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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR QUARTER ENDED JUNE 30, 2003
COMMISSION FILE NUMBER 1-9371
ALLEGHANY CORPORATION
EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER
DELAWARE
STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION
51-0283071
INTERNAL REVENUE SERVICE EMPLOYER IDENTIFICATION NUMBER
375 PARK AVENUE, NEW YORK NY 10152
ADDRESS OF PRINCIPAL EXECUTIVE OFFICE, INCLUDING ZIP CODE
212-752-1356
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE
NOT APPLICABLE
FORMER NAME, FORMER ADDRESS, AND FORMER FISCAL YEAR,
IF CHANGED SINCE LAST REPORT
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, AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE
PAST 90 DAYS.
YES X NO
INDICATE BY CHECK MARK WHETHER THE REGISTRANT IS AN ACCELERATED FILER (AS
DEFINED IN RULE 12B-2 OF THE EXCHANGE ACT).
YES X NO
INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF
COMMON STOCK, AS OF THE LAST PRACTICABLE DATE.
7,459,059 SHARES AS OF JULY 31, 2003
ITEM 1. FINANCIAL STATEMENTS
ALLEGHANY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
FOR THE THREE MONTHS ENDED
JUNE 30, 2003 AND 2002
(dollars in thousands, except share and per share amounts)
(unaudited)
2003 2002
REVENUES
Net fastener sales $ 27,292 $ 28,953
Interest, dividend and other income 13,111 10,990
Net insurance premiums earned 33,525 30,647
Net mineral and filtration sales 68,860 66,829
Net gain on investment transactions 1,578 4,354
---------- ----------
Total revenues 144,366 141,773
---------- ----------
COSTS AND EXPENSES
Commissions and brokerage expenses 9,370 6,063
Salaries, administrative and other
operating expenses 25,529 22,929
Loss and loss adjustment expenses 19,815 24,340
Cost of goods sold - fasteners 20,809 22,002
Cost of mineral and filtration sales 52,201 48,122
Interest expense 1,468 1,623
Corporate administration 6,483 3,251
---------- ----------
Total costs and expenses 135,675 128,330
---------- ----------
Earnings before income taxes 8,691 13,443
Income taxes 2,695 4,547
---------- ----------
Net earnings $5,996 $8,896
========== ==========
Basic earnings per share of common stock ** $0.81 $1.19
========== ==========
Diluted earnings per share of common stock ** $0.80 $1.09
========== ==========
Dividends per share of common stock * *
========== ==========
Average number of outstanding shares of common stock ** 7,433,436 7,479,050
========== ==========
* In March 2003, Alleghany declared a dividend consisting of one share of
Alleghany common stock for every fifty shares outstanding.
** Adjusted to reflect the common stock dividend declared in March 2003.
ALLEGHANY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
FOR THE SIX MONTHS ENDED
JUNE 30, 2003 AND 2002
(dollars in thousands, except share and per share amounts)
(unaudited)
2003 2002
REVENUES
Net fastener sales $ 55,245 $ 56,885
Interest, dividend and other income 25,091 19,977
Net insurance premiums earned 66,940 59,670
Net mineral and filtration sales 130,908 124,292
Net gain on investment transactions 4,842 38,947
---------- ----------
Total revenues 283,026 299,771
---------- ----------
COSTS AND EXPENSES
Commissions and brokerage expenses 16,425 11,556
Salaries, administrative and other
operating expenses 49,442 44,515
Loss and loss adjustment expenses 39,668 43,227
Cost of goods sold - fasteners 41,568 43,087
Cost of mineral and filtration sales 100,121 92,382
Interest expense 2,746 3,296
Corporate administration 12,783 9,014
---------- ----------
Total costs and expenses 262,753 247,077
---------- ----------
Earnings before income taxes 20,273 52,694
Income taxes 6,553 17,990
---------- ----------
Net earnings $ 13,720 $ 34,704
========== ==========
Basic earnings per share of common stock ** $ 1.85 $ 4.64
========== ==========
Diluted earnings per share of common stock ** $ 1.84 $ 4.53
========== ==========
Dividends per share of common stock * *
========== ==========
Average number of outstanding shares of common stock ** 7,423,296 7,484,571
========== ==========
* In March 2003, Alleghany declared a dividend consisting of one share of
Alleghany common stock for every fifty shares outstanding.
** Adjusted to reflect the common stock dividend declared in March 2003.
ALLEGHANY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JUNE 30, 2003 AND DECEMBER 31, 2002
(dollars in thousands, except share and per share amounts)
(UNAUDITED)
JUNE 30, DECEMBER 31,
2003 2002
----------- ------------
ASSETS
Available for sale securities: 6/30/2003 12/31/2002
--------- ----------
Equity securities (cost $410,359 $239,669 ) $ 707,066 $ 486,353
Debt securities (cost $383,794 $570,973 ) 392,935 580,606
Short-term investments 201,487 237,698
---------- ----------
1,301,488 1,304,657
Cash 114,641 27,423
Notes receivable 92,575 92,358
Accounts receivable 101,350 85,710
Reinsurance receivable 155,157 147,479
Deferred acquisition costs 24,840 22,547
Property and equipment - at cost,
less accumulated depreciation and amortization 171,471 173,539
Inventory 90,468 81,978
Goodwill and other intangibles, net of amortization 106,391 112,858
Other assets 105,693 85,833
---------- ----------
$2,264,074 $2,134,382
========== ==========
LIABILITIES AND COMMON STOCKHOLDERS' EQUITY
Current taxes payable $25,987 $28,372
Losses and loss adjustment
expenses 270,857 258,471
Other liabilities 144,946 147,411
Unearned premiums 84,431 64,115
Subsidiaries' debt 171,046 152,507
Net deferred tax liability 126,887 104,164
---------- ----------
Total liabilities 824,154 755,040
Common stockholders' equity 1,439,920 1,379,342
---------- ----------
$2,264,074 $2,134,382
========== ==========
Shares of common stock outstanding 7,458,192 7,409,282*
========== ==========
* Adjusted to reflect the common stock dividend declared in March 2003.
ALLEGHANY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
FOR THE SIX MONTHS ENDED
JUNE 30, 2003 AND 2002
(dollars in thousands)
(unaudited)
2003 2002
--------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 13,720 $ 34,704
Adjustments to reconcile net earnings to cash provided by (used in) operations:
Depreciation and amortization 10,013 10,065
Net gain on investment transactions (4,842) (38,947)
Tax benefit on stock options exercised 3,085 1,176
Other charges, net 26,161 9,997
Increase in account receivable (15,640) (37,049)
Increase in deferred acquisition costs (2,293) (4,833)
(Increase) decrease in other assets including goodwill (21,883) 29,430
Decrease in other liabilities and income taxes payable (4,849) (44,493)
Increase in unearned premium reserve 20,316 7,838
Increase (decrease) in losses and loss adjustment expenses 12,386 (20,542)
(Increase) decrease in reinsurance receivable (7,678) 26,357
--------- ---------
Net adjustments 14,776 (61,001)
--------- ---------
Cash provided by (used in) operations 28,496 (26,297)
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of investments (243,659) (561,331)
Sales of investments 268,296 325,661
Purchases of property and equipment (5,505) (5,579)
Net change in short-term investments 36,211 544,167
Other,
net 4,173 (16,489)
Acquisition of insurance companies, net of cash acquired (19,675) (221,056)
--------- ---------
Net cash provided by investing activities 39,841 65,373
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Principal payments on debt (48,926) (90,641)
Proceeds of debt 67,465 82,316
Treasury stock acquisitions 0 (18,360)
Other, net 342 4,168
--------- ---------
Net cash provided by (used in) financing activities 18,881 (22,517)
--------- ---------
Net increase in cash 87,218 16,559
Cash at beginning of period 27,423 15,717
--------- ---------
Cash at end of period $ 114,641 $ 32,276
========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest $ 2,163 $ 2,876
Income taxes $ 6,330 $ 48,873
Notes to the Consolidated Financial Statements
This report should be read in conjunction with the Annual Report on Form
10-K for the year ended December 31, 2002 (the "2002 Form 10-K") and the
Quarterly Report on Form 10-Q for the quarter ended March 31, 2003 (the "2003
First Quarter Form 10-Q") of Alleghany Corporation (the "Company").
The information included in this report is unaudited but reflects all
adjustments which, in the opinion of management, are necessary to a fair
statement of the results of the interim periods covered thereby. All adjustments
are of a normal and recurring nature except as described herein.
Stock-Based Compensation Accounting
The Company sponsors fixed option plans and a performance-based stock
plan, where awards are granted to eligible employees of the Company in the form
of non-qualified stock options or other stock-based awards. Prior to 2003, the
Company accounted for those plans under the recognition and measurement
provisions of APB Opinion No. 25, "Accounting for Stock Issued to Employees." No
compensation cost for the Company's fixed option plans is reflected in three and
six months ended June 30, 2002 net income, as all options granted under the
plans had an exercise price equal to the market value of the underlying common
stock on the date of grant. Effective January 1, 2003, the Company adopted the
fair value recognition provisions of FAS Statement No. 123, "Accounting for
Stock-Based Compensation," prospectively to all employee awards granted after
January 1, 2003. Therefore, the costs related to the Company's fixed option
plans and performance-based stock plan included in the determination of net
income for the three and six months ended June 30, 2003 is less than that which
would have been recognized if the fair value based method had been applied to
all awards prior to January 1, 2003.
The following table illustrates the effect on net earnings and earnings
per share if the fair value based method had been applied to all outstanding and
unvested awards under all of the Company plans in each period.
6
For the three months ended For the six months ended
(in thousands, except June 30, 2003 June 30, 2002 June 30, 2003 June 30, 2002
per share amounts) ---------- ---------- ---------- ----------
Net earnings, as reported $ 5,996 $ 8,896 $ 13,720 $ 34,704
Add: stock-based employee
compensation expense included
in reported net earnings, net
of related tax 755 (1,256) 1,337 (744)
Less: stock-based compensation
expense determined under fair
value method for all stock
options, net of related tax 1,330 462 2,255 923
---------- ---------- ---------- ----------
Pro forma net earnings $ 5,421 $ 7,178 $ 12,802 $ 33,037
========== ========== ========== ==========
Earnings per share
Basic - as reported $ 0.81 $ 1.19 $ 1.85 $ 4.64
Basic - pro forma $ 0.73 $ 0.96 $ 1.73 $ 4.41
Diluted - as reported $ 0.80 $ 1.09 $ 1.84 $ 4.53
Diluted - pro forma $ 0.72 $ 0.95 $ 1.72 $ 4.36
Change in Accounting
In April 2003, the FASB issued FAS Statement No. 149 "Amendment to
Statement No. 133 on Derivative Instruments and Hedging Activities." This
statement amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging activities
under FAS Statement No. 133 Accounting for Derivative Instruments and Hedging
Activities. The changes in FAS Statement No. 149 improve financial reporting by
requiring that contracts with comparable characteristics be accounted for
similarly. Those changes will result in more
7
consistent reporting of contracts as either derivatives or hybrid instruments.
FAS Statement No.149 is effective for contracts entered into or modified after
June 30, 2003, except in certain instances detailed in the Statement, and
hedging relationships designated after June 30, 2003. Except as otherwise stated
in FAS Statement No. 149, all provisions should be applied prospectively. FAS
Statement No. 149 will not have an impact on the Company.
In May 2003, the FASB issued FAS Statement No. 150, "Accounting for
Certain Financial Instruments with Characteristics of Both Liabilities and
Equity." FAS Statement No. 150 establishes standards for the classification and
measurement of certain financial instruments that have both liability and equity
characteristics. It requires that an issuer classify a financial instrument that
is within the scope of the Statement as a liability (or as an asset in some
circumstances). Many of those instruments were previously classified as equity.
FAS Statement No. 150 is effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the beginning of the
first interim period commencing after June 15, 2003, except for mandatorily
redeemable financial instruments of nonpublic entities. FAS Statement No. 150
will not have an impact on the Company.
FASB interpretation No. 46 "Consolidation of Variable Interest Entities"
("FIN 46") provides accounting and disclosure rules for variable interest
entities. A variable interest entity is an entity in which equity investors do
not have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. Variable interest
entities are often created for a single specific purpose, for example, to
facilitate asset securitization. FIN 46 became effective in the first quarter of
2003 for variable interest entities created, or in which an enterprise obtains
an interest, after January 31, 2003. It became effective July 1, 2003 for
variable interest entities in which an enterprise holds a variable interest that
it acquired before February 1, 2003. FIN 46 requires variable interest entities
to be consolidated by their primary beneficiaries if the entities do not
effectively disperse risk among the parties involved. FIN 46 requires
disclosures for entities that have either a primary or significant variable
interest in a variable interest entity. FIN 46 will not have an impact on the
Company.
Comprehensive Income
The Company's total comprehensive income for the three months ended June
30, 2003 and 2002 was $59.0 million and $11.7 million, and $57.1 million and
$31.7 million for the six months ended June 30, 2003 and 2002. Comprehensive
income includes the Company's net earnings adjusted for changes in unrealized
appreciation (depreciation) of investments, which were $47.1 million and $0.1
million for the three months ended June 30, 2003 and 2002, and $37.3 million and
$(5.5) million for the six months ended June 30, 2003 and 2002, and cumulative
translation adjustments, which were $5.9 million and
8
$2.6 million for the three months ended June 30, 2003 and 2002, and $6.1 million
and $2.4 million, for the six months ended June 30, 2003 and 2002.
Segment Information
Information concerning the Company's operations by industry segment is
summarized below:
For the three months ended For the six months ended
June 30, June 30, June 30, June 30,
(dollars in millions) 2003 2002 2003 2002
-------- -------- -------- --------
REVENUES
Property and casualty
insurance $ 38.3 $ 33.2 $ 77.0 $ 63.9
Mining and filtration 69.0 66.9 131.1 123.8
Industrial fasteners 27.3 29.0 55.3 56.9
Corporate activities 9.8 12.7 19.6 55.2
-------- -------- -------- --------
Total $ 144.4 $ 141.8 $ 283.0 $ 299.8
======== ======== ======== ========
EARNINGS (LOSSES) BEFORE
INCOME TAXES
Property and casualty
insurance $ 2.7 $ (2.2) $ 7.6 $ (0.9)
Mining and filtration 6.5 7.7 11.4 10.7
Industrial fasteners (1.8) 0.6 (1.7) 1.1
Corporate activities 1.3 7.3 3.0 41.8
-------- -------- -------- --------
Total 8.7 13.4 20.3 52.7
Income taxes 2.7 4.5 6.6 18.0
-------- -------- -------- --------
Net earnings $ 6.0 $ 8.9 $ 13.7 $ 34.7
======== ======== ======== ========
June 30, December 31,
(dollars in millions) 2003 2002
-------- ------------
IDENTIFIABLE ASSETS
Property and casualty
insurance $1,306.8 $ 666.8
Mining and filtration 316.3 320.9
Industrial fasteners 89.9 78.7
Corporate activities 551.1 1,068.0
-------- --------
Total $2,264.1 $2,134.4
======== ========
9
Contingencies
The Company's subsidiaries are parties to pending claims and litigation in
the ordinary course of their businesses. Each such operating unit makes
provisions on its books in accordance with generally accepted accounting
principles for estimated losses to be incurred as a result of such claims and
litigation, including related legal costs. In the opinion of management, such
provisions are adequate as of June 30, 2003.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION.
The following discussion and analysis presents a review of the Company and
its subsidiaries for the three and six months ended June 30, 2003 and 2002,
respectively. This review should be read in conjunction with the consolidated
financial statements and other data presented herein as well as Management's
Discussion and Analysis of Financial Condition and Results of Operation
contained in the Company's 2002 Form 10-K and 2003 First Quarter Form 10-Q.
The Company reported net earnings in the second quarter of 2003 of $6.0
million, compared with net earnings of $8.9 million in the second quarter of
2002. Net earnings include net gains on investment transactions after taxes
(taxed at the federal income tax rate) in the second quarter of 2003 of $1.0
million, compared with $2.8 million in the corresponding 2002 period. In the
first six months of 2003, Alleghany's net earnings were $13.7 million, or
approximately $1.85 per share, compared with net earnings of $34.7 million in
the first six months of 2002. The 2003 six-month net earnings include net gains
on investment transactions after taxes (taxed at the federal income tax rate) of
$3.1 million, compared with $25.3 million in the corresponding 2002 period.
The Company's common stockholders' equity per share at June 30, 2003 was
$193.07, an increase from common stockholders' equity per share of $185.85 as of
March 31, 2003 (both as adjusted for the stock dividend declared in March 2003).
Alleghany Insurance Holdings, a holding company for the Company's
insurance operations, which are conducted primarily through the subsidiaries of
Capitol Transamerica Corporation, recorded pre-tax earnings of $2.7 million on
revenues of $38.3 million in the second quarter of 2003, compared with a pre-tax
loss of $2.1 million on revenues of $33.2 million in the 2002 second quarter,
and pre-tax earnings of $7.6 million on revenues of $77.0 million in the first
six months of 2003, compared with a pre-tax loss of $0.9 million on revenues of
$63.9 million in the first six months of 2002. Alleghany Insurance Holdings'
2003 results include $1.9 million of start-up expenses for an underwriting
management company which underwrites directors and officers liability insurance
written by Capitol Transamerica's subsidiaries. The 2002 results include $1.6
million of adverse loss development on Capitol Transamerica's fidelity and
surety lines of business and an
10
increase in loss reserves of $3.5 million. Capitol Transamerica had a combined
ratio (the percentage of each premium dollar an insurance company has to spend
on claims and expenses) on a GAAP basis of 100.0% during the 2003 second quarter
and 99.5% in the first six months of 2003, compared with 111.4% during the 2002
second quarter and 106.5% in the first six months of 2002. Alleghany Insurance
Holdings recorded pre-tax investment income of $9.2 million and realized pre-tax
investment gains of $0.9 million in the first six months of 2003, compared with
pre-tax investment income of $6.9 million and pre-tax investment losses of $2.7
million in the corresponding 2002 period. Alleghany Insurance Holdings' 2003
pre-tax investment income reflects a larger invested asset base, principally due
to capital contributions by the Company. As further discussed in Part II, Item
5, on July 1, 2003, Alleghany Insurance Holdings completed its acquisition of
Royal Specialty Underwriting, Inc.
World Minerals recorded pre-tax earnings of $6.5 million on revenues of
$69.0 million in the 2003 second quarter, compared with pre-tax earnings of $7.7
million on revenues of $66.9 million in the 2002 second quarter, and pre-tax
earnings of $11.4 million on revenues of $131.1 million in the first six months
of 2003, compared with pre-tax earnings of $10.7 million on revenues of $123.8
million in the first six months of 2002. The 2003 first half results reflect the
favorable impact of the strengthening of the Euro and pound sterling against the
dollar (had foreign exchange rates remained constant with those of the first six
months in 2002, World Minerals' revenues would have been flat), lower margins
due to competitive pricing pressures and increased labor and benefit costs.
World Minerals is currently in the early stages of a periodic strategic
review of its business processes, overhead costs, sales strategies and plant
operations. As part of such review, which will be in process during the second
half of 2003, World Minerals will consider, among other things, the possibility
of consolidating or closing certain plants.
Heads & Threads International recorded a pre-tax loss of $1.8 million on
revenues of $27.3 million in the 2003 second quarter, compared with pre-tax
earnings of $0.6 million on revenues of $29.0 million in the 2002 second
quarter, and a pre-tax loss of $1.7 million on revenues of $55.3 million in the
first six months of 2003, compared with pre-tax earnings of $1.1 million on
revenues of $56.9 million in the first six months of 2002. The 2003 first half
results reflect reduced demand in the U.S. economy, competitive pricing
pressures, a $1.1 million restructuring charge in connection with changes in
senior management and the relocation of Heads and Threads' corporate offices
from New Jersey to Chicago, and higher material costs due to an increase in the
cost of steel from China.
As of June 30, 2003, the Company beneficially owned approximately 16.0
million shares, or 4.3 percent, of the outstanding common stock of Burlington
Northern Santa Fe Corporation, which had an aggregate market value on that date
of approximately $455.0
11
million, or $28.44 per share, compared with a market value on March 31, 2003 of
$398.4 million, or $24.90 per share. The aggregate cost of such shares is
approximately $181.8 million, or $11.36 per share.
The Company has previously announced that it may purchase shares of its
common stock in open market transactions from time to time. In the second
quarter of 2003, the Company did not purchase any shares of its common stock. As
of June 30, 2003, the Company had 7,458,192 shares of common stock outstanding
(which includes the stock dividend declared in March 2003).
The Company's results in the first six months of 2003 are not indicative
of operating results in future periods. The Company and its subsidiaries have
adequate internally generated funds and unused credit facilities to provide for
the currently foreseeable needs of its and their businesses.
Information regarding the Company's accounting policies is included in the
Company's 2002 Form 10-K, 2003 First Quarter Form 10-Q and the Notes to the
Consolidated Financial Statements included in this report on Form 10-Q.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Market risk is the risk of loss from adverse changes in market prices and
rates, such as interest rates, foreign currency exchange rates and commodity
prices. The primary market risk related to the Company's non-trading financial
instruments is the risk of loss associated with adverse changes in interest
rates. The investment portfolios of the Company and its insurance subsidiaries
may contain, from time-to-time, debt securities with fixed maturities that
expose them to risk related to adverse changes in interest rates.
The table below presents a sensitivity analysis of the debt securities of
the Company and its insurance subsidiaries that are sensitive to changes in
interest rates. Sensitivity analysis is defined as the measurement of potential
changes in future earnings, fair values or cash flows of market sensitive
instruments resulting from one or more selected hypothetical changes in interest
rates over a selected period of time. In this sensitivity analysis model, the
Company uses fair values to measure its potential change, and a +/- 300 basis
point range of change in interest rates to measure the hypothetical change in
fair value of the financial instruments included in the analysis. The change in
fair value is determined by calculating a hypothetical June 30, 2003 ending
price based on yields adjusted to reflect a +/-300 basis point range of change
in interest rates, comparing such hypothetical ending price to actual ending
price and multiplying the difference by the par outstanding.
12
SENSITIVITY ANALYSIS
At June 30, 2003
(dollars in millions)
Interest Rate Shifts -300 -200 -100 0 100 200 300
- ------------------------- ------ ------ ------ ------ ------ ------ ------
ASSETS
Debt securities 426.0 421.0 410.8 392.9 389.8 378.1 367.1
Estimated change in value 33.1 28.1 17.9 -- (3.1) (14.8) (25.8)
LIABILITIES
Subsidiaries' debt 170.6 170.2 170.0 171.0 172.1 173.2 174.3
Estimated change in value (0.5) (0.8) (1.0) -- 1.1 2.1 3.2
The Company's 2002 Form 10-K provides a more detailed discussion of the
market risks affecting its operations. Based on the Company's estimates as of
June 30, 2003, no material change has occurred in its assets and liabilities, as
compared to amounts disclosed in its 2002 Form 10-K.
13
ITEM 4. CONTROLS AND PROCEDURES
The Company carried out an evaluation, under the supervision and with
the participation of the Company's management, including the Chief Executive
Officer (the "CEO") and the Chief Financial Officer (the "CFO"), of the
effectiveness of the design and operation of the Company's disclosure controls
and procedures as of the end of the period covered by this report on Form 10-Q
pursuant to Rule 13a-15 promulgated under the Securities Exchange Act of 1934.
Based on that evaluation, the Company's management, including the CEO and CFO,
concluded that the Company's disclosure controls and procedures are effective in
timely alerting them to material information required to be included in the
Company's periodic reports required to be filed with the Securities and Exchange
Commission. It should be noted that the design of any system of controls is
based in part upon certain assumptions about the likelihood of future events,
and there can be no assurance that any design will succeed in achieving its
stated goals under all potential future conditions, regardless of how remote.
There have been no significant changes in internal control over financial
reporting that have materially affected, or are reasonably likely to materially
affect, the Company's internal control over financial reporting subsequent to
the date of such evaluation, including any corrective actions with regard to
significant deficiencies or material weaknesses.
Forward-Looking Statements
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Quantitative and Qualitative Disclosures About Market Risk"
contain disclosures which are forward-looking statements. Forward-looking
statements include all statements that do not relate solely to historical or
current facts, and can be identified by the use of words such as "may," "will,"
"expect," "project," "estimate," "anticipate," "plan" or "continue." These
forward-looking statements are based upon the Company's current plans or
expectations and are subject to a number of uncertainties and risks that could
significantly affect current plans, anticipated actions and the Company's future
financial condition and results. These statements are not guarantees of future
performance, and the Company has no specific intention to update these
statements. The uncertainties and risks include, but are not limited to, those
relating to conducting operations in a competitive environment and conducting
operations in foreign countries, effects of acquisition and disposition
activities, adverse loss development for events insured by the Company's
insurance operations in either the current year or prior years, general economic
and political conditions, including the effects of a prolonged U.S. or global
economic downturn or recession, changes in costs, including changes in labor
costs, energy costs and raw material prices, variations in political, economic
or other factors such as currency exchange rates, inflation rates or
recessionary or expansive trends, changes in market prices of the Company's
significant equity investments, tax, legal and regulatory changes, extended
labor disruptions, significant weather-related or other natural or human-made
disasters, especially with respect to their impact on losses at the Company's
insurance subsidiaries, civil unrest or other external factors over which the
Company has no control, and changes in the Company's plans, strategies,
objectives, expectations or intentions,
14
which may happen at any time at the Company's discretion. As a consequence,
current plans, anticipated actions and future financial condition and results
may differ from those expressed in any forward-looking statements made by or on
behalf of the Company.
15
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES.
(c) Recent Sales of Unregistered Securities.
On April 21, 2003, the Company issued 1,960 shares of common stock to
Allan P. Kirby, Jr. upon the exercise of an option to purchase 1,000 shares of
the Company's common stock, subject to adjustment for stock dividends and the
spin-off by the Company of Chicago Title Corporation in 1998, at an exercise
price of $74.97 per share, or $146,941.12 in the aggregate, granted to Mr. Kirby
on April 26, 1993 pursuant to the Alleghany Corporation Amended and Restated
Directors' Stock Option Plan. The sale of the common stock was exempt from
registration under the Securities Act of 1933, as amended (the "Securities
Act"), pursuant to Section 4(2) thereof, as a transaction not involving a public
offering.
On May 21, 2003, the Company issued an aggregate of 616 shares of the
Company's common stock to seven non-employee directors of the Company pursuant
to the Alleghany Corporation Directors' Equity Compensation Plan. Such shares
represent one-half of the value of each director's retainer for the following
twelve months' service as a director, exclusive of any per meeting fees,
committee fees or expense reimbursements. The sale of common stock was exempt
from registration under the Securities Act pursuant to Section 4(2) thereof, as
a transaction not involving a public offering.
The above does not include unregistered issuances of the Company's common
stock that did not involve a sale, consisting of issuances of common stock and
other securities pursuant to employee incentive plans.
16
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company's 2003 Annual Meeting of Stockholders was held on April 25,
2003. At the Annual Meeting, three directors were elected to serve for
three-year terms on the Company's Board of Directors, by the following votes:
FOR WITHHELD
John J. Burns, Jr. 5,731,831 427,259
Dan R. Carmichael 6,111,712 47,378
William K. Lavin 6,111,712 47,378
The selection of KPMG LLP as auditors for the Company for the year 2003
was ratified by a vote of 6,117,461 shares in favor and 31,374 shares opposed. A
total of 10,255 shares abstained from voting.
ITEM 5. OTHER INFORMATION
Acquisition of Royal Specialty Underwriting, Inc.
On July 1, 2003, Alleghany Insurance Holdings completed the acquisition of
Royal Specialty Underwriting, Inc. ("RSUI"), an Atlanta, Georgia-based wholesale
underwriting agency, from Royal Group, Inc., a subsidiary of Royal & Sun
Alliance Insurance Group plc ("R&SA"), for consideration of approximately $115
million. Alleghany Insurance Holdings also acquired renewal rights to the
ongoing business underwritten by RSUI for the insurance affiliates of R&SA and
the related net unearned premium reserve portfolio of approximately $320
million. The transaction did not include loss reserves associated with business
underwritten by RSUI for insurance affiliates of R&SA prior to the date of the
transaction.
To support future business to be underwritten by RSUI, on June 30, 2003
Alleghany Insurance Holdings acquired Underwriters Reinsurance Company ("URC"),
an insurance company admitted in 50 states, from Swiss Re America Holding
Corporation ("SRAH"). The Company had previously owned URC as part of its
subsidiary Underwriters Re Group, Inc., which was sold by Alleghany to SRAH in
May 2000. Prior to the acquisition of URC by Alleghany Insurance Holdings, all
of the existing business of URC was transferred to other affiliates of SRAH, so
that URC was acquired with no assets other than its licenses and minimum
statutory surplus required by the various states in an aggregate amount of
approximately $13.2 million, and no liabilities as SRAH contractually retained
all of the liabilities of URC that existed at the time of the sale. Alleghany
Insurance Holdings paid SRAH a purchase price of approximately $19.7 million for
URC. As part of the acquisition agreement, Alleghany Insurance Holdings agreed
to change the name of URC, and expects that the new name
17
will be RSUI Indemnity Company. For purposes of the remainder of this
discussion, URC will be referred to as "RIC."
Subsequent to the date of acquisition, Alleghany Insurance Holdings has
capitalized RIC with approximately $500 million, and A.M. Best Co. has assigned
it a financial strength rating of A (Excellent). RIC expects to acquire Landmark
American Insurance Company ("Landmark"), a surplus lines insurance company, from
an affiliate of R&SA during the third quarter of 2003. Landmark is expected to
write non-admitted (also referred to as excess and surplus, or E&S) business
underwritten by RSUI. Pending satisfaction of regulatory rate and form filings
by RIC and completion of the acquisition of Landmark, insurance affiliates of
R&SA are continuing to issue policies in respect of business underwritten by
RSUI and such policies will be fully reinsured by RIC.
RSUI and RIC are subsidiaries of a newly formed holding company, RSUI
Group, Inc., which is itself a subsidiary of AIHL.
Business of RSUI
The specialty insurance market focuses on risks that standard carriers
will not accept because they do not meet their underwriting criteria. RSUI
underwrites specialty insurance coverages in the property, umbrella/excess,
general liability, directors and officers liability and professional liability
areas. As of June 30, 2003, premiums related to RSUI underwritten business are
divided 55.0% for admitted business and 45.0% for E&S business and approximately
62.0% are written for specialty property coverages. Insurance policies
underwritten by RSUI for insurance affiliates of R&SA accounted for gross
written premiums of $1,205.0 million and net written premiums of $515.0 million
for the year ended December 31, 2002 and gross written premiums of $359.8
million and net written premiums of $162.0 million for the first quarter of
2003.
RSUI distributes its products exclusively through wholesale insurance
brokers located throughout the United States. Wholesalers typically structure
insurance programs on a layer-by-layer basis and find different underwriters to
fill out these programs. RSUI's underwriters generally focus on higher severity,
lower frequency risks. Particular emphasis is given to choosing the most
attractive layer of each specific risk.
As is customary in the insurance industry, RSUI Group's insurance
operations reinsure a portion of the risks they underwrite. Reinsurance provides
primary insurers such as RIC and Landmark with a reduction of net liability on
individual risks and with protection against catastrophic loss. RSUI Group's
insurance operations have reinsurance agreements with a number of domestic and
international reinsurance companies. The RSUI Group insurance companies use
reinsurance treaties in each of their product lines and also purchase
facultative reinsurance coverage for certain individual risks, where a
18
reinsurer separately rates and underwrites each individual risk and is free to
accept or reject each risk offered by the primary insurer.
RIC is domiciled in and must comply with the insurance laws of New
Hampshire. Landmark is domiciled in and must comply with the insurance laws of
Oklahoma. In each case, these laws regulate matters such as approving policy
forms and various premium rates, licensing agents, granting and revoking
licenses to transact business and regulating trade practices. These laws also
regulate the kind, quality and concentration of investments that may be held by
insurance companies. Insurance regulatory authorities in the insurer's state of
domicile regularly perform examinations of the insurer's market conduct and
other affairs. As an insurance carrier writing admitted business, RIC is also
subject to regulation in the other states where it does business, including
regulation with regard to rate and form filings, restrictions on the ability to
exit lines of business, and required membership in state sponsored guaranty
funds and similar organizations.
As an insurance holding company, RSUI Group is subject to the insurance
holding company laws of several states. Certain dividends and distributions by
an insurance subsidiary are subject to approval by the insurance regulators of
the domiciliary state of such subsidiary. Other significant transactions between
an insurance subsidiary and its holding company or other subsidiaries of the
holding company may require approval by insurance regulatory authorities in the
state of domicile of each of the insurance subsidiaries participating in such
transactions.
As of July 31, 2003, RSUI Group had approximately 290 employees,
approximately 220 of whom were based in the Atlanta, Georgia headquarters of
RSUI. The remaining employees were based in the Sherman Oaks, California
underwriting office of RSUI.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
Exhibit Number Description
10.1 Acquisition Agreement, dated as of June 6,
2003, by and between Royal Group, Inc. and
Alleghany Insurance Holdings LLC (the
"Acquisition Agreement").
10.2 List of Contents of Exhibits and Schedules to the
Acquisition Agreement. Alleghany agrees to
furnish supplementally a copy of any omitted
exhibit or schedule to the Securities and
Exchange Commission upon request.
19
10.3 Assignment and Assumption Agreement, dated as
of June 30, 2003, by and between Alleghany
Insurance Holdings LLC and RSUI Group, Inc.
(regarding the transfer of rights under the
Acquisition Agreement).
10.4 Quota Share Reinsurance Agreement, dated as of
July 1, 2003, by and between Royal Indemnity
Company and Underwriters Reinsurance Company (the
"Royal Indemnity Company Quota Share Reinsurance
Agreement").
10.5 List of Contents of Exhibits and Schedules to the
Royal Indemnity Company Quota Share Reinsurance
Agreement. Alleghany agrees to furnish
supplementally a copy of any omitted exhibit or
schedule to the Securities and Exchange
Commission upon request.
10.6 Quota Share Reinsurance Agreement, dated as of
July 1, 2003, by and between Royal Surplus Lines
Insurance Company and Underwriters Reinsurance
Company (the "Royal Surplus Lines Insurance
Company Quota Share Reinsurance Agreement").
10.7 List of Contents of Exhibits and Schedules to the
Royal Surplus Lines Insurance Company Quota Share
Reinsurance Agreement. Alleghany agrees to
furnish supplementally a copy of any omitted
exhibit or schedule to the Securities and
Exchange Commission upon request.
10.8 Quota Share Reinsurance Agreement, dated as of
July 1, 2003, by and between Landmark American
Insurance Company and Underwriters Reinsurance
Company (the "Landmark American Insurance Company
Quota Share Reinsurance Agreement").
10.9 List of Contents of Exhibits and Schedules to the
Landmark American Insurance Company Quota Share
Reinsurance Agreement. Alleghany agrees to
furnish supplementally a copy of any omitted
exhibit or schedule to the Securities and
Exchange Commission upon request.
10.10 Administrative Services Agreement, dated as of
July 1, 2003, by and among Royal Indemnity
Company, Royal Specialty Underwriting, Inc. and
Underwriters
20
Reinsurance Company (the "Royal Indemnity Company
Administrative Services Agreement").
10.11 List of Contents of Exhibits and Schedules to the
Royal Indemnity Company Administrative Services
Agreement. Alleghany agrees to furnish
supplementally a copy of any omitted exhibit or
schedule to the Securities and Exchange
Commission upon request.
10.12 Administrative Services Agreement, dated as of
July 1, 2003, by and among Royal Surplus Lines
Insurance Company, Royal Specialty
Underwriting, Inc. and Underwriters Reinsurance
Company (the "Royal Surplus Lines Insurance
Company Administrative Services Agreement").
10.13 List of Contents of Exhibits and Schedules to the
Royal Surplus Lines Insurance Company
Administrative Services Agreement. Alleghany
agrees to furnish supplementally a copy of any
omitted exhibit or schedule to the Securities and
Exchange Commission upon request.
10.14 Administrative Services Agreement, dated as of
July 1, 2003, by and among Royal Insurance
Company of America, Royal Specialty
Underwriting, Inc. and Underwriters Reinsurance
Company (the "Royal Insurance Company of
America Administrative Services Agreement").
10.15 List of Contents of Exhibits and Schedules to the
Royal Insurance Company of America Administrative
Services Agreement. Alleghany agrees to furnish
supplementally a copy of any omitted exhibit or
schedule to the Securities and Exchange
Commission upon request.
10.16 Administrative Services Agreement, dated as of
July 1, 2003, by and among Landmark American
Insurance Company, Royal Specialty
Underwriting, Inc. and Underwriters Reinsurance
Company (the "Landmark American Insurance
Company Administrative Services Agreement").
10.17 List of Contents of Exhibits and Schedules to the
Landmark American Insurance Company
21
Administrative Services Agreement. Alleghany
agrees to furnish supplementally a copy of any
omitted exhibit or schedule to the Securities and
Exchange Commission upon request.
10.18 Trust Agreement, dated as of July 1, 2003, by and
among Royal Indemnity Company, Royal Surplus
Lines Insurance Company, Landmark American
Insurance Company, Underwriters Reinsurance
Company and LaSalle Bank National Association, as
Trustee.
10.19 Assignment of Net Premium Receivables, dated as
of July 1, 2003, by and between LaSalle Bank
National Association and Royal Indemnity Company,
Royal Surplus Lines Insurance Company and
Landmark American Insurance Company.
10.20 Assignment of Reinsurance Recoverables, dated as
of July 1, 2003, by and among Underwriters
Reinsurance Company, LaSalle Bank National
Association and Royal Indemnity Company, Royal
Surplus Lines Insurance Company and Landmark
American Insurance Company.
10.21 Administrative Services Intellectual Property
License Agreement, dated as of July 1, 2003, by
and between Royal Indemnity Company and Royal
Specialty Underwriting, Inc. (entered into
pursuant to the Royal Indemnity Company
Administrative Services Agreement).
10.22 Administrative Services Intellectual Property
License Agreement, dated as of July 1, 2003, by
and between Royal Indemnity Company and Royal
Specialty Underwriting, Inc. (entered into
pursuant to the Royal Surplus Lines Insurance
Company Administrative Services Agreement).
10.23 Administrative Services Intellectual Property
License Agreement, dated as of July 1, 2003, by
and between Royal Indemnity Company and Royal
Specialty Underwriting, Inc. (entered into
pursuant to the Royal Insurance Company of
America Administrative Services Agreement).
10.24 Administrative Services Intellectual Property
License
22
Agreement, dated as of July 1, 2003, by and
between Royal Indemnity Company and Royal
Specialty Underwriting, Inc. (entered into
pursuant to the Landmark American Insurance
Company Administrative Services Agreement).
10.25 Claims Servicing Agreement, dated as of July 1,
2003, by and among Underwriters Reinsurance
Company, Royal Indemnity Company, Royal Surplus
Lines Insurance Company, Landmark American
Insurance Company, Royal Insurance Company of
America, American and Foreign Insurance Company,
Globe Indemnity Company, Safeguard Insurance
Company and Phoenix Assurance Company of New York
(the "Claims Servicing Agreement").
10.26 List of Contents of Exhibits and Schedules to
the Claims Servicing Agreement. Alleghany
agrees to furnish supplementally a copy of any
omitted exhibit or schedule to the Securities
and Exchange Commission upon request.
10.27 Claims Servicing Information Technology License
Agreement, dated as of July 1, 2003, by and
between Royal Indemnity Company and Underwriters
Reinsurance Company.
10.28 Renewal Rights Agreement, dated as of July 1,
2003, by and among Landmark American Insurance
Company, Royal Indemnity Company, Royal Surplus
Lines Insurance Company, Royal Insurance Company
of America and Alleghany Insurance Holdings LLC
(the "Renewal Rights Agreement").
10.29 List of Contents of Exhibits to the Renewal
Rights Agreement. Alleghany agrees to furnish
supplementally a copy of any omitted exhibit to
the Securities and Exchange Commission upon
request.
10.30 Transition Services Agreement, dated as of July
1, 2003, by and among Royal Group, Inc., RSUI
Group, Inc. and Royal Specialty Underwriting,
Inc. (the "Transition Services Agreement").
10.31 List of Contents of Schedules to the Transition
Services Agreement. Alleghany agrees to
furnish supplementally a copy of any omitted
schedule to the
23
Securities and Exchange Commission upon request.
10.32 Transitional Trademark License Agreement, dated
as of July 1, 2003, by and among Royal &
SunAlliance USA, Inc., Royal Specialty
Underwriting, Inc. and RSA Surplus Lines
Insurance Services, Inc.
10.33 Employee Leasing Agreement, dated as of July 1,
2003, by and between Royal Indemnity Company
and Underwriters Reinsurance Company.
10.34 Managing General Agency Agreement, dated as of
July 1, 2003, by and among Royal Specialty
Underwriting, Inc., as Managing General Agent,
Royal Indemnity Company, Royal Surplus Lines
Insurance Company, Royal Insurance Company of
America and Landmark American Insurance Company
(the "Managing General Agency Agreement").
10.35 List of Contents of Exhibits to the Managing
General Agency Agreement. Alleghany agrees to
furnish supplementally a copy of any omitted
exhibit to the Securities and Exchange
Commission upon request.
10.36 Stock Purchase Agreement, dated as of July 1,
2003, by and between Alleghany Insurance
Holdings LLC and Royal Group, Inc. (the "Stock
Purchase Agreement").
10.37 List of Contents of Exhibits and Schedules to
the Stock Purchase Agreement. Alleghany agrees
to furnish supplementally a copy of any omitted
exhibit or schedule to the Securities and
Exchange Commission upon request.
10.38 Assignment and Assumption of Liabilities
Agreement, dated as of July 1, 2003, by and
between RSA Surplus Lines Insurance Services,
Inc. and Royal Indemnity Company.
10.39 Assignment and Assumption Agreement, dated as of
July 1, 2003, by and between Alleghany Insurance
Holdings LLC and RSUI Group, Inc.
10.40 Assignment and Assumption Agreement, dated as of
July 1, 2003, by and between Alleghany Insurance
Holdings LLC and RSUI Group, Inc.
24
10.41 Assignment and Assumption Agreement, dated as of
July 1, 2003, by and between Alleghany Insurance
Holdings LLC and RSUI Group, Inc.
10.42 Stock Purchase Agreement, dated as of June 6,
2003, by and between Alleghany Insurance Holdings
LLC and Guaranty National Insurance Company (the
"Guaranty National Insurance Company Stock
Purchase Agreement").
10.43 List of Contents of Exhibits and Schedules to the
Guaranty National Insurance Company Stock
Purchase Agreement. Alleghany agrees to furnish
supplementally a copy of any omitted exhibit or
schedule to the Securities and Exchange
Commission upon request.
10.44 Stock Purchase Agreement, dated as of June 12,
2003, by and between Swiss Re America Holding
Corporation and RSUI Group, Inc. (the "RSUI
Group, Inc. Stock Purchase Agreement").
10.45 List of Contents of Exhibits and Schedules to
the RSUI Group, Inc. Stock Purchase Agreement.
Alleghany agrees to furnish supplementally a
copy of any omitted exhibit or schedule to the
Securities and Exchange Commission upon request.
10.46 First Amendment to 364-Day Revolving Credit
Agreement, dated as of June 13, 2003, amending
the 364-Day Revolving Credit Agreement, dated as
of June 14, 2002, by and among Alleghany
Corporation, the Banks named therein and U.S.
Bank National Association, as agent for the
Banks.
10.47 Second Amendment to 364-Day Revolving Credit
Agreement, dated as of June 20, 2003, amending
the 364-Day Revolving Credit Agreement, dated as
of June 14, 2002, by and among Alleghany
Corporation, the Banks named therein and U.S.
Bank National Association, as agent for the
Banks.
10.48 First Amendment to Three-Year Revolving Credit
Agreement, dated as of June 20, 2003, amending
the Three-Year Revolving Credit Agreement, dated
as of June 14, 2002, among Alleghany Corporation,
the Banks named therein and U.S. Bank National
25
Association, as agent for the Banks.
31.1 Certification of the Chief Executive Officer of
the Company pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of the Chief Financial Officer of
the Company pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 Certification of the Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002. This exhibit shall not be deemed "filed"
as a part of this Report on Form 10-Q.
32.2 Certification of the Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002. This exhibit shall not be deemed "filed"
as a part of this Report on Form 10-Q.
26
(b) Reports on Form 8-K.
The Company filed a report on Form 8-K dated June 9, 2003 to report in
Item 5 that it had entered into a definitive agreement to acquire RSUI.
The Company filed a report on Form 8-K dated July 1, 2003 to report in
Item 5 that it had completed the acquisition of RSUI.
The Company filed a report on Form 8-K dated August 6, 2003 to report in
Item 9 information required to be furnished under Item 12 pursuant to interim
guidance issued by the Securities and Exchange Commission regarding a press
release reporting on the Company's financial results as of and for the quarter
ended June 30, 2003.
27
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ALLEGHANY CORPORATION
Registrant
Date: August 13, 2003 /s/ David B. Cuming
---------------------------------
David B. Cuming
Senior Vice President
(and chief financial officer)
28