-----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, Vc8Y+BwJAojZHCQGdXXAJorX/lU6PUIcWRpSBSs9UZvLBvsiklJmOf+VtJjvQfHc RRw1c9xK5oSBrJdYdGL+mw== 0000950144-98-003209.txt : 19980326 0000950144-98-003209.hdr.sgml : 19980326 ACCESSION NUMBER: 0000950144-98-003209 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980325 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: MEDICAL ASSURANCE INC CENTRAL INDEX KEY: 0000944492 STANDARD INDUSTRIAL CLASSIFICATION: FIRE, MARINE & CASUALTY INSURANCE [6331] IRS NUMBER: 630720042 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-12129 FILM NUMBER: 98572658 BUSINESS ADDRESS: STREET 1: P O BOX 590009 CITY: BIRMINGHAM STATE: AL ZIP: 35259 BUSINESS PHONE: 2058774400 MAIL ADDRESS: STREET 1: P O BOX 590009 CITY: BIRMINGHAM STATE: AL ZIP: 35259 10-K 1 MEDICAL ASSURANCE, INC. 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (Mark One) X Annual report pursuant to section 13 or 15(d) of the Securities - --- Exchange Act of 1934 [Fee Required] for the fiscal year ended December 31, 1997, or - --- Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 [No Fee Required] for the transition period from ________ to _________. Commission file number: 001-12129 Medical Assurance, Inc. ------------------------------------------------------ (Exact name of registrant as specified in its charter) Delaware 63-1137505 - ----------------------- ------------------------------------ (State of incorporation (I.R.S. Employer Identification No.) or organization) 100 Brookwood Place, Birmingham, AL 35209 - --------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Securities registered pursuant to Section 12(b) of the Act: Common Stock, par value $1.00 per share Securities registered pursuant to Section 12(g) of the Act: None. Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of voting stock held by non-affiliates of the registrant at February 27, 1998 was $550,936,888. As of December 31, 1997, the registrant had outstanding approximately 21,499,000 shares of its common stock. Exhibit Index at page 56 Page 1 of 81 Pages 2 Documents incorporated by reference in this Form 10-K: (i) The Registration Statement on Form S-1 with respect to the common stock of Mutual Assurance, Inc. (Commission File No. 33-35223) is incorporated by reference into Part IV of this report. (ii) The Mutual Assurance, Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1994 (Commission File No. 0-19439), is incorporated by reference into Part IV of this report. (iii) Registration Statement on Form S-4 with respect to the common stock of MAIC Holdings, Inc. (Commission File No. 33-91508) originally filed April 20, 1995 is incorporated by reference into Parts I and IV of this report. (iv) The Mutual Assurance, Inc. Current Report on Form 8-K for event occurring August 28, 1995 (Commission File No. 0-19439), is incorporated by reference into Part IV of this Report. (v) The MAIC Holdings, Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1995 (Commission File No. 0-19439), is incorporated by reference into Part IV of this report. (vi) The MAIC Holdings, Inc. Proxy Statement for the 1996 Annual Meeting (Commission File No. 0-19439) is incorporated herein by reference into Part IV of this report. (vii) The Registration Statement on Form S-4 with respect to the Common Stock of MAIC Holdings, Inc. (Commission File No. 333-13465) is incorporated by reference into Part IV of this report. (viii) The MAIC Holdings, Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1996 (Commission File No. 001-12129) is incorporated herein by reference into Part IV of this report. (ix) The definitive proxy statement for the 1998 Annual Meeting of the Stockholders of Medical Assurance, Inc. is incorporated by reference into Part III of this Report. 2 3 PART I ITEM 1. BUSINESS OF THE COMPANY Medical Assurance, Inc., formerly known as MAIC Holdings, Inc. ("MAI"), was incorporated in the state of Delaware on February 8, 1995 by its sole incorporator, Mutual Assurance, Inc., an Alabama stock insurer ("Mutual Assurance"), to serve as a holding company for Mutual Assurance and its subsidiaries. MAI is the holder of one-hundred percent (100%) of the capital stock of Mutual Assurance, Medical Assurance of West Virginia, Inc., a West Virginia stock insurer ("MA-West Virginia"), Physicians Insurance Company of Indiana, Inc., an Indiana stock insurer ("PIC-Indiana"), and Missouri Medical Insurance Company, a Missouri stock insurer ("MOMEDICO"). MAI, through its insurance subsidiaries, is nationally recognized for providing malpractice protection to physicians, hospitals, dentists and managed care and health care organizations through programs which coordinate traditional insurance with effective clinical risk management. MAI and its subsidiaries comprise insurance company holding systems under the laws of Alabama, West Virginia, Indiana and Missouri. MAI and its subsidiaries are sometimes collectively referred to as the Company. RECENT DEVELOPMENTS Change of Corporate Name At the 1997 Annual Meeting of the Shareholders of MAI, the Shareholders approved an Amendment to the Certificate of Incorporation of MAI to change its name from "MAIC Holdings, Inc." to "Medical Assurance, Inc." The name change was effective on June 1, 1997. Formation of Holding Company In 1995, the Board of Directors and Shareholders of Mutual Assurance approved a Plan of Exchange (the "Plan of Exchange") in accordance with the Alabama Insurance Code in order to form a holding company for Mutual Assurance and its subsidiaries. The Plan of Exchange provided for the mandatory exchange of one share of MAI common stock for each share of issued and outstanding Mutual Assurance common stock. The Plan of Exchange was effected on August 31, 1995. At the effective time of the Plan of Exchange, MAI had no stockholders. As a result of the Plan of Exchange, Mutual Assurance became a wholly-owned subsidiary of MAI and the shareholders of Mutual Assurance became the sole stockholders of MAI without any material change in their proportionate ownership of Mutual Assurance and its subsidiaries. Additionally, in accordance with the Plan of Exchange, Mutual Assurance distributed as a dividend to MAI all of its capital stock in MA-West Virginia and PIC-Indiana. For accounting purposes, the historical financial statements of Mutual Assurance and its subsidiaries were restated as the consolidated financial statements of MAI and its subsidiaries in a manner similar to that of a pooling combination. Prior to the Plan of Exchange, MAI had no assets, liabilities, revenues or net income. Listing on New York Stock Exchange. On September 23, 1996, MAI's common stock was listed for trading on the New York Stock Exchange ("NYSE") under the trading symbol "MAI." Simultaneously, MAI's common stock was delisted from trading on NASDAQ/NMS. As a result, MAI is now subject to the rules and regulations of the NYSE rather than the rules and regulations of The Nasdaq Stock Market, Inc. 3 4 Purchased Minority Interest in LifeSouth, Inc. On June 3, 1996, MAI Corporation, a wholly-owned subsidiary of Mutual Assurance, completed the purchase of the minority owned shares of common stock of LifeSouth, Inc. ("LifeSouth") at a cash price of $12.24 per share. At the time of the tender offer, MAI Corporation owned approximately 58% of the common stock of LifeSouth, and LifeSouth owned all of the stock of PROActive Insurance Corporation. The price was based upon the liquidation value of LifeSouth and PROActive. PROActive had discontinued its business as a health insurer in 1995. MAI Corporation paid, in the aggregate (including fees and expenses), approximately $2.1 million for the outstanding stock of LifeSouth, Inc., none of which was obtained through any third party financing. Business Expansion The Company has been the predominant carrier of professional liability insurance for Alabama physicians since it began business in 1977. The Company is actively writing medical liability insurance for health care providers in states principally located in the south and midwest. The Company currently has an active presence in the south and midwest, and the capability to respond outside the region when an opportunity for business arises. In 1997, approximately 49% of the written premiums of the Company were derived from business in states other than Alabama. The Company has expanded its business by increasing the number of states in which it directly writes insurance and by acquiring or combining with other professional liability insurers. The Company intends to offer medical malpractice liability insurance on national basis and has, or will apply, for authority to write directly property and casualty insurance in almost all of the states. The Company is currently qualified to reinsure professional medical liability in substantially all states. See "Marketing" and "Regulation" within this caption. Effective January 1, 1994, the Company purchased 100% of the common stock of MA-West Virginia (formerly known as West Virginia Hospital Insurance Company). Effective January 1, 1995, the Company purchased approximately 52% of the outstanding capital stock of PIC-Indiana from the Indiana State Medical Association ("ISMA") and during the remainder of 1995, acquired substantially all of the remaining shares of the capital stock of PIC-Indiana. Effective July 16, 1995, Mutual Assurance acquired the recurring professional liability insurance business for health care providers of Physicians Insurance Company of Ohio, an Ohio stock insurer, and its subsidiaries (collectively referred to hereafter as "PIC-Ohio"). On December 20, 1996, the Company acquired by merger MOMED Holding Co. ("MOMED"). MOMED operates as an insurance holding company, and through its wholly-owned subsidiary, MOMEDICO, is engaged in the business of providing medical professional liability insurance to physicians principally in the State of Missouri. In the aggregate, the Company paid approximately $33.6 million in cash and common stock of MAI in order to effect all of the above transactions, none of which was obtained through any third party financing. INSURANCE PRODUCTS The Company offers professional liability insurance and reinsurance for providers of health care services. Professional liability insurance provides insurance against the legal liability of an insured (and against loss, damage or expense incidental to a claim of such liability) arising out of the death, injury or disablement of a person as the result of negligence or other misconduct in rendering professional service. While professional liability insurance for physicians and their related practice entities is the principal product offered by the Company, the Company believes that providing insurance to hospitals and other health 4 5 care organizations continues to represent a significant area for further growth of its insurance business as well as an opportunity to increase its share of the physician market. In recent years, hospitals and vertically integrated health care providers have had an increasingly greater degree of influence over the professional liability insurance coverages of medical staff and affiliated physicians. As this trend continues, the Company expects to increase the number of the physicians insured by its insurance subsidiaries through such relationships. The Company also expects this consolidation will result in an increase in the amount of self-insured risks retained by health care providers, thereby creating a demand by these providers for excess professional liability insurance coverage and risk management and claims administration services. The Company has undertaken to develop other insurance products necessitated by changes in the health care industry. The Company has developed and markets through its insurance subsidiaries liability insurance products for health care facilities, managed care organizations, physician practice management companies and integrated delivery systems to include not only direct and vicarious professional liability insurance, but general liability insurance, errors and omissions coverages, directors and officers liability insurance, employment practices liability insurance and other related coverages. Provider stop loss insurance is an excess insurance or reinsurance product designed to limit the risk of a health care provider (whether a hospital, physician group or managed care organization) with respect to contracts under which the insured provider has agreed to provide health care services at a fixed rate. The Company presently intends to continue its efforts to develop insurance products designed to meet the needs of customers in the health care market. The consolidation in the health care industry has resulted in intense competition in the professional liability market focusing on the largest accounts. As a result, the Company has developed additional insurance products such as workers' compensation and accident and health insurance to offer to these large accounts to enhance its overall insurance package. As products such as these are developed, the Company may offer these coverages to entities other than health care providers. MARKETING The Company markets its professional liability insurance products directly and through independent agents. In connection with its direct marketing efforts, the Company has provided and continues to provide various services and communications to its insured physicians, dentists and hospitals to promote its professional liability insurance products. These services and communications include provision of risk management consultation, loss prevention seminars and other educational programs for physicians, dentists, nurses and hospital administrators; legislative oversight and active support or opposition of proposed legislation relating to liability issues affecting the health care industry; the preparation and dissemination of newsletters and other printed material with information of interest to the health care industry; and attendance at meetings of the state and local medical societies and related organizations. In 1995, the Company became an accredited provider of continuing medical education that has enabled it to sponsor numerous risk management education seminars which has helped the Company gain exposure among potential insureds. The purpose of these communications and services is to convey that the Company understands the insurance needs of the health care industry, and to promote a commonality of interest between the Company, its insureds, and the medical community generally. The Company has entered into endorsement and marketing agreements with organized medical societies and associations in the states in which it offers professional liability insurance, including the Medical Association of the State of Alabama, the Alabama Dental Association, the West Virginia Hospital Association, the Medical Association of the State of West Virginia, the Indiana State Medical Association, the Indiana Dental Association, and the Missouri State Medical Association. Each of the above referenced endorsement and marketing agreements generally provides the Company access to the meetings of the respective state medical associations in order to make presentations 5 6 and access to their respective publications for advertisements. In addition, each of the respective state medical associations agreed to assist the Company in developing loss prevention programs, in monitoring proposed legislation and administrative regulations in the respective states, and in providing information on health care matters relating primarily to professional liability. The Company generally pays annual compensation to each of the associations for the endorsement and services provided under each respective contract. The Company has traditionally relied on direct marketing of its professional liability insurance products to Alabama physicians and hospitals. As a result, the Company has not been required to pay commissions to insurance agents on the sale of a substantial portion of its insurance products. The Company has increasingly relied on the use of agents and brokers in its efforts to increase revenues through expansion of its business outside of Alabama and through the sale of insurance products other than its historical core business of providing medical malpractice liability insurance to physicians and surgeons. Since 1995, the Company has engaged a related party to procure certain insurance and reinsurance products throughout the United States, including without limitation, medical malpractice reinsurance, excess medical malpractice insurance, managed care liability insurance, accident and health insurance and reinsurance, and workers' compensation insurance and reinsurance. UNDERWRITING AND CLAIMS The Company establishes and implements underwriting procedures for all forms of insurance coverage. The Company is responsible for claims investigation, case management, defense planning, and coordination and control of attorneys in the defense of claims of its insureds. The Company has several underwriting and claims committees whose members principally consist of local physicians, dentists and representatives of hospitals and health care entities who advise and participate in the administration of underwriting and claims management with respect to the professional liability insurance written in many states. The current policy of the Company is and has been to refuse settlement of and to defend aggressively all claims that appear to have no merit. The Company believes that it has developed relationships with attorneys in Alabama who have significant experience in the defense of medical professional liability claims and who are able to defend aggressively claims against its insureds. The Company intends to develop similar relationships with defense counsel in other states in which it does business through its subsidiaries. Business expansion through acquisitions of, or combinations with, insurers who have a significant presence in a state has enhanced the ability of the Company to engage local defense counsel who will respond to its defense strategy. The Company's claims management philosophy contributes to increased allocated loss adjustment expenses compared to those of other property and casualty lines, but the Company believes it results in greater policyholder loyalty and contributes to the Company's superior combined ratio, which is currently below the industry average. LOSS RESERVES Loss reserves are the liabilities established by the Company to provide funds for payment of policyholders' claims in the future. A medical professional liability insurance company must accumulate substantial loss reserves because it has promised to pay substantial amounts in the future for claims that have occurred in prior contract periods. These loss reserves are established as balance sheet liabilities representing estimates of future amounts needed to pay claims and related expenses with respect to insured events which have occurred, including events that have not yet been reported to the carrier. Loss and loss adjustment expense reserves associated with medical professional liability coverage tend to be relatively higher than those associated with other types of property and casualty insurance for two primary reasons. First, the yearly increases in the overall costs of medical professional liability insurance coverage have historically been among the highest of the property and casualty insurance lines. These 6 7 increased costs can be attributed principally to increases in both the frequency and severity of medical professional liability claims. Second, the delays between the collection of premiums and the payment of losses is longer for medical professional liability insurance than other property and casualty lines. This delay, which is commonly referred to as the "long tail," is the result of the length of time that elapses between the incident giving rise to an insured claim and its reporting to the insurer, and the length of time that elapses between the reporting of the claim to the insurer and the ultimate resolution of the claim. Frequently, injuries are not discovered until years after an incident, or the claimant may simply elect initially not to pursue the recovery of damages. Once a claim is initiated, the complexity of medical professional liability claims also contributes to the long tail. There are two types of insurance policies, occurrence and claims-made. Under occurrence coverage, insurance is provided against claims of liability arising from incidents which "occur" during the policy period, regardless of when claims arising out of such incidents may be reported. Claims-made coverage provides protection against only those claims which arise out of incidents occurring and of which notice to the insurer is given while coverage is effective. Claims-made policies enable the insurer to estimate its loss reserves with more certainty as reserves for losses are accrued in the year that a claim is reported in the case of claims-made policies instead of in the year of occurrence in the case of occurrence policies. As a result, there is less dependence on the actuarial determination of claims incurred but not reported in establishing the amount of loss reserves with respect to claims-made coverage. At December 31, 1997, the Company's reserves were comprised of approximately 22% occurrence reserves and approximately 78% claims-made reserves. The determination of loss reserves is essentially a projection of ultimate losses through an actuarial analysis of the claims history of the Company and other professional liability insurers, subject to adjustments deemed appropriate to management due to changing circumstances. Included in their claims history are losses and loss adjustment expenses paid by the Company in prior periods and case reserves for anticipated losses and loss adjustment expenses developed by their respective claims departments as claims are reported and investigated. Actuaries rely primarily on such historical loss experience in determining reserve levels on the assumption that historical loss experience provides a good indication of future loss experience despite the uncertainties in loss cost trends and the delays in reporting and settling claims. As additional information becomes available, the estimates reflected in earlier loss reserves may be revised. Any increase in the amount of reserves, including reserves for insured events of prior years, could have an adverse effect on consolidated results of the Company for the period in which the adjustments are made. The uncertainties inherent in estimating ultimate losses on the basis of past experience have grown significantly in recent years principally as a result of judicial expansion of liability standards and expansive interpretations of insurance contracts. These uncertainties may be further affected by, among other factors, changes in the rate of inflation and changes in the propensities of individuals to file claims, and changes in the laws of the states in which the Company does business. Despite these uncertainties, management believes that the methods used by the Company to establish reserves are reasonable and appropriate. These methods include a detailed review of reserves for losses and loss adjustment expenses of each insurance subsidiary being performed by the Company's independent actuaries for each fiscal year. The independent actuaries prepare a report that includes a recommendation as to the respective levels of reserves. Management considers this recommendation as well as other factors, such as known, anticipated or estimated changes in frequency and severity of claims and loss retention levels and premium rates, in establishing the amount of its reserves for losses and loss adjustment expenses. In connection with the audit of the Company's consolidated financial statements at the end of each fiscal year, the Company's independent auditors (whose unqualified report is included in Part II of this report) also perform an analysis on the consolidated loss reserves to determine if there is sufficient historical claims experience upon which to rely in projecting loss reserves and to determine if the amount of loss reserves is adequate based on such analysis. In addition, the statutory filings of Mutual Assurance, MA-West Virginia, PIC-Indiana and MOMEDICO with the insurance regulators must now be accompanied by an independent 7 8 actuaries' certification as to their respective reserves in accordance with the requirements of the National Association of Insurance Commissioners. In establishing the amount of reserves for losses and loss adjustment expenses for interim periods in the following year, management estimates a loss ratio giving consideration to the recommendation in the report of the independent actuaries and other factors described above. The estimated loss ratio and existing reserves are subject to further adjustment during the year, as deemed appropriate by management, to give consideration to unusual material events. Management consults with its independent actuaries during the year for advice concerning the adequacy of reserves and loss ratios. CLAIMS RECONCILIATION The following table sets forth an analysis of consolidated property and casualty loss reserve liabilities and loss adjustment expense ("LAE") for the Company and provides a reconciliation of beginning and ending consolidated liability balances for the years ended December 31, 1997, 1996, and 1995. As of December 31, 1997, MAI's insurance subsidiaries had consolidated reserves for losses and LAE on a generally accepted accounting principles basis that exceeded those on a statutory basis by approximately $24,082,000, which is principally due to the portion of GAAP reserves that are reflected for statutory accounting purposes as unearned premiums. These unearned premiums are applicable to extended reporting endorsements issued without a premium charge upon death, disability, or retirement. 8 9
YEAR ENDED DECEMBER 31, ---------------------------------------------------------------------- 1997 1996 1995 ---------------------------------------------------------------------- (DOLLARS IN 000'S) Reserve liability, net of reinsurance recoverables, at beginning of year $ 440,040 $ 352,521 $ 295,541 Provisions for losses and LAE occurring in the current year, net of reinsurance Insurance subsidiaries 124,352 100,186 78,856 Acquired subsidiary - - 2,231 Increase (decrease) in estimated losses and LAE for claims occurring in prior years, net of reinsurance (46,679) (27,427) (27,389) --------------------- --------------------- --------------------- Total Incurred during current year, net of reinsurance 77,673 72,759 53,698 Losses and LAE payments for claims, net of reinsurance, occurring during: The current year Insurance subsidiaries (5,201) (3,468) (2,191) Acquired subsidiary - - (5,398) Prior years (48,390) (27,415) (24,102) --------------------- --------------------- --------------------- Total paid, net of reinsurance (53,591) (30,883) (31,691) --------------------- --------------------- --------------------- Reserve liability, net of reinsurance recoverables, of acquired subsidiaries - 45,643 34,973 --------------------- --------------------- --------------------- Reserve liability, net of reinsurance recoverables, at end of year $ 464,122 $ 440,040 $ 352,521 ===================== ===================== ===================== Gross liability at end of year $ 614,720 $ 548,732 $ 432,937 Reinsurance recoverable 150,598 108,692 80,416 --------------------- --------------------- --------------------- Net liability at end of year $ 464,122 $ 440,040 $ 352,521 ===================== ===================== ===================== Gross re-estimated liability $ 499,509 $ 351,771 Re-estimated recoverable 106,146 71,253 --------------------- --------------------- Net re-estimated liability $ 393,363 $ 280,518 ===================== =====================
Note: The above amounts exclude life reserves. 9 10 LOSS RESERVE DEVELOPMENT TABLE The following table includes information regarding the development of property and casualty reserves for liability for unpaid losses and LAE of the Company for the years ended December 31, 1987 through 1997: (i) the line entitled "Balance Sheet Reserves, Net of Reinsurance Recoverables" reflects the amount recorded as the reserve for liability for unpaid losses and LAE in the consolidated balance sheet at the end of each year (the "Balance Sheet Reserves"); (ii) the section entitled "Cumulative Paid, Net of Reinsurance Recoverables, As Of" reflects the cumulative amounts paid as of the end of each succeeding year with respect to the previously recorded Balance Sheet Reserves; (iii) the section entitled "Reestimated Net Liability As Of" reflects the reestimated amount of the liability previously recorded as "Balance Sheet Reserves" that includes the cumulative amounts paid and an estimate of additional liability based upon claims experience as of the end of each succeeding year (the "Net Reestimated Liability"); (iv) the line entitled "Redundancy (Deficiency)" reflects the difference between the previously recorded Balance Sheet Reserve for each applicable year and the Net Reestimated Liability relating thereto as of the end of the most recent fiscal year; and (v) the line entitled "% Redundancy (Deficiency)" reflects the ratio that the Redundancy (Deficiency) bears to the Balance Sheet Reserve in each year during such period. The table also includes a section that is intended to compare the Net Reestimated Liability for losses and LAE with the Balance Sheet Reserves as increased to include the reserve for liability for unpaid losses and LAE assumed when the Company commuted substantially all of its quota share reinsurance agreements for losses applicable to all periods prior to August 1, 1989 (the "Commutation"). Pursuant to the Commutation, the Company assumed in 1989 and 1990 liability for unpaid losses and LAE in the amount of approximately $21,000,000 and $2,000,000, respectively, previously ceded to reinsurers. Reserves for such reassumed liability had not been included in the Company's balance sheet prior to 1989 because it had been ceded to reinsurers. The reserves for such previously ceded liability were first included in the Company's balance sheet reserves at the end of the years in which they were reassumed, namely 1989 and 1990. On the other hand, the "Reestimated Liability" for the last succeeding year in the table has included the cumulative unpaid losses and LAE expenses in the reestimated liability attributable to years prior to 1989. Accordingly, Reestimated Liability in the above-referenced years compares cumulative liability for previously ceded unpaid losses and loss adjustment expenses with Balance Sheet Reserves that do not include reserves for such liability. The restated portion of the table includes (i) a line entitled "Reserves Assumed in 1989 and 1990 Commutation - Cumulative" to reflect the reserves for liability for unpaid losses and LAE assumed by Mutual Assurance in the Commutation; (ii) a line entitled "Balance Sheet Reserves, Net of Reinsurance Recoverables, After Giving Effect to 1989 and 1990 Commutation" to reflect the sum of the Balance Sheet Reserves and the cumulative reserve for liability for unpaid losses and LAE assumed in the Commutation (the "Adjusted Balance Sheet Reserves"); (iii) a line entitled "Redundancy (Deficiency) in Balance Sheet Reserves, Net of Reinsurance Recoverables, After Giving Effect to 1989 and 1990 Commutation" to reflect the difference between the Adjusted Balance Sheet Reserves and the Net Reestimated Liability for each year prior to 1989; and (iv) a line entitled "% Redundancy (Deficiency) After Giving Effect to 1989 and 1990 Commutation" to reflect the ratio that such difference bears to the Adjusted Balance Sheet Reserves. Information presented in the following table is cumulative and, accordingly, each amount includes the effects of all changes in amounts for prior years. The information relating to subsidiaries other than Mutual Assurance is limited to the property and casualty reserves from their respective dates of acquisition. The GAAP basis claims reserves have not been discounted. The Company believes that the table reflects its conservative approach to the reservation of losses and LAE, particularly when compared with the amount of paid losses and LAE as set forth in the table. 10 11 RESERVE DEVELOPMENT ANALYSIS BY RESERVE DATE
YEAR ENDED DECEMBER 31, 1987 1988 1989 1990 1991 1992 - -------------------------------------------------------------------------------------------------------------------------- (Dollars in 000's) BALANCE SHEET RESERVES, NET OF REINSURANCE RECOVERABLES 90,000 119,396 169,732 202,937 228,119 252,739 CUMULATIVE PAID, NET OF REINSURANCE RECOVERABLES, AS OF: End Of Year 0 0 0 0 0 0 One Year Later 8,937 13,697 15,986 17,340 19,560 19,752 Two Years Later 21,046 27,516 30,361 34,374 35,461 36,185 Three Years Later 32,799 39,210 45,266 44,498 46,417 52,550 Four Years Later 43,455 50,250 52,702 52,076 58,124 58,526 Five Years Later 52,763 54,118 59,235 61,196 62,573 63,325 Six Years Later 56,047 59,168 65,976 63,682 65,090 Seven Years Later 60,275 64,206 66,033 65,877 Eight Years Later 65,210 63,953 67,625 Nine Years Later 64,921 65,436 Ten Years Later 66,388 RE ESTIMATED NET LIABILITY AS OF: End Of Year 90,000 119,396 169,732 202,937 228,119 252,739 One Year Later 96,004 133,910 170,626 195,747 217,558 241,655 Two Years Later 111,166 137,080 161,414 185,535 205,277 221,236 Three Years Later 115,759 128,526 156,413 173,996 185,349 190,744 Four Years Later 108,444 126,641 144,929 157,884 159,301 167,062 Five Years Later 108,851 115,556 133,054 135,828 139,570 136,996 Six Years Later 102,345 108,017 113,737 119,336 114,407 Seven Years Later 95,914 93,649 101,621 93,875 Eight Years Later 84,862 85,378 83,554 Nine Years Later 82,074 73,655 Ten Years Later 73,558 REDUNDANCY(DEFICIENCY) 16,442 45,741 86,179 109,062 113,712 115,743 % REDUNDANCY(DEFICIENCY) 18.27% 38.31% 50.77% 53.74% 49.85% 45.80% RESERVES ASSUMED IN 1989 & 1990 COMMUTATION - CUMULATIVE 17,218 19,075 1,969 BALANCE SHEET RESERVES, NET OF REINSURANCE RECOVERABLES, AFTER GIVING EFFECT TO 1989 & 1990 COMMUTATION 107,218 138,471 171,701 202,937 228,119 252,739 REDUNDANCY(DEFICIENCY) IN BALANCE SHEET RESERVES, NET OF REINSURANCE RECOVERABLES, AFTER GIVING EFFECT TO 1989 & 1990 COMMUTATION 33,660 64,816 88,148 109,062 113,712 115,743 % REDUNDANCY(DEFICIENCY) AFTER GIVING EFFECT TO 1989 & 1990 COMMUTATION 31.39% 46.81% 51.34% 53.74% 49.85% 45.80%
YEAR ENDED DECEMBER 31, 1993 1994 1995 1996 1997 - ----------------------------------------------------------------------------------------------------------------- BALANCE SHEET RESERVES, NET OF REINSURANCE RECOVERABLES 272,392 295,541 352,521 440,040 464,122 CUMULATIVE PAID, NET OF REINSURANCE RECOVERABLES, AS OF: End Of Year 0 0 0 0 0 One Year Later 21,296 24,102 27,532 48,390 Two Years Later 40,988 42,115 58,769 Three Years Later 53,186 58,793 Four Years Later 61,153 Five Years Later Six Years Later Seven Years Later Eight Years Later Nine Years Later Ten Years Later RE ESTIMATED NET LIABILITY AS OF: End Of Year 272,392 295,541 352,521 440,040 464,122 One Year Later 251,445 268,154 325,212 393,363 Two Years Later 220,385 239,243 280,518 Three Years Later 194,213 200,311 Four Years Later 159,096 Five Years Later Six Years Later Seven Years Later Eight Years Later Nine Years Later Ten Years Later REDUNDANCY(DEFICIENCY) 113,296 95,230 72,002 46,679 % REDUNDANCY(DEFICIENCY) 41.59% 32.22% 20.42% 10.61% RESERVES ASSUMED IN 1989 & 1990 COMMUTATION - CUMULATIVE BALANCE SHEET RESERVES, NET OF REINSURANCE RECOVERABLES, AFTER GIVING EFFECT TO 1989 & 1990 COMMUTATION 272,392 295,541 352,521 440,040 REDUNDANCY(DEFICIENCY) IN BALANCE SHEET RESERVES, NET OF REINSURANCE RECOVERABLES, AFTER GIVING EFFECT TO 1989 & 1990 COMMUTATION 113,296 95,230 72,002 46,679 % REDUNDANCY(DEFICIENCY) AFTER GIVING EFFECT TO 1989 & 1990 COMMUTATION 41.59% 32.22% 20.43% 10.61%
Note: There may be a difference of 1 (,000) in the redundancies due to rounding. 11 12 REINSURANCE In managing its underwriting risks and liquidity position, the Company transfers portions of its insurance risks to reinsurers. This cession of risks involves the payment of premiums to those reinsurers for their assumption of these risks. Reinsurance protects the Company against losses of a catastrophic nature and stabilizes underwriting results in those years in which such losses occur. The cession of reinsurance does not discharge the Company from liability to the policyholders, but it does permit recourse by it against the reinsurer for losses paid within the scope of the reinsurance contract. Risks are reinsured under treaties pursuant to which the reinsurer agrees to assume all or a portion of all risks insured by the Company above its individual risk retention and up to the maximum individual limit offered (currently $26,000,000). Generally, the Company's risk retention level is dependent upon numerous factors including volume of business in a particular region, service infrastructure within a region, level of experience within a region, and the Company's analysis of the potential underwriting results within each region. As a consequence, the Company's retention has varied between 0,000 and $2,000,000 since 1989. Its retention prior to that time is $4,000,000 as a result of profitable commutation of prior reinsurance treaties. Currently, the Company retains $2,000,000 in Alabama, $1,000,000 in Missouri and West Virginia, and $250,000 elsewhere. The Company reinsures the risks above the maximum limits of its reinsurance treaties on a facultative basis - the reinsurer agrees to insure a particular risk up to a designated limit. Reinsurance is placed under reinsurance treaties and agreements with a number of individual companies to avoid concentrations of credit risk. For policy periods beginning on or after August 1, 1989, the Company has not placed more than 25% of the total amount of risks ceded to reinsurers with any one reinsurer. The Company relies on reinsurance brokers to assist in the analysis of the credit quality of its reinsurers. Although reinsurer insolvencies have resulted in financial difficulties for some insurance companies, the Company's reinsurance recoverable at December 31, 1997 did not include any amounts due from any financially troubled reinsurer. INVESTMENTS Investment management services are provided to the Company by independent third party investment managers. Such services include reviewing and recommending investment policies and implementing and executing investment strategies and are currently provided for a fee based upon the market value of the investment portfolio managed by the Company. The general investment policies of the Company are intended to accommodate its need for liquidity and current income. The primary objective is to achieve a high level of after-tax income, while minimizing risk. Accordingly, investment assets of the Company substantially consist of fixed maturity securities, all of which are investment grade as defined by national rating agencies. See Note 2 of the Notes to the Consolidated Financial Statements for a description of the investments of the Company at December 31, 1997. COMPETITION Traditionally, the physicians and surgeons professional liability market, the hospital professional liability market and the dental professional liability market in the State of Alabama have been highly competitive. The Company acquired a substantial share of the Alabama physicians and surgeons professional liability insurance market in 1977 when the primary Alabama medical professional liability carrier withdrew from Alabama. Competitors, some of which have greater financial resources than the Company, have entered or reentered the Alabama market and many insurance companies currently offer professional liability insurance in Alabama. Other companies engaged in similar lines of business in other states may enter 12 13 the Alabama market in the future. However, the Company has maintained a dominant market share in Alabama through aggressive defense policies, competitive pricing and a substantial direct marketing effort. The Company plans to continue to expand the business of the Company into other states through through increased use of independent agents to market its products and writing new business with multi-state health care providers having a prior relationship with the Company. The Company also intends to expand its business through business combinations with medical professional liability insurers having name recognition and significant support in the medical community in the states in which they do business. The Company believes that it will be competitive with companies who have been offering medical professional liability insurance in those states in which the Company writes insurance. In its marketing efforts in other states, the Company must compete with insurance companies that have pre-existing relationships with prospective customers and name recognition in those states, and that in many cases have greater resources than the Company. Marketing efforts in states other than Alabama will take substantial time and resources in order for prospective customers to become familiar with the Company and its insurance products. The Company believes that the principal competitive factors in the professional liability insurance business are service, name recognition, and price, and that it competes effectively in all these areas. The Company enjoys significant name recognition in the State of Alabama by virtue of having been organized by, and operated for the principal benefit of, Alabama physicians. The Company has attempted to use its heritage as a policyholder-founded company dedicated to the medical professional liability insurance industry in general as a means to compete in other states both directly and indirectly through its affiliates. The services offered by the Company to its insureds as well as the medical community in general are intended to promote name recognition and to maintain and improve loyalty among the insureds. REGULATION The insurance industry is highly regulated, primarily by departments or agencies of the state governments. The Insurance Codes of the various states in which the Company does business delegate regulatory, supervisory and administrative powers to the State Commissioners or Departments of Insurance. Such regulation, supervision and administration involve, among other things, the licensing of insurers, financing of insurers, periodic examinations of the affairs and financial condition of insurers, and review of annual and other mandatory reports on the financial condition of insurers. Insurance companies are required to be licensed by the states in which they do business. The Company is currently licensed to do business as a property and casualty insurer in 41 states and the District of Columbia and has or will apply for authority to do business in almost all states. In addition to being licensed as a property and casualty insurer, the Company must submit for prior approval all property and casualty policies, endorsements, underwriting manuals, and rates to the Commissioners of Insurance in order to do business in states in which it is licensed. Currently, the Company is able to write professional liability insurance in 27 states. Approval of policy forms and rates may take a substantial period of time after the license has been issued in a particular state. Further, the possibility exists that the Company may be unable to do business in a state in which it is licensed if desired policies, endorsements, forms, manuals, or rates are not approved by the Commissioner of Insurance in that state. The Company is an insurance holding company system regulated under the Alabama Insurance Holding Company System Regulatory Act, the West Virginia Holding Company System Act, the Indiana Holding Company System Regulatory Act and the Missouri Holding Company System Regulatory Act (collectively the "Holding Company Acts"). The Holding Company Acts generally prohibit anyone from acquiring control of an insurance company without the approval of the Commissioner in the state of domicile of such insurance company. Under the Holding Company Acts, control is presumed to exist if any person or persons acting in concert, directly or indirectly, owns, controls, holds with the power to vote or holds proxies 13 14 representing a certain percentage of the voting securities of another person (5% in Alabama, 10% in West Virginia, Indiana and Missouri). MAI's insurance subsidiaries must comply with mandatory capital and solvency standards in the states in which they are authorized to do business. In addition, the state insurance codes generally limit the source of dividends payable by a stock insurer to that part of its available surplus funds which is derived from realized net profits on its business. The Holding Company Acts require that a domestic insurer give prior notice to the state Commissioner before the payment of any extraordinary dividend. The Holding Company Acts would permit MAI's insurance subsidiaries to dividend to MAI as much as approximately $30,000,000 as a dividend in 1998 without such notice to the Commissioners. In turn, Delaware corporate law limits MAI from paying dividends in excess of its surplus. EMPLOYEES At December 31, 1997, MAI and its subsidiaries employed 216 persons. None of the employees of MAI or its subsidiaries is represented by a labor union. MAI considers its employee relations to be good. ITEM 2. PROPERTIES Mutual Assurance is the fee owner of one office building located in the metropolitan area of Birmingham, Alabama. Mutual Assurance purchased its current home office building in March 1989 and during 1993 sold the office building which it formerly occupied. MAI and its subsidiaries are occupying approximately 55,226 square feet of office space in its current home office building. The remaining 101,427square feet of office space in this building are leased to unaffiliated persons or are available to be leased. The office building owned by Mutual Assurance is currently unencumbered. MOMED is the fee owner of one office building located in the metropolitan area of St. Louis, Missouri. MOMED and its subsidiaries are occupying 7,709 square feet as their home offices and the remaining 6,501 square feet of office space in this building are leased to unaffiliated persons or is available to be leased. MOMED also owns an apartment building that is held as an investment in real estate. The home office building currently secures a bank loan in the approximate amount of $437,000 and the investment property secures a bank loan in the approximate amount of $157,000. MAI's other insurance subsidiaries maintain additional office space under leases with unaffiliated persons which are not considered material. ITEM 3. LEGAL PROCEEDINGS MAI's insurance subsidiaries are involved in various legal actions, a substantial number of which arise primarily from claims made under insurance policies. While the outcome of all legal actions is not presently determinable, management and its legal counsel are of the opinion that these actions will not have a material adverse effect on the financial position or results of operations of MAI and its subsidiaries. Included in these actions is an action that was filed in 1992 in the Circuit Court of Jefferson County, Alabama, by Owen B. Evans, M.D. claiming in excess of $50 million for compensatory and punitive damages as a result of bad faith and outrageous conduct in Mutual Assurance's defense of Dr. Evans in a civil suit filed against him in Mobile County, Alabama, in which the plaintiff was awarded damages in the amount of $10,000,000. The basis of Dr. Evans' claim is that Mutual Assurance failed to settle the underlying case against him within his policy limits, and he has claimed compensatory damages and punitive damages. The underlying case has been resolved, and the judgment against Dr. Evans has been set aside. The action filed by Dr. Evans against Mutual Assurance includes claims for bad faith failure to settle and the tort of outrage. Mutual Assurance has been granted a non-final judgment on the pleadings with respect to the claim for bad 14 15 faith failure to settle. The claim for the tort of outrage remains pending. Although Management is unable to predict the outcome of this matter if it is litigated to a conclusion, Management is currently of the opinion that the case can be settled for an amount that would not be material to the business of Mutual Assurance. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. EXECUTIVE OFFICERS OF MAI The executive officers of MAI serve at the pleasure of the Board of Directors. Set forth below are the current executive officers of MAI and a brief description of their principal occupation and employment during the last five years. A. DERRILL CROWE, M.D. - Age 61 - Dr. Crowe has been Chairman of the Board and President of MAI since its formation on February 8, 1995. Dr. Crowe has been President, Chief Executive Officer and a director of Mutual Assurance since its organization in 1976. Dr. Crowe serves as a director of each of MAI's insurance subsidiaries and participates on their respective claims and underwriting committees. Dr. Crowe currently serves on the Board of Directors of Citation Corp. PAUL R. BUTRUS - Age 57 - Mr. Butrus has served as a director and Executive Vice President of MAI since its formation on February 8, 1995. Mr. Butrus has been employed by Mutual Assurance and its subsidiaries since 1977, and has served as a director of Mutual Assurance since February of 1992. Mr. Butrus serves as a director of each of MAI's insurance subsidiaries and participates on their respective claims and underwriting committees. Mr. Butrus also serves on the Board of Directors of Prime Medical Services, Inc. PAUL D. EVEREST, M.D. - Age 77 - Dr. Everest has served as a director and Vice President of MAI since its formation on February 8, 1995. He has served as a director of Mutual Assurance since 1982. Dr. Everest practices medicine in Montgomery, Alabama, specializing in orthopedic surgery. JAMES J. MORELLO - Age 49 - Mr. Morello has been the Treasurer of MAI since its formation on February 8, 1995. Mr. Morello has been employed as Treasurer and Chief Financial Officer of Mutual Assurance since 1984. Mr. Morello is a certified public accountant. ROBERT D. FRANCIS - Age 35 - Mr. Francis has been the Secretary and Chief Underwriting Officer of MAI since its formation on February 8, 1995. Mr. Francis has served as Secretary and Senior Vice President of Mutual Assurance and was initially employed by Mutual Assurance in 1984. Mr. Francis is currently responsible for Underwriting and Production of Mutual Assurance and for supervising and coordinating underwriting and sales activities of MAI's other insurance subsidiaries. MARTIN ENNIS - Age 47 - Mr. Ennis has served as Chief Claims Officer of MAI since its formation on February 8, 1995. He is also Senior Vice President of Mutual Assurance, and has been employed by Mutual Assurance for over fifteen years, principally in claims administration and hospital services. Mr. Ennis is currently in charge of the claims department of Mutual Assurance and is responsible for supervising and coordinating claims administration and hospital services performed by other insurance subsidiaries of MAI. 15 16 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. At December 31, 1997, MAI had 2,481 stockholders of record and 21,499,361 shares of common stock outstanding. MAI's common stock currently trades on The New York Stock Exchange under the symbol "MAI;" prior to September 23, 1996, the common stock of MAI traded on the NASDAQ National Market Tier of the NASDAQ Stock Market under the symbol "MAIC." On August 20, 1997, the Board of Directors of MAI declared a two-for-one stock split. The quarterly price range for MAI common stock, which is shown below, has been adjusted to reflect the stock split as if it had occurred on January 1, 1996:
Quarter 1997 1996 ------- ---- ---- High Low High Low ---- --- ---- --- First $17.94 $15.38 $16.88 $15.75 Second 20.63 16.19 19.00 16.13 Third 30.00 19.82 18.75 15.00 Fourth 30.00 26.13 17.13 16.19
The quotations above reflect trading on The New York Stock Exchange effective September 23, 1996 and, prior to that date, on the NASDAQ Stock Market. Activity prior to September 23, 1996 reflects interdealer prices without retail mark up, mark down or commission and may not necessarily represent actual transactions. Information regarding restrictions on the ability of MAI and its insurance subsidiaries to pay dividends is incorporated by reference from the last paragraph under the caption "REGULATION" in Part I on page 14 of this Form 10-K. On December 4, 1997, the Board of Directors of Mutual Assurance declared stock dividend of five percent. The Board of Directors of MAI declared stock dividends of six percent in 1996 and 1995 and stock dividends of five percent in 1994, 1993, and 1992. Stock dividends should not be considered regular dividends as each dividend has been specially considered by the Board of Directors. Neither Mutual Assurance nor MAI has paid any cash dividends on its common stock. MAI currently intends to continue its policy of not paying a regular dividend. 16 17 ITEM 6. SELECTED FINANCIAL DATA - ------------------------------------------------------------------------------
1997 1996 1995 1994 1993 - --------------------------------------------------------------------------------------------------------------- (in thousands, except share and per share amounts) OPERATING DATA: (years ended December 31) Direct and assumed premiums written $ 188,195 $ 137,840 $ 108,442 $ 74,275 $ 65,856 Earned premiums 158,061 134,162 94,517 73,282 65,553 Reinsurance expense (39,094) (29,644) (18,564) (11,856) (8,324) Net premiums earned 118,967 104,518 75,953 61,426 57,228 Net investment income 38,474 32,114 29,582 23,072 22,468 Other income 3,301 2,728 4,738 1,109 7,976 Total revenues 160,742 139,360 110,273 85,607 87,672 Net losses and loss adjustment expenses 77,674 72,759 53,642 43,887 44,774 Net income (A) 37,458 31,149 29,663 24,767 30,529 Net income per share of common stock (Basic and Diluted) (B) $ 1.74 $ 1.49 $ 1.42 $ 1.16 $ 1.43 Weighted average number of shares outstanding (B) 21,510,921 20,872,341 20,846,836 21,334,386 21,334,385 BALANCE SHEET DATA:(D) (as of December 31) Total investments (C) $ 720,202 $ 666,759 $ 543,998 $ 437,865 $ 423,098 Total assets (C) 1,063,173 905,308 720,478 565,744 507,529 Reserve for losses and loss adjustment expenses 614,729 548,742 432,945 356,000 312,333 Total liabilities 775,985 660,743 512,465 404,194 352,619 Total capital (C) 287,188 244,565 206,030 159,648 153,138 Total capital per share of common stock outstanding (B) $ 13.36 $ 11.33 $ 9.88 $ 7.66 $ 7.26 Common stock outstanding at end of year (B) 21,499,360 21,584,877 20,847,733 20,846,789 21,089,797
(A) Net income for 1993 includes $3.6 million which represents the cumulative effect of a change in accounting for income taxes resulting from the adoption of Financial Accounting Standards Board (FASB) Statement 109. (B) The Board of Directors declared special stock dividends in December 1997 (5%), 1996 (6%), 1995 (6%), 1994 (5%) and 1993 (5%); and in August 1997 the Board declared a two-for-one stock split. All Net income per share and Total capital per share data on this page has been restated as if the dividends and the stock split had been declared on January 1, 1993. Additionally, treasury stock is excluded from the date of acquisition for purposes of determining the weighted average number of shares outstanding used in the computation of net income per share of common stock. (C) Total investments and capital at December 31, 1997, 1996, 1995, 1994 and 1993 includes net unrealized gains and/or losses on available-for-sale securities resulting from the Company's adoption of FASB Statement 115. In accordance with FASB Statement 115, prior-year financial statements have not been restated to reflect this change in accounting principle. (D) As a result of the December 20, 1996 acquisition of MOMED, amounts attributable to MOMED are included in the above balance sheet data but are considered immaterial for inclusion in the Company's 1996 operations. Reference Note 8 of the Notes to Consolidated Financial Statements of MAIC Holdings and subsidiaries. 17 18 ITEM. 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS For purposes of this management discussion and analysis, the term "Company" refers to Medical Assurance, Inc. (formerly MAIC Holdings, Inc.) and its consolidated subsidiaries. The consolidated subsidiaries consist principally of operating insurance companies. Medical Assurance, Inc. is a Delaware corporation formed by Mutual Assurance, Inc. (Mutual Assurance) to serve as a holding corporation for Mutual Assurance and other subsidiaries. Shareholders approved a proposal to change the holding company's name from MAIC Holdings, Inc. to Medical Assurance, Inc. effective June 1, 1997. LIQUIDITY AND CAPITAL RESOURCES The payment of losses, loss adjustment expenses, and operating expenses in the ordinary course of business is currently the Company's principal need for liquid funds. Cash used to pay these items has been provided by operating activities. Cash provided from these activities was sufficient during 1997 to meet the Company's operating needs, and the Company believes those sources will be sufficient to meet its cash needs for operating purposes for at least the next twelve months. Prolonged and increasing levels of inflation could cause increases in the dollar amount of losses and loss adjustment expenses and may therefore adversely affect future reserve develop ment. To minimize such risk, the Company (i) maintains what its management considers to be strong and adequate reinsurance, (ii) conducts regular actuarial reviews to ensure, among other things, that current reserves do not become deficient, and (iii) maintains adequate asset liquidity. The Company did not borrow any funds during the years ended December 31, 1997 and 1996, and currently has no requirements indicating a need to borrow significant funds in the next twelve months. However, the need for additional capital may arise in order to achieve the Company's ultimate goals of expansion, as discussed below. The Company continues to have available through a lending institution a line of credit in the amount of $40 million that could be used for these additional capital requirements. The Company is not charged a fee nor is it required to maintain compensating balances in connection with this line of credit. The Company's Board of Directors has authorized the purchase of its common stock in the open market; the Company purchased 102,600 (giving effect to the 2 for 1 stock split in 1997) shares of its stock in 1997. At December 31, 1997, approximately $6.6 million remains available for purposes of purchasing its own common stock. BUSINESS EXPANSION The Company, principally through Mutual Assurance, has been developing a marketing strategy to address the insurance needs of hospitals and vertically integrated health care providers. The Company expects organizations such as these to represent increasing market opportunities for professional liability and related insurance products because of the trend toward the consolidation of health care providers. In certain instances, Mutual Assurance's surplus is a competitive factor in this "large account" market because its principal competitors are larger than those with whom Mutual Assurance has historically had to compete. 18 19 The Company has developed additional insurance products such as workers' compensation and accident and health insurance to offer to these large accounts to enhance its overall insurance package. As products such as these are developed, the Company may offer these coverages to entities other than health care providers. In addition to its expansion into this growing market for "large accounts", the Company also intends to expand through the acquisition of, or combination with, medical professional liability insurers that have a significant presence in states other than Alabama. During 1997, 1996 and 1995, the Company completed the following business combinations:
Accounting Date Company Location Treatment - -------------------------------------------------------------------------------------------------------------- January 1995 Physicians Insurance Company of Indiana, Inc. Indiana Purchase December 1996 MOMED Holding Company Missouri Purchase
During July 1995, the Company acquired the recurring medical professional insurance business of Physicians Insurance Company of Ohio and its subsidiary. The business combination of MOMED Holding Company (MOMED) was effective December 20, 1996. The consolidated balance sheets of the Company include the consolidated balance sheets of MOMED and its subsidiaries; however, MOMED operations for the period December 20, 1996 through December 31, 1996 were considered immaterial for inclusion in the Company's consolidated statement of income. Selected consolidated financial data for MOMED and its subsidiaries, including its primary subsidiary Missouri Medical Insurance Company, for the years ending December 31, 1996 and 1995 is as follows (dollars in thousands):
Year ended December 31 1996 1995 ------------ ----------- Total investments $ 73,616 $ 72,504 Total policy liabilities 68,730 61,679 Premiums written 11,098 12,599 Net premiums earned 11,208 11,666 Net investment income 4,336 4,236 Net losses and loss adjustment expenses 6,720 10,734 Net income 4,333 4,077
The above summary operations information does not necessarily reflect the results of operations as they actually would have been if the acquisition had occurred at the beginning of the periods presented or of results which may occur in the future. Total consideration paid for the 1996 and 1995 business expansion transactions was approximately $32,162,000, including 837,774 (after giving effect to subsequent stock dividends and the stock split) shares of the Company's stock issued as part of the 1996 purchase of MOMED. Intangible assets recorded in connection with the above transactions totaled $7,653,000 and are being amortized over periods ranging from 10 to 20 years. 19 20 RESULTS OF OPERATIONS - YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996 Premiums The following table presents information related to consolidated written and earned premiums and reinsurance expense (dollars in thousands):
Increase 1997 1996 (Decrease) -------------------- ---------- Direct and assumed premiums written $188,195 $137,840 $50,355 ======== ======== ======= Premiums earned $158,061 $134,162 $23,899 Premiums ceded (39,094) (29,644) (9,450) -------- -------- ------- Net premiums earned $118,967 $104,518 $14,449 ======== ======== =======
Of the $50,355,000 increase in written premiums, $23,300,000 is attributable to increased medical malpractice premiums, of which $11,000,000 relates to the inclusion of MOMED in 1997. The remaining increase is attributable to other related lines of business (see Business Expansion), which principally includes an increase of $18,945,000 in accident and health premiums, and an $8,401,000 increase in workers compensation premiums. The Company cedes reinsurance to provide for greater diversification of business, allow management to control exposure to potential losses arising from large risks, and provide additional capacity for growth. Premiums ceded are estimated based on the terms of the respective reinsurance agreements. The estimated expense is continually reviewed and any adjustments which become necessary are included in current operations. Amounts recoverable from reinsurers are estimated in a manner consistent with the loss liability associated with the reinsured policies. The $ 9,450,000 increase in premiums ceded for the year ended December 31, 1997 as compared to the year ended December 31, 1996 is principally due to additional written and assumed premiums, and as respects this new business, increased cessions of risks to reinsurers. The Company continually reviews the levels of coverages ceded and the related costs. Investment Income The Company had consolidated net investment income of $38,474,000 for the year ended December 31, 1997, as compared to $32,114,000 for the year ended December 31, 1996, reflecting an increase of $6,360,000. The increased income is primarily due to (1) an increase in the amount of invested assets, and (2) 1997 investment income attributable to MOMED of $4,306,000. Invested assets increased to $681,074,000 at December 31, 1997 from $639,861,000 at December 31, 1996, which includes $74,531,000 and $72,719,000 at 1997 and 1996, respectively, attributable to MOMED. The yield on invested assets decreased to 5.9% for 1997 from 6.1% for 1996. The average composition of invested assets changed little from 1996 to 1997, with non-taxable investments comprising an average of 58% for the year 1997 and 56% for the year 1996. For purposes of the above discussion, invested assets are comprised of fixed maturities and equity securities at amortized cost and short-term investments; the earnings on such invested assets constitute the related net investment income. The Company calculates the yield on invested assets by dividing the related investment income (annualized for interim periods) by the monthly average of invested assets. 20 21 The principal investment objective of the Company is to achieve a high level of after-tax income while minimizing risk. Although fixed maturity securities are purchased with the initial intent to hold such securities until their maturity, disposals of securities prior to their respective maturities may occur if management believes such disposals are consistent with the Company's overall investment objectives, including maximizing after-tax yields. Equity securities increased to $44,880,000 at December 31, 1997 from $33,066,000 at December 31, 1996. The equity securities for 1997 consisted of $23,201,000 of fixed rate preferred stocks and $21,679,000 of common stocks compared to $22,307,000 of fixed rate preferred stocks and $10,759,000 of common stocks for 1996. Disposition of investments prior to maturity may result in a net gain or loss which would be classified as "Other Income". Other Income Other income increased by approximately $600,000 for the year ended December 31, 1997 compared to the year ended December 31, 1996. The increase is principally attributable to greater capital gains realized upon the sale of securities during 1997 as compared to 1996. Losses The reserve for losses and loss adjustment expenses represents management's conservative best estimates of the ultimate cost of all losses incurred but unpaid. The reserves were evaluated by independent consulting actuaries and reflect consideration of prior loss experience and changes in the frequency and severity of claims. Actual incurred losses may vary from estimated amounts due to the inherent difficulty in estimating development of long-tailed lines of business. The estimated liability is continually reviewed and any adjustments which become necessary are included in current operations. The Company's management believes that its actual incurred losses and loss adjustment expenses will not significantly exceed its reported estimated amounts. Consolidated loss and loss adjustment expenses (losses) and the related loss ratios are summarized in the following table (dollars in thousands). The ratio for losses below is based on premiums earned; the ratio for net losses is based on net premiums earned.
1997 1996 ----------------------------------------- Loss Loss Losses Ratio Losses Ratio ------------------ ----------------- Losses $118,025 75% $104,025 78% ===== ===== Reinsurance recoveries (40,351) (31,266) -------- -------- Net losses $ 77,674 65% $ 72,759 70% ======== ===== ======== =====
The Company's losses and loss adjustment expenses for the years ended December 31, 1997 and 1996 reflect loss ratios of 75% and 78%, respectively. The above loss ratios reflect improvement of loss development in prior years coverage. However, as the Company continues its expansion efforts, the improvement of loss development for prior years could have a smaller impact on the loss ratios of future years. See Footnote 9 to the Consolidated Financial Statements included elsewhere herein. The increase in reinsurance recoveries primarily results from the increase in losses and loss adjustment expenses and the increased cessions to reinsurers. 21 22 Underwriting, Acquisition and Insurance Expenses Consolidated expenses increased by $8,174,000 (32%) for the year ended December 31, 1997 compared to the year ended December 31, 1996, of which $2,381,000 is attributable to the inclusion of MOMED in 1997. The additional increase results primarily from policy acquisition costs associated with new business, along with the other costs associated with the Company's current business strategy. This strategy calls for the Company to continue investigating potential acquisition opportunities and the possibility of expansion into additional markets. Income Taxes The Company's effective tax rate for the years ended December 31, 1997 and 1996 was 24%. The effective tax rates were lower than the statutory rate of 35% principally because of the effect of tax exempt investment income. There are no loss carryforwards included in the deferred tax asset. IMPACT OF YEAR 2000 The Year 2000 Issue is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Company's computer programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send invoices, or engage in similar normal business activities. New software systems that the Company has acquired and implemented for ongoing operational purposes function properly with respect to dates in the year 2000 and thereafter. The Company's timetable for completing its conversion to the new software is such that the Company does not believe the Year 2000 Issue poses a significant operational problem. Becoming Year 2000 compliant is incidental to implementing the new software system; therefore, costs specifically related to Year 2000 compliance are minimal. The Company is evaluating Year 2000 compliance by third parties with which it does a significant amount of business, and is not currently aware of any problems that will have a material impact on its operations. 22 23 RESULTS OF OPERATIONS - YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995 Premiums The following table presents information related to consolidated written and earned premiums and reinsurance expense (dollars in thousands):
Increase 1996 1995 (Decrease) ------------------------------- ---------- Direct and assumed premiums written $ 137,840 $ 108,442 $ 29,398 ============== ============= ============== Premiums earned $ 134,162 $ 94,517 $ 39,645 Premiums ceded (29,644) (18,564) 11,080 -------------- ------------- -------------- Net premiums earned $ 104,518 $ 75,953 $ 28,565 ============== ============= ==============
The increase in premiums written and earned for the year ended December 31, 1996 compared to the year ended December 31, 1995 is due principally to an increase of $14,647,000 in direct premiums written in states other than Alabama and the addition of $11,469,000 of reinsurance premiums. Other variations in the normal course of business for the Company comprise the remainder of the variance. The $11,080,000 increase in premiums ceded for the year ended December 31, 1996 as compared to the year ended December 31, 1995 is principally due to additional written and assumed premiums in states other than Alabama, and as respects this new business, increased cessions of risks to reinsurers. Investment Income The Company had consolidated net investment income of $32,114,000 for the year ended December 31, 1996, as compared to $29,582,000 for the year ended December 31, 1995, reflecting an increase of $2,532,000. The increased income is primarily due to an increase in the amount of invested assets. Invested assets, excluding those related to MOMED, increased to $567,142,000 at December 31, 1996 from $509,863,000 at December 31, 1995. The yield on invested assets decreased to 6.1% for 1996 from 6.2% for 1995. The average composition of invested assets changed little from 1995 to 1996, with non-taxable investments comprising an average of 56% for the year 1996 and 58% for the year 1995. Equity securities of $33 million at December 31, 1996 and $6.6 million at December 31, 1995 are primarily fixed rate preferred stocks. Other Income Other income decreased by $2,010,000 for the year ended December 31, 1996 compared to the year ended December 31, 1995. The increase is principally attributable to fewer capital gains realized upon the sale of securities during 1996 as compared to 1995. 23 24 Losses Consolidated loss and loss adjustment expenses (losses) and the related loss ratios are summarized in the following table (dollars in thousands). The ratio for losses below is based on premiums earned; the ratio for net losses is based on net premiums earned.
1996 1995 -------------------------------------------------------- Loss Loss Losses Ratio Losses Ratio -------------- ----- -------------- ----- Losses $ 104,025 78% $ 73,325 78% ===== ==== Reinsurance recoveries (31,266) (19,683) -------------- ------------- Net losses $ 72,759 70% $ 53,642 71% ============== ===== ============= ====
The Company's losses and loss adjustment expenses for the years ended December 31, 1996 and 1995 reflect loss ratios of 78%. The above loss ratios reflect improvement of loss development in prior years coverage. The increase in reinsurance recoveries primarily results from the increase in losses and loss adjustment expenses and the increased cessions to reinsurers. Underwriting, Acquisition and Insurance Expenses Consolidated expenses increased by $7,833,000 (44%) for the year ended December 31, 1996 compared to the year ended December 31, 1995. The increase resulted primarily from policy acquisition costs associated with new business. Income Taxes The Company's effective tax rates for the years ended December 31, 1996 and 1995 were 24% and 23%, respectively. The 1996 and 1995 effective tax rates were lower than the statutory rate of 35%, principally because of the effect of tax exempt investment income. There are no loss carryforwards included in the deferred tax asset. 24 25 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not Applicable ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The Consolidated Financial Statements and Financial Statement Schedules of MAI and subsidiaries listed in Item 14(a) have been included herein beginning on page 29. The Supplementary Financial Information required by Item 302 of Regulation S-K is included in Note 10 of the Notes to Consolidated Financial Statements of MAI and its subsidiaries. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not Applicable. 25 26 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The information required by this Item regarding executive officers is included in Part I of this Form 10-K (Page 15) in accordance with Instruction 3 of the Instructions to Paragraph (b) of Item 401 of Regulation S-K. The information required by this Item regarding directors is incorporated by reference pursuant to General Instruction G(3) of Form 10-K from MAI's definitive proxy statement for the 1998 Annual Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or before April 30, 1998. ITEM 11. EXECUTIVE COMPENSATION. The information required by this Item is incorporated by reference pursuant to General Instruction G(3) of Form 10-K from MAI's definitive proxy statement for the 1998 Annual Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or before April 30, 1998. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. PRINCIPAL STOCKHOLDERS. The information required by this Item is incorporated by reference pursuant to General Instruction G(3) of Form 10-K from MAI's definitive proxy statement for the 1998 Annual Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or before April 30, 1998. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information required by this Item is incorporated by reference pursuant to General Instruction G(3) of Form 10-K from MAI's definitive proxy statement for the 1998 Annual Meeting of its Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A on or before April 30, 1998. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) Financial Statements. The following consolidated financial statements of Medical Assurance, Inc. and subsidiaries are included herein in accordance with Item 8 of Part II of this report. Report of Ernst & Young LLP. Consolidated balance sheets - December 31, 1997 and 1996 Consolidated statements of changes in capital - years ended December 31, 1997, 1996 and 1995 Consolidated statements of income - years ended December 31, 1997, 1996 and 1995 Consolidated statements of cash flows - years ended December 31, 1997, 1996 and 1995 Notes to consolidated financial statements. 26 27 Financial Statement Schedules. The following consolidated financial statement schedules of MAI and subsidiaries are included herein in accordance with Item 14(d): Schedule I - Summary of Investments - Other than Investments in Related Parties. Schedule II - Condensed Financial Information of MAI. Schedule III - Supplementary Insurance Information. Schedule IV - Reinsurance. Schedule VI - Supplementary Property and Casualty Information. All other schedules to the consolidated financial statements required by Article 7 of Regulation S-X are not required under the related instructions or are inapplicable and therefore have been omitted. (b) MAI did not file any Reports on Form 8-K during the quarter ended December 31, 1997. (c) The exhibits required to be filed by Item 14(c) are listed herein in the Exhibit Index. (d) Financial Data Schedule as required by EDGAR (for SEC Use Only) 27 28 SIGNATURES Pursuant to the requirements of Section 13 of 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 this the 19th day of March, 1998. MEDICAL ASSURANCE, INC. By:/s/ A. Derrill Crowe, M.D. ------------------------------------- A. Derrill Crowe, M.D. President Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Name Title Date - ---- ----- ---- /s/ A. Derrill Crowe President (principal March 19, 1998 - ------------------------------- executive officer) A. Derrill Crowe, M.D. and Director /s/ James J. Morello Treasurer (principal March 19, 1998 - ------------------------------- financial officer and James J. Morello principal accounting officer) /s/ Paul R. Butrus Director March 19, 1998 - ------------------------------- Paul R. Butrus /s/ Richard V. Bradley, M.D. Director March 19, 1998 - ------------------------------- Richard V. Bradley /s/ Norton E. Cowart Director March 19, 1998 - ------------------------------- Norton E. Cowart /s/ Paul D. Everest Director March 19, 1998 - ------------------------------- Paul D. Everest, M.D. /s/ Robert E. Flowers, M.D. Director March 19, 1998 - ------------------------------- Robert E. Flowers, M.D. /s/ Leon C. Hamrick Director March 19, 1998 - ------------------------------- Leon C. Hamrick, M.D. /s/ John P. North, Jr. Director March 19, 1998 - ------------------------------- John P. North, Jr.
28 29 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Consolidated Financial Statements Years ended December 31, 1997, 1996 and 1995 CONTENTS Report of Independent Auditors.................................................................................... 1 Audited Consolidated Financial Statements Consolidated Balance Sheets....................................................................................... 2 Consolidated Statements of Changes in Capital..................................................................... 4 Consolidated Statements of Income................................................................................. 5 Consolidated Statements of Cash Flows............................................................................. 6 Notes to Consolidated Financial Statements........................................................................ 8
29 30 Report of Independent Auditors Board of Directors Medical Assurance, Inc. (Formerly MAIC Holdings, Inc.) We have audited the accompanying consolidated balance sheets of Medical Assurance, Inc. (formerly MAIC Holdings, Inc.) and subsidiaries as of December 31, 1997 and 1996 and the related consolidated statements of income, changes in capital and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Medical Assurance, Inc. (formerly MAIC Holdings, Inc.) and subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. February 6, 1998 30 31 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Consolidated Balance Sheets
DECEMBER 31 1997 1996 -------------------------------------------------------- (DOLLAR AMOUNTS IN THOUSANDS) ASSETS Investments: Fixed maturities available for sale, at market value $ 617,914 $ 564,938 Equity securities available for sale, at market value 44,880 33,066 Real estate, net 11,933 12,352 Short-term investments 45,475 56,403 ---------------------- --------------------- Total investments 720,202 666,759 Cash and cash equivalents 12,248 14,033 Premiums receivable 92,051 33,896 Receivable from reinsurers 150,598 108,692 Prepaid reinsurance premiums 17,580 14,152 Deferred taxes 33,273 36,132 Other assets 37,221 31,644 ---------------------- --------------------- $ 1,063,173 $ 905,308 ====================== =====================
31 32
DECEMBER 31 1997 1996 -------------------------------------------- (DOLLAR AMOUNTS IN THOUSANDS) LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Policy liabilities and accruals: Reserve for losses and loss adjustment expenses $ 614,729 $ 548,742 Unearned premiums 79,700 54,920 Reinsurance premiums payable 53,752 31,789 ---------------- --------------- Total policy liabilities 748,181 635,451 Income taxes payable 1,240 2,852 Other liabilities 26,564 22,440 ---------------- --------------- Total liabilities 775,985 660,743 Commitments and contingencies - - Stockholders' equity: Common stock, par value $1 per share; 100,000,000 shares authorized; 21,721,562 and 10,339,245 shares issued, respectively 21,722 10,339 Additional paid-in capital 143,037 123,218 Net unrealized gains on securities available for sale, net of deferred taxes of $7,947 and $4,392, respectively 14,704 8,157 Retained earnings 109,524 103,027 ---------------- --------------- 288,987 244,741 Less treasury stock at cost, 222,201 and 57,214 shares, respectively (1,799) (176) ---------------- --------------- Total stockholders' equity 287,188 244,565 ---------------- --------------- $ 1,063,173 $ 905,308 ================ ===============
See accompanying notes. 32 33 Medical Assurance, Inc., and Subsidiaries (formerly MAIC Holdings, Inc.) Consolidated Statements of Changes in Capital (dollar amounts in thousands)
ADDITIONAL NET COMMON PAID-IN UNREALIZED STOCK CAPITAL GAINS (LOSSES) ------------------- -------------------- ------------------ Balance at December 31, 1994 $ 8,974 77,537 $ (3,366) 6% stock dividend ($22,530 paid in cash in lieu of fractional shares) 530 16,964 - Change in market value of securities available for sale, net of deferred taxes - - 16,729 Common stock issued for service awards 1 12 - Retirement of common stock (128) (2,500) - Net income - - - ------------------- -------------------- ------------------ Balance at December 31, 1995 9,377 92,013 13,363 6% stock dividend ($33,795 paid in cash in lieu of fractional shares) 584 18,919 - Change in market value of securities available for sale, net of deferred taxes - - (5,206) Common stock issued for service awards 1 34 - Common stock issued for compensation 1 20 - Common stock issued for acquisition 376 12,232 - Net income - - - ------------------- -------------------- ------------------ Balance at December 31, 1996 10,339 123,218 8,157 100% stock dividend 10,340 (10,340) - 5% stock dividend ($67,590 paid in cash in lieu of fractional shares) 1,032 29,862 - Change in market value of securities available for sale, net of deferred taxes - - 6,547 Common stock issued for service awards 1 41 - Common stock issued for compensation 9 247 - Common stock issued for acquisition 1 9 - Purchase of treasury stock - - - Sale of treasury stock - - - Net income - - - =================== ==================== ================== Balance at December 31, 1997 $ 21,722 $ 143,037 $ 14,704 =================== ==================== ================== RETAINED TREASURY EARNINGS STOCK TOTAL --------------------- ------------------- ---------------------- Balance at December 31, 1994 $ 79,269 $ (2,766) $ 159,648 6% stock dividend ($22,530 paid in cash in lieu of fractional shares) (17,517) - (23) Change in market value of securities available for sale, net of deferred taxes - - 16,729 Common stock issued for service awards - - 13 Retirement of common stock - 2,628 - Net income 29,663 - 29,663 -------------------- ------------------ --------------------- Balance at December 31, 1995 91,415 (138) 206,030 6% stock dividend ($33,795 paid in cash in lieu of fractional shares) (19,537) - (34) Change in market value of securities available for sale, net of deferred taxes - - (5,206) Common stock issued for service awards - - 35 Common stock issued for compensation - - 21 Common stock issued for acquisition - (38) 12,570 Net income 31,149 - 31,149 -------------------- ------------------ --------------------- Balance at December 31, 1996 103,027 (176) 244,565 100% stock dividend - - - 5% stock dividend ($67,590 paid in cash in lieu of fractional shares) (30,961) - (67) Change in market value of securities available for sale, net of deferred taxes - - 6,547 Common stock issued for service awards - - 42 Common stock issued for compensation - - 256 Common stock issued for acquisition - - 10 Purchase of treasury stock - (1,708) (1,708) Sale of treasury stock - 85 85 Net income 37,458 - 37,458 ==================== ================== ===================== Balance at December 31, 1997 $ 109,524 $ (1,799) $ 287,188 ==================== ================== =====================
See accompanying notes. 33 34 Medical Assurance, Inc., and Subsidiaries (formerly MAIC Holdings, Inc.) Consolidated Statements of Income
YEAR ENDED DECEMBER 31 1997 1996 1995 ---------------------------------------------------------------------------- (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA) Direct and assumed premiums written $ 188,195 $ 137,840 $ 108,442 ===================== ==================== ==================== Revenues: Premiums earned $ 158,061 $ 134,162 $ 94,517 Premiums ceded (39,094) (29,644) (18,564) --------------------- -------------------- -------------------- Net premiums earned 118,967 104,518 75,953 Net investment income 38,474 32,114 29,582 Other income 3,301 2,728 4,738 --------------------- -------------------- -------------------- Total revenues 160,742 139,360 110,273 Expenses: Losses and loss adjustment expenses 118,025 104,025 73,325 Reinsurance recoveries (40,351) (31,266) (19,683) --------------------- -------------------- -------------------- Net losses and loss adjustment expenses 77,674 72,759 53,642 Underwriting, acquisition, and insurance expenses 33,903 25,729 17,896 --------------------- -------------------- -------------------- Total expenses 111,577 98,488 71,538 --------------------- -------------------- -------------------- Income before income taxes and minority interests 49,165 40,872 38,735 Provision for income taxes: Current expense 12,373 11,330 12,694 Deferred benefit (666) (1,693) (3,702) --------------------- -------------------- -------------------- 11,707 9,637 8,992 --------------------- -------------------- -------------------- Income before minority interests 37,458 31,235 29,743 Minority interests - (86) (80) --------------------- -------------------- -------------------- Net income $ 37,458 $ 31,149 $ 29,663 ===================== ==================== ==================== Basic earnings per share $ 1.74 $ 1.49 $ 1.42 ===================== ==================== ==================== Diluted earnings per share $ 1.74 $ 1.49 $ 1.42 ===================== ==================== ==================== Weighted average number of common shares outstanding 21,511 20,872 20,847 ===================== ==================== ====================
See accompanying notes. 34 35 Medical Assurance, Inc., and Subsidiaries (formerly MAIC Holdings, Inc.) Consolidated Statements of Cash Flows
YEAR ENDED DECEMBER 31 1997 1996 1995 ------------------------------------------------------------------------ (DOLLAR AMOUNTS IN THOUSANDS) OPERATING ACTIVITIES Net income $ 37,458 $ 31,149 $ 29,663 Adjustments to reconcile net income to net cash provided (used) by operating activities: Depreciation 1,328 1,236 1,062 Amortization 17,095 8,868 4,608 Net realized (gain) on sale of investments (1,739) (1,532) (3,397) Deferred income taxes (benefit) (666) (1,693) (3,702) Policy acquisition costs, deferred (18,126) (9,879) (3,636) Other 278 (68) (312) Changes in assets and liabilities, net of effects of business combinations: Premiums receivable (58,155) (13,152) (11,902) Income taxes receivable/payable (1,612) 952 2,105 Receivable from reinsurers (41,906) (16,765) (19,129) Prepaid reinsurance premiums (3,428) (356) (8,179) Other assets (4,137) (1,212) (3,640) Reserve for losses and loss adjustment expenses 65,987 58,695 40,912 Unearned premiums 24,780 5,045 17,552 Reinsurance premiums payable 21,963 4,377 3,988 Other liabilities 4,124 9,171 1,242 ------------------ ------------------ ----------------- Net cash provided by operating activities 43,244 74,836 47,235 INVESTING ACTIVITIES Purchases of fixed maturities available for sale (211,806) (155,606) (195,716) Purchases of equity securities available for sale (15,691) (23,159) (6,565) Proceeds from sale or maturities of fixed maturities available for sale 166,587 133,145 156,615 Proceeds from sale of equity securities available for sale 6,890 2,084 746 Purchases of real estate (253) - - Net decrease (increase) in short-term investments 10,928 (16,675) 3,608 Purchase of subsidiaries - (7,263) (4,160) Distribution from subsidiaries - 3,628 - Other 6 (1,161) (2,524) ------------------ ------------------ ---------------- Net cash (used) by investing activities (43,339) (65,007) (47,996)
35 36
YEAR ENDED DECEMBER 31 1997 1996 1995 --------------------------------------------------------------------------------- FINANCING ACTIVITIES Dividends paid $ (67) $ (34) $ (23) Purchase of treasury stock, net (1,623) - - ---------------------- -------------------- ---------------------- Net cash (used) by financing activities (1,690) (34) (23) ---------------------- -------------------- ---------------------- Increase (decrease) in cash and and cash equivalents (1,785) 9,795 (784) Cash and cash equivalents at beginning of year 14,033 4,238 5,022 ---------------------- -------------------- ---------------------- Cash and cash equivalents at end of year $ 12,248 $ 14,033 $ 4,238 ====================== ==================== ====================== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the year for: Income taxes $ 12,175 $ 11,075 $ 10,522 ====================== ==================== ======================
See accompanying notes. 36 37 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements December 31, 1997 1. ACCOUNTING POLICIES PLAN OF EXCHANGE AND REORGANIZATION Medical Assurance, Inc. (known as MAIC Holdings, Inc. prior to June 1, 1997) is a Delaware corporation formed by Mutual Assurance, Inc. (Mutual Assurance) to serve as a holding company for Mutual Assurance and other subsidiaries. The transaction to convert Medical Assurance, Inc. to the holding company occurred in August 1995, and was accounted for in a manner similar to a pooling of interests. The transaction had no effect on the net assets, total stockholders' equity or net income reported previously by the consolidated companies. Prior to the reorganization, Medical Assurance, Inc. had no revenues or net income. At December 31, 1997, Medical Assurance, Inc. had 100 million shares of authorized common stock and 50 million shares of authorized preferred stock. The Board of Directors has the authorization to determine the provisions for the issuance of shares of the preferred stock, including the number of shares to be issued and the designations, powers, preferences and rights, and the qualifications, limitations or restrictions of such shares. At December 31, 1997, the Board of Directors had not authorized the issuance of any preferred stock nor determined any provisions for the preferred stock. PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of Medical Assurance, Inc. and its subsidiaries. All significant intercompany accounts and transactions between consolidated companies have been eliminated. BASIS OF PRESENTATION The preparation of financial statements in accordance with generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expense during the reporting period. Actual results could differ from those estimates. The significant accounting policies followed by the Company that materially affect financial reporting are summarized in these notes to the financial statements. 37 38 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 1. ACCOUNTING POLICIES (CONTINUED) SEGMENT INFORMATION The Company operates in the United States of America and in only one reportable industry segment, which is providing professional and general liability insurance for physicians and surgeons, dentists, hospitals, and others engaged in the delivery of health care. CASH AND CASH EQUIVALENTS For purposes of the consolidated statements of cash flows, the Company considers all demand deposits and overnight investments to be cash equivalents. REINSURANCE Certain premiums are assumed from and ceded to other insurance companies under various reinsurance agreements. The Company cedes reinsurance to provide for greater diversification of business, allow management to control exposure to potential losses arising from large risks, and provide additional capacity for growth. A significant portion of the reinsurance is effected under reinsurance contracts known as treaties and, in some instances, by negotiation on individual risks. Reinsurance expense is estimated based on the terms of the respective reinsurance agreements. The estimated expense is continually reviewed and any adjustments which become necessary are included in current operations. Amounts recoverable from reinsurers are estimated in a manner consistent with the loss liability associated with the reinsured policies. INCOME TAXES Medical Assurance, Inc. and its subsidiaries file a consolidated federal income tax return. Deferred income taxes are provided for temporary differences between financial and income tax reporting relating primarily to unrealized gains on securities, discounting of losses and loss adjustment expenses for income tax reporting and the limitation of the unearned premiums deduction for income tax reporting. INVESTMENTS The Company invests only in investment grade securities with the intent at the time of purchase that such securities will be held until maturity. However, recognizing the need for the ability to respond to changes in tax position and in market conditions, management has designated the debt and equity securities included in its investment portfolio as available-for-sale. Securities classified as available-for-sale are carried at market value, and unrealized gains and losses on such available-for-sale securities are excluded from earnings and reported, net of tax effect, as a separate component of stockholders' equity until realized. Real estate is reported at cost, less allowances for depreciation. Short-term investments, primarily composed of investments in United States Treasury obligations, are reported at cost, which approximates market value. 38 39 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 1. ACCOUNTING POLICIES (CONTINUED) INVESTMENTS (CONTINUED) Investment income includes amortization of premium and accretion of discount related to debt securities acquired at other than par value. Debt securities with maturities beyond one year, when purchased, are classified as fixed maturities. Realized gains and losses on sales of investments, and declines in value judged to be other-than-temporary, are recognized on the specific identification basis. Market values for fixed maturity and equity securities are based on quoted market prices, where available. For fixed maturity and equity securities not actively traded, market values are estimated using values obtained from independent pricing services. The carrying amounts reported in the balance sheet for cash and cash equivalents and short-term investments approximate their market values. INVESTMENT IN UNCONSOLIDATED AFFILIATE The Company owns a twenty-five percent minority interest in Specialty Underwriters Reinsurance Facility, LTD. (SURF), a foreign corporation. SURF ceased operations during 1996 and distributed the majority of its surplus to its owners. The Company received an earnings distribution of approximately $3,628,000 in 1996. The Company's investment in SURF is recorded at cost plus the Company's percentage of SURF's undistributed earnings. REAL ESTATE Property and leasehold improvements are classified as investment real estate. All balances are stated on the basis of cost. Depreciation is computed over their estimated useful lives using the straight-line method. Accumulated depreciation was approximately $3,886,000 and $3,184,000 at December 31, 1997 and 1996, respectively. Rental income and expenses are included in net investment income. DEFERRED POLICY ACQUISITION COSTS Costs that vary with and are directly related to the production of new and renewal premiums (primarily premium taxes, commissions and underwriting salaries), are deferred to the extent they are recoverable against unearned premiums and are amortized as related premiums are earned. Unamortized deferred acquisition costs are included in other assets on the consolidated balance sheets and amounted to approximately $7,304,000 and $4,590,000 at December 31, 1997, and 1996, respectively. Amortization of deferred acquisition costs amounted to approximately $15,412,000, $11,065,000, and $5,450,000 for the years ended December 31, 1997, 1996 and 1995, respectively. 39 40 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 1. ACCOUNTING POLICIES (CONTINUED) RECOGNITION OF REVENUES Insurance premiums are recognized as revenues pro rata over the terms of the policies. RESERVE FOR LOSSES AND LOSS ADJUSTMENT EXPENSES The reserve for losses and loss adjustment expenses represents management's best estimates of the ultimate cost of all losses incurred but unpaid. The estimated liability is continually reviewed and any adjustments which become necessary are included in current operations. PENSION PLANS The Company has a defined contribution pension plan for employees who are at least 21 years of age and have one or more years of service.The Company funds the plan by contributing an amount equal to 10% of each participant's eligible wages. Consolidated pension plan expense for the years ended December 31, 1997, 1996 and 1995 was approximately $809,000, $834,000, and $518,000, respectively. EMPLOYEE STOCK PURCHASE PLAN The Company has a stock purchase plan (the "Plan") for full-time employees who have completed at least one year of employment. The Plan allows each eligible employee to purchase shares of the Company's common stock in the public market and the Company will loan to each participant $.35 for each $.65 deposited in the Plan. The stock purchased with the loaned proceeds vests with the employee at the end of four years. These loans are amortized to expense over the four year vesting period. MINORITY INTERESTS During July 1996, MAI Corporation, a wholly-owned subsidiary, purchased 100% of the minority-owned interest of LifeSouth, Inc. (LifeSouth). The purchase resulted in LifeSouth becoming the wholly-owned subsidiary of MAI Corporation. Minority interests reflect changes for the respective share of income or loss of LifeSouth attributable to the minority shareholders, the effect of which is removed from the results of operations of the Company. EARNINGS PER SHARE Earnings per share data has been stated giving retroactive effect for the 5% stock dividend declared in December of 1997 and for the 6% stock dividends declared in both December of 1996 and 1995, as well as the 2 for 1 stock split declared in August 1997. Weighted average shares for the years ending December 31, 1997 and 1996 were 21,510,921 and 20,872,341 respectively. 40 41 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 1. ACCOUNTING POLICIES (CONTINUED) EARNINGS PER SHARE (CONTINUED) In 1997, the Financial Accounting Standards Board (FASB) issued Statement No. 128, Earnings per Share. Statement 128 replaced the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants, and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented, and where appropriate, restated to conform to the Statement 128 requirements. There were no items affecting net income or weighted average shares in the computation to arrive at diluted earnings per share. Options to purchase approximately 195,000 shares of common stock at $28.51 per share were outstanding at December 31, 1997 but were not included in the computation of diluted earnings per share because the options' price was greater than the average market price of the common shares during 1997 and, therefore, their effect would be antidilutive. CAPITAL RESOURCES As of December 31, 1997, the Company did not have any material commitments for capital expenditures. The Company continues to have available through a lending institution a line of credit in the amount of $40 million that could be used for additional capital requirements. RECLASSIFICATIONS The accompanying 1996 and 1995 financial statements have been reclassified to conform with the 1997 presentation. Such reclassifications had no material effect on previously reported financial position, results of operations or cash flows. LONG-LIVED ASSETS The Company has considered the effects of FASB Statement 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, in accounting for its long-lived assets. The adoption of Statement 121 had no material impact on the consolidated financial statements of the Company. 2. INVESTMENTS The amortized cost and estimated market value of fixed maturities and equity securities are as follows: 41 42 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 2. INVESTMENTS (CONTINUED)
DECEMBER 31, 1997 --------------------------------------------------------------------------- GROSS GROSS ESTIMATED AMORTIZED UNREALIZED UNREALIZED MARKET COST GAINS LOSSES VALUE --------------------------------------------------------------------------- (IN THOUSANDS) U. S. Treasury securities $ 30,469 $ 800 $ 1 $ 31,268 State and municipal bonds 350,746 15,017 1 365,762 Corporate bonds 132,162 3,042 74 135,130 Mortgage-backed securities 79,269 998 183 80,084 Certificates of deposit 5,670 - - 5,670 --------------- --------------- --------------- ---------------- 598,316 19,857 259 617,914 Equity Securities 41,827 3,745 692 44,880 --------------- --------------- --------------- ---------------- $ 640,143 $ 23,602 $ 951 $ 662,794 =============== =============== =============== ================ December 31, 1996 --------------------------------------------------------------------------- Gross Gross Estimated Amortized Unrealized Unrealized Market Cost Gains Losses Value --------------------------------------------------------------------------- (in thousands) U. S. Treasury securities $ 56,773 $ 908 $ 86 $ 57,595 State and municipal bonds 306,905 8,986 242 315,649 Corporate bonds 120,691 2,179 101 122,769 Mortgage-backed securities 67,819 581 145 68,255 Certificates of deposit 670 - - 670 --------------- --------------- --------------- ---------------- 552,858 12,654 574 564,938 Equity Securities 32,597 651 182 33,066 --------------- --------------- --------------- ---------------- $ 585,455 $ 13,305 $ 756 $ 598,004 =============== =============== =============== ================
The amortized cost and estimated market value of fixed maturities at December 31, 1997, 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. The Company uses the call date as the contractual maturity for prerefunded state and municipal bonds which are 100% backed by U.S. Treasury obligations. 42 43 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 2. INVESTMENTS (CONTINUED)
AMORTIZED ESTIMATED COST MARKET VALUE ----------------------------------------- (IN THOUSANDS) Due in one year or less $ 37,039 $ 37,177 Due after one year through five years 185,204 189,451 Due after five years through ten years 184,756 194,021 Due after ten years 112,048 117,181 Mortgage-backed securities 79,269 80,084 ----------------- ----------------- $ 598,316 $ 617,914 ================= =================
Excluding investments in bonds and notes of the United States Government, United States Government agency or prerefunded state and municipal bonds which are 100% backed by U.S. Treasury obligations, no investment in any person or its affiliates exceeded 10% of stockholders' equity at December 31, 1997. Amounts of investment income by investment category are as follows:
YEAR ENDED DECEMBER 31 1997 1996 1995 ---------------------------------------------------- (IN THOUSANDS) Fixed maturities $ 35,570 $ 29,689 $ 29,413 Equities 1,701 748 39 Real estate 1,388 1,330 1,214 Short-term investments 2,122 1,581 372 Other 64 836 564 ----------------- ----------------- ---------------- 40,845 34,184 31,602 Investment expenses (2,371) (2,070) (2,020) ----------------- ----------------- ----------------- Net investment income $ 38,474 $ 32,114 $ 29,582 ================= ================= ================
Gross gains and losses from sales of available for sale securities are included in other income as follows:
YEAR ENDED DECEMBER 31 1997 1996 1995 ---------------------------------------- (IN THOUSANDS) Gross gains $ 2,283 $ 2,082 $ 3,722 Gross losses (544) (550) (325) ------------- ----------- ---------- Net gains from sales of available for sale securities $ 1,739 $ 1,532 $ 3,397 ============= =========== ==========
Proceeds from sales of investments in available for sale securities were $128,564,000, $83,396,000, and $92,994,000 during 1997, 1996 and 1995, respectively. Realized investments gains and losses are determined using the specific identification basis. 43 44 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 3. STATUTORY ACCOUNTING AND DIVIDEND RESTRICTIONS The Company's insurance subsidiaries are required to file statutory financial statements with state insurance regulatory authorities. GAAP differs from statutory accounting practices prescribed or permitted by regulatory authorities. Differences between financial statement net income and statutory net income are principally due to: (a) policy acquisition costs which are deferred under generally accepted accounting principles, but expensed for statutory purposes; (b) subsidiaries which are consolidated for generally accepted accounting principles, but are accounted for using the equity method for statutory purposes with the annual change in the equity charged or credited directly to capital rather than entering into the determination of net income; and (c) deferred income taxes which are recorded under generally accepted accounting principles but not for statutory purposes. At December 31, 1997 and 1996, statutory capital for each company was sufficient to satisfy regulatory requirements. Amounts of statutory capital and surplus by insurance subsidiary are as follows:
DECEMBER 31 1997 1996 ----------------------------------------- (IN THOUSANDS) Mutual Assurance, Inc. $ 165,321 $ 145,181 Medical Assurance of West Virginia, Inc. 4,922 5,108 Physicians Insurance Company of Indiana, Inc. 13,554 13,179 PROActive Insurance Corporation 4,862 3,698 Missouri Medical Insurance Company (see Note 8) 24,173 20,589
Amounts of statutory net income (loss) for the twelve months ended December 31, 1997, 1996 and 1995 by insurance subsidiary are as follows:
YEAR ENDED DECEMBER 31 1997 1996 1995 ------------------------------------------------------- (IN THOUSANDS) Mutual Assurance, Inc. $ 25,254 $ 25,809 $ 18,468 Medical Assurance of West Virginia, Inc. (166) 1,932 584 Physicians Insurance Company of Indiana, Inc. 440 (410) 833 PROActive Insurance Corporation 165 167 224 Missouri Medical Insurance Company (see Note 8) 3,075 3,886 -
Consolidated retained earnings is composed primarily of subsidiaries' retained earnings. Each insurance company is restricted under the applicable State Insurance Code as to the amount of dividends it may pay without regulatory consent. In 1998, the insurance subsidiaries can pay dividends in the aggregate up to approximately $29.7 million without regulatory consent. 44 45 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 4. REINSURANCE The effect of reinsurance on premiums written and earned in 1997 was as follows:
PREMIUMS WRITTEN EARNED -------------------------------------------- (IN THOUSANDS) Direct $ 175,567 $ 146,403 Assumed 12,628 11,658 Ceded (47,995) (39,094) ----------------- ------------------ Net premiums $ 140,200 $ 118,967 ================= ==================
Reinsurance contracts do not relieve the Company from its obligations to policyholders. A contingent liability exists with respect to reinsurance ceded to the extent that any reinsurer does not meet the obligations assumed under the reinsurance agreements. The Company continually monitors its reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. The Company only cedes risks to reinsurers whom the Company believes to be financially sound. At December 31, 1997, all reinsurance recoverables are considered collectible; the amounts as shown in the accompanying consolidated balance sheets approximate the fair value of the amounts recoverable from reinsurers. As required by the various state insurance laws, reinsurance recoverables totaling approximately $12 million are collateralized by letters of credit or funds withheld. 5. INCOME TAXES Deferred income taxes reflect the net tax effects of temporary differences between the amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax liabilities and assets are as follows:
DECEMBER 31 1997 1996 ---------------------------------------- (IN THOUSANDS) Deferred tax liabilities: Adjustment to net unrealized gains on investments $ 7,947 $ 4,392 Deferred acquisition costs 2,556 1,544 Other 726 1,171 ------------------ ------------------ Total deferred tax liabilities 11,229 7,107
45 46 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 5. INCOME TAXES (CONTINUED)
Deferred tax assets: Unpaid loss discount 40,154 38,618 Unearned premium adjustment 4,348 3,136 Other - 1,485 ------------------ ------------------ Total deferred tax assets 44,502 43,239 ------------------ ------------------ Net deferred tax assets $ 33,273 $ 36,132 ================== ==================
The Company is required to establish a "valuation allowance" for any portion of the deferred tax asset that management believes will not be realized. In the opinion of management, it is more likely than not that the Company will realize the benefit of the deferred tax assets, and therefore, no such valuation allowance has been established. Differences between income tax computed by applying the federal income tax rate of 35% to income before income taxes and income tax expense in the financial statements are as follows:
YEAR ENDED DECEMBER 31 1997 1996 1995 --------------------------------------------------------- (IN THOUSANDS) Computed "expected" tax expense $ 17,208 $ 14,305 $ 13,560 Tax-exempt municipal and state bond income (5,153) (4,766) (4,611) Other (348) 98 43 --------------- --------------- ---------------- Total $ 11,707 $ 9,637 $ 8,992 =============== =============== ================
6. COMMITMENTS AND CONTINGENCIES The Company is involved in various legal actions arising primarily from claims made under insurance policies. The legal actions arising from claims made under insurance policies have been considered by the Company in establishing its reserves. While the outcome of all legal actions is not presently determinable, the Company's management and its legal counsel are of the opinion that the settlement of these actions will not have a material adverse effect on the Company's financial position or results of operations. 7. STOCK TRANSACTIONS On December 3, 1997, the Board of Directors declared a 5% stock dividend, and on December 4, 1996, and December 14, 1995 the Board of Directors declared 6% stock dividends. Cash was paid to shareholders for fractional shares. In addition, the Board of Directors declared a two-for-one stock split in the form of a 100% stock dividend on August 20, 1997. Earnings per share data for 1997, 1996 and 1995 have been stated as if all of the above dividends had been declared on January 1, 1995. 46 47 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 7. STOCK TRANSACTIONS (CONTINUED) The Board of Directors of Medical Assurance, Inc. has reserved 1,500,000 shares of common stock for issuance in accordance with the Mutual Assurance Stock Award Plan assumed by Medical Assurance, Inc. Under the terms of the Plan, shares of Medical Assurance, Inc. stock are available to be awarded to key employees of Medical Assurance, Inc. and its subsidiaries. As of December 31, 1997 and 1996, there were 3,070 and 1,645 shares, respectively, issued under the Plan. 8. BUSINESS EXPANSION During 1996 and 1995, the Company completed the following business combinations:
Accounting Date Company Location Treatment - --------------------------------------------------------------------------------------------------------------- January 1995 Physicians Insurance Company of Indiana, Inc. Indiana Purchase December 1996 MOMED Holding Company Missouri Purchase
The purchase price paid for the acquisition of Physicians Insurance Company of Indiana, Inc. after eight years, may be modified by an amount up to $1,000,000 to be paid by the purchaser or the seller based on the loss experience of Physicians Insurance Company of Indiana, Inc. During July 1995 the Company acquired the recurring medical professional insurance business of Physicians Insurance Company of Ohio and its subsidiary. The value of the business acquired is included in other assets. During July 1996, MAI Corporation, a wholly-owned subsidiary, purchased 100% of the minority-owned interest of LifeSouth, resulting in LifeSouth becoming a wholly-owned subsidiary of MAI Corporation. Total consideration paid for the 1996 and 1995 business expansion transactions was approximately $32,162,000, including 837,774 shares (after giving effect to subsequent stock dividends and the stock split) of the Company's stock issued as part of the 1996 purchase of MOMED Holding Company (MOMED), parent of Missouri Medical Insurance Company. The transactions were not material individually or in the aggregate to the assets, stockholders' equity or operations of the Company. Intangible assets recorded in connection with the above transactions totaled $7,653,000 and are being amortized over periods ranging from 10 to 20 years. The related accumulated amortization at December 31, 1997 and 1996, is approximately $2,965,000 and $1,397,000, respectively. The business combination of MOMED was effective December 20, 1996; however, MOMED operations for the period December 20, 1996 through December 31, 1996 were considered immaterial for inclusion in the Company's 1996 consolidated statement of income. MOMED operations are included in the Company's 1997 consolidated statement of income. Revenues for MOMED for the years ended December 31, 1996 and 1995 were approximately $15,761,000 and $16,687,000, respectively. Net income for MOMED for the year ended December 31, 1996 and 1995 were approximately $4,333,000 and $4,077,000, respectively. 47 48 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 9. RESERVE FOR LOSSES AND LOSS ADJUSTMENT EXPENSES Activity in the reserve for losses and loss adjustment expenses (reserves) is summarized as follows:
YEAR ENDED DECEMBER 31 --------------------------------------------------------- 1997 1996 1995 (IN THOUSANDS) Balance at January 1 $ 548,742 $ 432,945 $ 356,000 Less reinsurance recoverables 108,692 80,468 60,245 ----------------- ------------------ ------------------ Net balance at January 1 440,050 352,477 295,755 Incurred related to: Current year 124,353 100,186 81,152 Prior years (46,679) (27,427) (27,510) ----------------- ------------------ ------------------ Total Incurred 77,674 72,759 53,642 Paid related to: Current year (5,203) (3,468) (7,706) Prior years (48,390) (27,361) (24,185) ----------------- ------------------ ------------------ Total paid (53,593) (30,829) (31,891) Reserves of entity acquired - 45,643 34,971 ----------------- ------------------ ------------------ Net balance at December 31 464,131 440,050 352,477 Plus reinsurance recoverables 150,598 108,692 80,468 ----------------- ------------------ ------------------ Balance at December 31 $ 614,729 $ 548,742 $ 432,945 ================= ================== ==================
The reserves were evaluated by independent consulting actuaries and reflect consideration of prior loss experience and changes in the frequency and severity of claims. Actual incurred losses may vary from estimated amounts due to the inherent difficulty in estimating development of long-tailed lines of business. However, the Company's management believes its conservative approach to the reservation of losses and loss adjustment expenses is reflective of favorable developments in trends of current year and prior year losses. The Company's management believes the unearned premiums under contracts, together with the related anticipated investment income to be earned, is adequate to discharge the related contract liabilities. 48 49 Medical Assurance, Inc. and Subsidiaries (formerly MAIC Holdings, Inc.) Notes to Consolidated Financial Statements (continued) 10. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following is a summary of unaudited quarterly results of operations for 1997 and 1996:
1997 (THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS) 1ST 2ND 3RD 4TH --------------------------------------------------------- Net premiums earned $ 28,402 $ 29,138 $ 30,774 $ 30,653 Net investment income 9,458 9,426 9,523 10,067 Other income 611 128 1,283 1,279 Net income 8,414 8,781 9,894 10,370 Earnings per share .39 .41 .46 .48 1996 (Thousands of dollars, except per share amounts) 1st 2nd 3rd 4th --------------------------------------------------------- Net premiums earned $ 21,078 $ 20,833 $ 29,514 $ 33,093 Net investment income 8,723 7,196 7,869 8,326 Other income 459 865 332 1,053 Net income 6,856 7,661 7,831 8,801 Earnings per share .33 .37 .38 .42
Quarterly earnings per share data for 1997 and 1996 have been restated giving retroactive effect as if the 1997 and 1996 dividends and the 1997 stock split had been declared on January 1, 1996. The sum of the above amounts may vary from the annual amounts because of rounding. 49 50 MEDICAL ASSURANCE, INC. AND SUBSIDIARIES SCHEDULE I -- SUMMARY OF INVESTMENTS -- OTHER THAN INVESTMENTS IN RELATED PARTIES December 31, 1997 (dollars in thousands)
Cost or Amount at Which Amortized Market Shown in the Type of Investment Cost Value Balance Sheet - --------------------------------------------------------------------------------------------------------------------------- Fixed Maturities: Bonds: U.S. Treasury Securities................................ $ 30,469 $ 31,268 $ 31,268 State and municipal bonds............................... 350,746 365,762 365,762 Corporate bonds......................................... 132,162 135,130 135,130 Mortgage-backed securities.............................. 79,269 80,084 80,084 Certificates of deposit................................. 5,670 5,670 5,670 ------------ ------------ ----------- Total fixed maturities.............................. 598,316 $ 617,914 617,914 ------------ ============ ----------- Equity securities 41,827 $ 44,880 44,880 ============ Real estate, net............................................ 11,933 11,933 Short-term investments...................................... 45,475 45,475 ------------ ----------- Total investments................................... $ 697,551 $ 720,202 ============ ===========
50 51 MEDICAL ASSURANCE, INC. AND SUBSIDIARIES SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT December 31, 1997 and 1996 (dollars in thousands)
CONDENSED BALANCE SHEET December 31 1997 1996 ----------------------- ----------------------- Assets Short-term investments $ 2,593 $ 5,141 Investment in subsidiaries - at equity 285,512 238,925 Receivable from subsidiaries 3,179 17,318 Cash 518 635 Other assets 342 619 ----------------------- ----------------------- $ 292,144 $ 262,638 ======================= ======================= Liabilities and stockholders' equity Capital contribution payable to subsidiary $ - $ 17,243 Other liabilities 4,956 830 ----------------------- ----------------------- 4,956 18,073 Stockholders' equity Common stock 21,722 10,339 Other stockholders' equity, including unrealized gains or losses on securities of subsidiaries 265,466 234,226 ----------------------- ----------------------- Total stockholders' equity $ 287,188 $ 244,565 ----------------------- ----------------------- $ 292,144 $ 262,638 ======================= =======================
CONDENSED STATEMENT OF INCOME
Year Ended Year Ended December 31, 1997 December 31, 1996 ----------------------- ----------------------- Revenues: Investment income $ 238 $ 549 Other income (1) 13 ----------------------- ----------------------- 237 562 Expenses: Other expenses 2,030 948 ----------------------- ----------------------- 2,030 948 ----------------------- ----------------------- Income (loss) before income taxes and equity in undistributed net income of subsidiaries (1,793) (386) Federal and state income tax (376) (322) ----------------------- ----------------------- Income (loss) before equity in undistributed net income of subsidiaries (1,417) (408) Equity in undistributed net income of subsidiaries 38,875 31,557 ----------------------- ----------------------- Net income $ 37,458 $ 31,149 ======================= =======================
51 52 MEDICAL ASSURANCE, INC. AND SUBSIDIARIES SCHEDULE II - CONDENSED FINANCIAL INFORMATION OF REGISTRANT December 31, 1997 and 1996 (dollars in thousands)
CONDENSED STATEMENTS OF CASH FLOWS Year Ended December 31 1997 1996 ------------------------ ------------------------ Cash from Operating Activities $ 17,433 $ (53) Investing activities Cash received from subsidiaries - 3,628 Purchases of short-term investments (51,150) (143,076) Proceeds from sale of short-term investments 53,698 147,935 Purchase of subsidiary - (6,306) Capital contribution to subsidiaries (17,323) (3,600) Other (1,085) 2,141 ----------------------- ----------------------- (15,860) 722 Financing activities Dividends paid (67) (34) Purchase of Treasury Stock (1,623) - ----------------------- ----------------------- (1,690) (34) Increase in cash $ (117) $ 635 ======================= =======================
NOTES TO CONDENSED FINANCIAL STATEMENTS 1. Basis of Presentation In the parent-only financial statements, the Company's investment in subsidiaries is stated at cost plus equity in undistributed earnings of subsidiaries since the date of acquisition. The Company's share of net income of its unconsolidated subsidiaries is included in consolidated income using the equity method. The parent-only financial statements should be read in conjunction with the Company's consolidated financial statements. 2. Related Party Transactions As part of the 1995 plan of exchange and reorganization, Mutual Assurance transferred all of its ownership in Medical Assurance of West Virginia, Inc., SURF and Physicians Insurance Company of Indiana, Inc. to the Company. Additionally, Mutual Assurance committed to transfer approximately $15 million of cash to the Company, of which $10 million was transferred during 1995 and $5 million during 1996. The Company has recorded the following capital contributions receivable (payable) with related parties:
December 31 December 31 1997 1996 ------------------ ----------------- Physicians Insurance Company of Indiana, Inc. $ - $ (3,600,000) Medical Assurance of West Virginia, Inc. - 13,643,000 Mutual Assurance, Inc. - (13,643,000) ------------------ ----------------- $ - $ (3,600,000) ================== =================
The 1995 capital contribution to Physicians Insurance Company of Indiana, Inc. was paid during 1996. During 1996 SURF distributed approximately $3,628,000 in earnings to the Company. 52 53 MEDICAL ASSURANCE, INC. AND SUBSIDIARIES SCHEDULE III - SUPPLEMENTARY INSURANCE INFORMATION Years Ended December 31, 1997, 1996, and 1995 (dollars in thousands)
1997 1996 1995 ------------------------------------------------------ Deferred policy acquisition costs.............................. $ 7,304 $ 4,590 $ 1,891 Reserve for losses and loss adjustment expenses................ 614,729 548,742 432,945 Unearned premiums.............................................. 79,700 54,920 47,319 Net premiums earned............................................ 118,967 104,518 75,953 Premiums assumed from other companies.......................... 12,628 11,681 6,646 Net investment income.......................................... 38,474 32,114 29,582 Net losses and loss adjustment expenses........................ 77,674 72,759 53,642 Underwriting, acquisition and insurance expenses: Amortization of deferred policy acquisition costs......... 15,412 11,065 5,450 Other underwriting, acquisition and insurance expenses............................... 18,491 14,664 12,446 Net premiums written........................................... 140,200 105,961 85,101
53 54 MEDICAL ASSURANCE, INC. AND SUBSIDIARIES SCHEDULE IV - REINSURANCE Years Ended December 31, 1997, 1996, and 1995 (dollars in thousands)
1997 1996 1995 ----------------------------------------------------------------------- PROPERTY & CASUALTY Earned premiums before reinsurance $ 138,352 $ 118,211 $ 87,870 Reinsurance expense (32,432) (29,644) (18,561) Assumed from other companies 11,401 15,951 6,646 ------------------- ------------------ ------------------ Net premiums earned $ 117,321 $ 104,518 $ 75,955 =================== ================== ================== Percentage of amount assumed to net 9.72% 15.26% 8.75% =================== ================== ================== ACCIDENT AND HEALTH Gross premiums earned $ 8,308 (a) $ 0 (a) $ 1 (a) Ceded to other companies (6,662) 0 (3) Assumed from other companies 0 0 0 ------------------- ------------------ ------------------ Net premiums earned $ 1,646 $ 0 $ (2) =================== ================== ================== Percentage of amount assumed to net 0.00% 0.00% 0.00% =================== ================== ================== OTHER Gross premiums earned 0 0 0 Ceded to other companies 0 0 0 Assumed from other companies 0 0 0 ------------------- ------------------ ------------------ Net premiums earned $ 0 $ 0 $ 0 =================== ================== ================== Percentage of amount assumed to be net 0.00% 0.00% 0.00% =================== ================== ================== Total net premiums earned $ 118,967 $ 104,518 $ 75,953 =================== ================== ==================
(a) During first quarter 1995, PROActive Insurance Corporation discontinued its operations. 54 55 MEDICAL ASSURANCE, INC. AND SUBSIDIARIES SCHEDULE VI - SUPPLEMENTARY PROPERTY AND CASUALTY INSURANCE INFORMATION Years Ended December 31, 1997, 1996, and 1995 (dollars in thousands)
1997 1996 1995 ------------------------------------------------------------ Deferred policy acquisition costs................................ $ 7,304 $ 4,590 $ 1,891 Reserve for losses and loss adjustment expenses.................. 614,720 548,732 432,937 Unearned premiums................................................ 79,700 54,920 47,319 Net premiums earned.............................................. 118,967 104,518 75,955 Net investment income............................................ 38,474 31,129 29,317 Losses and loss adjustment expenses incurred related to current year, net of reinsurance................. 124,353 100,186 81,087 Losses and loss adjustment expenses incurred related to prior year, net of reinsurance................... (46,679) (27,427) (27,389) Amortization of deferred policy acquisition costs................ 15,412 11,065 5,450 Paid losses and loss adjustment expenses related to current year losses, net of reinsurance..................... (5,203) (3,468) (7,589) Paid losses and loss adjustment expenses related to prior year losses, net of reinsurance....................... (48,390) (27,415) (24,102)
55 56 EXHIBIT INDEX
Exhibit Number Description Page - ------ ----------- ---- 3.1 Certificate of Incorporation of Medical Assurance, Inc. (3) 3.2 Certificate Amendment to Certificate of Incorporation of Medical Assurance, Inc. 3.3 Bylaws of Medical Assurance, Inc. (3) 4 Specimen of Common Stock Certificate of Medical Assurance, Inc. 10.1 Employment Agreement between A. Derrill Crowe, M.D. and Mutual Assurance, Inc., including amendments (1) 10.2 Employment Agreement between Bradley DeMonbrun, Ltd. and MOMED Holding Co., including amendments (7) 10.3 Medical Assurance, Inc. Incentive Compensation Plan (formerly known as the Mutual Assurance, Inc. 1995 Stock Award Plan) (3) 10.4 Amendment and Assumption Agreement by and between Mutual Assurance, Inc. and MAIC Holdings, Inc. dated April 8, 1996 (6) 10.5 MAIC Holdings, Inc. Director Deferred Compensation Plan 10.6 MAIC Holdings, Inc. Executive Incentive Compensation Plan 10.7 Agreement between the Medical Association of the State of Alabama and Mutual Assurance Society of Alabama dated July 1, 1977 (1) 10.8 Endorsement and Marketing Agreement by and between Mutual Assurance, Inc., West Virginia Health Services, Inc., a West Virginia corporation wholly-owned by West Virginia Hospital Association, a West Virginia non-profit corporation, and West Virginia Hospital Insurance Company, a West Virginia insurance company, dated January 1, 1994 (2)
56 57
Exhibit Number Description Page - ------ ----------- ---- 10.9 Endorsement and Marketing Agreement by and between Medical Assurance of West Virginia, Inc., a West Virginia insurance corporation and subsidiary of Mutual Assurance, Inc., and the West Virginia State Medical Association, a West Virginia non-profit corporation dated December 1, 1994 (2) 10.10 Endorsement, Marketing and Sponsorship Agreement effective as of January 1, 1995 between Physicians Insurance Company of Indiana and The Indiana State Medical Association (6) 10.11 Stock Purchase Agreement by and between Mutual Assurance, Inc. and Indiana State Medical Association, an Indiana non-profit corporation and Physicians Insurance Company of Indiana, an Indiana insurance company effective as of January 1, 1995 (2) 10.12 Escrow Agreement among Physicians Insurance Company of Ohio, Mutual Assurance, Inc., and SouthTrust Bank of Alabama, National Association effective as of July 16, 1995 (4) 10.13 Credit Agreement dated as of December 15, 1995, between Medical Assurance, Inc. and SouthTrust Bank of Alabama, National Association (5) 10.14 Agreement and Plan of Merger between MOMED Holding Co., MAIC Holdings, Inc., and MOMED Acquisition, Inc., dated June 11, 1996 (7) 10.15 Nomination Agreement between MOMED Holding Co. and Missouri State Medical Association dated July 21, 1994 (7) 10.16 Reciprocal Assistance Agreement between Missouri Medical Insurance Company, a Missouri corporation and the Missouri State Medical Association, a Missouri non-profit corporation, dated July 21, 1994 (7) 10.17 License Agreement between Missouri Medical Insurance Company, a Missouri corporation, and the Missouri State Medical Association, a Missouri non-profit corporation, dated July 21, 1994 (7)
57 58
Exhibit Number Description Page - ------ ----------- ---- 10.18 First Amended and Restated MOMED Holding Co. Self-Insured Directors and Officers Liability Trust Agreement between MOMED Holding Co., a Missouri corporation; its subsidiaries; and Boatmen's Trust Company, a trust company organized under the laws of Missouri, dated May 7, 1993 (7) 10.19 Nomination Agreement between MOMED Holding Co. and MAIC Holdings, Inc. dated December 10, 1996 (8) 21 Subsidiaries of Medical Assurance, Inc. 23 Consent of Ernst & Young LLP 27 Financial Data Schedule (for SEC use only).
58 59 (1) Filed as an exhibit to Mutual Assurance's Registration Statement on Form S-1 (Commission File No. 33-35223) and incorporated herein by the reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (2) Filed as an exhibit to Mutual Assurance's Form 10-K for the year ended December 31, 1994 (Commission File No. 0-19439) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (3) Filed as an exhibit to MAIC Holdings' Registration Statement on Form S-4 (Commission File No. 33-91508) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (4) Filed as an exhibit to Mutual Assurance's Form 8-K for event occurring August 28, 1995, and incorporated herein by this reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (5) Filed as an exhibit to MAIC Holdings' Form 10-K for the year ended December 31, 1995 (Commission File No. 0-19439) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (6) Filed as an exhibit to MAIC Holdings' Proxy Statement for the 1996 Annual Meeting (Commission File No. 0-19439) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (7) Filed as an exhibit to MAIC Holdings' Registration Statement on Form S-4 (Commission File No. 333-13465) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. (8) Filed as an exhibit to MAIC Holdings' Form 10-K for the year ended December 31, 1996 (Commission File No. 001-12129) and incorporated herein by reference pursuant to Rule 12b-32 of the Securities and Exchange Commission. 59 EX-3.2 2 AMENDMENT TO CERTIFICATE OF INCORPORATION 1 EXHIBIT 3.2 60 2 CERTIFICATE OF AMENDMENT OF CERTIFICATE OF INCORPORATION OF MAIC HOLDINGS, INC. MAIC Holdings, Inc., a corporation organized and existing under the laws of the State of Delaware (the "Corporation"), and having its registered office in the State of Delaware in the county of New Castle, 1209 Orange Street, Wilmington, Delaware, does hereby certify as follows: (i) that the following resolution is a true and correct copy of the resolution adopted by the Board of Directors of the Corporation proposing an amendment to the Certificate of Incorporation of the Corporation and declaring its advisability in accordance with the provisions of Section 242 of the General Corporation Law of the State of Delaware: WHEREAS, it has been proposed that MAIC Holdings, Inc. change its name to Medical Assurance, Inc. to promote the identity of its insurance subsidiaries in the states in which they are doing business; WHEREAS, the change of the name of the Corporation will require an amendment of its Certificate of Incorporation; WHEREAS, Section 242 of the General Corporation Law of Delaware (the "Act") requires that the amendment be proposed by resolution of the Board of Directors and that the Board of Directors direct that such proposed amendment be submitted to a vote of the stockholders for approval; NOW, THEREFORE, BE IT RESOLVED by the Board of Directors of MAIC Holdings, Inc. (the "Corporation") that the Board of Directors hereby recommends that the name of the Corporation be changed from MAIC Holdings, Inc. to Medical Assurance, Inc., and subject to approval of the stockholders in accordance with the Act, proposes that the name be accomplished by amending the Certificate of Incorporation as follows (the "Proposed Amendment"): (a) The heading of the Certificate of Incorporation shall be deleted in its entirety and shall be amended to read as follows: CERTIFICATE OF INCORPORATION OF MEDICAL ASSURANCE, INC. (b) The FIRST section of the Certificate of Incorporation shall be deleted in its entirety and shall be amended to read as follows: FIRST: The name of the corporation is Medical Assurance, Inc. RESOLVED FURTHER, by the Board of Directors of the Corporation that the Proposed Amendment be submitted to a vote of the stockholders of the Corporation at the next annual meeting in accordance with Section 242 of the Act; and 61 3 RESOLVED FURTHER, by the Board of Directors that if the Proposed Amendment is approved by the stockholders in accordance with the Act, the proper officers of the Corporation be, and each of them is hereby, authorized, directed and empowered to prepare and execute a certificate setting forth the amendment and certifying that such amendment has been duly adopted in accordance with the Act and to file the same with the Secretary of State of Delaware and to pay all fees and expenses in connection therewith as soon as practicable after the Proposed Amendment has been so adopted. (ii) that pursuant to resolution of its Board of Directors, a meeting of the stockholders of the Corporation was duly called and held, upon notice in accordance with Section 222 of the General Corporation law of the state of Delaware at which meeting the necessary number of shares as required by statute were voted in favor of the amendment; and (iii) that said amendment has been duly adopted in accordance with applicable provisions of Sections 242 and 222 of the General Corporation Law of the State of Delaware. (iv) that said amendment shall become effective on June 1, 1997. 62 4 IN WITNESS WHEREOF, the Corporation has caused this Certificate to be signed by A. Derrill Crowe, M.D., its President, this 21st day of May, 1997. MAIC HOLDINGS, INC. By: /s/ A. Derrill Crowe, M.D. ------------------------------------- A. Derrill Crowe, M.D. Its President STATE OF ALABAMA) JEFFERSON COUNTY) Before me, a notary public in and for said county, in said state, personally appeared A. Derrill Crowe, M.D. on this date, who being first duly sworn, did depose, acknowledge and say as follows: (i) that affiant is President of MAIC Holdings, Inc., a Delaware corporation, named in the foregoing Certificate of Amendment, (ii) that he, as such officer, is authorized and empowered to make this sworn verification and to cause the Certificate of Amendment to be executed, acknowledged and filed for record on behalf of the corporation, and (iii) that he, as such officer of said corporation, is familiar with the contents of the foregoing Certificate of Amendment as the act and deed of said corporation, and the matters set forth therein are true. Given under my hand and official seal, this the 21st day of May, 1997. /s/ William K. Holbrook ---------------------------------------- Notary Public My Commission Expires 9/5/99 ------------------ [Notary Seal] 63 5 State of Delaware Office of the Secretary of State -------------------------------- I, EDWARD J. FREEL, SECRETARY OF STATE OF THE STATE OF DELAWARE, DO HEREBY CERTIFY THE ATTACHED IS A TRUE AND CORRECT COPY OF THE CERTIFICATE OF AMENDMENT OF "MAIC HOLDINGS, INC.", CHANGING ITS NAME FROM "MAIC HOLDINGS, INC." TO MEDICAL ASSURANCE, INC.", FILED IN THIS OFFICE ON THE TWENTY-FIRST DAY OF MAY, A.D., 1997, AT 12:30 O'CLOCK P.M. [SEAL] /s/ Edward J. Freel ---------------------------------------- Edward J. Freel, Secretary of State 2472240 8100 AUTHENTICATION: 8475582 [SEAL] 971166079 DATE: 05-21-97 64 EX-4 3 SPECIMAN OF COMMON STOCK CERTIFICATE 1 EXHIBIT 4 65 2 EXHIBIT 4 NUMBER COMMON STOCK COMMON STOCK [SHARES] [MA] par value $1.00 MEDICAL ASSURANCE, INC. CUSIP 58449U 10 0 Incorporated under the laws of the State of Delaware see reverse for certain definitions THIS CERTIFIES THAT [LOGO] IS THE OWNER OF Fully-paid and non-assessable shares of the Common Stock of MEDICAL ASSURANCE, INC. transferable on the books of the Corporation by the holder hereof in person or by duly authorized Attorney upon surrender of this Certificate properly endorsed. This Certificate is not valid unless countersigned and registered by the Transfer Agent and Registrar. Witness the seal of the Corporation and the signatures of its duly authorized officers. MEDICAL(R) Dated: Countersigned and Registered: [LOGO] ASSURANCE CHASEMELLON SHAREHOLDER SERVICES, L.L.C. - ------------------------ [SEAL] MEDICAL ASSURANCE, INC. Transfer Agent and Registrar /s/ /s/ By SECRETARY PRESIDENT Authorized Signature
66 EX-10.5 4 MAIC HOLDINGS, INC. DIRECTOR COMPENSATION PLAN 1 EXHIBIT 10.5 67 2 MAIC HOLDINGS, INC. DIRECTOR DEFERRED COMPENSATION PLAN 68 3 MAIC HOLDINGS, INC. DIRECTOR DEFERRED COMPENSATION PLAN (THE "PLAN") ARTICLE I ELIGIBILITY The Board of Directors of MAIC Holdings, Inc. (the "Company") may from time to time authorize to participate in the Plan any person ("Eligible Persons") who is elected and is currently serving in the following capacities: (i) as a member of the Board of Directors of MAIC Holdings, Inc. (the "Company");(ii) as a member of the Board of Directors of any subsidiary or affiliated entity which is at least fifty-one percent (51%) owned, directly or indirectly, by the Company (referred to collectively as "Subsidiaries" and individually as "Subsidiary"); or (iii) or as a member of an advisory committee to the Boards of Directors (herein defined) The Boards of Directors of the Company and the Subsidiaries are collectively referred to as the "Boards of Directors." ARTICLE II COMPENSATION SUBJECT TO PLAN The compensation subject to the Plan ("Compensation") shall include any and all compensation paid to Eligible Persons in their capacities as directors or as members of an advisory committee. The reimbursement for expenses incurred by any Eligible Person in commuting between his or her city of residence and the place of meeting of any of the Boards of Directors or any advisory committee thereto shall not be subject to the Plan. ARTICLE III ELECTION AS TO FORM AND TIME OF PAYMENT A. Cash or Stock Election. Each Eligible Person may elect to have his or her Compensation paid in any of the following forms of payment: (1) United States currency ("Cash"); or (2) Common Stock of the Company ("Stock"); or (3) Cash and Stock. B. Current or Deferred Payment Election. Subject to the limitations set forth in Section III.C. below, each Eligible Person may elect to receive his or her Compensation as either: (1) A current payment in accordance with Section IV below ("Current Compensation"); (2) A deferred payment in accordance with Section V below ("Deferred Compensation"); or (3) A combination of Current Compensation and Deferred Compensation. C. Limitation on Election. Those Eligible Persons who elect to receive a combination of Cash and Stock under Section III.A.(3) above and/or a combination of Current Compensation and Deferred Compensation under Section III.B.(3) above shall be subject to the following limitations: 69 4 (1) If an Eligible Person elects to receive Cash and Stock, at least 50% of the Compensation must be payable in Stock; and (2) If an Eligible Person elects to receive both Cash and Stock and Current Compensation and Deferred Compensation, 100% of all payments in Stock must be payable as either Current Compensation or Deferred Compensation. Example: If an Eligible Person elects to be paid 25% Cash and 75% Stock; the election is permissible because not less than 50% of the payments must be made in Stock. The Eligible Person can then elect the percentage compensation to be paid as Current Compensation and Deferred Compensation, but the payments in Stock cannot be divided into both Current Compensation and Deferred Compensation. Accordingly, such Eligible Person will be required to elect to receive not less than 75% of his compensation (all of the Stock portion) either as Current Compensation or Deferred Compensation. D. Procedure for Making Elections. Subject to the provisions of Section III.E. below, each Eligible Person will make a written election as to the form and time of payment of his or her Compensation under Section III.A. and III.B. above for each year that he or she is an Eligible Person. In the case of initial elections hereunder by persons who are Eligible Persons as of January 1, 1996, the effective date of the Plan ("Effective Date"), the election must be made within thirty (30) days after the Effective Date. Thereafter, the election must be made before December 31 of the calendar year immediately preceding the calendar year to which the election applies. In the case of a person who first becomes an Eligible Person during a calendar year, his or her election must be made within thirty (30) days of the event upon which he or she becomes an Eligible Person unless otherwise agreed by the Company. Elections will be made on forms prescribed by the Company and may be obtained from the office of the Treasurer of the Company ("Election Forms"). Election Forms must be fully completed, executed and returned to the office of the Treasurer on or before the applicable deadline in order to be effective. If an Eligible Person desires to receive both Stock and Cash, his or her Election Form must indicate the percentages of his or her Compensation to be paid as Cash and Stock (subject to the limitations in Section III.C. above) and if an Eligible Person desires to receive both Current Compensation and Deferred Compensation, his or her Election Form must indicate the respective percentages to be paid as Current Compensation and Deferred Compensation (subject to the limitations in Section III.C. above). If an Election Form is not so returned by the applicable deadline, the Eligible Person will be deemed to have elected to continue his prior year's election, or if there is no prior year election, such Eligible Person will be deemed to have elected to receive Current Cash Compensation in accordance with Sections III.A.(a) and III.B.(a) above. E. Revocation of Elections. No Eligible Person shall have the right to retroactively revoke any prior election under this Article III. An Eligible Person may prospectively revoke his or her election and make a new election for the next calendar quarter if such Eligible Person executes and delivers a new Election Form to the Treasurer of the Company not less than thirty (30) days prior to the end of the current calendar quarter. 70 5 ARTICLE IV CURRENT COMPENSATION A. Cash. Current Compensation payable in Cash shall be payable at such time as may be authorized from time to time by the Board of Directors of the Company. B. Stock. Current Compensation payable in Stock will be paid in accordance with the following procedure. The amount of Compensation for each Eligible Person will be determined and accrued for the account of such Eligible Person each calendar quarter. Said amount shall be divided by the closing price of a share of Stock on the first trading day for the next succeeding calendar quarter ("Closing Price") in order to determine the number of shares of Stock to be paid to the Eligible Person for said quarter. The Closing Price shall be determined by reference to the NASDAQ National Automated Quotation System or such other exchange or national quotation system on which the Stock may then be listed. The Company shall promptly deliver to the Eligible Person the number of whole shares of Stock as so determined by depositing the same in an account established by the Eligible Person with a registered broker dealer (a "Brokerage Account"). Cash will be paid to the Eligible Person in lieu of fractional shares based on the Closing Price of a share of Stock as determined above. In order to make the election to receive Current Compensation in the form of Stock, the Eligible Person must designate the Brokerage Account on the annual Election Form provided by the Company. The Brokerage Account may be changed for any calendar quarter by written notice to the Treasurer of the Company at least thirty (30) days prior to the end of said quarter. Said written notice shall include all of the information requested on the Election Form for the designation of the Brokerage Account including: the name of the broker-dealer, the name of the account executive, the address and telephone number of the broker-dealer, the Broker-dealer's ABA Number, the exact name and account number of the Brokerage Account, and such other information as the Company may reasonably require. C. Withholding. All payments of Current Compensation shall be subject to applicable laws relating to the withholding and payment of taxes under federal, state and local law. For purposes of determining the number of shares of Stock that are payable to an Eligible Person all required withholdings shall be subtracted from the sum of the Compensation before the Closing Price is divided into said sum in order to determine the number of shares of Stock to be paid to an Eligible Person in a calendar quarter. The Company will be responsible for the payment of income and payroll taxes so withheld. ARTICLE V DEFERRED PAYMENTS A. Time of Payment. Any Eligible Person who elects to receive Deferred Compensation under this Section V shall be paid the balance in his or her Cash Deferred Compensation Account (herein defined) and Stock Deferred Compensation Account (herein defined) within 60 days after such person ceases to qualify as an Eligible Person. In the case of any Eligible Person who dies, payment of the balance in his or her accounts shall be made to the beneficiary designated by the Eligible Person in his or her most recent annual Election Form within 60 days after the Eligible Person's date of death, or, if the designated beneficiary is the Eligible Person's estate, within 60 days after the appointment of the personal representative of the Eligible Person's estate. The Cash Deferred Compensation Account will be established and maintained in accordance with Section V.B.1. below and the Stock Deferred Compensation Account will be established and maintained in accordance with Section V.B.2. below. B. Cash Only Election. Notwithstanding an Eligible Person's election to have part or all of his or her Compensation paid in Stock, an Eligible Person or beneficiary who is eligible to receive the balance in the Eligible Person's Stock Deferred Compensation Account may elect to receive Cash only with respect to such account. Such election must be made within 30 days after the Eligible Person ceases to qualify as an 71 6 Eligible Person and must be made with respect to the Eligible Person's entire account balance. If such election is made, the Eligible Person or beneficiary will receive the same amount of Cash which would have been distributable had the Eligible Person elected to have all of his or her Compensation paid in Cash under Section III.A.(1) above and deferred pursuant to Section III.B.(2) above. The amount distributable will be determined in accordance with Section V.C.(1) below. C. Deferred Compensation Accounts. The Company will establish a Deferred Compensation Account ("Deferred Compensation Account") for each Eligible Person who elects to receive Deferred Compensation. The Deferred Compensation Account will evidence the amount of Compensation that the Eligible Person would receive at any time if he or she ceased to be an Eligible Person. The Deferred Compensation will be credited to the Deferred Compensation Account in the following manner: (1) Cash Compensation. Payments to be made in Cash will be credited to the Cash Deferred Compensation Account of an Eligible Person at the same time that the Current Cash Payments are paid to Eligible Persons under Section IV.A. above. The Company will pay interest on the balance (including accrued interest) in the Cash Deferred Compensation Account at the LIBOR rate as published daily in the Wall Street Journal or similar national business publication. Interest on funds credited to the Cash Deferred Compensation Account (including accrued interest) will begin to accrue on the first day of the calendar quarter next succeeding the date they are first credited to the account. (2) Stock Compensation. The amount of Compensation payable to an Eligible Person will be credited to his or her Stock Deferred Compensation Account at the end of each calendar quarter. On the first day of the next succeeding calendar quarter the number of shares of Stock to be credited to the Stock Deferred Compensation Account will be determined by dividing the amount credited to the Stock Deferred Compensation Account in the preceding calendar quarter by the closing price of a share of Stock on the first day of the current calendar quarter. The closing price shall be determined by reference to the NASDAQ National Quotation System or the exchange or national quotation system on which the Stock is currently listed. The Company will credit the Cash Deferred Compensation Account in lieu of fractional shares of Stock based on the closing price of a share of Stock provided above. D. Source of Payment. The compensation payable hereunder will not be funded currently nor will segregated funds or shares of Stock be maintained to pay such Deferred Compensation. (1) Cash. Compensation payable in Cash will be paid from the assets then available to the Company and will be subject to claims of the Company's creditors prior to payment. (2) Stock. Deferred Compensation payable in Stock has been reserved for issuance pursuant to the MAIC Holdings, Inc. Incentive Compensation Stock Plan; provided that the granting of the award under the MAIC Holdings, Inc. Incentive Compensation Plan shall be subject to the condition that the Company have sufficient net assets to apply to its capital and surplus in payment for the Stock an amount equal to the Compensation credited to the Stock Deferred Compensation Account of the Eligible Person. Until the time of payment of the Deferred Compensation, the Eligible Person shall have no rights of ownership with respect to the Stock credited to the Stock Deferred Compensation Account and such stock shall not be considered to be issued and outstanding until issued and delivered to the Eligible Person at the time provided in Section V.A. above; provided, however, that notwithstanding anything herein to the contrary, there shall be credited to the Stock Deferred Compensation Account as a liability of the Company to the Eligible Person: (i) an amount equal to all dividends that would otherwise be payable with respect to the Stock credited to the Stock Deferred Compensation Account; and (ii) an amount equal to the sum of all proceeds that would otherwise be payable with respect to the Stock credited to the Stock Deferred Compensation Account 72 7 as a result of a merger, consolidation, recapitalization, liquidation or other reorganization of the Company; and provided further that the Stock credited to the Stock Deferred Compensation shall be subject to adjustment in the case of changes in the capitalization of the Company or change of control of the Company in accordance with Section 5.2(a) of the MAIC Holdings, Inc. Incentive Compensation Plan. (3) Liability of the Company. The obligation to pay the Deferred Compensation shall be considered a liability of the Company to make benefit payments in the future to the Eligible Person subject to the claims of its general unsecured creditors and shall be payable to the Eligible Person in consideration for the cancellation of such liability (and not for past services in the case of Deferred Compensation payable in Stock). In the event that the Company is involved in bankruptcy proceedings at any time prior to the payment of the Deferred Compensation, the liability of the Company to pay the Deferred Compensation shall be subject to adjustment and discharge on the same basis as liabilities to the other general unsecured creditors of the Company. It is the intention of the Company that the Plan be unfunded for tax purposes and for purposes of Title I of the Employee Retirement Income Security Act of 1974, as amended. (4) Spendthrift Provision. An Eligible Person's rights to payments under the Plan are not subject in any manner to anticipation, alienation, sale, transfer, assignment, pledge, encumbrance, attachment, or garnishment by creditors of the Eligible Person or the Eligible Person's beneficiary. E. Withholding. All payments of Deferred Compensation shall be subject to all applicable laws in effect at the time of payment regarding withholding and payment of taxes under federal, state and local law. For purposes of determining the number of shares of Stock that are payable to an Eligible Person from the Stock Deferred Compensation Account, the number of shares of Stock payable to the Eligible Person shall be reduced by a number of shares of Stock needed to equal the amount of the required withholding, which number of shares shall be calculated by adding the shares of Stock having the highest price until the sum of the price of such shares is equal to the amount of the required withholding. ARTICLE VI STOCK CERTIFICATES A. The Company shall not be required to issue or deliver any certificate for shares of Stock payable hereunder or any portion thereof prior to fulfillment of all of the following conditions: (1) The admission of such shares to listing on all stock exchanges or markets on which the Stock is then listed; (2) The completion of any registration or other qualification of such shares which the Company shall deem necessary or advisable under any federal or state law or under the rulings or regulations of the Securities and Exchange Commission or any other governmental regulatory body; (3) The obtaining of any approval or other clearance from any federal or state governmental agency or body which the Company shall determine to be necessary or advisable; and B. Stock certificates issued and delivered to Eligible Persons shall bear such restrictive legends as the Company shall deem necessary or advisable pursuant to applicable federal and state securities laws. 73 8 ARTICLE VII TERMINATION AND AMENDMENT OF PLAN A. The Board of Directors of the Company may at any time terminate the Plan, and may at any time and from time to time and in any respect amend the Plan. B. No termination, amendment or modification of the Plan shall affect adversely the rights of an Eligible Person with respect to his or her Deferred Compensation Account nor shall any Eligible Person be entitled to accelerate the terms and conditions for the payment of Deferred Compensation by reason of the termination, amendment or modification of the Plan. ARTICLE VIII RELATIONSHIP TO OTHER COMPENSATION PLANS The adoption of the Plan shall not affect any other stock option, incentive, or other compensation plans in effect for the Company or any of its Subsidiaries; nor shall the adoption of the Plan preclude the Company or any of its Subsidiaries from establishing any other form of incentive or other compensation plan for employees, officers, or directors of the Company or any of its Subsidiaries. ARTICLE IX MISCELLANEOUS A. Plan Binding on Successors. The Plan shall be binding upon the successors and assigns of the Company and its Subsidiaries. B. Singular, Plural; Gender. Whenever used herein, nouns in the singular shall include the plural, and the masculine pronoun shall include the feminine gender. C. Headings, etc. Headings of Articles and Sections hereof are inserted for convenience and reference; they do not constitute part of the Plan. D. Interpretation. Subject to the express provisions of the Plan, the Board of Directors of the Company shall have complete authority to interpret the Plan, to prescribe, amend and rescind rules and regulations relating to it, and to make all determinations necessary or advisable for the administration of the Plan. No member of the Board of Directors of the Company shall be liable to any person for any act or determination made in good faith with respect to the Plan or any Compensation payable hereunder. 74 EX-10.6 5 MAIC HOLDINGS, INC. EXECUTIVE COMPENSATION PLAN 1 EXHIBIT 10.6 75 2 EXECUTIVE INCENTIVE COMPENSATION PLAN MAIC HOLDINGS, INC. DECEMBER 5, 1996 For the past 18 months the management team of MAIC Holdings, Inc. (the "Company") has worked to design a cost-effective, yet meaningful incentive compensation program. In December 1995 the Board approved the Incentive Compensation Stock Plan (the "Stock Plan") to be presented at the Company's Annual Meeting in May 1996. This memorandum provides the details required for the Board's decision with regards to implementing an executive incentive compensation program using stock awards and stock options under the Stock Plan. SUMMARY & BACKGROUND The Company's accountants (Ernst & Young LLP) analyzed the overall compensation packages of ten companies that the accountants considered comparable to the Company and found that the Company's base salaries are in the lower end of comparable salaries for that group. Additionally, they determined that the Company is the only company in the peer group without some type of long-term incentive program in place. This places the Company at a disadvantage in retaining senior management and core staff members. Given the need to increase the total compensation package for key employees, yet control expenses, the Compensation Committee has recommended for adoption a two-tier incentive compensation program centered around the awarding of stock and stock options. The incentive levels will not bring the Company to the top tier of overall compensation within our peer group, but it has been judged by the Compensation Committee to be meaningful, and is well within the norms for companies comparable to the Company's size. PLAN DESCRIPTION The plan, as proposed, will award both short-term and long-term incentives as a percentage of an executive's annual salary. Incentive compensation would be paid annually subject to the Company meeting performance criteria satisfactory to the Compensation Committee in the applicable year. The plan would make incentive compensation dependent on individual Objective Criteria involving personal goals (i.e. meeting budgetary goals and department performance) and Subjective Criteria evaluated by the President and Executive Vice-President. The plan would be capped at 60% of an individual's yearly salary, and that maximum could only be reached through extraordinary effort and achievement of superlative results. Whatever the incentive amount, 50% is to be awarded as a short-term incentive, taking the form of Company stock award under the Stock Plan and cash in an amount sufficient to cover the Company's tax withholding requirements with respect to the stock award. By utilizing Company stock for the majority of the short-term award, there will be minimal impact, if any, on the Company's cash flow. The remaining 50% will be a long-term incentive and payable entirely in stock options granted under the Stock Plan that would be exercisable no sooner than six months from the date of the award. The price at which the options would be exercisable would be the price as of their date of issue. The long-term incentive has several advantages in that it encourages key employees to remain with the Company, it further aligns management's goals with those of our customers and shareholders, and the Company receives favorable tax treatment in the form of a non-cash deduction equal to the amount of any participant's gain when the options are exercised. 76 3 PLAN SCOPE The plan is currently designed to apply to the senior management team, but is envisioned as a tool to retain key employees at all levels of the Company and its subsidiaries. Obviously, changes may be required to make this plan relevant to different levels of responsibility within the company, but the spirit of the plan will remain the same at all levels. AUTHORIZATION The Compensation Committee approved the Executive Incentive Compensation Plan on December 6, 1996, with such changes as may be considered by management to be necessary or advisable in the implementation of the plan. The implementation of the Executive Incentive Compensation Plan is to commence in fiscal year ending December 31, 1997. 77 EX-21 6 SUBSIDIARIES OF MEDICAL ASSURANCE, INC. 1 EXHIBIT 21 78 2 SUBSIDIARIES OF MEDICAL ASSURANCE, INC. Mutual Assurance, Inc. (Alabama) Mutual Assurance Agency of Ohio, Inc. (Ohio) MAI Corporation (Delaware) Mutual Assurance Agency, Inc. (Alabama) PROActive Insurance Corporation (Alabama) Educational Services Institute, Inc. (Alabama) Medical Assurance of West Virginia, Inc. (West Virginia) Physicians Insurance Company of Indiana (Indiana) MOMED Holding Co. (Missouri) Missouri Medical Insurance Company (Missouri) Professional Liability Associates, Inc. (Missouri) Momedico Professional Services, Inc. (Missouri) 79 EX-23 7 CONSENT OF ERNST & YOUNG LLP 1 EXHIBIT 23 80 2 Consent of Independent Auditors We consent to the incorporation by reference in the Registration Statement (Form S-8 No. 33-55276 and Form S-8 No. 333-08267) pertaining to the Open Market Stock Purchase Plan of Medical Assurance, Inc. of our report dated February 6, 1998, with respect to the consolidated financial statements and schedules of Medical Assurance, Inc. included in the Annual Report (Form 10-K) for the year ended December 31, 1997. Birmingham, Alabama March 19, 1998 81 EX-27 8 FINANCIAL DATA SCHEDULE
7 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE FINANCIAL STATEMENTS OF MUTUAL ASSURANCE FOR THE YEAR ENDED DECEMBER 31, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 U.S. DOLLARS YEAR DEC-31-1997 JAN-01-1997 DEC-31-1997 1 617,914 0 0 44,880 0 11,933 720,202 12,248 150,598 0 1,063,173 614,729 79,700 53,752 0 0 0 0 21,722 265,466 1,063,173 118,967 38,474 1,739 1,562 77,674 15,412 18,491 49,165 11,707 37,458 0 0 0 37,458 1.74 1.74 548,742 124,353 (46,679) (5,203) (48,390) 614,729 (46,679) DEFERRED POLICY ACQUISITION COSTS, AMORTIZATION OF DEFERRED POLICY ACQUISITION COSTS AND MORTGAGE NOTES PAYABLE ARE NOT SEPARATELY DISCLOSED IN THE FINANCIAL STATEMENTS INCLUDED IN FORM 10K BECAUSE ITEMS ARE IMMATERIAL FOR INDIVIDUAL DISCLOSURE. DEFERRED POLICY ACQUISITION COSTS ARE INCLUDED AS A COMPONENT OF OTHER ASSETS; AMORTIZATION OF DEFERRED POLICY ACQUISITION COSTS IS INCLUDED AS A COMPONENT OF OTHER UNDERWRITING EXPENSES; MORTGAGE NOTES PAYABLE ARE INCLUDED AS A COMPONENT OF OTHER LIABILITIES.
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