-----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, F1cMy2jeOCOeIhBBhwp7V5XtBi8SOQA9DZcdQWmYT2b+x9KjtwPwaLqrp06mXQWm QyMpjBBgo1gSP6yETp5TYA== 0001005477-97-000900.txt : 19970329 0001005477-97-000900.hdr.sgml : 19970329 ACCESSION NUMBER: 0001005477-97-000900 CONFORMED SUBMISSION TYPE: 10-K405/A PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970328 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: ENHANCE FINANCIAL SERVICES GROUP INC CENTRAL INDEX KEY: 0000881889 STANDARD INDUSTRIAL CLASSIFICATION: INSURANCE CARRIERS, NEC [6399] IRS NUMBER: 133333448 STATE OF INCORPORATION: NY FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405/A SEC ACT: SEC FILE NUMBER: 001-10967 FILM NUMBER: 97566277 BUSINESS ADDRESS: STREET 1: 335 MADISON AVE CITY: NEW YORK STATE: NY ZIP: 10017 BUSINESS PHONE: 2129833100 MAIL ADDRESS: STREET 1: 335 MADISON AVENUE STREET 2: 25TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10017 10-K405/A 1 AMENDED FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended Commission file December 31, 1996 number 1-10967 ENHANCE FINANCIAL SERVICES GROUP INC. ------------------------------------- (Exact name of registrant as specified in its charter) New York 13-3333448 - ------------------------------- ---------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 335 Madison Avenue, New York, NY 10017 - -------------------------------- ----- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: 212-983-3100 Securities registered pursuant to Section 12(b) of the Act: Common Stock, $.10 par value New York Stock Exchange, Inc. - ---------------------------- ------------------------------------------- (Title of Class) (Name of each exchange on which registered) Securities registered pursuant to Section 12(g) of the Act: None ---------------- (Title of class) Indicate by check mark whether 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 approximate aggregate market value of voting stock held by non-affiliates of the registrant as of March 14, 1997 was $423,684,000. The number of shares of Common Stock outstanding as of that date was $18,192,871. For purposes of this calculation, shares of Common Stock held by directors, executive officers and shareholders whose ownership exceeds ten percent of the Common Stock outstanding on that date were excluded. Exclusion of shares held by any person should not be construed to indicate that such person possesses the power, direct or indirect, to direct or cause the direction of the management or policies of the registrant, or that such person is controlled by or under common control with the registrant. PART I Item 1. Business. GENERAL Enhance Financial Services Group Inc. ("Enhance Financial," and together with its consolidated subsidiaries, the "Company") is a holding company engaged, through its subsidiaries, principally in the reinsurance of financial guaranties of municipal and asset-backed debt obligations issued by monoline financial guaranty insurers. In addition, the Company is engaged in other insurance, reinsurance and non-insurance businesses that utilize the Company's expertise in performing sophisticated analysis of complex, credit-based risks. Enhance Financial has, since its inception, conducted the major portion of its business through its wholly-owned licensed, financial guaranty insurance subsidiaries, Enhance Reinsurance Company ("Enhance Re") and Asset Guaranty Insurance Company ("Asset Guaranty"; together, the "Insurance Subsidiaries"), and a smaller portion of its business through companies in which it has equity investments, including two non-insurance businesses conducted by Singer Asset Finance Company, L.L.C. and Credit-Based Asset Servicing and Securitization LLC. The Company expects that a significant portion of its growth will come from these non-financial guaranty businesses. The Company's business strategy is to expand its financial guaranty business, both primary and reinsurance, while maintaining its commitment to intensive and prudent credit underwriting and conservative investment policies; to utilize its expertise in underwriting credit risks to expand and develop its other insurance businesses; and to continue to accelerate its diversification efforts in areas that the Company believes have profit and strong growth potential. To the foregoing end, the Company expects to further develop the strategic relationship with Swiss Reinsurance Company which it initiated in 1996. Reinsurance of financial guaranties issued by monoline financial guaranty insurers represented 60.0% of the Company's gross premiums written for the year ended December 31, 1996. During the year ended December 31, 1996, the Company received 29.3% of the total reinsurance premiums ceded by all monoline financial guaranty insurers. The Company's other insurance businesses currently involve the issuance of direct financial guaranties of smaller municipal debt obligations, trade credit reinsurance, financial responsibility bonds and excess-SIPC/excess-ICS and related types of bonds. This area of the Company's business, measured by gross premiums written, has grown from its inception in 1991 to represent 40.0% of the Company's gross premiums written for the year ended December 31, 1996. The Company, through partially owned affiliates, is also engaged in the origination, purchase, servicing and/or securitization of special assets, including winning lottery tickets, structured settlements and sub-performing/non-performing residential mortgages. The Company is continuing to expand these businesses and is diversifying its products and services into other areas that the Company believes have strong growth potential and in which the Company's strengths in credit analysis and securitization can provide a competitive advantage. See "Other Businesses" below in this section. The Company's aggregate insurance in force as of December 31, 1996 was $56.6 billion, of which $40.9 billion was attributable to reinsurance of municipal bond obligations, $12.2 billion was attributable to reinsurance of asset-backed debt obligations and $3.5 billion was attributable to other insurance 1 businesses. The Company's net premiums written in 1996 were $95.7 million, of which $41.1 million was attributable to reinsurance of municipal bond obligations, $17.4 million was attributable to reinsurance of asset-backed debt obligations and $37.2 million was attributable to other insurance businesses. As of December 31, 1996, the Company had total assets of $983.4 million, of which $797.1 million consisted of portfolio investments, substantially all of which comprised high quality, fixed income securities. Also as of December 31, 1996, the Company had $269.0 million of deferred premium revenue and $488.3 million of shareholders' equity. Enhance Re has been rated by Standard & Poor's Corporation ("Standard & Poor's"), Moody's Investors Service, Inc. ("Moody's") and Duff & Phelps Credit Rating Company ("Duff & Phelps"), which have assigned it triple-A claims-paying ability ratings, their highest rating. Asset Guaranty has been rated by Duff & Phelps and Standard & Poor's, which have assigned it triple-A and double-A claims-paying ability ratings, respectively. FINANCIAL GUARANTY INSURANCE INDUSTRY OVERVIEW Financial Guaranty Insurance Generally Financial guaranty insurance provides an unconditional and irrevocable guaranty to the holder of a debt obligation of full and timely payment of principal and interest. In the event of a default under the obligation, the insurer has recourse against the issuer and/or any related collateral (which is a more common component in the case of insured asset-backed obligations or other non-municipal debt) for amounts paid under the terms of the policy. Payments under the insurance policy may not be accelerated by the holder of the debt obligation. Absent payment in full at the option of the insurer, in the event of a default under an insured obligation the holder continues to receive payments of principal and interest on schedule, as if no default had occurred. Each subsequent purchaser of the obligation generally receives the benefit of such guaranty. The premium for financial guaranty insurance is paid by the issuer of the obligation either in full at the inception of the policy or, less commonly, in installments on an annual basis. Premium rates are typically calculated as a percentage of either the principal amount of the debt or total exposure (principal and interest). Rate setting reflects such factors as the credit strength of the issuer, type of issue, sources of income, collateral pledged, restrictive covenants, maturity and competition from other insurers. Premiums are generally non-refundable and are earned over the life of the insured obligation. This long and relatively predictable earnings pattern is characteristic of the financial guaranty insurance industry and provides a relatively stable source of future revenues and claims-paying ability to financial guaranty insurers and reinsurers. There are currently six active primary U.S. financial insurers: Municipal Bond Investors Assurance Corporation ("MBIA"), AMBAC Indemnity Corporation ("AMBAC"), Financial Guaranty Insurance Company ("FGIC"), Financial Security Assurance Inc. ("FSA"), Capital Market Assurance Corporation ("CapMAC") and Connie Lee Insurance Company ("Connie Lee"). 2 Financial Guaranty Market The primary financial guaranty insurance market consists of two main sectors: municipal bond insurance and insurance on asset-backed debt. Municipal Bond Market. Municipal bond insurance provides credit enhancement of bonds, notes and other evidences of indebtedness issued by states and their political subdivisions (for example, counties, cities, or towns), utility districts, public universities and hospitals, public housing and transportation authorities, and other public and quasi-public entities. Municipal bonds are supported by the issuer's taxing power in the case of general obligation or special tax-supported bonds, or by its ability to impose and collect fees and charges for public services or specific projects in the case of most revenue bonds. Insurance provided to the municipal bond market has been and continues to be the major source of revenue for the financial guaranty insurance industry. The following table sets forth certain information regarding new-issue long term (over one year) municipal bonds and new-issue insured long term municipal bonds, in each case issued during the years indicated:
New Insured Volume New New as Percent of Year Total Volume(1) Insured Volume(1) New Total Volume - ---- --------------- ----------------- ---------------- (Dollars in billions) 1986......................... $151.3 $24.8 16.4% 1987......................... 105.4 21.6 20.5 1988......................... 117.8 30.5 25.9 1989......................... 125.0 30.6 24.5 1990......................... 128.1 33.5 26.2 1991......................... 174.1 52.0 29.9 1992......................... 235.0 80.8 34.5 1993......................... 292.0 107.9 37.0 1994......................... 164.5 61.3 37.3 1995......................... 160.3 68.3 43.0 1996......................... 184.4 85.2 46.2
- ---------- (1) Based upon estimated data provided by The Bond Buyer, January 27, 1997. The overall increase in the volume of municipal bond issuance in 1996 resulted from an increase in refunding issues, which represented 31% of total issuance compared to 30% in 1995, as well as a higher amount of bonds issued for new money purposes, which increased to $126.7 billion in 1996 from $112.5 billion in 1995. Asset-Backed Debt Market. Asset-backed transactions or securitizations constitute a form of structured financing which are distinguished from unsecured debt issues by being secured by a specific pool of assets held by the issuing entity, rather than relying on the general unsecured creditworthiness of the issuer 3 of the obligation. While most asset-backed debt obligations represent interests in pools of assets, such as residential and commercial mortgages and credit card and auto loan receivables, monoline financial guarantors have also insured asset-backed debt obligations secured by one or a few assets, such as utility mortgage bonds and multi-family housing bonds. The domestic, public, non-mortgage asset-backed securities market continued its rapid growth, increasing from $25.5 billion in 1989 to approximately $151.4 billion in 1996. Securities backed by home equity loans were the fastest growing segment of that market in 1996, more than double the 1995 home equity issuance. Though securities backed by credit card receivables declined slightly in 1996 from 1995, they continued to constitute the largest single component of the non-mortgage asset-backed securities market in 1996, as they did in 1994 and 1995. There are no consensus estimates for issuance in the total asset-backed securities market, which includes not only domestic, non-mortgage, public debt, but international, private, and mortgage-backed obligations. Reinsurance Reinsurance is the commitment by one insurance company, the "reinsurer," to reimburse another insurance company, the "ceding company," for a specified portion of the insurance risks underwritten by the ceding company. Because the insured party contracts for coverage solely with the ceding company, the failure of the reinsurer to perform does not relieve the ceding company of its obligation to the insured party under the terms of the insurance contract. While reinsurance provides various benefits to the ceding company, perhaps most importantly it enables a primary insurer to write single risks and greater aggregate risks without contravening the capital requirements of applicable state insurance laws and rating agency guidelines. State insurance regulators allow primary insurers to reduce the liabilities appearing on their balance sheets to the extent of reinsurance coverage obtained from licensed reinsurers or from unlicenced reinsurers meeting certain solvency and other financial criteria. Similarly, the rating agencies permit such a reduction for reinsurance in an amount which depends on the strength of the reinsurer. See "Insurance Regulatory Matters" and "Description of Business -- Rating Agencies" in this section. The principal forms of reinsurance are treaty and facultative. Under a treaty arrangement the ceding company is obligated to cede, and the reinsurer is correspondingly obligated to assume, a specified portion of a specified type of risk or risks insured by the ceding company during the term of the treaty (although the reinsurance risk thereafter extends for the life of the respective underlying obligations). Under a facultative agreement, the ceding company from time to time during the term of the agreement offers a portion of specific risks to the reinsurer, usually in connection with particular debt obligations. A facultative arrangement differs from a treaty in that the reinsurer performs its own underwriting credit analysis to determine whether to accept a particular risk. Treaty and facultative agreements are typically entered into for an indefinite term, subject to a right of termination under certain circumstances. Treaty and facultative reinsurance is typically written on either a proportional or non-proportional basis. Proportional relationships are those in which the ceding company and the reinsurer share the premiums, as well as the losses and expenses, of a single risk or group of risks in an agreed percentage. In addition, the reinsurer generally pays the ceding company a ceding commission, which is normally related to the ceding company's cost of obtaining the business being reinsured. Non-proportional reinsurance 4 relationships are typically on an excess-of-loss basis. An excess-of-loss relationship provides coverage to a ceding company to the extent that losses exceed a certain amount, in an amount up to a certain dollar limit. Reinsurers may also, in turn, purchase reinsurance under what are called "retrocessional agreements" to cover all or a portion of their own exposure and otherwise for reasons similar to those that cause primary insurers to purchase reinsurance. See "Description of Business -- Retrocession" in this item. DESCRIPTION OF BUSINESS Reinsurance of Monoline Financial Guaranty Insurers The Company's principal business is the reinsurance of financial guaranty insurance written by the six active monoline financial guaranty insurers. The Company provides reinsurance on both a treaty and a facultative basis for all the monoline primary insurers. See "Sources of Premiums" in this section. As of December 31, 1996, approximately 53.5% of the Company's insurance in force attributable to the monoline financial guaranty insurers represented business underwritten on a treaty basis, with the balance being facultative. The reinsurance written by the Company is subject to a detailed underwriting review. Most of the Company's reinsurance activity is written on a proportional reinsurance basis. The Company believes that the reinsurance of municipal bond guaranties, which the Company expects will grow in response to the anticipated long term growth in the municipal bond market, provides a relatively stable source of premium income for the Company. In addition, premiums received are credited as deferred premium revenue and are earned as the related risks amortize, thereby providing a relatively stable, predictable source of earned premiums. Except for its reinsurance of a small amount of multi-family housing-backed business written by one primary insurer, the Company has since 1992 not reinsured real estate-backed business. Accordingly, its portfolio of such business, totaling $214 million par outstanding as of December 31, 1996 has decreased from $342 million at year-end 1992. Premiums Ceded by Individual Primary Insurers. The following table sets forth certain information regarding premiums ceded by the monoline financial guaranty insurers to the Company in 1996, 1995 and 1994: 5
Year Ended December 31, ----------------------------------------------------------------------------------------- 1996 1995 1994 ----------------------------- --------------------------- --------------------------- Gross Premiums Gross Premiums Gross Premiums Ceded Percent of Ceded Percent of Ceded Percent of Primary Insurer (In thousands) Total (In thousands) Total (In thousands) Total - --------------- -------------- ----- -------------- ----- -------------- ----- AMBAC ......... $ 9,407 16.5% $19,218 34.9% $ 5,631 9.6% CapMAC ........ 6,161 10.8 3,605 6.5 3,618 6.2 CGIC .......... ---(1) ---(1) 1,075 2.0 464 0.8 Connie Lee .... 2,265 4.0 856 1.6 1,272 2.2 FGIC .......... 7,301 12.8 6,724 12.2 19,608 33.5 FSA ........... 14,001 24.6 7,207 13.1 7,674 13.1 MBIA .......... 17,814 31.3 16,357 29.7 20,195 34.6 ------- ----- ------- ----- ------- ----- Total $56,949 100.0% $55,042 100.0% $58,462 100.0% ======= ===== ======= ===== ======= =====
- ---------- (1) CGIC was acquired by the corporate parent of FSA in December 1995. Portfolio Data. The Company seeks to maintain a diversified insurance portfolio designed to spread its risk based on issuer, type of debt obligation insured and geographic concentration. The following table sets forth the distribution of the Company's reinsured monoline-guarantied obligations by bond type as of December 31, 1996. As of December 31, 1996 ------------------------- Insurance Percent Type of Obligation in Force of Total - ------------------ ------------- -------- (In millions) Municipal: General obligation/tax supported .......... $15,820 29.7% Water/sewer/electric/gas .................. 9,218 17.4 Health care ............................... 6,162 11.6 Airports/transportation ................... 5,862 11.0 Housing revenue ........................... 1,531 2.9 Other (1) ................................. 2,321 4.4 ------- ----- Total municipal ........................ 40,914 77.0 ------- ----- Asset-backed: Consumer obligations ...................... 6,000 11.3 Investor-owned utilities .................. 3,373 6.4 Commercial mortgage ....................... 202 0.4 Other (2) ................................. 2,626 4.9 ------- ----- Total asset-backed ..................... 12,201 23.0 ------- ----- Total .................................. $53,115 100.0% ======= ===== - ---------- (1) Represents other types of municipal obligations, none of which individually constitutes a material amount or percentage of the Company's insurance in force. 6 (2) Includes $881 million collateralized by corporate debt obligations. The balance represents other types of assets which collateralize obligations reinsured by the Company, none of which individually constitutes a material amount or percentage of the Company's insurance in force. The following table identifies by issuer the Company's ten largest single-risk insurance in force amounts outstanding as of December 31, 1996 and the credit rating assigned by Standard & Poor's as of that date (in the absence of financial guaranty insurance) to each such issuer:
Credit Insurance in Force as of Credit(1) Rating Obligation Type December 31, 1996 - --------- ------ ---------------------- ------------------------ (In millions) New York City Municipal Water Finance Authority................................ A- Water & Sewer $820.3 New York City, NY......................... BBB+ General Obligation 690.9 Dade County, Florida Water & Sewer System................................... A Water & Sewer 602.7 State of California....................... A+ General Obligation 560.5 Public Service Elec & Gas of New Jersey.............................. A- Investor Owned Utility 446.7 Metropolitan Washington Airport, DC....... AA- Transportation 443.9 Nassau County, NY......................... A- General Obligation 432.3 Commonwealth of Puerto Rico............... A General Obligation 421.0 Municipal Electric Authority of Georgia.............................. A Public Power 408.2 Texas Utility Electric Company, TX........ BBB+ Investor Owned Utility 395.9
- ---------- (1) Mid-State Trust IV is an asset-backed security obligation backed by residential mortgages. 7 The following table sets forth the distribution by state of the Company's insurance in force in connection with its reinsurance of monoline-guarantied obligations as of December 31, 1996: As of December 31, 1996 ---------------------------------------------- State Insurance in Force Percent of Portfolio - ----- ------------------ -------------------- (In millions) California.............. $ 6,788.9 12.8% New York................ 5,789.2 10.9 Florida................. 3,881.0 7.3 Texas................... 2,844.0 5.3 Pennsylvania............ 2,822.2 5.3 Illinois................ 2,473.4 4.7 New Jersey.............. 2,131.9 4.0 Ohio.................... 1,511.9 2.8 Massachusetts........... 1,425.1 2.7 Michigan................ 1,091.0 2.1 Other (1)............... 22,355.8 42.1 -------- ------ Total $53,114.4 100.0% ========= ===== - ---------- (1) Includes $8.9 billion related to pooled or foreign credits for which specific allocation by state is not available. The balance represents all remaining states, District of Columbia, Puerto Rico and several foreign countries, in which obligations insured and reinsured by the Company arise, none of which individually constitutes a material portion of the Company's insurance in force. Underwriting Staffing, Policies and Procedures. The Company believes that its underwriting discipline has been critical to its profitable growth. The Company has a structured underwriting process to determine the characteristics and creditworthiness of risks that it reinsures, which process supplements the underwriting procedures of the primary insurers. Rather than relying entirely upon the underwriting performed by the primary insurers, both the Company and the rating agencies conduct extensive reviews of the primary insurers. The Company conducts periodic detailed reviews of each monoline primary carrier with which it does treaty and facultative business. That review entails an examination of the primary insurer's operating, underwriting and surveillance procedures; personnel; organization and existing book of business, as well as the primary insurer's underwriting of a sample of business assumed under the treaty. Facultative transactions are reviewed individually under procedures adopted by the Company's credit committee. Any underwriting issues are discussed internally by the Company's credit committee and with the primary insurer's personnel. Moreover, the Company relies on ongoing oversight by its credit committee to avoid undue exposure concentration in any given type of obligation or geographic area. Moreover, the ceding insurer is typically required to retain at least 25% of the exposure on any single risk assumed. Limitations on the Company's single-risk exposure derive from state insurance regulation, rating agency guidelines and internally established criteria. The primary factor in determining single-risk capacity is the class or sector of business being underwritten. For municipal credits, the Company has self-imposed single-risk guidelines which range widely, depending upon the perceived risk of default of the municipal obligation reinsured. On individual underwritings, the Company's credit committee may limit the allocation of capacity 8 to an amount below that allowed by the single-risk guidelines noted above. For asset-backed transactions, the Company's single-risk guidelines generally follow state insurance regulation limitations. The Company's surveillance procedures include reviews of all risks insured as a primary insurer and those exposures assumed as a reinsurer as to which it may have concerns. The Company also maintains regular communication with the surveillance departments of the ceding primary insurers. Other Insurance Businesses The Company services certain insurance specialty markets not served by the monoline financial guaranty industry. In certain of these new business areas, the Company operates as a primary insurer in areas or for transactions where the monoline financial guaranty primaries may decline to provide coverage; others involve the Company serving as a reinsurer for certain specialty primary insurers, in some of which the Company has significant equity interests or is otherwise a participant. In writing these other insurance lines of business, the Company utilizes its expertise in evaluating complex credit-based risks. In terms of gross premiums written, these businesses have increased significantly since their inception in 1991 to the point where they represent 40.0% of the Company's gross premiums written for the year ended December 31, 1996, compared to 36.8% for the year ended December 31, 1995. The Company's business strategy is to expand and develop further these other insurance lines, which the Company believes have strong profit and growth potential and where the Company's expertise can be utilized. Premiums in respect of certain of the Company's other insurance businesses are earned over a significantly shorter period than those in respect of the Company's monoline reinsurance business. The Company's ability to realize consistent levels of earned premiums in these insurance businesses will therefore depend on its ability to write consistent levels of new insurance. The following tables set forth certain information concerning the Company's other insurance businesses as of December 31, 1996 and for the year then ended: Insurance in Force* Category of Other Insurance Business As of December 31, 1996 - ------------------------------------ ----------------------- (In billions) Municipal bonds - direct........................... $2.6 Multi-family housing-backed financings............. 0.4 Financial responsibility bonds..................... 0.4 Other.............................................. 0.1 ---- Total $3.5 ==== - ---------- * Does not include insurance in force pursuant to the excess-SIPC/excess-ICS program and credit reinsurance described below in this section. 9 Year Ended December 31, 1996 -------------------------------- Net Premiums Category of Other Insurance Business Written Premiums Earned - ------------------------------------ ------------ --------------- (In millions) Municipal bonds - direct.................. $10.2 $3.5 Credit reinsurance........................ 17.1 16.6 Financial responsibility bonds............ 4.3 4.6 Excess-SIPC/excess-ICS.................... 4.9 3.6 Other..................................... 0.6 1.7 ----- ----- Total $37.1 $30.0 ===== ===== Municipal bonds. The Company writes municipal bond insurance as a primary insurer in certain transactions where the financial guaranty monoline primary insurers generally elect not to participate. This writing is focused on various market sectors including tax-backed obligations, infrastructure revenue bonds, health care bonds, higher education bonds and municipal lease obligations. Each such issue, subsequent to its being insured, must be reviewed by Standard & Poor's and Duff & Phelps, which determine the credit quality of the issue and, after their review, report their findings to the Company. Credit Reinsurance. Credit reinsurance protects sellers of goods, under certain circumstances, against non-payment of the receivables they hold from buyers of those goods. Some companies cover receivables only where the buyer and seller are in the same country, while other insurers cover cross-border receivables. In the latter instance, the insurer may cover certain political risks (foreign currency controls, expropriation, etc.) which interfere with the payment from the buyer. The Company's credit reinsurance book of business includes domestic and cross-border business, and some treaties include political risks. The Company is a member-reinsurer, together with Great American Insurance Company, of the Foreign Credit Insurance Association ("FCIA"), which guaranties export financing for transactions between exporters and foreign purchasers. In addition, the Company participates in proportional and non-proportional reinsurance treaties with approximately 20 credit insurers, primarily in Europe. The largest relationships in terms of premiums are with the NCM Group (domiciled in the Netherlands) and Trade Indemnity PLC (domiciled in the United Kingdom). As of December 31, 1996, Enhance Financial owned a 36.5% equity interest (representing 55% of the voting interest) in EIC Corporation Ltd., which, in turn, owns all the outstanding capital stock of Exporters Insurance Company Ltd. ("Exporters"), an insurer of domestic and foreign trade receivables for multinational companies. The Company provides significant reinsurance capacity to this joint venture on a proportional quota share. Financial Responsibility Bonds. The Company owns a controlling equity interest in Van-American Insurance Company ("Van-Am"), which writes reclamation bonds for the coal mining industry, generally in strip mining ventures, and surety bonds covering the closure and post-closure obligations of landfill operators. Excess-SIPC/Excess-ICS. The Company writes surety bonds in the United States and in the United Kingdom for the protection of customers of large securities brokers against the loss of securities in their brokerage accounts in the event of the broker's insolvency and liquidation. Bonds issued under this program 10 typically provide coverage for loss per account in excess of the $500,000 in the case of loss covered by the U.S. government-established Securities Investor Protection Corporation ("SIPC"), or 48,000 pounds sterling (approximately $78,000) in the case of loss covered by the U.K. government-established Investors Compensation Scheme ("ICS"), but in either case, up to a maximum of $150 million of loss. The coverage is offered only to the members of the securities brokerage community that meet specific financial, legal and operating criteria established by the Company. Although the dollar value of customer account assets protected by the Company's excess-SIPC/excess-ICS policies totals in the billions, the Company's actual exposure is considerably lower. Losses in a brokerage account occur only to the extent, if any, a covered broker-dealer becomes insolvent and securities are missing and the individual customer losses, which are prorated among all the customers of that broker-dealer, exceed the applicable deductible amount, which ranges from $500,000 for losses covered by SIPC, or 48,000 pounds sterling for losses covered by ICS, to $150 million per customer on the policies issued by the Company. As part of its underwriting process, the Company reviews the operations and exposure amounts of each broker-dealer applying for coverage and calculates a maximum loss based on the normal day-to-day operational exposures of that broker-dealer. The Company estimates that its total losses, net of reinsurance, in the unlikely circumstance that all covered broker-dealers were liquidated would not exceed $10.3 million. Underwriting Process and Surveillance. The underwriting criteria applied in evaluating a given issue for primary insurance coverage and the internal procedures (for example, credit committee review) for approval of the issue are substantially the same as for the underwriting of reinsurance. See "Reinsurance of Monoline Financial Guaranty Insurers -- Underwriting Staffing, Policies and Procedures" in this section. The entire underwriting responsibility rests with the Company as the primary insurer. As a result, the Company participates more actively in the structuring of the transaction than it does as a reinsurer. The Company conducts, at least annually, in-depth surveillance of issues insured as a primary. Other Businesses The Company owns an 87.5% interest in Singer Asset Finance Company, L.L.C. ("Singer"), which purchases from individuals, state lottery prizes, structured settlement payment rights and other long term payment streams. Working with leading financial institutions, Singer has securitized lottery prizes and structured settlement payment streams, i.e., resold pools of such assets into the securities market. In July 1996, in furtherance of its diversification effort, the Company formed Credit-Based Asset Servicing and Securitization LLC ("C-BASS"), a New York City-based joint venture in which the Company and Mortgage Guaranty Insurance Corporation ("MGIC"), a leading U.S. provider of private mortgage insurance coverage, each own 48% interests. Integrating modeling, analytic and securitization skills and specialty servicing capabilities, C-BASS evaluates, accumulates, services and securitizes assets in the large market of sub-performing and non-performing residential mortgages. As part of its capitalization, C-BASS will receive from the Company the entire interest in Litton Loan Servicing, Inc., a leading residential mortgage specialty servicer based in Houston, Texas acquired by the Company in 1995. Both Singer and C-BASS, which are larger scale opportunities than the Company's previous diversification activities, utilize the Company's core skills in complex credit analysis, securitization and strategic relationships. 11 Sources of Premiums The following table sets forth certain information regarding insurance business assumed and written by the Company.
Year Ended December 31, 1996 ------------------------------------------------------------------------------------------------------------ Gross Premiums Gross Written as Percent Premiums Earned Premiums Earned Premiums Net Premiums Premiums of Total Gross as Percent of Total as Percent of Sources of Premiums Written Written Earned Premiums Written Premiums Earned Total Revenues - ------------------- -------- ------------ -------- ------------------ ------------------- -------------- (Dollars in thousands) Financial guaranty reinsurance AMBAC ............ $ 9,407 $ 9,400 $ 7,014 9.5% 9.1% 5.3% CapMAC ........... 6,161 6,161 3,947 6.2 5.1 3.0 Connie Lee ....... 2,265 2,265 575 2.3 0.7 0.4 FGIC ............. 7,301 7,301 8,424 7.4 10.9 6.4 FSA .............. 14,001 13,977 10,596 14.2 13.7 8.0 MBIA ............. 17,814 17,437 17,142 18.1 22.2 13.0 Other insurance (1).. 41,639 39,296 29,910 42.3 38.6 22.6 XOL Retrocessions.... -- (175) (175) -- (0.3) (0.2) ------- -------- -------- ----- ----- ---- $98,588 $ 95,662 $ 77,433 100.0% 100.0% 58.5% ======= ======== ======== ===== ===== ====
- ---------- (1) Includes business written by the Company as a primary insurer. For the year ended December 31, 1996, no single primary insurer included in "Other insurance" provided greater than 4.5%, 4.6% and 5.7% of gross premiums written, net premiums written and premiums earned, respectively. The Company has maintained close and long-standing relationships with its monoline financial guaranty insurer clients, dating essentially from either the Company's or the given primary insurer's inception. In the Company's opinion, these relationships provide the Company with a comprehensive understanding of its clients' procedures and reinsurance requirements and allow the clients to utilize the Company's underwriting expertise effectively, thus improving the service they receive. The Company is a party to treaty agreements with all active monoline primary insurers except one, which terminated its treaty with the Company in 1997, and it has facultative agreements with all active monoline primary insurers. It also has treaty and facultative agreements with FCIA, NCM Group, Trade Indemnity PLC, Van-Am and Exporters. The Company's treaty and facultative agreements usually are entered into for an indefinite term, subject to termination (i) upon written notice (ranging from 90 to 120 days) prior to the specified deadline for renewal or (ii) at the option of the primary insurer if the Company fails to maintain certain financial, regulatory and rating agency criteria which are equivalent to or more stringent than those the Company is otherwise required to maintain for its own compliance with the New York Insurance Law (the "Insurance Law") and, in the case of the agreements with the primary monoline insurers, to maintain the rating agencies' current claims-paying ability ratings for the particular Insurance Subsidiary. Upon termination under the conditions set forth in (ii) above, the Company may be required to return to the primary insurer all unearned premiums, less ceding commissions, attributable to reinsurance ceded pursuant to such agreements. Upon the occurrence of the conditions set forth in (ii) above, whether 12 or not an agreement is terminated, the Company may be required to obtain a letter of credit or alternative form of security to collateralize its obligation to perform under such agreement. Of the Company's aggregate monoline reinsurance exposure of $53.1 billion as of December 31, 1996, $28.4 billion, or 53.5%, was derived through its treaty relationships with the primary insurers. Loss Experience The Company establishes a provision for losses and related loss adjustment expenses ("LAE") when reported by primary insurers or when, in the Company's opinion, an insured risk is in default or a default is probable and the amount of the loss is reasonably estimable. Provisions for losses and LAE are established based on the estimated loss, including expenses associated with settlement of the loss, through the full term of the insured obligation. In the case of obligations with fixed periodic payments, the provision for losses and LAE represents the present value of the Company's ultimate expected losses, adjusted for estimated recoveries under salvage or subrogation rights. On any given municipal and asset-backed reinsurance transaction, the Company and its primary insurer clients underwrite with a zero-loss underwriting objective. For the credit reinsurance business, loss reserves are established based on historical loss development patterns experienced by the Company and by ceding companies in similar businesses. The estimate of reserves for losses and LAE, which includes a non-specific loss reserve, is periodically evaluated by the Company, and changes in estimate are reflected in income currently. As the Company anticipated when it commenced its other insurance businesses, it has experienced relatively higher loss levels in certain of these businesses than it experienced in connection with its financial guaranty reinsurance business. See "Other Insurance Businesses" in this section. The Company believes that the higher premiums it receives in these businesses adequately compensate it for the risks involved. At December 31, 1996, the Company had established $26.3 million in net reserves for losses and LAE (of which $15.3 million comprised incurred but not reported and non-specific reserves). The following table sets forth certain information regarding the Company's loss experience for the years indicated: Year Ended December 31, ---------------------------- 1996 1995 1994 ---- ---- ---- (In thousands) Net reserve for losses and LAE beginning of year ................ $28,946 $26,717 $ 8,753 Net provision for losses and LAE Occurring in current year ........ 6,087 3,491 9,921 Occurring in prior years ......... 3,097 6,022 12,921 ------- ------- ------- Total ...................... 9,184 9,513 22,842 ------- ------- ------- Net payments for losses and LAE Occurring in current year ........ 587 2,705 3,216 Occurring in prior years ......... 11,285 4,579 1,662 ------- ------- ------- Total ...................... 11,872 7,284 4,878 ------- ------- ------- Net reserve for losses and LAE at end of year .......................... $26,258 $28,946 $26,717 ======= ======= ======= 13 The Company paid losses of approximately $20 million in 1993 in connection with the refinancing of three transactions for which the Company was a reinsurer of financial guaranties of securities backed by pools of commercial real estate. In 1994, following notification from the primary insurer, the Company increased its case reserves on these refinanced transactions by $7.1 million. In 1994, the Company also established case reserves of $2.4 million on two additional transactions in its discontinued commercial real estate portfolio. Of these additions to case reserves, $7.5 million were established by transfer from the Company's non-specific reserve, thereby depleting that reserve. Following re-evaluation of all its potential exposures, the Company increased its non-specific reserve to $10 million at year-end 1994. In 1995, the Company established by transfer from the non-specific reserve additional net case reserves relating to these transactions of approximately $3.0 million. There was no significant development in these case reserves in 1996. In addition, in 1996, 1995 and 1994 the Company incurred losses of $7.3 million, $6.1 million and $5.7 million, respectively, in connection with its credit and surety businesses, commensurate with the continued growth in premiums written from these businesses. The Company believes that the reserves for losses and LAE, including the case and non-specific reserves, are adequate to cover the ultimate net cost of claims. However, the reserves are necessarily based on estimates, and there can be no assurance that the ultimate liability will not exceed such estimates. Investments and Investment Policy The Company's investment portfolio is managed with a view maximizing after-tax performance. While the Company allocates much of its portfolio to four external specialty managers, a portion of the portfolio consisting of privately placed securities and municipal bonds is managed internally. All investments are guided by the Company's general investment objectives and policies, including guidelines relating to average maturities and quality, which are periodically reviewed and revised as appropriate. The investment policies are designed to achieve diversification of the portfolio and generally to preclude investments in obligations insured by the Company. Investments comprise almost entirely fixed income securities, with a mix of taxable and tax-exempt investments which maximize the net income of the Company. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 115, Accounting for Certain Investments in Debt and Equity Securities, the Company classifies all securities at the time of purchase as "held to maturity" or "available for sale." Securities held to maturity are those securities which the Company intends and has the ability to hold until maturity and are carried at amortized cost. All other fixed maturity securities are classified as available for sale, are carried at market value and may be sold in response to changes in interest rates, prepayment risk, payment of losses and other factors. Unrealized gains and losses, net of taxes, on the available-for-sale portfolio are charged or credited to shareholders' equity. The Company internally manages and controls invested assets representing approximately 53.0% of the book value of the investment portfolio at December 31, 1996. The Company intends to hold 27.5% (based on carrying value) of its invested assets to maturity, and, accordingly, in accordance with SFAS No. 115, they are accounted for on an amortized cost basis. 14 The following tables set forth certain information concerning the types of investments and maturities composing the investment portfolio of the Company.
As of December 31, 1996 ---------------------------------------------- Investment Category (1) Carrying Value (2) Weighted Average Yield (3) - ----------------------- ------------------ -------------------------- (Dollars in thousands) Fixed Maturities, held to maturity Municipal obligations - tax exempt ......... $ 98,513 6.87% Corporate securities ....................... 8,039 8.08 U.S. Government obligations ................ 3,076 6.97 Private placements ......................... 108,064 9.04 -------- Total .................................... 217,692 7.99 -------- Fixed maturities, available for sale Municipal obligations - tax exempt ......... 356,526 5.37 Corporate securities ....................... 47,151 7.10 U.S. Government obligations ................ 9,791 6.58 Mortgage-backed securities ................. 78,186 7.51 Foreign securities ......................... 48,230 7.41 -------- Total .................................... 539,884 6.04 -------- Short-term investments (4) .................... 38,632 5.46 Common Stocks ................................. 878 8.57 -------- Total Investments ........................ $797,086 6.55% ========
- ---------- (1) Excludes investment in affiliates. See Note 5 of Notes to Consolidated Financial Statements. (2) Investments in fixed maturities in the held-to-maturity portfolio are carried at amortized cost. Investments in fixed maturities in the available-for-sale portfolio are carried at market value. Short-term investments are carried at cost, which approximates their market values. Common stocks are carried at market value. Unrealized gains and losses on fixed maturities available for sale and common stocks are reflected in shareholders' equity. (3) Represents yield to maturity on fixed maturities and current yield on common stocks and certain short-term investments. All amounts are stated on a pre-tax basis. (4) Includes $5.4 million of cash and cash equivalents as of December 31, 1996. 15 Carrying Value Maturity of Fixed Maturities As of December 31, 1996 - ---------------------------- ----------------------- (In thousands) Held to Maturity (1) Due in one year or less ....................... $ 25,112 Due after one year through five years ......... 77,272 Due after five years through ten years ........ 76,979 Due after ten years ........................... 38,329 -------- Total(2) .................................. $217,692 ======== Available for Sale (3) Due in one year or less ....................... $ 4,386 Due after one year through five years ......... 29,998 Due after five years through ten years ........ 214,316 Due after ten years ........................... 291,184 -------- Total(4) .................................. $539,884 ======== - ---------- (1) The weighted average maturity of the portfolio is estimated to be 5.1 years as of December 31, 1996. (2) Investments in fixed maturities in the held-to-maturity portfolio are carried at amortized cost. Total market value as of December 31, 1996 of fixed maturities, held to maturity, was $227.1 million. (3) The weighted average maturity of the portfolio as of December 31, 1996 is estimated to be 11.8 years. (4) Investments in fixed maturities in the available-for-sale portfolio are carried at market value. Total amortized cost of fixed maturities, available for sale, as of December 31, 1996 was $527 million. The Company has an investment policy of maintaining an investment portfolio having a weighted average credit rating of not lower than AA. The Company's adherence to these policies is reflected in the following table setting forth certain information concerning the rating by Standard & Poor's of the Company's investments. The Company's investment strategy also includes the investment of funds in higher yielding, private placement . These are fixed-maturity obligations whose quality ratings do not alter the otherwise weighted average credit rating of the Company's investment portfolio. In 1995, the Company entered into a joint venture through which it originates and securitizes most of these assets. See "Other Businesses" in this section. However, the Company continues to utilize a portion of these assets in its investment portfolio. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." 16 Percent of Investment Portfolio Rating As of December 31, 1996 - ------ ------------------------------- AAA (1) .................................... 43.0% AA ......................................... 39.3% A ........................................ 12.8% Other (2) .................................. 4.9% - ---------- (1) Includes U.S. Treasury and agency obligations, which constituted 6.3% of the total portfolio as of December 31, 1996. (2) Consists of common stock, unrated securities and securities rated less than A. Retrocession. The Company is a party to certain facultative retrocession agreements, pursuant to which it cedes to certain retrocessionnaires a portion of its reinsurance exposure. Since it is required to pay its obligations in full to the primary insurer regardless of whether it is entitled to receive payments from its retrocessionnaire, the Company therefore believes that in most cases it is vital that retrocessions be made only to very creditworthy retrocessionnaires. The Company also cedes to reinsurers a portion of its direct insurance exposure, and the foregoing also describes in general the relationship between the Company and its reinsurers. The Company has historically retroceded relatively little of its financial guaranty reinsurance exposure mainly because the economic gain was not deemed sufficient to offset both the costs of developing a program and the additional risks the Company would assume. These risks include that of the solvency of the retrocessionnaire and possible additional risk if the retrocession is effected on a non-proportional basis. In its specialty insurance businesses, the Company in recent years has increased the amount of direct exposure which it reinsures out, particularly that incurred in its excess-SIPC/excess-ICS program, principally in order to comply with applicable regulatory single-risk limitations. Most of the reinsurance capacity for its excess-SIPC/excess-ICS program is provided by certain of the primary financial guaranty insurers, for which the Company serves as reinsurer in their municipal bond and asset-backed transactions. In addition, the Company retrocedes a portion of its credit reinsurance business from FCIA to several international reinsurance companies. Enhance Re is party to an excess-of-loss reinsurance agreement with Hannover Ruckversicherungs AG ("Hannover Re") under which it will be entitled, subject to certain conditions, to draw from Hannover Re up to $25 million under certain circumstances. The agreement has a term of one year and is cancelable annually at the option of either party, except that Company has the option to force a seven-year run-off period. Hannover Re is a German reinsurance company which has a claims-paying ability rating from Standard & Poor's of AA+. Gross written premiums of $2.5 million were ceded or retroceded by the Insurance Subsidiaries to unaffiliated companies in 1996, of which amount 32.2% was paid to insurance companies having AAA claims-paying ability ratings from Standard & Poor's. 17 Marketing Most of the Company's business derives from relationships it has established and maintains with primary insurance companies. These relationships provide business for the Company in the following major areas: (1) reinsurance for municipal bonds and asset-backed securities (in which area the Company currently has either quota share, surplus share or facultative agreements with all the monoline primary companies); (2) credit reinsurance (in which the Company collected premiums from 23 credit insurers in 1996, primarily domiciled in Europe); and (3) affiliated-company reinsurance (which includes Exporters and FCIA). The Company markets directly to the monoline insurers writing credit enhancement business and has direct relationships with its affiliated primary insurers. Specialist reinsurance intermediaries, most of whom are located in London, usually present to the Company reinsurance opportunities in the credit insurance sector. These brokers work with the Company's marketing personnel in introducing the Company to the primary credit insurance markets and in structuring reinsurance to meet the needs of the primary insurers. Intermediaries are typically compensated by the reinsurer based on a percentage of premium assumed, which varies from transaction to transaction. Competition Reinsurance of Monoline Financial Guaranties. The Company is subject to direct competition from one other U.S. company, Capital Reinsurance Company ("Capital Re"), and one foreign company, Axa Reassurance Finance S.A. ("Axa Re Finance"), specializing in the reinsurance of financial guaranty insurance, which, together with the Company, provides most of the reinsurance available for the monoline financial guaranty primary insurers, particularly with respect to facultative insurance. The Company believes that it and Capital Re have generally participated in roughly equal percentages in treaties with primary insurers. Almost all U.S. multiline insurers have declined to participate in the reinsurance market, which the Company ascribes primarily to their lack of the special expertise and underwriting skills necessary for this line of reinsurance. However, several foreign insurers and reinsurers in addition to Axa Re Finance do compete with the Company on both treaty and facultative bases in the provision of reinsurance for municipal and asset-backed transactions. Certain of these are companies with which some of the U.S. primary financial guaranty insurers have formed strategic alliances. Competition in the financial guaranty reinsurance business is based upon many factors, including overall financial strength, pricing, service and evaluation by the rating agencies of claims-paying ability. The agencies allow credit to a ceding primary insurer's capital requirements and single-risk limits for reinsurance ceded in an amount which is a function of the strength of the reinsurer. See "Rating Agencies" in this section. The Company believes that competition from multiline reinsurers and new monoline financial guaranty insurers will be limited due to (a) the declining number of multiline insurers with the requisite financial strength and (b) the barriers to entry for new reinsurers posed by state insurance law and rating agency criteria governing minimum capitalization. Financial guaranty insurance, including municipal bond insurance, also competes with other forms of credit enhancement, including letters of credit and guaranties provided primarily by foreign banks and other financial institutions, some of which are governmental agencies or have been assigned the highest credit ratings awarded by one or more of the major rating agencies. However, these credit enhancements serve to provide primary insurers with increased insurance capacity only for rating agency purposes. They do not qualify as capital for state regulatory purposes, nor do they constitute credit against specific liabilities which would allow the primary insurer greater single-risk capacity. 18 Other Insurance Businesses. The Company believes that there are a number of direct competitors of the Company in its other insurance businesses, some of which have greater financial and other resources than the Company. The Company has limited its activities in these market areas to those activities which are not served by the Company's financial guaranty monoline primary insurer clients. As a primary insurer, the Company writes insurance on those municipal bonds with respect to which such primary insurers have generally declined to participate because of the size or complexity of such bond issuances relative to the return. The Company also serves as a reinsurer for certain specialty primary insurers which are not monoline financial guaranty insurers, in which the Company has significant equity interests or is otherwise a participant. Such reinsurance accounted for 5.0% of the Company's gross premiums written in 1996. These specialty primary insurers are themselves subject to competition from other primary insurers, many of which have greater financial and other resources. Rating Agencies The rating agencies allow credit to a ceding primary insurer's capital requirements and single-risk limits for reinsurance ceded in an amount depending on the strength of the reinsurer. The claims-paying ability rating criteria used by the rating agencies focus on the following factors: capital resources, financial strength and commitment of the reinsurer's institutional stockholders; demonstrated management expertise in financial guaranty and traditional reinsurance, credit analysis, systems development, marketing, capital markets and investment operations; and a minimum policyholders' surplus comparable to primary company requirements, with initial capital sufficient to meet projected growth as well as access to such additional capital as may be necessary to continue to meet standards for capital adequacy. As part of their rating process, Standard & Poor's, Moody's and Duff & Phelps test the capital adequacy of the Insurance Subsidiaries by subjecting them to a "worst-case depression scenario." Expected losses over a depression period are established by applying capital charges to the existing and projected insurance portfolio. The claims-paying ability ratings assigned by the rating agencies to a reinsurance or insurance company are based upon factors relevant to policyholders and are not directed toward the protection of the reinsurer's or insurer's securityholders. Such a rating is neither a rating of securities nor a recommendation to buy, hold or sell any security. Claims-paying ability ratings assigned to the Insurance Subsidiaries should not be viewed as indicative of or relevant to any ratings which may be assigned to the Company's outstanding debt securities by any rating agency and should not be considered an evaluation of the likelihood of the timely payment of principal or interest under such securities. The Company's ability to compete with other triple-A rated financial guaranty reinsurers, and consequently its results of operations, would be materially adversely affected by any downgrade in Enhance Re's or Asset Guaranty's ratings. Moreover, in addition to the loss of new business that would result from any such downgrade, several treaties to which either Insurance Subsidiary is a party grant the respective primary insurers the right to recapture business previously ceded to such Insurance Subsidiary should it suffer a downgrade of a specified magnitude in its claims-paying ability rating. This could result in a material adverse effect on the Company's deferred premium revenue and its recognition of future income therefrom. The Company's ability to continue engaging in certain specialty insurance businesses, principally insurance of real estate-backed financings and municipal bonds, would be adversely affected by a downgrade in Asset Guaranty's rating by Standard & Poor's or Duff & Phelps. See "Specialty Insurance Businesses" in this section. 19 Data Processing The Company believes that its data processing system is adequate to support its current needs and has the capacity to support a greater volume of reinsurance business. Since it commenced operations, the Company has used minicomputer systems, currently consisting of a configuration composed of two Digital Equipment processors, which provide computing services even if only one processor is available. The Company's data center provides computing services on a continuous basis 24 hours a day, seven days a week. System applications files and data bases are backed up to tape on a daily basis, and image back-ups to tape of all disks are performed quarterly. Back-up tapes are shipped to an off-site storage facility weekly. Prior to shipment, these tapes are stored outside the data center in a fireproof safe. Employees As of March 1, 1997, the Company had 100 employees. None of the employees are covered by collective bargaining agreements. The Company considers its employee relations to be good. INSURANCE REGULATORY MATTERS New York Financial Guaranty Insurance Statute The Insurance Subsidiaries are domiciled and licensed in the State of New York as financial guaranty insurers under that portion of the Insurance Law constituting the financial guaranty insurance statute. They are also subject to the provisions of the Insurance Law and related rules and regulations governing property-casualty insurers to the extent such provisions are not inconsistent with the financial guaranty insurance statute. Both Insurance Subsidiaries are also licensed under the Insurance Law to write surety insurance, credit insurance and residual value insurance, which are the only other types of insurance that a financial guaranty insurer licensed under the Insurance Law may be authorized to write. The Insurance Subsidiaries are required by New York and each other jurisdiction in which they are licensed to make various filings, including quarterly and annual financial statements prepared in accordance with statutory accounting practices, with those jurisdictions and with the NAIC. The Insurance Law requires that financial guaranty insurers and reinsurers maintain both a reserve for known incurred losses (similar to the reserve described in "Description of Business -- Loss Experience" in this section) and a special "contingency reserve" to protect policyholders against the impact of excessive losses occurring during adverse economic cycles. As of December 31, 1996, the statutory contingency reserves of the Insurance Subsidiaries aggregated $149.8 million. The size of the contingency reserve is a function of the premiums written and the principal guaranteed. Moreover, the reserve must be maintained for a specified period, although it may be drawn on under specified but limited circumstances. The Insurance Law establishes single-risk limits applicable to all obligations issued by a single entity and backed by a single revenue source and aggregate risk limits on the basis of aggregate net liability and policyholders' surplus requirements. The Insurance Law also regulates the types of securities in which the Insurance Subsidiaries may invest their minimum policyholders' surplus, and also imposes restrictions on the amount of dividends that the Insurance Subsidiaries may pay. See Item 5. "Market for Registrant's Common Equity and Related Stockholder Matters - Dividend Policy." 20 The Company believes that each of Enhance Financial and the Insurance Subsidiaries is in material compliance with all applicable laws and regulations of the State of New York pertaining to its business and operations. Financial Guaranty Insurance Regulation in Other States The Insurance Subsidiaries are subject to the insurance laws in each jurisdiction in which they are licensed to transact insurance. Reinsurance activities are generally not directly regulated by state law, which typically excludes the transaction of reinsurance from the activities that constitute the transaction of insurance and that therefore require licensure. Reinsurance activities are, however, generally subject to limited indirect regulation in most states through the regulation of ceding primary insurers domiciled in those states. Insurance Holding Company Laws Enhance Financial, as the parent, and the Insurance Subsidiaries, as controlled insurers, are subject to regulation under the insurance holding company laws of New York, which require the Insurance Subsidiaries to register with the New York Insurance Department (the "Department") and to file with it certain reports including information concerning their capital structure, ownership, financial condition, certain intercompany transactions and general business operations. State holding company laws also require prior notice or regulatory approval of direct or indirect changes in control of an insurer or its holding company and of certain material intercorporate transfers within the holding company structure. Upon obtaining control, the acquiror would become subject to various ongoing reporting requirements in New York and certain other states. Under the Insurance Law, any person holding or acquiring, directly or indirectly, 10% or more of the voting securities of an insurance company is presumed to be holding or acquiring "control" of such company and its subsidiaries, unless the Department determines upon application that such acquiror would not control such company. As a beneficial owner of more than 10% of the voting shares of Enhance Financial, U S WEST, Inc. ("U S WEST") is presumed under the Insurance Law indirectly to control the Insurance Subsidiaries. Pursuant to applications made under Section 1501(c) of the Insurance Law, the Department has determined, subject to certain conditions, that U S WEST is not considered the ultimate controlling person of either Insurance Subsidiary. See Item 12. "Security Ownership of Certain Beneficial Owners and Management." NAIC/IRIS Ratios The Insurance Regulatory Information System of the NAIC was developed primarily to assist state insurance departments in executing their statutory mandates to oversee the financial condition of insurance companies operating in their respective states. The system identifies eleven industry ratios and specifies "usual values" for each ratio. The changes in writings of the Insurance Subsidiaries all fell within these usual values. 21 Item 2. Properties. The Company other than Van-Am occupies 40,550 square feet of office space comprising its executive offices at 335 Madison Avenue, New York, New York 10017 pursuant to a sublease expiring August 2000. Van-Am occupies 6,300 square feet of office space at 167 East Main Street, Lexington, Kentucky, pursuant to a lease expiring December 1999. Item 3. Legal Proceedings. The Company is not a party, nor is any of its property subject, to any material legal proceedings. Item 4. Submission of Matters to a Vote of Securityholders. Not applicable. Item 5. Market for Registrant's Common Equity and Related Stockholder Matters. SHARE INFORMATION The following table sets forth the high and low sales prices for the Common Stock for the calendar quarters indicated as reported in the New York Stock Exchange consolidated transaction system: High Low ---- --- 1995 ---- 1st quarter .......................... $18-3/8 $15-7/8 2nd quarter .......................... 19-5/8 16-1/4 3rd quarter .......................... 20-5/8 18 4th quarter............................ 27 19-7/8 1996 ---- 1st quarter .......................... $27-5/8 $23-3/8 2nd quarter .......................... 29-1/2 26-1/8 3rd quarter .......................... 33 26-3/4 4th quarter .......................... 36-1/2 32-1/2 1997 ---- 1st quarter (through March 14)......... 39-3/8 34-1/4 As of March 14, 1997, there were 108 holders of record of the Common Stock. 22 DIVIDEND POLICY Since the initial public offering of its Common Stock in 1992, Enhance Financial has increased its dividend at the rate of $.04 per share per year. Enhance Financial paid an aggregate dividend of $0.40 per share in 1996, and the board of directors declared a dividend in the first quarter of 1997 of $0.11 per share. The amount of dividends payable in the future will be reviewed periodically by the board of directors in light of the Company's earnings, financial condition and capital requirements. The declaration and payment of dividends are subject to the discretion of the board of directors of Enhance Financial, and there is no requirement or assurance that dividends will be paid. Enhance Financial's ability to pay dividends as well as its operating, debt service and other expenses depends upon the ability of the Insurance Subsidiaries to pay dividends to Enhance Financial and is subject to restrictions contained in an agreement relating to Enhance Financial's indebtedness. The Insurance Subsidiaries' ability to pay dividends to Enhance Financial is subject to restrictions contained in the Insurance Law. The Company expects that such restrictions will not affect the ability of such subsidiaries to declare and pay dividends sufficient to support the payment of dividends by Enhance Financial consistent with the practice adopted in recent years. The agreements relating to Enhance Financial's indebtedness limit Enhance Financial's ability to pay dividends under certain circumstances. As of December 31, 1996, up to $21.2 million was available for the payment of dividends to Enhance Financial by the Insurance Subsidiaries without the prior approval of the insurance regulatory authorities. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources" and Note 8 of Notes to Consolidated Financial Statements. Item 6. Selected Historical Consolidated Financial Information. The following table presents selected historical consolidated financial information derived from the historical consolidated financial statements of the Company as of and for each of the years in the five-year period ended December 31, 1996. This information should be read in conjunction with the historical consolidated financial statements of the Company and the related notes thereto and Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations." 23
Year Ended December 31, ----------------------------------------------------------------- 1996 1995 1994 1993 1992 ---- ---- ---- ---- ---- (Dollars in thousands except per share amounts) Statement of Income Data: Gross premiums written ................ $ 98,588 $ 87,159 $85,112 $ 89,788 $63,655 Net premiums written .................. 95,662 82,988 80,685 86,649 61,428 Premiums earned ....................... 77,433 62,950 61,757 59,629 45,552 Net realized gains (losses) on sale of investments.................. 4,008 3,478 (5,829) 16,649 7,939 Net investment income (1).............. 48,122 44,159 38,225 32,214 29,806 Total revenues ........................ 132,301 112,456 95,693 109,693 84,686 Income before income taxes ............ 76,390 63,840 32,659 50,284 49,449 Net income ............................ 55,704 47,297 26,565 37,974 37,617 Earnings per share .................... 3.12 2.73 1.49 2.09 2.07 Fully diluted earnings per share....... 3.00 2.64 1.49 2.09 2.07 Selected Financial Ratios (2) Loss ratio ............................ 11.9% 15.1% 37.0% 37.0% 20.4% Expense ratio ......................... 52.6 54.2 55.5 53.8 56.5 Combined ratio ........................ 64.5 69.3 92.5 90.8 76.9 As of December 31, ----------------------------------------------------------------- 1996 1995 1994 1993 1992 ---- ---- ---- ---- ---- (Dollars in thousands except per share amounts) Balance Sheet Data: Investments (3)........................ $797,086 $749,200 $639,888 $622,303 $490,777 Total ................................ 983,443 885,961 749,388 725,048 576,246 Deferred premium revenue .............. 266,204 248,051 227,883 209,008 181,988 Total liabilities ..................... 495,094 462,024 389,127 360,581 244,101 Total shareholders' equity ............ 488,349 423,937 360,261 364,467 332,145 Book value per share................... 27.03 24.59 20.45 20.14 18.29 Statutory Basis Reserves (4): Contingency reserves .................. $149,795 $120,833 $98,554 $79,404 $58,494 Policyholders' surplus ................ 311,987 294,516 287,629 299,984 219,624 ------- ------- ------- ------- ------- Qualified statutory capital.......... 461,782 415,349 386,183 379,388 278,118 Unearned premiums.................... 323,180 298,171 269,832 242,996 212,613 Losses and LAE reserves ............. 17,722 22,026 19,535 5,835 14,847 -------- ------- ------- ------- ------- Total policyholders' reserves........ $802,684 $735,546 $675,550 $628,219 $505,578 ======= ======= ======= ======= ======= Leverage ratio (5)..................... 122:1 128:1 124:1 108:1 128:1
- ---------- (1) Excludes capital gains and losses. (2) The loss ratio is the quotient derived by dividing losses and LAE incurred by premiums earned. The expense ratio is the quotient derived by dividing underwriting and operating expenses by premiums 24 earned. The combined ratio is the sum of the loss and expense ratios. Such ratios have been calculated using amounts determined in accordance with GAAP. (3) Excludes investments in affiliates. See Note 5 of Notes to Consolidated Financial Statements for information concerning Enhance Financial's investments in affiliates. (4) Represents the combined statutory financial position of the Insurance Subsidiaries. (5) Leverage ratio is net insurance in force divided by qualified statutory capital. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Results of Operations General The Company's initial capitalization of $113.8 million (net of issuance expenses) when it commenced operations in 1986 was obtained through a private placement in that year of Common Stock to management as well as institutional and other investors. The Company obtained additional capital of $26.5 million in 1988 through the issuance of additional shares, $39.4 million in 1990 through the issuance of additional shares in the merger between Enhance Financial and its partially owned subsidiary, Asset Guaranty, Inc., and $11.8 million in 1992 through the issuance of additional shares in its initial public offering of Common Stock. In 1993, Enhance Financial issued an aggregate $75.0 million principal amount of 6.75% Debentures due 2003 (the "6.75% Debentures"). As of December 31, 1996, the Company's total capitalization was $563.3 million. The Company's revenues consist primarily of (a) premiums earned on insurance and reinsurance contracts and (b) investment income. Year Ended December 31, 1996 versus Year Ended December 31, 1995 Gross premiums written in 1996 increased 13.1% to $98.6 million from $87.2 million in 1995. Total premium writings in 1996 benefitted from a 19.2% increase in non-municipal reinsurance writings and a 22.8% increase in the Company's other insurance lines. The volume of municipal bonds issued in 1996 increased by 15.0% over 1995 issuance to $184.4 billion. Bonds issued for new money purposes, increased to $126.7 billion in 1996 from the 1995 level of $112.5 billion. The insured portion of new issues rose to 46.2% in 1996 from 42.7% in 1995. Total municipal bond refundings in 1996 represented 23.9% of new-issue volume compared to 21.0% in 1995. Net premiums written increased 15.3% to $95.7 million in 1996 from $83.0 million in 1995, consistent with the increase in gross premiums discussed in the preceding paragraphs. The following table shows net premiums written by line of business for the periods presented: 25 Net Premiums Written (in thousands) 1996 1995 - ----------------------------------- ---- ---- Municipal Reinsurance ...................... $41,147 $39,768 Non-Municipal Reinsurance .................. 17,379 13,497 Other Insurance Lines ...................... 37,136 29,723 ------- ------- $95,662 $82,988 ======= ======= The Company's other insurance lines include direct municipal bond insurance, credit reinsurance, financial responsibility, excess-SIPC/excess-ICS and other surety lines. Net premiums written from these businesses have grown from $8.6 million (15.6%) in 1991 to $37.1 million (38.8%) in 1996. The Company expects that these other insurance lines will continue to contribute a significant component of its premium revenues. In connection with certain of its other insurance lines, the Company underwrites with the anticipation of higher loss levels than those associated with its core municipal and non-municipal reinsurance business. The Company takes into account these higher loss levels in determining appropriate premium rates. Net premiums earned grew 23.0% to $77.4 million in 1996 from $62.9 million in 1995. This growth in premiums earned was in large part attributable to increased earnings from the Company's other insurance lines as discussed in the preceding paragraph. The following table shows net premiums earned by line of business for the periods presented: Net Premiums Earned (in thousands) 1996 1995 - ---------------------------------- ---- ---- Municipal Reinsurance ...................... $34,405 $29,489 Non-Municipal Reinsurance .................. 13,002 9,445 Other Insurance Lines ...................... 30,026 24,016 ------- ------- $77,433 $62,950 ======= ======= Monoline reinsurance earned premiums increased 21.8% principally due to refundings which contributed $9.9 million (12.8%) of earned premiums in 1996 compared to $5.7 million (9.0%) in 1995. A refunding eliminates the Company's reinsurance exposure to the refunded obligation and as a result, the Company recognizes in current earnings the remaining related deferred premium revenue. Excluding the impact of refundings, premiums earned increased 18.0% over the prior year. The growth in premiums earned also reflects the amortization of the deferred premium revenue balance which has grown to $266.2 million at year-end 1996 from $248.1 million at year-end 1995. Net investment income increased 9.0% to $48.1 million in 1996 from $44.2 million for 1995 consistent with the growth in invested assets in the period. The average yields on the Company's investment portfolio, after deducting associated costs, were 6.4% for each of the years ended December 31, 1996 and 1995, respectively. In addition, the Company realized $4.0 million and $3.5 million of net capital gains in 1996 and 1995, respectively. Net investment income is presented after deduction of both external investment management fees and internal costs associated with managing the portfolio. Incurred losses and loss adjustment expenses ("LAE") were $9.2 million in 1996 compared with $9.5 million in 1995. Of these amounts, $7.3 million and $6.1 million were incurred in connection with the Company's credit and surety businesses in 1996 and 1995, respectively. The Company believes that the reserves for losses and LAE, including case and non-specific reserve, are adequate to cover the ultimate net 26 cost of claims. However, the reserves are necessarily based on estimates, and there can be no assurance that the ultimate liability will not exceed such estimates. The Company's operating expense ratio for 1996 was 52.6% compared to 54.2% in 1995. Policy acquisition costs, which vary with and are directly related to the generation of new and renewal premiums, totaled $26.7 million and $21.1 million in 1996 and 1995, respectively, representing 34.5% and 33.4% of premiums earned in those respective periods. Other operating expenses increased only marginally to $13.2 million in 1996 and $12.7 million in 1995. Interest expense of $6.2 million was incurred in 1996 compared to $5.6 million in 1995. The increase reflected the additional borrowings under the Company's line of credit under a bank credit agreement (the "Credit Agreement"). The Company's short term debt increased to $42.6 million at year-end 1996 from $15.0 at year-end 1995. The Company's effective tax rate was 27.1% for 1996 compared to 25.9% in 1995. The higher 1996 rate reflects the continuing reduction in the percentage of pre-tax income represented by income from tax-exempt assets. This impact has been reduced in part by the Company's strategy of directing a greater proportion of its new cash flow to the purchase of tax-exempt securities in 1996. Net income for 1996 increased 17.8% to $55.7 million from $47.3 million in 1995. On a per share basis, earnings increased 14.1% to $3.12 in 1996 from $2.73 in 1995. Operating earnings per share, which excludes the impact of capital gains and losses and foreign exchange gains and losses, increased 15.2% to $2.97 in 1996. The per-share increases were offset, in part, by the higher weighted average shares in 1996 following the reissuance, in the first quarter of 1996, of 600,000 treasury shares to Swiss Reinsurance Company and the issuance at various times throughout 1996 of 231,275 new shares in connection with the exercise of stock options. The weighted average shares outstanding for 1996 was 17.88 million compared to 17.32 million for 1995. Year Ended December 31, 1995 versus Year Ended December 31, 1994 Gross premiums written in 1995 increased 2.4% to $87.2 million compared with $85.1 million in 1994. Total premium writings in 1995 benefitted from the 59.0% increase in non-municipal reinsurance writings and the 20.5% increase in specialty insurance writings, offset in part by a 18.0% decline in municipal reinsurance premiums. The volume of municipal bonds issued in 1995 decreased by 3.3% to $159.0 billion as compared with $164.5 billion in issuance in the prior year. Bonds issued for new money purposes decreased to $112.6 billion in 1995 from the 1994 level of $114.3 billion. The insured portion of new issues rose to 43.0% in 1995 compared with 37.3% in 1994. Net premiums written increased 2.9% to $83.0 million in 1995 from $80.7 million in 1994, consistent with the increase in gross premiums discussed above. Of the Company's net premiums written in 1995, 47.9%, 16.3% and 35.8% were derived from the reinsurance of municipal bonds, the reinsurance of asset- 27 backed debt obligations and the Company's specialty activities, respectively, compared to 58.5%, 11.0% and 30.5% in 1994. The Company's specialty businesses include direct municipal bond insurance, credit reinsurance, financial responsibility, excess-SIPC/excess-ICS and other surety lines. Net premiums written from these businesses have grown from $8.6 million (15.6%) in 1991 to $29.7 million (35.8%) in 1995. The Company expects that these specialty businesses will continue to contribute a significant component to its revenues. The Company underwrites certain of its specialty businesses with the anticipation of higher loss levels than those associated with its core municipal and asset-backed reinsurance business. The Company takes these higher loss levels into account in determining appropriate premium rates. Net premiums earned grew 1.9% to $62.9 million in 1995 from $61.8 million in 1994. Growth in premiums earned was achieved despite a $6.0 million decline in refundings, which accounted for only 9.0% of earned premiums in 1995 compared with 18.9% of premiums earned in 1994. A refunding eliminates the Company's reinsurance exposure to the refunded obligation, with the result that the Company recognizes in current earnings the remaining related deferred premium revenue. Excluding the impact of refundings, premiums earned were up 14.3% over the prior year. The growth in premiums earned also reflects the amortization of the deferred premium revenue balance, which has grown to $248.1 million at year-end 1995 from $227.9 million at year-end 1994. Net investment income increased 15.5% to $44.2 million in 1995 from $38.2 million for 1994. This growth resulted primarily from the Company's having invested all of its available cash flow in higher yielding special without lowering the credit quality of the portfolio. The average yields on the Company's investment portfolio, after deducting associated costs, were 6.4% and 6.2% for the years ended December 31, 1995 and 1994, respectively. The increase in investment income further reflects the growth in the Company's investment portfolio from $640 million at year-end 1994 to $749 million at December 31, 1995. In addition, the Company realized $3.5 million of net capital gains in 1995 compared with net realized capital losses of $5.8 million in 1994, reflecting lower interest rates during the year. Incurred losses and LAE were $9.5 million in 1995 compared with $22.8 million in 1994. Of these amounts, losses and LAE incurred in connection with the Company's discontinued commercial real estate-related portfolio aggregated $9.5 million in 1994 compared with $1.2 million in 1995. In addition, in 1995 and 1994, the Company incurred losses and LAE of $5.4 million and $5.7 million, respectively, in connection with its credit and surety businesses commensurate with the growth in premiums written from these businesses. The Company believes that the reserves for losses and LAE, including the case and non-specific reserves, including the case and non-specific reserve, are adequate to cover the ultimate net cost of claims. However, the reserves are necessarily based on estimates, and there can be no assurance that the ultimate liability will not exceed such estimates. The Company's operating expense ratio was 54.2% in 1995 compared to 55.5% in 1994. Policy acquisition costs, which vary with and are directly related to the generation of new and renewal premium, totaled $21.1 million and $20.3 million in 1995 and 1994, respectively, representing 33.4% and 32.8% of premiums earned in those respective periods. Other operating expenses increased only marginally to $12.7 million in 1995 from $12.5 million in 1994. 28 Interest expense of $5.6 million was recorded in 1995 compared to $5.8 million in 1994. The decrease reflected the impact of a reverse interest-rate swap entered into in January 1995 and subsequently terminated in June 1995, from which the Company realized a net interest reduction of $0.7 million, including amortization of gain on termination of the swap. This reduction was offset in part by interest expense of $0.6 million on the additional drawdowns of $12.0 million on the Company's line of credit under the Credit Agreement. The Company's effective tax rate was 25.9% for 1995 compared to 18.7% in 1994. The higher 1995 rate reflects the fact that income earned on tax-exempt assets represented a smaller portion of pretax income in 1995 than in 1994. The prior year's rate further reflects the benefit from capital losses. Net income for 1995 increased 78.0% to $47.3 million from $26.6 million in 1994. Earnings per share increased similarly by 83.8% to $2.73 in 1995 from $1.49 for 1994. The weighted average shares outstanding for 1995 was 17.32 million compared to 17.88 million for 1994. The Company continued its share buyback program in 1995 and repurchased 404,800 of its shares on the open market at various times throughout the year. Through December 31, 1995, the Company has repurchased 1,025,000 shares out of a total authorized by the board of directors of 1.2 million. Liquidity and Capital Resources As a holding company, Enhance Financial finances the payment of its operating expenses, principal and interest on its debt obligations, dividends, if any, to its shareholders and the repurchase of its common stock primarily from dividends and other payments from the Insurance Subsidiaries, and draws on its line of credit provided under the Credit Agreement. Payment of dividends to Enhance Financial by the Insurance Subsidiaries are subject to restrictions relating to statutory capital and surplus and net investment income. Enhance Re declared and paid a total of $13.3 million in dividends in 1996. Asset Guaranty has not paid any dividends since its inception. As of December 31, 1996, under the Insurance Law, Enhance Financial had $21.2 million available from the Insurance Subsidiaries, compared with $20.8 million available as of December 31, 1995. Payments of dividends by Enhance Financial to its shareholders are further restricted by the terms of the Credit Agreement. At December 31, 1996, the maximum amount of dividends which may be paid by Enhance Financial to its shareholders in compliance with the terms of such agreement was $31.2 million. As of December 31, 1996, the statutory policyholders' surplus of Enhance Re and Asset Guaranty were $225.3 million and $86.7 million, respectively, compared to the minimum $68.4 million required by each under the Insurance Law. Enhance Financial entered into the Credit Agreement with a major commercial bank providing for borrowing by Enhance Financial of up to $60.0 million (increased from $30 million in October 1996) to be used for general corporate purposes. The Credit Agreement provides for a revolving credit facility under which individual advances may be converted, at Enhance Financial's discretion, into a four-year term loan. The Company borrowed $3.0 million in 1994, an additional $12.0 million in 1995 and a further $27.5 million in 1996. The total outstanding at year-end 1996 was $42.6 million. 29 The Company believes that the operating liquidity needs of the Insurance Subsidiaries can be funded exclusively from their respective operating cash flows. The Company's cash flow from operations consists principally of insurance and reinsurance premiums collected and income earned on invested assets, which in turn is applied to the payment of claims, operating expenses and income taxes. The Company's cash flow from operations was $59.8 million, $66.3 million and $64.7 million for the years 1996, 1995 and 1994, respectively. The Company paid a total of $11.9 million, $7.3 million and $4.9 million in claims in 1996, 1995 and 1994, respectively. Of the claim payments made in 1996, $11.3 million related to reserves established in prior years. Liquidity is also provided by the Company's sales of securities in its available-for-sale portfolio as well as payments of principal on investments upon maturity. In July 1996, the Company formed C-BASS, a joint venture in which the Company and MGIC each own 48% interests. Under the terms of the joint venture agreement, the Company contributed $15.8 million in cash in 1996 and will contribute an additional $9.4 million (including its 100% interest in LLSI) in 1997. In connection with its joint venture agreement with Singer, the Company makes available to Singer a LIBOR-based secured revolving credit facility, up to a maximum of $17 million, for its use in originating assets for securitization. In addition, the Company provides to Singer a LIBOR-based working capital credit line. At December 31, 1996, $13.7 million and $3.3 million were outstanding under the secured credit facility and the working capital credit line, respectively. Based on the historical cash flow of the Company, the Company's current financial results and the Company's expectation as to the level of the Company's net premiums written during the next twelve months, the Company believes that cash flow provided by operating activities of the Insurance Subsidiaries over the next year will provide sufficient liquidity for the operations of the Company, as well as funds to Enhance Financial so that Enhance Financial will be able to meet its debt service and other obligations. The ability of Enhance Financial to meet its debt service and other obligations beyond the next twelve months will depend upon the cash flow generated by the operating activities of the Insurance Subsidiaries and the availability to Enhance Financial of sufficient amounts of funds from the Insurance Subsidiaries in the form of dividends or other payments. Beyond the next twelve months, the Company's cash flow to Enhance Financial may be influenced by a variety of factors, including market changes, insurance regulatory changes and changes in general economic conditions. Consequently, although the Company presently anticipates that it will be able to meet all debt service and other obligations over the long term, no assurance can be given as to whether the available net cash provided by the Company's operating activities will provide sufficient liquidity for Enhance Financial to meet all its long-term liquidity needs. At December 31, 1996, 1995 and 1994, the carrying value of the Company's investments was $797 million, $749 million and $640 million, respectively, on which was earned $48.1 million, $44.2 million and $38.2 million in 1996, 1995 and 1994, respectively, excluding $4.0 million, $3.5 million and $(5.8) million of net realized gains (losses) in 1996, 1995, and 1994, respectively. The increase in investments resulted principally from cash flows from operations generated during the period. As of December 31, 1996, the Company held approximately $33.2 million and $5.4 million in short-term investments and cash and cash equivalents, respectively, to meet liquidity needs. In 1996, the Company incurred annual debt service on its long and short term borrowings of $6.2 million and will incur similar debt service expense in 1997. In 1996, the Company repaid the then remaining balance of its notes issued in 1991 aggregating $3.4 million. 30 The Company has no other material commitments for capital or other expenditures within the next twelve months or thereafter. 31 Item 8. Financial Statements and Supplementary Data INDEX TO CONSOLIDATED FINANCIAL STATEMENTS ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES Page ---- Independent Auditors' Report 33 Consolidated Balance Sheets as of December 31, 1996 and 1995 34 Consolidated Statements of Income for the Years Ended December 31, 1996, 1995, and 1994 35 Consolidated Statements of Shareholders' Equity for the Years Ended December 31, 1996, 1995, and 1994 36 Consolidated Statements of Cash Flows for the Years Ended December 31, 1996, 1995, and 1994 37 Notes to Consolidated Financial Statements 38 32 INDEPENDENT AUDITORS' REPORT To the Board of Directors Enhance Financial Services Group Inc. We have audited the accompanying consolidated balance sheets of Enhance Financial Services Group Inc. and Subsidiaries (the "Company") as of December 31, 1996 and 1995 and the related consolidated statements of income, shareholders' equity and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these 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, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 1996 and 1995, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1996 in conformity with generally accepted accounting principles. Deloitte & Touche LLP March 3, 1997 New York, New York 33 ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands except share amounts)
December 31, ----------------------- 1996 1995 ---- ---- Assets Investments: Fixed maturities, held to maturity, at amortized cost (market value $227,048 and $218,036) .................... $ 217,692 $ 206,427 Fixed maturities, available for sale, at market (amortized cost $526,973 and $471,011) .................. 539,884 489,159 Common stock, at market (cost $498) ........................ 878 729 Investment in affiliates ................................... 24,182 7,241 Short-term investments ..................................... 33,247 44,103 Cash and cash equivalents .................................. 5,385 8,782 --------- --------- Total Investments ........................................ 821,268 756,441 Premiums receivable ........................................... 22,472 21,217 Accrued interest and dividends receivable ..................... 11,434 10,739 Deferred policy acquisition costs ............................. 87,325 81,197 Federal income taxes recoverable .............................. 1,428 726 Prepaid reinsurance premiums .................................. 2,793 2,850 Reinsurance recoverable on unpaid losses ...................... 1,823 1,853 Receivable from affiliates .................................... 22,205 945 Receivable for securities ..................................... 2,370 -- Other assets .................................................. 10,325 9,993 ========= ========= TOTAL ASSETS ............................................. $ 983,443 $ 885,961 ========= ========= Liabilities and Shareholders' Equity LIABILITIES Losses and loss adjustment expenses ........................... $ 28,081 $ 30,799 Reinsurance payable on paid losses and loss adjustment expenses 2,463 2,645 Deferred premium revenue ...................................... 268,997 250,901 Accrued profit commissions .................................... 3,050 3,719 Deferred income taxes ......................................... 46,402 39,198 Long-term debt ................................................ 75,000 78,400 Short-term debt ............................................... 42,575 15,000 Payable for securities ........................................ 2,083 17,324 Accrued expenses and other .................................... 26,443 24,038 --------- --------- TOTAL LIABILITIES ......................................... 495,094 462,024 --------- --------- SHAREHOLDERS' EQUITY Common stock-$.10 par value Authorized-30,000,000 shares ............................... 1,853 1,830 Additional paid-in capital .................................... 201,847 192,865 Retained earnings ............................................. 283,791 235,285 Unearned compensation ......................................... (20) (104) Unrealized gains .............................................. 8,636 12,104 Treasury stock ................................................ (7,758) (18,043) --------- --------- TOTAL SHAREHOLDERS' EQUITY ................................. 488,349 423,937 ========= ========= TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY ................. $ 983,443 $ 885,961 ========= =========
See notes to consolidated financial statements 34 ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (In thousands except per share amounts)
Years ended December 31, ------------------------------------- 1996 1995 1994 --------- --------- --------- Revenues Net premiums written ............................ $ 95,662 $ 82,988 $ 80,685 Increase in deferred premium revenue ............ (18,229) (20,038) (18,928) --------- --------- -------- Premiums earned ............................ 77,433 62,950 61,757 Net investment income ........................... 48,122 44,159 38,225 Net realized gains(losses) on sale of investments 4,008 3,478 (5,829) Other income .................................... 2,738 1,869 1,540 --------- --------- -------- Total revenues ............................. 132,301 112,456 95,693 --------- --------- -------- Expenses Losses and loss adjustment expenses ............. 9,184 9,513 22,842 Policy acquisition costs ........................ 26,703 21,053 20,276 Profit commissions .............................. 850 359 1,539 Other operating expenses ........................ 13,197 12,715 12,450 --------- --------- -------- Total expenses ............................. 49,934 43,640 57,107 --------- --------- -------- Income from operations .......................... 82,367 68,816 38,586 Equity in net income of affiliates .............. 274 115 168 Foreign currency gain(loss) ..................... (69) 547 (275) Interest expense ................................ (6,182) (5,638) (5,820) --------- --------- -------- Income before income taxes ................. 76,390 63,840 32,659 Income taxes .................................... 20,686 16,543 6,094 ========= ========= ======== Net income ................................. $ 55,704 $ 47,297 $ 26,565 ========= ========= ======== Primary earnings per share ......................... $ 3.12 $ 2.73 $ 1.49 ========= ========= ======== Fully diluted earnings per share ................... $ 3.00 $ 2.64 $ 1.49 ========= ========= ========
See notes to consolidated financial statements 35 ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY For The Years Ended December 31, 1994, 1995 AND 1996 (In thousands except share amounts)
Unearned Common Stock Treasury Stock Additional Compensation/ --------------------- ------------------------ Paid-in Excess Pension Shares Amount Shares Amount Capital Liability ---------- ------ ---------- -------- ---------- -------------- Balance, December 31, 1993 ................... 18,274,200 $1,827 180,925 ($ 2,666) $ 192,380 ($ 573) Amortization of unearned compensation (net of terminations and income tax benefit) ...... 5,650 40 275 Reversal of additional pension liability in excess of unrecognized prior service cost (net of income tax benefit) ................ 34 Change in unrealized gains (losses) .......... Dividends paid ($0.32 per share) ............. Exercise of stock options .................... 3,275 1 46 Purchase of treasury stock ................... 471,300 (8,645) Net income ................................... ---------- ------ ---------- -------- --------- -------- Balance, December 31, 1994 ................... 18,277,475 1,828 657,875 (11,311) 192,466 (264) Amortization of unearned compensation (net of income tax benefit) ................ 229 160 Change in unrealized gains (losses) .......... Dividends paid ($0.36 per share) ............. Exercise of stock options .................... 24,575 2 413 Registration costs of common stock ........... (243) Purchase of treasury stock ................... 404,800 (6,732) Net income ................................... ---------- ------ ---------- -------- --------- -------- Balance, December 31, 1995 ................... 18,302,050 1,830 1,062,675 (18,043) 192,865 (104) Amortization of unearned compensation (net of income tax benefit) ................ 282 84 Change in unrealized gains (losses) .......... Dividends paid ($0.40 per share) ............. Exercise of stock options .................... 231,275 23 4,722 Registration costs of common stock ........... (184) Reissuance of treasury stock ................. (600,000) 10,323 4,162 Purchase of treasury stock ................... 1,600 (38) Net income ................................... ---------- ------ ---------- -------- --------- -------- Balance, December 31, 1996 ................... 18,533,325 $1,853 464,275 ($ 7,758) $ 201,847 ($ 20) ========== ====== ========== ======== ========= ======== Unrealized Retained Gains (Losses) Earnings Total -------------- --------- --------- Balance, December 31, 1993 ................... $ 142 $ 173,357 $ 364,467 Amortization of unearned compensation (net of terminations and income tax benefit) ...... 315 Reversal of additional pension liability in excess of unrecognized prior service cost (net of income tax benefit) ................ 34 Change in unrealized gains (losses) .......... (16,811) (16,811) Dividends paid ($0.32 per share) ............. (5,711) (5,711) Exercise of stock options .................... 47 Purchase of treasury stock ................... (8,645) Net income ................................... 26,565 26,565 -------- --------- --------- Balance, December 31, 1994 ................... (16,669) 194,211 360,261 Amortization of unearned compensation (net of income tax benefit) ................ 389 Change in unrealized gains (losses) .......... 28,773 28,773 Dividends paid ($0.36 per share) ............. (6,223) (6,223) Exercise of stock options .................... 415 Registration costs of common stock ........... (243) Purchase of treasury stock ................... (6,732) Net income ................................... 47,297 47,297 -------- --------- --------- Balance, December 31, 1995 ................... 12,104 235,285 423,937 Amortization of unearned compensation (net of income tax benefit) ................ 366 Change in unrealized gains (losses) .......... (3,468) (3,468) Dividends paid ($0.40 per share) ............. (7,198) (7,198) Exercise of stock options .................... 4,745 Registration costs of common stock ........... (184) Reissuance of treasury stock ................. 14,485 Purchase of treasury stock ................... (38) Net income ................................... 55,704 55,704 -------- --------- --------- Balance, December 31, 1996 ................... $ 8,636 $ 283,791 $ 488,349 ======== ========= =========
See notes to consolidated financial statements. 36 ENHANCE FINANCIAL SERVICES GROUP INC AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)
Years ended December 31, ------------------------------------- 1996 1995 1994 --------- --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income ..................................... $ 55,704 $ 47,297 26,565 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization, net .......... (8,333) (6,054) (1,329) (Gain)loss on sale of investments, net ...... (4,008) (3,478) 5,829 Equity in net income of affiliates .......... (274) (115) (105) Compensation, restricted stock award program 84 160 275 Change in assets and liabilities: Premiums receivable ...................... (1,255) (11,376) 688 Accrued interest and dividends receivable (695) (147) (484) Accrued expenses and other liabilities ... 2,812 17,386 (1,811) Deferred policy acquisition costs ........ (6,128) (7,174) (7,830) Deferred premium revenue, net ............ 18,153 20,168 18,928 Accrued profit commissions ............... (669) (3,944) 1,090 Losses and loss adjustment expenses,net .. (2,870) 762 20,085 Other assets ............................. (2,741) (432) (448) Income taxes, net ........................ 9,999 13,220 3,205 --------- --------- --------- Net cash provided by operating activities ...... 59,779 66,273 64,658 --------- --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment ............. (599) (345) (335) Proceeds from sales of investments ............. 640,282 529,127 478,160 Proceeds from maturity of investments .......... 23,291 17,091 53,175 Purchase of investments ........................ (735,346) (585,833) (609,893) Sales(purchases) of short-term investments, net 10,856 (15,633) 22,402 Investment in affiliates ....................... (16,667) (5,709) (1) --------- --------- --------- Net cash used in investing activities .......... (78,183) (61,302) (56,492) --------- --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Receivable from affiliates ..................... (21,260) -- -- Capital stock .................................. 4,843 401 87 Short-term debt ................................ 27,575 12,000 3,000 Dividends paid ................................. (7,198) (6,223) (5,711) Principal payment long-term debt ............... (3,400) (1,400) (1,400) Reissuance of treasury stock ................... 14,485 -- -- Purchase of treasury stock ..................... (38) (6,732) (8,645) --------- --------- --------- Net cash provided by/(used in) financing activities.. 15,007 (1,954) (12,669) --------- --------- --------- Net change in cash and cash equivalents ............. (3,397) 3,017 (4,503) Cash and cash equivalents, beginning of year ........ 8,782 5,765 10,268 --------- --------- --------- Cash and cash equivalents, end of year .............. $ 5,385 $ 8,782 $ 5,765 ========= ========= ========= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for income taxes $ 4,608 $ 3,772 $ 2,682 ========= ========= ========= Cash paid during the year for interest ... $ 6,326 $ 6,233 $ 5,991 ========= ========= =========
See notes to consolidated financial statements 37 Notes to Consolidated Financial Statements Years Ended December 31, 1996, 1995 and 1994 Note 1 - ORGANIZATION Enhance Financial Services Group Inc. ("Enhance Financial") is a holding company which was incorporated in the State of New York in December 1985 and commenced operations in November 1986. Business is conducted by Enhance Financial's consolidated subsidiaries: Enhance Reinsurance Company ("Enhance Re"); Asset Guaranty Insurance Company ("Asset Guaranty"); and Van-American Companies, Inc. ("Van-Am", see Note 5). Enhance Re and Asset Guaranty (the "Insurance Subsidiaries") are licensed financial guaranty insurance companies domiciled in the State of New York which principally provide insurance and reinsurance coverage on financial guaranties issued to support public and private borrowing arrangements, including commercial paper, bond financing, and similar transactions. Note 2 - SIGNIFICANT ACCOUNTING POLICIES The accompanying consolidated financial statements have been prepared in conformity with generally accepted accounting principles ("GAAP") which, for the Insurance Subsidiaries, differ in certain material respects from the accounting practices prescribed or permitted by regulatory authorities (see Note 3). The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from these estimates. The significant accounting policies of Enhance Financial and its subsidiaries are as follows: Consolidation The accompanying financial statements include the accounts of Enhance Financial, the Insurance Subsidiaries and Van-Am (collectively the "Company"). All significant intercompany accounts and transactions have been eliminated. Investments in non-material subsidiaries and in companies which represent from 20% to 50% of their ownership are accounted for in accordance with the equity method of accounting (see Note 5). Investments In accordance with Statement of Financial Accounting Standards ("SFAS") No. 115 "Accounting For Certain Investments in Debt and Equity Securities," management classifies all securities at the time of purchase as "held to maturity" or "available for sale." Fixed maturity securities held to maturity are those securities which the Company intends and has the ability to hold until maturity and are carried at amortized cost. All other fixed maturity securities are classified as available for sale and carried at market value. Unrealized gains and losses, net of taxes, on the available for sale portfolio are charged or credited to shareholders' equity. Common stocks are carried at market value. Short-term investments are carried at cost, which approximates market. Unrealized gains and losses net of income taxes on common stocks are reflected in shareholders' equity. Realized gains or losses on sales of investments are determined on the basis of specific identification. 38 Premium Revenue Recognition Premiums are earned in proportion to the level amortization of insured principal over the contract period. Deferred premium revenue represents that portion of premiums which will be earned over the remainder of the contract period. When insured issues are refunded or called, the remaining deferred premium revenue is generally earned at that time, since the risk to the Company is considered to have been eliminated. The following is a summary of net premiums written: In thousands Year Ended December 31, ---------------------------------- 1996 1995 1994 ---- ---- ---- Direct premiums written .......... $ 10,178 $ 12,313 $ 12,311 Assumed premiums written ......... 88,410 74,846 72,801 Reinsured ceded .................. (2,518) (2,995) (3,546) Return premiums/refundings ....... (408) (1,176) (881) --------- -------- -------- Net premiums written ............. $ 95,662 $ 82,998 $ 80,685 ========= ======== ======== Deferred Policy Acquisition Costs Deferred policy acquisition costs comprise those expenses that vary with and are primarily related to the production of business, including: commissions paid on reinsurance assumed, salaries and related costs of underwriting and marketing personnel, rating agency fees, premium taxes and certain other underwriting expenses, offset by ceding commission income on premiums ceded to reinsurers. Acquisition costs are deferred and amortized over the period in which the related premiums are earned. Deferred policy acquisition costs are reviewed periodically to determine that they do not exceed recoverable amounts. Losses and Loss Adjustment Expenses ("LAE") Reserves for losses and LAE are established based on the Company's best estimate of specific and non-specific losses, including expenses associated with settlement of such losses, on its insured and reinsured obligations. The Company records a provision for losses and related LAE when reported by primary insurers or when, in the Company's opinion, an insured risk is in default or a default is probable and the amount of the loss is reasonably estimable. In the case of obligations with fixed periodic payments, the provision for losses and LAE represents the present value of the Company's ultimate expected losses, adjusted for estimated recoveries under salvage or subrogation rights. The estimates for losses and LAE are periodically evaluated by the Company, and changes in estimates are reflected in income currently. The Company believes that the reserves are adequate to cover the ultimate cost of all claims net of reinsurance recoveries. However, the reserves are necessarily based on estimates, and there can be no assurance that the ultimate liability will not exceed such estimates. 39 Federal Income Taxes In accordance with SFAS No. 109, "Accounting for Income Taxes", deferred federal income taxes are provided for temporary differences between the tax and financial reporting basis of assets and liabilities that will result in deductible or taxable amounts in future years when the reported amount of the asset or liability is recovered or settled. In the case of the Company, such temporary differences relate principally to premium revenue recognition and deferred acquisition costs. The Internal Revenue Code permits municipal bond insurance companies to deduct from taxable income, subject to certain limitations, the amounts added to the statutory mandatory contingency reserve during the year. The deduction taken is allowed only to the extent that U.S. Treasury non-interest-bearing tax and loss bonds are purchased at their par value prior to the original due date of the Company's consolidated federal tax return and held in an amount equal to the tax benefit attributable to such deductions. The amounts deducted must be included in taxable income when the contingency reserve is released, at which time the Company may redeem the tax and loss bonds to satisfy the additional tax liability. Purchases of tax and loss bonds are recorded as payments of federal income taxes and are not reflected in the Company's current tax provision. Post-retirement and Post-employment Benefits The Company provides various post-retirement and post-employment benefits, including pension, health and other insurance benefits covering substantially all employees who meet certain age and service criteria. The Company accounts for these benefits under the accrual method of accounting. Amounts related to the defined benefit pension plan and postretirement benefits are charged based on actuarial determinations. Stock Compensation Plans In 1991, the Company implemented a stock option program for key employees. In 1992, the Company implemented a directors' stock option program for the benefit of directors who are not employees of the Company. Under these programs, awards are granted to eligible employees and directors of the Company in the form of Incentive Stock Options, where they qualify under the Internal Revenue Code, or Non Qualified Stock Options. In October 1995, the Financial Accounting Standards Board adopted SFAS No. 123, "Accounting for Stock-Based Compensation". SFAS No. 123 applies to all stock-based employee compensation plans (except employee stock ownership plans) in which an employer grants shares of its stock or other equity instruments to employees. SFAS No. 123 permits a company to choose for its stock-based compensation plans either the fair value based method of accounting as defined in the statement or the intrinsic value based method of accounting as prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). The company has elected to continue to apply the accounting requirements under APB 25 and in accordance with SFAS No. 123 has made pro forma disclosures of net income and earnings per share as if the fair value based method of accounting had been applied (see Note 13). Earnings Per Share Primary and fully diluted earnings per share are computed using the treasury stock method to determine the weighted average number of shares of common stock and, where material, common stock equivalents outstanding during each year. 40 For primary earnings per share, the weighted average number of shares of common stock outstanding were 17,875,000, 17,316,000 and 17,875,000 for the years ended December 31, 1996, 1995 and 1994, respectively. The dilution from the exercise of stock options outstanding was not material. For fully diluted earnings per share, the weighted average number of shares of common stock and common stock equivalents was 18,565,000, 17,949,000 and 17,875,000 for the years ended December 31, 1996, 1995 and 1994, respectively. Cash and Cash Equivalents For purposes of the statements of cash flows, the Company considers all highly liquid short-term investments with an original maturity of three months or less to be cash equivalents. Reclassifications Certain of the prior years' amounts have been reclassified to conform to the current year presentation. Note 3 - INSURANCE REGULATORY MATTERS The consolidated financial statements are prepared on the basis of generally accepted accounting principles ("GAAP") which, for the Insurance Subsidiaries, differ in certain material respects from accounting practices prescribed or permitted by insurance regulatory authorities. The significant differences result from the statutory accounting practices which treat premiums earned, policy acquisition costs, deferred income taxes, investments in fixed maturities and loss reserves differently. At December 31, 1996 the statutory basis policyholders' surplus of Enhance Re and Asset Guaranty, as reported to insurance regulatory authorities, was $225.3 million and $86.7 million, respectively. Statutory net income of Enhance Re and Asset Guaranty was $46.5 million and $8.8 million, respectively, for the year ended December 31, 1996. At December 31, 1995 the statutory basis policyholders' surplus of Enhance Re and Asset Guaranty was $214.2 million and $80.3 million, respectively. Statutory net income of Enhance Re and Asset Guaranty was $39.0 million and $10.5 million, respectively, for the year ended December 31, 1995. Statutory net income of Enhance Re and Asset Guaranty was $21.3 million and $2.0 million, respectively, for the year ended December 31, 1994. The New York Financial Guarantee Insurance Law establishes single risk limits applicable to all obligations issued by a single entity and backed by a single revenue source. Under the limit applicable to municipal bonds, the insured average annual debt service for a single risk, net of reinsurance and collateral, may not exceed 10% of the sum of the insurer's policyholders' surplus and contingency reserves. In addition, insured principal of municipal bonds attributable to any single risk, net of reinsurance and collateral, is limited to 75% of the insurer's policyholders' surplus and contingency reserves. Additional single risk limits, which generally are more restrictive than the municipal bond single risk limit, are also specified for several other categories of insured obligations. 41 Note 4 - INVESTMENTS The following is a summary of the Company's investments in fixed maturities at December 31, 1996 and 1995: In thousands
Gross Gross Amortized Unrealized Unrealized Market 1996 Cost Gains Losses Value -------- ------- -------- -------- Held to Maturity U.S. Government obligations $ 3,076 $ 94 $ 40 $ 3,130 Municipal obligations 98,513 8,930 107,443 Corporate securities 8,039 372 8,411 Private placements 108,064 108,064 -------- ------- -------- -------- Total held to maturity $217,692 $ 9,396 $ 40 $227,048 ======== ======= ======== ======== Available for Sale U.S. Government obligations $ 9,680 $ 120 $ 9 $ 9,791 Municipal obligations 347,575 10,038 1,087 356,526 Foreign securities 46,108 2,158 36 48,230 Mortgage-backed securities 77,413 844 71 78,186 Corporate securities 46,197 1,100 146 47,151 -------- ------- -------- -------- Total available for sale $526,973 $14,260 $ 1,349 $539,884 ======== ======= ======== ======== 1995 Held to Maturity U.S. Government obligations $ 3,584 $ 203 $ 5 $ 3,782 Municipal obligations 98,349 10,723 109,072 Corporate securities 9,757 688 10,445 Private placements 94,737 94,737 -------- ------- -------- -------- Total held to maturity $206,427 $11,614 $ 5 $218,036 ======== ======= ======== ======== Available for Sale U.S. Government obligations $ 30,447 $ 1,565 $ 6 $ 32,006 Municipal obligations 256,783 9,845 174 266,454 Foreign securities 36,347 2,277 264 38,360 Mortgage-backed securities 97,435 1,114 9 98,540 Corporate securities 49,999 3,850 50 53,799 -------- ------- -------- -------- Total available for sale $471,011 $18,651 $ 503 $489,159 ======== ======= ======== ========
42 The amortized cost and estimated market value of fixed maturities at December 31, 1996 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. In thousands Amortized Market Cost Value -------- -------- Fixed maturities, held to maturity Due in one year or less $ 25,112 $ 25,138 Due after one year through five years 77,272 79,743 Due after five years through ten years 76,979 81,782 Due after ten years 38,329 40,385 -------- -------- $217,692 $227,048 ======== ======== Fixed maturities, available for sale Due in one year or less $ 4,388 $ 4,386 Due after one year through five years 29,020 29,998 Due after five years through ten years 208,724 214,316 Due after ten years 284,841 291,184 -------- -------- $526,973 $539,884 ======== ======== Proceeds from sales of investments in fixed maturities during 1996, 1995 and 1994 were approximately $640 million, $529 million and $478 million, respectively. Gross gains of $7.7 million and gross losses of $3.7 million were realized on those sales in 1996. Gross gains of $10.1 million and gross losses of $6.6 million were realized on those sales in 1995. Gross gains of $5.9 million and gross losses of $11.7 million were realized on those sales in 1994. Sources of the Company's consolidated net investment income are as follows: In thousands Year Ended December 31, ----------------------------- 1996 1995 1994 ---- ---- ---- Fixed maturities $46,102 $42,188 $37,914 Short-term investments and cash equivalents 3,184 4,131 2,226 Other 849 261 216 ------- ------- ------- Total investment income 50,135 46,580 40,356 Less investment expenses 2,013 2,421 2,131 ------- ------- ------- Net investment income $48,122 $44,159 $38,225 ======= ======= ======= Under agreements with its cedants and in accordance with statutory requirements, the Insurance Subsidiaries maintain funds (bonds, common stocks, cash equivalents) in trust accounts principally for the benefit of reinsured companies and for the protection of policyholders in states in which the Insurance Subsidiaries are not licensed. The carrying amount of such restricted balances amounted to approximately $212 million and $162 million at December 31, 1996 and 1995 respectively. 43 Note 5 - INVESTMENT IN AFFILIATES The Company owns 360,000 shares of EIC Corporation Ltd. ("EIC"), an insurance holding company which, through its wholly owned insurance subsidiary licensed in Bermuda, insures foreign trade receivables. The Company's investment represented an equity interest of approximately 41% at the date of acquisition and approximately 36.5% at December 31, 1996. The Company's percentage ownership may be reduced from time to time through the participation of additional equity investors. However, in accordance with its purchase agreement the Company's ownership percentage cannot be reduced below 36%. The Company accounts for its investment in EIC in accordance with the equity method of accounting. In 1990, the Company acquired $5.3 million of face value 9% cumulative senior preferred shares (accounted for at cost) and $0.3 million of face value convertible preferred shares of Van-Am, an insurance holding company. In October 1995, the Company converted all the shares of convertible preferred stock of Van-Am into shares of common stock of Van-Am. The Company currently owns 89.1% (85.5% on a fully diluted basis) of the outstanding common stock of Van-Am. Since the accumulated deficit attributable to the minority interest exceeds the minority interest in the equity capital of Van-Am and there is no obligation for the minority interest to make good such losses, the Company has accounted for its investment in Van-Am as a wholly owned subsidiary of the Company Effective July 1, 1995, the Company acquired all of the outstanding shares of Litton Loan Servicing, Inc. ("LLSI"), a Houston-based loss mitigation residential mortgage servicer. The purchase price approximated the fair market value of the acquired assets and liabilities at the date of acquisition. In July, 1996, the Company and Mortgage Guaranty Insurance Corporation formed a joint venture company, Credit-Based Asset Servicing and Securitization LLC ("C-BASS"), which evaluates, accumulates, services and securitizes sub-performing and non-performing residential mortgages. The Company will contribute approximately $25 million in cash and other assets for its 48% interest in C-BASS. At December 31, 1996, the Company had contributed $15.8 million of its capital contribution to the C-BASS joint venture. Subsequent to year end, the Company contributed an additional $4.5 million. The investment in C-BASS is being accounted for on the equity basis of accounting. As part of the Company's capital contribution to the joint venture, LLSI will become part of C-BASS. Since Enhance Financial's current 100% ownership interest in LLSI is temporary, the Company has also accounted for this investment on the equity basis of accounting. In October 1995, the Company acquired a 50% joint venture interest in Singer Asset Finance Company, L.L.C. ("Singer"), which originates and securitizes various types of special assets such as lottery winnings and similar state obligations. The excess (approximately $3.7 million) of the Company's cost over the fair value of its interest in the net assets of Singer represents goodwill and is being amortized over 20 years. Subsequent to year end, the Company increased its ownership interest in Singer to 87.5% in an all stock transaction. 44 Note 6 - INCOME TAXES The Company files a consolidated federal income tax return with its includable subsidiaries. Subject to the provisions of a tax sharing agreement, income tax allocation is based upon separate return calculations. The components of the Company's consolidated provision for income taxes are as follows: Year Ended December 31, -------------------------------------- In thousands 1996 1995 1994 ------- ------- ------ Current income taxes $ 9,992 $ 5,447 $3,217 Deferred income taxes 10,694 11,096 2,877 ------- ------- ------ Tax provision $20,686 $16,543 $6,094 ======= ======= ====== A reconciliation from the tax provision calculated at the federal statutory rate of 35% to the actual tax is as follows: Year Ended December 31, -------------------------------------- In thousands 1996 1995 1994 ------- ------- ------ Tax provision at statutory rate $ 26,736 $ 22,344 $ 11,431 Tax exempt interest and dividends (6,492) (5,816) (6,095) Other, net 442 15 758 -------- -------- -------- Actual tax $ 20,686 $ 16,543 $ 6,094 ======== ======== ======== The components of the net deferred income tax liability as of December 31, 1996 and 1995 are as follows: December 31, 1996 December 31, 1995 ----------------- ----------------- In thousands Assets Liabilities Assets Liabilities ------- ----------- ------- ----------- Contingency reserves $36,920 $31,364 Deferred policy acquisition costs 30,564 28,319 Deferred premium revenue 7,841 7,383 Unrealized capital gains 4,522 6,349 Tax and loss bonds $19,565 $17,896 Alternative minimum tax credit carryforward 4,900 6,400 Losses and LAE reserves 4,575 3,360 Deferred income 2,137 2,475 Other 5,472 3,204 5,817 1,731 ------- ------- ------- ------- $36,649 $83,051 $35,948 $75,146 ======= ======= ======= ======= 45 Note 7 - LONG-TERM DEBT AND CREDIT FACILITY The carrying value of the Company's long-term debt is as follows: December 31, --------------------------- 1996 1995 ------- ------- In thousands Debentures, due 2003 $75,000 $75,000 1991 Notes, due 1996 1,400 1991 Note, due 2001 2,000 ------- ------- Total $75,000 $78,400 ======= ======= The debentures were issued at par and bear interest at 6.75% payable in March and September each year. The debentures are non-callable and are general unsecured and unsubordinated obligations of Enhance Financial. The 1991 Notes due 1996 bore interest at 7.0% and were subject to mandatory redemption by Enhance Financial in equal annual installments throughout their term to maturity. The 1991 Note due 2001 bore interest at 8.4% and was subject to mandatory redemption in equal annual installments throughout the final five years of its term until maturity. Interest on the 1991 Notes was payable semi-annually, on June 1 and December 1 of each year. In September 1996, Enhance Financial redeemed the 1991 Notes and, in connection with such redemption, incurred an interest penalty of $96,000. Enhance Financial is a party to a credit agreement (the "Credit Agreement") with a major commercial bank allowing Enhance Financial to borrow up to $60 million (increased from $30 million in October 1996) to be used for general corporate purposes. The Credit Agreement provides for a revolving credit facility under which individual advances may be converted, at Enhance Financial's discretion, into four-year term loans. Interest on advances under the Credit Agreement is payable at the average of the then-current Eurodollar rate on dollar deposits adjusted to reflect regulatory reserve requirements, plus a margin equal to (i) .4% for advances under the revolving credit facility or (ii) .5% for amounts outstanding under any term loan. Borrowings under the Credit Agreement are conditioned on, among other things, the pledge by Enhance Financial of the common stock of Enhance Re. The Credit Agreement prohibits the Company from incurring additional indebtedness to the extent the resulting total would exceed 25% of the Company's total capitalization as defined and includes certain covenants, none of which significantly restrict the Company's operating activities or dividend-paying ability. Enhance Financial borrowed under the Credit Agreement $3 million in 1994, an additional $12 million in 1995 and a further $27.5 million net in 1996, all of which was outstanding at December 31, 1996. 46 Note 8 - SHAREHOLDERS' EQUITY AND DIVIDENDS In 1992, Enhance Financial's board of directors authorized the repurchase of up to 600,000 shares of its common stock and in 1994, increased its authorization to 1,200,000 shares. Enhance Financial purchased 1,600, 404,800 and 471,300 shares of its common stock at an average price of $23.82, $16.63, and $18.33 per share in 1996, 1995, and 1994, respectively. In December 1996, the board of directors canceled its prior authorization and authorized the repurchase of up to 750,000 shares of Enhance Financial's common stock from that date. Subsequent to year end, the Company purchased an additional 32,925 shares at an average price of $36.15 per share. In February 1996, Swiss Reinsurance Company purchased from Enhance Financial and one of its shareholders, respectively, 600,000 and 400,000 shares of Enhance Financial common stock at a purchase price of $24.48 per share. In June 1996, Enhance Financial's charter was amended to authorize the issuance of up to 5,000 shares of preferred stock, the terms of which are determined by the board of directors upon issuance. The New York Insurance Law requires financial guaranty insurers to maintain a minimum policyholders' surplus of $65 million. When added to the minimum policyholders' surplus of $3.4 million separately required for the other lines of insurance which it is licensed to write, each of the Insurance Subsidiaries is required to have an aggregate minimum policyholders' surplus of $68.4 million. Under the New York Insurance Law, the Insurance Subsidiaries may declare or distribute dividends only out of earned surplus. The maximum amount of dividends which may be paid by the Insurance Subsidiaries to Enhance Financial without prior approval of the Superintendent of Insurance is subject to restrictions relating to statutory surplus and net investment income as defined by statute. Enhance Re declared and paid a total of $13.3 million in dividends to Enhance Financial for the year ended December 31, 1996. Asset Guaranty has paid no dividends since its inception. At December 31, 1996, the Insurance Subsidiaries had $21.2 million available for dividend distribution. Under the terms of the Credit Agreement, the maximum amount of dividends which may be paid by Enhance Financial as of December 31, 1996 was $31.2 million. Note 9 - FAIR VALUES OF FINANCIAL INSTRUMENTS The following estimated fair value amounts have been determined by the Company using available market information and appropriate valuation methodologies. However, considerable judgment is necessarily required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amount the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. Fixed maturity securities - The fair values of fixed maturity securities are based on quoted market prices or dealer quotes. Short-term investments - Fair values of short-term investments are assumed to equal cost. Deferred premium revenue - The fair value of the Company's deferred premium revenue is based on the estimated cost of entering into a cession of the entire portfolio with third-party reinsurers under 47 market conditions. This figure was determined by using the statutory basis unearned premiums adjusted for ceding commission based on current market rates. Loss and loss adjustment reserves - The carrying amount is composed of the present value of the expected cash flows for specifically identified claims combined with a general estimate for non-specific reserves. Therefore, the carrying amount is a reasonable estimate of the fair value of the reserve. Long-term debt - The fair value is estimated based on the quoted market prices for the same or similar issue or on the current rates offered to the Company for debt of the same remaining maturities. Short-term debt - The fair value of short-term debt, which bears interest at variable rates, is assumed to equal the carrying value of the debt. The carrying amounts and estimated fair values of these financial instruments are as follows:
In thousands December 31, 1996 December 31, 1995 ----------------- ----------------- Estimated Estimated Carrying Fair Carrying Fair Amount Value Amount Value ------ ----- ------ ----- Assets: Fixed maturity securities $757,576 $766,932 $695,586 $707,195 Common stock 878 878 729 729 Short-term investments 33,247 33,247 44,103 44,103 Liabilities: Deferred premium revenue 266,204 227,123 248,051 209,760 Loss and loss adjustment expense reserve 26,258 26,258 28,946 28,946 Long-term debt 75,000 74,933 78,400 81,162 Short-term debt 42,575 42,575 15,000 15,000
Note 10 - INSURANCE IN FORCE The Company principally insures and reinsures financial guaranties issued to support public and private borrowing arrangements, including commercial paper, bond financings, and similar transactions. Financial guaranties are conditional commitments which guaranty the performance of a customer to a third party. The Company's potential liability in the event of nonperformance by the issuer of the insured obligation is represented by its proportionate share of the aggregate outstanding principal and interest payable ("insurance in force") on such insured obligation. At December 31, 1996, the Company's aggregate insurance in force was $56.6 billion. The Company's insured portfolio as of December 31, 1996 was broadly diversified by geographic and bond market sector with no single credit representing more than 1% of the Company's net insurance in force. 48 The composition of the Company's insurance in force by type of issue and by state of issue was as follows: TYPE OF ISSUE In billions December 31, ------------------------ 1996 1995 --------- --------- General obligation and other tax backed $ 15.8 $ 15.6 Non-municipal 12.2 11.0 Utilities 9.2 8.9 Health care 6.2 6.3 Airport/Transportation 5.9 5.2 Housing 1.5 1.4 Other municipal 2.3 2.2 Other insurance businesses 3.5 2.8 --------- --------- Total $ 56.6 $ 53.4 ========= ========= STATE OF ISSUE In billions December 31, ------------------------ 1996 1995 --------- --------- California $ 6.9 $ 6.7 New York 6.2 5.7 Florida 4.2 4.2 Texas 3.1 3.0 Pennsylvania 3.1 3.1 Illinois 2.6 2.5 Other (each less than 4%) 30.5 28.2 --------- --------- Total $ 56.6 $ 53.4 ========= ========= The Company controls its exposure to credit risk through a structured underwriting process which includes detailed credit analysis, review of primaries' underwriting guidelines, surveillance policies and procedures, and the use of reinsurance. Note 11 - RELATED PARTY TRANSACTIONS The Company makes available to Singer a LIBOR-based secured revolving credit facility, up to a maximum of $17.0 million, for its use in originating assets for securitization. In addition, the Company provides to Singer a LIBOR-based working capital credit line. At December 31, 1996, $13.7 million and $3.3 million were outstanding under the secured credit facility and working capital credit line, respectively. Note 12 - EMPLOYEE BENEFITS The Company maintains a non-contributory defined benefit pension plan for the benefit of all eligible employees. Employer contributions are based upon a fixed percentage of employee salaries 49 determined at the discretion of the Company. Plan assets consist primarily of U.S. government and corporate debt securities. The actuarially computed net pension cost for 1996, 1995, and 1994 using the projected unit credit actuarial method of attribution includes the following components:
In thousands Year Ended December 31, ------------------------------ 1996 1995 1994 ---- ---- ---- Service cost-benefits earned during the period $ 1,298 $ 1,225 $ 1,701 Interest cost on projected benefit obligation 485 396 287 Actual return on plan assets (579) (320) 223 Net amortization and deferral 205 55 (524) ------- ------- ------- Net periodic pension cost $ 1,409 $ 1,356 $ 1,687 ======= ======= =======
The following table sets forth the funding status of the plan and the accrued pension cost recognized in the Company's consolidated balance sheets: 50
In thousands December 31, ------------------------------ 1996 1995 1994 ---- ---- ---- Accumulated benefits obligation, including vested benefits of $4,457, $4,879 and $5,122 $(4,635) $(5,809) $(5,532) ------- ------- ------- Projected benefit obligation $(6,475) $(8,824) $(7,024) Plan assets at fair value 4,437 5,053 3,856 ------- ------- ------- Projected benefit obligation in excess of plan assets (2,038) (3,771) (3,168) ------- ------- ------- Unrecognized prior service cost 1,014 1,067 (92) Unrecognized transition net asset 16 17 19 Unrecognized net (gain)loss (2,717) 189 1,446 ------- ------- ------- Accrued pension cost $(3,725) $(2,498) $(1,795) ======= ======= =======
Actuarial assumptions utilized to determine the projected benefit obligation and estimated unrecognized net (gain) loss were as follows: 1996 1995 1994 ---- ---- ---- Discount rate 7.5% 5.5% 5.5% Expected long-term rate of return on plan assets 8.5% 8.5% 8.5% Rate of increase in future compensation levels 6.0% 6.0% 6.0% In addition to pension benefits, the Company provides certain health care benefits for retired employees. Substantially all employees of Enhance Financial and the Insurance Subsidiaries may become eligible for these benefits if they reach retirement age while working for the Company. The net post-retirement benefit cost for 1996, 1995 and 1994 was $118,000, $105,000, and $88,000, respectively, and includes service cost, interest cost and amortization of the transition obligation. At December 31, 1996 the accumulated post-retirement benefit obligation was $484,000 and was not funded. The discount rate used in determining the accumulated post-retirement benefit obligation was 7% and the health care cost trend rate was 13%, graded to 6% over 8 years. On January 1, 1996, the Company implemented a 401(k) retirement savings plan covering substantially all employees of the Company. Under this plan, the Company provides a matching contribution of 25% on contributions up to 6% of base salary made by eligible employees to the plan. The Company contributed $110,000 to the plan in 1996. Note 13 - STOCK OPTION AND RESTRICTED STOCK AWARD PROGRAMS The Company maintains a stock option program for its key employees. Options issued under the program vest in four equal annual installments commencing approximately one year after the date of grant. The Company also maintains a directors' option program pursuant to which directors of Enhance Financial or the Insurance Subsidiaries who are not employees of the Company are granted non-qualified stock options. Options under this program vest in two equal annual installments commencing on December 31 next following the date of grant. Options under both plans are exercisable at the option price, being the fair market value at the date of grant. The Board of Directors of Enhance Financial has authorized a maximum of 3,367,950 shares of the Company's common stock to be awarded as options of which 51 2,810,985 options (net of expirations and cancellations) had been awarded as of December 31, 1996. Information regarding activity in the option programs follows: 1996 Number Option Price of shares per share --------- ------------ Outstanding at beginning of year 2,415,721 $14.50 - $26.625 Granted - Employees 400,110 $26.875 $34.00 - Directors 26,000 $36.50 Exercised (231,275) $14.50 - $20.25 Expired or canceled (57,446) $16.00 - $23.875 --------- Outstanding at year-end 2,553,110 $14.50 - $36.50 --------- Exercisable at year-end - Employees 1,321,457 $14.50 - $23.875 - Directors 143,333 $17.125 -$26.625 --------- 1995 Number Option Price of shares per share --------- ------------ Outstanding at beginning of year 1,944,759 $14.50 - $20.25 Granted - Employees 490,350 $17.25 - $23.875 - Directors 30,000 $26.625 Exercised (24,575) $14.50 - $20.25 Expired or canceled (24,813) $16.00 - $20.25 --------- Outstanding at year-end 2,415,721 $14.50 - $26.625 --------- Exercisable at year-end - Employees 1,166,213 $14.50 - $20.25 - Directors 114,333 $17.125 - $19.875 --------- 1994 Number Option Price of shares per share --------- ------------ Outstanding at beginning of year 1,502,100 $14.50 - $20.25 Granted - Employees 459,100 $16.00 - Directors 30,000 $17.125 Exercised (3,275) $14.50 Expired or canceled (43,166) $14.50 - $20.25 --------- Outstanding at year-end 1,944,759 $14.50 - $20.25 --------- Exercisable at year-end - Employees 250,026 $14.50 - $20.25 - Directors 83,333 $19.50 - $19.875 --------- No shares have been issued under the Company's restricted stock award program since 1989. Total compensation expense of $79,000, $157,000, and $211,000 was recognized related to services rendered in 1996, 1995 and 1994, respectively. The Company applies the provisions of APB Opinion No.25 "Accounting for Stock Issued to Employees" in accounting for its stock option program. Accordingly, no compensation expense has 52 been recognized for options granted under its stock option program, and the Company has adopted the disclosure-only provisions of SFAS No.123, "Accounting for Stock-Based Compensation." Had compensation cost for the Company's stock option program been determined based upon the fair value at the grant date for awards under these plans consistent with the methodology prescribed under SFAS No. 123, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below: 1996 ---- Net income - as reported $55,704 Net income - pro forma $55,046 Primary earnings per share - as reported $ 3.12 Primary earnings per share - pro forma $ 3.08 The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model. The following assumptions were used for option grants awarded in 1996 and 1995: Options Granted 1996 1995 ---- ---- Dividend Yield 1.1% to 1.5% 1.4% to 2.0% Volatility 20.5% to 30.3% 26.5% to 31.1% Risk-free interest rate 6.2% to 6.8% 5.6% to 7.2% Assumed annual forfeiture rate 3.0% 3.0% Expected life 10 years 10 years Note 14 - COMMITMENTS AND CONTINGENCIES A. Leases The Company has committed to lease office space under non-cancelable leases which expire in August 1999, December 1999, April 2000 and August 2000. The leases provided for escalations resulting from increased assessments for taxes, utilities and maintenance. Future minimum rental payments on all leases, before any deductions for estimated sublease income, are as follows: 53 In thousands Operating Years Ended December 31, Leases --------- 1997 $2,161 1998 2,147 1999 2,059 2000 754 ------ $7,121 ====== Rent expense was $1,139,000, $1,236,000 and $1,515,000 for the years ended December 31, 1996, 1995 and 1994, respectively, net of sublease income. B. Accrued Profit Commissions According to the terms of a number of the Company's treaty reinsurance contracts, the Company is required to pay the ceding companies a contingent commission based upon a percentage of the net underwriting profit, as defined, accruing to the Company under these treaties. Under the terms of most of these contracts, each individual underwriting year is required to be adjusted no earlier than five years after its inception, and adjustments are to be made annually thereafter until all written premiums are fully earned and all losses are settled. 54 Note 15 - PARENT COMPANY FINANCIAL INFORMATION The following are the condensed balance sheets of Enhance Financial as of December 31, 1996 and 1995 and its condensed statements of income and cash flows for the years ended December 31, 1996, 1995 and 1994: CONDENSED BALANCE SHEETS In thousands December 31, ------------------ 1996 1995 ---- ---- Assets: Investments $ 10,213 $ 3,790 Investment in affiliated companies 563,395 501,713 Other assets 38,386 21,218 -------- -------- $611,994 $526,721 ======== ======== Liabilities and Shareholders' Equity: Long-term debt $ 75,000 $ 78,400 Other liabilities 48,645 24,384 Shareholders' equity 488,349 423,937 -------- -------- $611,994 $526,721 ======== ======== CONDENSED STATEMENTS OF INCOME In thousands Year Ended December 31, -------------------------------- 1996 1995 1994 ---- ---- ---- Total revenues $ 1,312 $ 272 $ 253 Total expenses 12,343 11,321 8,459 -------- -------- -------- (11,031) (11,049) (8,206) Equity in net income of affiliates 61,727 55,873 30,117 -------- -------- -------- Income before income taxes 50,696 44,824 21,911 Income tax benefit 5,008 2,473 4,654 -------- -------- -------- Net income $ 55,704 $ 47,297 $ 26,565 ======== ======== ======== 55 CONDENSED STATEMENTS OF CASH FLOWS
In thousands Year Ended December 31, -------------------------------- 1996 1995 1994 ---- ---- ---- Cash Flows from Operating Activities: Net income $ 55,704 $ 47,297 $ 26,565 Adjustments to reconcile net income to net cash from operating activities: Equity in net income of affiliates (61,727) (55,873) (30,117) Other (22,188) (3,577) 782 -------- -------- -------- Net cash used in operating activities (28,211) (12,153) (2,770) -------- -------- -------- Cash Flows from Investing Activities: Investment in affiliates net of dividends received (3,423) 14,328 18,062 Purchase of investments (2,456) (2,787) Sale of investments 750 1,498 Sales of short-term investments, net (5,529) 837 138 -------- -------- -------- Net cash provided by (used in) investing activities (8,202) 14,207 15,413 -------- -------- -------- Cash Flows from Financing Activities: Capital stock 4,843 401 87 Short-term debt 27,500 12,000 3,000 Dividends paid (7,198) (6,223) (5,711) Principal payment - senior notes (3,400) (1,400) (1,400) Reissuance of treasury stock 14,485 Purchase of treasury stock (38) (6,732) (8,645) -------- -------- -------- Net cash provided by (used in) financing activities 36,192 (1,954) (12,669) -------- -------- -------- Net increase (decrease) in cash (221) 100 (26) Cash, beginning of year 221 121 147 -------- -------- -------- Cash, end of year $ -- $ 221 $ 121 ======== ======== ========
Note 16 - MAJOR CUSTOMERS The Company derives a substantial portion of its premium writings from a small number of primary insurers. Specifically: o In 1996 four primary insurers accounted for 18%, 14%, 10% and 7% of gross premiums written. o In 1995 four primary insurers accounted for 22%, 18%, 8% and 8% of gross premiums written. o In 1994 four primary insurers accounted for 23%, 23%, 9% and 7% of gross premiums written. This customer concentration results from the small number of primary insurance companies which are licensed to write financial guaranty insurance. Note 17 - LOSSES AND LOSS ADJUSTMENT EXPENSES Activity in the liability for losses and loss adjustment expenses ("LAE") is summarized as follows: 56 In thousands Year Ended December 31, ---------------------------- 1996 1995 1994 ---- ---- ---- Balance at January 1, $30,799 $29,337 $ 8,947 Less reinsurance recoverables 1,853 2,620 194 ------- ------- ------- Net balance at January 1, 28,946 26,717 8,753 ------- ------- ------- Net incurred related to: Current year 6,087 3,491 9,921 Prior years 3,097 6,022 12,921 ------- ------- ------- Net incurred 9,184 9,513 22,842 ------- ------- ------- Net paid related to: Current year 587 2,705 3,216 Prior years 11,285 4,579 1,662 ------- ------- ------- Net paid 11,872 7,284 4,878 ------- ------- ------- Net balance at December 31, 26,258 28,946 26,717 Plus reinsurance recoverables 1,823 1,853 2,620 ------- ------- ------- Balance at December 31, $28,081 $30,799 $29,337 ======= ======= ======= The liability for losses and LAE increased by $3.1 million, $6.0 million and $12.9 million in 1996, 1995, and 1994, respectively, principally as a result of changes in estimates of ultimate loss on certain real estate-backed transactions in the Company's discontinued commercial real estate portfolio. The terms "current year" and "prior years" in the foregoing table refer to the year in which case reserves were established. Note 18 - INTEREST RATE SWAP In January 1995, the Company entered into a reverse interest-rate swap transaction with a AAA-rated counterparty based on a notional amount of $50 million over a term equal to the remaining term of Enhance Financial's 6.75% Debentures. Pursuant to the terms of the swap, the Company incurred an obligation to pay interest semi-annually at a variable LIBOR-based interest rate in exchange for interest at a fixed rate of 8.00%. The variable rate was set quarterly in advance. The variable rate for the initial period to the first reset date was 6.1875%. On June 1, 1995, the Company terminated the swap and realized a gain on termination in the amount of $4.6 million. The gain has been deferred and is being amortized over the original term of the swap. 57 Note 19 - QUARTERLY FINANCIAL INFORMATION (Unaudited) In thousands except share amounts
1st Qtr. 2nd Qtr. 3rd Qtr. 4th Qtr. Year 1996 Net premiums written $20,447 $25,172 $20,836 $ 29,207 $95,662 Premiums earned 19,252 17,825 18,704 21,652 77,433 Investment and other income 13,371 11,081 13,226 17,190 54,868 Losses and loss adjustment expenses 2,377 1,964 2,083 2,760 9,184 Income before income taxes 18,074 15,825 18,656 23,835 76,390 Net income $13,239 $11,880 $13,850 $ 16,735 $55,704 ------- ------- ------- -------- ------- Primary earnings per share $ 0.76 $ 0.66 $ 0.77 $ 0.90 $ 3.12 ------- ------- ------- -------- ------- Fully diluted earnings per share $ 0.73 $ 0.64 $ 0.74 $ 0.89 $ 3.00 ------- ------- ------- -------- ------- 1995 Net premiums written $11,557 $24,622 $18,411 $ 28,398 $82,988 Premiums earned 14,211 15,948 15,247 17,544 62,950 Investment and other income 11,026 10,351 12,324 15,805 49,506 Losses and loss adjustment expenses 2,401 2,270 2,044 2,798 9,513 Income before income taxes 13,680 14,631 15,818 19,711 63,840 Net income $10,454 $11,119 $11,694 $ 14,030 $47,297 ------- ------- ------- -------- ------- Primary earnings per share $ 0.60 $ 0.64 $ 0.68 $ 0.81 $ 2.73 ------- ------- ------- -------- ------- Fully diluted earnings per share $ 0.79 $ 2.64 -------- ------- 1994 Net premiums written $23,143 $22,382 $14,781 $ 20,379 $80,685 Premiums earned 13,245 15,176 17,337 15,999 61,757 Investment and other income 10,813 7,460 8,502 7,161 33,936 Losses and loss adjustment expenses 1,795 2,648 4,108 14,291 22,842 Income before income taxes 13,509 10,033 10,698 (1,581) 32,659 Net income (loss) $10,445 $ 8,001 $ 8,585 $ (466) $26,565 ------- ------- ------- -------- ------- Earnings (loss) per share $ 0.58 $ 0.45 $ 0.48 $ (0.03) $ 1.49 ------- ------- ------- -------- -------
Item 9. Changes In And Disagreements With Accountants On Accounting And Financial Disclosure. None. 58 PART III Item 10. Directors and Executive Officers of the Registrant. Set forth below is certain information concerning directors and executive officers of Enhance Financial. Each director holds office (subject to Enhance Financial's by-laws) until the next annual meeting of shareholders and until his or her successor has been elected and qualified. The information concerning the directors has been furnished by them to Enhance Financial. Name Age (1) Position with Enhance Financial - ---- ------- ------------------------------- Allan R. Tessler 60 Chairman of the Board Wallace O. Sellers 67 Vice Chairman of the Board Daniel Gross 54 President, Chief Executive Officer and Director Samuel Bergman 49 Executive Vice President and Secretary Ronald M. Davidow 47 Executive Vice President Arthur Dubroff 46 Executive Vice President and Chief Financial Officer Tony M. Ettinger 40 Executive Vice President Paul C. Kwiatkoski 41 Executive Vice President Robert M. Rosenberg 51 Executive Vice President Brenton W. Harries 69 Director David R. Markin 66 Director Robert P. Saltzman 54 Director Richard J. Shima 57 Director Spencer R. Stuart 74 Director Adrian U. Sulzer 50 Director Frieda K. Wallison 54 Director Jerry Wind 59 Director - ---------- (1) As of March 15, 1997 Mr. Tessler has held the position with Enhance Financial set forth above since its inception. He has also since 1987 been Chairman of the Board and Chief Executive Officer of International Financial Group, Inc., a merchant banking concern, and since 1992 served as Co-Chairman of the Board and Co-Chief Executive Officer of Data Broadcasting Corporation ("DBC"), a provider of market data services to the investment community. He also serves as Chairman of the Board and Chief Executive Officer of Ameriscribe Corporation, a provider of reprographic and related facilities management services, from 1988 to 1993. Mr. Tessler is also Chairman of the Board of Jackpot Enterprises Inc. ("Jackpot") and a director of The Limited, Inc. Mr. Sellers has held the position with Enhance Financial set forth above since January 1, 1995, and he also serves as a consultant to the Company. Prior thereto, he served as President, Chief Executive Officer and a director of Enhance Financial and Chairman of the Board and Chief Executive Officer of the Insurance Subsidiaries from their inception. Mr. Sellers also serves as a director of Danielson Holding Corporation. Mr. Gross has held the position with Enhance Financial set forth above and has served as Chief Executive Officer of the Insurance Subsidiaries since January 1, 1995. Prior thereto he held senior executive positions with Enhance Financial and Enhance Re from their inception and was among the founders of the 59 Company in 1986. Previously, he was President of Daniel J. Gross & Associates and was a co-founder and Chairman of F.G. Holding Company. Mr. Gross also was President of Kramer Capital Consultants and worked for Colonial Penn Group as President of Colonial Penn Insurance Company and Vice President of Marketing for Colonial Penn Group, and Vice President and Actuary of Colonial Penn Life. Mr. Bergman has been Executive Vice President of the Company since 1991. He has been Secretary of Enhance Financial since 1991 and Secretary of each of the Insurance Subsidiaries since their inception. He was a member of the law firm of Shea & Gould from 1980 to 1991. Messrs. Davidow, Kwiatkoski and Rosenberg have each served as senior executive officers of the Insurance Subsidiaries since such companies' inception, and as officers of Enhance Financial since 1990. Mr. Ettinger has held the position with Enhance Financial set forth above since January 1995. From 1993 to 1995 he rendered consulting and strategic planning services to life insurance companies, and previously thereto from 1989 he served as general partner of Hannibal Associates, L.P., an investment partnership. Mr. Dubroff has held the position with Enhance Financial set forth above since July 1996. From November 1993 to July 1996, Mr. Dubroff served in various senior management capacities at First Data Corporation, a provider of high-volume information processing and related services. Previously thereto from 1992, he served as Executive Vice President of Shearson Lehman Brothers, Inc. and as Chief Financial Officer of its Securities Processing Group. Mr. Dubroff served as a director of Enhance Financial from 1986 to 1991 and 1992 to July 1996 and of Enhance Re from 1986 to 1992. Mr. Harries has served as a director of Enhance Financial since 1991, having previously served as a director of the Insurance Subsidiaries since 1986. He has been retired since 1986, having previously served from 1985 as President of Global Electronic Markets Company, a joint venture of McGraw-Hill and Citicorp dealing in electronic trading of commodities. Mr. Harries also serves as a trustee of the Alliance Funds, Inc. and the Hudson River Trust. Mr. Markin has served as a director of Enhance Financial since 1986. He has served as President of Checker Motors Corporation for more than five years. From 1989 to December 1996, he also served as President and Chief Executive Officer of International Controls Corp. and its successor corporation, Great Dane Holdings, Inc. Mr. Markin serves as a director of Jackpot and DBC. Mr. Saltzman has served as a director of Enhance Financial since September 1996. He has been President and Chief Executive Officer of Jackson Life Insurance Company since 1994. He previously served from 1983 as Executive Vice President of SunAmerica Inc. and as President of its subsidiary life insurance company. Mr. Shima has served as a director of Enhance Financial since 1993. He has been an independent consultant since 1993, having previously thereto from 1992 served as Managing Director of Russell Miller, Inc., an investment banking concern specializing in the insurance industry. He previously served from 1963 as an officer of The Travelers Corporation, most recently, from 1985 to 1991, as Vice Chairman and Chief Investment Officer. Mr. Shima serves as a director of Connecticut Natural Gas Corporation and the Keystone Mutual Funds. Mr. Stuart has served as a director of Enhance Financial since 1992, having also served as a director of Asset Guaranty from its inception until 1995. He has for the last ten years served as an independent 60 consultant regarding organizational and personnel matters. He served from 1990 to 1992 as Chairman of the Council of Management Advisors of Dean Witter Reynolds Inc. He is the founder and honorary chairman of Spencer Stuart Executive Recruiting Consultants and serves as a director of UST Inc. Mr. Sulzer has served as a director of Enhance Financial since March 1996. He has served in various management capacities with Swiss Re, a shareholder of Enhance Financial, since January 1991 as head of its credit and bonding department. Ms. Wallison has served as a director of Enhance Financial since 1992, having also served as a director of each of the Insurance Subsidiaries since its inception until 1995. She has since 1983 been a member of the law firm of Jones, Day, Reavis & Pogue, resident in its Washington, D.C. office. Mr. Wind has served as a director of Enhance Financial since September 1996. He has been on the faculty of the Wharton School of the University of Pennsylvania since 1967, currently serving as The Lauder Professor and Professor of Marketing. He also serves as a business consultant to several publicly and privately held, U.S. and non-U.S. corporations and has served on the editorial boards of and as a contributor to numerous journals on marketing. Item 11. Executive Compensation. Summary Compensation Table The following table sets forth certain information regarding compensation paid during each of the Company's last three fiscal years to the Company's Chief Executive Officer and each of the Company's four other most highly compensated executive officers, based on salary and bonus earned during 1996. Except as described below in this item under "Employment Agreement," the Company has not entered with any executive officer into (i) an employment agreement or (ii) any compensatory plan or arrangement which is activated upon the resignation, termination or retirement of the executive officer or upon a change in control of the Company or change in the executive officer's responsibilities following a change in control. Long-Term Annual Compensation Compensation(1) ------------------- --------------- Securities Underlying Name and Principal Position Year Salary Bonus Options/SARs - --------------------------- ---- ------ ----- ------------ Daniel Gross 1996 $480,000 $675,000 75,000 President and Chief 1995 450,000 420,000 60,000 Executive Officer 1994 422,500 172,000 60,000 Samuel Bergman 1996 301,042 145,000 14,000 Executive Vice President 1995 293,125 100,000 20,000 and Secretary 1994 276,458 82,500 20,000 61 Long-Term Annual Compensation Compensation(1) ------------------- --------------- Securities Underlying Name and Principal Position Year Salary Bonus Options/SARs - --------------------------- ---- ------ ----- ------------ Ronald M. Davidow 1996 260,625 127,500 13,500 Executive Vice President 1995 250,833 87,000 20,000 1994 236,250 70,500 17,500 Robert M. Rosenberg 1996 272,460 100,000 13,500 Executive Vice President 1995 258,708 97,000 22,500 1994 236,874 70,500 20,000 Tony M. Ettinger(2) 1996 261,041 132,500 14,000 Executive Vice President 1995 211,718 100,000 15,000 - ---------- (1) Does not reflect the aggregate number and market value (based on the closing price of the Common Stock on the New York Stock Exchange), respectively, of the unvested restricted shares of Common Stock issued in prior years pursuant to the Long-Term Incentive Plan for Key Employees (the "Incentive Plan") and held as of December 31, 1996 as follows: Mr. Gross, 3,550 shares, $130,000; Mr. Rosenberg, 1,375 shares, $50,000; and Mr. Davidow, 1,375 shares, $50,000. No restricted shares have been issued since 1989. (2) Became an officer of the Company in 1995. 62 Option/SAR Grants During 1996 The following table provides information regarding stock options/SARs granted to the named executive officers during 1996:
Individual Grants ------------------------------------------------------------------------ Percent of Number of Total Options Securities Granted to Underlying Employees in Grant Date Name and Options Fiscal Exercise or Expiration Present Value Principal Position Granted Year Base Price Date (2) - ------------------ ---------- ------------- ----------- ---------- ------------- Daniel Gross President and Chief Executive Officer 75,000 21.9 $34.00 12/31/06 $810,750 Samuel Bergman Executive Vice President and Secretary 14,000 4.1 34.00 12/31/06 151,340 Ronald M. Davidow Executive Vice President 13,500 3.9 34.00 12/31/06 145,935 Robert M. Rosenberg Executive Vice President 13,500 3.9 34.00 12/31/06 145,935 Tony M. Ettinger Executive Vice President 14,000 4.1 34.00 12/31/06 151,340
- ---------- (1) Options granted pursuant to the Incentive Plan. Such options vest, subject to continuation of employment, in 25% increments during the consecutive four-year period commencing December 31, 1997. The options are not transferable except by the laws of descent and distribution and, accordingly, may be exercised during the life of the optionee only by the optionee or the optionee's legal representative and after the optionee's death only by the beneficiary previously designated by the optionee. (2) The present value is, in each case, based upon the Black-Scholes option valuation model. Such valuation assumes a volatility of 20.5%, a risk-free rate of return of 6.2%, a dividend yield of 1.15% and a discount due to the risk of forfeiture of 3.0%. The valuation assumes no specific time of exercise since this is viewed by the Company as entirely indeterminate, but takes into account the term of the option, ten years in each case. The actual value, if any, an executive may realize will depend on the excess of the stock price over the exercise price on the date the option is exercised, so that there is no assurance the value realized will be at or near the value estimated by the Black-Scholes model. 63 Aggregated Option/SAR Exercises During 1996 and Fiscal Year-End Option Values - ------------------------------------------- The following table provides information as to the named executive officers regarding stock option exercises and the number and value of stock options/SARs held by them at December 31, 1996.
No. of Securities Underlying Value of Unexercised In-The- Unexercised Stock Options/ Money Options/SARs at Shares SARs at December 31, 1996 December 31, 1996(1) Acquired ---------------------------- ---------------------------- Name and on Value Principal Position Exercise Realized Exercisable Unexercisable Exercisable Unexercisable - ------------------ -------- -------- ----------- ------------- ----------- ------------- Daniel Gross President and Chief Executive Officer -0- -0- 211,875 160,625 $3,865,391 $1,549,922 Samuel Bergman Executive Vice President and Secretary 2,000 42,500 65,625 43,375 1,138,984 503,204 Robert M. Rosenberg Executive Vice President -0- -0- 83,750 44,750 1,541,250 525,625 Ronald M. Davidow Executive Vice President 37,500 580,000 44,375 41,625 748,359 476,329 Tony M. Ettinger Executive Vice President -0- -0- 13,125 40,875 215,391 183,281
- ---------- (1) Calculated on the basis of (a) the excess of the closing price of the Common Stock as reported by the New York Stock Exchange on December 31, 1996 over the option exercise price multiplied by (b) the number of shares of Common Stock underlying the option. Enhance Reinsurance Pension Plan The Company maintains a defined benefit pension plan named the "Enhance Reinsurance Pension Plan" (the "Pension Plan") which is intended to be a tax-qualified plan under Section 401(a) of the Code. All employees of the Company (other than Van-Am) who have attained age 21 and who have completed at least one year of service are eligible to participate in the Pension Plan. The Pension Plan provides a normal retirement benefit at normal retirement (the earlier of the date on which a participant (a) has attained age 65 and completed five years of participation or (b) has attained age 62 and completed ten years of participation) equal to 2.25% of the participant's compensation multiplied by his or her years of service up to his or her first 15 years, plus 1.75% of the participant's compensation multiplied by his or her years of service for his or her next ten years, plus 1% of the participant's compensation multiplied by his or her years of service for his or her next five years. Compensation is defined as the average of the participant's three highest consecutive 64 years of earnings. (See Note 2 to the table below regarding the maximum compensation considered "earnings" for the foregoing purposes. No such maximum applies with respect to the determination of compensation for purposes of the Summary Compensation Table above in this item.) A participant whose service terminates prior to normal retirement is also eligible for percentage of his or her normal retirement benefit at normal retirement date multiplied by a retirement benefit, payable at normal retirement age, in an amount equal to the vested fraction, the numerator of which is the number of years of plan participation by him or her as of the date of his or her termination and the denominator of which is the number of years of participation he or she would have had under the Pension Plan had he or she remained a participant until normal retirement. The actuarial equivalent of such vested benefit may be distributed in a lump sum prior to normal retirement age. The vested percentage of a participant increases 20% per year beginning after two years of service, such that his or her vested percentage is 100% after six years. For purposes of determining a participant's retirement benefit and vested percentage, "years of service" and "years of participation," while not synonymous, include service with the Company and certain service with predecessor employers. The following table illustrates annual pension benefits payable under the Pension Plan assuming retirement at normal retirement age at various levels of compensation and years of service. Such benefits are based on a straight life annuity and are not subject to any deduction for Social Security or other offset amounts. PENSION PLAN TABLE
Highest Average Years of Service Earnings ---------------------------------------------------------------------- 15 20 25 30 35* ---------------------------------------------------------------------- $ 100,000 $ 33,750 $ 42,500 $ 51,250 $ 56,250 $ 56,250 125,000 42,188 53,125 64,063 70,313 70,313 150,000 50,625 63,750 76,875 84,375 84,375 175,000(2) 59,063 74,375 89,688 98,438 98,438 200,000(2) 67,500 85,000 102,500(1) 112,500(1) 112,500(1) 225,000(2) 75,938 95,625 115,313(1) 126,563(1) 126,563(1) 250,000(2) 84,375 106,250(1) 128,125(1) 140,625(1) 140,625(1) 300,000(2) 101,250(1) 127,500(1) 153,750(1) 168,750(1) 168,750(1) 400,000(2) 135,000(1) 170,000(1) 205,000(1) 225,000(1) 225,000(1) 450,000(2) 151,875(1) 191,250(1) 230,625(1) 253,125(1) 253,125(1) 500,000(2) 168,750(1) 212,500(1) 256,250(1) 281,250(1) 281,250(1)
- ---------- * Plan limits service to 30 years for benefit purposes. (1) These are hypothetical benefits based upon the Pension Plan's normal retirement benefit formula. The maximum annual benefit permitted under Section 415 of the Code in 1996 is $96,000, which will be increased in 1997 to $100,000. 65 (2) The benefits shown corresponding to these compensation ranges are hypothetical benefits based upon the Pension Plan's normal retirement benefit formula. Under Section 401(a)(17) of the Code, a participant's compensation in excess of a specified maximum is disregarded for purposes of determining highest average earnings. (Such specified maximum amount (as adjusted to reflect cost of living increases) November 1, 1994 and decreased to $150,000 for plan years beginning thereafter.) As of December 31, 1996, Messrs. Gross, Bergman, Rosenberg, Davidow and Ettinger had nine, four, fifteen, twelve and one year of service, respectively, and nine, four, nine, nine and one year of participation, respectively, under the Pension Plan. Employment Agreement Enhance Financial and Arthur Dubroff, Executive Vice President and Chief Financial Officer, are parties to an employment agreement which provides for the payment of an annual base salary to Mr. Dubroff of not less than $275,000 plus an annual bonus of not less than 45% of such base salary. Under the employment agreement, Mr. Dubroff was granted in 1996 options to purchase 75,000 shares of Common Stock and is entitled to annual grants of stock options to purchase 20,000 shares of Common Stock in each of 1997 and 1998 (or, at Enhance Financial's election, the cash value thereof). If Mr. Dubroff's employment is terminated by Enhance Financial within a 12-month period following a change of control (as defined), Enhance Financial is required to pay Mr. Dubroff a prorated portion of his annual bonus and, for the greater of the remainder of the term of his employment agreement and 12 months from the date of termination of his employment, his base salary. The employment agreement terminates on December 31, 1999, unless renewed by the parties. Directors' Compensation Cash Compensation. Directors who are employees of the Company receive no fees or other compensation for services rendered as members of the board of directors of Enhance Financial. Mr. Tessler received a basic fee of $105,000 in 1996, and each other director of Enhance Financial who is not employed by the Company received a basic fee of $16,000. In addition, each such outside director who also served as chair of any committee of the board received in 1996 an additional $5,000 for all committees chaired by such director. Each outside director also received an additional $2,000 for each regular meeting of the board of directors attended plus $1,250 for each committee meeting attended which was held on a day other than a day on which the board met. No directors' fees were payable to corporate shareholders in respect of directorships occupied by their designees. All directors are reimbursed for travel and related expenses incurred in attending meetings of the board or committees. Non-Employee-Director Stock Option Plan. Pursuant to the Directors' Option Plan, on each December 31 during the period in which the plan is in effect, each director of Enhance Financial or either Insurance Subsidiary who is not an employee of the Company (an "Eligible Director") is granted a non-qualified stock option to purchase 2,000 shares of Common Stock at an exercise price equal to the closing price of the Common Stock on the New York Stock Exchange on such date. There are reserved for issuance upon the exercise of options under the Directors' Option Plan an aggregate of 400,000 shares of Common 66 Stock (subject to anti-dilutive adjustment), of which options for 178,333 shares were subject to outstanding options after the option grants made on December 31, 1996. Options granted under the Directors' Option Plan become exercisable as to one half the shares subject thereto on each of the first and second anniversaries of grant, subject to continuation of service on the board of directors and other terms of the option grants; expire on the tenth anniversary of the date of grant; are not transferrable except by the laws of descent and distribution; and, accordingly, may be exercised during the life of the optionee only by the optionee or the optionee's legal representative and after the optionee's death only by the beneficiary previously designated by the optionee. The unvested portion of an outstanding option lapses upon the resignation or removal of the optionee from the boards of directors of Enhance Financial and the Insurance Subsidiaries. Compensation Committee Interlocks and Insider Participation The persons who served as members of the Compensation Committee during 1996 are Spencer R. Stuart (Chairman), Brenton W. Harries, David R. Markin, Richard J. Shima and Allan R. Tessler. The only person of the foregoing who is currently or has at any time been an officer or employee of the Company is Mr. Tessler, who serves as Chairman of the Board of Enhance Financial. The Manufacturers Life Insurance Company ("Manufacturers Life"), a major shareholder of Enhance Financial until April 1996, and American Country Insurance Company ("American Country"), a majority-owned subsidiary of Great Dane, of which Messrs. Markin and Tessler serve as directors, were, respectively, holders of two of the 1991 Notes, all of which 1991 Notes were prepaid in November 1996. The 1991 Notes held by Manufacturers Life and American Country bore interest at the rate of 7% per annum and, upon payment, were in the remaining respective principal amounts of $1.2 million and $300,000. Based on its experience in connection with their placement, the Company believes that the terms of the 1991 Notes were no less favorable to the Company than would obtain were they all issued to purchasers unaffiliated with the Company. Non-Competition Agreements Messrs. Tessler, Sellers, and Gross are parties to non-competition agreements with Enhance Financial prohibiting them from, among other things, competing with the Company for a period of two years following their respective cessation of employment by or service to the Company. Item 12. Security Ownership of Certain Beneficial Owners and Management. The following table sets forth certain information with respect to the beneficial ownership of the Common Stock as of March 14, 1997 by (a) each shareholder known to Enhance Financial to be the beneficial owner, within the meaning of Section 13(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), of more than 5% of the outstanding shares of Common Stock; (b) each director of Enhance Financial; (c) each of the five most highly compensated executive officers of Enhance Financial; and (d) all executive officers and directors of Enhance Financial as a group. Unless otherwise indicated, the address of each such person is c/o Enhance Financial Services Group Inc., 335 Madison Avenue, New York, New York 10017. 67 Number of Percent Name and Address Shares(1) of Class - ---------------- --------- -------- U S WEST, Inc. ................................. 5,430,800(2)(3) 29.8 7800 East Orchard Road Suite 200 Englewood, Colorado 80111 Franklin Resources, Inc. ....................... 945,100 5.2 777 Mariners Island Blvd San Mateo, CA 94404 FMR Corp. ...................................... 974,000 5.4 82 Devonshire St Boston, MA 02109 Swiss Reinsurance Company ...................... 1,000,000 5.5 Mythenquai 50/60 8022 Zurich Switzerland Allan R. Tessler ............................... 260,000(4)(5) 1.4 Wallace O. Sellers ............................. 412,125(4) 2.2 Daniel Gross .................................. 426,675(4) 2.3 Samuel Bergman ................................. 69,475(4) * Robert M. Rosenberg ............................ 137,350(4) * Ronald M. Davidow .............................. 105,475(4) * Tony M. Ettinger ............................... -0- -- Brenton W. Harries ............................. 8,000(5) * David R. Markin ................................ 109,000(5) * Robert P. Saltzman ............................. 60,000(6) -- Richard J. Shima ............................... 6,000(5) * Spencer R. Stuart .............................. 10,000(5) * Adrian U. Sulzer ............................... -0- -- Frieda K. Wallison ............................. 13,400(5) * Jerry Wind ..................................... 5,000 * All executive officers and directors as a group .......................... 1,685,370(7) 8.9 - ---------- * Less than 1% (1) The table in this section is based upon information supplied by directors, officers, and principal shareholders and Schedules 13D and 13G, if any, filed with the Securities and Exchange Commission. Unless otherwise indicated in the footnotes to the table and subject to the community property laws where applicable, each of the stockholders named in this table has sole voting and investment power with respect to the shares shown as beneficially owned by him or her. (2) In 1995, U S WEST consummated the sale of U S WEST's 7.625% Exchangeable Notes due December 15, 1998 ("Debt Exchangeable for Common Stock" or "DECS"). At maturity (including 68 as a result of acceleration or otherwise), the principal amount of the DECS will be mandatorily exchanged by U S WEST for up to 5,430,800 shares of Common Stock (or, at U S WEST's option under certain circumstances, the cash equivalent thereof). (3) See Item 13. "Certain Relationships and Related Transactions" for information regarding special powers of U S WEST under Enhance Financial's certificate of incorporation and the manner in which U S WEST has announced its intention to vote the shares owned by it. (4) Includes the shares set forth in: (a) Column A below issued to the named officer under the Incentive Plan which have not vested, (b) Column B below issuable to the named officer upon the exercise of presently exercisable options granted under the Incentive Plan and (c) Column C below owned by the named officer's wife and children or in trusts of which such officer is a trustee (as to which shares such officer disclaims beneficial ownership). Name A B C ---- -------------------------------------- Allan R. Tessler 0 29,000 2,000 Wallace O. Sellers 5,625 145,500 259,000 Daniel Gross 3,550 211,875 93,500 Samuel Bergman 0 65,625 3,850 Ronald M. Davidow 1,375 44,375 0 Robert M. Rosenberg 1,375 83,750 200 (5) Includes shares issuable upon the exercise of the presently exercisable portion of options granted to such director under the Directors' Option Plan, as follows: Brenton W. Harries -- 9,000 shares; David E. Markin -- 9,000 shares; Richard J. Shima -- 5,000 shares; Spencer R. Stuart -- 9,000 shares; Allan R. Tessler -- 9,000 shares; and Frieda K. Wallison -- 9,000 shares. (6) Held in a living trust account of which Mr. Saltzman and his wife are co-trustees. (7) Includes 57,000 shares issuable to the directors who are not employees of the Company upon the exercise of the presently exercisable portion of options granted to them under the Directors' Option Plan; 620,875 shares issuable to the executive officers upon the exercise of presently exercisable options granted to them under the Incentive Plan; 358,750 shares owned by spouses of executive officers in trusts of which such officers are trustees or by executive officers or their spouses as custodians for their children; and 11,925 shares issued under the Incentive Plan which have not vested. Such persons disclaim beneficial ownership of such shares owned by their spouses, individually or as custodians, or by such trusts. 69 Item 13. Certain Relationships and Related Transactions. U S WEST The certificate of incorporation of Enhance Financial grants to U S WEST the right to preclude the Company from entering into certain activities or owning an equity interest in any entity that engages in any such activity unless they are determined by U S WEST's legal counsel not to be prohibited to U S WEST and its subsidiaries under the Modification of Final Judgment (the "Judgment") entered in 1984 in connection with the settlement of the legal action entitled United States v. Western Electric Company, Inc. These activities consist of providing information services or long distance telephone service or manufacturing telecommunications equipment. The Company has not entered, and does not intend to enter, into any of the specified activities, and, accordingly, the aforesaid provision has not had, and is not expected to have, any material effect on the business of the Company. At such time as U S WEST ceases to own shares of Common Stock, Enhance Financial intends to propose at the next following meeting of shareholders the elimination of the aforesaid provision from the certificate of incorporation, which will require the vote of the holders of a majority of shares of Common Stock outstanding. U S WEST has advised Enhance Financial that it intends, but is not legally obligated, to vote its shares of Common Stock proportionately to the votes cast by non-U S WEST shareholders; provided, however, that if (i) a person or group of persons other than U S WEST is deemed to own more than 15% of the Common Stock within the meaning of Section 13(d) of the Exchange Act and (ii) there occurs a contested proxy solicitation within the meaning of Rule 14a-11(a) promulgated under the Exchange Act, U S WEST intends to vote its shares of Common Stock in a manner U S WEST deems appropriate. In addition, although U S WEST currently has no designees on the Enhance Financial board of directors, it has retained the right to nominate directors. Registration Rights Agreement The shares of Common Stock offered in connection with the sale of the DECS were registered pursuant to a registration rights agreement, dated October 31, 1986, as amended, among Enhance Financial, U S WEST and Swiss Re. Each of U S WEST and Swiss Re has one demand and unlimited piggyback registration rights, subject to certain limitations. Substantially all the expenses of any future demand or piggyback registration are to be borne by Enhance Financial. The registration rights agreement contains cross-indemnification covenants by Enhance Financial on the one hand and U S WEST and Swiss Re on the other for damages sustained and expenses incurred resulting from material misstatements or omissions in connection with any such offering. 70 Reinsurance of FSA Business U S WEST owns a substantial interest in FSA, a financial guaranty insurer which reinsures a portion of its business with the Company, all on terms and provisions equivalent to those in comparable transactions currently in effect with unaffiliated entities. FSA accounted for 14.2% of the Company's total gross premiums written in 1996. The Company believes that it and FSA conduct their business with each other on an arms'-length basis and with terms no more favorable to the other than would be the case absent the aforesaid relationship. However, no assurance can be given that conflicts of interest may not develop in the future or that the business conducted with FSA may not diminish in future periods regardless of whether payment of the DECS is made in the form of shares of Common Stock. See Item 1. "Business -- Description of Business -- Reinsurance of Monoline Financial Guaranty Insurers" and Item 12. "Security Ownership of Certain Beneficial Owners and Management." 71 PART IV Item 14. - Exhibits, Financial Statement Schedules, and Reports on Form 8-K. (a) The following documents are filed as a part of this report: (1) Financial Statements - See Part II, Item 8. (2) Financial Statement Schedules: All schedules are omitted, as the required information is nonapplicable or the information is presented in the financial statements or related notes. (3) Exhibits: 3.1.1 Restated certificate of incorporation of the registrant filed with the State of New York on February 18, 1992. (Incorporated by reference to Exhibit 3.3.1 to the Annual Report on Form 10-K for the year ended December 31, 1991 of the registrant.) 3.1.2 Certificate of amendment to the restated certificate of incorporation of the registrant filed with the State of New York on June 6, 1996. 3.2 By-laws of the registrant, as amended through December 3, 1991. (Incorporated by reference to Exhibit 3.2 to Amendment No. 1 filed with the Securities and Exchange Commission (the "Commission") on January 21, 1992 ("Amendment No. 1") to the registrant's Registration Statement on Form S-1 (File No. 33-44322) filed with the Commission on December 11, 1991 (the "1991 Registration Statement")). 4.1 Specimen certificate evidencing shares of Common Stock. (Incorporated by reference to Exhibit 4.1 to Amendment No. 4 to the 1991 Registration Statement, filed with the Commission on February 12, 1992 ("Amendment No. 4")). 4.2.1 Amended and restated credit agreement dated as of November 24, 1992, as amended and restated October 1, 1996 (the "Credit Agreement"), among the registrant and The Chase Manhattan Bank ("Chase"), as lender and administrative agent, and Fleet National Bank and Bank of Tokyo-Mitsubishi Trust Company, as lenders. 4.2.2 Bank pledge agreement dated as of November 24, 1992 between the registrant and Chase, as agent and lender. (Incorporated by reference to Exhibit 4.3.2 to the Registration Statement on Form S-1 (File No. 33-55958) filed with the Commission on December 18, 1992 (the "1992 Registration Statement")). 4.3.1 Form of Indenture dated as of February ____, 1993 (the "Indenture") between the registrant and Chase, as Trustee. (Incorporated by reference to Exhibit 4.1 to Amendment No. 2 to the 1992 Registration Statement, filed with the Commission on February 10, 1993 ("Amendment No. 2")). 72 4.3.2 Form of Enhance Financial Services Group Inc. ____% Debentures due 2003. (Incorporated by reference to Exhibit 4.3.3 to Amendment No. 2 to the 1992 Registration Statement.) 10.1.1 Non-competition agreement dated as of March 5, 1986 between the registrant and Allan R. Tessler. (Incorporated by reference to Exhibit 10.2.1 to the 1991 Registration Statement.) 10.1.2 Non-competition agreement dated as of March 5, 1986 between the registrant and Wallace O. Sellers. (Incorporated by reference to Exhibit 10.2.2 to the 1991 Registration Statement.) 10.1.3 Non-competition agreement dated as of March 5, 1986 between the registrant and Daniel J. Gross. (Incorporated by reference to Exhibit 10.2.3 to the 1991 Registration Statement.) 10.2.1 1987 Long Term Incentive Plan for Key Employees, as amended (the "Incentive Plan"). 10.2.2 Form of option grant certificate for all other employees under the Incentive Plan for options granted in December 1996. 10.3.1 Non-Employee-Director Stock Option Plan (the "Directors' Option Plan"). (Incorporated by reference to Exhibit 10.6.4 to the 1992 Registration Statement.) 10.3.2 Form of option grant certificate under the Directors' Option Plan for options granted in 1996. (Incorporated by reference to Exhibit 10.6.5 to the 1992 Registration Statement.) 10.4 Initial Purchasers' Registration Rights Agreement dated as of March 5, 1986 among the registrant and certain of its employees. (Incorporated by reference to Exhibit 10.7 to the 1991 Registration Statement.) 10.5.1 Subscribers' Registration Rights Agreement dated as of October 31, 1986 among the registrant and certain of its shareholders (the "Registration Rights Agreement"). (Incorporated by reference to Exhibit 10.8.1 to Amendment No. 1 to the 1991 Registration Statement.) 10.5.2 Amendment No. 1 dated as of April 1, 1987 to the Registration Rights Agreement. (Incorporated by reference to Exhibit 10.8.2 to the 1991 Registration Statement.) 10.5.3 Amendment No. 2 dated as of May 10, 1988 to the Registration Rights Agreement. (Incorporated by reference to Exhibit 10.8.3 to the 1991 Registration Statement.) 10.5.4 Combined Amendments to Registration Rights Agreements dated as of June 29, 1990 (including Amendment No. 3 to the Registration Rights Agreement). (Incorporated by reference to Exhibit 10.8.4 to the 1991 Registration Statement.) 10.5.5 Amendment No. 4 dated as of December 19, 1991 to the Registration Rights Agreement. (Incorporated by reference to Exhibit 10.8.5 to Amendment No. 1 to the 1991 Registration Statement.) 10.5.6 Letter agreement dated October 3, 1995 between the registrant and The Manufacturers Life Insurance Company constituting Amendment No. 5 to the Registration Rights Agreement. 73 (Incorporated by reference to Exhibit 10.3 to the registration statement on Form S-3 (File No. 333-2064) filed with the Commission on March 8, 1996 (the "1996 Registration Statement")). 10.5.7 Amendment No. 6 dated February 23, 1996 to the Registration Rights Agreement. (Incorporated by reference to Exhibit 10.4 to the 1996 Registration Statement.) 10.6 Employment agreement dated July 16, 1996 between the registrant and Arthur Dubroff. 10.7 Stock purchase agreement dated February 9, 1996 among the registrant, The Manufacturers Life Insurance Company, Manulife (International) Limited and Swiss Reinsurance Company. (Incorporated by reference to Exhibit 10.1 to the 1996 Registration Statement.) 22.1 Subsidiaries of the registrant. (Incorporated by reference to Exhibit 22.1 to Amendment No. 2 to the 1992 Registration Statement.) 25.1 Power of Attorney. (Included on signature page of this report.) (b) Reports on Form 8-K. The Company did not file any reports on Form 8-K during the fourth quarter of 1996. 74 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 22, 1997. ENHANCE FINANCIAL SERVICES GROUP INC. By: /s/ Daniel Gross ---------------------------- Daniel Gross President and Chief Executive Officer POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Daniel Gross and Samuel Bergman, and each of them individually, as his or her true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him and his name, place and stead in any and all capacities, to sign any or all amendments to this report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he or she might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents, or their substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirement of the Securities Exchange Act of 1934, this report has been signed below on March 22, 1997 by the following persons on behalf of the registrant and in the capacities and on the dates indicated. By: /s/ Daniel Gross ---------------------------- Daniel Gross President and Chief Executive Officer and a director (principal executive officer) By: /s/ Arthur Dubroff ---------------------------- Arthur Dubroff Executive Vice President (principal financial officer and principal accounting officer) By: /s/ Brenton W. Harries ---------------------------- Brenton W. Harries Director By: /s/ David R. Markin ---------------------------- David R. Markin Director By: /s/ Wallace O. Sellers ---------------------------- Wallace O. Sellers Director By: /s/ Richard J. Shima ---------------------------- Richard J. Shima Director By: /s/ Robert P. Saltzman ---------------------------- Robert P. Saltzman Director By: /s/ Spencer R. Stuart ---------------------------- Spencer R. Stuart Director By: /s/ Adrian U. Sulzer ---------------------------- Adrian U. Sulzer Director By: /s/ Allan R. Tessler ---------------------------- Allan R. Tessler Director By: /s/ Frieda K. Wallison ---------------------------- Frieda K. Wallison Director By: /s/ Jerry Wind ---------------------------- Jerry Wind Director EX-3.1.2 2 CERTIFICATE OF AMENDMENT CERTIFICATE OF AMENDMENT OF THE CERTIFICATE OF INCORPORATION OF ENHANCE FINANCIAL SERVICES GROUP INC. Under Section 805 of the Business Corporation Law of the State of New York Enhance Financial Services Group Inc. 335 Madison Avenue New York, New York 10017 CERTIFICATE OF AMENDMENT OF THE CERTIFICATE OF INCORPORATION OF ENHANCE FINANCIAL SERVICES GROUP INC. Under Section 805 of the Business Corporation Law ----------------------- The undersigned, officers of Enhance Financial Services Group Inc. (the "Corporation"), do hereby certify that: 1. The name of the Corporation is Enhance Financial Services Group Inc. It was formed under the name Enhance Financial Services Inc. 2. The certificate of incorporation of the Corporation was filed by the department of state on December 4, 1995. 3. The certificate of incorporation of the Corporation is hereby amended to authorize the issuance of a new class of five million shares of preferred stock, par value $.01 per share, and to effect such amendment Article FOURTH of the certificate of incorporation is hereby amended in its entirety to read as follows: FOURTH. The aggregate number of shares which the Corporation shall have authority to issue is 35,000,000 of which 5,000,000 shares of the par value of $.0l per share shall be designated "Preferred Stock" and 30,000,000 shares of the par value of $.10 per share shall be designated "Common Stock." Authority is hereby expressly granted to the board of directors, at any time and from time to time, to issue the Preferred Stock as Preferred Stock of any series and, in connection with the creation of each such series, to fix by the resolution or resolutions providing for the issue of shares thereof, the number of shares of such series and the designation and the voting, dividend, liquidation and other rights, preferences and limitations of such series, to the fullest extent now or hereafter permitted by the laws of the State of New York. 4. The amendment to the certificate of incorporation was authorized by an affirmative vote of the holders of at least a majority of all outstanding shares entitled to vote on an amendment to the certificate of incorporation at a meeting of shareholders, said authorization being subsequent to the affirmative vote of the board of directors. IN WITNESS WHEREOF, we hereunto sign our names and affirm that the statements made herein are true under the penalties and perjury, this 6th day of June 1996. /s/ Daniel Gross ----------------------------------- Daniel Gross, President /s/ Samuel Bergman ----------------------------------- Samuel Bergman, Secretary EX-4.2.1 3 AMENDED AND RESTATED CREDIT AGREEMENT [Conformed Counterpart] =============================================================== ENHANCE FINANCIAL SERVICES GROUP INC. ----------------------------- AMENDED AND RESTATED CREDIT AGREEMENT Dated as of November 24, 1992 Amended and Restated as of October 1, 1996 ------------------------------ $60,000,000 ------------------------------ THE CHASE MANHATTAN BANK, as Administrative Agent -2- =============================================================== Exhibits C and D are copies of the opinions as delivered. TABLE OF CONTENTS This Table of Contents is not part of the Agreement to which it is attached but is inserted for convenience of reference only. Page ---- Section 1. Definitions and Accounting Matters............................. 1 1.01 Certain Defined Terms.......................................... 1 1.02 Accounting Terms and Determinations............................ 16 1.03 Classes; Series; Type.......................................... 17 Section 2. Commitments, Loans, Notes and Prepayments...................... 17 2.01 Loans.......................................................... 17 2.02 Borrowings..................................................... 19 2.03 Changes in Aggregate Amount of Commitments..................... 21 2.04 Commitment Fee................................................. 21 2.05 Several Obligations; Remedies Independent...................... 22 2.06 Notes.......................................................... 22 2.07 Optional Prepayments and Conversions or Continuations of Loans..................................... 23 2.08 Mandatory Prepayments of Loans or Pledge of Additional Shares.......................................... 24 2.09 Extension of Commitment Termination Date....................... 25 Section 3. Payments of Principal and Interest............................. 25 3.01 Repayment of Loans............................................. 25 3.02 Interest....................................................... 26 Section 4. Payments; Pro Rata Treatment; Computations; Etc....................................................... 27 4.01 Payments....................................................... 27 4.02 Pro Rata Treatment............................................. 28 4.03 Computations................................................... 29 Credit Agreement - ii - Page ---- 4.04 Minimum Amounts................................................ 29 4.05 Certain Notices................................................ 30 4.06 Non-Receipt of Funds by the Administrative Agent............... 31 4.07 Sharing of Payments, Etc....................................... 32 Section 5. Yield Protection, Etc.......................................... 33 5.01 Additional Costs............................................... 33 5.02 Limitation on Types of Loans................................... 36 5.03 Illegality..................................................... 36 5.03A Treatment of Affected Loans................................... 37 5.04 Compensation................................................... 37 5.05 U.S. Taxes..................................................... 38 5.06 Fair Allocation; Substitution of Banks......................... 39 Section 6. Conditions Precedent........................................... 41 6.01 Amendment Effective Date....................................... 41 6.02 Term Loans..................................................... 43 6.03 Initial and Subsequent Loans................................... 43 Section 7. Representations and Warranties................................. 44 7.01 Corporate Existence............................................ 44 7.02 Financial Condition............................................ 44 7.03 Litigation..................................................... 45 7.04 No Breach...................................................... 45 7.05 Action......................................................... 46 7.06 Approvals...................................................... 46 7.07 Margin Stock................................................... 46 7.08 ERISA.......................................................... 47 7.09 Taxes.......................................................... 47 7.10 Investment Company Act......................................... 47 7.11 Public Utility Holding Company Act............................. 47 7.12 Material Agreements and Liens.................................. 47 7.13 Environmental Matters.......................................... 48 7.14 Capitalization................................................. 48 7.15 Subsidiaries, Etc.............................................. 48 Credit Agreement - iii - Page ---- 7.16 True and Complete Disclosure................................... 49 Section 8. Covenants of the Company....................................... 49 8.01 Financial Statements; Information; Etc......................... 50 8.02 Litigation..................................................... 54 8.03 Existence, Etc................................................. 54 8.04 Insurance...................................................... 55 8.05 Prohibition of Fundamental Changes............................. 55 8.06 Limitation on Liens............................................ 56 8.07 Indebtedness................................................... 58 8.08 Investments.................................................... 58 8.09 Restricted Payments............................................ 59 8.10 Financial Covenants............................................ 60 8.11 Capital Expenditures........................................... 61 8.12 Lines of Business.............................................. 61 8.13 Transactions with Affiliates................................... 61 8.14 Use of Proceeds................................................ 62 8.15 Certain Obligations Respecting Subsidiaries.................... 62 8.16 Modifications of Certain Documents............................. 62 8.17 Claims-Paying Rating........................................... 63 8.18 Dividends to or Investments in the Company by Subsidiaries............................................... 63 Section 9. Events of Default.............................................. 63 Section 10. The Administrative Agent...................................... 66 10.01 Appointment, Powers and Immunities............................ 66 10.02 Reliance by Administrative Agent.............................. 67 10.03 Defaults...................................................... 67 10.04 Rights as a Bank.............................................. 68 10.05 Indemnification............................................... 68 10.06 Non-Reliance on Administrative Agent and Other Banks...................................................... 69 10.07 Failure to Act................................................ 69 10.08 Resignation or Removal of Administrative Agent................ 70 10.09 Consents under Basic Documents................................ 70 Credit Agreement - iv - Page ---- Section 11. Miscellaneous................................................. 71 11.01 Waiver........................................................ 71 11.02 Notices....................................................... 71 11.03 Expenses, Etc................................................. 71 11.04 Amendments, Etc............................................... 72 11.05 Successors and Assigns........................................ 73 11.06 Assignments and Participations................................ 73 11.07 Survival...................................................... 75 11.08 Captions...................................................... 76 11.09 Counterparts.................................................. 76 11.10 Governing Law; Submission to Jurisdiction..................... 76 11.11 Waiver of Jury Trial.......................................... 76 11.12 Treatment of Certain Information; Confidentiality............................................ 76 11.13 Acknowledgement and Consent................................... 77 SCHEDULE I - Material Agreements and Liens SCHEDULE II - Subsidiaries SCHEDULE III - Litigation EXHIBIT A-1 - Form of Revolving Credit Note EXHIBIT A-2 - Form of Term Loan Note EXHIBIT B - Form of Pledge Agreement EXHIBIT C - Form of Opinion of General Counsel to the Company EXHIBIT D - Form of Opinion of Special New York Counsel to Chase EXHIBIT E - Form of Confidentiality Agreement EXHIBIT F - Form of Assignment and Acceptance Credit Agreement AMENDED AND RESTATED CREDIT AGREEMENT dated as of November 24, 1992, amended and restated as of October 1, 1996 among: ENHANCE FINANCIAL SERVICES GROUP INC., a corporation duly organized and validly existing under the laws of the State of New York (together with its successors and assigns, the "Company"); each of the lenders named under the caption "BANKS" on the signature pages hereof (together with its successors and assigns, individually, a "Bank", together, the "Banks"); and THE CHASE MANHATTAN BANK, as Swingline Bank hereunder (in such capacity, together with its successors and permitted assigns in such capacity, the "Swingline Bank") and as agent for the Banks (in such capacity, together with its successors in such capacity, the "Administrative Agent"). The Company, certain of the Banks (the "Existing Banks") and the Administrative Agent are party to the Credit Agreement dated as of November 24, 1992 (as in effect immediately prior to the Amendment Effective Date defined below, the "Existing Credit Agreement"). The Company has requested that the Existing Banks and the Administrative Agent, and the Banks and the Administrative Agent are willing to, amend and restate the Existing Credit Agreement to provide, among other things, for an increase in the Commitments and an addition of a Bank and for Base Rate Loans and Swingline Loans (each as defined below), on the terms and conditions hereof. Accordingly, the parties hereto agree to amend and restate the Existing Credit Agreement so that, as amended and restated, it reads in its entirety as herein provided. Section 1. Definitions and Accounting Matters. 1.01 Certain Defined Terms. As used herein, the following terms shall have the following meanings (all terms defined in this Section 1.01 or in other provisions of this Agreement in the singular to have the same meanings when used in the plural and vice versa): Credit Agreement -2- "Affiliate" shall mean, as to any specified Person, any other Person that directly or indirectly controls, or is under common control with, or is controlled by, such specified Person. As used in this definition, "control" (including, with its correlative meanings, "controlled by" and "under common control with") shall mean possession, directly or indirectly, of power to direct or cause the direction of management or policies (whether through ownership of securities or partnership or other ownership interests, by contract or otherwise), provided that, in any event, any Person that owns directly or indirectly securities having 10% or more of the voting power for the election of directors or other governing body of a corporation or 10% or more of the partnership or other ownership interests of any other Person will be deemed to control such corporation or other Person. Notwithstanding the foregoing, (a) no individual shall be an Affiliate of any Person or any of its Subsidiaries solely by reason of such individual being a director, officer or employee of such Person or any of its Subsidiaries, (b) a Person and its Subsidiaries shall not be Affiliates of each other and (c) neither the Administrative Agent nor any Bank shall be an Affiliate of the Company or any of its Subsidiaries. "Amendment Effective Date" shall mean the date on which all of the conditions set forth in Section 6.01 hereof shall have been satisfied or waived by the Banks and the Administrative Agent. "Applicable Insurance Regulatory Authority" shall mean, with respect to any Insurance Subsidiary, the insurance department or similar insurance regulatory or administrative authority or agency of the state in which such Insurance Subsidiary is domiciled. "Applicable Lending Office" shall mean, for each Bank and each Type of Loan, the "Lending Office" of such Bank (or of an affiliate of such Bank) designated for such Type of Loan on the signature pages hereof or such other office of such Bank (or of an affiliate of such Bank) as such Bank may from time to time specify to the Administrative Agent and the Company as the office by which its Loans of a Type are to be made and maintained. The Credit Agreement -3- Swingline Loans shall be made and maintained at the "Lending Office" of the Swingline Bank. "Applicable Margin" shall mean: (a) with respect to Revolving Credit Loans (i) that are Base Rate Loans, 0% per annum and (ii) that are Eurodollar Loans, 0.40%; and (b) with respect to Term Loans (i) that are Base Rate Loans, 0% per annum and (ii) that are Eurodollar Loans, 0.50% per annum. "Asset Guaranty" shall mean Asset Guaranty Reinsurance Company, a New York financial guaranty insurance company and a Wholly Owned Subsidiary of the Company. "Available Cash Flow" shall mean, for any period, the sum, for the Company (determined on an unconsolidated, stand-alone basis in accordance with GAAP), of the following: (a) income from operations (calculated before taxes, Debt Service, extraordinary and unusual items, and income or loss attributable to equity in Affiliates of the Company) for such period plus (b) dividends received from Subsidiaries of the Company during such period plus (c) dividends declared by Subsidiaries of the Company during such period but not yet paid plus (d) without duplication of any amount included above, the aggregate amount of dividends legally available for payment by each Subsidiary of the Company as of the last day of such period to the extent such payment would not result in a Default hereunder. "Bankruptcy Code" shall mean the Federal Bankruptcy Code of 1978, as amended from time to time. "Base Rate" shall mean, for any day, a rate per annum equal to the higher of (a) the Federal Funds Rate for such day plus 1/2 of 1% and (b) the Prime Rate for such day. Each change in any interest rate provided for herein based upon the Base Rate resulting from a change in the Base Rate shall take effect at the time of such change in the Base Rate. "Base Rate Loans" shall mean Loans that bear interest at rates based upon the Base Rate. Credit Agreement -4- "Basic Documents" shall mean, collectively, this Agreement, the Notes and the Pledge Agreement. "Business Day" shall mean any day (a) on which commercial banks are not authorized or required to close in New York City and (b) if such day relates to a borrowing of, a payment or prepayment of principal of or interest on, a Conversion of or into, or an Interest Period for, a Eurodollar Loan or a notice by the Company with respect to any such borrowing, payment, prepayment, Conversion or Interest Period, also on which dealings in Dollar deposits are carried out in the London interbank market. "Capital Expenditures" shall mean, for any period, expenditures (including, without limitation, the aggregate amount of Capital Lease Obligations incurred during such period) made by the Company or any of its Subsidiaries to acquire or construct fixed assets, plant and equipment (including renewals, improvements and replacements, but excluding repairs) during such period computed in accordance with GAAP. "Capital Lease Obligations" shall mean, for any Person, all obligations of such Person to pay rent or other amounts under a lease of (or other agreement conveying the right to use) Property to the extent such obligations are required to be classified and accounted for as a capital lease on a balance sheet of such Person under GAAP (including Statement of Financial Accounting Standards No. 13 of the Financial Accounting Standards Board), and, for purposes of this Agreement, the amount of such obligations shall be the capitalized amount thereof, determined in accordance with GAAP (including such Statement No. 13). "Change in Control" shall mean, with respect to the Company, the occurrence of a state of facts where (a) any one Person, together with its Subsidiaries and Affiliates, or any group of Persons acting together as a group (whether pursuant to a shareholders agreement, partnership or joint venture agreement or otherwise), shall own (beneficially or otherwise) 50% or more of the Voting Stock of the Company (except where such circumstance shall obtain as a result of the arrangement existing Credit Agreement -5- on the date hereof as set forth in the Shareholders' Agreement, or (b) the Company is or would be required to register itself as a "controlled insurer" under Section 1503 of the New York Insurance Law, or (c) the Company is or would be required under Section 1506(e) of the New York Insurance Law to notify the New York State Superintendent of Insurance of a Person which controls or has acquired control of the Company, or (d) a Person has filed under Section 1506(a) of the New York Insurance Law to obtain the prior approval of the New York State Superintendent of Insurance to acquire control of the Company and such approval has been obtained. "Chase" shall mean The Chase Manhattan Bank. "Class" shall have the meaning assigned to such term in Section 1.03 hereof. "Closing Date" shall mean the date upon which the initial Loans hereunder are made. "Code" shall mean the Internal Revenue Code of 1986, as amended from time to time. "Collateral Account" shall have the meaning assigned to such term in Section 4.01 of the Pledge Agreement. "Commitment" shall mean, as to each Bank, the obligation of such Bank to make Loans in an aggregate amount not exceeding the amount set opposite such Bank's name on the signature pages hereof under the caption "Commitment" (as the same may be reduced at any time or from time to time pursuant to Section 2.03 hereof). "Commitment Termination Date" shall mean September 30, 1997 (provided that, if such date is not a Business Day, the next preceding Business Day), as the same may be extended pursuant to Section 2.09 hereof. "Computation Date" shall have the meaning in Section 8.09 hereof. Credit Agreement -6- "Computation Period" shall have the meaning assigned to such term in Section 8.09 hereof. "Consent Date" shall have the meaning assigned to such term in Section 2.09 hereof. "Continue", "Continuation" and "Continued" shall refer to the continuation pursuant to Section 2.07 hereof of a Eurodollar Loan from one Interest Period to the next Interest Period. "Convert", "Conversion" and "Converted" shall refer to a conversion pursuant to Section 2.07 hereof of one Type of Loans into another Type of Loans, which may be accompanied by the transfer by a Bank (at its sole discretion) of a Loan from one Applicable Lending Office to another. "date hereof" and "date of this Agreement" shall mean November 24, 1992. "Debt Service" shall mean, for any period, the sum, for the Company and its Subsidiaries (determined on a consolidated basis without duplication in accordance with GAAP), of the following: (a) Interest Expense plus (b) 1/3 of all lease payments (net of any amounts received from subtenants with respect to such leases) plus (c) the amount of dividends due and redemptions paid in respect of Preferred Stock during such period plus (d) the amount of mandatory repayment of the principal of Indebtedness due during such period. "Default" shall mean an Event of Default or an event that with notice or lapse of time or both would become an Event of Default. "Dollars" and "$" shall mean lawful money of the United States of America. "Equity Rights" shall mean, with respect to any Person, any outstanding subscriptions, options, warrants, commitments, preemptive rights or agreements of any kind (including, without Credit Agreement -7- limitation, any stockholders' or voting trust agreements) for the issuance, sale, registration or voting of, or outstanding securities convertible into, any additional shares of capital stock of any class, or partnership or other ownership interests of any type in, such Person. "ERC" shall mean Enhance Reinsurance Company, a New York financial guaranty insurance corporation and a Wholly Owned Subsidiary of the Company. "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as amended from time to time. "ERISA Affiliate" shall mean any corporation or trade or business that is a member of any group of organizations (a) described in Section 414(b) or (c) of the Code of which the Company is a member and (b) solely for purposes of potential liability under Section 302(c)(11) of ERISA and Section 412(c)(11) of the Code and the lien created under Section 302(f) of ERISA and Section 412(n) of the Code, described in Section 414(m) or (o) of the Code of which the Company is a member. "Eurodollar Base Rate" shall mean, with respect to any Eurodollar Loan for any Interest Period therefor, the arithmetic mean (rounded upwards, if necessary, to the nearest 1/16 of 1%), as determined by the Administrative Agent, of the respective rates per annum quoted by the Reference Banks at approximately 11:00 a.m. London time (or as soon thereafter as practicable) on the date two Business Days prior to the first day of such Interest Period for the offering by such Reference Bank to leading banks in the London interbank market of Dollar deposits having a term comparable to such Interest Period and in an amount comparable to the principal amount of the Eurodollar Loan to be made by such Reference Bank for such Interest Period. If any Reference Bank or Reference Banks do not timely furnish information for determination of any Eurodollar Base Rate, the Administrative Agent shall determine such Eurodollar Base Rate on the basis of information timely furnished by the remaining Reference Banks or Reference Bank. Credit Agreement -8- "Eurodollar Loans" shall mean Loans that bear interest at rates based on rates referred to in the definition of "Eurodollar Base Rate" in this Section 1.01. "Eurodollar Rate" shall mean, for any Eurodollar Loan for any Interest Period therefor, a rate per annum (rounded upwards, if necessary, to the nearest 1/100 of 1%) determined by the Administrative Agent to be equal to the quotient of (a) the Eurodollar Base Rate for such Loan for such Interest Period divided by (b) the sum of (i) 1 minus (ii) the Reserve Requirement for such Loan for such Interest Period. "Event of Default" shall have the meaning assigned to such term in Section 9 hereof. "Existing Banks" shall have the meaning assigned to such term in the recitals hereto. "Existing Commitment Termination Date" shall have the meaning assigned to such term in Section 2.09 hereof. "Existing Loans" shall mean the loans outstanding under the Existing Credit Agreement on the Amendment Effective Date. "Federal Funds Rate" shall mean, for any day, the rate per annum (rounded upwards, if necessary, to the nearest 1/100 of 1%) equal to the weighted average of the rates on overnight Federal funds transactions with members of the Federal Reserve System arranged by Federal funds brokers on such day, as published by the Federal Reserve Bank of New York on the Business Day next succeeding such day, provided that (a) if the day for which such rate is to be determined is not a Business Day, the Federal Funds Rate for such day shall be such rate on such transactions on the next preceding Business Day as so published on the next succeeding Business Day and (b) if such rate is not so published for any Business Day, the Federal Funds Rate for such Business Day shall be the average rate charged to Chase on such Business Day on such transactions as reasonably determined by the Administrative Agent. Credit Agreement -9- "Fixed Charge Coverage Ratio" shall mean, for any period, the ratio of (a) Available Cash Flow for such period to (b) Debt Service for such period. "Funded Debt" shall mean Indebtedness of the Company and its Subsidiaries which by its terms becomes payable more than one year from the date of origination thereof or which is renewable at the option of the Company or any of its Subsidiaries beyond one year from the date of such origination. "GAAP" shall mean the generally accepted accounting principles which, in accordance with Section 1.02(a) hereof, are to be used in preparing financial statements on the basis of which are to be made the calculations for purposes of determining compliance with the financial covenants in this Agreement. "Guarantee" shall mean a guarantee, an endorsement, a contingent agreement to purchase or to furnish funds for the payment or maintenance of, or otherwise to be or become contingently liable under or with respect to, the Indebtedness, other obligations, net worth, working capital or earnings of any Person, or a guarantee of the payment of dividends or other distributions upon the stock or equity interests of any Person, or an agreement to purchase, sell or lease (as lessee or lessor) Property, products, materials, supplies or services primarily for the purpose of enabling a debtor to make payment of such debtor's obligations or an agreement to assure a creditor against loss, and including, without limitation, causing a bank or other financial institution to issue a letter of credit or other similar instrument for the benefit of another Person, but excluding endorsements for collection or deposit in the ordinary course of business; provided that the term Guarantee shall not include any financial guaranty insurance, credit insurance or residual value insurance (or any reinsurance of the same), or similar or related products, issued by any Insurance Subsidiary in the ordinary course of its business. The terms "Guarantee" and "Guaranteed" used as a verb shall have a correlative meaning. "Indebtedness" shall mean, for any Person: (a) obligations created, issued or incurred by such Person for Credit Agreement -10- borrowed money (whether by loan, the issuance and sale of debt securities or the sale of Property to another Person subject to an understanding or agreement, contingent or otherwise, to repurchase such Property from such Person); (b) all Redeemable Preferred Stock issued by such Person; (c) obligations of such Person to pay the deferred purchase or acquisition price of Property or services, other than trade accounts payable (other than for borrowed money) arising, and accrued expenses incurred, in the ordinary course of business so long as such trade accounts payable are payable within 90 days of the date the respective goods are delivered or the respective services are rendered; (d) Indebtedness of others secured by a Lien on the Property of such Person, whether or not the respective Indebtedness so secured has been assumed by such Person; (e) obligations (contingent or otherwise) of such Person in respect of letters of credit, bankers' acceptances or similar instruments issued or accepted by banks and other financial institutions for account of such Person; (f) Capital Lease Obligations of such Person; and (g) Indebtedness of others Guaranteed by such Person; provided that accrued profit commissions shall not be treated as Indebtedness. "Insurance Subsidiaries" shall mean ERC, Asset Guaranty and any other Subsidiary of the Company that is licensed to do an insurance business by an Applicable Insurance Regulatory Authority. "Interest Expense" shall mean, for any period, the sum, for the Company and its Subsidiaries (determined on a consolidated basis without duplication in accordance with GAAP), of the following: (a) all interest in respect of Indebtedness accrued or capitalized during such period (whether or not actually paid during such period) plus (b) the net amounts payable (or minus the net amounts receivable) under Interest Rate Protection Agreements accrued during such period (whether or not actually paid or received during such period). "Interest Period" shall mean (a) with respect to any Revolving Credit Loan that is a Eurodollar Loan, each period commencing on the date such Eurodollar Loan is made or Converted Credit Agreement -11- from a Base Rate Loan or (in the event of a Continuation) the last day of the next preceding Interest Period and ending on the numerically corresponding day in the first, second or third calendar month thereafter, as the Company may select as provided in Section 4.05 hereof, and (b) with respect to any Term Loan that is a Eurodollar Loan, each period commencing on the date such Term Loan is made or Converted from a Base Rate Loan or (in the event of a Continuation) the last day of the next preceding Interest Period and ending on the numerically corresponding day in the first, second, third or sixth calendar month thereafter, as the Company may select as provided in Section 4.05 hereof, except that each Interest Period that commences on the last Business Day of a calendar month (or on any day for which there is no numerically corresponding day in the appropriate subsequent calendar month) shall end on the last Business Day of the appropriate subsequent calendar month and (c) with respect to any Swingline Loan, the period commencing on the date such Swingline Loan is made and ending on the date three Business Days thereafter. Notwithstanding the foregoing: (i) the Company may not select any Interest Period for any Revolving Credit Loan that ends after the Commitment Termination Date; (ii) no Interest Period for any Series of Term Loans may commence before and end after any Principal Payment Date for such Series of Term Loans unless, after giving effect thereto, the aggregate principal amount of Term Loans of such Series having Interest Periods that end after such Principal Payment Date shall be equal to or less than the aggregate principal amount of such Term Loans scheduled to be outstanding after giving effect to the payments of principal required to be made on such Principal Payment Date; and (iii) each Interest Period that would otherwise end on a day which is not a Business Day shall end on the next succeeding Business Day (or, with respect to Eurodollar Loans, if such next succeeding Business Day falls in the next succeeding calendar month, on the next preceding Business Day). "Interest Rate Protection Agreement" shall mean, for any Person, an interest rate swap, cap or collar agreement or similar arrangement between such Person and one or more financial institutions providing for the transfer or mitigation of interest risks either generally or under specific contingencies. Credit Agreement -12- "Investment" shall mean, for any Person: (a) the acquisition (whether for cash, Property, services or securities or otherwise) of capital stock, bonds, notes, debentures, partnership or other ownership interests or other securities of any other Person or any agreement to make any such acquisition (including, without limitation, any "short sale" or any sale of any securities at a time when such securities are not owned by the Person entering into such short sale); (b) the making of any deposit with, or advance, loan or other extension of credit to, any other Person (including the purchase of Property from another Person subject to an understanding or agreement, contingent or otherwise, to resell such Property to such Person, but excluding any such advance, loan or extension of credit having a term not exceeding 90 days representing the purchase price of inventory or supplies sold by such Person in the ordinary course of business) and (without duplication) the entering into of any commitment to deposit funds with, advance or lend funds to or otherwise extend credit to such Person; (c) the entering into of any Guarantee of Indebtedness of any other Person; or (d) the entering into of any Interest Rate Protection Agreement; provided that the term "Investment" shall not include (i) the ownership interest of the Company and its Subsidiaries on the date hereof in the capital stock of any Subsidiary of the Company other than Vantage America, Inc. or (ii) any capital contribution or loan by the Company or by any Wholly Owned Subsidiary of the Company to the Company or to any Wholly Owned Subsidiary of the Company. "Lien" shall mean, with respect to any Property, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind in respect of such Property. For purposes of this Agreement and the other Basic Documents, a Person shall be deemed to own subject to a Lien any Property that it has acquired or holds subject to the interest of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement (other than an operating lease) relating to such Property. "Loans" shall mean the Revolving Credit Loans, Term Loans, and the Swingline Loans. Credit Agreement -13- "Majority Banks" shall mean Banks having at least 66-2/3% of the aggregate amount of the Commitments or, if the Commitments shall have terminated, Banks holding at least 66-2/3% of the aggregate unpaid principal amount of the Loans. "Margin Stock" shall mean "margin stock" within the meaning of Regulations U and X. "Material Adverse Effect" shall mean a material adverse effect on (a) the Property, business, operations, financial condition, prospects, liabilities or capitalization of the Company and its Subsidiaries taken as a whole, (b) the ability of the Company to perform its obligations under any of the Basic Documents, (c) the validity or enforceability of any of the Basic Documents, (d) the rights and remedies of the Banks and the Administrative Agent under any of the Basic Documents or (e) the timely payment of the principal of or interest on the Loans or other amounts payable in connection therewith. "Material Subsidiary" shall mean any Subsidiary of the Company other than Vantage American, Inc., Guaranty Risk Services, Inc., AG Intermediaries, Inc., Orleans Acquisition Corporation, Enhance Reinsurance Bermuda Ltd. and Litton Loan Servicing Inc. and their respective Subsidiaries. "Multiemployer Plan" shall mean a multiemployer plan defined as such in Section 3(37) of ERISA to which contributions have been made by the Company or any ERISA Affiliate and which is covered by Title IV of ERISA. "Net Worth" shall mean, as at any date, the sum, for the Company and its Subsidiaries (determined on a consolidated basis without duplication in accordance with GAAP), of the following: (a) the amount of capital stock (other than any Redeemable Preferred Stock), plus Credit Agreement -14- (b) the amount of additional paid-in capital and retained earnings (or, in the case of a retained earnings deficit, minus the amount of such deficit). "Notes" shall mean the Revolving Credit Notes and the Term Loan Notes and the Swingline Note. "PBGC" shall mean the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA. "Person" shall mean any individual, corporation, company, voluntary association, partnership, joint venture, trust, unincorporated organization or government (or any agency, instrumentality or political subdivision thereof). "Plan" shall mean an employee benefit or other plan established or maintained by the Company or any ERISA Affiliate and that is covered by Title IV of ERISA, other than a Multiemployer Plan. "Pledge Agreement" shall mean a Pledge Agreement, substantially in the form of Exhibit B hereto, between the Company and the Administrative Agent, as the same shall be modified and supplemented and in effect from time to time. "Pledged Stock" shall have the meaning assigned to such term in the Pledge Agreement. "Post-Default Rate" shall mean, in respect of any principal of any Loan or any other amount under this Agreement, any Note or any other Basic Document that is not paid when due (whether at stated maturity, by acceleration, by optional or mandatory prepayment or otherwise), a rate per annum during the period from and including the due date to but excluding the date on which such amount is paid in full equal to 2% plus the Base Rate as in effect from time to time (provided that, if the amount so in default is principal of a Eurodollar Loan and the due date thereof is a day other than the last day of the Interest Period therefor, the "Post-Default Rate" for such principal shall be, Credit Agreement -15- for the period from and including such due date to but excluding the last day of such Interest Period, the greater of (i) 2% plus the interest rate for such Eurodollar Loan as provided in Section 3.02(b) hereof or (ii) 2% plus the Base Rate as in effect from time to time and, thereafter, the rate provided for above in this definition). "Prime Rate" shall mean the rate of interest from time to time announced by Chase at its principal office as its prime commercial lending rate. "Principal Payment Date" shall have the meaning assigned to such term in Section 3.01(b) hereof. "Property" shall mean any right or interest in or to property of any kind whatsoever, whether real, personal or mixed and whether tangible or intangible. "Quarterly Dates" shall mean the last Business Day of each March, June, September and December in each year, the first of which shall be the first such day after the Amendment Effective Date. "Redeemable Preferred Stock" shall mean, for any Person, all preferred or preference stock issued by such Person, other than perpetual, non-cumulative preferred stock. "Reference Banks" shall mean Chase and such other Bank(s) as shall be mutually acceptable to Chase and the Borrower (or their respective Applicable Lending Offices, as the case may be). "Regulation A", "Regulation D", "Regulation U" and "Regulation X" shall mean, respectively, Regulation A, Regulation D, Regulation U and Regulation X of the Board of Governors of the Federal Reserve System (or any successor), as the same may be modified and supplemented and in effect from time to time. Credit Agreement -16- "Regulatory Change" shall mean, with respect to any Bank, any change after the date of this Agreement in Federal, state or foreign law or regulations (including, without limitation, Regulation D) or the adoption or making after such date of any interpretation, directive or request applying to a class of banks including such Bank of or under any Federal, state or foreign law or regulations (whether or not having the force of law and whether or not failure to comply therewith would be unlawful) by any court or governmental or monetary authority charged with the interpretation or administration thereof. "Reserve Requirement" shall mean, for any Interest Period for any Eurodollar Loan, the average maximum rate at which reserves (including, without limitation, any marginal, supplemental or emergency reserves) are required to be maintained during such Interest Period under Regulation D by member banks of the Federal Reserve System in New York City with deposits exceeding one billion Dollars against "Eurocurrency liabilities" (as such term is used in Regulation D). Without limiting the effect of the foregoing, the Reserve Requirement shall include any other reserves required to be maintained by such member banks by reason of any Regulatory Change with respect to (i) any category of liabilities that includes deposits by reference to which the Eurodollar Base Rate is to be determined as provided in the definition of "Eurodollar Base Rate" in this Section 1.01 or (ii) any category of extensions of credit or other assets that includes the Eurodollar Loans. "Restatement Date" shall mean October 1, 1996. "Restricted Payment" shall mean dividends (in cash, Property or obligations) on, or other payments or distributions on account of, or the setting apart of money for a sinking or other analogous fund for, or the purchase, redemption, retirement or other acquisition of, any shares of any class of stock of the Company or of any warrants, options or other rights to acquire the same (or to make any payments to any Person, such as "phantom stock" payments, where the amount thereof is calculated with reference to the fair market or equity value of the Company or Credit Agreement -17- any of its Subsidiaries), but excluding dividends payable solely in shares of common stock of the Company. "Revolving Credit Loans" shall mean the loans provided for by Section 2.01(a) hereof, which may be Base Rate Loans and/or Eurodollar Loans. "Revolving Credit Notes" shall mean the promissory notes provided for by Section 2.06(a) hereof and all promissory notes delivered in substitution or exchange therefor, in each case as the same shall be modified and supplemented and in effect from time to time. "Senior Note Purchase Agreements" shall mean the Note Purchase Agreements dated as of December 1, 1991 among the Company and the purchasers named therein, as in effect on the date hereof. "Series" shall have the meaning assigned to such term in Section 1.03 hereof. "Shareholders' Agreement" shall mean the Shareholders' Agreement dated May 10, 1988 among US West Financial Services, Inc., Manufacturers Life Insurance Company, the Shareholders party thereto and the Company, as in effect on the date hereof. "Statutory Statement" shall mean, as to any Insurance Subsidiary, a statement of the condition and affairs of such Insurance Subsidiary, prepared in accordance with statutory accounting practices required or permitted by the Applicable Insurance Regulatory Authority, and filed with the Applicable Insurance Regulatory Authority. "Subsidiary" shall mean, with respect to any Person, any corporation, partnership or other entity of which at least a majority of the securities or other ownership interests having by the terms thereof ordinary voting power to elect a majority of the board of directors or other persons performing similar functions of such corporation, partnership or other entity (irrespective of whether or not at the time securities or other Credit Agreement -18- ownership interests of any other class or classes of such corporation, partnership or other entity shall have or might have voting power by reason of the happening of any contingency) is at the particular time in question directly or indirectly owned or controlled by such Person or one or more Subsidiaries of such Person or by such Person and one or more Subsidiaries of such Person. "Swingline Commitment" shall mean the obligation of the Swingline Bank to make Swingline Loans in an aggregate amount not to exceed the lesser of (i) $10,000,000 and (ii) the aggregate amount of the Commitments. "Swingline Loans" shall mean the loans provided for by Section 2.01(d) hereof. "Swingline Maturity Date" shall mean, for any Swingline Loan, the last day of the Interest Period for such Swingline Loan. "Swingline Note" shall mean the promissory note provided for by Section 2.06(d) hereof and any promissory note delivered in substitution or exchange therefor, in each case as the same shall be modified and supplemented and in effect from time to time. "Swingline Rate" shall mean, for any day, a rate per annum equal to the Federal Funds Rate for such day plus 1/2 of 1%. Each change in any interest rate provided for herein based upon the Swingline Rate resulting from a change to the Swingline Rate shall take effect at the time of such change in the Swingline Rate. "Tangible Net Worth" shall mean, as at any date, the sum for the Company and its Subsidiaries (determined on a consolidated basis without duplication in accordance with GAAP), of the following: (a) Net Worth, minus Credit Agreement -19- (b) the sum of the following (without duplication of deductions in respect of items already deducted in arriving at Net Worth): cost of treasury shares and the book value of all assets which should be classified as intangibles but in any event including goodwill, minority interests, trademarks, trade names, copyrights, patents and franchises, unamortized debt discount and expense, all reserves and any write-up in the book value of assets resulting from a revaluation thereof subsequent to December 31, 1991. "Term Loan Notes" shall mean the promissory notes provided for by Section 2.06(b) hereof and all promissory notes delivered in substitution or exchange therefor, in each case as the same shall be modified and supplemented and in effect from time to time. "Term Loans" shall mean the loans provided for by Section 2.01(b) hereof, which may be Base Rate Loans and/or Eurodollar Loans. "Total Capitalization" shall mean the sum of (a) Funded Debt and (b) Net Worth. "Type" shall have the meaning assigned to such term in Section 1.03 hereof. "Value" shall mean, as to any share of common stock of ERC, (X) the sum of (a) policyholders' surplus in ERC, plus (b) the aggregate amount of the contingent reserve of ERC, plus (c) 60% of the aggregate amount of unearned premium reserve of ERC, (Y) divided by the total number of outstanding shares of common stock of ERC. Such computations are to be made in accordance with statutory accounting practices required or permitted by the Applicable Insurance Regulatory Authority of ERC. "Voting Stock" shall mean, at any date, the capital stock of any class or classes of a corporation having general voting power under ordinary circumstances to elect the board of directors of such corporation, or persons performing similar Credit Agreement -20- functions (irrespective of whether or not at the time stock or other securities of any other class or classes shall have or might have special voting power or rights by reason of the happening of any contingency). "Wholly Owned Subsidiary" shall mean, with respect to any Person, any Subsidiary of such Person all of the equity securities or other ownership interests (other than, in the case of a corporation, directors' qualifying shares) of which are owned or controlled by such Person or one or more Wholly Owned Subsidiaries of such Person. 1.02 Accounting Terms and Determinations. (a) Except as otherwise expressly provided herein, (i) all accounting terms used herein shall be interpreted, (ii) all financial statements and all certificates and reports as to financial matters required to be delivered to the Banks hereunder shall (unless otherwise disclosed to the Banks in writing at the time of delivery thereof in the manner described in subsection (b) below) be prepared and (iii) all calculations made for the purposes of determining compliance with this Agreement shall (except as otherwise expressly provided herein) be made in accordance with or by application of generally accepted accounting principles or statutory accounting practices, as the case may be, applied on a basis consistent with those used in the preparation of the most recent financial statements furnished to the Banks hereunder (or, prior to the delivery of the first financial statements under Section 8.01 hereof, the financial statements as at December 31, 1991 referred to in Section 7.02 hereof) unless (x) the Company shall notify the Banks of its objection thereto at the time of delivery of any financial statements pursuant to Section 8.01 hereof or (y) the Majority Banks shall notify the Company (through the Administrative Agent) of their objection within 30 days after the delivery of any such financial statements, in either of which events such interpretations, statements, certificates, reports and calculations shall be made in accordance with, or by application of, generally accepted accounting principles or statutory accounting practices, as the case may be, on a basis Credit Agreement -21- consistent with those used in the preparation of the most recent financial statements as to which no such objection shall have been made (or, prior to the delivery of the first financial statements under Section 8.01 hereof, the financial statements as at December 31, 1991 referred to in Section 7.02 hereof). (b) The Company shall deliver to the Banks at the same time as the delivery of any annual or quarterly financial statement under Section 8.01 hereof (i) a description in reasonable detail of any material variation between the application of accounting principles employed in the preparation of such statement and the application of accounting principles employed in the preparation of the next preceding annual or quarterly financial statements as to which no objection has been made in accordance with the last sentence of paragraph (a) above and (ii) reasonable estimates of the difference between such statements arising as a consequence thereof. (c) The Company will not, and will not permit any of its Subsidiaries to, change the last day of its fiscal year from December 31 of each year, or the last days of the first three fiscal quarters in each of its fiscal years from March 31, June 30 and September 30 of each year, respectively. 1.03 Classes; Series; Type. Loans hereunder are distinguished by "Class". The "Class" of a Loan refers to whether such Loan is a Revolving Credit Loan, a Swingline Loan or a Term Loan, each of which constitutes, respectively, a "Class" of Loan. Loans are also distinguished by "Series". The Loans of any one Class made on the occasion of any borrowing constitute a "Series" of Loans. Loans hereunder are also distinguished by "Type". The "Type" of a Loan refers to whether such Loan is a Base Rate Loan or a Eurodollar Loan, each of which constitutes a Type. The Loans may be identified by both Class and Type. Credit Agreement -22- Section 2. Commitments, Loans, Notes and Prepayments. 2.01 Loans. (a) Revolving Credit Loans. Each Bank severally agrees, on the terms and conditions of this Agreement, at the request of the Company, to make revolving credit loans to the Company in Dollars during the period from and including the Amendment Effective Date to but not including the Commitment Termination Date in an aggregate principal amount at any one time outstanding up to but not exceeding the amount of the Commitment of such Bank as in effect from time to time (each such revolving credit loan being herein called a "Revolving Credit Loan" and collectively the "Revolving Credit Loans"); provided that, on or before the Commitment Termination Date, in no event shall the aggregate unpaid principal amount of all Loans (including all Swingline Loans) exceed the aggregate amount of the Commitments as in effect from time to time. Subject to the terms and conditions of this Agreement, during such period the Company may borrow, repay and reborrow the amount of the Commitments by means of Base Rate Loans and Eurodollar Loans, and the Company may Convert Loans of one Type into Loans of another Type (as provided in Section 2.07 hereof) or Continue Loans of one Type as Loans of the same Type (as provided in Section 2.07 hereof). (b) Term Loans. Each Bank severally agrees, on the terms and conditions of this Agreement, at the request of the Company, to make, on the last day of any Interest Period of any Revolving Credit Loan made by such Bank, a term loan (each such term loan being herein called a "Term Loan" and collectively the "Term Loans") to the Company in Dollars in a principal amount up to but not exceeding the unpaid principal balance of such Revolving Credit Loan, the proceeds of which Term Loan shall be applied (and the Company hereby authorizes and instructs such Bank to apply such proceeds) to refinance, in whole or in part, the unpaid principal balance of such Revolving Credit Loan; provided that the Banks shall not be obligated to make any Series of Term Loans unless the aggregate amount of such Term Loans is equal to $3,000,000 or an integral multiple of $200,000 in excess thereof. Subject to the terms and conditions of this Agreement, Credit Agreement -23- the Company may borrow such Term Loans by means of Base Rate Loans and Eurodollar Loans and, prior to payment in full of the principal of such Term Loans, the Company may Convert Loans of one Type into Loans of another Type (as provided in Section 2.07 hereof) or Continue Loans of one Type as Loans of the same Type (as provided in Section 2.07 hereof). (c) Limit on Revolving Credit Loans. No more than five separate Revolving Credit Loans from each Bank may be outstanding at any one time. (d) Swingline Loans. In addition to the Loans provided for in Subsections (a) and (b) above of this Section 2.01, the Swingline Bank hereby agrees, on the terms an conditions of this Agreement, to make loans ("Swingline Loans") to the Company during the period from the date hereof to but excluding the date five Business Days prior to the Commitment Termination Date in an aggregate amount at any one time outstanding up to but not exceeding its Swingline Commitment; provided that the aggregate principal amount of all Loans (including Swingline Loans) shall not at any time outstanding exceed the aggregate amount of the Commitments. Subject to the terms of this Agreement, the Company may borrow, repay and reborrow the amount of the Swingline Commitment by means of Loans that bear interest at the Swingline Rate; provided that only one Swingline Loan may be outstanding at any one time and no Swingline Loan may be borrowed to repay an outstanding Swingline Loan. 2.02 Borrowings. (a) Revolving Credit Loans. The Company shall give the Administrative Agent (which shall promptly notify the Banks) notice of each borrowing hereunder as provided in Section 4.05 hereof. Not later than 1:00 p.m. New York time on the date specified for each borrowing of Revolving Credit Loans hereunder, each Bank shall make available the amount of the Revolving Credit Loan to be made by it on such date to the Administrative Agent, at an account in New York designated by the Administrative Agent, in Dollars and immediately available funds, for account of the Credit Agreement -24- Company. The amount so received by the Administrative Agent shall, subject to the terms and conditions of this Agreement, be made available by the Administrative Agent to the Company by depositing the same, in immediately available funds, in an account of the Company designated by the Company or by repaying any then outstanding Swingline Loan. (b) Swingline Loans. The Company shall give the Administrative Agent (which shall promptly notify the Swingline Bank) notice of each borrowing of Swingline Loans hereunder as provided in Section 4.05 hereof. Not later than 1:00 p.m. New York time on the date specified for each borrowing of Swingline Loans hereunder, the Swingline Bank shall make available the amount of the Swingline Loan to be made by it on such date to the Administrative Agent, at an account in New York designated by the Administrative Agent, in Dollars and immediately available funds, for account of the Company. The amount so received by the Administrative Agent shall, subject to the terms and conditions of this Agreement, be made available by the Administrative Agent to the Company by depositing the same, in immediately available funds, in an account of the Company designated by the Company. (c) Borrowings to Repay Swingline Loans. Unless the Company has already given a notice of borrowing of Revolving Credit Loans to repay a Swingline Loan, at any time from and including the Swingline Maturity Date for any Swingline Loan until the unpaid principal amount of such Swingline Loan shall have been paid in full, the Swingline Bank may, and the Company hereby irrevocably authorizes and empowers (which power is coupled with an interest) the Swingline Bank to, deliver, on behalf of the Company, to the Administrative Agent under Section 2.02(a) hereof a notice of borrowing of Revolving Credit Loans that are Base Rate Loans in an amount equal to the then unpaid principal amount of such Swingline Loan. In the event that the power of the Swingline Bank to give such notice of borrowing on behalf of the Company is terminated for any reason whatsoever (including, without limitation, a termination resulting from the occurrence of an event specified in clause (f) or (g) of Section 9 hereof with respect to the Company), or the Swingline Bank is otherwise precluded for any reason whatsoever Credit Agreement -25- from giving a notice of borrowing on behalf of the Company as provided in the preceding sentence, each Bank shall, upon notice from the Swingline Bank on or after the Swingline Maturity Date for such Swingline Loan, promptly purchase from the Swingline Bank a participation in (or, if and to the extent specified by the Swingline Bank, an assignment of) such Swingline Loan in the amount of the Base Rate Loan it would have been obligated to make pursuant to such notice of borrowing. Each Bank shall, not later than 4:00 p.m. New York time on the Business Day on which such notice is given (if such notice is given by 3:00 p.m. New York time) or 9:00 a.m. New York time on the next succeeding Business Day (if such notice is given after 3:00 p.m., but before 5:00 p.m., New York time), make available the amount of the Base Rate Loan to be made by it (or the amount of the participation or assignment to be purchased by it, as the case may be) to the Administrative Agent at the account specified in Section 2.02(a) hereof and the amount so received by the Administrative Agent shall promptly be made available to the Swingline Bank by remitting the same, in immediately available funds, to the Swingline Bank. Promptly following its receipt of any payment in respect of such Swingline Loan, the Swingline Bank shall pay to each Bank that has acquired a participation in such Swingline Loan such Bank's proportionate share of such payment. Anything in this Agreement to the contrary notwithstanding (including, without limitation, in Section 6.03 hereof), the obligation of each Bank to make its Base Rate Loan (or purchase its participation in or assignment of such Swingline Loan, as the case may be) pursuant to this Section 2.02(c) is unconditional under any and all circumstances whatsoever and shall not be subject to set-off, counterclaim or defense to payment that such Bank may have or have had against the Company, the Administrative Agent, the Swingline Bank or any other Bank and, without limiting any of the foregoing, shall be unconditional irrespective of (i) the occurrence of any Default, (ii) the financial condition of the Company, any Subsidiary, the Administrative Agent, the Swingline Bank or any other Bank or (iii) the termination or cancellation of the Commitments; provided that no Bank shall be obligated to make any such Base Rate Loan (or to purchase any such participation or direct interest in the Swingline Loan) if (i) before the making of such Swingline Loan, such Bank had Credit Agreement -26- notified the Swingline Bank that a Default had occurred and was continuing and that such Bank would not refinance such Swingline Loan or (ii) to the extent (and only to the extent) that such Swingline Loan, together with all Revolving Credit Loans and Term Loans then outstanding at the time of the making of such Swingline Loan, exceeded the then aggregate amount of the Commitments at the time of the making of such Swingline Loan. The Company agrees that any Bank so purchasing a participation (or assignment) in such Swingline Loan may exercise all rights of set-off, bankers' lien, counterclaim or similar rights with respect to such participation as fully as if such Bank were a direct holder of a Swingline Loan in the amount of such participation. 2.03 Changes in Aggregate Amount of Commitments. (a) The aggregate amount of the Commitments shall be automatically reduced to zero on the Commitment Termination Date. (b) The Company shall have the right at any time or from time to time to terminate in whole, or to reduce in part, the aggregate unused amount of the Commitments; provided that (x) the Company shall give notice of each such termination or reduction as provided in Section 4.05 hereof, (y) each partial reduction shall be in an integral multiple of $1,000,000 and (z) on or before the Commitment Termination Date, the aggregate amount of the Commitments shall at no time be less than the aggregate outstanding principal amount of all Loans (including the Swingline Loans). (c) The Company shall have the right to terminate or reduce the unused amount of the Swingline Commitment at any time or from time to time on not less than three Business Days' prior notice to the Administrative Agent (which shall promptly notify the Swingline Bank and each Bank) or each such termination or reduction, which notice shall specify the effective date thereof and the amount of any such reduction (which shall be in integral multiples of $1,000,000) and shall be irrevocable and effective only upon receipt by the Administrative Agent. Credit Agreement -27- (d) The Commitments and Swingline Commitment, once terminated or reduced, may not be reinstated. 2.04 Commitment Fee. The Company shall pay to the Administrative Agent for account of each Bank a commitment fee on the daily average unused amount of such Bank's Commitment (for which purpose the aggregate unpaid principal amount of the Revolving Credit Loans, Swingline Loans and Term Loans outstanding shall be deemed to constitute a use of the Commitments), for the period from and including the Amendment Effective Date to but not including the earlier of the Commitment Termination Date and the date such Commitment is otherwise terminated, at a rate per annum equal to 1/8 of 1%. Accrued commitment fee shall be payable on each Quarterly Date and on the earlier of the Commitment Termination Date and the date the Commitment is otherwise terminated, as the case may be. 2.05 Several Obligations; Remedies Independent. The failure of any Bank to make any Loan to be made by it on the date specified therefor shall not relieve any other Bank of its obligation to make its Loan on such date, but neither any Bank nor the Administrative Agent shall be responsible for the failure of any other Bank to make a Loan to be made by such other Bank, and no Bank shall have any obligation to the Administrative Agent or any other Bank for the failure by such Bank to make any Loan required to be made by such Bank. The amounts payable by the Company at any time hereunder and under the Notes to each Bank shall be a separate and independent debt and each Bank shall, subject to the express provisions of Section 9 with respect to the termination of the Commitments and the declaration of the Loans to be due and payable, be entitled to protect and enforce its rights arising out of this Agreement and the Notes, and it shall not be necessary for any other Bank or the Administrative Agent to consent to, or be joined as an additional party in, any proceedings for such purposes. 2.06 Notes. (a) The Revolving Credit Loans made by each Bank shall be evidenced by a single promissory note of the Company Credit Agreement -28- substantially in the form of Exhibit A-1 hereto, dated the Restatement Date, payable to such Bank in a principal amount equal to the amount of its Commitment as originally in effect and otherwise duly completed. (b) Each Term Loan made by each Bank shall be evidenced by a separate promissory note of the Company substantially in the form of Exhibit A-2 hereto, dated the date of such Term Loan, payable to such Bank in a principal amount equal to the amount of such Term Loan and otherwise duly completed. (c) The date, amount, Type, interest rate and duration of Interest Period (if applicable) of each Revolving Credit Loan made by each Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by such Bank on its books and, prior to any transfer of the Revolving Credit Note evidencing the Revolving Credit Loans held by it, endorsed by such Bank on the schedule attached to such Revolving Credit Note or any continuation thereof; provided that the failure of such Bank to make any such recordation or endorsement shall not affect the obligations of the Company to make a payment when due of any amount owing hereunder or under such Revolving Credit Note in respect of the Revolving Credit Loans evidenced by such Revolving Credit Note. (d) The Swingline Loans made by the Swingline Bank shall be evidenced by a single promissory note of the Company substantially in the form of Exhibit A-3 hereto, dated the Amendment Effective Date, payable to the Swingline Bank in a principal amount equal to $10,000,000 and otherwise duly completed. The date and amount of each Swingline Loan and each payment made on account of the principal thereof, shall be recorded by the Swingline Bank on its books and, prior to any transfer of its Swingline Note, endorsed by the Swingline Bank on the schedule attached to the Swingline Note or any continuation thereof; provided that the failure by the Swingline Bank to make any such recordation or endorsement shall not affect the obligations of the Company to make a payment when due of any Credit Agreement -29- amount owing hereunder or under such Swingline Note in respect of the Swingline Loans evidenced by such Swingline Note. (e) No Bank shall be entitled to have its Notes subdivided, by exchange for promissory notes of lesser denominations or otherwise, except in connection with a permitted assignment of all or any portion of such Bank's relevant Commitment, Loans and Notes pursuant to Section 11.06(b) hereof. The Swingline Bank shall not be entitled to have its Note subdivided, by exchange for promissory notes of lesser denominations or otherwise, except in connection with a permitted assignment of all or any portion of the Swingline Bank's Swingline Commitment, the Swingline Loans and the Swingline Note pursuant to Section 11.06(g) hereof. 2.07 Optional Prepayments and Conversions or Continuations of Loans. Subject to Section 4.04 hereof, the Company shall have the right to prepay Swingline Loans or any Series of Revolving Credit Loans or any Series of Term Loans, in whole at any time or in part from time to time or to Convert Loans of one Type into Loans of another type or Continue Loans of one Type as Loans of the same Type, provided that: (a) the Company shall give the Administrative Agent notice of each such prepayment, Conversion or Continuation as provided in Section 4.05 hereof (and, upon the prepayment date specified in any such notice of prepayment, the amount to be prepaid shall become due and payable hereunder); (b) the Company shall simultaneously pay interest on any principal so prepaid accrued to the date of such prepayment; (c) if any Revolving Credit Loan that is a Eurodollar Loan is prepaid or Converted on any day other than the last day of the Interest Period therefor, the Company shall simultaneously pay any amounts required by Section 5.04 hereof in respect of such prepayment; Credit Agreement -30- (d) prepayments or Conversions of any Series of Term Loans that are Eurodollar Loans may only be made on the last day of any Interest Period therefor and shall be applied ratably to the outstanding installments of such Series of Term Loans; (e) if any Swingline Loan is outstanding, the Revolving Credit Loans may not be prepaid or Converted; (f) Swingline Loans may not be Continued. Notwithstanding the foregoing, and without limiting the rights and remedies of the Banks under Section 9 hereof, in the event that any Event of Default shall have occurred and be continuing, the Administrative Agent may (and at the request of the Majority Banks shall) suspend (for so long as such Event of Default shall be continuing) the right of the Company to Convert any Loan into a Eurodollar Loan, or to Continue any Loan as a Eurodollar Loan, in which event all Loans shall be Converted (on the last day(s) of the respective Interest Periods therefor) or Continued, as the case may be, as Base Rate Loans. 2.08 Mandatory Prepayments of Loans or Pledge of Additional Shares. The Company shall from time to time when and to the extent necessary pledge additional shares of common stock of ERC in accordance with the Pledge Agreement and/or prepay the Loans so that at all times the aggregate outstanding amount of the Loans, less any collected funds standing to the credit of the Collateral Account, shall not exceed 60% of the aggregate Value of the shares of Pledged Stock (as defined in the Pledge Agreement); provided that the amount of any such prepayment shall be applied first to any outstanding Swingline Loan, next to any outstanding Revolving Credit Loans and finally to any outstanding Term Loans and to the installments of the Term Loans in the inverse order of their maturity (regardless of Series) and, in the case of a partial prepayment of installments due on the same date, ratably based on the respective unpaid principal amounts of such installments. Simultaneously with each such prepayment, the Company shall pay interest on the principal so prepaid accrued to the date of such prepayment and, if any Loan is prepaid on any Credit Agreement -31- day other than the last day of an Interest Period therefor, the Company shall simultaneously pay any amounts required by Section 5.04 hereof in respect of such prepayment. Any such pledge of additional shares of common stock of ERC shall be subject to the condition that the Company shall have satisfied the conditions set forth in Section 6.03(c) hereof with respect to such pledge. 2.09 Extension of Commitment Termination Date. The Company may, by notice to the Administrative Agent (which shall promptly deliver a copy thereof to each of the Banks) not more than 45 days prior to the Commitment Termination Date then in effect hereunder (the "Existing Commitment Termination Date"), request that the Banks extend the Commitment Termination Date for an additional 360 day period. If each Bank, acting in its sole discretion, by notice to the Company and Administrative Agent given on the date (and only on the date) 30 days prior to the Existing Commitment Termination Date (provided, if such date is not a Business Day, then such notice date shall by the next succeeding Business Day) (the "Consent Date"), agrees to such request, then effective as of the Existing Commitment Termination Date, the Commitment Termination Date shall be extended to the date falling 360 days after the Existing Commitment Termination Date (provided, if such date is not a Business Day, then such Commitment Termination Date as so extended shall be the next preceding Business Day); provided that such extension shall not be effective unless (i) no Default shall have occurred and be continuing on the date of the notice requesting such extension or on the Existing Commitment Termination Date and (ii) each of the representations and warranties of the Company in Section 7 hereof shall be true and correct on and as of each of the date of such notice and the Existing Commitment Termination Date with the same force and effect as if made on and as of each such date (or, if any such representation or warranty is expressly stated to have been made as of a specific date, as of such specific date). Section 3. Payments of Principal and Interest. 3.01 Repayment of Loans. Credit Agreement -32- (a) The Company hereby promises to pay to the Administrative Agent for account of each Bank the outstanding principal amount of each of such Bank's Revolving Credit Loans, and each Revolving Credit Loan shall mature, on the Commitment Termination Date. (b) The Company hereby promises to pay to the Administrative Agent for account of the Banks the aggregate principal amount of each Series of Term Loans in sixteen equal consecutive quarterly installments commencing on the date three months after the date of the making of such Series of Term Loans and thereafter on the quarterly anniversary dates of the date of the making of such Series of Term Loans (each a "Principal Payment Date"); provided that, if the date of the making of such Series of Term Loans is the last Business Day of a calendar month (or on any day for which there is no numerically corresponding date in the appropriate subsequent calendar month) the payment date shall be the last Business Day of the appropriate subsequent calendar month; and provided that, if any Principal Payment Date would fall on a day other than a Business Day, such Principal Payment Date shall be the next succeeding Business Day (or, if such next succeeding Business Day falls in the next succeeding calendar month, on the next preceding Business Day). (c) The Company hereby promises to pay to the Administrative Agent for account of the Swingline Bank the principal of each Swingline Loan at or prior to, and such Swingline Loan shall mature at, 1:00 p.m. New York time on the Swingline Maturity Date for such Swingline Loan. 3.02 Interest. The Company hereby promises to pay to the Administrative Agent for account of each Bank interest on the unpaid principal amount of each Loan made by such Bank for the period from and including the date of such Loan to but excluding the date such Loan shall be paid in full, at the following rates per annum: (a) if such Loan is a Revolving Credit Loan, (i) during such periods as such Loan is a Base Rate Loan, the Base Rate (as in effect from time to time) plus the Credit Agreement -33- Applicable Margin and (ii) during such periods as such Loan is a Eurodollar Loan, for each Interest Period relating thereto, the Eurodollar Rate for such Loan for such Interest Period plus the Applicable Margin; (b) if such Loan is a Term Loan, (i) during such periods as such Loan is a Base Rate Loan, the Base Rate (as in effect from time to time) plus the Applicable Margin and (ii) during such periods as such Loan is a Eurodollar Loan, for each Interest Period relating thereto, the Eurodollar Rate for such Loan for such Interest Period plus the Applicable Margin; and (c) if such Loan is a Swingline Loan, the Swingline Rate for each day during the period from and including the first day of the Interest Period related thereto to but excluding the Swingline Maturity Date for such Swingline Loan. Notwithstanding the foregoing, the Company hereby promises to pay to the Administrative Agent for account of each Bank interest at the applicable Post-Default Rate on any principal of any Loan made by such Bank and on any other amount payable by the Company hereunder or under the Notes held by such Bank to or for account of such Bank, which shall not be paid in full when due (whether at stated maturity, by acceleration, by mandatory prepayment or otherwise), for the period from and including the due date thereof to but excluding the date the same is paid in full. Accrued interest on each Loan shall be payable (i) in the case of a Base Rate Loan, quarterly on the Quarterly Dates, (ii) in the case of Eurodollar Loans or Swingline Loans, on the last day of each Interest Period therefor and, if such Interest Period is longer than three months, at three-month intervals following the first day of such Interest Period, and (iii) upon the payment or prepayment thereof or the Conversion of such Loan to a Loan of another Type (but only on the principal amount so paid, or prepaid or Converted), except that interest payable at the Post-Default Rate shall be payable from time to time on demand of the Banks for whose account such interest is payable. Promptly after the determination of any interest rate provided for herein Credit Agreement -34- or any change therein, the Administrative Agent shall give notice thereof to the Banks to which such interest is payable and to the Company. Section 4. Payments; Pro Rata Treatment; Computations; Etc. 4.01 Payments. (a) Except to the extent otherwise provided herein, all payments of principal, interest and other amounts to be made by the Company under this Agreement and the Notes, and, except to the extent otherwise provided therein, all payments to be made by the Company under any other Basic Document, shall be made in Dollars, in immediately available funds, without deduction, set-off or counterclaim, to the Administrative Agent at an account in New York designated by the Administrative Agent, not later than 1:00 p.m. New York time on the date on which such payment shall become due (each such payment made after such time on such due date to be deemed to have been made on the next succeeding Business Day). (b) Any Bank or Swingline Bank for whose account any such payment is to be made may (but shall not be obligated to) debit the amount of any such payment that is not made by such time to any ordinary deposit account of the Company with such Bank (with notice to the Company and the Administrative Agent). (c) The Company shall, at the time of making each payment under this Agreement or any Note for account of any Bank, specify to the Administrative Agent (which shall notify the intended recipient(s) thereof) the Loans or other amounts payable by the Company hereunder to which such payment is to be applied, in which case such payment shall be, subject to Section 4.02 hereof, so applied (and in the event that the Company fails to so specify, or if an Event of Default has occurred and is continuing, such payment shall be, subject to said Section 4.02, applied first to the Swingline Bank (to the extent any amounts are then due and payable to the Swingline Bank on account of any Swingline Loan) and then in payment of amounts due under this Credit Agreement -35- Agreement or any Note in such manner as is determined to be appropriate by the Majority Banks or, if the Majority Banks fail to advise the Administrative Agent of their determination promptly following a request from the Administrative Agent for such a determination, by the Administrative Agent). (d) Each payment received by the Administrative Agent under this Agreement or any Note for account of any Bank shall be paid by the Administrative Agent promptly to such Bank, in immediately available funds, for account of such Bank's Applicable Lending Office for the Loan or other obligation in respect of which such payment is made. (e) If the due date of any payment under this Agreement or any Note would otherwise fall on a day that is not a Business Day, such date shall be extended to the next succeeding Business Day, and interest shall be payable on any principal so extended for the period of such extension. 4.02 Pro Rata Treatment. Except to the extent otherwise provided herein: (a) the making of Loans of a particular Class shall be made pro rata among the Banks according to the amounts of their respective Commitments and the then current Interest Period of Loans of a particular Class and Series shall be coterminous; (b) except as otherwise provided in Section 5.03A hereof, Eurodollar Loans having the same Interest Period shall be allocated pro rata among the Banks according to the amounts of their respective Commitments (in the case of the making of Loans) or their respective Loans (in the case of Conversions and Continuations of Loans); (c) each payment or prepayment of principal of Loans of a particular Class and Series shall be made for account of the Banks pro rata in accordance with the respective unpaid principal amounts of the Loans of such Class and Series held by the Banks; Credit Agreement -36- (d) each payment of interest on Loans of a particular Class and Series shall be made for account of the Banks pro rata in accordance with the amounts of interest on Loans of such Class and Series then due and payable to the respective Banks; (e) each payment of commitment fee under Section 2.04 hereof shall be made, and each termination or reduction of the amount of the Commitments shall be applied to the Commitments of the Banks, pro rata according to the respective amounts of the Commitments of the Banks; and Notwithstanding the foregoing, borrowings, payments and prepayments of Swingline Loans shall be made without regard to the foregoing provisions of this Section 4.02. 4.03 Computations. Interest on Eurodollar Loans and commitment fee shall be computed on the basis of a year of 360 days and actual days elapsed (including the first day but excluding the last day) occurring in the period for which payable and interest on Base Rate Loans shall be computed on the basis of a year of 365 or 366 days, as the case may be, and actual days elapsed (including the first day but excluding the last day) occurring in the period for which payable. Notwithstanding the foregoing, for each day that the Base Rate is calculated by reference to the Federal Funds Rate, interest on Base Rate Loans shall be computed on the basis of a year of 360 days and actual days elapsed. 4.04 Minimum Amounts. Except for mandatory prepayments referred by Section 2.08 hereof and Conversions, or prepayments made pursuant to Section 5.04 hereof, each borrowing, Conversion and partial prepayment of principal of Revolving Credit Loans shall be in an aggregate amount equal to $1,000,000 or any integral multiple of $200,000 in excess thereof (borrowings, Conversions or prepayments of or into Loans of different Types or, in the case of Eurodollar Loans, having different Interest Periods at the same time hereunder to be deemed separate borrowings, Conversions and prepayments for purposes of the foregoing, one for each Type or Interest Period). Credit Agreement -37- Each borrowing and Conversion of Term Loans shall be in an aggregate amount equal to $3,000,000 or any integral multiple of $200,000 in excess thereof, and each partial prepayment or Conversion of the principal of any Series of Term Loans shall be in an aggregate amount at least equal to $500,000 (Conversions or prepayments of or into Loans of different Types or, in the case of Eurodollar Loans, having different Interest Periods at the same time hereunder to be deemed separate Conversions and prepayments for purposes of the foregoing, one for each Type or Credit Agreement -38- Interest Period). Each borrowing or partial prepayment of Swingline Loans shall be in an aggregate amount at least equal to $1,000,000 or in multiples of $200,000 in excess thereof. 4.05 Certain Notices. Notices by the Company to the Administrative Agent of terminations or reductions of Commitments, of borrowings, Conversions, Continuations and optional prepayments of Loans, of Types of Loans and of the duration of Interest Periods shall be irrevocable and shall be effective only if received by the Administrative Agent not later than 10:00 a.m. New York time. The number of Business Days prior to the date of the relevant termination, reduction, borrowing, Conversion, Continuation or prepayment or the first day of such Interest Period specified below: Number of Business Notice Days Prior ------ ---------- Termination or reduction of Commitments 3 Borrowing or prepayment of, or Conversions into, Base Rate Loans 0 Borrowing or prepayment of Swingline Loans 0 Borrowing or prepayment of, Conversions into, Continuations as, or duration of Interest Period for, Eurodollar Loans 3 Each such notice of termination or reduction shall specify the amount of the Commitments to be terminated or reduced. Each such notice of borrowing, Conversion, Continuation or optional prepayment shall specify the Class and Series of Loans to be borrowed, Converted, Continued or prepaid, the amount Credit Agreement -39- (subject to Section 4.04 hereof) of each Loan to be borrowed, Converted, Continued or prepaid, the date of borrowing, Conversion, Continuation or optional prepayment (which shall be a Business Day), and the duration of the Interest Period for such Loan. The Administrative Agent shall promptly notify the Banks of the contents of each such notice. In the event that the Company fails to select the Type of Loan, or the duration of any Interest Period for any Loan, within the time period and otherwise as provided in this Section 4.05, such Loan (if outstanding as a Eurodollar Loan) will be automatically Converted into a Base Rate Loan on the last day of the then current Interest Period for such Loan or (if outstanding as a Base Rate Loan) will remain as, or (if not then outstanding) will be made as, a Base Rate Loan. 4.06 Non-Receipt of Funds by the Administrative Agent. Unless the Administrative Agent shall have been notified by a Bank or the Company (the "Payor") prior to the date on which the Payor is to make payment to the Administrative Agent of (in the case of a Bank) the proceeds of a Loan to be made by such Bank hereunder or (in the case of the Company) a payment to the Administrative Agent for account of one or more of the Banks hereunder (such payment being herein called the "Required Payment"), which notice shall be effective upon receipt, that the Payor does not intend to make the Required Payment to the Administrative Agent, the Administrative Agent may assume that the Required Payment has been made and may, in reliance upon such assumption (but shall not be required to), make the amount thereof available to the intended recipient(s) on such date; and, if the Payor has not in fact made the Required Payment to the Administrative Agent, the recipient(s) of such payment shall, on demand, repay to the Administrative Agent the amount so made available together with interest thereon in respect of each day during the period commencing on the date (the "Advance Date") such amount was so made available by the Administrative Agent until the date the Administrative Agent recovers such amount at a rate per annum equal to the Federal Funds Rate for such day and, if such recipient(s) shall fail promptly to make such payment, the Administrative Agent shall be entitled to recover such amount, on demand, from the Payor, together with interest as Credit Agreement -40- aforesaid, provided that if the recipient(s) shall fail to return, and the Payor shall fail to make, the Required Payment to the Administrative Agent within three Business Days of the Advance Date, then the Payor and the recipient(s) shall each be obligated to pay interest on the Required Payment (but without duplication) as follows: (a) if the Required Payment shall represent a payment to be made by the Company to the Banks, the Company and the recipient(s) shall each be obligated retroactively to the Advance Date to pay interest in respect of the Required Payment at the Post-Default Rate (and, in case the recipient(s) shall return the Required Payment to the Administrative Agent, without limiting the obligation of the Company under Section 3.02 hereof to pay interest to such recipient(s) at the Post-Default Rate in respect of the Required Payment); and (b) if the Required Payment shall represent proceeds of a Loan to be made by the Banks to the Company, the Payor and the Company shall each be obligated retroactively to the Advance Date to pay interest in respect of the Required Payment at the rate of interest provided for such Required Payment pursuant to whichever of the rates specified in Section 3.02 hereof is applicable to the Type of such Loan (and, in case the Company shall return the Required Payment to the Administrative Agent, without limiting any claim the Company may have against the Payor in respect of the Required Payment). 4.07 Sharing of Payments, Etc. (a) The Company agrees that, in addition to (and without limitation of) any right of set-off, banker's lien or counterclaim a Bank or the Swingline Bank (as the case may be) may otherwise have, each Bank and the Swingline Bank shall be entitled, at its option, to offset balances held by it for account of the Company at any of its offices, in Dollars or in any other currency, against any principal of or interest on any of such Bank's or the Swingline Bank's Loans or any other amount Credit Agreement -41- payable to such Bank or Swingline Bank (as the case may be) hereunder, that is not paid when due (regardless of whether such balances are then due to the Company), in which case it shall promptly thereafter notify the Company and the Administrative Agent thereof, provided that such Bank's or the Swingline Bank's failure to give such notice shall not affect the validity thereof. (b) If any Bank shall obtain payment of any principal of or interest on any Loan of a particular Class and Series owing to it or payment of any other amount under this Agreement or any other Basic Document through the exercise of any right of set-off, banker's lien or counterclaim or similar right or otherwise (other than through the Administrative Agent as provided herein), and, as a result of such payment, such Bank shall have received a greater percentage of the principal of or interest on the Loans of such Class and Series or such other amounts then due hereunder or thereunder by the Company to such Bank than the percentage received by any other Bank, it shall promptly purchase from such other Banks participations in (or, if and to the extent specified by such Bank, direct interests in) the Loans of such Class and Series or such other amounts, respectively, owing to such other Banks (or in interest due thereon, as the case may be) in such amounts, and make such other adjustments from time to time as shall be equitable, to the end that all the Banks shall share the benefit of such excess payment (net of any expenses that may be incurred by such Bank in obtaining or preserving such excess payment) pro rata in accordance with the unpaid principal of and/or interest on the Loans of such Class and Series or such other amounts, respectively, owing to each of the Banks. To such end all the Banks shall make appropriate adjustments among themselves (by the resale of participations sold or otherwise) if such payment is rescinded or must otherwise be restored. (c) The Company agrees that any Bank so purchasing such a participation (or direct interest) may exercise all rights of set-off, banker's lien, counterclaim or similar rights with respect to such participation as fully as if such Bank were a Credit Agreement -42- direct holder of Loans or other amounts (as the case may be) owing to such Bank in the amount of such participation. (d) Nothing contained herein shall require any Bank or the Swingline Bank to exercise any such right or shall affect the right of any Bank or the Swingline Bank to exercise, and retain the benefits of exercising, any such right with respect to any other indebtedness or obligation of the Company. If, under any applicable bankruptcy, insolvency or other similar law, any Bank receives a secured claim in lieu of a set-off to which this Section 4.07 applies, such Bank shall, to the extent practicable, exercise its rights in respect of such secured claim in a manner consistent with the rights of the Banks entitled under this Section 4.07 to share in the benefits of any recovery on such secured claim. Section 5. Yield Protection, Etc. 5.01 Additional Costs. (a) The Company shall pay directly to each Bank from time to time such amounts as such Bank may determine to be necessary to compensate such Bank for any costs that such Bank determines are attributable to its making or maintaining of any Eurodollar Loans or its obligation to make any Eurodollar Loans hereunder, or any reduction in any amount receivable by such Bank hereunder in respect of any Loans or such obligation (such increases in costs and reductions in amounts receivable being herein called "Additional Costs"), resulting from any Regulatory Change that: (i) changes the basis of taxation of any amounts payable to such Bank under this Agreement or its Notes (other than taxes imposed on or measured by the overall net income of such Bank or of its Applicable Lending Office by the jurisdiction in which such Bank has its principal office or such Applicable Lending Office); or (ii) imposes or modifies any reserve, special deposit or similar requirements (other than the Reserve Requirement Credit Agreement -43- utilized in the determination of the Eurodollar Rate for such Loan) relating to any extensions of credit or other assets of, or any deposits with or other liabilities of, such Bank (including, without limitation, any of such Loans or any deposits referred to in the definition of "Eurodollar Base Rate" in Section 1.01 hereof), or any commitment of such Bank hereunder (including, without limitation, the Commitment of such Bank); or (iii) imposes any other condition affecting this Agreement or its Notes or its Commitment. If any Bank requests compensation from the Company under this Section 5.01(a), the Company may, by notice to such Bank (with a copy to the Agent), suspend the obligation of such Bank thereafter to make or Continue Eurodollar Loans, or to Convert Base Rate Loans into Eurodollar Loans, until the Regulatory Change giving rise to such request ceases to be in effect (in which case the provisions of Section 5.03A hereof shall be applicable), provided that such suspension shall not affect the right of such Bank to receive the compensation so requested. (b) Without limiting the effect of the provisions of paragraph (a) of this Section 5.01, in the event that, by reason of any Regulatory Change, any Bank either (i) incurs Additional Costs based on or measured by the excess above a specified level of the amount of a category of deposits or other liabilities of such Bank that includes deposits by reference to which the interest rate on Eurodollar Loans is determined as provided in this Agreement or a category of extensions of credit or other assets of such Bank that includes Eurodollar Loans or (ii) becomes subject to restrictions on the amount of such a category of liabilities or assets that it may hold, then, if such Bank so elects by notice to the Company (with a copy to the Administrative Agent), the obligation of such Bank to make Eurodollar Loans hereunder shall be suspended until such Regulatory Change ceases to be in effect (in which case the Loans theretofore made by such Bank shall bear interest at the Base Rate from the last day of the then current Interest Period for such Loans in accordance with the provisions of Section 5.03A). Credit Agreement -44- (c) Without limiting the effect of the foregoing provisions of this Section 5.01 (but without duplication), the Company shall pay directly to each Bank from time to time on request such amounts as such Bank may determine to be necessary to compensate such Bank (or, without duplication, the bank holding company of which such Bank is a subsidiary) for any costs that it determines are attributable to the maintenance by such Bank (or any Applicable Lending Office or such bank holding company), pursuant to any law or regulation or any interpretation, directive or request (whether or not having the force of law and whether or not failure to comply therewith would be unlawful) of any court or governmental or monetary authority (i) following any Regulatory Change or (ii) implementing any risk-based capital guideline or other requirement (whether or not having the force of law and whether or not the failure to comply therewith would be unlawful) hereafter issued by any government or governmental or supervisory authority implementing at the national level the Basel Accord (including, without limitation, the Final Risk-Based Capital Guidelines of the Board of Governors of the Federal Reserve System (12 C.F.R. Part 208, Appendix A; 12 C.F.R. Part 225, Appendix A) and the Final Risk-Based Capital Guidelines of the Office of the Comptroller of the Currency (12 C.F.R. Part 3, Appendix A)), of capital in respect of its Commitment(s) or Loans (such compensation to include, without limitation, an amount equal to any reduction of the rate of return on assets or equity of such Bank (or any Applicable Lending Office or such bank holding company) to a level below that which such Bank (or any Applicable Lending Office or such bank holding company) could have achieved but for such law, regulation, interpretation, directive or request). For purposes of this Section 5.01(c), "Basel Accord" shall mean the proposals for risk-based capital framework described by the Basel Committee on Banking Regulations and Supervisory Practices in its paper entitled "International Convergence of Capital Measurement and Capital Standards" dated July 1988, as amended, modified and supplemented and in effect from time to time or any replacement thereof. (d) Each Bank shall notify the Company of any event occurring after the date of this Agreement entitling such Bank to Credit Agreement -45- compensation under paragraph (a) or (c) of this Section 5.01 as promptly as practicable; provided that the Company shall not be required to pay any amounts under this Section 5.01 to the extent the amount requested to be paid is allocable to a period or date prior to the date which is 90 days before the date of such notice by such Bank to the Company. Each Bank will designate a different Applicable Lending Office for the Loans of such Bank affected by such event if such designation will avoid the need for, or reduce the amount of, such compensation and will not, in the sole good faith opinion of such Bank, be disadvantageous to such Bank, except that such Bank shall have no obligation to designate an Applicable Lending Office located in the United States of America. Each Bank will furnish to the Company a certificate setting forth in reasonable detail the basis and amount of each request by such Bank for compensation under paragraph (a) or (c) of this Section 5.01. Determinations and allocations by any Bank for purposes of this Section 5.01 of the effect of any Regulatory Change pursuant to paragraph (a) or (b) of this Section 5.01, or of the effect of capital maintained pursuant to paragraph (c) of this Section 5.01, on its costs or rate of return of maintaining Loans or its obligation to make Loans, or on amounts receivable by it in respect of Loans, and of the amounts required to compensate such Bank under this Section 5.01, shall be conclusive, provided that such determinations and allocations are made on a reasonable basis and are not manifestly in error. 5.02 Limitation on Types of Loans. Anything herein to the contrary notwithstanding, if, on or prior to the determination of any Eurodollar Base Rate for any Interest Period: (a) the Administrative Agent determines, which determination shall be conclusive, that quotations of interest rates for the relevant deposits referred to in the definition of "Eurodollar Base Rate" in Section 1.01 hereof are not being provided in the relevant amounts or for the relevant maturities for purposes of determining rates of interest for Eurodollar Loans as provided herein; or Credit Agreement -46- (b) if the Majority Banks in good faith determine, which determination shall otherwise be conclusive, and notify the Administrative Agent that the relevant rates of interest referred to in the definition of "Eurodollar Base Rate" in Section 1.01 hereof upon the basis of which the rate of interest for Eurodollar Loans for such Interest Period is to be determined are not likely adequately to cover the cost to such Banks of making or maintaining Eurodollar Loans for such Interest Period; then the Administrative Agent shall give the Company and each Bank prompt notice thereof and, so long as such condition remains in effect, the Banks shall be under no obligation to make additional Eurodollar Loans, to Continue Eurodollar Loans or to Convert Base Rate Loans into Eurodollar Loans, and the Company shall, on the last day(s) of the then current Interest Period(s) for the outstanding Eurodollar Loans, either prepay such Loans or Convert such Loans into Base Rate Loans in accordance with Section 2.07 hereof. 5.03 Illegality. Notwithstanding any other provision of this Agreement, in the event that it becomes unlawful for any Bank or its Applicable Lending Office to honor its obligation to make or maintain Eurodollar Loans hereunder, then such Bank shall promptly notify the Company thereof (with a copy to the Administrative Agent) and, in the case that it has become unlawful for such Bank to make Loans, such Bank's obligation to make or Continue, or to Convert Loans of any other Type into, Eurodollar Loans shall be suspended until such time as such Bank may again make and maintain Eurodollar Loans and, in the case that it has become unlawful for such Bank to maintain Loans, its outstanding Loans shall bear interest at the Base Rate from the date such Bank may specify to the Company with a copy to the Administrative Agent until it shall no longer be unlawful for such Bank to maintain Eurodollar Loans (in which case the provisions of Section 5.03A hereof shall be applicable). 5.03A Treatment of Affected Loans. If the obligation of any Bank to make Eurodollar Loans or to Continue, or to Convert Base Rate Loans into, Eurodollar Loans shall be suspended Credit Agreement -47- pursuant to Section 5.01 or 5.03 hereof, such Bank's Eurodollar Loans shall be automatically Converted into Base Rate Loans on the last day(s) of the then current Interest Period(s) for such Eurodollar Loans (or, in the case of a Conversion resulting from a circumstance described in Section 5.03 hereof, on such earlier date as such Bank may specify to the Company with a copy to the Agent) and, unless and until such Bank gives notice as provided below that the circumstances specified in Section 5.01 or 5.03 hereof that gave rise to such Conversion no longer exist: (a) to the extent that such Bank's Eurodollar Loans have been so Converted, all payments and prepayments of principal that would otherwise be applied to such Bank's Eurodollar Loans shall be applied instead to its Base Rate Loans; and (b) all Loans that would otherwise be made or Continued by such Bank as Eurodollar Loans shall be made or Continued instead as Base Rate Loans, and all Base Rate Loans of such Bank that would otherwise be Converted into Eurodollar Loans shall remain as Base Rate Loans. If such Bank gives notice to the Company with a copy to the Agent that the circumstances specified in Section 5.01 or 5.03 hereof that gave rise to the Conversion of such Bank's Eurodollar Loans pursuant to this Section 5.03A no longer exist (which such Bank agrees to do promptly upon such circumstances ceasing to exist) at a time when Eurodollar Loans made by other Banks are outstanding, such Bank's Base Rate Loans shall be automatically Converted, on the first day(s) of the next succeeding Interest Period(s) for such outstanding Eurodollar Loans, to the extent necessary so that, after giving effect thereto, all Base Rate and Eurodollar Loans are allocated among the Banks ratably (as to principal amounts, Types and Interest Periods) in accordance with their respective Commitments. 5.04 Compensation. The Company shall pay to the Administrative Agent for account of each Bank, upon the request of such Bank through the Administrative Agent, such amount or amounts as shall be sufficient (in the reasonable opinion of such Credit Agreement -48- Bank) to compensate it for any loss, cost or expense that such Bank determines is attributable to: (a) any payment, mandatory or optional prepayment, or Conversion of a Eurodollar Loan made by such Bank for any reason (including, without limitation, the acceleration of the Loans pursuant to Section 9 hereof) on a date other than the last day of an Interest Period for such Loan; (b) any failure by the Company (whether by reason of the Company's election not to proceed or the failure of any of the conditions precedent specified in Section 6 hereof to be satisfied) to borrow a Eurodollar Loan from such Bank on the date for such borrowing specified in the relevant notice of borrowing given under Section 2.02 hereof. Without limiting the effect of the preceding sentence, such compensation shall include an amount equal to the excess (if any) of (i) the amount of interest that otherwise would have accrued on the principal amount of such Eurodollar Loan so paid, prepaid, Converted or not borrowed, for the period from the date of such payment, prepayment, Conversion or failure to borrow, to the last day of the then current Interest Period for such Eurodollar Loan (or, in the case of a failure to borrow, the Interest Period for such Eurodollar Loan that would have commenced on the date specified for such borrowing) at the applicable rate of interest for such Eurodollar Loan provided for herein, less the Applicable Margin for such Eurodollar Loan, over (ii) the amount of interest that otherwise would have accrued on such principal amount at a rate per annum equal to the interest component of the amount such Bank would have bid on the date of such payment, prepayment or failure to borrow in the London interbank market for Dollar deposits of leading banks in amounts comparable to such principal amount and with maturities comparable to such period (as reasonably determined by such Bank). 5.05 U.S. Taxes. Credit Agreement -49- (a) The Company agrees to pay to each of the Banks and the Swingline Bank that is not a U.S. Person such additional amounts as are necessary in order that the net payment of any amount due to such non-U.S. Person hereunder after deduction for or withholding in respect of any U.S. Taxes imposed with respect to such payment (or in lieu thereof, payment of such U.S. Taxes by such non-U.S. Person), will not be less than the amount stated herein to be then due and payable, provided that the foregoing obligation to pay such additional amounts shall not apply: (i) to any payment to a Bank hereunder unless such Bank is, on the Restatement Date (or on the date it becomes a Bank or the Swingline Bank as provided in Section 11.06(b) hereof) and on the date of any change in the Applicable Lending Office of such Bank or the Swingline Bank, either entitled to submit a Form 1001 (relating to such Bank and entitling it to a complete exemption from withholding on all interest to be received by it hereunder in respect of the Loans) or Form 4224 (relating to all interest to be received by such Bank hereunder in respect of the Loans), or (ii) to any U.S. Taxes imposed solely by reason of the failure by such non-U.S. Person to comply with applicable certification, information, documentation or other reporting requirements if such compliance is required by statute or regulation of the United States of America as a precondition to relief or exemption from such U.S. Taxes. For the purposes of this Section 5.05(a), (w) "Form 1001" shall mean Form 1001 (Ownership, Exemption, or Reduced Rate Certificate) of the Department of the Treasury of the United States of America, (x) "Form 4224" shall mean Form 4224 (Exemption from Withholding of Tax on Income Effectively Connected with the Conduct of a Trade or Business in the United States) of the Department of the Treasury of the United States of America (or in relation to either such Form such successor and related forms as may from time to time be adopted by the relevant taxing authorities of the United States of America to document a claim to which such Form relates), (y) "U.S. Person" shall mean a citizen, national or resident of the United States of America, a Credit Agreement -50- corporation, partnership or other entity created or organized in or under any laws of the United States of America, or any estate or trust that is subject to Federal income taxation regardless of the source of its income and (z) "U.S. Taxes" shall mean any present or future tax, assessment or other charge or levy imposed by or on behalf of the United States of America or any taxing authority thereof or therein. (b) Within 30 days after paying any amount to the Administrative Agent or any Bank or the Swingline Bank from which it is required by law to make any deduction or withholding, and within 30 days after it is required by law to remit such deduction or withholding to any relevant taxing or other authority, the Company shall deliver to the Administrative Agent for delivery to such non-U.S. Person evidence satisfactory to such Person of such deduction, withholding or payment (as the case may be). 5.06 Fair Allocation; Substitution of Banks. (a) Anything herein to the contrary notwithstanding, any determination by any Bank of any amounts payable by the Company under Section 5.01 shall be based upon a fair and equitable allocation by such Bank of the particular overall cost or loss among all its similarly situated borrowers relative to such Bank, and the Company shall not be obligated to compensate any Bank for any costs that would not have been incurred by such Bank but for its gross negligence or willful misconduct. (b) Provided that no Default shall have occurred and be continuing, the Company may, at any time, replace any Bank or the Swingline Bank that has requested compensation from the Company pursuant to Section 5.01 hereof or whose obligation to make additional Loans has been suspended pursuant to Section 5.03 hereof or that is entitled to payment of additional amounts under Section 5.05 hereof (any such Bank or the Swingline Bank being herein called an "Affected Bank"), by giving not less than ten Business Days' prior notice to the Administrative Agent (which shall promptly notify such Affected Bank and each other Bank), that it intends to replace such Affected Bank with one or more Credit Agreement -51- banks (including, but not limited to, any other Bank under this Agreement) selected by the Company and acceptable to the Administrative Agent (which shall not unreasonably withhold its consent). The method (whether by assignment or otherwise) of and documentation for such replacement shall be acceptable to the Affected Bank, the other Banks and the Administrative Agent (which shall not unreasonably withhold their consent and shall cooperate with the Company in effecting such replacement). Upon the effective date of any replacement under this Section 5.06 (and as a condition thereto), the Company shall, or shall cause the replacement bank(s) to, pay to the Affected Bank being replaced any amounts owing to such Affected Bank hereunder (including, without limitation, interest, commitment fees, compensation and additional amounts under this Section 5, in each case accrued to the effective date of such replacement), whereupon each replacement bank shall become a "Bank" or the "Swingline Bank", as the case may be, for all purposes of this Agreement having a Commitment in the amount of such Affected Bank's Commitment assumed by it, and such Commitment of the Affected Bank being replaced (including, if such Affected Bank is the Swingline Bank, its Swingline Commitment) shall be terminated upon such effective date and all of such Affected Bank's rights and obligations under this Agreement shall terminate (provided that the obligations of the Company under Sections 5.01, 5.04, 5.05 and 11.03 hereof to such Affected Bank shall survive such replacement as provided in Section 11.07 hereof). Section 6. Conditions Precedent. 6.01 Amendment Effective Date. The effectiveness of this amendment and restatement of the Existing Credit Agreement provided for hereby is subject to the receipt by the Administrative Agent of the following documents, each of which shall be satisfactory to the Administrative Agent (and to the extent specified below, to each Bank) in form and substance: (a) Corporate Documents. The following documents, each certified as indicated below: Credit Agreement -52- (i) a copy of the charters, as amended and in effect, of the Company and of each Material Subsidiary certified as of a recent date by the Secretary of State of the State of New York and by the New York Insurance Department, as the case may be, and a certificate from such respective New York State authorities dated as of a recent date as to the good standing of and charter documents filed by the Company and by such Material Subsidiary; (ii) a certificate of the Secretary or an Assistant Secretary of the Company, dated the Amendment Effective Date and certifying (A) that attached thereto is a true and complete copy of the by-laws of the Company and of each Material Subsidiary as amended and in effect at all times from the date on which the resolutions referred to in clause7 (B) were adopted to and including the date of such certificate, (B) that attached thereto is a true and complete copy of resolutions duly adopted by the board of directors of the Company authorizing the execution, delivery and performance of the Basic Documents and the extensions of credit hereunder, and that such resolutions have not been modified, rescinded or amended and are in full force and effect, (C) that the charters of the Company and the Material Subsidiaries have not been amended since the date of the certification thereto furnished pursuant to subparagraph (i) above, and (D) as to the incumbency and specimen signature of each officer of the Company executing the Basic Documents and each other document to be delivered by the Company from time to time in connection therewith (and the Administrative Agent and each Bank may conclusively rely on such certificate until it receives notice in writing from the Company); and (iii) a certificate of another officer of the Company as to the incumbency and specimen signature of the Secretary or Assistant Secretary, as the case may be, of the Company. Credit Agreement -53- (b) Officer's Certificate. A certificate of a senior officer of the Company, dated the Amendment Effective Date, to the effect set forth in the first sentence of Section 6.03 hereof. (c) Opinion of Counsel to the Company. An opinion, dated the Amendment Effective Date, of Samuel Bergman, Executive Vice President and General Counsel of the Company, substantially in the form of Exhibit C hereto and covering such other matters as the Administrative Agent or any Bank may reasonably request (and the Company hereby instructs such counsel to deliver such opinion to the Banks and the Administrative Agent). (d) Opinion of Special New York Counsel to Chase. An opinion, dated the Amendment Effective Date, of Milbank, Tweed, Hadley & McCloy, special New York counsel to Chase, substantially in the form of Exhibit D hereto. (e) Notes. The Revolving Credit Notes, duly completed and executed in exchange (in the case of the Existing Banks) for the promissory notes issued under the Existing Credit Agreement. (f) Tax Sharing Agreements. True, correct and complete copies of all tax sharing agreements (if any) to which the Company or any of its Subsidiaries is a party, which agreements must be in form and substance satisfactory to the Banks. (g) Capital Contribution Agreements. A true, correct and complete copy of all agreements (if any) of the Company under which the Company is obligated to make capital contributions to any of its Insurance Subsidiaries, which agreements must be in form and substance satisfactory to the Banks. (h) Evidence that Existing Banks have been paid all principal of and interest on the Existing Loans and all commitment fee, and all other amounts owing, under the Credit Agreement -54- Existing Credit Agreement accrued to the Amendment Effective Date. (i) Other Documents. Such other documents as the Administrative Agent or any Bank or special New York counsel to Chase may reasonably request. The effectiveness of this amendment and restatement of the Existing Credit Agreement is also subject to the payment by the Company of such fees as the Company shall have agreed to pay or deliver to any Bank or the Administrative Agent in connection herewith, including, without limitation, the reasonable fees and expenses of Milbank, Tweed, Hadley & McCloy, special New York counsel to Chase in connection with the negotiation, preparation, execution and delivery of this Agreement and the Notes and the other Basic Documents and the making of the Loans hereunder (to the extent that statements for such fees and expenses have been delivered to the Company not less than five days prior to the Amendment Effective Date). 6.02 Term Loans. The obligation of the Banks to make any Term Loans to the Company hereunder on the occasion of the borrowing of any Series of Term Loans is subject to the further condition precedent that the Company shall have delivered to the Administrative Agent the Term Notes evidencing such Series of Term Loans. 6.03 Initial and Subsequent Loans. The obligation of any Bank or the Swingline Bank to make any Loan to the Company upon the occasion of any borrowing hereunder (including the initial borrowing) is subject to the further conditions precedent that, both immediately prior to the making of such Loan and also after giving effect thereto and to the intended use thereof: (a) no Default shall have occurred and be continuing; Credit Agreement -55- (b) the representations and warranties made by the Company in Section 7 hereof, and in each of the other Basic Documents, shall be true and complete on and as of the date of the making of such Loan with the same force and effect as if made on and as of such date (or, if any such representation or warranty is expressly stated to have been made as of a specific date, as of such specific date); and (c) the Company shall have delivered to the Administrative Agent (i) certificates (accompanied by stock powers duly endorsed in blank) representing shares of common stock of ERC having an aggregate Value at least equal to 166-2/3% of the aggregate unpaid principal amount of all Loans outstanding (after giving effect to such borrowing), and (ii) a certificate of the senior financial officer of the Company setting forth in reasonable detail the computations necessary to determine the aggregate Value of the shares of Pledged Stock after giving effect to the delivery of the certificates referred to in clause (i) above. Each notice of borrowing by the Company hereunder shall constitute a certification by the Company to the effect set forth in the preceding sentence (both as of the date of such notice and, unless the Company otherwise notifies the Administrative Agent prior to the date of such borrowing, as of the date of such borrowing). Section 7. Representations and Warranties. The Company represents and warrants to the Administrative Agent and the Banks and the Swingline Bank that: 7.01 Corporate Existence. Each of the Company and its Material Subsidiaries: (a) is a corporation, partnership or other entity duly organized, validly existing and in good standing under the laws of the jurisdiction of its organization; (b) has all requisite corporate or other power, and has all material governmental licenses, authorizations, consents and approvals, necessary to own its assets and carry on its business as now being or as proposed to be conducted; and (c) is qualified Credit Agreement -56- to do business and is in good standing in all jurisdictions in which the nature of the business conducted by it makes such qualification necessary and where failure so to qualify could, either individually or in the aggregate, have a Material Adverse Effect. 7.02 Financial Condition. (a) The Company has heretofore furnished to each of the Banks consolidated and consolidating balance sheets of the Company and its Subsidiaries as at December 31, 1995 and the related consolidated and consolidating statements of income, shareholders' equity and cash flows of the Company and its Subsidiaries for the fiscal year ended on said date, with the opinion thereon (in the case of said consolidated balance sheet and statements) of Deloitte & Touche LLP, and the unaudited consolidated and consolidating balance sheets of the Company and its Subsidiaries as at June 30, 1996 and the related consolidated and consolidating statements of income, shareholders' equity and cash flows of the Company and its Subsidiaries for the six-month period ended on such date. All such financial statements present fairly, in all material respects, the consolidated financial condition of the Company and its Subsidiaries, and (in the case of said consolidating financial statements) the respective unconsolidated financial condition of the Company and of each of its Subsidiaries, as at said dates and the consolidated results of their operations, and (in the case of said consolidating statements) the respective unconsolidated results of operations of the Company and of each of its Subsidiaries, for the fiscal year and six-month period ended on said dates (subject, in the case of such financial statements as at June 30, 1996, to normal year-end audit adjustments), all in accordance with generally accepted accounting principles and practices applied on a consistent basis. None of the Company nor any of its Subsidiaries has on the Restatement Date any material contingent liabilities, liabilities for taxes, unusual forward or long-term commitments or unrealized or anticipated losses from any unfavorable commitments, except as referred to or reflected or provided for in said financial statements (or in the notes thereto) as at said dates. Since December 31, 1995, there has Credit Agreement -57- been no material adverse change in the consolidated financial condition, operations, business or prospects of the Company and its Subsidiaries taken as a whole from that set forth in said financial statements as at said date. (b) The Company has heretofore furnished to each of the Banks the annual and quarterly Statutory Statements of the Company (consolidated) and of each of its Insurance Subsidiaries for the fiscal year ended December 31, 1995 and for the quarterly fiscal period ended June 30, 1996 as filed with the Applicable Insurance Regulatory Authority. All such Statutory Statements present fairly, in all material respects, the financial condition of the Company (consolidated) and of each Insurance Subsidiary, respectively, as at the respective dates thereof and its results of operations through fiscal year ended on December 31, 1995 and the quarterly fiscal period ended June 30, 1996, in accordance with statutory accounting practices prescribed or permitted by the Applicable Insurance Regulatory Authority. 7.03 Litigation. Except as disclosed in Schedule III hereto, there are no legal or arbitration proceedings, or any proceedings by or before any governmental or regulatory authority or agency, now pending or (to the knowledge of the Company) threatened against the Company or any of its Subsidiaries that, if adversely determined, could, either individually or in the aggregate, have a Material Adverse Effect. 7.04 No Breach. None of the execution and delivery of this Agreement and the Notes and the other Basic Documents, the consummation of the transactions herein and therein contemplated or compliance with the terms and provisions hereof and thereof will conflict with or result in a breach of, or require any consent under, (or, in the case of the Pledge Agreement, have conflicted with or resulted in a breach of, or required any consent under) the charter or by-laws of the Company, or any applicable law or regulation, or any order, writ, injunction or decree of any court or governmental authority or agency, or any agreement or instrument to which the Company or any of its Subsidiaries is a party or by which any of them or any of their Property is bound or to which any of them is subject, or Credit Agreement -58- constitute (or, in the case of the Pledge Agreement, constituted) a default under any such agreement or instrument, or (except for the Liens created pursuant to the Pledge Agreement) result (or, in the case of the Pledge Agreement, resulted) in the creation or imposition of any Lien upon any Property of the Company or any of its Subsidiaries pursuant to the terms of any such agreement or instrument; provided that the pledge of shares of common stock of ERC under the Pledge Agreement required the consent of the Required Majority under (and as such term is defined in) the Senior Note Purchase Agreements. 7.05 Action. The Company has all necessary corporate power, authority and legal right to execute and deliver this Agreement and the Notes and perform its obligations under each of the Basic Documents; the execution and delivery of this Agreement and the Notes and performance by the Company of each of the Basic Documents have been duly authorized by all necessary corporate action on its part (including, without limitation, any required shareholder approvals); and this Agreement and the Pledge Agreement have been duly and validly executed and delivered by the Company and constitute, and each of the Notes when executed and delivered for value will constitute, the legal, valid and binding obligation of the Company, enforceable against the Company in accordance with its terms. 7.06 Approvals. No authorizations, approvals or consents of, and no filings or registrations with, any governmental or regulatory authority or agency, or any securities exchange, are necessary for the execution or delivery by the Company of this Agreement and the Notes or performance by the Company of the Basic Documents or for the legality, validity or enforceability hereof or thereof except that the approval of the New York Insurance Department may be required in connection with a foreclosure on the Pledged Stock in the event such foreclosure results a Change in Control of ERC. 7.07 Margin Stock. Not more than 25% of the value (as determined by any reasonable method) of the Properties of the Company and its Subsidiaries (including, without limitation, common stock of the Company held in treasury) subject to the Credit Agreement -59- provisions of Section 8.05 or 8.06 hereof is represented by Margin Stock. 7.08 ERISA. Each Plan, and, to the knowledge of the Company, each Multiemployer Plan, is in compliance in all material respects with, and has been administered in all material respects in compliance with, the applicable provisions of ERISA, the Code and any other Federal or State law, and no event or condition has occurred and is continuing as to which the Company would be under an obligation to furnish a report to the Banks under Section 8.01(g) hereof. 7.09 Taxes. The Company and its Subsidiaries are members of an affiliated group of corporations filing consolidated returns for Federal income tax purposes, of which the Company is the "common parent" (within the meaning of Section 1504 of the Code) of such group. The Company and its Subsidiaries have filed all Federal income tax returns and all other material tax returns that are required to be filed by them and have paid all taxes due pursuant to such returns or pursuant to any assessment received by the Company or any of its Subsidiaries. The charges, accruals and reserves on the books of the Company and its Subsidiaries in respect of taxes and other governmental charges are, in the opinion of the Company, adequate. The Company has not given or been requested to give a waiver of the statute of limitations relating to the payment of Federal, state, local and foreign taxes or other impositions. 7.10 Investment Company Act. Neither the Company nor any of its Subsidiaries is an "investment company", or a company "controlled" by an "investment company", within the meaning of the Investment Company Act of 1940, as amended. 7.11 Public Utility Holding Company Act. Neither the Company nor any of its Subsidiaries is a "holding company", or an "affiliate" of a "holding company" or a "subsidiary company" of a "holding company", within the meaning of the Public Utility Holding Company Act of 1935, as amended. 7.12 Material Agreements and Liens. Credit Agreement -60- (a) Part A of Schedule I hereto is a complete and correct list, as of the Restatement Date, of each credit agreement, loan agreement, indenture, securities purchase agreement, guarantee, letter of credit or other arrangement providing for or otherwise relating to any Indebtedness of the Company or any of its Subsidiaries the aggregate principal or face amount of which equals or exceeds (or may equal or exceed) $1,000,000, and the aggregate principal or face amount outstanding or that may become outstanding under each such arrangement is correctly described in Part A of said Schedule I. (b) Part B of Schedule I hereto is a complete and correct list, as of the Restatement Date, of each Lien securing Indebtedness of any Person the aggregate principal or face amount of which equals or exceeds (or may equal or exceed) $1,000,000 and covering any Property of the Company or any of its Subsidiaries, and the aggregate Indebtedness secured (or which may be secured) by each such Lien and the Property covered by each such Lien is correctly described in Part B of said Schedule I. 7.13 Environmental Matters. There have been no environmental investigations, studies, audits, tests, reviews or other analyses conducted by or that are in the possession of the Company or any of its Subsidiaries in relation to any site or facility now or previously owned, operated or leased by the Company or any of its Subsidiaries which have not been made available to the Banks. 7.14 Capitalization. The authorized capital stock of the Company consists, on the Restatement Date, of an aggregate of 30,000,000 shares of common stock, par value $0.10 per share, of which [18,163,100] shares are duly and validly issued and outstanding (and [111,400] shares of which are held in treasury), each of which shares is fully paid and nonassessable. As of the Restatement Date, except for the Company's Long-Term Incentive Plan for Key Employees and its Non-Employee-Director Stock Option Plan as in effect on the Restatement Date and any stock bonus awards, restricted stock awards, performance units, stock options or stock appreciation rights heretofore issued thereunder and Credit Agreement -61- other than pursuant to the Shareholders' Agreement, (x) there are no outstanding Equity Rights with respect to the Company and (y) there are no outstanding obligations of the Company or any of its Subsidiaries to repurchase, redeem, or otherwise acquire any shares of capital stock of the Company nor are there any outstanding obligations of the Company or any of its Subsidiaries to make payments to any Person, such as "phantom stock" payments, where the amount thereof is calculated with reference to the fair market value or equity value of the Company or any of its Subsidiaries. 7.15 Subsidiaries, Etc. (a) Set forth in Schedule II hereto is a complete and correct list, as of the Restatement Date, of all of the Subsidiaries of the Company, together with, for each such Subsidiary, (i) the jurisdiction of organization of such Subsidiary, (ii) each Person holding ownership interests in such Subsidiary and (iii) the nature of the ownership interests held by each such Person and the percentage of ownership of such Subsidiary represented by such ownership interests. Except as disclosed in Schedule II hereto, as of the Restatement Date (x) each of the Company and its Subsidiaries owns, free and clear of Liens (other than Liens created pursuant to the Pledge Agreement), and has the unencumbered right to vote, all outstanding ownership interests in each Person shown to be held by it in Schedule II hereto, (y) all of the issued and outstanding capital stock of each such Person organized as a corporation is validly issued, fully paid and nonassessable and (z) there are no outstanding Equity Rights with respect to such Person. (b) None of the Subsidiaries of the Company is, on the Restatement Date, subject to any indenture, agreement, instrument or other arrangement of the type described in Section 8.15(c) hereof. 7.16 True and Complete Disclosure. The information, reports, financial statements, exhibits and schedules furnished in writing by or on behalf of the Company or any of its Credit Agreement -62- Subsidiaries to the Administrative Agent or any Bank in connection with the negotiation, preparation or delivery of this Agreement and the other Basic Documents or included herein or therein or delivered pursuant hereto or thereto, when taken as a whole, do not, as of the Restatement Date, contain any untrue statement of material fact or omit to state any material fact necessary to make the statements herein or therein, in light of the circumstances under which they were made, not misleading. All written information furnished after the Restatement Date by the Company and its Subsidiaries to the Administrative Agent and the Banks in connection with this Agreement and the other Basic Documents and the transactions contemplated hereby and thereby will be true, complete and accurate in every material respect, or (in the case of projections) based on reasonable estimates, on the date as of which such information is stated or certified. To the Company's knowledge, there is no fact peculiar to the Company or any of its Subsidiaries (in contrast to information of a general economic or industry nature) that could have a Material Adverse Effect that has not been disclosed herein, in the other Basic Documents or in a report, financial statement, exhibit, schedule, disclosure letter or other writing furnished to the Banks for use in connection with the transactions contemplated hereby or thereby. Section 8. Covenants of the Company. The Company covenants and agrees with the Banks, the Swingline Bank and the Administrative Agent that, so long as any Commitment or Loan is outstanding and until payment in full of all amounts payable by the Company hereunder: 8.01 Financial Statements; Information; Etc. The Company shall deliver to each of the Banks and the Swingline Bank: (a) as soon as available and in any event within 55 days after the end of each quarterly fiscal period of each fiscal year of the Company, consolidated and consolidating statements of income, shareholders' equity and cash flows of the Company and its Subsidiaries for such period and for the period from the beginning of the Credit Agreement -63- respective fiscal year to the end of such period, and the related consolidated and consolidating balance sheets of the Company and its Subsidiaries as at the end of such period, setting forth in each case in comparative form the corresponding consolidated and consolidating figures for the corresponding period in the preceding fiscal year, accompanied by a certificate of a senior financial officer of the Company, which certificate shall state that said consolidated financial statements present fairly, in all material respects, the consolidated financial condition and results of operations of the Company and its Subsidiaries, and said consolidating financial statements present fairly in all material respects, the respective individual unconsolidated financial condition and results of operations of the Company and of each of its Subsidiaries, in each case in accordance with generally accepted accounting principles, consistently applied, as at the end of, and for, such period (subject to normal year-end audit adjustments); (b) as soon as available and in any event within 100 days after the end of each fiscal year of the Company, consolidated and consolidating statements of income, stockholders' equity and cash flows of the Company and its Subsidiaries for such fiscal year and the related consolidated and consolidating balance sheets of the Company and its Subsidiaries as at the end of such fiscal year, setting forth in each case in comparative form the corresponding consolidated and consolidating figures for the preceding fiscal year, and accompanied (i) in the case of said consolidated statements and balance sheet of the Company, by an opinion thereon of independent certified public accountants of recognized national standing, which opinion shall state that said consolidated financial statements present fairly, in all material respects, the consolidated financial condition and results of operations of the Company and its Subsidiaries as at the end of, and for, such fiscal year in accordance with generally accepted accounting principles, and a certificate of such accountants addressed to the Banks stating that, in making the examination necessary for their opinion, nothing came to Credit Agreement -64- their attention that caused them to believe that the Company had failed to comply with any of its obligations under Sections 8.05 to 8.11 (inclusive) or that any Default specified in paragraph (b) or (e) to (j), inclusive, of Section 9 hereof had occurred, except as specifically stated, and (ii) in the case of said consolidating statements and balance sheets, by a certificate of a senior financial officer of the Company, which certificate shall state that said consolidating financial statements present fairly, in all material respects, the respective individual unconsolidated financial condition and results of operations of the Company and of each of its Subsidiaries, in each case in accordance with generally accepted accounting principles, consistently applied, as at the end of, and for, such fiscal year; (c) within 5 days after filing with the Applicable Insurance Regulatory Authority and in any event within 55 days after the end of each of the first three quarterly fiscal periods of each fiscal year of the Company the quarterly Statutory Statement of the Company (consolidated) and of each Insurance Subsidiary for such fiscal period, together with (except in the case of Van-American Insurance Company) a certificate of a senior financial officer of the Company (x) stating that such Statutory Statement fairly presents, in all material respects, the financial condition of the Company (consolidated) and of each Insurance Subsidiary, respectively, for such quarterly fiscal period in accordance with statutory accounting practices required or permitted by the Applicable Insurance Regulatory Authority and (y) in the case of ERC, setting forth in reasonable detail the computations necessary to determine the aggregate Value of the shares of Pledged Stock (if any). (d) within 5 days after filing with the Applicable Insurance Regulatory Authority and in any event within 55 days after the end of each fiscal year of the Company the annual Statutory Statement of the Company (consolidated) and of each Insurance Subsidiary for such year, together with a certificate of a senior financial officer of the Company Credit Agreement -65- (except in the case of Van-American Insurance Company) (x) stating that such annual Statutory Statement fairly presents, in all material respects, the financial condition of the Company (consolidated) and of each Insurance Subsidiary, respectively, for such fiscal year in accordance with statutory accounting practices required or permitted by the Applicable Insurance Regulatory Authority and (y) in the case of ERC, setting forth in reasonable detail the computations necessary to determine the aggregate Value of the shares of Pledged Stock (if any). (e) promptly upon their becoming available, copies of all registration statements and regular periodic reports, if any, which the Company shall have filed with the Securities and Exchange Commission (or any governmental agency substituted therefor) or any national securities exchange; (f) promptly upon the mailing thereof to the shareholders of the Company generally, copies of all financial statements, reports and proxy statements so mailed; (g) as soon as possible, and in any event within ten days after the Company knows or has reason to believe that any of the events or conditions specified below with respect to any Plan or Multiemployer Plan has occurred or exists, a statement signed by a senior financial officer of the Company setting forth details respecting such event or condition and the action, if any, that the Company or its ERISA Affiliate proposes to take with respect thereto (and a copy of any report or notice required to be filed with or given to PBGC by the Company or an ERISA Affiliate with respect to such event or condition): (i) any reportable event, as defined in Section 4043(b) of ERISA and the regulations issued thereunder, with respect to a Plan, as to which PBGC has not by regulation waived the requirement of Section 4043(a) of ERISA that it be notified within 30 days of the occurrence of such event (provided that Credit Agreement -66- a failure to meet the minimum funding standard of Section 412 of the Code or Section 302 of ERISA, including, without limitation, the failure to make on or before its due date a required installment under Section 412(m) of the Code or Section 302(e) of ERISA, shall be a reportable event regardless of the issuance of any waivers in accordance with Section 412(d) of the Code); and any request for a waiver under Section 412(d) of the Code for any Plan; (ii) the distribution under Section 4041 of ERISA of a notice of intent to terminate any Plan or any action taken by the Company or an ERISA Affiliate to terminate any Plan; (iii) the institution by PBGC of proceedings under Section 4042 of ERISA for the termination of, or the appointment of a trustee to administer, any Plan, or the receipt by the Company or any ERISA Affiliate of a notice from a Multiemployer Plan that such action has been taken by PBGC with respect to such Multiemployer Plan; (iv) the complete or partial withdrawal from a Multiemployer Plan by the Company or any ERISA Affiliate that results in liability under Section 4201 or 4204 of ERISA (including the obligation to satisfy secondary liability as a result of a purchaser default) or the receipt by the Company or any ERISA Affiliate of notice from a Multiemployer Plan that it is in reorganization or insolvency pursuant to Section 4241 or 4245 of ERISA or that it intends to terminate or has terminated under Section 4041A of ERISA; (v) the institution of a proceeding by a fiduciary of any Multiemployer Plan against the Company or any ERISA Affiliate to enforce Section 515 of ERISA, which proceeding is not dismissed within 30 days; and Credit Agreement -67- (vi) the adoption of an amendment to any Plan that, pursuant to Section 401(a)(29) of the Code or Section 307 of ERISA, would result in the loss of tax-exempt status of the trust of which such Plan is a part if the Company or an ERISA Affiliate fails to timely provide security to the Plan in accordance with the provisions of said Sections; (h) promptly after the Company knows or has reason to believe that any Default has occurred, a notice of such Default specifying that such notice is a "Notice of Default" and describing the same in reasonable detail and, together with such notice or as soon thereafter as possible, a description of the action that the Company has taken or proposes to take with respect thereto; and (i) from time to time such other information regarding the financial condition, operations, business or prospects of the Company or any of its Subsidiaries (including, without limitation, any Plan or Multiemployer Plan and any reports or other information required to be filed under ERISA) as any Bank or the Administrative Agent may reasonably request. The Company will furnish to each Bank, at the time it furnishes each set of financial statements pursuant to paragraph (a) or (b) above, a certificate of a senior financial officer of the Company (i) to the effect that no Default has occurred and is continuing (or, if any Default has occurred and is continuing, describing the same in reasonable detail and describing the action that the Company has taken or proposes to take with respect thereto) and (ii) setting forth in reasonable detail the computations necessary to determine whether the Company is in compliance with Sections 8.05(d)(v)(z), 8.06(i), 8.07(d), 8.09 and 8.10 hereof as of the end of the respective quarterly fiscal period or fiscal year. 8.02 Litigation. The Company will promptly give to each Bank and the Swingline Bank notice of all legal or arbitration proceedings, and of all proceedings by or before any Credit Agreement -68- governmental or regulatory authority or agency, and any material development in respect of such legal or other proceedings, affecting the Company or any of its Subsidiaries, except proceedings which, if adversely determined, could not, either individually or in the aggregate, have a Material Adverse Effect. 8.03 Existence, Etc. The Company will, and will cause each of its Material Subsidiaries to: (a) preserve and maintain its legal existence and all of its material rights, privileges, licenses and franchises (provided that nothing in this Section 8.03 shall prohibit any transaction expressly permitted by Section 8.05 hereof); (b) comply with the requirements of all applicable laws, rules, regulations and orders of governmental or regulatory authorities if failure to comply with such requirements could, either individually or in the aggregate, have a Material Adverse Effect; (c) pay and discharge all taxes, assessments and governmental charges or levies imposed on it or on its income or profits or on any of its Property prior to the date on which penalties attach thereto, except for any such tax, assessment, charge or levy the payment of which is being contested in good faith and by proper proceedings and against which adequate reserves are being maintained in accordance with GAAP; (d) maintain all of its Properties material to its business in reasonably adequate working order and condition, ordinary wear and tear excepted; (e) keep adequate records and books of account, in which complete entries will be made in accordance with generally accepted accounting principles consistently applied; and (f) permit representatives of any Bank or the Administrative Agent, during normal business hours, to Credit Agreement -69- examine, copy and make extracts from its books and records, to inspect any of its Properties, and to discuss its business and affairs with its officers, all to the extent reasonably requested by such Bank or the Administrative Agent (as the case may be). 8.04 Insurance. The Company will, and will cause each of its Material Subsidiaries to, keep insured by financially sound and reputable insurers all Property of a character usually insured by corporations engaged in the same or similar business similarly situated against loss or damage of the kinds and in the amounts customarily insured against by such corporations and carry such other insurance as is usually carried by such corporations. 8.05 Prohibition of Fundamental Changes. (a) The Company will not, and will not permit any of its Material Subsidiaries to, enter into any transaction of merger or consolidation or amalgamation, or liquidate, wind up or dissolve itself (or suffer any liquidation or dissolution). (b) The Company will not, and will not permit any of its Subsidiaries to, acquire any business or Property from, or capital stock of, or be a party to any acquisition of, any Person. (c) The Company will not, and will not permit any of its Material Subsidiaries to, convey, sell, lease, transfer or otherwise dispose of any part of its business or Property, whether now owned or hereafter acquired (including, without limitation, receivables and leasehold interests). (d) Notwithstanding the foregoing paragraphs of this Section 8.05: (i) any Subsidiary of the Company may be merged or consolidated with or into (x) the Company if the Company shall be the continuing or surviving corporation or (y) any other Subsidiary of the Company; provided that if any such Credit Agreement -70- transaction shall be between a Subsidiary of the Company and a Wholly Owned Subsidiary of the Company, such Wholly Owned Subsidiary shall be the continuing or surviving corporation; (ii) the Company or any of its Subsidiaries may (x) purchase equipment, furniture and supplies to be used in the ordinary course of business and (y) acquire all of the capital stock of Vesta American Reinsurance Corporation Inc. ("Vesta American") from Skadeforsikringsselskapet Vesta A/S for a consideration not to exceed the net worth of Vesta American (determined as provided in the stock purchase agreement) plus $1,000,000; (iii) the Company or any of its Subsidiaries may make Investments permitted by Section 8.08 hereof; (iv) any Subsidiary of the Company may convey, sell, lease, transfer or otherwise dispose of any or all of its Property (upon voluntary liquidation or otherwise) to the Company or a Wholly Owned Subsidiary of the Company; and (v) the Company or any of its Subsidiaries may convey, sell, lease, transfer or otherwise dispose of (x) equipment no longer used or useful in its business, (y) any portfolio Investment sold or disposed of in the ordinary course of business and (z) any other Investment (including any Investment in the capital stock of Subsidiaries of the Company other than ERC or Asset Guaranty) having a value, together with the value (when sold, leased transferred or otherwise disposed of), of all Investments sold leased, transferred or otherwise disposed of in reliance on this sub-clause (z), not in excess of $1,000,000. (e) Except as expressly permitted by paragraphs of this Section 8.05, the Company shall not, nor shall it permit any of its Material Subsidiaries to, sell, transfer, convey or otherwise dispose of either directly or indirectly (x) all or any portion of the capital stock of any of its Material Subsidiaries (except that the Company may pledge shares of common stock of ERC under the Pledge Agreement) or (y) all or substantially all of Credit Agreement -71- the Properties of any of its Material Subsidiaries in one transaction or a series of related transactions. 8.06 Limitation on Liens. The Company will not, and will not permit any of its Material Subsidiaries to, create, incur, assume or suffer to exist any Lien upon any of its Property, whether now owned or hereafter acquired, except: (a) Liens created pursuant to the Pledge Agreement and Liens on the common stock of ERC securing the principal of, and interest and Make-Whole Amount on, the senior notes issued under the Senior Note Purchase Agreements; (b) Liens in existence on the Restatement Date and listed in Part B of Schedule I hereto; (c) Liens imposed by any governmental authority for taxes, assessments or charges not yet due or which are being contested in good faith and by appropriate proceedings, unless the amount thereof is material with respect to it or its financial condition, if adequate reserves with respect thereto are maintained on the books of the Company or the affected Subsidiaries, as the case may be, in accordance with GAAP; (d) carriers', warehousemen's, mechanics', materialmen's, repairmen's or other like Liens arising in the ordinary course of business which are not overdue for a period of more than 30 days or which are being contested in good faith and by appropriate proceedings and Liens securing judgments but only to the extent for an amount and for a period not resulting in an Event of Default under Section 9(h) hereof; (e) pledges or deposits under worker's compensation, unemployment insurance and other social security legislation; (f) deposits to secure the performance of bids, trade contracts (other than for borrowed money), leases, statutory Credit Agreement -72- obligations, surety and appeal bonds, performance bonds and other obligations of a like nature incurred in the ordinary course of business; (g) easements, rights-of-way, restrictions and other similar encumbrances incurred in the ordinary course of business and encumbrances consisting of zoning restrictions, easements, licenses, restrictions on the use of Property or minor imperfections in title thereto which, in the aggregate, are not material in amount, and which do not in any case materially detract from the value of the Property subject thereto or interfere with the ordinary conduct of the business of the Company or any of its Subsidiaries; (h) Liens on Property of any corporation which becomes a Subsidiary of the Company after the Restatement Date; provided that such Liens are in existence at the time such corporation becomes a Subsidiary of the Company and were not created in anticipation thereof; (i) Liens upon real and/or tangible personal Property acquired after the Restatement Date (by purchase, construction or otherwise) by the Company or any of its Subsidiaries, each of which Liens either existed on such Property before the time of its acquisition and was not created in anticipation thereof or was created solely for the purpose of securing Indebtedness incurred to finance, refinance or refund the cost (including the cost of construction) of such Property; provided that (i) no such Lien shall extend to or cover any Property of the Company or such Subsidiary other than the Property so acquired and improvements thereon and (ii) the principal amount of Indebtedness secured by any such Lien shall not exceed 75% of the fair market value (as determined in good faith by a senior financial officer of the Company) of such Property at the time it was acquired (by purchase, construction or otherwise); and (j) any extension, renewal or replacement of the foregoing; provided that the Liens permitted by this Credit Agreement -73- paragraph shall not extend to or cover any additional Indebtedness or Property (other than a substitution of like Property). 8.07 Indebtedness. The Company will not, and will not permit any of its Material Subsidiaries to, create or incur any Indebtedness except: (a) Indebtedness to the Banks and the Swingline Bank hereunder; (b) Indebtedness of the Company to any Subsidiary of the Company or Indebtedness of any Wholly Owned Subsidiary to the Company or to any other Wholly Owned Subsidiary of the Company; (c) Indebtedness of the Company and its Material Subsidiaries secured by Liens permitted by Section 8.06(i) hereof; (d) additional Indebtedness of the Company provided that on the date such Indebtedness is incurred and after giving effect thereto and to the concurrent retirement of any other Indebtedness of the Company, total consolidated Indebtedness of the Company and its Subsidiaries does not exceed 25% of Total Capitalization; and (e) Indebtedness of ERC not exceeding $100,000,000 in aggregate principal amount incurred under a credit facility established by ERC solely for the purpose of acquiring or supporting one or more of its claims-paying ability ratings. 8.08 Investments. The Company will not, and will not permit any of its Material Subsidiaries to, make or permit to remain outstanding any Investments except: (a) Investments constituting (i) operating deposit accounts with banks and (ii) accounts receivable arising in the ordinary course of business on ordinary business terms that are not overdue; Credit Agreement -74- (b) portfolio Investments constituting short-term debt instruments that are rated at least A-1 by Standard & Poor's Corporation or P-1 by Moody's Investors Service Inc.; (c) portfolio Investments constituting fixed income debt securities if, after giving effect to such Investment: (i) the weighted average credit quality of the fixed income debt securities portfolio of the Company or any Material Subsidiary, as determined by the rating system of Standard & Poor's Corporation, is AA or higher; or (ii) the aggregate amount invested by the Company and each of its Material Subsidiaries in fixed income debt securities which are rated lower than BBB by Standard & Poor's Corporation or Baa2 by Moody's Investors Service Inc. does not exceed 1% of the aggregate amount of all portfolio Investments of the Company and its Material Subsidiaries; (d) equity Investments if, after giving effect to such Investments, the aggregate amount of equity Investments of the Company and of its Material Subsidiaries (including, without limitation, Investments in Vantage American, Inc. and in other Subsidiaries of the Company that are not Wholly Owned Subsidiaries of the Company) does not exceed 6% of the aggregate amount of the consolidated Investments (both debt and equity) of the Company and its Material Subsidiaries; and (e) travel and similar advances by the Company and its Material Subsidiaries in the ordinary course of business and loans to officers and directors of the Company and its Material Subsidiaries, provided that such travel and similar advances and loans to officers and directors at any one time do not, in the aggregate, exceed $500,000 for the Company and its Material Subsidiaries. Credit Agreement -75- 8.09 Restricted Payments. The Company will not declare or make any Restricted Payment unless, on the date of declaration in the case of any proposed dividend and on the date of payment or distribution in the case of the making of any other Restricted Payment (the "Computation Date"), and after giving effect thereto: (i) the aggregate amount of all Restricted Payments made during the period commencing on January 1, 1992 and ending on and including the Computation Date (the "Computation Period") shall not exceed an amount equal to the sum of: (a) 25% (or, in the case of a deficit, minus 100%) of consolidated net income of the Company and its Subsidiaries for the Computation Period, plus (b) the net cash proceeds received by the Company from the issue or sale (other than to a Subsidiary) of shares of common stock of the Company (including shares of common stock issued upon conversion of Indebtedness to common stock, it being understood and agreed that in any such conversion, the Company shall be deemed to have received cash proceeds in an amount equal to the principal amount of Indebtedness converted to common stock; and (ii) no Default shall have occurred and be continuing; provided, that the Company shall not in any fiscal quarter of the Company declare any dividend to the extent that the amount of such dividend, together with the sum of (i) the aggregate amount of all dividends theretofore declared in such fiscal quarter plus (ii) the aggregate amount of dividends actually paid during the period (the "Measuring Period") of four consecutive fiscal quarters of the Company ended on (or most recently ended prior to) such declaration, would exceed 25% of the consolidated net Credit Agreement -76- income of the Company and its Subsidiaries for the Measuring Period (and the Company shall not pay any dividends it has not previously declared as permitted hereby); and provided further, that no Restricted Payments shall be permitted if and for so long as the claims-paying ability rating of any Insurance Subsidiary of the Company, as determined by Standard & Poor's Ratings Group (if rated by said agency), falls below AA- (or is withdrawn). 8.10 Financial Covenants. (a) Tangible Net Worth. The Company will not, on any date falling in any period set forth below, permit Tangible Net Worth to be less than the amount set forth opposite such period: Period Amount ------ ------ From and including the date hereof through December 31, 1992 $290,000,000 From and including January 1, 1993 through December 31, 1993 $310,000,000 From and including January 1, 1994 through December 31, 1994 $335,000,000 Thereafter $365,000,000 (b) Fixed Charge Coverage Ratio. The Company will not, as at any date falling in any period set forth below, permit the Fixed Charge Coverage Ratio for the period of the four consecutive fiscal quarters of the Company ending on, or most recently ended prior to, such date to be less than the ratio set forth opposite such period: Period Ratio ------ ----- From and including the date hereof through December 31, 1993 2.2 to 1 From and including January 1, 1994 Credit Agreement -77- through December 31, 1994 2.5 to 1 Thereafter 2.7 to 1 8.11 Capital Expenditures. The Company will not permit the aggregate amount of Capital Expenditures by the Company and its Subsidiaries to exceed $2,000,000 in any fiscal year of the Company. 8.12 Lines of Business. The Company will not permit any of its Insurance Subsidiaries to engage to any substantial extent in any line or lines of business activity other than the business of issuing financial guaranty insurance, credit insurance and residual value insurance (and reinsurance of the same) and similar or related products. 8.13 Transactions with Affiliates. The Company will not, and will not permit any of its Subsidiaries to, directly or indirectly: (a) make any Investment in any Affiliate of the Company; (b) transfer, sell, lease, assign or otherwise dispose of any Property to any such Affiliate; (c) purchase or acquire Property from any such Affiliate; or (d) enter into any other transaction directly or indirectly with or for the benefit of any such Affiliate (including, without limitation, Guarantees and assumptions of obligations of any such Affiliate); provided that the Company and its Subsidiaries may enter into transactions (other than Investments by the Company or any of its Subsidiaries in any Affiliate of the Company) providing for the leasing of Property, the rendering or receipt of services or the purchase or sale of Property in the ordinary course of business if the monetary or business consideration arising therefrom would Credit Agreement -78- be substantially as advantageous to the Company and its Subsidiaries as the monetary or business consideration which would obtain in a comparable transaction with a Person not an Affiliate of the Company. 8.14 Use of Proceeds. The Company will use the proceeds of the Loans hereunder solely for general corporate purposes (in compliance with all applicable legal and regulatory requirements) or, subject to Section 8.09 hereof, to purchase shares of the common stock of the Company; provided that (a) the proceeds of any Swingline Loan may not be used to repay or prepay any other Swingline Loan and (b) none of the Administrative Agent, any Bank or the Swingline Bank shall have any responsibility as to the use of any of such proceeds. 8.15 Certain Obligations Respecting Subsidiaries. (a) Subject to Section 8.05 hereof, the Company will, and will cause each of ERC and Asset Guaranty to, take such action from time to time as shall be necessary to ensure that each of ERC and Asset Guaranty is a Wholly Owned Subsidiary (subject only, in the case of the shares of common stock of ERC, to the Lien of the Pledge Agreement). (b) The Company will not permit any of ERC or Asset Guaranty to issue any shares of stock of any class whatsoever to any Person (other than to the Company). 8.16 Modifications of Certain Documents. The Company will not consent to any modification, supplement or waiver of any of the provisions of the Senior Note Purchase Agreements that would materially increase the obligations, or materially reduce the rights, of the Company or any of its Subsidiaries thereunder. 8.17 Claims-Paying Rating. The Company will not allow the claims-paying rating of any Insurance Subsidiary as rated by Standard & Poor's Corporation to be less than AA- (or to be withdrawn) at any time. Credit Agreement -79- 8.18 Dividends to or Investments in the Company by Subsidiaries. The Company will not, nor will it permit any of its Subsidiaries, to issue any securities or enter into any agreements (other than with or as required by applicable regulatory authorities) that will either (i) limit the ability of any of the Subsidiaries of the Company to declare or pay or set apart any funds for the payment of any dividend or make any distribution to or Investment in the Company or (ii) prevent such Subsidiary from paying to the Company the entire amount available to be paid as dividends or distributions by such Subsidiary; provided, that nothing herein shall be deemed to require any Subsidiary of the Company to pay any dividend to, or make any Investment in, the Company in excess of the amount necessary to enable the Company to make all payments required hereunder and under the Notes. Section 9. Events of Default. If one or more of the following events (herein called "Events of Default") shall occur and be continuing: (a) The Company shall: (i) default in the payment of any principal of any Loan when due (whether at stated maturity or upon mandatory or optional prepayment); or (ii) default in the payment of any interest on any Loan or any commitment fee hereunder when due and such default shall have continued unremedied for five or more days; or (b) The Company or any of its Subsidiaries shall default in the payment when due of any principal of or interest on any of its Indebtedness aggregating $1,000,000 or more (other than the Indebtedness referred to in paragraph (a) above); or any event specified in any note, agreement, indenture or other document evidencing or relating to any such Indebtedness shall occur if the effect of such event is to cause, or (with the giving of any notice or the lapse of time or both) to permit the holder or holders of such Indebtedness (or a trustee or agent on behalf of such holder or holders) to cause, such Indebtedness to become due, or to be prepaid in full (whether by redemption, purchase, offer to purchase or Credit Agreement -80- otherwise), prior to its stated maturity or to have the interest rate thereon reset to a level so that securities evidencing such Indebtedness trade at a level specified in relation to the par value thereof; or (c) Any representation, warranty or certification made or deemed made herein or in any other Basic Document (or in any modification or supplement hereto or thereto) by the Company, or any certificate furnished to any Bank, the Swingline Bank or the Administrative Agent pursuant to the provisions hereof or thereof, shall prove to have been false or misleading as of the time made, deemed made or furnished in any material respect; or (d) The Company shall default in the performance of any of its obligations under any of Sections 8.01(h), 8.05, 8.06, 8.07, 8.09, 8.10, 8.11 and 8.13 to 8.18 (inclusive) hereof or the Company shall default in the performance of any of its obligations under Section 5.02 of the Pledge Agreement; or the Company shall default in the performance of any of its other obligations in this Agreement or any other Basic Document and such default shall continue unremedied for a period of 15 days after notice thereof to the Company by the Administrative Agent, any Bank or the Swingline Bank (in either case, through the Administrative Agent); or (e) The Company or any of its Material Subsidiaries shall admit in writing its inability to, or be generally unable to, pay its debts as such debts become due; or (f) The Company or any of its Material Subsidiaries shall (i) apply for or consent to the appointment of, or the taking of possession by, a receiver, custodian, trustee, examiner, rehabilitator, conservator or liquidator of itself or of all or a substantial part of its Property, (ii) make a general assignment for the benefit of its creditors, (iii) commence a voluntary case under the Bankruptcy Code, (iv) file a petition seeking to take advantage of any other law relating to bankruptcy, insolvency, reorganization, Credit Agreement -81- liquidation, dissolution, arrangement or winding-up, or composition or readjustment of debts, (v) fail to controvert in a timely and appropriate manner, or acquiesce in writing to, any petition filed against it in an involuntary case under the Bankruptcy Code or (vi) take any corporate action for the purpose of effecting any of the foregoing; or (g) A proceeding or case shall be commenced, without the application or consent of the Company or any of its Material Subsidiaries, in any court of competent jurisdiction, seeking (i) its reorganization, rehabilitation, conservation, liquidation, dissolution, arrangement or winding-up, or the composition or readjustment of its debts, (ii) the appointment of a receiver, custodian, trustee, examiner, rehabilitator, conservator, liquidator or the like of the Company or such Material Subsidiary or of all or any substantial part of its Property, or (iii) similar relief in respect of the Company or such Subsidiary under any law relating to bankruptcy, insolvency, reorganization, rehabilitation, conservation, liquidation, winding-up, or composition or adjustment of debts, and such proceeding or case shall continue undismissed, or an order, judgment or decree approving or ordering any of the foregoing (other than an order for relief in an involuntary case under the Bankruptcy Code) shall be entered and continue unstayed and in effect, for a period of 60 or more days; or an order for relief against the Company or such Material Subsidiary shall be entered in an involuntary case under the Bankruptcy Code; or (h) A final judgment or judgments for the payment of money in excess of $1,000,000 in the aggregate (exclusive of judgment amounts fully covered by insurance where the insurer has admitted liability in respect of such judgment) or in excess of $5,000,000 in the aggregate (regardless of insurance coverage) shall be rendered by one or more courts, administrative tribunals or other bodies having jurisdiction against the Company or any of its Subsidiaries and the same shall not be discharged (or provision shall not be made for such discharge), or a stay of execution thereof shall not be Credit Agreement -82- procured, within 30 days from the date of entry thereof and the Company or the relevant Subsidiary shall not, within said period of 30 days, or such longer period during which execution of the same shall have been stayed, appeal therefrom and cause the execution thereof to be stayed during such appeal; or (i) An event or condition specified in Section 8.01(g) hereof shall occur or exist with respect to any Plan or Multiemployer Plan and, as a result of such event or condition, together with all other such events or conditions, the Company or any ERISA Affiliate shall incur or in the opinion of the Majority Banks shall be reasonably likely to incur a liability to a Plan, a Multiemployer Plan or PBGC (or any combination of the foregoing) which, in the determination of the Majority Banks, could have a Material Adverse Effect; or (j) A Change in Control shall occur; or (k) Except for expiration in accordance with its terms, the security interest granted pursuant to the Pledge Agreement shall cease to be a first priority perfected security interest for whatever reason; THEREUPON: (1) in the case of an Event of Default other than one referred to in paragraph (f) or (g) of this Section 9 with respect to the Company, the Administrative Agent may and, upon request of the Majority Banks (or with respect to Swingline Loans, upon the request of the Swingline Bank), shall, by notice to the Company, terminate the Commitments (and/or the Swingline Commitment) and/or declare the principal amount then outstanding of, and the accrued interest on, the Loans and all other amounts payable by the Company hereunder and under the Notes (including, without limitation, any amounts payable under Section 5.04 hereof) to be forthwith due and payable, whereupon such amounts shall be immediately due and payable without presentment, demand, protest or other formalities of any kind, all of which are hereby expressly waived by the Company; and (2) in the case of the occurrence of an Event of Default referred to in paragraph (f) Credit Agreement -83- or (g) of this Section 9 with respect to the Company, the Commitments shall automatically be terminated and the principal amount then outstanding of, and the accrued interest on, the Loans and all other amounts payable by the Company hereunder and under the Notes (including, without limitation, any amounts payable under Section 5.04 hereof) shall automatically become immediately due and payable without presentment, demand, protest or other formalities of any kind, all of which are hereby expressly waived by the Company. Section 10. The Administrative Agent. 10.01 Appointment, Powers and Immunities. Each Bank and the Swingline Bank hereby irrevocably (subject to Section 10.08 hereof) appoints and authorizes the Administrative Agent to act as its agent hereunder and under the other Basic Documents with such powers as are specifically delegated to the Administrative Agent by the terms of this Agreement and of the other Basic Documents, together with such other powers as are reasonably incidental thereto. The Administrative Agent (which term as used in this sentence and in Section 10.05 and the first sentence of Section 10.06 hereof shall include reference to its affiliates and its own and its affiliates' officers, directors, employees and agents): (a) shall have no duties or responsibilities except those expressly set forth in this Agreement and in the other Basic Documents, and shall not by reason of this Agreement or any other Basic Document be a trustee for any Bank or the Swingline Bank; (b) shall not be responsible to the Banks or the Swingline Bank for any recitals, statements, representations or warranties contained in this Agreement or in any other Basic Document, or in any certificate or other document referred to or provided for in, or received by any of them under, this Agreement or any other Basic Document, or for the value, validity, effectiveness, genuineness, enforceability or sufficiency of this Agreement, any Note or any other Basic Document or any other document referred to or provided for herein or therein or for any failure by the Company or any other Person to perform any of its obligations hereunder or thereunder; (c) shall not be required to initiate or conduct any litigation or collection proceedings hereunder or under any other Basic Credit Agreement -84- Document; (d) shall not be responsible for any action taken or omitted to be taken by it hereunder or under any other Basic Document or under any other document or instrument referred to or provided for herein or therein or in connection herewith or therewith, except for its own gross negligence or willful misconduct; and (e) shall not be responsible to the Company, the Banks or the Swingline Bank for (i) determining whether or not any of the transactions contemplated hereby qualifies as a highly leveraged transaction ("HLT") as defined by any bank regulatory authority, (ii) notifying the Banks or the Swingline Bank regarding the HLT status of any transaction contemplated hereby or of any change in that status or (iii) the correctness of any determination as to HLT status. The Administrative Agent may employ agents and attorneys-in-fact and shall not be responsible for the negligence or misconduct of any such agents or attorneys-in-fact selected by it in good faith. The Administrative Agent may deem and treat the payee of any Note as the holder thereof for all purposes hereof unless and until a notice of the assignment or transfer thereof shall have been filed with the Administrative Agent, together with the consent of the Company to such assignment or transfer (to the extent provided in Section 11.06(b) hereof). 10.02 Reliance by Administrative Agent. The Administrative Agent shall be entitled to rely upon any certification, notice or other communication (including, without limitation, any thereof by telephone, telecopy, telex, telegram or cable) believed by it to be genuine and correct and to have been signed or sent by or on behalf of the proper Person or Persons, and upon advice and statements of legal counsel, independent accountants and other experts selected by the Administrative Agent. As to any matters not expressly provided for by this Agreement or any other Basic Document, the Administrative Agent shall in all cases be fully protected in acting, or in refraining from acting, hereunder or thereunder in accordance with instructions given by the Majority Banks or, if provided herein, in accordance with the instructions given by the Majority Banks or all of the Banks as is required in such circumstance, and such instructions of such Banks and any action Credit Agreement -85- taken or failure to act pursuant thereto shall be binding on all of the Banks. 10.03 Defaults. The Administrative Agent shall not be deemed to have knowledge or notice of the occurrence of a Default (other than the non-payment of principal of or interest on Loans or of commitment fees) unless the Administrative Agent has received notice from a Bank or the Company specifying such Default and stating that such notice is a "Notice of Default". In the event that the Administrative Agent receives such a notice of the occurrence of a Default, the Administrative Agent shall give prompt notice thereof to the Banks and the Swingline Bank (and shall give each Bank and with respect to Swingline Loans, the Swingline Bank prompt notice of each such non-payment). The Administrative Agent shall (subject to Sections 10.01, 10.07 and 11.04 hereof) take such action with respect to such Default as shall be directed by the Majority Banks or in the case of Swingline Loans, the Swingline Bank, provided that, unless and until the Administrative Agent shall have received such directions, the Administrative Agent may (but shall not be obligated to) take such action, or refrain from taking such action, with respect to such Default as it shall deem advisable in the best interest of the Banks except to the extent that this Agreement expressly requires that such action be taken, or not be taken, only with the consent or upon the authorization of the Majority Banks or all of the Banks. 10.04 Rights as a Bank. With respect to its Commitments, its Swingline Commitment and the Loans made by it, Chase (and any successor acting as Administrative Agent) in its capacity as a Bank or the Swingline Bank hereunder shall have the same rights and powers hereunder as any other Bank and may exercise the same as though it were not acting as the Administrative Agent, and the term "Bank" or "Banks" or "Swingline Bank" shall, unless the context otherwise indicates, include the Administrative Agent in its individual capacity. Chase (and any successor acting as Administrative Agent) and its affiliates may (without having to account therefor to any Bank) accept deposits from, lend money to, make investments in and generally engage in any kind of banking, trust or other business Credit Agreement -86- with the Company (and any of its Subsidiaries or Affiliates) as if it were not acting as the Administrative Agent, and Chase and its affiliates may accept fees and other consideration from the Company for services in connection with this Agreement or otherwise without having to account for the same to the Banks or the Swingline Bank. 10.05 Indemnification. The Banks agree to indemnify the Administrative Agent (to the extent not reimbursed under Section 11.03 hereof, but without limiting the obligations of the Company under said Section 11.03) ratably in accordance with the aggregate principal amount of the Loans held by the Banks (or, if no Loans are at the time outstanding, ratably in accordance with their respective Commitments), for any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind and nature whatsoever that may be imposed on, incurred by or asserted against the Administrative Agent (including by any Bank) arising out of or by reason of any investigation in or in any way relating to or arising out of this Agreement or any other Basic Document or any other documents contemplated by or referred to herein or therein or the transactions contemplated hereby or thereby (including, without limitation, the costs and expenses that the Company is obligated to pay under Section 11.03 hereof, but excluding, unless a Default has occurred and is continuing, normal administrative costs and expenses incident to the performance of its agency duties hereunder) or the enforcement of any of the terms hereof or thereof or of any such other documents, provided that no Bank shall be liable for any of the foregoing to the extent they arise from the gross negligence or willful misconduct of the party to be indemnified. 10.06 Non-Reliance on Administrative Agent and Other Banks. Each Bank agrees that it has, independently and without reliance on the Administrative Agent or any other Bank, and based on such documents and information as it has deemed appropriate, made its own credit analysis of the Company and its Subsidiaries and decision to enter into this Agreement and that it will, independently and without reliance upon the Administrative Agent or any other Bank, and based on such documents and information as Credit Agreement -87- it shall deem appropriate at the time, continue to make its own analysis and decisions in taking or not taking action under this Agreement. The Administrative Agent shall not be required to keep itself informed as to the performance or observance by the Company of this Agreement or any of the other Basic Documents or any other document referred to or provided for herein or therein or to inspect the Properties or books of the Company or any of its Subsidiaries. Except for notices, reports and other documents and information expressly required to be furnished to the Banks by the Administrative Agent hereunder, the Administrative Agent shall not have any duty or responsibility to provide any Bank with any credit or other information concerning the affairs, financial condition or business of the Company or any of its Subsidiaries (or any of their affiliates) that may come into the possession of the Administrative Agent or any of its affiliates. 10.07 Failure to Act. Except for action expressly required of the Administrative Agent hereunder and under the other Basic Documents, the Administrative Agent shall in all cases be fully justified in failing or refusing to act hereunder and thereunder unless it shall receive further assurances to its satisfaction from the Banks of their indemnification obligations under Section 10.05 hereof against any and all liability and expense that may be incurred by it by reason of taking or continuing to take any such action. 10.08 Resignation or Removal of Administrative Agent. Subject to the appointment and acceptance of a successor Administrative Agent as provided below, the Administrative Agent may resign at any time by giving notice thereof to the Banks and the Company, and the Administrative Agent may be removed at any time with or without cause by the Majority Banks. Upon any such resignation or removal, the Majority Banks shall have the right to appoint a successor Administrative Agent. If no successor Administrative Agent shall have been so appointed by the Majority Banks and shall have accepted such appointment within 30 days after the retiring Administrative Agent's giving of notice of resignation or the Majority Banks' removal of the retiring Administrative Agent, then the retiring Administrative Agent may, Credit Agreement -88- on behalf of the Banks, after consultation with the Company, appoint a successor Administrative Agent, that shall be a bank which has an office in New York, New York and which has a combined capital and surplus of at least $500,000,000. Upon the acceptance of any appointment as Administrative Agent hereunder by a successor Administrative Agent, such successor Administrative Agent shall thereupon succeed to and become vested with all the rights, powers, privileges and duties of the retiring Administrative Agent, and the retiring Administrative Agent shall be discharged from its duties and obligations hereunder. After any retiring Administrative Agent's resignation or removal hereunder as Administrative Agent, the provisions of this Section 10 shall continue in effect for its benefit in respect of any actions taken or omitted to be taken by it while it was acting as the Administrative Agent. 10.09 Consents under Basic Documents. Except as otherwise provided in Section 11.04 hereof with respect to this Agreement, the Administrative Agent may, with the prior consent of the Majority Banks (but not otherwise), consent to any modification, supplement or waiver under any of the Basic Documents, provided that, without the prior consent of each Bank, the Administrative Agent shall not (except as provided herein or in the Pledge Agreement) release any collateral or otherwise terminate any Lien under any Basic Document providing for collateral security, or agree to additional obligations being secured by such collateral security (unless the Lien for such additional obligations shall be junior to the Lien in favor of the other obligations secured by such Basic Document), except that no such consent shall be required, and the Administrative Agent is hereby authorized, to release any Lien covering Property which is the subject of a disposition of Property permitted hereunder or to which the Majority Banks have consented. Section 11. Miscellaneous. 11.01 Waiver. No failure on the part of the Administrative Agent or any Bank or the Swingline Bank to exercise and no delay in exercising, and no course of dealing with respect to, any right, power or privilege under this Credit Agreement -89- Agreement or any Note shall operate as a waiver thereof, nor shall any single or partial exercise of any right, power or privilege under this Agreement or any Note preclude any other or further exercise thereof or the exercise of any other right, power or privilege. The remedies provided herein are cumulative and not exclusive of any remedies provided by law. 11.02 Notices. All notices, requests and other communications provided for herein and under the Pledge Agreement (including, without limitation, any modifications of, or waivers, requests or consents under, this Agreement) shall be given or made in writing (including, without limitation, by telecopy) delivered to the intended recipient at the "Address for Notices" specified below its name on the signature pages hereof); or, as to any party, at such other address as shall be designated by such party in a notice to each other party. Except as otherwise provided in this Agreement, all such communications shall be deemed to have been duly given when transmitted by telecopier or personally delivered or, in the case of a mailed notice, upon receipt, in each case given or addressed as aforesaid. 11.03 Expenses, Etc. The Company agrees to pay or reimburse each of the Banks and the Swingline Bank and the Administrative Agent for paying: (a) all reasonable out-of-pocket costs and expenses of the Administrative Agent (including, without limitation, the reasonable fees and expenses of Milbank, Tweed, Hadley & McCloy, special New York counsel to Chase), in connection with (i) the negotiation, preparation, execution and delivery of this Agreement and the other Basic Documents and the making of the Loans hereunder and (ii) any modification, supplement or waiver of any of the terms of this Agreement or any of the other Basic Documents; (b) all costs and expenses of the Banks, the Swingline Bank and the Administrative Agent (including, without limitation, reasonable counsels' fees) in connection with (i) any Default and any enforcement or collection proceedings resulting therefrom or in connection with the negotiation of any restructuring or "work-out" (whether or not consummated) of the obligations of the Company hereunder or under any of the other Basic Documents and (ii) the enforcement of this Section 11.03; and (c) all transfer, stamp, documentary Credit Agreement -90- or other similar taxes, assessments or charges levied by any governmental or revenue authority in respect of this Agreement or any of the other Basic Documents or any other document referred to herein or therein and all costs, expenses, taxes, assessments and other charges incurred in connection with any filing, registration, recording or perfection of any security interest contemplated by any Basic Document or any other document referred to therein. The Company hereby agrees to indemnify the Administrative Agent each Bank and the Swingline Bank and their respective directors, officers, employees, attorneys and agents from, and hold each of them harmless against, any and all losses, liabilities, claims, damages or expenses incurred by any of them (other than liability of the Administrative Agent to any Bank) arising out of or by reason of any investigation or litigation or other proceedings (including any threatened investigation or litigation or other proceedings and whether or not the Administrative Agent or such Bank or the Swingline Bank or other Person is a party thereto) relating to the extensions of credit hereunder or any actual or proposed use by the Company or any of its Subsidiaries of the proceeds of any of the extensions of credit hereunder, including, without limitation, the reasonable fees and disbursements of counsel incurred in connection with any such investigation or litigation or other proceedings (but excluding any such losses, liabilities, claims, damages or expenses incurred by reason of the gross negligence or willful misconduct of the Person to be indemnified). 11.04 Amendments, Etc. Except as otherwise expressly provided in this Agreement, any provision of this Agreement may be modified or supplemented only by an instrument in writing signed by the Company, the Administrative Agent and the Majority Banks, or by the Company and the Administrative Agent acting with the consent of the Majority Banks, and, if the rights or obligations hereunder of the Swingline Bank are affected thereby, the Swingline Bank, and any provision of this Agreement may be waived by the Majority Banks or by the Administrative Agent acting with the consent of the Majority Banks and, if the rights or obligations hereunder of the Swingline Bank are affected Credit Agreement -91- thereby, the Swingline Bank; provided that: (a) no modification, supplement or waiver shall, unless by an instrument signed by all of the Banks or by the Administrative Agent acting with the consent of all of the Banks (i) increase or extend the term of any of the Commitments, or extend the time or waive any requirement for the reduction or termination of any of the Commitments, (ii) extend any date fixed for the payment of principal of or interest on any Loan or any fee hereunder (other than any fee payable solely for account of the Administrative Agent), (iii) reduce the amount of any such payment of principal, (iv) reduce the rate at which interest is payable thereon or any fee is payable hereunder (other than any fee payable solely for account of the Administrative Agent), (v) reduce the obligations of the Company to prepay Loans, (vi) alter the terms of any of Sections 2.08, 2.09, 4.02 or 4.07 hereof or this Section 11.04, (vii) modify the definition of the term "Majority Banks" or modify in any other manner the number or percentage of the Banks required to make any determinations or waive any rights hereunder or to modify any provision hereof, or (viii) waive any of the conditions precedent set forth in Section 6 hereof; and (b) if at the time any Swingline Loans shall be outstanding, no modification, supplement or waiver with respect to any provision of Sections 8 or 9 hereof shall be effective without the concurrence of the Swingline Bank; and (c) any modification of any of the rights or obligations of the Administrative Agent hereunder shall require the consent of the Administrative Agent. 11.05 Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and permitted assigns. 11.06 Assignments and Participations. (a) The Company may not assign any of its rights or obligations hereunder or under the Notes without the prior consent of all of the Banks and the Administrative Agent and the Swingline Bank. (b) Each Bank may, at any time or from time to time, assign to one or more other Persons all or any portion of its Credit Agreement -92- Loans, its Notes, and its Commitment (but only with the consent of the Company, the Administrative Agent and the Swingline Bank, which consents shall not be unreasonably withheld); provided that (i) no such consent by the Company, the Administrative Agent or the Swingline Bank shall be required in the case of any assignment to another Bank; (ii) any such partial assignment shall be in an amount at least equal to $5,000,000 or any integral multiple of $1,000,000 in excess thereof; (iii) each such assignment by a Bank of its Revolving Credit Loans, Revolving Credit Note, Term Loans, Term Loan Notes or Commitment shall be made in such manner so that the same portion of its Revolving Credit Loans, Revolving Credit Note, Term Loans, Term Loan Notes and Commitment is assigned to the respective assignee; (iv) each such assignment shall be effected by an Assignment and Acceptance in substantially the form of Exhibit F hereto. Upon execution and delivery by the assignee to the Company and the Administrative Agent of an Assignment and Acceptance pursuant to which such assignee agrees to become a "Bank" hereunder (if not already a Bank) having the Commitment and Loans specified in such Assignment and Acceptance, and upon consent thereto by the Company and the Administrative Agent, to the extent required above, the assignee shall have, to the extent of such assignment (unless otherwise provided in such assignment with the consent of the Company and the Administrative Agent), the obligations, rights and benefits of a Bank hereunder holding the Commitment and Loans (or portions thereof) assigned to it (in addition to the Commitment and Loans, if any, theretofore held by such assignee) and the assigning Bank shall, to the extent of such assignment, be released from the Commitment (or portion thereof) so assigned. Notwithstanding the foregoing, no assignee or other transferee of any of the rights, obligations or benefits of a Bank in respect of the Loans shall be entitled to receive any greater payment under Sections 5.01, 5.04 and 5.05 than such Bank would have been entitled to receive with respect to the Loans unless such transfer is made with the Company's prior written consent specifically detailing the nature of the greater payments to be due, or at a time when the circumstances giving rise to such greater payment did not exist or had not been announced. Upon each such assignment the assigning Bank shall pay the Administrative Agent an assignment fee of $3,000. Credit Agreement -93- (c) A Bank may, at any time or from time to time, sell or agree to sell to one or more other Persons a participation in all or any part of any Loans held by it, or in its Commitment, but no purchaser of a participation (a "Participant") shall, except as otherwise provided in Section 4.07(c) hereof, have any rights or benefits under this Agreement or any Note or any other Basic Document (the Participant's rights against such Bank in respect of such participation to be those set forth in the agreements executed by such Bank in favor of the Participant). All amounts payable by the Company to any Bank under Section 5 hereof in respect of the Loans held by it, and its Commitment, shall be determined as if such Bank had not sold or agreed to sell any participations in such Loans and Commitment, and as if such Bank were funding each of such Loan and Commitment in the same way that it is funding the portion of such Loan and Commitment in which no participations have been sold. In no event shall a Bank that sells a participation agree with the Participant to take or refrain from taking any action hereunder or under any other Basic Document except that such Bank may agree with the Participant that it will not, without the consent of the Participant, agree to (i) increase or extend the term, or extend the time or waive any requirement for the reduction or termination, of such Bank's related Commitment, (ii) extend any date fixed for the payment of principal of or interest on the related Loan or Loans or any portion of any fee hereunder payable to the Participant, (iii) reduce the amount of any such payment of principal, (iv) reduce the rate at which interest is payable thereon, or any fee hereunder payable to the Participant, to a level below the rate at which the Participant is entitled to receive such interest or fee, (v) increase the rights or reduce the obligations of the Company to prepay the related Loans or (vi) consent to any modification, supplement or waiver hereof or of any of the other Basic Documents to the extent that the same, under Section 10.09 or 11.04 hereof, requires the consent of each Bank. (d) In addition to the assignments and participations permitted by the foregoing provisions of this Section 11.06, any Bank may assign and pledge all or any portion of its Loans and its Notes to any Federal Reserve Bank as collateral security Credit Agreement -94- pursuant to Regulation A and any Operating Circular issued by such Federal Reserve Bank. No such assignment shall release the assigning Bank from its obligations hereunder. (e) A Bank or the Swingline Bank may furnish any information concerning the Company or any of its Subsidiaries in the possession of such Bank from time to time to assignees and participants (including prospective assignees and participants), subject, however, to the provisions of Section 11.12(b) hereof. (f) Anything in this Section 11.06 to the contrary notwithstanding, neither the Company nor any of its Subsidiaries or Affiliates may acquire (whether by assignment, participation or otherwise), and neither any Bank nor the Swingline Bank shall assign or participate to the Company or any of its Subsidiaries or Affiliates, any interest in any Commitment or Loan without the prior consent of each Bank. (g) The Swingline Bank may not (except as provided in Section 2.02(c) hereof) assign or sell participations in all or any part of its Swingline Loans, its Swingline Note or its Swingline Commitment; provided that the Swingline Bank may assign to another Bank all of its obligations, rights and benefits in respect of its Swingline Loans, its Swingline Note and its Swingline Commitment (but only with the consent of the Company which consent will not be unreasonably withheld). Upon the effectiveness of any such assignment, the assignee shall have the obligations, rights and benefits of the Swingline Bank hereunder holding the Swingline Commitment and Swingline Loans assigned to it, and the assigning Swingline Bank shall be released from its Swingline Commitment so assigned. 11.07 Survival. The obligations of the Company under Sections 5.01, 5.04, 5.05 and 11.03 hereof and the obligations of the Banks under Section 10.05 hereof shall survive the repayment of the Loans and the termination of the Commitments. In addition, each representation and warranty made, or deemed to be made by a notice of any Loan, herein or pursuant hereto shall survive the making of such representation and warranty, and no Bank shall be deemed to have waived, by reason of making any Credit Agreement -95- Loan, any Default which may arise by reason of such representation or warranty proving to have been false or misleading, notwithstanding that such Bank or the Swingline Bank or the Administrative Agent may have had notice or knowledge or reason to believe that such representation or warranty was false or misleading at the time such Loan was made. 11.08 Captions. The table of contents and captions and section headings appearing herein are included solely for convenience of reference and are not intended to affect the interpretation of any provision of this Agreement. 11.09 Counterparts. This Agreement may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument and any of the parties hereto may execute this Agreement by signing any such counterpart. 11.10 Governing Law; Submission to Jurisdiction. This Agreement and the Notes shall be governed by, and construed in accordance with, the law of the State of New York. The Company hereby submits to the nonexclusive jurisdiction of the United States District Court for the Southern District of New York and of any New York State court sitting in New York City for the purposes of all legal proceedings arising out of or relating to this Agreement or the transactions contemplated hereby. The Company irrevocably waives, to the fullest extent permitted by applicable law, any objection which it may now or hereafter have to the laying of the venue of any such proceeding brought in such a court and any claim that any such proceeding brought in such a court has been brought in an inconvenient forum. 11.11 Waiver of Jury Trial. EACH OF THE COMPANY, THE ADMINISTRATIVE AGENT AND THE BANKS AND THE SWINGLINE BANK HEREBY IRREVOCABLY WAIVES, TO THE FULLEST EXTENT PERMITTED BY APPLICABLE LAW, ANY AND ALL RIGHT TO TRIAL BY JURY IN ANY LEGAL PROCEEDING ARISING OUT OF OR RELATING TO THIS AGREEMENT OR THE TRANSACTIONS CONTEMPLATED HEREBY. Credit Agreement -96- 11.12 Treatment of Certain Information; Confidentiality. (a) The Company acknowledges that from time to time financial advisory, investment banking and other services may be offered or provided to the Company or one or more of its Subsidiaries (in connection with this Agreement or otherwise) by any Bank or by one or more subsidiaries or affiliates of such Bank and the Company hereby authorizes each Bank and the Swingline Bank to share any information delivered to such Bank by the Company and its Subsidiaries pursuant to this Agreement, or in connection with the decision of such Bank or the Swingline Bank to enter into this Agreement, to any such subsidiary or affiliate, it being understood that any such subsidiary or affiliate receiving such information shall be bound by the provisions of paragraph (b) below as if it were a Bank hereunder. (b) Each Bank and the Swingline Bank and the Administrative Agent agrees (on behalf of itself and each of its affiliates, directors, officers, employees and representatives) to use reasonable precautions to keep confidential, in accordance with their customary procedures for handling confidential information of this nature and in accordance with safe and sound banking practices, any non-public information supplied to it by the Company pursuant to this Agreement which is identified by the Company as being confidential at the time the same is delivered to the Banks or the Swingline Bank or the Administrative Agent, provided that nothing herein shall limit the disclosure of any such information (i) to the extent required by statute, rule, regulation or judicial process (with concurrent notice thereof to be given to the Company), (ii) to counsel, auditors or accountants for any of the Banks or the Swingline Bank or the Administrative Agent (so long as they are advised of the non-public nature of the information), (iii) to bank examiners, (iv) to the Administrative Agent or any other Bank or the Swingline Bank (or to Chase Securities, Inc.), (v) in connection with any litigation to which any one or more of the Banks or the Swingline Bank or the Administrative Agent is a party, (vi) to a subsidiary or affiliate of such Bank as provided in paragraph (a) above or (vii) to any assignee or participant (or prospective Credit Agreement -97- assignee or participant) so long as such assignee or participant (or prospective assignee or participant) first executes and delivers to the respective Bank and the Company a Confidentiality Agreement substantially in the form of Exhibit E hereto; provided, further, that in no event shall any Bank or the Administrative Agent be obligated or required to return any materials furnished by the Company. The obligations of each Bank under this Section 11.12 shall supersede and replace the obligations of such Bank under the confidentiality letter in respect of this financing signed and delivered by such Bank to the Company prior to the Restatement Date. 11.13 Acknowledgement and Consent. The Company hereby acknowledges that (a) each reference in the Pledge Agreement to the Credit Agreement shall mean the Existing Credit Agreement as amended and restated hereby, and as the same shall be modified and supplemented and in effect from time to time, (b) each reference to the amount $30,000,000 in the Pledge Agreement shall be deemed a reference to "$60,000,000", (c) each reference therein to "Bank" shall include the Swingline Bank, (d) each reference therein to Loan shall include the Swingline Loans and (e) each reference therein to the "Agent" shall be deemed to be a reference to the Administrative Agent. Credit Agreement -98- IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed and delivered as of the day and year first above written. ENHANCE FINANCIAL SERVICES GROUP INC. By /s/ Jeffery A. Figurelli --------------------------------------- Title: Senior Vice President & Treasurer Address for Notices: Enhance Financial Services Group Inc. 335 Madison Avenue 25th Floor New York, NY 10017-4605 Attention: Arthur Dubroff Executive Vice President and Chief Financial Officer Telecopier No.: (212) 983-3129 Telephone No.: (212) 983-3100 Credit Agreement -99- BANKS Commitment THE CHASE MANHATTAN BANK $25,000,000 By /s/ J. David Parker, Jr. -------------------------------------- Title: Vice President Lending Office for all Loans: The Chase Manhattan Bank 270 Park Avenue New York, NY 10017 Address for Notices: The Chase Manhattan Bank 1 Chase Manhattan Plaza 5th Floor New York, NY 10081 Attention: J. David Parker, Jr. Vice President Telecopier No.: (212) 552-3651 Telephone No.: (212) 552-7631 Credit Agreement -100- Commitment FLEET NATIONAL BANK $15,000,000 By /s/ Howard Carpenter ----------------------------------- Title: Vice President Lending Office for all Loans: Fleet National Bank 777 Main Street, CT MO 0250 Hartford, Connecticut 06115 Address for Notice: Fleet National Bank 777 Main Street, CT MO 0250 Hartford, Connecticut 06115 Attention: Financial Institutions Group Telecopier No.: (860) 986-1264 Telephone No.: (860) 986-1963 Credit Agreement -101- Commitment BANK OF TOKYO-MITSUBISHI TRUST COMPANY $20,000,000 By /s/ Margaret Sunier ----------------------------------- Title: Vice President & Manager Lending Office for all Loans: Bank of Tokyo-Mitsubishi Trust Company 1251 Avenue of the Americas 12th Floor New York, New York 10022-1104 Address for Notice: Bank of Tokyo-Mitsubishi Trust Company 1251 Avenue of the Americas 12th Floor New York, New York 10022-1104 Attention: Mr. Dane Holmes Telecopier No.: (212) 782-4935 Telephone No.: (212) 782-4354 Credit Agreement -102- SWINGLINE BANK THE CHASE MANHATTAN BANK, as Swingline Bank By /s/ J. David Parker, Jr. ----------------------------------- Title: Vice President Credit Agreement -103- THE CHASE MANHATTAN BANK, as Administrative Agent By /s/ J. David Parker, Jr. ---------------------------------- Title: Vice President Address for Notices to the Administrative Agent: The Chase Manhattan Bank 140 East 45th Street 29th Floor New York, NY 10017 Attention: Agent Bank Services Telecopier No.: (212) 622-0122 Telephone No.: (212) 622-0004 With a copy to: The Chase Manhattan Bank 1 Chase Manhattan Plaza 5th Floor New York, NY 10081 Attention: J. David Parker, Jr. Vice President Credit Agreement SCHEDULE I Material Agreements and Liens [See Sections 7.12 and 8.07(b)] Part A - Material Agreements 6 3/4% Debentures due 2003 - $75 million Part B - Liens None Schedule I to Credit Agreement SCHEDULE II Subsidiaries [See Section 7.15] (A) ENHANCE REINSURANCE COMPANY (i) New York (ii) Enhance Financial Services Group Inc. (iii) 100% of the outstanding common stock (B) ASSET GUARANTY REINSURANCE COMPANY (i) New York (ii) Enhance Financial Services Group Inc. (iii) 100% of the oustanding common stock (C) GUARANTY RISK SERVICES, INC. (i) New York (ii) Enhance Financial Services Group Inc. (iii) 100% of the oustanding common stock (D) VANTAGE AMERICAN, INC. (i) Delaware (ii); (iii) Enhance Financial Services Group Inc.; 100% of the Convertible Preferred Stock and 100% of the Senior Preferred Stock. James A. Godfrey, Jr., Alan N. Alpern and Alfred Zucker, 100% of the common stock. (E) VAN-AMERICAN INSURANCE COMPANY (i) Kentucky (ii) Vantage American, Inc. (iii) 100% of the common stock (F) A.G. INTERMEDIARIES, INC. Schedule II to Credit Agreement -2- (i) New York (ii) Enhance Financial Services Group Inc. (iii) 100% of the outstanding common stock (G) ORLEANS ACQUISITION CORPORATION (i) Illinois (ii) Enhance Financial Services Group Inc. (iii) 100% of the outstanding common stock (H) ENHANCE REINSURANCE BERMUDA, LTD. (i) Bermuda (ii) Enhance Financial Services Group Inc. (iii) 100% of the outstanding common stock (I) LITTON LOAN SERVICING INC. (i) Texas (ii) Enhance Financial Services Group Inc. (iii) 100% of the outstanding common stock Schedule II to Credit Agreement SCHEDULE III Litigation None Schedule III to Credit Agreement EXHIBIT A-1 [Form of Revolving Credit Note] PROMISSORY NOTE $_______________ October 1, 1996 New York, New York FOR VALUE RECEIVED, ENHANCE FINANCIAL SERVICES GROUP INC., a New York corporation (the "Company"), hereby promises to pay to __________________ (the "Payee"), for account of its respective Applicable Lending Offices provided for by the Credit Agreement referred to below, at the principal office of The Chase Manhattan Bank at 270 Park Avenue, New York, New York 10017, the principal sum of _______________ Dollars (or such lesser amount as shall equal the aggregate unpaid principal amount of the Revolving Credit Loans made by the Payee to the Company under the Credit Agreement), in lawful money of the United States of America and in immediately available funds, on the dates and in the principal amounts provided in the Credit Agreement, and to pay interest on the unpaid principal amount of each such Revolving Credit Loan, at such office, in like money and funds, for the period commencing on the date of such Revolving Credit Loan until such Revolving Credit Loan shall be paid in full, at the rates per annum and on the dates provided in the Credit Agreement. The date, amount, interest rate and duration of Interest Period of each Revolving Credit Loan made by the Payee to the Company, and each payment made on account of the principal thereof, shall be recorded by the Payee on its books and, prior to any transfer of this Note, endorsed by the Payee on the schedule attached hereto or any continuation thereof, provided that the failure of the Payee to make any such recordation or endorsement shall not affect the obligations of the Company to make a payment when due of any amount owing under the Credit Agreement or hereunder in respect of the Revolving Credit Loans made by the Payee. Revolving Credit Note -2- This Note is one of the Revolving Credit Notes referred to in the Amended and Restated Credit Agreement dated as of November 24, 1992 amended and restated as of October 1, 1996 (as modified and supplemented and in effect from time to time, the "Credit Agreement") among the Company, the Banks and The Chase Manhattan Bank, as Administrative Agent, and evidences Revolving Credit Loans made by the Payee thereunder. Terms used but not defined in this Note have the respective meanings assigned to them in the Credit Agreement. The Credit Agreement provides for the acceleration of the maturity of this Note upon the occurrence of certain events and for prepayments of Loans upon the terms and conditions specified therein. Except as permitted by Sections 11.06(b) and 11.06(d) of the Credit Agreement, this Note may not be assigned by the Payee to any other Person. This Note shall be governed by, and construed in accordance with, the law of the State of New York. ENHANCE FINANCIAL SERVICES GROUP INC. By____________________________ Title: Revolving Credit Note SCHEDULE OF REVOLVING CREDIT LOANS This Note evidences Revolving Credit Loans made, Continued or Converted under the within-described Credit Agreement to the Company, on the dates, in the principal amounts, of the Types bearing interest at the rates and having Interest Periods (if applicable) of the durations set forth below, subject to the payments and prepayments, Continuations, Conversions of principal set forth below: Amount Date Prin- Paid, Made, cipal Duration Prepaid, Unpaid Continued Type Amount of Continued Prin- or of of Interest Interest or cipal Notation Converted Loan Loan Rate Period Converted Amount Made by - --------- ---- ---- ---- ------ --------- ------ ------- Revolving Credit Note EXHIBIT A-2 [Form of Term Loan Note] PROMISSORY NOTE $_______________ ____________, 199_ New York, New York FOR VALUE RECEIVED, ENHANCE FINANCIAL SERVICES GROUP INC., a New York corporation (the "Company"), hereby promises to pay to __________________ (the "Payee"), for account of its Applicable Lending Office provided for by the Credit Agreement referred to below, at the principal office of The Chase Manhattan Bank at 270 Park Avenue, New York, New York 10017, the principal sum of _______________ Dollars, in lawful money of the United States of America and in immediately available funds, on the dates and in the principal amounts provided in the Credit Agreement, and to pay interest on the unpaid principal amount hereof, at such office, in like money and funds, for the period commencing on the date hereof until this Note shall be paid in full, at the rates per annum and on the dates provided in the Credit Agreement. This Note is one of the Term Loan Notes referred to in the Amended and Restated Credit Agreement dated as of November 24, 1992 amended and restated as of October 1, 1996 (as modified and supplemented and in effect from time to time, the "Credit Agreement") among the Company, the Banks and The Chase Manhattan Bank, as Administrative Agent, and evidences a Term Loan made by the Payee thereunder. Terms used but not defined in this Note have the respective meanings assigned to them in the Credit Agreement. The Credit Agreement provides for the acceleration of the maturity of this Note upon the occurrence of certain events and for prepayments of Term Loans upon the terms and conditions specified therein. Except as permitted by Sections 11.06(b) and 11.06(d) and of the Credit Agreement, this Note may not be assigned by the Payee to any other Person. Term Loan Note This Note shall be governed by, and construed in accordance with, the law of the State of New York. ENHANCE FINANCIAL SERVICES GROUP INC. By____________________________ Title: EXHIBIT A-3 [Form of Swingline Note] PROMISSORY NOTE $10,000,000.00 October 1, 1996 New York, New York FOR VALUE RECEIVED, ENHANCE FINANCIAL SERVICES GROUP INC., a New York corporation (the "Company"), hereby promises to pay to THE CHASE MANHATTAN BANK (the "Bank") at its principal office at 270 Park Avenue, New York, New York 10017, the principal sum of TEN MILLION Dollars (or such lesser amount as shall equal the aggregate unpaid principal amount of the Swingline Loans made by the Bank to the Company under the Credit Agreement), in lawful money of the United States of America and in immediately available funds, on the dates and in the principal amounts provided in the Credit Agreement, and to pay interest on the unpaid principal amount of each such Swingline Loan, at such office, in like money and funds, for the period commencing on the date of such Swingline Loan until such Swingline Loan shall be paid in full, at the rates per annum and on the dates provided in the Credit Agreement. The date and amount of each Swingline Loan made by the Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by the Bank on its books and, prior to any transfer of this Note, endorsed by the Bank on the schedule attached hereto or any continuation thereof, provided that the failure of the Bank to make any such Swingline Note - 2 - recordation or endorsement shall not affect the obligations of the Company to make a payment when due of any amount owing under the Credit Agreement or hereunder in respect of the Swingline Loans made by the Bank. This Note is the Swingline Note referred to in the Amended and Restated Credit Agreement dated as of November 24, 1992 amended and restated as of October 1, 1996 (as modified and supplemented and in effect from time to time, the "Credit Agreement") between the Company, the lenders party thereto (including the Bank) and The Chase Manhattan Bank, as Administrative Agent, and evidences Swingline Loans made by the Bank thereunder. Terms used but not defined in this Note have the respective meanings assigned to them in the Credit Agreement. The Credit Agreement provides for the acceleration of the maturity of this Note upon the occurrence of certain events and for prepayments of Loans upon the terms and conditions specified therein. Except as permitted by Section 11.06(g) of the Credit Agreement, this Note may not be assigned by the Bank to any other Person. This Note shall be governed by, and construed in accordance with, the law of the State of New York. ________________ By_________________________ Title: Swingline Note - 3 - SCHEDULE OF SWINGLINE LOANS This Note evidences Swingline Loans made under the within-described Credit Agreement to the Company, on the dates and in the principal amounts set forth below, subject to the payments and prepayments of principal set forth below: Principal Date Amount Amount Unpaid of of Paid or Principal Notation Loan Loan Prepaid Amount Made by ---- ---- ------- ------ ------- Swingline Note EXHIBIT B [Form of Pledge Agreement] PLEDGE AGREEMENT PLEDGE AGREEMENT dated as of November 24, 1992 between ENHANCE FINANCIAL SERVICES GROUP INC., a corporation duly organized and validly existing under the laws of the State of New York (the "Company"); and THE CHASE MANHATTAN BANK (NATIONAL ASSOCIATION), as agent for the lenders or other financial institutions or entities party, as lenders, to the Credit Agreement referred to below (in such capacity, together with its successors in such capacity, the "Agent"). The Company, certain lenders and the Agent are parties to a Credit Agreement dated as of November 24, 1992 (as modified and supplemented and in effect from time to time, the "Credit Agreement"), providing, subject to the terms and conditions thereof, for extensions of credit to be made by said lenders to the Company in an aggregate principal amount not exceeding $30,000,000. To induce said lenders to enter into the Credit Agreement and to extend credit thereunder, and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the Company has agreed to pledge and grant a security interest in the Collateral (as hereinafter defined) as security for the Secured Obligations (as so defined). Accordingly, the parties hereto agree as follows: Section 1. Definitions. Terms defined in the Credit Agreement are used herein as defined therein. In addition, as used herein: "Collateral" shall have the meaning ascribed thereto in Section 3 hereof. Pledge Agreement -2- "Collateral Account" shall have the meaning ascribed thereto in Section 4.01 hereof. "Issuer" shall mean the issuer of any Pledged Stock. "Permitted Investments" shall mean: (a) direct obligations of the United States of America, or of any agency thereof, or obligations guaranteed as to principal and interest by the United States of America, or of any agency thereof, in either case maturing not more than 90 days from the date of acquisition thereof; (b) certificates of deposit issued by any bank or trust company organized under the laws of the United States of America or any state thereof and having capital, surplus and undivided profits of at least $500,000,000, maturing not more than 90 days from the date of acquisition thereof; and (c) commercial paper rated A-1 or better or P-1 or better by Standard & Poor's Corporation or Moody's Investors Services, Inc., respectively, maturing not more than 90 days from the date of acquisition thereof. "Pledged Stock" shall have the meaning ascribed thereto in Section 3(a) hereof. "Secured Obligations" shall mean, together, (a) the principal of and interest on the Loans made by the Banks to, and the Note(s) held by each Bank of, the Company and (b) all obligations hereunder of the Company to the Banks and the Agent. "Uniform Commercial Code" shall mean the Uniform Commercial Code as in effect from time to time in the State of New York. Enhance Pledge Agreement -3- Section 2. Representations and Warranties. The Company represents and warrants to the Banks and the Agent that at the time of the delivery to the Agent of certificates representing any Pledged Stock: (a) the Company will be the sole beneficial owner of such Pledged Stock and no Lien will exist upon such Pledged Stock at any time (and no right or option to acquire the same exists in favor of any other Person), except for the pledge and security interest in favor of the Agent for the benefit of the Banks created or provided for herein, which pledge and security interest constitute a first priority perfected pledge and security interest in and to all of such Pledged Stock (b) such Pledged Stock will be duly authorized, validly existing, fully paid and non-assessable and none of such Pledged Stock will be subject to any contractual restriction, or any restriction under the charter or by-laws of the Issuer thereof (except for any such restriction contained herein or in the Credit Agreement). Section 3. The Pledge. As collateral security for the prompt payment in full when due (whether at stated maturity, by acceleration or otherwise) of the Secured Obligations, the Company hereby pledges and grants to the Agent, for the benefit of the Banks as hereinafter provided, a security interest in all of the Company's right, title and interest in the following property, whether now owned by the Company or hereafter acquired and whether now existing or hereafter coming into existence (all being together referred to herein as "Collateral"): (a) the shares of common stock of ERC represented by certificates delivered to the Agent by the Company at any time or from time to time (the "Pledged Stock"); (b) all shares, securities, moneys or property representing a dividend on any of the Pledged Stock, or Enhance Pledge Agreement -4- representing a distribution or return of capital upon or in respect of the Pledged Stock, or resulting from a split-up, revision, reclassification or other like change of the Pledged Stock or otherwise received in exchange therefor, and any subscription warrants, rights or options issued to the holders of, or otherwise in respect of, the Pledged Stock; (c) without affecting the obligations of the Company under any provision prohibiting such action hereunder or under the Credit Agreement, in the event of any consolidation or merger in which an Issuer is not the surviving corporation, the shares of each class of the capital stock of the successor corporation formed by or resulting from such consolidation or merger corresponding to the shares of Pledged Stock redeemed or exchanged pursuant to such consolidation or merger; (d) the balance from time to time in the Collateral Account; and (e) all proceeds of and to any of the property of the Company described in the preceding clauses of this Section 3. Section 4. Cash Proceeds of Collateral. 4.01 Collateral Account. The Agent may at any time establish at Chase a cash collateral account (the "Collateral Account") in the name and under the control of the Agent into which there shall be deposited from time to time the cash proceeds of any of the Collateral required to be delivered to the Agent pursuant hereto and into which the Company may from time to time deposit any additional amounts which it wishes to pledge to the Agent for the benefit of the Banks as additional collateral security hereunder. The balance from time to time in the Collateral Account shall constitute part of the Collateral hereunder and shall not constitute payment of the Secured Enhance Pledge Agreement -5- Obligations until applied as hereinafter provided. Except as expressly provided in the next sentence, the Agent shall remit the collected balance outstanding to the credit of the Collateral Account to or upon the order of the Company as the Company shall from time to time instruct. However, at any time following the occurrence and during the continuance of an Event of Default, the Agent may (and, if instructed by the Banks as specified in Section 10.03 of the Credit Agreement, shall) in its (or their) discretion apply or cause to be applied (subject to collection) the balance from time to time outstanding to the credit of the Collateral Account to the payment of the Secured Obligations in the manner specified in Section 5.08 hereof. The balance from time to time in the Collateral Account shall be subject to withdrawal only as provided herein. In addition to the foregoing, the Company agrees that if the proceeds of any Collateral hereunder shall be received by it, the Company shall as promptly as possible deposit such proceeds into the Collateral Account. Until so deposited, all such proceeds shall be held in trust by the Company for and as the property of the Agent and shall not be commingled with any other funds or property of the Company. 4.02 Investment of Balance in Collateral Account. Amounts on deposit in the Collateral Account shall be invested from time to time in such Permitted Investments as the Company (or, after the occurrence and during the continuance of a Default, the Agent) shall determine, which Permitted Investments shall be held in the name and be under the control of the Agent, provided that at any time after the occurrence and during the continuance of an Event of Default, the Agent may (and, if instructed by the Banks as specified in Section 10.03 of the Credit Agreement, shall) in its (or their) discretion at any time and from time to time elect to liquidate any such Permitted Investments and to apply or cause to be applied the proceeds thereof to the payment of the Secured Obligations in the manner specified in Section 5.08 hereof. Enhance Pledge Agreement -6- Section 5. Further Assurances; Remedies. In furtherance of the grant of the pledge and security interest pursuant to Section 3 hereof, the Company hereby agrees with each Bank and the Agent as follows: 5.01 Delivery and Other Perfection. The Company shall: (a) if any of the above-described shares, securities, moneys or property required to be pledged by the Company under clauses (b) or (c) of Section 3 hereof are received by the Company, forthwith either (x) transfer and deliver to the Agent such shares or securities so received by the Company (together with the certificates for any such shares and securities duly endorsed in blank or accompanied by undated stock powers duly executed in blank), all of which thereafter shall be held by the Agent, pursuant to the terms of this Agreement, as part of the Collateral or (y) take such other action as the Agent shall deem necessary or appropriate to duly record the Lien created hereunder in such shares, securities, moneys or property in said clauses (b) and (c); (b) give, execute, deliver, file and/or record any financing statement, notice, instrument, document, agreement or other papers that may be necessary or desirable (in the judgment of the Agent) to create, preserve, perfect or validate the security interest granted pursuant hereto or to enable the Agent to exercise and enforce its rights hereunder with respect to such pledge and security interest; (c) keep full and accurate books and records relating to the Collateral, and stamp or otherwise mark such books and records in such manner as the Agent may reasonably require in order to reflect the security interests granted by this Agreement; and (d) permit representatives of the Agent, upon reasonable notice, at any time during normal business hours Enhance Pledge Agreement -7- to inspect and make abstracts from its books and records pertaining to the Collateral, and permit representatives of the Agent to be present at the Company's place of business to receive copies of all communications and remittances relating to the Collateral, and forward copies of any notices or communications received by the Company with respect to the Collateral, all in such manner as the Agent may require. 5.02 Other Financing Statements and Liens. Without the prior written consent of the Agent (granted with the authorization of the Banks as specified in Section 10.09 of the Credit Agreement), the Company shall not file or suffer to be on file, or authorize or permit to be filed or to be on file, in any jurisdiction, any financing statement or like instrument with respect to the Collateral in which the Agent is not named as the sole secured party for the benefit of the Banks. 5.03 Preservation of Rights. The Agent shall not be required to take steps necessary to preserve any rights against prior parties to any of the Collateral. 5.04 Collateral. (a) So long as no Event of Default shall have occurred and be continuing, the Company shall have the right to exercise all voting, consensual and other powers of ownership pertaining to the Collateral for all purposes not inconsistent with the terms of this Agreement, the Credit Agreement, the Notes or any other instrument or agreement referred to herein or therein, provided that the Company agrees that it will not vote the Collateral in any manner that is inconsistent with the terms of this Agreement, the Credit Agreement, the Notes or any such other instrument or agreement; and the Agent shall execute and deliver to the Company or cause to be executed and delivered to the Company all such proxies, powers of attorney, dividend and other orders, and all such instruments, without recourse, as the Company may reasonably request for the purpose of enabling the Company to exercise the rights and powers which it is entitled to exercise pursuant to this Section 5.04(a). Enhance Pledge Agreement -8- (b) Unless and until an Event of Default has occurred and is continuing, the Company shall be entitled to receive and retain any dividends on the Collateral paid in cash out of earned surplus. Upon receipt of any such dividends that the Company is entitled to receive and retain as aforesaid, the security interest on such dividends provided for hereunder shall terminate. (c) If any Event of Default shall have occurred, then so long as such Event of Default shall continue, and whether or not the Agent or any Bank exercises any available right to declare any Secured Obligation due and payable or seeks or pursues any other relief or remedy available to it under applicable law or under this Agreement, the Credit Agreement, the Notes or any other agreement relating to such Secured Obligation, all dividends and other distributions on the Collateral shall be paid directly to the Agent and retained by it in the Collateral Account as part of the Collateral, subject to the terms of this Agreement, and, if the Agent shall so request in writing, the Company agrees to execute and deliver to the Agent appropriate additional dividend, distribution and other orders and documents to that end, provided that if such Event of Default is cured, any such dividend or distribution theretofore paid to the Agent shall, upon request of the Company (except to the extent theretofore applied to the Secured Obligations), be returned by the Agent to the Company. (d) If at any time there are no Loans outstanding, at the request of the Company, the Agent shall forthwith cause to be delivered, against receipt but without any recourse, warranty or representation whatsoever, any remaining Collateral to the Company. (e) At the time of the delivery to the Agent of the quarterly or annual Statutory Statement of ERC, together with the certificate of a senior financial officer of the Company, as required by paragraphs (c) and (d) of Section 8.01 of the Credit Agreement, if such certificate indicates that the Value of the Pledged Stock as at the date of such Statutory Statement exceeds Enhance Pledge Agreement -9- 175% of the aggregate unpaid principal amount of all Loans less any collected funds standing to the credit of the Collateral Account then outstanding, then at the request of the Company, so long as no Default has then occurred and is continuing, the Agent shall promptly release to the Company the maximum number of shares of Pledged Stock so that, after giving effect to such release, the Value of the Pledged Stock is not less than 166-2/3% of the aggregate unpaid principal amount of the Loans then outstanding less any collected funds standing to the credit of the Collateral Account. 5.05 Events of Default, Etc. During the period during which an Event of Default shall have occurred and be continuing: (a) the Agent shall have all of the rights and remedies with respect to the Collateral of a secured party under the Uniform Commercial Code (whether or not said Code is in effect in the jurisdiction where the rights and remedies are asserted) and such additional rights and remedies to which a secured party is entitled under the laws in effect in any jurisdiction where any rights and remedies hereunder may be asserted, including, without limitation, the right, to the maximum extent permitted by law, to exercise all voting, consensual and other powers of ownership pertaining to the Collateral as if the Agent were the sole and absolute owner thereof (and the Company agrees to take all such action as may be appropriate to give effect to such right, including, without limitation, causing certificates representing the Pledged Stock to be registered in the name of the Agent); (b) the Agent in its discretion may, in its name or in the name of the Company or otherwise, demand, sue for, collect or receive any money or property at any time payable or receivable on account of or in exchange for any of the Collateral, but shall be under no obligation to do so; and (c) the Agent may, upon ten business days' prior written notice to the Company of the time and place, with Enhance Pledge Agreement -10- respect to the Collateral or any part thereof which shall then be or shall thereafter come into the possession, custody or control of the Agent, the Banks or any of their respective agents, sell, lease, assign or otherwise dispose of all or any part of such Collateral, at such place or places as the Agent deems best, and for cash or for credit or for future delivery (without thereby assuming any credit risk), at public or private sale, without demand of performance or notice of intention to effect any such disposition or of the time or place thereof (except such notice as is required above or by applicable statute and cannot be waived), and the Agent or any Bank or anyone else may be the purchaser, lessee, assignee or recipient of any or all of the Collateral so disposed of at any public sale (or, to the extent permitted by law, at any private sale) and thereafter hold the same absolutely, free from any claim or right of whatsoever kind, including any right or equity of redemption (statutory or otherwise), of the Company, any such demand, notice and right or equity being hereby expressly waived and released. The Agent may, without notice or publication, adjourn any public or private sale or cause the same to be adjourned from time to time by announcement at the time and place fixed for the sale, and such sale may be made at any time or place to which the sale may be so adjourned. The proceeds of each collection, sale or other disposition under this Section 5.05 shall be applied in accordance with Section 5.08 hereof. The Company recognizes that, by reason of certain prohibitions contained in the Securities Act of 1933, as amended, and applicable state securities laws, the Agent may be compelled, with respect to any sale of all or any part of the Collateral, to limit purchasers to those who will agree, among other things, to acquire the Collateral for their own account, for investment and not with a view to the distribution or resale thereof. The Company acknowledges that any such private sales may be at prices and on terms less favorable to the Agent than those obtainable Enhance Pledge Agreement -11- through a public sale without such restrictions, and, notwithstanding such circumstances, agrees that any such private sale shall be deemed to have been made in a commercially reasonable manner and that the Agent shall have no obligation to engage in public sales and no obligation to delay the sale of any Collateral for the period of time necessary to permit the or issuer thereof to register it for public sale. 5.06 Deficiency. If the proceeds of sale, collection or other realization of or upon the Collateral pursuant to Section 5.05 hereof are insufficient to cover the costs and expenses of such realization and the payment in full of the Secured Obligations, the Company shall remain liable for any deficiency. 5.07 Private Sale. The Agent and the Banks shall incur no liability as a result of the sale of the Collateral, or any part thereof, at any private sale pursuant to Section 5.05 hereof conducted in a commercially reasonable manner. The Company hereby waives any claims against the Agent or any Bank arising by reason of the fact that the price at which the Collateral may have been sold at such a private sale was less than the price which might have been obtained at a public sale or was less than the aggregate amount of the Secured Obligations, even if the Agent accepts the first offer received and does not offer the Collateral to more than one offeree. 5.08 Application of Proceeds. Except as otherwise herein expressly provided, the proceeds of any collection, sale or other realization of all or any part of the Collateral pursuant hereto, and any other cash at the time held by the Agent under Section 4 hereof or this Section 5, shall be applied by the Agent: First, to the payment of the costs and expenses of such collection, sale or other realization, including reasonable out-of-pocket costs and expenses of the Agent and the reasonable fees and expenses of its agents and counsel, and Enhance Pledge Agreement -12- all expenses incurred and advances made by the Agent in connection therewith; Next, to the payment in full of the Secured Obligations, in each case equally and ratably in accordance with the respective amounts thereof then due and owing or as the Banks holding the same may otherwise agree; and Finally, to the payment to the Company, or its successors or assigns, or as a court of competent jurisdiction may direct, of any surplus then remaining. As used in this Section 5, "proceeds" of Collateral shall mean cash, securities and other property realized in respect of, and distributions in kind of, Collateral, including any thereof received under any reorganization, liquidation or adjustment of debt of the Company or any issuer of or obligor on any of the Collateral. 5.09 Attorney-in-Fact. Without limiting any rights or powers granted by this Agreement to the Agent while no Event of Default has occurred and is continuing, upon the occurrence and during the continuance of any Event of Default the Agent is hereby appointed the attorney-in-fact of the Company for the purpose of carrying out the provisions of this Section 5 and taking any action and executing any instruments which the Agent may deem necessary or advisable to accomplish the purposes hereof, which appointment as attorney-in-fact is irrevocable and coupled with an interest. Without limiting the generality of the foregoing, so long as the Agent shall be entitled under this Section 5 to make collections in respect of the Collateral, the Agent shall have the right and power to receive, endorse and collect all checks made payable to the order of the Company representing any dividend, payment or other distribution in respect of the Collateral or any part thereof and to give full discharge for the same. 5.10 Termination. When all Secured Obligations shall have been paid in full and the Commitments of the Banks under the Enhance Pledge Agreement -13- Credit Agreement shall have expired or been terminated, this Agreement shall terminate, and the Agent shall forthwith cause to be assigned, transferred and delivered, against receipt but without any recourse, warranty or representation whatsoever, any remaining Collateral and money received in respect thereof, to or on the order of the Company. 5.11 Expenses. The Company agrees to pay to the Agent all out-of-pocket expenses (including reasonable expenses for legal services) of, or incident to, the enforcement of any of the provisions of this Section 5, or performance by the Agent of any obligations of the Company in respect of the Collateral which the Company has failed or refused to perform, or any actual or attempted sale, or any exchange, enforcement, collection, compromise or settlement in respect of any of the Collateral, and for defending or asserting rights and claims of the Agent in respect thereof, by litigation or otherwise, and all such expenses shall be Secured Obligations to the Agent secured under Section 3 hereof. 5.12 Further Assurances. The Company agrees that, from time to time upon the written request of the Agent, the Company will execute and deliver such further documents and do such other acts and things as the Agent may reasonably request in order fully to effect the purposes of this Agreement. Section 6. Miscellaneous. 6.01 No Waiver. No failure on the part of the Agent or any of its agents to exercise, and no course of dealing with respect to, and no delay in exercising, any right, power or remedy hereunder shall operate as a waiver thereof; nor shall any single or partial exercise by the Agent or any of its agents of any right, power or remedy hereunder preclude any other or further exercise thereof or the exercise of any other right, power or remedy. The remedies herein are cumulative and are not exclusive of any remedies provided by law. Enhance Pledge Agreement -14- 6.02 Governing Law. This Agreement shall be governed by, and construed in accordance with, the law of the State of New York. 6.03 Notices. All notices, requests, consents and demands hereunder shall be in writing and telexed, telecopied or delivered to the intended recipient at its "Address for Notices" specified pursuant to Section 11.02 of the Credit Agreement and shall be deemed to have been given at the times specified in said Section 11.02. 6.04 Waivers, Etc. The terms of this Agreement may be waived, altered or amended only by an instrument in writing duly executed by the Company and the Agent (with the consent of the Banks as specified in Section 10.09 of the Credit Agreement). Any such amendment or waiver shall be binding upon the Agent and each Bank, each holder of any of the Secured Obligations and the Company. 6.05 Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of the respective successors and assigns of the Company, the Agent, the Banks and each holder of any of the Secured Obligations (provided, however, that the Company shall not assign or transfer its rights hereunder without the prior written consent of the Agent). 6.06 Severability. If any provision hereof is invalid and unenforceable in any jurisdiction, then, to the fullest extent permitted by law, (i) the other provisions hereof shall remain in full force and effect in such jurisdiction and shall be liberally construed in favor of the Agent and the Banks in order to carry out the intentions of the parties hereto as nearly as may be possible and (ii) the invalidity or unenforceability of any provision hereof in any jurisdiction shall not affect the validity or enforceability of such provision in any other jurisdiction. Enhance Pledge Agreement -15- IN WITNESS WHEREOF, the parties hereto have caused this Pledge Agreement to be duly executed and delivered as of the day and year first above written. ENHANCE FINANCIAL SERVICES GROUP INC. By __________________________________ Title: THE CHASE MANHATTAN BANK (NATIONAL ASSOCIATION), as Agent By __________________________________ Title: Enhance Pledge Agreement EXHIBIT C [Form of Opinion of General Counsel to the Company] October __, 1996 Each of the Banks party to the Credit Agreement referred to below The Chase Manhattan Bank, as Administrative Agent for said Banks 1 Chase Manhattan Plaza New York, New York 10081 Ladies and Gentlemen: I am Executive Vice President and General Counsel to Enhance Financial Services Group Inc., a corporation organized under the law of the State of New York (the "Company"), and am rendering this opinion in connection with the Amended and Restated Credit Agreement dated as of November 24, 1992 amended and restated as of October 1, 1996 (the "Credit Agreement") among the Company, the banks party thereto (the "Banks") and The Chase Manhattan Bank, in its capacity as agent for said Banks (the "Administrative Agent"). All capitalized terms used but not defined herein have the respective meanings given to such terms in the Credit Agreement. In rendering the opinions expressed below, I have examined: (i) the Credit Agreement; (ii) the Revolving Credit Notes and the form of the Term Notes; Opinion of General Counsel to the Company -2- (iii) the Pledge Agreement (together with the documents referred to in the foregoing lettered clauses (i) to (iii), the "Credit Documents"); and (iv) such corporate records of the Company and such other documents as I have deemed necessary as a basis for the opinions expressed below. In my examination, I have assumed the genuineness of all signatures, the authenticity of all documents submitted to me as originals and the conformity with authentic original documents of all documents submitted to me as copies. In rendering the opinions expressed below, I have assumed, with respect to all of the documents referred to in this opinion, that (except, to the extent set forth in the opinions expressed below, as to the Company): (i) such documents have been duly authorized by, have been (or, in the case of the Term Notes, will be) duly executed and delivered by, and constitute (or, in the case of the Term Notes, will constitute) legal, valid, binding and enforceable obligations of, all of the parties to such documents; (ii) all signatories to such documents have been duly authorized; and (iii) all of the parties to such documents are duly organized and validly existing and have the power and authority (corporate or other) to execute, deliver and perform such documents. Based upon and subject to the foregoing and subject also to the comments and qualifications set forth below, and having considered such questions of law as I have deemed necessary as a basis for the opinions expressed below, I am of the opinion that: Opinion of General Counsel to the Company -3- 1. The Company is a corporation duly organized, validly existing and in good standing under the law of the State of New York. The Company has all material government licenses, authorizations, consents and approvals, necessary to own assets and carry on its business as now being conducted. 2. The Company has all requisite corporate power to execute and deliver, and to perform its obligations under, each Credit Document. The Company has all requisite corporate power to borrow under the Credit Agreement and to pledge shares of the common stock of ERC under the Pledge Agreement. 3. The execution, delivery and performance by the Company of each Credit Document has been duly authorized by all necessary corporate action on the part of the Company. 4. Each Credit Document (other than the Term Notes) has been duly executed and delivered by the Company. 5. Each Credit Document (other than the Notes) constitutes, and each Note upon its execution and delivery by the Company for value will constitute, the legal, valid and binding obligation of the Company, enforceable against the Company in accordance with its terms, except as may be limited by bankruptcy, insolvency, reorganization, moratorium or other similar laws relating to or affecting the rights of creditors generally and except as the enforceability of the Credit Documents is subject to the application of general principles of equity (regardless of whether considered in a proceeding in equity or at law), including, without limitation, (a) the possible unavailability of specific performance, injunctive relief or any other equitable remedy and (b) concepts of materiality, reasonableness, good faith and fair dealing. Opinion of General Counsel to the Company -4- 6. No authorization, approval or consent of, and no filing or registration with, any governmental or regulatory authority or agency of the United States of America or the State of New York is required on the part of the Company for the execution, delivery or performance by the Company of the Credit Documents, for any borrowings by the Company under the Credit Agreement or for the pledge by the Company of shares of common stock of ERC under the Pledge Agreement except that the approval of the New York Insurance Department may be required in connection with a foreclosure on the Pledged Stock in the event such foreclosure results in a change in control of ERC and no opinion is expressed as to the ability or likelihood of any Bank to obtain such approval. 7. The execution, delivery and performance by the Company of, and the consummation by the Company of the transactions contemplated by, the Credit Documents do not and will not (a) violate any provision of the charter or by-laws of the Company, (b) violate any applicable law, rule or regulation of the United States of America or the State of New York, (c) violate any order, writ, injunction or decree of any court or governmental authority or agency or any arbitral award applicable to the Company or any of its Subsidiaries or (d) result in a breach of, constitute a default under, require any consent under, or result in the acceleration or required prepayment of any indebtedness pursuant to the terms of, any agreement or instrument to which the Company or any of its Subsidiaries is a party or by which any of them is bound or to which any of them is subject, or (except for the Lien of the Pledge Agreement) result in the creation or imposition of any Lien upon any Property of the Company or any of its Subsidiaries pursuant to the terms of any such agreement or instrument. 8. Except as disclosed in Schedule III to the Credit Agreement, there are no legal or arbitral proceedings, or any proceedings by or before any governmental or regulatory Opinion of General Counsel to the Company -5- authority or agency, now pending or to my knowledge threatened against the Company or any of its Subsidiaries or any of their respective Properties that, if adversely determined, could have a Material Adverse Effect. 9. The Pledge Agreement is effective (together, in the case of that portion of the Collateral consisting of Pledged Stock, with the delivery to the Agent of the certificates representing the Pledged Stock) to create in favor of the Agent for the benefit of the Agent and the Banks a valid security interest under the Uniform Commercial Code as in effect in the State of New York in all of the right, title and interest of the Company in, to and under the Collateral (as defined in the Pledge Agreement) as collateral security for the payment of the Secured Obligations (as defined in the Pledge Agreement). 10. The Pledge Agreement creates in favor of the Agent for the benefit of the Agent and the Banks a perfected security interest in the Pledged Stock represented by the certificates in the possession of the Agent on the date hereof so long as the Agent retains possession of such certificates as collateral security for the Secured Obligations. 11. All of the outstanding shares of common stock of ERC have been duly and validly issued and are fully paid and nonassessable. Assuming that the Agent (or a Person designated by the Agent) obtains (or, in the case of the Pledged Stock referred to in paragraph 10 above, obtained) possession in the State of New York of the certificates representing the Pledged Stock in good faith and without notice of any adverse claim (as defined in Section 8-302(2) of the Uniform Commercial Code as in effect in the State of New York ("UCC")) and in bearer form or in registered form issued to the Agent or endorsed to the Agent or in blank, and thereafter maintains possession thereof, the perfected security interest therein will have priority over all other Opinion of General Counsel to the Company -6- security interests theretofore or thereafter created under the UCC. 12. Neither the Company nor any of its Subsidiaries is an "investment company", or a company "controlled" by an "investment company", within the meaning of the Investment Company Act of 1940, as amended. 13. Neither the Company nor any of its Subsidiaries is a "holding company", or an "affiliate" of a "holding company" or a "subsidiary company" of a "holding company", within the meaning of the Public Utility Holding Company Act of 1935, as amended. The foregoing opinions are subject to the following comments and qualifications: A. The enforceability of Section 11.03 of the Credit Agreement (and Section 5.11 of the Pledge Agreement) may be limited by laws rendering unenforceable indemnification contrary to Federal or state securities laws and the public policy underlying such laws. B. The enforceability of provisions in the Credit Documents to the effect that terms may not be waived or modified except in writing may be limited under certain circumstances. C. I express no opinion as to (i) the effect of the laws of any jurisdiction in which any Bank is located (other than the State of New York) that limit the interest, fees or other charges such Bank may impose, (ii) the last sentence of Section 2.02(c) and Section 4.07(c) of the Credit Agreement and (iii) the second sentence of Section 11.10 of the Credit Agreement, insofar as such sentence relates to the subject matter jurisdiction of the United States District Court for the Southern District of New York to adjudicate any controversy related to the Credit Documents. Opinion of General Counsel to the Company -7- D. I wish to point out that the obligations of the Company under the Pledge Agreement may be subject to possible limitations upon the exercise of remedial or procedural provisions contained in the Pledge Agreement, but such limitations do not, in my opinion, make the remedies and procedures that will be afforded to the Agent and the Banks inadequate for the practical realization of the substantive benefits purported to be provided to the Agent and the Banks by the Pledge Agreement and provided further that this paragraph shall in no way derogate from the exception to paragraph 6 of this opinion set forth at the conclusion of said paragraph. The foregoing opinions are limited to matters involving the Federal laws of the United States of America and the law of the State of New York, and I do not express any opinion as to the laws of any other jurisdiction. At the request of the Company, this opinion is, pursuant to Section 6.01(c) of the Credit Agreement, provided to you by me in my capacity as General Counsel to the Company and may not be relied upon by any Person other than the addressees hereof without, in each instance, my prior written consent. Very truly yours, Samuel Bergman Executive Vice President and General Counsel Opinion of General Counsel to the Company EXHIBIT D [Form of Opinion of Special New York Counsel to Chase] October __, 1996 Each of the Banks party to the Credit Agreement referred to below The Chase Manhattan Bank, as Administrative Agent for said Banks 1 Chase Manhattan Plaza New York, New York 10081 Ladies and Gentlemen: We have acted as special New York counsel to The Chase Manhattan Bank in connection with the Amended and Restated Credit Agreement dated as of November 24, 1992 amended and restated as of October 1, 1996 (the "Credit Agreement") among Enhance Financial Services Group Inc. (the "Company"), the banks party thereto (the "Banks") and The Chase Manhattan Bank, in its capacity as agent for said Banks (the "Administrative Agent"). All capitalized terms used but not defined herein have the respective meanings given to such terms in the Credit Agreement. In rendering the opinions expressed below, we have examined: (i) the Credit Agreement; (ii) the Revolving Credit Notes and the form of the Term Notes; (iii) the Pledge Agreement (together with the documents referred to in the foregoing clauses (i) through (iii), the "Credit Documents"); and Opinion of Special New York Counsel to Chase -2- (iv) such corporate records of the Company and such other documents as we have deemed necessary as a basis for the opinions expressed below. In our examination, we have assumed the genuineness of all signatures, the authenticity of all documents submitted to us as originals and the conformity with authentic original documents of all documents submitted to us as copies. When relevant facts were not independently established, we have relied upon statements of governmental officials and upon representations made in or pursuant to the Credit Documents and certificates of appropriate representatives of the Company. In rendering the opinions expressed below, we have assumed, with respect to all of the documents referred to in this opinion, that: (i) such documents have been duly authorized by, have been (or, in the case of the Term Notes, will be) duly executed and delivered by, and (except as to the Company) constitute (or, in the case of the Term Notes, will constitute) legal, valid, binding and enforceable obligations of, all of the parties to such documents; (ii) all signatories to such documents have been duly authorized; and (iii) all of the parties to such documents are duly organized and validly existing and have the power and authority (corporate or other) to execute, deliver and perform such documents. Based upon and subject to the foregoing and subject also to the comments and qualifications set forth below, and having considered such questions of law as we have deemed necessary as a basis for the opinions expressed below, we are of the opinion that: Opinion of Special New York Counsel to Chase -3- 1. Each Credit Document (other than the Notes) constitutes, and each Note upon its execution and delivery by the Company for value will constitute, the legal, valid and binding obligation of the Company enforceable against the Company in accordance with its terms, except as may be limited by bankruptcy, insolvency, reorganization, moratorium or other similar laws relating to or affecting the rights of creditors generally and except as the enforceability of the Credit Documents is subject to the application of general principles of equity (regardless of whether considered in a proceeding in equity or at law), including, without limitation, (a) the possible unavailability of specific performance, injunctive relief or any other equitable remedy and (b) concepts of materiality, reasonableness, good faith and fair dealing. 2. The Pledge Agreement is effective (together, in the case of that portion of the Collateral consisting of Pledged Stock, with the delivery to the Agent of the certificates representing the Pledged Stock) to create in favor of the Agent and the Banks a valid security interest under the Uniform Commercial Code as in effect in the State of New York (the "Uniform Commercial Code") in all of the right, title and interest of the Company in, to and under the Collateral (as defined in the Pledge Agreement) as collateral security for the payment of the Secured Obligations (as defined in the Pledge Agreement). 3. The Pledge Agreement creates in favor of the Agent for the benefit of the Agent and the Banks a perfected security interest in the Pledged Stock represented by the certificates in the possession of the Agent on the date hereof so long as the Agent retains possession of such certificates as collateral security for the Secured Obligations. The foregoing opinions are subject to the following comments and qualifications: Opinion of Special New York Counsel to Chase -4- A. The enforceability of Section 11.03 of the Credit Agreement (and Section 5.11 of the Pledge Agreement) may be limited by laws rendering unenforceable indemnification contrary to Federal or state securities laws and the public policy underlying such laws. B. The enforceability of provisions in the Credit Documents to the effect that terms may not be waived or modified except in writing may be limited under certain circumstances. C. We express no opinion as to (i) the effect of the laws of any jurisdiction in which any Bank is located (other than New York) that limit the interest, fees or other charges such Bank may impose, (ii) the last sentence of Section 2.02(c) and Section 4.07(c) of the Credit Agreement, (iii) the second sentence of Section 11.10 of the Credit Agreement, insofar as such sentence relates to the subject matter jurisdiction of the United States District Court for the Southern District of New York to adjudicate any controversy related to the Credit Documents and (iv) the waiver of inconvenient forum set forth in Section 11.10 of the Credit Agreement with respect to proceedings in the United States District Court for the Southern District of New York. D. We wish to point out that the (i) obligations of the Company under the Pledge Agreement may be subject to possible limitations upon the exercise of remedial or procedural provisions contained in the Pledge Agreement, provided that such limitations do not, in our opinion, make the remedies and procedures that will be afforded to the Agent and the Banks inadequate for the practical realization of the substantive benefits purported to be provided to the Agent and the Banks by the Pledge Agreement and (ii) the approval of the New York Insurance Department may be required in connection with a foreclosure on the Pledged Stock in the event such foreclosure results in a change in Opinion of Special New York Counsel to Chase -5- control of ERC and no opinion is expressed as to the ability or likelihood of any Bank to obtain such approval. E. We express no opinion as to the existence of, or the right, title or interest of the Company in, to or under, any of the Collateral (as defined in the Pledge Agreement) or as to the perfection or priority of any security interest in, or other Lien on, the Collateral. The foregoing opinions are limited to matters involving the Federal laws of the United States and the law of the State of New York, and we do not express any opinion as to the laws of any other jurisdiction. This opinion is being delivered pursuant to Section 6.01(d) of the Credit Agreement, and is being provided to you by us in our capacity as special New York counsel to Chase and may not be relied upon by any Person for any purpose other than in connection with the transactions contemplated by the Credit Agreement without, in each instance, our prior written consent. Very truly yours, CDP/RJW Opinion of Special New York Counsel to Chase EXHIBIT E [Form of Confidentiality Agreement] CONFIDENTIALITY AGREEMENT [Date] [Insert Name and Address of Prospective Participant or Assignee] Re: Amended and Restated Credit Agreement dated as of November 24, 1992 amended and restated as of October 1, 1996 (the "Credit Agreement"), among Enhance Financial Services Group Inc. (the "Company"), the lenders named therein and The Chase Manhattan Bank, as Administrative Agent. Ladies and Gentlemen: As a Bank party to the Credit Agreement, we have agreed with the Company pursuant to Section 11.12 of the Credit Agreement to use reasonable precautions to keep confidential, except as otherwise provided therein, all non-public information identified by the Company as being confidential at the time the same is delivered to us pursuant to the Credit Agreement. As provided in said Section 11.12, we are permitted to provide you, as a prospective [holder of a participation in the Loans (as defined in the Credit Agreement)][assignee Bank], with certain of such non-public information subject to the execution and delivery by you, prior to receiving such non-public information, of a Confidentiality Agreement in this form. Such information will not be made available to you until your execution and return to us of this Confidentiality Agreement. Accordingly, in consideration of the foregoing, you agree (on behalf of yourself and each of your affiliates, directors, officers, employees and representatives) that (A) such Confidentiality Agreement -2- information will not be used by you except in connection with the proposed [participation][assignment] mentioned above and (B) you shall use reasonable precautions, in accordance with your customary procedures for handling confidential information and in accordance with safe and sound banking practices, to keep such information confidential, provided that nothing herein shall limit the disclosure of any such information (i) to the extent required by statute, rule, regulation or judicial process, (ii) to your counsel or to counsel for any of the Banks or the Administrative Agent, (iii) to bank examiners, auditors or accountants, (iv) to the Administrative Agent or any other Bank (or to Chase Securities, Inc.), (v) in connection with any litigation to which you or any one or more of the Banks or the Administrative Agent are a party, (vi) to a subsidiary or affiliate of yours as provided in Section 11.12(a) of the Credit Agreement or (vii) to any assignee or participant (or prospective assignee or participant) so long as such assignee or participant (or prospective assignee or participant) first executes and delivers to you a Confidentiality Agreement substantially in the form hereof; provided, further, that in no event shall you be obligated to return any materials furnished to you pursuant to this Confidentiality Agreement. Please indicate your agreement to the foregoing by signing as provided below the enclosed copy of this Confidentiality Agreement and returning the same to us. Very truly yours, [INSERT NAME OF BANK] By______________________________ Title: AGREED AS AFORESAID: Confidentiality Agreement -3- [INSERT NAME OF PROSPECTIVE PARTICIPANT OR ASSIGNEE] By___________________________ Title: Confidentiality Agreement EXHIBIT F [Form of Assignment and Acceptance] ASSIGNMENT AND ACCEPTANCE Reference is made to the Amended and Restated Credit Agreement Credit Agreement, dated as of November 24, 1992, amended and restated as of October 1, 1996 (as modified and supplemented and in effect from time to time, the "Credit Agreement"), among Enhance Financial Services Group Inc., (the "Company") the lenders named therein, and The Chase Manhattan Bank, as agent for such lenders (the "Administrative Agent"). Terms defined in the Credit Agreement are used herein as defined therein. ____________________ (the "Assignor") and ____________________ (the "Assignee") agree as follows: 1. The Assignor hereby irrevocably sells and assigns to the Assignee without recourse to the Assignor, and the Assignee hereby irrevocably purchases and assumes from the Assignor without recourse to the Assignor, as of the Effective Date as set forth in Schedule 1 hereto (the "Effective Date"), an interest (the "Assigned Interest") in and to the Assignor's rights and obligations under the Credit Agreement with respect to those credit facilities contained in the Credit Agreement as are set forth on Schedule 1 (individually, an "Assigned Facility"; collectively, the "Assigned Facilities"), in a principal amount and percentage for each Assigned Facility as set forth on Schedule 1. 2. The Assignor (i) makes no representation or warranty and assumes no responsibility with respect to any statements, warranties or representations made in or in connection with the Credit Agreement, any other Basic Document or any other instrument or document furnished pursuant thereto, or the execution, legality, validity, enforceability, genuineness, sufficiency or value of the Credit Agreement, any other Basic Document or any other instrument or document furnished pursuant thereto, other than that it has not created any adverse claim upon the interest being assigned by it hereunder and that such interest is free and clear of any such adverse claim; (ii) makes Assignment and Acceptance -2- no representation or warranty and assumes no responsibility with respect to the financial condition of the Company, any of its Subsidiaries or any other obligation or the performance or observance by the Company, any of its Subsidiaries or any other obligor of any of their respective obligations under the Credit Agreement or any other Basic Document or any other instrument or document furnished pursuant hereto or thereto; and (iii) attaches the Note(s) held by it evidencing the Assigned Facilities and requests that the Administrative Agent exchange such Note(s) for a new Note or Notes payable to the Assignor (if the Assignor has retained any interest in the Assigned Facility) and a new Note or Notes payable to the Assignee in the respective amounts which reflect the assignment being made hereby (and after giving effect to any other assignments which have become effective on the Effective Date). 3. The Assignee (i) represents and warrants that it is legally authorized to enter into this Assignment and Acceptance; (ii) confirms that it has received a copy of the Credit Agreement, together with copies of the financial statements referred to in Section 7.02 thereof, the financial statements delivered pursuant to Section 8.01 thereof, if any, and such other documents and information as it has deemed appropriate to make its own credit analysis and decision to enter into this Assignment and Acceptance; (iii) agrees that it will, independently and without reliance upon the Assignor, the Administrative Agent or any other Lender and based on such documents and information as it shall deem appropriate at the time, continue to make its own credit decisions in taking or not taking action under the Credit Agreement, the other Basic Documents or any other instrument or document furnished pursuant hereto or thereto; (iv) appoints and authorizes the Administrative Agent to take such action as administrative agent on its behalf and to exercise such powers and discretion under the Credit Agreement, the other Basic Documents or any other instrument or document furnished pursuant hereto or thereto as are delegated to the Administrative Agent by the terms thereof, together with such powers as are incidental thereto; and (v) agrees that it will be bound by the provisions of the Credit Agreement and will perform in accordance with its terms all the Assignment and Acceptance -3- obligations which by the terms of the Credit Agreement are required to be performed by it as a Lender including, if it is organized under the laws of a jurisdiction outside the United States of America, its obligation pursuant to Section 5.05 of the Credit Agreement to deliver the forms prescribed by the Internal Revenue Service of the United States certifying as to the Assignee's exemption from United States withholding taxes with respect to all payments to be made to the Assignee under the Credit Agreement, or such other documents as are necessary to indicate that all such payments are subject to such tax at a rate reduced by an applicable tax treaty. 4. Following the execution of this Assignment and Acceptance, it will be delivered to the Administrative Agent for acceptance by the Administrative Agent pursuant to Section 11.06(b) of the Credit Agreement, effective as of the Effective Date (which date shall not, unless otherwise agreed to by the Administrative Agent, be earlier than five Business Days after the date of such acceptance. 5. Upon such acceptance, from and after the Effective Date, the Administrative Agent shall make all payments in respect of the Assigned Interest (including payments of principal, interest, fees and other amounts) to the Assignee which accrue subsequent to the Effective Date. 6. From and after the Effective Date, (i) the Assignee shall be a party to the Credit Agreement and, to the extent provided in this Assignment and Acceptance, have the rights and obligations of a Lender thereunder and under the other Basic Documents and shall be bound by the provisions thereof and (ii) the Assignor shall, to the extent provided in this Assignment and Acceptance, relinquish its rights and be released from its obligations under the Credit Agreement except as provided in Section 11.07 of the Credit Agreement. 7. This Assignment and Acceptance shall be governed by and construed in accordance with the law of the State of New York. Assignment and Acceptance -4- 8. This Assignment and Acceptance may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument and any of the parties hereto may execute this Assignment and Acceptance by signing any such counterpart. IN WITNESS WHEREOF, the parties hereto have caused this Assignment and Acceptance to be executed as of the date first above written by their respective duly authorized officers on Schedule 1 hereto. Assignment and Acceptance Schedule 1 to Assignment and Acceptance relating to the Amended and Restated Credit Agreement, dated as of November 24, 1996, amended and restated as of October 1, 1996 among Enhance Financial Services Group Inc. the lenders named therein and The Chase Manhattan Bank, as agent for the Lenders (in such capacity, the "Administrative Agent") Name of Assignor: Name of Assignee: Effective Date of Assignment: Credit Principal Percentage Facility Assigned Amount Assigned Assigned ----------------- --------------- -------- [ASSIGNEE] [ASSIGNOR] By:___________________________ By:__________________________ Title: Title: [Consented to and] Accepted: THE CHASE MANHATTAN BANK, as Administrative Agent By:__________________________ Title: Assignment and Acceptance -2- [Consented to: ENHANCE FINANCIAL SERVICES GROUP INC. By:__________________________ Title: THE CHASE MANHATTAN BANK, as Swingline Bank By:__________________________ Title:] Assignment and Acceptance EX-10.2.1 4 LONG-TERM INCENTIVE PLAN FOR KEY EMPLOYEES PLAN 10.2.1 ENHANCE FINANCIAL SERVICES GROUP INC. LONG-TERM INCENTIVE PLAN FOR KEY EMPLOYEES Amended and Restated as of June 6, 1996 ENHANCE FINANCIAL SERVICES GROUP INC. LONG-TERM INCENTIVE PLAN FOR KEY EMPLOYEES 1. Purposes The purposes of the Plan are to provide through the grant of Long-Term Incentives under the Plan a means to attract and retain key personnel and to provide to participating officers and other key employees long-term incentives for sustained high levels of performance and for unusual efforts to improve the financial performance of the Company. 2. Definitions Unless otherwise required by the context, the following terms, when used in this Plan, shall have the meanings set forth in this Section 2. AWARD: A Restricted Stock Award or a Stock Bonus Award. BENEFICIARY: A person or entity (including a trust or estate), designated in writing by a Participant on such forms and in accordance with such terms and conditions as the Board may prescribe, to whom the Participant's rights under the Plan shall pass in the event of the death of the Participant or, if there be no such person or entity so designated, or if such person or entity is not alive or in existence at the time of the Participant's death, such other person to whom such Participant's rights under the Plan shall pass by will or by the laws of descent or distribution. BOARD OF DIRECTORS or BOARD: The Board of Directors of Enhance. If the Plan is being administered by a committee appointed by the Board pursuant to the provisions of paragraph 11(a) below, the terms "Board" and "Board of Directors" shall include such committee, except for purposes of paragraph 11(a) and Section 13. CODE: The Internal Revenue Code of 1986, as amended and in effect from time to time. COMMITTEE: Such committee of the Board of Directors as may be designated to administer the Plan pursuant to the provisions of paragraph 11(a) below. COMMON STOCK: The common stock of Enhance, par value $.10 per share, or such other class of shares or other securities or property as maybe applicable pursuant to the provisions of Section 9. COMPANY: Enhance and its present and future Subsidiaries. ENHANCE: Enhance Financial Services Group Inc., a New York corporation, its successors and assigns. FAIR MARKET VALUE: The fair market value of a share of Common Stock determined in accordance with any reasonable method approved by the Board of Directors; provided that in the case of a Non-Statutory Stock Option intended to be performance-based for purposes of Section 162(m) of the Code or an Incentive Stock Option, such method shall comply with, and be subject to, any applicable requirements of the Code and the Treasury Regulations thereunder. Notwithstanding the foregoing, if the Board so provides, fair market value shall be determined by reference to a formula based on book value, earnings per share or such other measure as the Board may prescribe. INCENTIVE COMPENSATION: Bonuses, and other extra compensation payable in addition to a salary or other base amount, whether contingent or not, whether discretionary or required to be paid pursuant to a plan, agreement, resolution or arrangement, and whether payable currently or on a deferred basis, in cash, Common Stock or other property awarded by Enhance or a Subsidiary prior or subsequent to the date of the approval and adoption of this Plan. INCENTIVE STOCK OPTION: An option, including an Option as the context may require, intended to meet the requirements of Section 422 of the code and the regulations thereunder applicable to incentive stock options, or intended to meet the requirements of a successor provision of the Code. KEY EMPLOYEE: An employee of Enhance or of a Subsidiary regularly employed on a full-time basis, including a director if he is such an employee, or an officer of Enhance or a Subsidiary not so employed, in either event, who, in the opinion of the Board, is in a position to make significant contributions to the success of Enhance or of a Subsidiary. LONG-TERM INCENTIVE: A long-term incentive granted under this Plan in one of the forms provided for in Section 3. NON-STATUTORY STOCK OPTION: An option, including an Option as the context may require, which is not intended to be an Incentive Stock Option. OPTION: An option granted under this Plan to purchase shares of Common Stock. PARTICIPANT: A Key Employee elected to receive one or more Long-Term Incentives. PERFORMANCE UNIT: A right granted pursuant to Section 8 to receive a fixed dollar amount or an amount equivalent to the Fair Market Value of one share of Common Stock (or a designated percentage thereof) in cash or shares if specific performance goals are attained within the time prescribed by the Board therefor and any other applicable terms and conditions of the award are satisfied. 2 PLAN: The Enhance Financial Services Group Inc. Long-Term Incentive Plan for Key Employees herein set forth as the same may from time to time be amended. RESTRICTED STOCK AWARD: Shares of Common Stock which are issued or transferred to a Key Employee subject to restrictions precluding a sale or other disposition for a period of time and requiring as a condition to retention compliance with any other terms and conditions (relating to continued employment and/or achievement of pre-established performance objectives and/or other matters) that may be imposed by the Board. RULE 16b-3: As applied on a specific date, Rule 16b-3 of the General Rules and Regulations under the Securities Exchange Act of 1934 as then in effect or any comparable provision that may have replaced such Rule and then be in effect. STOCK APPRECIATION RIGHT or SAR: A right granted pursuant to Section 7 to receive a number of shares of Common Stock or cash, or a combination of such shares and cash, based on the increase in Fair Market Value of the shares subject to such right and determined in accordance with the Plan. STOCK BONUS AWARD: Shares of Common Stock which are issued or transferred to a Key Employee (including an undertaking to issue or transfer such shares in the future) in lieu of, or as a supplement to, Incentive Compensation that has been earned by services rendered prior to the date the award is made. SUBSIDIARY: A corporation or other form of business association of which shares (or other ownership interests) having more than 50% of the voting power, or representing more than 50% of the net shareholders' equity interest determined in accordance with generally accepted accounting principles, are owned or controlled, directly or indirectly, by Enhance; provided, however, that in the case of an Incentive Stock Option, the term "Subsidiary" shall mean a Subsidiary (as defined by the preceding clause) which is a "subsidiary corporation" as defined in Section 424(f) of the Code and the regulations thereunder, or any provisions that may be adopted to amend or replace such Section or regulation or both. 3. Grants of Long-Term Incentives (a) Subject to the provisions of this Plan, the Board of Directors may at any time or from time to time grant Long-Term Incentives to Key Employees. (b) Long-Term Incentives maybe granted in any of the following forms: (i) a Stock Bonus Award, (ii) a Restricted Stock Award, 3 (iii) an Option, with or without a related Stock Appreciation Right, (iv) an independent Stock Appreciation Right, or (v) a Performance Unit. (c) The Board may amend a Long-Term Incentive at any time or from time to time after the date on which it is granted, provided that no such amendment shall affect such Long-Term Incentive adversely without the consent of the holder thereof 4. Stock Subject to this Plan (a)(1) General Limitation Subject to the provisions below of paragraph 4(c) and of Section 9, the maximum number of shares of Common Stock which may be issued or transferred, and are hereby reserved for issuance or transfer pursuant to Long-Term Incentives shall not exceed 3,600,000 shares of Common Stock. (2) Individual Limitations The maximum number of shares of Common Stock which may be subject to any Option that may be granted to any Key Employees elected to participate hereunder shall not exceed 75,000 shares of Common Stock (subject to any increase or decrease pursuant to Section 9) for each calendar year during the entire term of the Plan. The maximum number of Stock Appreciation Rights that may be granted to any Key Employee selected to participate hereunder shall not exceed 75,000 (subject to any increase or decrease pursuant to Section 9) for each calendar year during the entire term of the Plan. To the extent that the maximum number of shares of Common Stock with respect to which Options or SARs may be granted are not granted in a particular year to a Key Employee, such ungranted Options or SARs for any year shall increase the maximum number of shares of Common Stock available to be granted to such Key Employee in subsequent calendar years during the term of the Plan until used. (b) Authorized but unissued shares of Common Stock and shares of Common Stock held in the treasury, whether acquired by Enhance specifically for use under this Plan or otherwise, may be used, as the Board of Directors may from time to time determine, for purposes of this Plan, provided, however, that any shares acquired or held by Enhance for the purposes of this Plan shall, unless and until transferred to a Participant in accordance with the terms and conditions of a Long-Term Incentive, be and at all times remain treasury shares of Enhance, irrespective of whether such shares are entered in a special account for purposes of this Plan, and shall be available for any corporate purpose. Notwithstanding the foregoing, in order to comply with Section 162(m) of the Code, the Committee shall take into account that (i) if an Option or SAR is canceled, the canceled Option or SAR continues to be counted against the maximum number of shares of Common Stock for which Options or SARs may be granted to a Key Employee under Section 4(a)(2) of the Plan, and (ii) if after the grant of an Option or SAR, the Committee or the Board reduces the exercise price or purchase price, the transaction is treated as a cancellation of the Option or SAR and a grant of a new 4 Option or SAR, and in such case, both the Option or SAR that is deemed to be cancelled and the Option or SAR that is deemed to be granted, reduce the maximum number of shares of Common Stock for which Options or SARs may be granted to a Key Employee under the Plan. (c) Subject to the provisions of paragraph 7(e), if any shares of Common Stock subject to a Long-Term Incentive shall not be issued or transferred and shall cease to be issuable or transferable because of the termination, in whole or in part, of such Long-Term Incentive or for any other reason, or if any such shares shall, after issuance or transfer, be reacquired by Enhance or a Subsidiary because of the Participant's failure to comply with the terms and conditions of the Long-Term Incentive granted to him, the shares not so issued or transferred, or the shares so reacquired by Enhance or a Subsidiary, shall no longer be charged against the limitations provided for in paragraph (a) above of this Section 4 and shall again be available for grant in the form of or pursuant to Long-Term Incentives. (d) Any Long-Term Incentive granted under this Plan may contain such provisions requiring or permitting the Participant (or his successor in interest) to resell to the Company any shares issued or transferred under such Long-Term Incentive at such time or times, under such circumstances and for such consideration as the Board may prescribe. 5. Stock Bonus Awards and Restricted Stock Awards Long-Term Incentives in the form of Stock Bonus Awards or Restricted Stock Awards shall be subject to the following provisions: (a) A Key Employee may be granted a Stock Bonus Award or Restricted Stock Award whether or not he is eligible to receive Incentive Compensation under any other plan or arrangement of the Company. (b) Shares of Common Stock subject to a Stock Bonus Award may be issued or transferred to the Participant at the time such Award is granted, or at any time subsequent thereto, or in installments from time to time, as the Board of Directors shall determine. In the event that any such issuance or transfer shall not be made to the Participant at the time such Award is granted, the Board of Directors may but need not provide for payment to such Participant, either in cash or shares of Common Stock, from time to time or at the time or times such shares shall be issued or transferred to such Participant, of amounts equal to the dividends which would have been payable to such Participant in respect of such shares (as adjusted under Section 9) if such shares had been issued or transferred to such Participant at the time such Award was granted. (c) Any amount payable in shares of Common Stock under the terms of a Stock Bonus Award may, in the discretion of the Board, be paid in cash, on each date on which delivery of shares would otherwise have been made, in an amount equal to the Fair Market Value of such date of the shares which would otherwise have been delivered. 5 (d) Stock Bonus Awards and Restricted Stock Awards shall be subject to such terms and conditions, including, without limitation, restrictions on the sale or other disposition of the Award or of the shares issued or transferred pursuant to such Award, and conditions calling for forfeiture of the Award or the shares issued or transferred pursuant thereto in designated circumstances, as the Board of Directors shall determine; provided, however, that upon the issuance or transfer of shares pursuant to any such Award, the Participant shall, with respect to such shares, be and become a shareholder of Enhance fully entitled to receive dividends, to vote and to exercise all other rights of a shareholder except to the extent otherwise provided in the Award. All or any portion of a Stock Bonus Award may but need not be made in the form of a Restricted Stock Award. In the case of a Restricted Stock Award, the Board may but need not require the Participant to pay the par value of the shares to be issued or transferred pursuant thereto. Each Stock Bonus Award and Restricted Stock Award shall be evidenced by a written instrument in such form as the Board of Directors shall determine and shall be deemed to incorporate this Plan by reference, provided that such instrument is consistent with this Plan. 6. Options Long-Term Incentives in the form of Options shall be subject to the following provisions: (a) Subject to the provisions of Section 9, the purchase price per share shall be, in the case of an Incentive Stock Option, not less than 100% of the Fair Market Value of a share of Common Stock on the date the Incentive Stock Option is granted (or in the case of a Participant who, at the time such Incentive Stock Option is granted, owns (after applying the constructive ownership rules of Section 424(d) of the Code) stock possessing more than ten percent of the total combined voting power of all classes of stock of his employer corporation or of its parent or subsidiary corporation (as those terms are defined in Sections 424(e) and (f) of the Code) (a "10% Shareholder"), not less than 110% of the Fair Market Value of a share of Common Stock on the date the Incentive Stock Option is granted) and, in the case of a Non-Statutory Stock Option, not less than 85% of the Fair Market Value of a share of Common Stock on the date the Non-Statutory Stock Option is granted. The purchase price shall be paid in cash or, if so provided in the Option (and subject to such terms and conditions as are specified in the Option), in shares of Common Stock or other property surrendered to Enhance or in a combination of cash and such shares or other property. Shares of Common Stock thus surrendered shall be valued at their Fair Market Value on the date of exercise. Any such other property thus surrendered shall be valued at its fair market value on the date of exercise on any reasonable basis established or approved by the Board. If so provided in the Option (and subject to such terms and conditions as are specified in the Option), in lieu of the foregoing methods of payment, any portion of the purchase price of the shares to be issued or transferred may be paid by full recourse promissory note in such form and containing such provisions (which may but need not provide for interest, for pledging of the shares purchased, and for payment of the note at the election of the Participant in cash or in shares of Common Stock or other property surrendered to Enhance) as the Board may approve; provided that (i) if the Board permits any such note to be paid by surrender of shares of Common Stock, such shares shall be valued at their Fair Market Value on the date of such surrender, and (ii) if the Board permits any such note to be paid by surrender of other 6 property, such other property shall be valued at its fair market value on any reasonable basis established or approved by the Board, and (iii) in the case of an Incentive Stock Option, any such note shall bear interest at the maximum rate required to avoid imputation of unstated interest under federal income tax laws applicable at the time of exercise. (b) Each Option may be exercisable in full at the time of grant or may become exercisable in one or more installments and at such time or times and subject to such terms and conditions, as the Board of Directors shall determine. Unless otherwise provided in the Option, an Option, to the extent it is or becomes exercisable, may be exercised at any time in whole or in part until the expiration or termination of the Option. No fractional shares shall be issued pursuant to the exercise of an Option, and no cash payment shall be made in lieu of fractional shares. (c) Each Option shall be exercisable during the life of the optionee only by him or his guardian or legal representative, and after death only by his Beneficiary. Notwithstanding the foregoing provisions of this paragraph (c) or any other provision of this Plan, (i) no Non-Statutory Stock Option shall be exercisable after the expiration of a period of ten years and one month from the date the Option is granted, (ii) no Incentive Stock Option shall be exercisable after the expiration of ten years from the date such Option is granted, and (iii) no Incentive Stock Option which is granted to a 10% shareholder shall be exercisable after the expiration of five years from the date such Option is granted. If a Non-Statutory Stock Option is granted for a term of less than ten years and one month, the Board of Directors may, at any time prior to the expiration of the Option, extend its term for a period ending not later than ten years and one month from the date the Option was granted. (d) Options shall be granted for such lawful consideration as may be provided in the Option or as the Board of Directors may determine. (e) No Option or any right thereunder may be assigned or transferred except to a Beneficiary of the Participant. (f) To the extent that the aggregate Fair Market Value (determined as of the time a particular Option is granted) of the stock with respect to which Incentive Stock Options are exercisable for the first time by any individual during any calendar year (under all plans, including this Plan, of his employer corporation and its parent and subsidiary corporations (as those terms are defined in Section 424(e) or (f) of the Code)) exceeds $100,000, such Incentive Stock Options shall be treated as Non-Statutory Stock Options, notwithstanding any provision thereof to the contrary. The next preceding sentence shall be applied by taking options into account in the order in which they were granted. (g) Each Option shall be evidenced by a written instrument, which shall contain such terms and conditions, and shall be in such form, as the Board of Directors shall determine and shall be deemed to incorporate this Plan by reference, provided the instrument is consistent with this Plan. An Option, if so approved by the Board of Directors, may include terms, conditions, restrictions and 7 limitations in addition to those provided for in this Plan including, without limitation, terms and conditions providing for the transfer or issuance of shares on exercise of an Option, which may be non-transferable and forfeitable to Enhance in designated circumstances, or providing for the transfer or issuance of shares on a date subsequent to the date of exercise of the Option. (h) An Option may, but need not, be granted in connection with related Stock Appreciation Rights. 7. Stock Appreciation Rights Long-Term Incentives granted as Stock Appreciation Rights shall be subject to the following provisions: (a) Stock Appreciation Rights may be granted in connection with any Option either at the time of the grant of such Option or, if the Option is not an Incentive Stock Option, at any time thereafter during the term of the Option, or may be granted independently of an Option. Notwithstanding the foregoing, in the event the Committee grants an Option which is intended to be "performance based" for purposes of Section 162(m) of the Code, the purchase price per share shall be not less than 100% of the Fair Market Value of a share of Common Stock on the date the Option is granted. Stock Appreciation Rights may also be granted in connection with any option heretofore or hereafter granted under any other stock option plan or arrangement of the Company. (b) (i) If granted in connection with an option, a Stock Appreciation Right shall require the holder of the related option, upon exercise of such Stock Appreciation Right, to surrender the option, or any portion thereof, to the extent unexercised and entitle him to receive a number of shares of Common Stock, or cash, or both, determined pursuant to clause (iii) of paragraph 7(c). Such option shall, to the extent so surrendered, thereupon cease to be exercisable. (ii) If granted independently of an option, Stock Appreciation Rights shall entitle the holder to receive a number of shares of Common Stock, or cash, or both, determined pursuant to clause (iii) of paragraph 7(c). (c) Stock Appreciation Rights shall be further subject to the following terms and conditions and to such other terms and conditions, not inconsistent with the Plan, as the Board shall from time to time approve: (i) If granted in connection with an option, Stock Appreciation Rights may be exercisable only at such time or times and to the extent that the option to which they relate shall be exercisable. 8 (ii) if granted independently of an option, Stock Appreciation Rights shall be exercisable at such time or times as shall be determined by the Board at the time of grant of the Stock Appreciation Rights, provided that in no event shall the Stock Appreciation Rights be exercisable more than ten years after the date such Stock Appreciation Rights are granted. (iii) Upon exercise of Stock Appreciation Rights, the holder thereof shall be entitled to receive a number of shares of Common Stock, or cash, or a combination of such shares and cash, as the Board shall determine in its sole discretion in each case or by rule of general application or otherwise, equal in value on the date of exercise to an amount prescribed by the Board, which shall in no event exceed the amount by which the Fair Market Value of one share of Common Stock on the date of such exercise exceeds the Fair Market Value of one share of Common Stock on the date of grant of such Stock Appreciation Rights as specified in the award or, in the case of Stock Appreciation Rights granted in connection with an option, on the date of grant of such option, multiplied by the number of shares in respect of which the Stock Appreciation Rights are exercised. If full payment is to be made in shares of Common Stock and the amount payable results in a fractional share, payment for the fractional share shall be made in cash. (iv) An Incentive Stock Option granted together with Stock Appreciation Rights shall be subject to such additional limitations as may be required by Section 422 of the Code and the regulations thereunder which are necessary or appropriate to cause Options granted to Key Employees as Incentive Stock Options to so qualify under such section of the Code. (d) Stock Appreciation Rights may be granted for such lawful consideration as may be provided in the Rights or as the Board may determine. (e) To the extent that Stock Appreciation Rights shall be exercised, an Option in connection with which such Stock Appreciation Rights shall have been granted shall be deemed to have been exercised for the purpose of the maximum limitations set forth in paragraph 4(a). In the case of Stock Appreciation Rights granted independently of an Option, any shares of Common Stock issued or transferred in payment of such Stock Appreciation Rights shall be charged against such maximum limitations. (f) Stock Appreciation Rights may provide that, upon exercise of such Stock Appreciation Rights, the shares, or cash, or both, as the case may be, which the holder of such Stock Appreciation Rights shall be entitled to receive shall be distributed or paid in such installments and over such number of years as the Board may direct, with distribution or payment of each such installment contingent, to the extent determined by the Board, upon continued services of the employee to the Company until the time for distribution or payment of such installment. (g) The Board may, upon the grant of Stock Appreciation Rights, and if Enhance is then a reporting company under the Securities Exchange Act of 1934, impose such conditions on the exercise thereof as may, in its sole discretion, be required to satisfy the requirements of Rule 16b-3. Without limiting the generality of the foregoing, the Board may, in such event, determine that (i) 9 Stock Appreciation Rights may be exercised only during the period beginning on the third business day and ending on the twelfth business day following the publication of the company's quarterly and annual summarized financial data, and (ii) no Stock Appreciation Rights granted to a director or executive officer of the Company may be exercised during the first six months after the date of grant, except in the event of the death or disability of such Participant during such period. (h) Stock Appreciation Rights shall not be transferable other than to a Beneficiary, and during a Participant's lifetime shall be exercisable only by him or by his guardian or legal representative. 8. Performance Units Long-Term Incentives granted as Performance Units shall be subject to the following provisions: (a) The performance period for the attainment of performance goals shall be not less than two nor more than five fiscal years of the Company, as determined by the Board. (b) The Board shall establish a dollar value for each Performance Unit (which may be a fixed dollar amount or an amount equivalent to the Fair Market Value of one share of Common Stock form time to time during the performance period), the performance goals to be attained in respect of the Performance Unit, the various percentages of the Performance Unit value to be paid out upon the attainment, in whole or in part, of the performance goals and such other Performance Unit terms, conditions and restrictions as the Board deems appropriate. As soon as practicable after the termination of the performance period, the Board shall determine what, if any, payment is due on the Performance Unit in accordance with the terms thereof. (c) Performance Units shall be cancelled automatically if the Participant's employment with the Company shall be terminated for any reason prior to the expiration of the performance period, except that if the Participant's employment terminates by reason of death, retirement, disability or for other reasons beyond his control, the Board may, in its sole discretion and subject to such limitations and at such time or times as it may deem advisable, make full or partial payment with respect to such Performance Units. (d) Payment with respect to any Performance Unit may be made, in the sole discretion of the Board, in cash or in shares of Common Stock valued at their Fair Market Value on the date of payment, or in both cash and such shares. Any shares issued or transferred in payment of a Performance Unit shall be charged against the maximum number of shares available under the Plan. If full payment is to be made in shares of Common Stock and the amount payable results in a fractional share, payment for the fractional share shall be made in cash. 10 (e) Performance Units shall not be transferable other than to a Beneficiary, and during a Participant's lifetime payments in respect thereof shall be made only to the Participant or his guardian or legal representative. 9. Adjustment Provisions (a) In the event that any recapitalization, reclassification, split-up or consolidation of shares of Common Stock shall be effected, or the outstanding shares of Common Stock shall be effected, or the outstanding shares of Common Stock shall, in connection with a merger or consolidation of Enhance or a sale by Enhance of all or a part of its assets, be exchanged for a different number or class of shares of stock or other securities or property of Enhance or any other entity or person, or a record date for determination of holders of Common Stock entitled to receive a dividend payable in Common Stock shall occur, (a) the number and class of shares or other securities or property that may be issued or transferred pursuant to Long-Term Incentives thereafter granted, (b) the number and class of shares or other securities or property that may be issued or transferred under outstanding Long-Term Incentives, (c) the purchase price (if any) to be paid per share under outstanding and future Long-Term Incentives, and (d) the price (if any) to be paid per share by Enhance or a Subsidiary for shares or other securities or property issued or transferred pursuant to Long-Term Incentives which are subject to a right of Enhance or a Subsidiary to reacquire such shares or other securities or property, shall in each case be equitably adjusted. (b) Upon any merger or consolidation in which Enhance is not the surviving corporation or a dissolution or liquidation of Enhance, all outstanding Options and SARs shall terminate provided that all holders of outstanding Options and SARs shall be furnished with written notice of the proposed merger, consolidation, dissolution or liquidation contemporaneously with the mailing to stockholders of Enhance of notice of the meeting of stockholders at which such proposed transaction is to be considered. The foregoing shall be of no effect in the case of such a merger or consolidation if provision is made in writing in connection therewith for the continuance of the Plan and for the assumption of Options and SARs theretofore granted or the substitution for such Options and SARs of new options and stock appreciation rights covering the shares of the successor corporation, or a parent or subsidiary thereof, with appropriate adjustments, in which event the Plan and the Options and SARs theretofore granted or the new options and stock appreciation rights covering the shares of the successor corporation, or a parent or subsidiary thereof, with appropriate adjustments, in which event the Plan and the Options and SARs theretofore granted or the new options and stock appreciation rights substituted therefor, shall continue in the manner and under the terms so provided. (c) At the discretion of the Board, any Long-Term Incentive may provide that, upon the occurrence of any of certain specified events determined by the Board, including a certain specified events determined by the Board, including a change in control of the company (as such may be defined by the Board in its discretion in any agreement granting a Long-Term Incentive, which definition need not be identical for all such agreements), such Long-Term Incentive shall, to the extent not theretofore exercisable, payable or free from restrictions, as the case may be, become immediately exercisable, payable, or free from restrictions, as the case may be, in its entirety and any 11 shares of Common Stock acquired pursuant to a Long-Term Incentive which are not fully vested shall immediately become fully vested, notwithstanding any other provision of the Long-Term Incentive or the Plan. (d) Each Long-Term Incentive shall provide that, in the event of a merger or consolidation of Enhance with a third party which is proposed to be accounted for as a pooling of interests, the Participant shall, if so requested by the Company and notwithstanding any other provision of such Long-Term Incentive, agree, as a condition to the exercisability, payment, or lapsing of restrictions, as the case may be, of such Long-Term Incentive, not to sell, assign, or gift or in any other way reduce his or her risk relative to the share of Common Stock issuable pursuant to such Long-Term Incentive and all other shares of Common Stock owned by such Participant for such period after the consummation of such merger or consolidation as the Company shall, upon the advice of its outside accountants, conclusively determine as necessary to ensure that such merger or consolidation may be validly accounted for as a pooling of interests. (e) Adjustments under paragraphs 9(a) and 9(b) shall be made by the Board, whose determination as to what adjustments will be made and the extent thereof shall be final, binding, and conclusive. No fractional interests shall be issued under the Plan resulting from any such adjustments. The Board shall give prompt notice to each Participant affected thereby of the occurrence of any event giving rise to any adjustment, which notice shall set forth the new purchase price after giving effect to the adjustment, provided that such adjustment shall be effective whether or not such notice is given. 10. Term The Plan shall become effective upon the date of its adoption by the Board, subject, however, to approval by the shareholders of Enhance within twelve months next following such adoption. Prior to such approval, the Board may in its sole discretion grant or authorize the granting of Long-Term Incentives, including Options and SARs, provided the exercisability thereof shall be deferred until, and expressly subject to the condition that the Plan shall have been so approved. If the Plan is not so approved by the shareholders of Enhance, the Plan and all Long-Term Incentive granted hereunder shall be automatically cancelled and any shares of Common Stock or cash previously issued or paid under all Long-Term Incentives shall promptly be returned to the Company in return for any money or property it received therefor. The Plan shall terminate at the close of business on December 10, 1997, and no Long-Term Incentives may thereafter be granted, but such termination shall not affect any Long-Term Incentives theretofore granted. No Long-Term Incentive shall be granted under this Plan after the number of shares authorized for issuance or transfer hereunder have been exhausted, but the Plan shall continue in effect thereafter with respect to Long-Term Incentives theretofore granted. 12 11. Administration (a) The Plan shall be administered by the Board. If and to the extent the Board so directs, the Plan shall be administered by a Committee of three or more persons selected by the Board from its own membership. Each member of the Board or the Committee shall (i) by virtue of administering the Plan as a member of the Board or the Committee, as applicable, be ineligible to receive Long-Term Incentive and (ii) during such time as Enhance is a reporting company under the Securities Exchange Act of 1934, as a prerequisite qualification to administering the Plan as a member of the Board or of the Committee, as applicable, have been ineligible throughout the twelve months preceding his election to the Board or appointment to the Committee, as applicable, to receive a Long-Term Incentive or an allocation of shares of Common Stock or a grant of stock options, stock appreciation rights or similar rights pursuant to any other plan of the company such as to disqualify such member of the Board or of the Committee as a "disinterested person" for purposes of Rule 16b-3 each director appointed to such Committee shall quality (i) during such time as Enhance is a reporting company under the Securities Exchange Act of 1934, as a "disinterested person" as defined in Rule 16b-3 promulgated under Section 16(b) of the Securities Exchange Act of 1934 to the extent then required, and (ii) as an "outside director" as defined under Section 162(m) of the Code." (b) The Board may establish such rules and regulations, not inconsistent with the provisions of this Plan, as it may deem necessary for the proper administration of this Plan, and may amend or revoke any rule or regulation so established. The Board shall, subject to the provisions of the Plan, have full power to interpret and administer the Plan and full authority to select the Participants in the Plan and determine the number of shares (if any) to be made subject to each Long-Term Incentive, the type of Long-Term Incentive to be granted and the terms and conditions of each Long-Term Incentive (which need not be identical). The interpretation by the Board of the terms and provisions of the Plan and the administration thereof and all action taken by the Board, shall be final, binding and conclusive on Enhance, its stockholders, Subsidiaries, all Participants and employees, and upon their respective Beneficiaries, successors and assigns, and upon all other persons claiming under or through any of them. (c) Members of the board of Directors and members of the Committee acting under this Plan shall be fully protected in relying in good faith upon the advice of counsel and shall incur no liability except for gross or willful misconduct in the performance of their duties. (d) The Plan is intended to comply with the exception for performance-based compensation under Section 162(m) of the Code and the regulations thereunder with respect to Stock Options and SARs, and grants of Options and SARs shall be limited, construed and interpreted in a manner so as to comply therewith unless determined otherwise by the Board or the committee with respect to a particular grant of an Option or SAR. 13 12. General Provisions (a) Nothing in this Plan or in any instrument executed pursuant hereto shall confer upon any person any right to continue in the employment of Enhance or a Subsidiary, or shall affect the right of Enhance or a Subsidiary to terminate the employment of any person at any time with or without cause. (b) No shares of Common Stock shall be issued or transferred pursuant to a Long-Term Incentive unless and until all legal requirement applicable to the issuance or transfer, of such shares have, in the opinion of counsel to Enhance, been complied with. In connection with any such issuance or transfer, the person acquiring the shares shall, if requested by Enhance and whether or not otherwise required by the terms of the Participant's Long-Term Incentive, give assurances satisfactory to counsel to Enhance, in respect of such matters as Enhance or a Subsidiary may deem desirable to assure compliance with all applicable legal requirements and take any reasonable action to comply with such requirements. (c) No provision of this Plan shall be interpreted or construed to obligate Enhance to register the shares issuable or transferable hereunder under the Securities Act of 1933 or disposition of shares of Common Stock issued or transferred under any Long-Term Incentive may be made unless and until Enhance's counsel is satisfied that the shares have been registered under the Securities Act of 1933 and any other applicable federal or state securities laws or that an exemption from such registration is available. Certificates evidencing any shares of Common Stock issued or transferred under any Long-Term Incentive shall be legended in such manner as Enhance's counsel may deem to be necessary or appropriate to reflect the provisions of this paragraph 12(c). (d) No person (individually or as a member of a group) and no Beneficiary or other person claiming under or through him, shall have any right, title or interest in or to any shares of Common Stock allocated or reserved for the purposes of this Plan or subject to any Long-Term Incentive except as to such shares of Common Stock, if any, as shall have been issued or transferred to him. (e) In the case of a grant of a Long-Term Incentive to a Key Employee of a Subsidiary, such grant may, if the Board of Directors so approves, be implemented by Enhance entering into an agreement with the Subsidiary containing such terms and provisions as the Board of Directors may authorize, including, without limitation, a provisions as the Board of Directors may authorize, including, without limitation, a provision for the issuance or transfer of the shares covered by the Long-Term Incentive to the Subsidiary, for such consideration as the Board of Directors may approve, upon the condition or understanding that the Subsidiary will transfer the shares to the Key Employee in accordance with the terms of the Long-Term Incentive. (f) Enhance or a Subsidiary may make such provisions as it may deem appropriate for the withholding of any taxes which Enhance or a Subsidiary determines it is required to withhold in connection with any Long-Term Incentive. The Board may, in its sole discretion and subject to such rules as it may adopt, permit a Participant to elect to satisfy any such withholding obligation, in whole 14 or in part, by having the Company withhold shares of Common Stock that are otherwise issuable in connection with such Long-Term Incentive and have a Fair Market Value equal to the amount required to be withheld, or by surrendering to the Company previously-acquired shares of Common Stock that have such a Fair Market Value. Each holder of an Incentive Stock Option shall give prompt notice to the Company in the event of the disposition by him of any shares where such disposition occurs within two years after the date of the grant of such Option or within one year after the date of the such exercise. (g) Nothing in this Plan is intended to be a substitute for, or shall preclude or limit the establishment or continuation of, any other plan, practice or arrangement for the payment of compensation or fringe benefits to directors, officers, employees or consultants generally, or to any class or group of such persons, which Enhance or any Subsidiary now has or may hereafter lawfully put into effect, including, without limitation, any incentive compensation, retirement, pension, group insurance, stock purchase, stock bonus or stock option plan. (h) In no event shall Long-Term Incentives be considered compensation to a Participant for purposes of any other plan of the Company (including any pension, profit-sharing, severance pay or other employee benefit plans) in determining benefits to which such Participant may be entitled under such plan. (i) By accepting any benefits under the Plan, each Participant, and each person claiming under or through him, shall be conclusively deemed to have indicated his acceptance and ratification of, and consent to, all provision of the Plan and any action or decision under the Plan by enhance, its agents and employees and the Board. (j) The validity, construction, interpretation and administration of the Plan and of any determinations or decisions made thereunder, and the rights of all persons having or claiming to have any interest therein or thereunder, shall be governed by, and determined exclusively in accordance with, the laws of the State of New York, the state in which Enhance is incorporated, but without giving effect to the principles of conflicts of laws thereof Without limiting the generality of the foregoing, the period within which any action arising under or in connection with the Plan must be commenced, shall be governed by the laws of the State of New York, without giving effect to the principles of conflicts of laws thereof; irrespective of the place where the act or omission complained of took place and of the residence of any party to such action and irrespective of the place where the action may be brought. (k) The use of the masculine gender shall also include with it a meaning the feminine. The use of the singular shall include within its meaning the plural and vice versa. 13. Amendment and Termination (a) This Plan may be amended or terminated by the Board of Directors at any time and in any respect, including without limitation to permit or facilitate qualification of Options theretofore 15 or thereafter granted as Incentive Stock Options under the code, provided that, without the approval of the shareholders of the Company, no amendment shall be made which (i) increases the maximum number of shares of Common Stock that may be issued or transferred pursuant to Long-Term Incentives, as provided in paragraph (a)( 1) of Section 4 or increases the maximum number of shares of Common Stock that may be granted as Options or SARs to any Key Employee selected to participate in the Plan as provided in paragraph (a)(2) of Section 4, (ii) except as may be required or desirable to conform this Plan to the federal or state securities laws and regulations that may apply to it from time to time, withdraws the administration of this Plan from the Board or Committee, (iii) transfers the administration of this Plan to any person who is not a "disinterested administrator" under Rule 16b-3, if Enhance is then a reporting company under the Securities Exchange Act of 1934, (iv) permits any person who is not a Key Employee to be granted a Long-Term Incentive, (v) changes the minimum exercise price of any Option or any SAR or extends the maximum exercise term of any Option or any SAR or otherwise materially increases the benefits accruing to participants in the Plan, (vi) amends this Section 13, or (vii) requires shareholder approval in order for the Plan to continue to comply with the exception for performance-based compensation under Section 162(m) of the Code. (b) No amendment or termination of this Plan by the Board of Directors or the shareholders of Enhance shall affect adversely any Long-Term Incentive theretofore granted without the consent of the holder thereof. 16 Certificate 10.2.2 OPTION GRANT CERTIFICATE ENHANCE FINANCIAL SERVICES GROUP INC., a New York corporation (the "Company"), hereby grants to ______________ (the "Executive") an Incentive Stock Option (the "Option") to purchase ______ shares (the "Option Shares") of common stock, par value $.10 per share ("Common Stock"), pursuant to the Company's 1987 Long-Term Incentive Plan for Key Employees (as such may he amended from time to time, the "Plan") 1. Basic Terms of Option. (a) Term of Option. The option shall expire December 31, 2006. (b) Exercise Price. The exercise price shall be $34.00 per Option Share (the "Purchase Price"). (c) Vesting. The Option shall become exercisable in equal installments in accordance with Article 3. (d) Method of Exercise. The Option may be exercised by the Executive in accordance with the terms hereof and of the Plan for any and all Option Shares by written notice (the "Exercise Notice") from the Executive to the Company substantially in the form of Annex A hereto. Payment of the Purchase Price may be made in the form of cash or shares of Common Stock, as permitted by the Plan, and shall accompany the Exercise Notice to the Company; provided that, if such Exercise Notice indicates that the Executive is simultaneously using the stock option exercise program of Merrill Lynch Pierce Fenner & Smith Incorporated or other brokerage concern approved by the Company, the Purchase Price shall be payable on the fifth business day following the date of delivery of the Exercise Notice. 2. Option Shares. (a) Status of Option Shares. Effective upon the exercise of the Option in whole or in part and the receipt by the Company of the Purchase Price for the Option Shares being purchased, the Executive shall be the holder of record of such shares and shall have all of the rights of a shareholder with respect thereto (including the right to vote such shares at any meeting at which the holders of the Common Stock may vote, the right to receive all dividends declared and paid upon such shares and the right to exercise any rights or warrants issued in respect of any such shares). The Company shall, upon receipt of the Purchase Price, issue in the name of the Executive a certificate representing the Option Shares purchased from time to time. (b) Option Shares Unregistered. As of the date of grant of the Option, the Option Shares have not been registered under the Securities Act of 1933, as amended (the "Act"), and the Company has no obligation to effect or maintain the effectiveness of the registration of the Option Shares under the Act. Unless the Option Shares issuable upon a given exercise are then subject to an effective registration statement under the Act, the certificate representing such shares shall bear the following legend or such other legend as the Company's counsel may deem appropriate: "The shares represented by this certificate have not been registered under the Securities Act of 1933, as amended, and may in no event be offered, sold, transferred or assigned unless and until the shares have been so registered or, in the opinion of counsel to Enhance Financial Services Group Inc., an exemption from such registration is available." (c) Investment Intent. If the certificate representing the Option Shares issuable upon a given exercise is required to bear the legend set forth above (or a legend to like effect), the Executive shall, by such exercise of the Option, be deemed conclusively to represent and to agree with the Company that he or she is acquiring the Option Shares then being purchased for his or her own account and not for the account of others, for investment only and not with a view to public sale or distribution. (d) Restriction Relating to Certain Mergers. In the event of a merger or consolidation of the Company with a third party which is proposed to he accounted for as a pooling of interests, the Executive shall, if so requested by the Company and notwithstanding any other provision of this Certificate, agree not to sell, assign, or gift or in any other way reduce his or her risk relative to the Option Shares and all other shares of Common Stock owned by the Executive for such period after the consummation of such merger or consolidation as the Company shall, upon the advice of its outside accountants, conclusively determine as necessary to ensure that such merger or consolidation may be validly accounted for as a pooling of interests. (e) Prior Conditions. The Company shall not be required to issue or deliver any certificate representing Option Shares prior to (i) the admission of such shares to listing on any stock exchange on which the Common Stock may then be listed, (ii) the completion of any registration or any other qualification of such shares under any federal or state law or any rulings or regulations of any governmental regulatory body, (iii) the obtaining of any consent or approval or other clearance from any governmental agency which the Company shall, in its sole discretion, determine to be necessary or advisable, and (iv) the payment to the Company, upon its request, of any amount requested by the Company for the purposes of satisfying its liability, if any, to withhold taxes of any kind or any other applicable assessment (plus interest or penalties thereon, if any, caused by a delay in making such payment) incurred by reason of the exercise of the Option -2- 3. Vesting of Option. (a) Vesting Conditions. If the Executive remains in the continuous employ of the Company or a Subsidiary through the close of business on each date indicated in Column I below the Option shall thereupon vest (on a cumulative basis) as to the portion of the Option Shares indicated opposite such date in Column II below: (I) (II) the % (or additional %) If employment of the Option continuous through then which vests is ------------------ -------------- December 31, 1997 25% December 31, 1998 25% December 31, 1999 25% December 31, 2000 25% (b) Effect of Termination of Employment. If the Executive's employment with the Company and its Subsidiaries is terminated for any reason whatsoever before all installments of the Option shall have vested pursuant to Paragraph 3 (a), then any portion of the Option which is not vested at the time of such termination shall automatically terminate on the date of the termination of employment, and all rights and interests of the Executive in and to such unvested portion of the Option shall thereupon terminate. Should the Executive's employment be terminated before any given date set forth in Paragraph 3(a) upon his or her death, Disability or Retirement, then the installments of the Option which are vested at the time of such termination shall remain exercisable in accordance with the terms hereof as if such termination of employment shall not have occurred. Should the Executive's employment be terminated by the Company or a Subsidiary before any given date set forth in Paragraph 3(a) other than for Cause, the vested portion of the Option not subsequently exercised on or before the 90th day after such termination shall thereupon automatically terminate. Should the Executive's employment be terminated before any given date set forth in Paragraph 3(a) under any other circumstances, the vested portion of the Option shall thereupon automatically terminate. (c) Effect of Leave of Absence. A leave of absence from the Company or any Subsidiary which is approved by the President shall not be considered a termination of the Executive's employment with the Company for purposes of this Article 3 or any other provision of this Certificate, provided that each date set forth in the table in Paragraph 3(a) which shall follow the commencement of the leave of absence shall be automatically deferred for a period equal to the period of the leave of absence. -3- (d) Board's Right to Waiver or Acceleration. Any provision of this Article 3 to the contrary notwithstanding, the Board reserves the right, in its sole discretion, to waive any condition to the vesting of the Option and accelerate the date on which any installment of the Option shall vest in the event of a change in control of the Company or a public offering of shares of Common Stock or otherwise. 4. Definitions. Unless defined below or elsewhere in this Certificate, the capitalized terms used in this Certificate shall have the meanings ascribed thereto in the Plan. (a) "Cause" shall consist of, the failure of the Executive to perform or observe the provisions of any employment agreement with the Company or a Subsidiary, dishonesty or insubordination in the performance of his or her duties, misappropriation of funds, material and willful misconduct, habitual insobriety or conviction of a crime involving moral turpitude. (b) "Disability" means a disability which entitles the Executive to benefits under the long-term disability insurance program of the Company or a Subsidiary applicable to the Executive, or which would entitle the Executive to such benefits after any applicable waiting period. (c) "Retirement" means termination of the Executive's employment with the Company and its Subsidiaries (other than for Cause or upon death or Disability) on or after the later to occur of (i) the conclusion of ten continuous years of employment by the Company or any Subsidiary or (ii) the date on which the Executive attains age 55. 5. General Provisions. (a) Administration and Construction. The provisions hereof shall be administered and construed by the Board (or any authorized committee thereof), whose decisions shall be conclusive and binding on the Company, the Executive and anyone claiming under or through either of them. Without limiting the generality of the foregoing, any determination as to whether or not an event has occurred or failed to occur which causes any unvested portion of the Option to be forfeited or become vested pursuant hereto, shall be made in the good faith but otherwise absolute discretion of the Board. By the Executive's acceptance of this Certificate, the Executive and each person claiming under or through the Executive irrevocably consents and agrees to all actions, decisions and determinations to be taken or made by the Board in good faith pursuant to this Certificate and the Plan. -4- (b) Option Not Assignable or Transferable. The Option is not assignable or transferable other than by will or the laws of descent and distribution, either voluntarily, or, to the full extent permitted by law, involuntarily, by way of encumbrance, pledge, attachment, levy or charge of any nature. Any rights of the Executive hereunder shall be exercisable during the Executive's lifetime only by him or her or by his or her guardian or legal representative. (c) No Employment Rights. No provision of this Certificate or of the Plan shall confer upon the Executive any right to continue in the employ of the Company or a Subsidiary or shall in any way affect the right of the Company or a Subsidiary to dismiss, or otherwise terminate the employment of, the Executive at any time for any reason or no reason, or shall impose upon the Company or any Subsidiary any liability for any forfeiture of any unvested portion of the Option which may result under this Certificate if the Executive's employment is so terminated. (d) Recapitalization. If the Executive receives, with respect to the Option, any other option or warrant to purchase securities of the Company, of a Subsidiary or of any other entity as a result of any recapitalization, merger, consolidation, combination, or exchange of shares or a similar corporate change, any such other option or warrant received by the Executive shall likewise be subject to the terms and conditions of this Certificate and shall be included in the term "Option." Similarly, any securities or other property as to which such other option or warrant is exercisable shall be included in the term "Option Shares." In the event of any such corporate change, the Purchase Price set forth in Paragraph 1(b) shall be appropriately adjusted by the Board such that the aggregate price for all such Option Shares is not changed. (e) Legal Representative. In the event of the Executive's death or a judicial determination of his or her incompetence, reference in this Certificate to the Executive shall be deemed to refer to his or her legal representative or, where appropriate, to the Beneficiary. (f) Holidays. If any event provided for in this Certificate is scheduled to take place on a legal holiday, such event shall take place on the next succeeding day that is not a legal holiday. (g) Notices to the Company. Any notice or other communication to the Company pursuant to any provision of this Certificate shall be deemed to have been delivered when delivered in person to the Corporate Secretary of the Company or when deposited in the United States mail, first class postage prepaid, addressed to the Corporate Secretary of the Company at 335 Madison Avenue, New York, New York 10017 or at such other address of which the Company may from time to time give the Executive written notice in accordance with Paragraph 5 (h). -5- (h) Notices to the Executive. Any notice or other communication to the Executive pursuant to any provision of this Certificate shall be deemed to have been delivered when delivered to the Executive in person or when deposited in the United States mail, first class postage prepaid, addressed to the Executive at his or her address on the security holder records of the Company or at such other address of which the Executive may from time to time give the Company written notice in accordance with Paragraph 5(g). (i) Agreement Subject to Plan. This Option Grant Certificate is being executed and delivered pursuant to and is subject in all events to the Plan, a copy of which, if not previously delivered to the Executive in connection with a prior grant thereunder, is being delivered to the Executive concurrently with this Certificate and which is incorporated in this Certificate by reference. Each provision of this Certificate shall be administered and construed in accordance with the Plan, and any provision that cannot be so administered or construed shall to that extent be disregarded. ENHANCE FINANCIAL, SERVICES GROUP INC. Date: As of December 31, 1996 By:__________________________ Daniel Gross President -6- Annex A Enhance Financial Services Group Inc. 335 Madison Avenue New York, New York 10017 Ladies and Gentlemen: I am an optionee under the Enhance Financial Services Group Inc. Long-Term Incentive Plan for Key Employees (the "Plan"), having been granted on December 5, 1996 an option for ________ shares at an exercise price of $34.00 per share. Of such grant, options for _________ shares remain unexercised and unexpired. Of such number of unexercised and unexpired options, options for ________ shares are vested as of this date. Select, by indicating with an "X", one exercise method: ___ I hereby exercise the aforesaid option for _______ shares using the Merrill Lynch "Corporate Stock Option Exercise Program." Accordingly, payment will be remitted to the company on my behalf by Merrill Lynch. ___ I hereby exercise the aforesaid option for ________ shares not using the Merrill Lynch "Corporate Stock Option Exercise Program" and enclose my check, payable to the order of Enhance Financial Services Group Inc., for $________ in payment of the purchase price and applicable withholding taxes for such shares. I ask that the certificate for the option shares be delivered to me. Very truly yours, Date: Name:________________ EX-10.6 5 EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT by and between ENHANCE FINANCIAL SERVICES GROUP INC. and ARTHUR DUBROFF July 16, 1996 EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT (this "Agreement") is made and entered into this July 16, 1996, by and between ENHANCE FINANCIAL SERVICES GROUP INC., a New York corporation (the "Company"), and ARTHUR DUBROFF ("Executive"). Certain capitalized terms are defined in Section 6.1 of this Agreement. It is hereby agreed as follows: ARTICLE I DUTIES AND TERM 1.1 Employment. In consideration of their mutual covenants and other good and valuable consideration, the receipt, adequacy and sufficiency of which is hereby acknowledged, the Company shall employ Executive, and Executive shall enter and remain in the employ of the Company, upon the terms and subject to the conditions set forth in this Agreement for the period beginning on the date hereof and ending as provided in Section 1.3 hereof (the "Employment Period"). 1.2 Position and Responsibilities. (a) During the Employment Period, Executive shall serve as Executive Vice President and Chief Financial Officer of the Company (or in a capacity of substantially equivalent stature and responsibility), reporting directly to the Chief Executive Officer of the Company, and shall have the normal duties, responsibilities and authority of a person occupying such a position in a public company of comparable size, subject to the authority of the board of directors of the Company (the "Board"). Executive agrees to perform services commensurate with his position as shall from time to time be assigned to him by the Chief Executive Officer or the Board. (b) During the Employment Period, Executive shall devote substantially all of his business time, attention, skill and efforts to the faithful performance of his duties hereunder; provided that Executive shall be entitled to (i) become a board member of one or more for profit organizations so long as such memberships do not breach Section 5.2 below, or, in the aggregate, materially interfere with Executive's performance of his duties hereunder and is approved by the Board in its sole discretion; (ii) maintain or increase his involvement in charitable organizations (so long as such involvement does not materially interfere with Executive's performance of his duties hereunder); and (iii) make passive investments in other entities. 1.3 Term. The term of Executive's employment under this Agreement shall commence on July 22, 1996 and shall continue until December 31, 1999 (the "Original Term"), unless renewed by the mutual written agreement of the Company and Executive (each such additional period, a "Renewal Term") or unless terminated earlier as provided in Article III hereof in which case the Employment Period shall be deemed terminated. 1.4 Location. During the Employment Period, Executive shall not be required, except with his prior written consent, to relocate his principal place of employment outside of the New York City metropolitan area. ARTICLE II COMPENSATION In full consideration for all services rendered by Executive in any capacity during the Employment Period, including, without limitation, services as a director, officer or member of any committee of the Board or of the board of directors of any subsidiary or affiliate of the Company, the Company shall compensate Executive as follows: 2.1 Base Salary. The Company shall pay to Executive an annual base salary at the rate of not less that $275,000 (the "Base Salary"), which salary shall be payable in regular installments in accordance with the Company's customary payroll practices. The Base Salary shall be reviewed annually by the Board or a committee designated by the Board, and the Board or such committee may, in its sole discretion, increase (but not decrease) the Base Salary. 2.2 Bonus Payments. Not later than the commencement of the Original Term, Executive shall receive an immediate signing bonus equal to $100,000. In addition, during the Employment Period, Executive shall be eligible to receive an annual target bonus of not less than 45 percent of Base Salary, the actual amount of which shall be determined in accordance with the criteria and procedures of the Company applicable to other Senior Executives (as such term is defined in Section 6.1 hereof). If Executive is not employed by the Company for the entire fiscal year he shall be eligible to receive a pro-rated portion of the annual bonus for such fiscal year, based on the number of days employed or such other basis as is reasonably determined by the Board. Executive shall be eligible to receive the bonus payable for the 1999 fiscal year or for the last year of any Renewal Term even if such Original Term or Renewal Term is not renewed. 2.3 Stock Options. Executive shall be entitled to an immediate grant of "incentive stock options" (within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended) for 55,000 shares of Common Stock pursuant to the Company's Long-Term Incentive Plan for Key Employees (the "Incentive Plan"), which grant shall, except as specifically provided herein, be on terms required by the Incentive Plan and otherwise -2- substantially identical to those governing stock options hitherto granted by the Company to other Senior Executives. In addition, Executive shall be entitled, at the Company's election, to either (i) an annual grant under the Incentive Plan (or successor plan) of stock options for not less than 20,000 shares of Common Stock in each of the calendar years 1996, 1997, and 1998, which grants shall, except as specifically provided herein, be on terms identical to those granted to other Senior Executives or, if no such stock options are granted to such Senior Executives, then on terms identical to those governing the stock options granted to Executive upon the commencement of his employment with the Company, as described above in this paragraph, or (ii) if and to the extent stock options for fewer than 20,000 shares of Common Stock are granted to Executive during any of calendar years 1996, 1997, or 1998, then cash or other compensation having value equal to the difference between the value of stock options for 20,000 shares of Common Stock and the value of any stock options actually granted in such fiscal year, if any, as determined as of the time of grant (or when stock option grants would normally be made if none are made in such fiscal year) by the Compensation and Nominating Committee of the Board (the "Compensation Committee") in good faith. The Compensation Committee shall promptly notify Executive of its determination and the basis therefore in writing, and if the Executive disagrees with such determination, the Executive shall notify (in writing) the Compensation Committee thereof within 30 days of receipt of the Compensation Committee notice. Any stock options granted to Executive which remain outstanding after the Original Term and any Renewal Term will continue to provide for accelerated vesting and post-employment exercise periods on the same basis as provided herein. If Executive timely notifies the Company of his disagreement with the value of the applicable award as determined by the Compensation Committee pursuant to the second preceding sentence, the matter shall be submitted for resolution to a independent third party valuator experienced in valuing stock options of similarly situated companies whose selection shall be made by the Executive from a list of 5 recognized independent valuators, none of whom bave performed any services for the Company for the immediately preceding 24 months provided by the Compensation Committee. The determination of such valuator shall be binding on all parties. The Company shall pay the costs of the valuator, except that Executive shall pay for up to the first $10,000 of cost of the valuator in the event the Valuator's valuation is not at least five percent (5%) higher than that determined initially by the Compensation Committee. 2.4 Additional Benefits. Executive shall be entitled to participate in all employee benefit and welfare programs, plans and arrangements (including, without limitation, pension, profit-sharing, supplemental pension and other retirement plans, insurance, hospitalization, medical and group disability benefits, travel or accident insurance plans) and to receive other benefits, such as dues and fees of professional organizations and associations, which are from time to time available to the Company's executive personnel; provided, however, there shall be no duplication of termination or severance benefits and to the extent that such benefits are specifically provided by the Company to Executive under other provisions of this Agreement, the benefits available under the foregoing plans and -3- programs shall be reduced by any benefit amounts paid under such other provisions. 2.5 Reimbursement of Business Expenses. The Company shall pay, or reimburse Executive for, all reasonable ordinary and necessary business expenses incurred by Executive in performing his obligations under this Agreement which are consistent with the Company's policies in effect from time to time with respect to travel, entertainment and other business expenses, subject to the Company's requirements with respect to reporting and documentation of such expenses. 2.6 Vacations. Executive shall be entitled to the number of business days, excluding Company holidays, of paid vacation during each year of employment hereunder commensurate with the vacation benefits accorded to other Senior Executives of the Company. ARTICLE III TERMINATION OF EMPLOYMENT 3.1 Death of Executive. The Employment Period shall automatically terminate upon the death of Executive. 3.2 By Executive. Executive shall be entitled to terminate the Employment Period by giving Notice of Termination to the Company at any time with or without Good Reason. 3.3 By the Company. The Company shall be entitled in its sole discretion to terminate the Employment Period under this Agreement by giving Notice of Termination to Executive: (a) in the event of Executive's Total Disability; (b) for Cause; and (c) at any time without Cause. ARTICLE IV COMPENSATION UPON TERMINATION OF EMPLOYMENT PERIOD If the Employment Period is terminated in accordance with the provisions of Article III hereof, except for any other rights or benefits specifically provided for herein following the Employment Period, the Company shall be obligated to provide compensation and benefits to Executive only as follows, subject to the provisions of Section 5.4 hereof: -4- 4.1 Upon Termination for Death. If the Employment Period is terminated by reason of Executive's death, the Company shall: (a) pay Executive's Representative any Base Salary which has accrued but not been paid as of the Termination Date (as defined in Section 4.6) (the "Accrued Base Salary"); (b) pay Executive's Representative for unused vacation days accrued as of the Termination Date (the "Accrued Vacation Payment"); (c) reimburse Executive's Representative for expenses incurred by him prior to the Termination Date which are subject to reimbursement pursuant to this Agreement (the "Accrued Reimbursable Expenses"); (d) provide to Executive's Representative any accrued and vested benefits required to be provided by the terms of any Company-sponsored benefit plans or programs (the "Accrued Benefits"), together with any benefits required to be paid or provided in the event of Executive's death under applicable law; (e) pay Executive's Representative any annual bonus with respect to a prior fiscal year which has accrued but has not been paid, if any, and a pro-rated annual bonus based on the current fiscal year's target bonus, determined as described in Section 2.2 and adjusted for the period of time from the beginning of the then current fiscal year to the Termination Date; (f) permit Executive's Representative to exercise all stock options previously granted (whether or not exercisable as of the Termination Date) at any time for the remainder of the original terms of the options as set forth in the applicable stock option agreements, and provide Executive's Representative with equivalent value pursuant to Section 2.3(ii) for any of the ungranted options referred to therein at the Termination Date (such ungranted options shall be deemed to have the same terms as the options most recently granted to Executive, provided, however, that the exercise price of such ungranted options shall be deemed to be the fair market value of the Common Stock on the Termination Date); and (g) permit Executive's dependents to elect continuation medical coverage in accordance with the requirements of the Consolidated Omnibus Budget Reconciliation Act of 1985, as amended ("COBRA"), and for a period of twelve (12) months from the Termination Date pay the applicable premium for such coverage. In the event the period of COBRA coverage paid by the Company under this Section 4.1(g) shall be less than the period mandated under applicable provisions of COBRA, Executive's dependents shall be entitled to elect to continue coverage at his or her own expense for the remainder of the COBRA continuation period. -5- 4.2 Upon Termination for Disability. If the Employment Period is terminated by reason of Executive's Total Disability, the Company shall: (a) pay Executive the Accrued Base Salary; (b) pay Executive the Accrued Vacation Payment; (c) pay Executive the Accrued Reimbursable Expenses; (d) pay Executive the Accrued Benefits, together with any benefits required to be paid under applicable law, in the event of Executive's Total Disability; (e) pay Executive any annual bonus with respect to a prior fiscal year which has accrued but has not been paid, if any; (f) pay Executive for a period of twelve (12) months from his Termination Date, his Base Salary, provided however, that such amounts shall be offset by any amounts payable under the Company's short-term or long-term disability plans; (g) pay Executive a pro-rated annual bonus based on the current fiscal year's target bonus determined as described in Section 2.2 and adjusted for the period of time from the beginning of the then current fiscal year to the Termination Date; (h) permit Executive to elect continuation medical coverage in accordance with the requirements of COBRA for him and his dependents, and for a period of 12 months from the Termination Date pay the applicable premium for such coverage, except that Executive shall continue to pay the applicable premium Executive would pay if he continued as an active employee of the Company. In the event the period of COBRA coverage paid by the Company under this Section 4.2(h) shall be less than the period mandated under applicable provisions of COBRA, Executive and his dependents shall be entitled to elect to continue coverage at his or her own expense for the remainder of the COBRA continuation period; and (i) permit Executive to exercise all stock options previously granted (whether or not exercisable as of the Termination Date) at any time for the remainder of the original terms of the options as set forth in the stock option agreements, and provide Executive with equivalent value pursuant to Section 2.3(ii) for any of the ungranted options referred to therein at the Termination Date (such ungranted options shall be deemed to have the same terms as the options most recently granted to Executive, provided, however, that the exercise price of such ungranted options shall be deemed to be the fair market value of the Common Stock on the Termination Date). 4.3 Upon Termination by the Company for Cause or by Executive Without Good Reason. If the Employment Period is terminated by the Company for Cause (other than -6- circumstances where Section 4.5 is applicable) or by Executive other than (i) upon Executive's death or Total Disability, or (ii) with Good Reason, the Company shall: (a) pay Executive the Accrued Base Salary; (b) pay Executive the Accrued Vacation Payment; (c) pay Executive the Accrued Reimbursable Expenses; and (d) pay Executive the Accrued Benefits, together with any additional benefits required to be paid or provided under applicable law. 4.4 Upon Termination by the Company Without Cause or by Executive With Good Reason. If the Employment Period is terminated by the Company without Cause or by Executive with Good Reason, the Company shall: (a) pay Executive the Accrued Base Salary; (b) pay Executive the Accrued Vacation Payment; (c) pay Executive the Accrued Reimbursable Expenses; (d) pay Executive the Accrued Benefits, together with any additional benefits required to be paid or provided under applicable law; (e) pay Executive any annual bonus payments which have accrued but not been paid as of the Termination Date; (f) pay Executive the Base Salary (as in effect on the Termination Date) for the greater of (i) the period commencing on the Termination Date and ending at the conclusion of the Original Term or Renewal Term during which the Termination Date shall have occurred, or (ii) twelve (12) months from the Termination Date, which salary shall be payable in the sole discretion of the Company either in regular installments as determined by the Company (but not less often than monthly) or in one lump sum; (g) pay Executive a pro-rated annual bonus based on the current fiscal year's target bonus determined as described in Section 2.2 and adjusted for the period of time from the beginning of the then current fiscal year to the Termination Date; (h) permit Executive to elect continuation medical coverage for him and his dependents in accordance with the requirements of COBRA, and for a period beginning on the Termination Date and ending on the earliest of (i) eighteen (18) months thereafter, (ii) such time as Executive becomes covered under another group medical plan, or (iii) the later of (x) the end of the Original Term or the Renewal Term in which the Termination Date -7- occurs, or (y) twelve (12) months from the Termination Date, pay the applicable premium for such coverage, except that Executive shall continue to pay the applicable premium Executive would pay if he continued as an active employee of the Company. In the event the period of COBRA coverage paid by the Company under this Section 4.4(h) shall be less than the period mandated under applicable provisions of COBRA, Executive and his dependents shall be entitled to elect to continue coverage at Executive's own expense for the remainder of the COBRA continuation period; and (i) permit Executive to exercise all stock options previously granted (whether or not exercisable as of the Termination Date) at any time for the remainder of the original terms of the options as set forth in the stock option agreements, and provide Executive with equivalent value pursuant to Section 2.3(ii) for any of the ungranted options referred to therein at the Termination Date (such ungranted options shall be deemed to have the same terms as the options most recently granted to Executive, provided, however, that the exercise price of such ungranted options shall be deemed to be the fair market value of the Common Stock on the Termination Date). The foregoing provisions notwithstanding, Executive shall not be entitled to any amounts payable under Sections 4.4(f), (g) and (h) after a material breach of the provisions of Sections 5.1 or 5.2 hereof; provided, however, that no breach shall be deemed to exist unless the Company shall have given prior notice to Executive specifying the breach and, within ten (10) days after such notice, Executive shall not have cured or eliminated the breach, and provided further that the Company shall be entitled to suspend all payments during such ten (10) day (or lesser) period but shall promptly pay all withheld amounts in the event of and upon the timely cure or elimination of the breach. Except as provided in the preceding paragraph in the event of a termination of the Employment Period pursuant to this Section 4.4 or Section 4.5, the Company shall not have the right to set-off and apply any amount then due and payable to Executive under Section 4.4 against any other amount then due and owing by Executive to the Company and Executive shall not be required to mitigate the amount of any such payment by seeking employment or otherwise, nor shall any such payment be off-set by any amounts paid to Executive in connection with any future employment of Executive. 4.5 Upon Termination by the Company Following a Change of Control. If within a twelve (12) month period following a Change of Control the Employment Period is terminated by the Company with or without Cause, the Company shall make the payments and provide to Executive the benefits under Section 4.4. Nothing contained in this Section 4.5 shall limit Executive's rights under Sections 4.1, 4.2, and 4.4 herein before or after a Change of Control. 4.6 Notice of Termination. Any termination of the Employment Period by the Company for Cause or by Executive for Good Reason shall be communicated by Notice of Termination to the other party hereto. Executive's date of termination (the "Termination -8- Date") shall be the date specified in the Notice of Termination or in any other case the date upon which Executive ceases to perform services for the Company. It is understood that a notice that the Employment Period will not be extended shall not constitute termination of the Employment Period under Article III hereof. ARTICLE V RESTRICTIVE COVENANTS 5.1 Confidentiality. (a) Executive shall hold in strictest confidence, and not disclose to any Person or use without the prior written consent of the Company, any and all of the Company's "Proprietary Information," as defined in subparagraph (c) below, except to the extent Executive acting in good faith deems such disclosure advisable in connection with his employment hereunder or such disclosure is required pursuant to legal process, provided, however, that in the case of legal process, Executive shall give the Company prompt written notice thereof so that the Company, if it desires, can seek a protective order. This covenant and agreement shall survive the Employment Period, so long as such information and data shall remain "Proprietary Information." (b) Upon expiration or termination of the Employment Period for any reason, Executive shall immediately deliver to the Company any "Proprietary Information." Executive shall have no right to retain any copies of any material qualifying as "Proprietary Information" for any reason whatsoever after expiration or termination of the Employment Period without the prior written consent of the Company. (c) For purposes of this Agreement, "Proprietary Information" means the information, observations, know-how and data obtained by Executive during his service as a director of the Company or during the Employment Period concerning the business or affairs of the Company or any subsidiary, including, but not limited to, the following: the type of services being provided or offered by the Company to clients or customers or potential clients or customers of the Company or its affiliates; the identity of the clients or customers of the Company or its affiliates; any financial or other information supplied by clients or customers of the Company or its affiliates; any and all data or information involving the Company, its affiliates, programs, methods, or contacts employed by the Company or its affiliates in the conduct of their business; any lists, documents, manuals, records, forms, or other materials used by the Company or its affiliates in the conduct of their business; any descriptive materials describing the methods and procedures employed by the Company or its affiliates in the conduct of their business; and any other secret or confidential information concerning the Company's or its affiliates' business or affairs. The terms "list," "document" or their equivalents, as used in this subparagraph (c), are not limited to a physical writing or compilation but also include any and all information whatsoever regarding the subject matter -9- of the "list" or "document," whether or not such compilation is for computer-use format or has been reduced to writing. The foregoing notwithstanding, "Proprietary Information" shall not include any information which (i) is or becomes publicly available through no act or omission of Executive in violation of this Agreement or any other duty which Executive owes to the Company or (ii) becomes independently available to Executive as a matter of right from a third party. If only a portion of the "Proprietary Information" is or becomes publicly available, then only that portion shall not be "Proprietary Information" hereunder. 5.2 Competition. (a) Executive acknowledges that (i) he is being engaged to serve as Executive Vice President and Chief Financial Officer of the Company and in such capacity he will be a representative of the Company with respect to clients and potential clients of the Company; (ii) he has had and will continue to have access to confidential information about the Company, its affiliates, and their clients and that "Proprietary Information" acquired by him at the expense of the Company is for use in its business; and (iii) he has substantial experience in the financial products and services industry and possesses special, unique, extraordinary skills, and knowledge in this field. Accordingly, during the Employment Period and the Non-Competition Period, Executive shall not: (i) directly or materially indirectly, be employed in, consult to, have an interest in or otherwise be involved with any business competing with any Business of the Company, provided the foregoing shall not prevent Executive from (x) having passive investments in companies representing not in excess of two percent (2%) of the outstanding equity securities of each such company (including without limitation under compensatory equity programs of employing entities), (y) being employed by, consulting to or otherwise being involved with any portion of an entity that is not the portion competing with the Business of the Company, or (z) providing banking or investment banking services to any entity whatsoever; or (ii) directly or indirectly solicit any business of a nature that is competitive with any Business from any Person that obtained products or services from the Company or any subsidiary or affiliate of the Company at any time during the last three (3) years of his employment with the Company, or in any way interfere with the relationship between any such Person and the Company or any subsidiary or affiliate thereof; or (iii) directly or indirectly employ or offer to employ, directly or indirectly solicit, or cause the solicitation of, any employees of the Company or any subsidiary or affiliate thereof who are in the employ of the Company or any subsidiary or affiliate thereof on the Termination Date of his employment hereunder for employment by others, or in any way interfere with the relationship of the Company or any subsidiary or affiliate thereof, provided the foregoing shall not prevent Executive from providing references upon request so long as he is not -10- associated with the entity to which he is providing the reference. (b) Executive expressly agrees and acknowledges that: (i) the Company has protected business interests and that competition with and against such business interests would be harmful to the Company; (ii) this covenant not to compete is reasonable as to time and geographical area and does not place any unreasonable burden upon him; (iii) the general public will not be harmed as a result of enforcement of this covenant not to compete; (iv) his personal legal counsel has reviewed this covenant not to compete; (v) he understands and hereby agrees to each and every term and condition of this covenant not to compete (including, without limitation, the provisions of Section 5.3); and (vi) the covenant not to compete shall be in addition to, and not in substitution for, any obligations created or imposed by common or statutory law. 5.3 Remedies. Executive expressly agrees and acknowledges that this covenant not to compete is necessary for the protection of the Company and its subsidiaries and affiliates because of the nature and scope of their business and his position with the Company. Further, Executive acknowledges that any breach of this covenant not to compete would result in irreparable damage to the Company, and in the event of a breach or threatened breach of this covenant not to compete, money damages will not sufficiently compensate the Company for its injury caused thereby, and that the remedy at law for any breach or threatened breach of Sections 5.1 or 5.2 will be inadequate and, accordingly agrees, that (i) the Company may, in addition and supplementary to all other available rights and remedies (including, without limitation, seeking such damages as it can show it has sustained by reason of such breach), apply to any court of law or equity of competent jurisdiction for specific performance, a temporary, preliminary and final injunction or other relief in order to enforce or prevent any violation of this covenant not to compete, and (ii) in addition to such money damages, Executive may be restrained and enjoined from any continuing breach of this covenant not to compete without any bond or other security being required of any court. -11- 5.4 Representations and Warranties. (a) By Executive. Executive hereby represents and warrants to the Company that (i) the execution, delivery and performance of this Agreement by Executive does not and will not conflict with, breach, violate or cause a default under any contract, agreement, instrument, order, judgment or decree to which Executive is a party or by which he is bound; (ii) except as set forth in the letter from Executive dated and delivered to the Company on or prior to the date first set forth above (the "Letter"), Executive is not a party to or bound by any employment agreement, noncompete agreement or confidentiality agreement; and (iii) upon the execution and delivery of this Agreement by the Company, this Agreement shall be the valid and binding obligation of Executive, enforceable in accordance with its terms. (b) By the Company. The Company hereby represents and warrants to Executive that (i) the execution, delivery and performance of this Agreement by the Company does not and will not conflict with, breach, violate or cause a default under any contract, agreement, instrument, order, judgment or decree to which the Company is a party or by which it is bound; (ii) the Company will not cause Executive to breach any employment agreement, noncompete agreement or confidentiality agreement set forth in the Letter; (iii) upon the execution of this Agreement by Executive, this Agreement shall be valid and binding obligation of the Company, enforceable in accordance with its terms. ARTICLE VI MISCELLANEOUS 6.1 Definitions. For purposes of this Agreement, the following terms shall have the following meanings: (a) "AAA" - as defined in Section 2.3; (b) "Accrued Base Salary" - as defined in Section 4.1(a); (c) "Accrued Benefits" - as defined in Section 4.1(d); (d) "Accrued Reimbursable Expenses" - as defined in Section 4.1(c); (e) "Accrued Vacation Payment" - as defined in Section 4.1(b); (f) "Base Salary" - as defined in Section 2.1; (g) "Board" shall mean the Board of Directors of the Company; -12- (h) "Business" shall mean any line of business from which the Company and its subsidiaries taken as a whole (i) derived ten percent (10%) or more of consolidated revenues for the immediately preceding four fiscal quarters prior to the termination of the Employment Period or (ii) reasonably anticipate, based on significant prior effort and marketing analysis, deriving ten percent (10%) or more of consolidated revenues for the four fiscal quarters following the termination of the Employment Period, and of which, in the case of (ii), the Company gives Executive written notice within ten (10) days after such termination. Notwithstanding the foregoing, Business shall not include any Business of the Company and its subsidiaries which becomes part of the Company, a subsidiary or a new subsidiary primarily as a result of a Change of Control (other than in connection with the commencement of any new business). (i) "Cause" shall mean the occurrence of any of the following: (i) Executive's gross negligence which is materially injurious to the Company and its subsidiaries taken as a whole or willful misconduct which is injurious to the Company or any of its subsidiaries; (ii) Executive's commission of any act involving dishonesty, breach of fiduciary duty or fraud with respect to the Company or any of its subsidiaries; provided, however, that any disputes arising out of Section 2.5 of this Agreement resulting from actions taken by Executive in good faith shall not constitute Cause; (iii) Executive's conviction for, or plea of nolo contendere to, a felony (other than a traffic violation not involving third-party personal injury); or (iv) the material failure or refusal by Executive to perform the duties required of him by this Agreement which failure or refusal is not cured within twenty (20) days after written notice thereof from the Company is received by Executive. (j) "Change of Control" shall be deemed to have occurred if, (i) any Person becomes the beneficial owner, directly or indirectly of fifty percent (50%) or more of the combined voting power of the then outstanding securities of the Company, (ii) there shall occur the sale or other transfer of all or substantially all of the assets of the Company to a Person who is not an affiliate of the Company as defined in Rule 12b-2 under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), (iii) there occurs a merger, consolidation, reorganization or other business combination of the Company in which the Company is not the surviving entity other than one intended to reincorporate the Company in another jurisdiction, and (iv) the persons who were directors of the Company prior to any cash tender offer or exchange offer, merger reorganization or other business combination, sale of assets, contested or other election of directors of the Company, or any combination of the foregoing transactions cease to constitute at least two-thirds of the Board following any of such transactions. -13- (k) "Common Stock" shall mean shares of the common stock, par value $.10 per share, of the Company; (l) "Compensation Committee" - as defined in Section 2.3; (m) "Employment Period" - as defined in Section 1.1; (n) "Expiration" shall mean the expiration of the Employment Period in accordance with Section 1.3; (o) "Good Reason" shall mean the occurrence of any of the following: (i) Executive's Base Salary is reduced by the Company or there is a material reduction in the benefits that are in effect for Executive in accordance with Section 2.4 (unless such reduction is pursuant to a uniform reduction in benefits for Senior Executives) or a material diminution of Executive's title, authority or management responsibilities; (ii) Except with Executive's prior written consent, relocation of Executive's principal place of employment to a location outside of the New York City metropolitan area or to an office other than the Company's primary office; or (iii) Other material breach of this Agreement by the Company which breach is not cured within twenty (20) days after written notice thereof from Executive is received by the Company. (p) "Incentive Plan" - as defined in Section 2.3. (q) "Letter" - as defined in Section 5.4(a). (r) "Non-Competition Period" shall mean that period which shall commence on the termination of the Employment Period and shall expire at the end of the Original Term or, if in a Renewal Term, the end of the Renewal Term, provided that if the termination shall have occurred pursuant to Section 4.4 or 4.5, the "Non-Competition Period" shall continue to the end of the period for which the Base Salary is paid pursuant to Section 4.4(f); provided that the otherwise applicable date referred to in the preceding clause shall be automatically extended by such number of days, if any, as Executive shall be in breach of Section 5.2. In the event that the Original Term or any Renewal Term expires while Executive is employed without being renewed, there shall thereafter be no Non-Competition Period. (s) "Notice of Termination" shall mean a notice which shall indicate the specific termination provision of this Agreement relied upon and shall set forth in reasonable detail the facts and circumstances, if any, claimed to provide a basis for termination of the -14- Employment Period under the provision so indicated. Any Notice of Termination shall be delivered at least three (3) days prior to the effective Termination Date; (t) "Original Term" - as defined in Section 1.3; (u) "Person" shall mean an individual, corporation, partnership, limited liability company, association, joint venture, joint stock company, trust, unincorporated organization, governmental entity (or any department, agency or political subdivision thereof) or other entity; (v) "Proprietary Information" - as defined in Section 5.1(c); (w) "Renewal Term" - as defined in Section 1.3; (x) "Representative" shall mean Executive's designated beneficiaries as set forth by Executive in accordance with, or as provided under the terms of, any applicable Company plan or arrangement (or, if there is no such provision in a plan or arrangement, as designated by Executive in writing), or if no such designation exists, Executive's estate. (y) "Senior Executives" shall mean the five most highly compensated executive officers of the Company determined in accordance with the rules and regulations of the Securities and Exchange Commission under the Exchange Act; (z) "Termination" shall mean the termination of Executive's employment hereunder other than upon expiration of the Original Term or a Renewal Term; (aa) "Termination Date" - as defined in Section 4.5. (bb) "Total Disability" shall mean Executive's inability, due to illness, accident, injury, physical or mental capacity or other disability, to carry out effectively his duties and obligations to the Company hereunder or to participate effectively and actively in the management of the Company for a period of 90 consecutive days or 120 days within 240 consecutive days or he shall be certified as permanently disabled (in a manner that he will not be able to effectively perform his duties and obligations to the Company) by a qualified physician jointly selected by Executive and the Company acting in good faith who shall have conducted such examination of Executive as he deems necessary. (cc) "Valuator" - as defined in Section 2.3. 6.2 Dispute Resolution. (a) Except in the event of a breach or threatened breach of Article V hereof, the parties shall resolve through negotiation and then arbitration any dispute arising under the terms of this Agreement. -15- (b) Any dispute described in Section 6.2(a) which cannot be resolved by Executive and the Company by negotiation conducted in good faith shall be submitted to binding arbitration in New York City in accordance with New York law and the rules and procedures of the American Arbitration Association, except for an action for temporary, preliminary or final injunctive relief. The determination of the arbitrator shall be conclusive and binding on the parties and judgment shall be entered on the award as determined by the arbitrator in any court of competent jurisdiction. The Arbitrator may include in this award an order for injunctive relief; provided however, that the arbitrator may not include in this award any punitive, exemplary, incidental, consequential or special damages or fashion any remedy except as expressly provided in this Agreement. The Company and Executive shall each bear their own costs and expenses incurred in connection with any arbitration under this Agreement (including but not limited to their own attorneys' fees and expenses), and the parties shall split evenly the cost of the arbitrator; provided, however, that if the arbitrator finds that the Company breached the Agreement by withholding payments to Executive required thereunder in bad faith, Executive shall be entitled to be reimbursed by the Company for the cost of the arbitrator and reasonable attorney's fees and costs incurred by Executive. 6.3 Assignment. Neither this Agreement nor any of the rights of the parties hereunder may be assigned or transferred by either party hereto without the prior written consent of the other party, except that if the Company shall merge or consolidate with or into, or sell or otherwise transfer substantially all of its assets to, another partnership, corporation or other Person which assumes the Company's obligations under this Agreement, may assign its rights and obligations hereunder to such transferee; provided, however, that such assignment is in writing and a copy of such is delivered to Executive. Any attempted assignment or transfer of this Agreement in violation of this Section 6.3 shall be void. 6.4 Successors; Binding Ageement. Except as otherwise provided herein, this Agreement shall be binding upon and shall inure to the benefit of and be enforceable by Executive and his personal or legal representatives, beneficiaries, designees, executors, administrators, heirs, distributees, devisees and legatees and by the Company and its successors and assigns. 6.5 Modification; No Waiver. This Agreement may not be modified or amended except by an instrument in writing signed by the parties hereto. No course of conduct or failure or delay in enforcing the provisions of this Agreement shall affect the validity, binding effect or enforceability of this Agreement. No term or condition of this Agreement shall be deemed to have been waived, nor shall there be any estoppel against the enforcement of any provision of this Agreement, except by written instrument by the party charged with such waiver or estoppel. No such written waiver shall be deemed a continuing waiver unless specifically stated therein, and each such waiver shall operate only as to the specific term or condition waived and shall not constitute a waiver of such term or condition for the future or as to any other term or condition. -16- 6.6 Complete Agreement. This Agreement (together with any exhibits or schedules incorporated as a part hereof and any other documents expressly referred to herein) constitutes the complete agreement and understanding between the parties hereto, and no agreement, representation, warranty or covenant has been made by either party except as expressly set forth herein. 6.7 Severability. The covenants and agreements contained herein are separate and severable and the invalidity or unenforceability of any one or more of such covenants or agreements, if not material to the employment arrangement that is the basis for this Agreement, shall not affect the validity or enforceability of any other covenant or agreement contained herein. In addition, if any provision of this Agreement is held to be invalid, illegal or unenforceable in any respect under any applicable law or rule in any jurisdiction, (i) this Agreement will be reformed, construed and enforced in such jurisdiction as if such invalid, illegal or unenforceable provision had never been contained herein and (ii) such invalidity, illegality or unenforceability not affect any other provision or any other jurisdiction. 6.8 Blue-Pencilling. If any court determines that any covenant contained in this Agreement, including, without limitation, the non-compete covenants, or any part thereof, is unenforceable because of the duration or geographical scope of such provisions, the duration or scope of such provision, as the case may be, shall be reduced so that such provision becomes enforceable and, in the reduced form, such provision shall then be enforceable and shall be enforced. 6.9 Withholding. This Company may withhold from any payments or benefits payable under this Agreement all federal, state, city and other taxes as shall be required pursuant to any applicable law or governmental rule or regulation. 6.10 Counterparts. This Agreement may be executed in separate counterparts, none of which needs to contain the signature of more than one party, each of which is deemed to be an original and all of which taken together constitute one and the same agreement. 6.11 Indemnification. The Company shall, and it hereby does, indemnify Executive and hold Executive free and harmless, to the maximum extent provided for in the Company's By-Laws. Executive shall be entitled to be covered by any liability insurance policy, in accordance with its terms, to the maximum extent of coverage provided for any officer, director or employee which may be maintained by the Company during the period of his employment and, thereafter, with regard to matters occurring during his Employment Period. 6.12 Governing Law. All questions concerning the construction, validity and interpretation of this Agreement and the exhibits hereto will be governed by the laws of the State of New York, without giving effect to conflict of laws. 6.13 Notices. Any notice or other communication required or permitted hereunder shall be in writing and shall be delivered personally, sent by registered or certified mail -17- (return receipt requested) or sent by reputable overnight courier service (charges prepaid) to the recipient party thereof at the following addresses: If to the Company, to it at; Enhance Financial Services Group Inc. 335 Madison Avenue 25th Floor New York, New York 10017-4605 Attn: Chief Executive Officer If to Executive, to him at: Arthur Dubroff 8 Devore Drive West Orange, NJ 07052-3411 or such other address or to the attention of such other person as the recipient party shall have specified by prior written notice to the sending party. Any notice under this Agreement will be deemed to have been given when personally delivered or, if mailed, three (3) days after deposit in the U.S. mail or, if sent by reputable overnight courier, one day after delivery to such overnight courier. Company: ENHANCE FINANCIAL SERVICES GROUP INC. By: /s/ Daniel Gross -------------------------------- Daniel Gross President and Chief Executive Officer Executive: ARTHUR DUBROFF /s/ Arthur Dubroff ------------------------------------ -18- EX-27 6 FDS -- ENHANCE FINANCIAL SERVICES GROUP 10-K
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM financial statements of Enhance Financial Services Group Inc. as of and for the year ended December 31, 1996. 1,000 YEAR DEC-31-1996 JAN-01-1996 DEC-31-1996 5385 791701 22205 0 0 0 0 0 983443 0 75000 0 0 1853 486496 983443 0 132301 0 49934 0 0 6182 76390 20686 55704 0 0 0 55704 3.12 3.00
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