 and 1996 was $883,270, $677,336 and $596,102, respectively. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 13. STOCK PLANS STOCK BASED COMPENSATION The Company has no stock based compensation plans of its own; however, Employers Mutual has several stock plans which utilize the common stock of the Company. The Company receives the current fair value for any shares issued under the plans and all expenses (the excess of current fair value over the participant's price) of the plans are borne by Employers Mutual or the company employing the individual optionees. As a result of this arrangement, the Company is not subject to the accounting requirements of Accounting Principles Board Opinion No. 25 or SFAS 123, "Accounting for Stock-Based Compensation." Under the current terms of the pooling agreement (note 2), the Company's property and casualty insurance subsidiaries incur 23.5 percent of the expenses recognized by Employers Mutual relating to these plans. The Company also incurs 100 percent of any expense of these plans that is associated with optionees working for its other subsidiaries. Total expenses incurred by the Company relating to the Employers Mutual stock plans amounted to $94,407, $81,653 and $47,395 for 1998, 1997 and 1996, respectively. (a) INCENTIVE STOCK OPTION PLANS During 1998, Employers Mutual maintained two separate stock option plans for the benefit of officers and key employees of Employers Mutual and its subsidiaries. A total of 600,000 shares have been reserved for the 1982 Employers Mutual Casualty Company Incentive Stock Option Plan (1982 Plan) and a total of 500,000 shares of the Company's common stock were initially reserved for issuance under the 1993 Employers Mutual Casualty Company Incentive Stock Option Plan (1993 Plan). Effective January 30, 1998, an additional 500,000 shares were registered under the 1993 Plan. There is a ten year time limit for granting options under the plans. Options can no longer be granted under the 1982 Plan and the time period for granting options under the 1993 Plan expires on December 31, 2002. Options granted under the plans have a vesting period of two, three, four or five years with options becoming exercisable in equal annual cumulative increments. Options have been granted to 57 individuals under the 1982 Plan and 92 individuals under the 1993 Plan. At February 25, 1999, 21 eligible participants remained in the 1982 Plan and 72 eligible participants remained in the 1993 Plan. The Senior Executive Compensation and Stock Option Committee (the "Committee") of Employers Mutual's Board of Directors (the "Board") is the administrator of the plans. Option prices are determined by the Committee but can not be less than the fair value of the stock on the date of grant. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued During 1998, 87,700 options were granted under the 1993 Plan to eligible participants at a price of $13.69 and 63,753 options were exercised under the plans at prices ranging from $11.50 to $15.38. A summary of Employers Mutual's incentive stock option plans is as follows: Year ended December 31, ---------------------------- 1998 1997 1996 -------- -------- -------- Options outstanding, beginning of year .. 550,444 538,012 565,882 Granted ................................. 87,700 88,050 54,800 Exercised ............................... (63,753) (71,068) (79,270) Expired ................................. - (4,550) (3,400) -------- -------- -------- Options outstanding, end of year ........ 574,391 550,444 538,012 ======== ======== ======== Options exercisable, end of year ........ 331,771 308,354 296,552 ======== ======== ======== (b) EMPLOYEE STOCK PURCHASE PLAN A total of 500,000 shares of the Company's common stock have been reserved for issuance under the Employers Mutual Casualty Company 1993 Employee Stock Purchase Plan. Any employee who is employed by Employers Mutual or its subsidiaries on the first day of the month immediately preceding any option period is eligible to participate in the plan. Participants pay 85 percent of the fair market value of the stock purchased, which is fully vested on the date purchased. The plan is administered by the Board of Employers Mutual and the Board has the right to amend or terminate the plan at any time; however, no such amendment or termination shall adversely affect the rights and privileges of participants with unexercised options. During 1998, 147 employees participated in the plan and exercised a total of 22,973 options at prices of $14.75 and $12.56. Activity under the plan was as follows: Year ended December 31, ---------------------------- 1998 1997 1996 -------- -------- -------- Shares available for purchase, beginning of year ...................... 402,982 424,922 446,045 Shares purchased under plan .............. (22,973) (21,940) (21,123) -------- -------- -------- Shares available for purchase, end of year 380,009 402,982 424,922 ======== ======== ======== (c) NON-EMPLOYEE DIRECTOR STOCK PURCHASE PLAN A total of 200,000 shares of the Company's common stock have been reserved for issuance under the Employers Mutual Casualty Company Non-Employee Director Stock Purchase Plan. All non-employee directors of Employers Mutual and its subsidiaries who are not serving on the "Disinterested Director Committee" of the Board as of the beginning of the option period are eligible for participation in the plan. Each eligible director can purchase shares of common stock at 75 percent of the fair value of the stock in an amount equal to a minimum of 25 percent to a maximum of 100 percent of their annual cash retainer. The plan will continue through the option period for options granted at the 2002 annual meetings. The plan is administered by the Disinterested Director Committee of the Board. The Board may amend or terminate the plan at any time; however, no such amendment or termination EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued shall adversely affect the rights and privileges of participants with unexercised options. During 1998, eight directors participated in the plan and exercised a total of 7,440 options at prices ranging from $10.81 to $14.88. Activity under the plan was as follows: Year ended December 31, ---------------------------- 1998 1997 1996 -------- -------- -------- Shares available for purchase, beginning of year ...................... 170,368 176,252 185,568 Shares purchased under plan .............. (7,440) (5,884) (9,316) -------- -------- -------- Shares available for purchase, end of year 162,928 170,368 176,252 ======== ======== ======== DIVIDEND REINVESTMENT PLAN The Company maintains a dividend reinvestment and common stock purchase plan which provides stockholders with the option of reinvesting cash dividends in additional shares of the Company's common stock. Participants may also purchase additional shares of common stock without incurring broker commissions by making optional cash contributions to the plan and may sell shares of common stock through the plan. During the third and fourth quarters of 1998, shares of common stock purchased under the plan were acquired in the open market. On December 17, 1997, an additional 1,000,000 shares of stock were registered for issuance under the dividend reinvestment plan. During 1998, 1997 and 1996, Employers Mutual elected to participate in the dividend reinvestment plan by reinvesting 50 percent of its dividends in additional shares of the Company's common stock. Activity under the plan was as follows: Year ended December 31, --------------------------------- 1998 1997 1996 --------- --------- --------- Shares available for purchase, beginning of year .................. 980,904 176,489 364,561 Additional shares registered ......... - 1,000,000 - Shares purchased under plan .......... (188,579) (195,585) (188,072) --------- --------- --------- Shares available for purchase, end of year ........................ 792,325 980,904 176,489 ========= ========= ========= Range of purchase prices ............. $11.25 $11.88 $11.00 to to to $15.13 $13.50 $13.75 STOCK REPURCHASE PLAN On November 20, 1998, the Company's Board of Directors approved a stock repurchase plan for up to $3,000,000 of the Company's common stock. The repurchase plan authorizes the Company to make repurchases in the open market or through privately negotiated transactions. The timing and terms of the purchases will be determined by management based on market conditions and will be conducted in accordance with the applicable rules of the Securities and Exchange Commission. The plan may be terminated at any time at the Company's discretion. There were no repurchases of common stock during 1998. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 14. DISCLOSURES ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying amount of cash, indebtedness of/to related party, accounts receivable and accounts payable approximate fair value because of the short maturity of these instruments. The estimated fair value of the Company's investments are summarized as follows. The estimated fair value is based on quoted market prices, where available, or on values obtained from independent pricing services (note 9). Carrying Estimated December 31, 1998 amount fair value ----------------- ------------ ------------ Fixed maturity securities: Held-to-maturity ......................... $164,926,190 $174,623,439 Available-for-sale ....................... 217,499,600 217,499,600 Equity securities available-for-sale ....... 32,785,429 32,785,429 Short-term investments ..................... 22,660,011 22,660,011 December 31, 1997 ----------------- Fixed maturity securities: Held-to-maturity ......................... $185,829,063 $193,835,013 Available-for-sale ....................... 179,652,738 179,652,738 Equity securities available-for-sale ....... 30,972,732 30,972,732 Short-term investments ..................... 14,926,994 14,926,994 15. CONTINGENT LIABILITIES The Company and Employers Mutual and its other subsidiaries are parties to numerous lawsuits arising in the normal course of the insurance business. The Company believes that the resolution of these lawsuits will not have a material adverse effect on its financial condition or its results of operations. The companies involved have reserves which are believed adequate to cover any potential liabilities arising out of all such pending or threatened proceedings. The members of the pooling agreement have purchased annuities to fund future payments that are fixed pursuant to specific claim settlement provisions. The Company, under the current terms of the pooling agreement, is a 23.5 percent participant in these annuities (note 2). The Company is contingently liable to various claimants in the amount of $888,853 in the event that the issuing company would be unable to fulfill its obligations. EMC INSURANCE GROUP INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements, Continued 16. UNAUDITED INTERIM FINANCIAL INFORMATION Three months ended, ----------------------------------------------------- March 31 June 30 September 30 December 31 ------------ ------------ ------------ ------------ 1998 - ---- Total revenues (1) .... $52,301,140 $53,276,556 $62,864,880 $58,262,272 =========== =========== =========== =========== Income(loss) before before taxes ........ $ 6,013,327 $(4,824,800) $ 3,367,120 $ (881,791) Income taxes (benefit) 1,534,693 (2,058,639) 578,621 (2,393,684) ----------- ----------- ----------- ----------- Net income (loss) $ 4,478,634 $(2,766,161) $ 2,788,499 $ 1,511,893 =========== =========== =========== =========== Net income (loss) per share - basic and diluted* $ .39 $ (.24) $ .24 $ .13 =========== =========== =========== =========== 1997 - ---- Total revenues (1) .... $48,478,016 $50,302,117 $52,561,207 $54,779,586 =========== =========== =========== =========== Income before income taxes ............... $ 2,070,552 $ 1,922,904 $ 3,064,442 $ 9,744,835 Income taxes .......... 322,653 231,301 399,790 2,632,422 ----------- ----------- ----------- ----------- Net income ....... $ 1,747,899 $ 1,691,603 $ 2,664,652 $ 7,112,413 =========== =========== =========== =========== Net income per share - basic and diluted* $ .16 $ .15 $ .24 $ .63 =========== =========== =========== =========== 1996 - ---- Total revenues (1) .... $46,535,995 $46,657,116 $48,584,564 $50,215,876 =========== =========== =========== =========== Income before income taxes ............... $ 4,373,874 $ 1,482,899 $ 5,587,906 $ 9,224,674 Income taxes .......... 1,041,409 11,696 1,409,696 3,172,388 ----------- ----------- ----------- ----------- Net income ....... $ 3,332,465 $ 1,471,203 $ 4,178,210 $ 6,052,286 =========== =========== =========== =========== Net income per share - basic and diluted* $ .31 $ .13 $ .38 $ .55 =========== =========== =========== =========== (1) Amounts previously reported in prior consolidated financial statements have been reclassified to conform to current presentation. * Since the weighted average shares for the quarters are calculated independent of the weighted average shares for the year, quarterly net income per share may not total to annual net income per share. EX-13.D 13 MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED EXHIBIT 13(d) - ------------------------------------------------- ------------- STOCKHOLDER MATTERS. - -------------------- The Company's common stock trades on the Nasdaq National Market tier of The Nasdaq Stock Market under the symbol EMCI. The following table shows the high and low sales prices, as reported by by Nasdaq, and the dividends paid for each quarter within the two most recent years. 1998 1997 ---------------------------- ---------------------------- High Low Dividends High Low Dividends ------- ------- --------- ------- ------- --------- 1st Quarter $14 1/2 $12 1/4 $ .15 $12 3/4 $11 1/4 $ .15 2nd Quarter 15 7/8 13 1/4 .15 13 1/2 10 3/4 .15 3rd Quarter 15 11 3/4 .15 15 12 1/2 .15 4th Quarter 13 1/4 9 .15 14 1/4 12 3/4 .15 At December 31 12 3/4 13 1/4 On March 5, 1999, there were approximately 1,374 registered shareholders of the Company's common stock. There are certain regulatory restrictions relating to the payment of dividends by the Company's insurance subsidiaries (see note 6 of Notes to Consolidated Financial Statements under Item 8 of this Form 10-K). It is the present intention of the Company's Board of Directors to declare quarterly cash dividends, but the amount and timing thereof, if any, is to be determined by the Board of Directors at its discretion. A dividend reinvestment and common stock purchase plan provides stockholders with the option of receiving additional shares of common stock instead of cash dividends. Participants may also purchase additional shares of common stock without incurring broker commissions by making optional cash contributions to the plan and may sell shares of common stock through the plan. See note 13 of Notes to Consolidated Financial Statements under Item 8 of this Form 10-K. During 1998 and 1997, Employers Mutual elected to receive 50 percent of its dividends in common stock under this plan. EX-21 14 Exhibit 21 ---------- EMC INSURANCE GROUP INC. ORGANIZATIONAL CHART ............................... : : : EMC INSURANCE GROUP INC. : :.............................: : : : ......................:................................ : : : : Illinois EMCASCO Insurance Company EMC Dakota Fire Insurance Company Reinsurance Farm and City Insurance Company Company EMCASCO Insurance Company : : EMC Underwriters, LLC. EX-23 15 Exhibit 23 ---------- CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS The Board of Directors and Stockholders EMC Insurance Group Inc.: We consent to incorporation by reference in Registration Statement Nos. 2-93738, 33-49335, 33-49337, 33-49339 and 333-45279 on Forms S-8 and No. 33-34499 on Form S-3 of EMC Insurance Group Inc. of our reports dated February 25, 1999, relating to the consolidated balance sheets of EMC Insurance Group Inc. and Subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, comprehensive income, stockholders' equity and cash flows and related financial statement schedules for each of the years in the three-year period ended December 31, 1998, which reports appear in the December 31, 1998 annual report on Form 10-K of EMC Insurance Group Inc. /s/ KPMG Peat Marwick LLP Des Moines, Iowa March 26, 1999 EX-24 16 Exhibit 24 ---------- POWER OF ATTORNEY KNOW EVERYONE BY THESE PRESENTS, that each director whose signature appears below constitutes and appoints Mark E. Reese and B. G. Kelley, jointly and severally, his attorneys-in-fact, each with the power of substitution, for him in any and all capacities related to signing and filing the 1998 Form 10-K (annual report pursuant to Section 13 or 15(d) of the Securities and Exchange Act of 1934) and all other required filings, until the 1999 annual meeting of shareholders, to the Securities and Exchange Commission, and hereby ratifies and confirms all that each of said attorneys-in-fact, or his substitute or substitutes, may do or cause to be done by virtue hereof. SIGNATURE TITLE - --------- ----- /s/ George C. Carpenter III - --------------------------- George C. Carpenter III Director /s/ E. H. Creese - --------------------------- E. H. Creese Director /s/ David J. Fisher - --------------------------- David J. Fisher Director /s/ Bruce G. Kelley - --------------------------- Bruce G. Kelley Director /s/ George W. Kochheiser - --------------------------- Chairman of the Board of George W. Kochheiser Directors /s/ Raymond A. Michel - --------------------------- Raymond A. Michel Director /s/ Fredrick A. Schiek - --------------------------- Fredrick A. Schiek Director May 21, 1998 EX-27 17 RESTATED 12-31-96
7 This schedule contains summary financial information extracted from the 12/31/96 balance sheet and income statement and is qualified in its entirety by reference. YEAR DEC-31-1996 DEC-31-1996 150,038,644 188,385,721 194,655,256 24,040,381 0 0 380,018,352 3,500,629 14,735,786 9,021,863 430,327,573 202,502,986 47,908,954 0 3,467,449 0 0 0 11,084,461 137,644,567 430,327,573 165,190,666 24,006,977 1,890,923 904,985 115,367,215 32,554,733 19,279,417 20,669,353 5,635,189 15,034,164 0 0 0 15,034,164 1.37 1.37 205,422,109 131,375,234 (16,008,019) 59,948,110 59,908,317 202,502,986 (16,008,019)
EX-27 18 RESTATED 3-31-97
7 This schedule contains summary financial information extracted from the 3/31/97 balance sheet and income statement and is qualified in its entirety by reference. 3-MOS DEC-31-1997 MAR-31-1997 152,667,973 189,103,209 183,719,576 25,884,665 0 0 383,315,159 2,709,816 16,196,667 9,712,697 435,091,556 213,892,260 49,901,431 0 3,455,340 0 0 0 11,146,635 136,650,256 435,091,556 42,458,343 5,748,702 57,305 213,666 31,649,886 8,172,702 5,618,287 2,070,552 322,653 1,747,899 0 0 0 1,747,899 .16 .16 202,502,986 32,789,614 (1,139,728) 5,719,967 15,934,361 213,892,252 (1,139,728)
EX-27 19 RESTATED 6-30-97
7 This schedule contains summary financial information extracted from the 6/30/97 balance sheet and income statement and is qualified in its entirety by reference. 6-MOS DEC-31-1997 JUN-30-1997 164,577,471 180,737,547 185,830,167 28,818,092 0 0 390,502,167 1,630,100 15,065,275 10,158,673 440,304,704 215,464,263 52,357,939 0 3,078,849 0 0 0 11,201,783 141,871,679 440,304,704 86,601,722 11,637,923 66,722 473,766 65,197,480 17,096,772 10,628,174 3,993,456 553,954 3,439,502 0 0 0 3,439,502 .31 .31 202,502,986 65,776,163 (578,683) 19,463,269 32,837,744 215,464,247 (578,683)
EX-27 20 RESTATED 9-30-97
7 This schedule contains summary financial information extracted from the 9/30/97 balance sheet and income statement and is qualified in its entirety by reference. 9-MOS DEC-31-1997 SEP-30-1997 168,716,018 180,799,151 187,681,892 31,055,735 0 0 402,158,538 1,231,011 14,806,402 11,094,655 453,459,399 218,903,636 58,801,610 0 2,425,150 0 0 0 11,276,877 145,116,244 453,459,399 131,050,041 17,489,406 2,023,782 778,111 100,223,676 25,847,696 15,987,027 7,057,898 953,744 6,104,154 0 0 0 6,104,154 .55 .55 202,502,986 101,757,466 (1,533,790) 37,500,675 45,968,712 218,903,620 (1,533,790)
EX-27 21 RESTATED 12-31-97
7 This schedule contains summary financial information extracted from the 12/31/97 balance sheet and income statement and is qualified in its entirety by reference. YEAR DEC-31-1997 DEC-31-1997 179,652,738 185,829,063 193,835,013 30,972,732 0 0 411,381,527 1,200,300 13,601,691 10,560,657 459,109,796 217,777,942 54,857,463 0 2,781,544 0 0 0 11,351,119 150,995,337 459,109,796 177,218,246 23,780,303 4,100,006 1,022,371 129,853,304 35,942,092 20,056,069 16,802,733 3,586,166 13,216,567 0 0 0 13,216,567 1.18 1.18 202,502,986 137,300,762 (7,447,458) 57,649,830 62,684,265 217,777,942 (7,447,458)
EX-27 22 RESTATED 3-31-98
7 This schedule contains summary financial information extracted from the 3/31/98 balance sheet and income statement and is qualified in its entirety by reference. 3-MOS DEC-31-1998 MAR-31-1998 176,507,120 184,455,468 192,174,421 33,705,585 0 0 422,916,259 1,820,850 14,359,605 11,740,355 471,940,281 223,061,605 56,107,897 0 3,146,143 0 0 0 11,400,687 156,286,930 471,940,281 45,688,223 6,294,161 89,165 229,591 30,390,250 9,127,619 5,531,764 6,013,327 1,534,693 4,478,634 0 0 0 4,478,634 .39 .39 217,777,942 34,768,174 (4,377,924) 5,520,073 20,262,368 222,295,478 (4,377,924)
EX-27 23 RESTATED 6-30-98
7 This schedule contains summary financial information extracted from the 6/30/98 balance sheet and income statement and is qualified in its entirety by reference. 6-MOS DEC-31-1998 JUN-30-1998 191,343,755 180,523,879 188,417,643 32,377,052 0 0 424,610,073 2,322,298 15,747,102 12,622,709 479,866,693 234,839,562 58,296,571 0 2,713,115 0 0 0 11,481,211 153,337,055 479,866,693 92,261,925 12,732,756 83,459 499,556 73,342,144 18,842,288 10,247,420 1,188,527 (523,946) 1,712,473 0 0 0 1,712,473 .15 .15 217,777,942 80,133,972 (6,791,828) 21,767,214 36,620,570 234,095,020 (6,791,828)
EX-27 24 RESTATED 9-30-98
7 This schedule contains summary financial information extracted from the 9/30/98 balance sheet and income statement and is qualified in its entirety by reference. 9-MOS DEC-31-1998 SEP-30-1998 192,726,790 169,341,686 181,568,250 28,339,974 0 0 428,186,796 1,560,690 15,913,005 13,309,704 487,916,468 240,385,437 65,885,957 0 2,101,758 0 0 0 11,490,017 149,503,864 487,916,468 141,079,398 18,872,115 7,324,406 1,166,657 117,100,206 30,794,401 13,838,674 4,555,647 54,675 4,500,972 0 0 0 4,500,972 .39 .39 217,777,942 126,556,133 (9,455,927) 47,980,569 48,881,189 239,640,895 (9,455,927)
EX-27 25 DECEMBER 31, 1998
7 This schedule contains summary financial information extracted from the 12/31/98 balance sheet and income statement and is qualified in its entirety by reference. YEAR DEC-31-1998 DEC-31-1998 217,499,600 164,926,190 174,623,439 32,785,429 0 0 437,871,230 2,133,056 16,627,791 12,355,482 496,046,352 245,610,323 61,464,051 0 1,951,683 0 0 0 11,496,389 152,441,451 496,046,352 194,244,405 24,859,063 5,901,049 1,700,331 157,876,094 44,662,641 17,016,421 3,673,856 (2,339,009) 6,012,865 0 0 0 6,012,865 .53 .53 217,777,942 168,953,309 (11,077,215) 73,228,354 62,949,029 245,610,323 (11,077,215)
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