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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000
COMMISSION FILE NUMBER 1-8007
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FREMONT GENERAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEVADA 95-2815260
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NUMBER)
INCORPORATION OR ORGANIZATION)
2020 SANTA MONICA BOULEVARD,
SANTA MONICA, CALIFORNIA 90404
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (310) 315-5500
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SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
COMMON STOCK, $1.00 PAR VALUE
LIQUID YIELD OPTION(TM) NOTES DUE 2013 (ZERO COUPON-SUBORDINATED)
FREMONT GENERAL FINANCING I -- 9% TRUST ORIGINATED PREFERRED SECURITIES(SM)
(TITLE OF EACH CLASS)
NEW YORK STOCK EXCHANGE
(NAME OF EACH EXCHANGE ON WHICH REGISTERED)
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 the voting stock held by non-affiliates of the
registrant as of March 2, 2001:
COMMON STOCK, $1.00 PAR VALUE -- $164,499,000
The number of shares outstanding of each of the issuer's classes of common stock
as of March 2, 2001:
COMMON STOCK, $1.00 PAR VALUE -- 70,676,000 SHARES
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the proxy statement for the 2001 annual meeting of stockholders are
incorporated by reference into Part III of this report.
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FREMONT GENERAL CORPORATION
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2000
TABLE OF CONTENTS
PAGE
----
PART I
Item 1. Business.................................................... 1
Item 2. Properties.................................................. 23
Item 3. Legal Proceedings........................................... 23
Item 4. Submission of Matters to a Vote of Security Holders......... 23
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters......................................... 24
Item 6. Selected Financial Data..................................... 25
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 27
Item 7(a). Quantitative and Qualitative Disclosures About Market
Risk........................................................ 50
Item 8. Financial Statements and Supplementary Data (Index to
Consolidated Financial Statements and Financial Statement
Schedules on Page 56)....................................... 50
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................... 50
PART III
Item 10. Directors and Executive Officers of the Registrant.......... 51
Item 11. Executive Compensation...................................... 51
Item 12. Security Ownership of Certain Beneficial Owners and
Management.................................................. 51
Item 13. Certain Relationships and Related Transactions.............. 51
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K......................................................... 52
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PART I
ITEM 1. BUSINESS
This report contains "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934, and are made pursuant to the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995. Forward-looking statements
include those related to the plans and objectives of management for future
operations, projections of revenues, income, earnings per share, capital
expenditures, dividends, capital structure, economic performance and other
expectations and beliefs concerning future developments and their potential
effects on Fremont General Corporation. Actual developments and/or results could
differ materially from those anticipated by the Company as a result of, among
other things: the variability of business conditions, the inherent difficulty of
accurately forecasting revenues and expenses, Fremont General Corporation's
businesses' ability to sell its products, to make loans and to access capital
resources and the associated costs of doing so, the accuracy in projecting loss
reserves, changes in the frequency and severity of claims and catastrophic
events, inability to secure regulatory approvals from, or certain determinations
or actions by, the California Department of Insurance ("DOI") on various
matters, the impact of competition and pricing environments, changes in interest
rates, effect of the performance of financial markets on investment income and
fair values of investments, adverse state and federal legislation, regulation
and actions, adverse court decisions and judicial climate, changes in the
medical, legal and rehabilitation cost control environment, increases in fraud
and abuse, changes in asset valuations and general economic conditions and
trends, and other risks and uncertainties detailed in this section and elsewhere
in this Form 10-K and from time to time in Fremont's other reports, press
releases and filings with the Securities and Exchange Commission. The Company
undertakes no obligation to publicly update such forward-looking statements.
GENERAL
Fremont General Corporation ("Fremont" or "the Company") is a financial
services holding company. Fremont manages its business through two operating
segments: (i) financial services and (ii) property and casualty insurance.
Fremont's financial services' segment is consolidated within Fremont General
Credit Corporation ("FGCC"), which is engaged in collateralized commercial and
consumer lending nationwide through its California-chartered industrial bank
subsidiary, Fremont Investment & Loan ("FIL"). Fremont's property and casualty
insurance segment is consolidated within Fremont Compensation Insurance Group
("FCIG") and substantially all of its insurance operation is represented by the
underwriting of workers' compensation insurance policies. Each segment is
managed separately and uses different pricing, distribution and operating
methods. Fremont evaluates the performance of its segments based on income
before taxes using accounting policies which are the same as those described in
the summary of significant accounting policies (see Note A of Notes to
Consolidated Financial Statements). Additionally, there are certain corporate
revenues and expenses, comprised primarily of investment income, interest
expense and certain general and administrative expenses, that Fremont does not
allocate to its segments.
The Company's operating strategy is to continue to grow our financial
services businesses nationwide by focusing our resources on the development and
expansion of profitable products and strong distribution channels, as well as on
controlling expenses. As a result of substantial operating losses for the
Company's property and casualty insurance operation in 2000, the Company's
workers' compensation insurance subsidiaries entered into an agreement on
November 27, 2000 with the California Department of Insurance ("DOI") which
provides for increased regulatory oversight and
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supervision. Due to this additional regulatory supervision, A.M. Best downgraded
the workers' compensation insurance subsidiaries rating to "E" (Under Regulatory
Supervision) in December 2000. An "E" rating is a "Vulnerable" rating and
severely limits the Company's workers' compensation insurance business' ability
to underwrite new and renewal workers' compensation insurance policies. Prior to
this downgrade, the workers' compensation insurance subsidiaries had been rated
"B" (Fair). As a result of these events, the Company announced in December 2000
that it has restructured its workers' compensation insurance business and that
FCIG will now be underwriting workers' compensation insurance only in select
states in the western United States. This restructuring is an effort by the
Company to reduce operating expenses to levels considered appropriate for the
expected significant reductions in workers' compensation insurance premiums.
Since June 30, 2000, the Company has reduced the size of its property and
casualty insurance operation through the closure of 33 of its 41 production and
claims servicing offices and a decrease in the workforce of over 1,000, or
approximately 50%. The Company's workers' compensation insurance subsidiaries
have reached agreement on substantially all material terms of a fronting
facility with an insurance carrier that is rated "A" by A.M. Best. The fronting
facility would provide FCIG with the ability to issue workers' compensation
insurance policies under that carrier's name and FCIG would assume 100% of the
liability related to the policies issued. The transaction is pending definitive
documentation and final regulatory approval. The Company believes that this
fronting arrangement, if finalized, will provide the Company's workers'
compensation insurance subsidiaries the ability to mitigate the effect of the
above discussed events and allow it to write new and renewal workers'
compensation insurance premiums at levels that could not be achieved without
such a facility in place.
The reported consolidated assets and stockholders' equity of Fremont and
its subsidiaries as of December 31, 2000 were $8.2 billion and $244.9 million,
respectively. The Company incurred a loss before taxes from continuing
operations of $692.9 million for the year ended December 31, 2000, resulting
entirely from losses recognized within the Company's property and casualty
insurance operation (see "Property and Casualty Insurance Operation").
Additionally, the Company recognized an extraordinary after tax gain of $12.4
million on the extinguishment of debt.
Fremont, a Nevada corporation, was incorporated in 1972. Its corporate
office is located at 2020 Santa Monica Boulevard, Suite 600, Santa Monica,
California 90404 and its phone number is (310) 315-5500. The Company's common
stock is traded on the New York Stock Exchange under the symbol "FMT". At
December 31, 2000, the Company had 2,316 employees, none of whom is represented
by a collective bargaining agreement. Fremont believes its relations with its
employees are good. As of December 31, 2000, officers and directors of the
Company, their families and the Company's benefit plans beneficially owned
approximately 38% of the Company's outstanding common stock.
FINANCIAL SERVICES OPERATION
Fremont's financial services operation originates commercial and
residential real estate loans on a nationwide basis. Fremont also purchases
interests in syndicated commercial bank loans that are originated and serviced
by other financial institutions. Fremont's lending is done primarily on a senior
and secured basis and it seeks to minimize its credit exposure through
conservative loan underwriting and appropriate loan to collateral valuations and
cash flow coverages. The Company continues to focus on loan origination through
independent loan brokers, the Company's own marketing representatives and
referrals from various financial intermediaries and financial institutions. The
financial services operation is primarily funded through deposit accounts that
are insured by the Federal Deposit Insurance Corporation ("FDIC").
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In December of 1999, the Company discontinued its commercial finance
(secured working capital lines of credit) lending activities through the sale of
Fremont Financial Corporation ("Fremont Financial"), a subsidiary of FGCC, to
FINOVA Capital Corporation, a subsidiary of The FINOVA Group, Inc. for
approximately $708 million in cash and assumption of existing debt. In September
of 2000, the Company also sold substantially all of the assets of its insurance
premium financing business.
The outstanding loan portfolio of Fremont's financial services operation
has grown from $2.03 billion at December 31, 1997 to $3.47 billion at December
31, 2000. In addition, the Company had residential real estate loans of
approximately $1.00 billion under three securitizations at December 31, 2000
that are not included in the Company's consolidated balance sheet. Fremont's
financial services operation earned $102.2 million, $79.9 million and $55.5
million in income before taxes for the years ended December 31, 2000, 1999 and
1998, respectively, on revenues of $421.0 million, $411.6 million and $297.5
million for the same respective periods. Included in the Company's financial
services operation's income before taxes for the year ended December 31, 1999,
is the recognition of a $10.3 million gain on the sale of Fremont Financial.
The Company's financial services loan portfolio, as well as the amounts of
loans held for sale, as of the dates indicated, are summarized in the following
table by loan type:
YEAR ENDED DECEMBER 31,
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2000 1999 1998
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(THOUSANDS OF DOLLARS)
Commercial real estate loans.................. $2,900,147 $2,332,880 $1,561,145
Residential real estate loans................. 253,236 388,297 549,400
Syndicated loans.............................. 317,472 331,705 360,150
Premium finance loans......................... -- 64,596 58,319
Commercial finance loans...................... -- -- 485,508
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Loans receivable before allowance for loan
losses...................................... 3,470,855 3,117,478 3,014,522
Less allowance for loan losses................ (67,599) (56,494) (56,346)
---------- ---------- ----------
Loans receivable, net....................... $3,403,256 $3,060,984 $2,958,176
========== ========== ==========
Residential real estate loans held for sale... $ 298,568 $ 294,639 $ --
========== ========== ==========
Commercial Real Estate Lending
The commercial real estate lending operation of the Company, as of December
31, 2000, consists of more than 650 loans. The Company originates commercial
real estate loans nationwide through its nine regional production offices. Loan
origination is primarily through independent loan brokers and, to a lesser
degree, directly through its own marketing representatives. We also market our
products and capabilities through the use of trade advertising, direct
marketing, newsletters and trade show attendance and sponsorship. The Company's
emphasis is on service oriented delivery highlighted by responsiveness and
reliability. Loan structures are tailored to meet the needs and risk profiles of
individual transactions. The Company's commercial real estate lending philosophy
is collateral focused with emphasis on selecting properties that generate stable
or increasing income cash flow streams, have strong asset quality and proven
sponsorship with defined business plans. Loan structures, particularly in the
case of bridge loans, include hold backs for such things as funding of all
renovation costs, tenant improvements, leasing commissions and interest carry
until property stabilization. The origination of commercial real estate loans
are generally held for the Company's own portfolio. There were $35.0 million in
commercial real estate loans sold to other financial institutions in 2000,
representing
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approximately 3% of origination volume in 2000, and $217 million loans were sold
in 1999. Commercial real estate loan origination volume decreased 12% to $1.36
billion in 2000 from $1.54 billion in 1999. The commercial real estate loan
portfolio grew to $2.90 billion or 83.6% of the Company's financial services
loan portfolio at December 31, 2000 from $2.33 billion or 74.8% of the financial
services loan portfolio at December 31, 1999.
The commercial real estate loan portfolio is primarily secured by first
mortgages on income-producing properties in California (51%) and, to a lesser
degree, Texas (6%), Virginia (5%) and Illinois (5%). Loans were originated in 24
different states during 2000. The real estate securing these loans include a
wide variety of property types including office, retail, industrial,
multi-family and mixed-use properties. The loans were distributed by property
type as follows:
YEAR ENDED
DECEMBER 31,
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2000 1999
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Office.................................................... 34% 27%
Industrial................................................ 16% 18%
Retail.................................................... 16% 19%
Hotels and Motels......................................... 11% 8%
Commercial Mixed-Use...................................... 10% 11%
Multi-Family.............................................. 7% 11%
Single Purpose............................................ 6% 6%
--- ---
100% 100%
=== ===
Loans include short-term bridge facilities for the renovation and lease-up
of existing properties, as well as permanent loans which generally have terms up
to 5 years. Loans also include longer term single tenant credit loans, however,
origination of these loans was ceased during the first quarter of 2000. Bridge
loans generally are interest-only for up to 2 year terms. Principal amortization
for permanent loans is up to 25 years. Approximately 53% of the commercial real
estate loan balance outstanding at December 31, 2000 is for bridge loans and 47%
is for permanent and single tenant loans. The majority of the commercial real
estate loans originated are adjustable interest rate loans based upon six-month
LIBOR and an applicable margin, and generally range in loan size between $1
million and $35 million. As of December 31, 2000, the average loan size was $4.4
million and the average loan-to-value ratio was 68%, using the most current
available appraised values and current balances outstanding. At December 31,
2000, the Company had 11 non-performing commercial real estate loans totaling
approximately $32.6 million and 2 commercial real estate properties owned,
totaling $10.2 million, which were acquired through foreclosure on loans.
Non-performing loans include accrual loans 90 days past due.
Residential Real Estate Lending
The Company's residential real estate portfolio and loans held for sale, as
of December 31, 2000, is comprised of more than 5,000 loans. Fremont originates
residential real estate loans nationwide through its four regional production
offices on a wholesale basis through independent loan brokers and through its
own marketing representatives. The real estate securing these loans and the
residential loans held for sale, are single family residences located in
California (41%), and to a lesser degree Florida (7%), New York (6%), Illinois
(5%) and New Jersey (4%). Loans were originated in 45 different states during
2000. The Company's origination volume increased 19% to $2.04 billion in 2000
from $1.72 million in 1999. The growth in loan originations during 2000 was the
result of further penetration of existing markets. The residential real estate
loan portfolio, excluding loans held for sale, was $253.2 million or
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7.3% of the Company's financial services loan portfolio at December 31, 2000,
down from $388 million or 12.5% of the financial services loan portfolio at
December 31, 1999. This decrease in loans outstanding is due to an emphasis by
the Company on selling residential loan production on a whole loan basis during
2000.
Substantially all of the Company's residential real estate loans are
secured by first deeds of trust. These loans generally have principal amounts
below $350,000, have maturities generally of thirty years and are underwritten
in accordance with lending policies approved by FIL's Board of Directors, which
include standards covering, among other things, collateral value, loan to value
and the customer's debt ratio and credit score. These loans generally are
"hybrid" loans which have a fixed rate of interest for an initial period after
origination, typically two to three years, after which the interest rate will be
adjusted to a rate equal to the sum of six month LIBOR and a margin as set forth
in the mortgage note. This interest rate will then be adjusted at each six-month
interval thereafter, subject to various lifetime and periodic rate caps and
floors. These loans have been originated using underwriting standards that are
less stringent than the Federal National Mortgage Association's guidelines and
are commonly known as "sub-prime" loans. To mitigate the higher potential for
credit losses that accompanies these types of borrowers, Fremont attempts to
maintain underwriting standards that require conservative loan to collateral
valuations. (See "Risk Factors.") At December 31, 2000, the average
single-family loan amount was $109,000, and the average loan-to-value ratio for
loans in portfolio and held for sale was 77.3%, using appraised values at the
time of loan origination and current balances outstanding. Approximately 80% of
the loans in portfolio and held for sale at December 31, 2000 were originated
during 2000. At December 31, 2000, Fremont had 331 non-performing residential
real estate loans totaling approximately $28.9 million and 80 residential real
estate properties owned totaling approximately $6.0 million. Non-performing
loans include accrual loans 90 days past due.
The Company's residential real estate loan disposition strategy is
primarily dependent upon market conditions and pricing, and may include whole
loan sales, retaining loans in its portfolio, or securitization. During 2000,
Fremont sold $2.1 billion in residential real estate loans, comprised completely
of whole loan sales to other financial institutions. In 1999 and 1998,
residential real estate loan sales totaled $1.75 billion and $746.5 million,
respectively. Of the $1.75 billion sold in 1999, $1.41 billion were sold through
securitization transactions.
In the Company's securitizations, the Company sells residential real estate
loans to a special purpose entity, which is established for the limited purpose
of purchasing the loans and issuing interest bearing securities that represent
interests in the loans. The securitization is treated as a sale and the loans
sold are removed from the Company's balance sheet. The Company retains a
residual interest in the securitization, which represents the right to receive
certain net future cash flows from the loans. Most of the Company's residual
interests, however, are generally restricted until investors and other expenses
have been paid or otherwise are subordinate to investors' interests. (See "Risk
Factors.")
In a whole loan sale for cash, the Company generally enters into an
agreement to sell the loans for cash, without recourse, on a servicing released
basis. After the sale, the Company retains no interest in the underlying loans.
Syndicated Loans
Fremont has interests in large syndicated commercial loans which are
originated and serviced by other financial institutions. These loans are senior
obligations of the borrowers and are secured by substantially all of the assets
of the borrower and, if applicable, its subsidiaries. The syndicated loans are
variable interest rate loans with rates based upon various LIBOR time periods
and applicable margins.
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Fremont invests primarily in fixed-term loans, typically with maturities of
approximately 7 years and with the substantial portion of the loan principal
amortization coming in the year of maturity. The syndicated loan portfolio was
$317.5 million at December 31, 2000, or 9.1% of the financial services loan
portfolio, as compared to $331.7 million or 10.6% of the financial services loan
portfolio at December 31, 1999. These loans are originated through development
of the Company's relationships with various financial institutions. As of
December 31, 2000, the average outstanding syndicated loan balance was $5.9
million and there was one loan classified as non-accrual with a balance of $9.4
million. Loan commitments to a single borrower generally range in size from $3
million to $10 million.
Funding Sources
Fremont's real estate lending and syndicated loan activities are financed
mainly through deposit accounts offered by the Company's industrial bank which
are insured by the FDIC. (See "Regulation -- Industrial Bank Regulation.")
Fremont offers certificates of deposit and installment investment certificates
(which are similar to passbook savings accounts and money market accounts)
insured by the FDIC to the legal maximum through its 18 branches in California.
The Company has typically offered higher interest rates to its depositors than
do most full service financial institutions. At the same time, the Company has
minimized the costs associated with its accounts by not offering traditional
checking, safe deposit boxes, ATM access and other traditional retail services,
which have higher maintenance costs. Deposits totaled $3.85 billion at December
31, 2000 and are summarized as to type as follows (in thousands of dollars):
NUMBER OF TOTAL OF
ACCOUNTS DEPOSITS
--------- ----------
Passbook savings and money market accounts.... 15,569 $ 615,910
Certificates of deposit....................... 77,726 3,233,301
------ ----------
93,295 $3,849,211
====== ==========
Additional financing is available to FIL from the Federal Home Loan Bank of
San Francisco ("FHLB"). The financing by the FHLB is available at varying rates
and terms. As of December 31, 2000, $449.2 million was available from the FHLB,
with no amounts outstanding. In 2000, FIL obtained a line of credit with the
Federal Reserve Bank of San Francisco, and at December 31, 2000 had a borrowing
capacity of $168.8 million, with no amounts outstanding.
Competition
Fremont's financial services business competes in markets that are highly
competitive and are characterized by factors that vary based upon product and
geographic region. The markets in which the Company competes are typically
characterized by a large number of competitors who compete based primarily upon
price, terms and loan structure. Fremont primarily competes with banks,
mortgage, insurance, and finance companies, many of which are larger and have
greater financial resources than Fremont. The competitive forces of these
markets could adversely affect the Company's net finance income, loan
origination volume or net credit losses.
PROPERTY AND CASUALTY INSURANCE OPERATION
As a result of the restructuring announced in December 2000, Fremont's
property and casualty insurance operation now underwrites workers' compensation
insurance only in the western United States through eight production and claims
servicing offices, five of which are located in California. Prior to the
announced restructuring in December 2000, the Company's focus had been on
creating a broad national
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platform for its underwriting of workers' compensation insurance. As a result,
FCIG had become one of the largest workers' compensation insurers in the United
States with premiums inforce in 46 states and the District of Columbia as of
December 31, 2000. FCIG ranked as the sixth largest writer in direct premiums of
workers' compensation insurance in the United States for the year ended December
31, 1999, according to A.M. Best. At the beginning of 2000, FCIG had 41 offices
in 28 states, however a significant amount of its premiums were in California
and Illinois. Using FCIG's estimated annual premiums on policies in effect at
December 31, 2000, 1999 and 1998 (referred to as inforce premium), the
percentage of FCIG's total inforce premium in California was 43%, 45% and 47%,
respectively. The percentage of FCIG's total inforce premium in Illinois was
10%, 15% and 18% for the same respective periods. For the years ended December
31, 2000, 1999 and 1998, FCIG had workers' compensation insurance premiums
earned of $1.02 billion, $831 million and $551 million, respectively.
Workers' compensation insurance is a government-mandated ("statutory")
system which requires every employer to either purchase insurance or self-insure
in order to provide its employees with medical care and other specified benefits
for work-related injuries or illnesses. Compensation is payable regardless of
which party was at fault. Most employers provide for this potential liability by
purchasing workers' compensation insurance from insurance carriers. There are
four types of benefits payable under workers' compensation policies: medical
benefits, vocational rehabilitation benefits, disability benefits and death
benefits. The amounts of disability and death benefits payable for claims are
established by statute, vocational rehabilitation benefits are provided with
certain limitations in some jurisdictions, including California, and no dollar
limitation is set forth for medical benefits. (See "Regulation -- Insurance
Regulation.")
The property and casualty insurance operation segment posted income (loss)
before taxes of $(748.5) million, $(116.2) million and $169.2 million for the
years ended December 31, 2000, 1999 and 1998, respectively, on revenues of
$1,151.6 million, $984.6 million and $729.7 million for the same respective
periods. The significant loss before taxes in 2000 for the property and casualty
insurance operation segment is predominantly the result of increases in the
Company's gross liability for loss and loss adjustment expenses ("gross loss and
LAE reserves") totaling $450 million under workers' compensation insurance
policies effective in or prior to 1999, and which was recognized by the Company
in the quarter ended June 30, 2000. In addition, in the quarter ended December
31, 2000, the Company recognized $267.8 million of charges related to its
announced restructuring of the property and casualty insurance operation and
recognized an additional $44.1 million in various non-recurring charges related
to the property and casualty insurance operation. See "Item 7. Management's
Discussion and Analysis of Consolidated Financial Condition and Results of
Operations -- Property and Casualty Insurance Operation" and the notes to the
Company's consolidated financial statements.
To mitigate the adverse impact on the Company's property and casualty
insurance operation of the gross loss and LAE reserve actions recognized in the
quarter ended June 30, 2000, the Company reviewed various adverse loss
development reinsurance structures and other alternatives. On November 7, 2000,
the Company's property and casualty insurance operation's workers' compensation
insurance subsidiaries entered into an agreement with the DOI which, among other
things, allows these insurance subsidiaries to adjust to present value their
workers' compensation insurance net loss and LAE reserves for accident years
1999 and prior. This permitted practice of adjusting to present value is
applicable to both indemnity and medical reserves. The impact of the present
value adjustment only affects the statutory financial statements of the workers'
compensation insurance subsidiaries and provided $254.5 million in additional
statutory surplus at December 31, 2000. Statutory surplus of the workers'
compensation insurance subsidiaries totaled $215.3 million at December 31, 2000.
In conjunction with this present value adjustment, the workers' compensation
insurance subsidiaries agreed with
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the DOI to limit their consolidated new and renewal insurance premium writings
to $400 million in 2001. This action is intended to decrease the operating
leverage of the premium writings to statutory surplus. In addition, under the
agreement with the DOI, the DOI is allowed increased regulatory supervision and
oversight of the workers' compensation insurance subsidiaries. The workers'
compensation insurance subsidiaries will provide the DOI with additional and
more frequent regulatory financial information and will obtain DOI prior
approval on future material transactions. Fremont has agreed with the DOI to
provide additional capital to the workers' compensation insurance subsidiaries
in five annual installments of $6 million each, beginning in the first quarter
of 2001.
Due to the limited ability to write new and renewal business with an "E"
rating, and the limits in premium writings agreed to with the DOI, the Company
expects significant reductions in its workers' compensation premium writings.
Consequently, the Company has reduced the operating focus of its property and
casualty insurance operation from a nationwide basis to concentrate its business
efforts in the six western states of California, Arizona, Idaho, Colorado, Utah
and Montana. The Company will also concentrate its workers' compensation premium
writings on its historical niche of smaller accounts as well as group and
association programs. The Company's average policy size as to inforce premium
was $10,428 as of December 31, 2000. With the closure of most of the workers'
compensation insurance offices, the Company has outsourced certain claim
processing functions to accommodate policy run-off for the discontinued offices.
Premiums. Workers' compensation insurance premiums are based upon the
policyholder's payroll and the nature of their business and may be affected
significantly by changes in general economic conditions which impact employment
and wage levels, as well as by government regulation. Insurance premiums are
also subject to supervision and regulation by the state insurance authority in
each state. Most of the states in which FCIG does business, including
California, operate under an open rating system. Generally, in an open rating
system, workers' compensation insurers are provided with advisory premium rates
(expected losses and expenses) or loss costs (expected losses only) which vary
by job classification. Each insurance company sets its base rates to reflect its
particular loss experience and operating costs. These rates are then modified to
reflect individual risk characteristics and other expenses in determining a
final premium rate. (See "Regulation -- Insurance Regulation.")
Underwriting and Loss Control. Prior to insuring a workers' compensation
policy, FCIG's underwriting department reviews the employer's prior loss
experience, safety record, credit history, operations and employment
classifications. FCIG generally avoids industries and businesses involving
hazardous conditions or high exposure to multiple injuries resulting from a
single occurrence. FCIG targets accounts that appear to have a strong work ethic
among employees, long-term employees, and a genuine interest in the adoption of
and adherence to loss control standards. FCIG's loss control department
participates in the initial underwriting process and also provides ongoing
services to policyholders based on individual needs and potential risk exposure.
Accident prevention services are also provided to policyholders and include
physical surveys for hazard recognition, safety program evaluation, loss trend
analysis and employee training.
Policyholders' Dividends. Since 1995, FCIG's workers' compensation
insurance policies have for the most part been written as non-participating and,
therefore, do not include provisions for the insurer to declare and pay
dividends to a policyholder after the expiration of the policy. (See
"Regulation -- Workers' Compensation Regulation.")
Claims Administration. FCIG's policy is to settle valid claims promptly and
to work closely with policyholders to return injured workers to their jobs
quickly, while avoiding litigation, if possible. Claims personnel communicate
frequently with policyholders, injured employees and medical providers. FCIG's
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policy is to control the number of cases assigned to its claims personnel, to
identify and investigate questionable claims and to produce early and
cost-effective case settlements of valid claims. As part of its "zero tolerance"
program, FCIG refuses to settle any claim that it believes to be fraudulent
without a comprehensive investigation.
FCIG's litigation management is an integral part of its claim cost control
process. FCIG utilizes in-house lawyers, outside counsel and hearing
representatives, where statutes permit, who understand the complex
administrative system and handle all aspects of the litigation process.
FCIG provides early return-to-work programs for injured workers and
aggressively pursues the containment of medical costs. FCIG's claims personnel
utilize a network of directly-contracted preferred providers, who have unique
experience in industrial medicine, to control costs. FCIG also utilizes medical
bill review to evaluate compliance to state fee schedules and medical peer
review panels to obtain detailed evaluation of treatment protocols.
Competition. The insurance industry is characterized by competition on the
basis of price and service. Considerations include loss control and claims
administration, the ability to respond promptly to agents and brokers, and
commission schedules for agents and brokers. The repeal of the California
minimum rate law, effective January 1, 1995, has resulted in increased price
competition which has adversely affected the Company's results of operations for
its workers' compensation insurance business in California. In Illinois, price
competition has also impacted the Company's results of operations. (See
"Regulation -- Insurance Regulation.") FCIG competes not only with other stock
companies, but also with mutual companies and other underwriting organizations
such as the State Compensation Insurance Fund in California. Most of the
entities in competition with FCIG have greater financial resources and higher
A.M. Best ratings than FCIG and this could adversely affect the Company's
ability to underwrite workers' compensation insurance that is adequately priced.
Beginning in the second half of 1999 and through 2000, however, FCIG observed a
lessening of price competition in its primary regions of California and
Illinois. In 2000, FCIG experienced weighted average renewal premium rate
increases of approximately 27% and 19% in California and Illinois, respectively,
and 18% nationwide. It is uncertain, however, that with the recent restructuring
and A.M. Best rating downgrade to "E", FCIG will have the ability to obtain
premium rate increases that are reflective of a lessening in the competitive
environment, or that the observed lessening of the competitive environment will
itself continue.
Marketing. FCIG primarily markets its workers' compensation insurance
policies through more than 700 non-exclusive independent insurance agents and
brokers, many of whom have been associated with FCIG for more than 15 years.
FCIG's ten largest agents accounted for approximately 11% of FCIG's year 2000
workers' compensation insurance premiums, with the largest producer accounting
for approximately 2%.
As part of its September 1, 1998 acquisition of UNICARE Specialty Services,
Inc. ("Unicare") from Wellpoint Health Networks, Inc. ("Wellpoint"), FCIG formed
a strategic joint marketing partnership with Wellpoint. Under this program, a
FCIG workers' compensation insurance policy is integrated with Wellpoint's
non-occupational benefit programs, such as group medical and non-occupational
disability coverage ("the integrated product"). This integrated product is
marketed through approximately 1,800 agents, who are part of Wellpoint's life
and health product distribution system.
FCIG also markets group insurance programs, which allow trade associations
and small businesses within an industry to pool their workers' compensation
insurance premium dollars and maximize their purchasing power. These group
insurance programs include customized safety programs that address safety issues
specific to an industry or association.
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Reinsurance Ceded. Reinsurance is ceded primarily to reduce the liability
on individual risks and to protect against catastrophic losses. FCIG follows the
industry practice of reinsuring a portion of its risks. For this coverage, FCIG
pays the reinsurer a portion of the premiums received on all covered policies.
FCIG maintains excess of loss reinsurance treaties with various reinsurers.
Effective for the year 2000, FCIG had in place excess of loss reinsurance for
new and renewal workers' compensation insurance policies with effective dates of
January 1, 2000 or after, that assumes liability for up to a maximum of
$399,000,000 of loss and certain allocated loss adjustment expenses in excess of
$1,000,000 per loss occurrence. The term of this coverage extends to August 1,
2001. Effective April 1, 2000, FCIG executed a reinsurance agreement for losses
occurring April 1, 2000 and subsequent under policies written and renewed from
January 1, 2000 to August 1, 2001. The terms of this agreement reduces FCIG's
assumed liability for up to a maximum of $399,750,000 of loss and certain
allocated loss adjustment expenses in excess of $250,000 per loss occurrence.
(See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Property and Casualty Insurance Operation -- Premiums.") Although
reinsurance makes the assuming reinsurer liable to the insurer to the extent of
the reinsurance ceded, it does not legally discharge an insurer from its primary
liability for the full amount of the policy liability. All of the foregoing
reinsurance is with non-affiliated reinsurers. The Company believes that the
terms of its reinsurance contracts are consistent with industry practice and,
based on its understanding of the reinsurers' financial condition and
reputations in the reinsurance marketplace, that its reinsurers are financially
sound.
In general, the reinsurance agreements are of the treaty variety and cover
all underwritten risks of types specified in the treaties. As of December 31,
2000, Gerling Global Reinsurance Corporation of America ("Gerling") was the only
reinsurer that accounted for more than 10% of the Company's total reinsurance
recoverables on paid and unpaid losses. Gerling represented approximately 30% of
the Company's total reinsurance recoverables as of December 31, 2000. Gerling
was rated "A" (Excellent) by A.M. Best at December 31, 2000.
On February 28, 2000, FCIG reached an agreement with one of its reinsurers,
Reliance Insurance Company ("Reliance"), to settle all obligations between FCIG
and Reliance under a contract of reinsurance which was in effect for the period
January 1, 1998 through December 31, 1999. The reinsurance treaty afforded FCIG
coverage for loss and certain loss adjustment expense that exceeded $100,000 per
occurrence, up to a maximum of $150,000. Under the terms of the settlement
agreement, FCIG received in excess of $100 million in cash and no longer has any
involvement with the Reliance workers' compensation reinsurance programs
brokered for Reliance by Unicover Managers, Inc. In recognition of this
settlement, Fremont recorded a charge to its operating results in the quarter
ended December 31, 1999 of approximately $75 million before taxes, consisting
primarily of the adjustment necessary to bring the estimated unpaid reinsurance
recoverables under the reinsurance contract to a present value basis at December
31, 1999.
Premium-to-Surplus Ratio. Regulatory authorities regard the
premium-to-surplus ratio as an important indicator of operating leverage. A
lower ratio indicates a greater ability on the part of an insurer to withstand
abnormal loss experience. Guidelines established by the National Association of
Insurance Commissioners ("NAIC") provide that a property and casualty insurer's
premium-to-surplus ratio is satisfactory if it is below 3 to 1. As previously
discussed, the level of the Company's workers' compensation insurance premium
writings are expected to be significantly reduced which would then serve to
decrease the premium-to-surplus ratio.
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The following table sets forth the Company's consolidated ratio of net
property and casualty premiums written during the period to policyholders'
surplus on a statutory basis at the end of the period, for the periods
indicated:
YEAR ENDED DECEMBER 31,
--------------------------------------
2000(1) 1999(2) 1998(3)
---------- ---------- ----------
(THOUSANDS OF DOLLARS, EXCEPT RATIOS)
Net premiums written during the year.......... $966,079 $896,833 $644,218
Policyholders' surplus at end of year......... 215,279 562,879 646,828
Premium-to-surplus ratio...................... 4.5x 1.6x 1.0x
- ---------------
(1) Policyholders' surplus reflects the permitted practice present value
adjustment benefit of $254.5 million.
(2) Since the Reliance reinsurance settlement was not executed until February
28, 2000, the effect of this settlement was not recognized in the Company's
statutory results for the year ended December 31, 1999.
(3) Includes net written premium for Unicare for the period January 1, 1998
through August 31, 1998, which was prior to the Company's acquisition of
Unicare on September 1, 1998.
Loss and Loss Adjustment Expense Reserves. In many cases, significant
periods of time, ranging up to several years or more, may elapse between the
occurrence of an insured loss, the reporting of the loss to the insurer, and the
insurer's payment of that loss. To recognize liabilities for future unpaid
losses, insurers establish reserves, which are balance sheet liabilities,
representing estimates of future amounts needed to pay claims with respect to
insured events that have occurred. Reserves are also established for loss
adjustment expense reserves ("LAE") representing the estimated expenses of
settling claims, including legal and other fees, and general expenses of
administering the claims adjustment process. Associated with the liabilities for
future unpaid losses and LAE are estimates of reinsurance recoverables related
to these future unpaid losses and LAE, which are reported on the balance sheet
as assets.
Reserves for losses and LAE ("loss reserves") are based not only on
historical experience but also on management's judgment of the effects of
matters such as future economic and social forces likely to impact the insurer's
experience with the type of risk involved, circumstances surrounding individual
claims, and trends that may affect the probable number and nature of claims
arising from losses not yet reported. Consequently, loss reserves are inherently
subject to a number of highly variable circumstances as was particularly evident
during 1999 and 2000.
Loss reserves and reinsurance recoverables on unpaid losses are revalued
periodically using a variety of actuarial and statistical techniques for
producing current estimates of expected claim costs and reinsurance recoveries.
Claim frequency and severity and other economic and social factors are
considered in the re-evaluation process. A provision for inflation in the
calculation of estimated future claim costs and reinsurance recoverables is
implicit since reliance is placed on both actual historical data, which reflect
past inflation, and on other factors which are judged to be appropriate
modifiers of past experience. Adjustments to loss reserves and reinsurance
recoverables are reflected in operating results for the periods to which they
are made.
Investment Portfolio. The Company's property and casualty insurance
operation investment activities are an integral part of its business. FCIG's
investment philosophy is to maintain a primarily investment-grade investment
portfolio, provide adequate liquidity for the expected duration of insurance
liabilities and other requirements, and to maximize total net investment return
through active investment management. The Company manages all of its investment
portfolios internally. The
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investment policies of FCIG are established by the Boards of Directors, taking
into consideration state insurance regulatory restrictions, as well as nature
and size of various investments, with the goal of maintaining safety and
liquidity. The current investment policies of FCIG do not contemplate investing
in investment securities that are non-investment grade. The allocation among
various types of investments is adjusted from time to time based on market
conditions, credit conditions, liquidity requirements, tax policy, fluctuations
in interest rates and other factors. The Company has designated its entire
investment portfolio as investments that would be "available-for-sale" in
response to changes in the allocation factors enumerated above. Stockholders'
equity will fluctuate as the valuation of its investment portfolio fluctuates
due to changes in interest rates, market conditions, credit conditions and other
factors. During the past three years, FCIG has not incurred any material losses
due to the credit quality of its investment portfolio and has not included in
its financial statements any allowance for possible future losses. For further
information regarding the composition and diversification of the Company's
investment portfolios, see "Management's Discussion and Analysis of Consolidated
Financial Condition and Results of Operations" and the notes to the Company's
consolidated financial statements.
LIFE INSURANCE
Prior to January 1, 1996, the Company offered life insurance products,
including annuities, credit life and disability insurance and term life
insurance for consumers, through a subsidiary. Effective December 31, 1995 and
January 1, 1996, the Company entered into reinsurance and assumption agreements
with a reinsurer whereby assets and liabilities related to certain life
insurance and annuity policies were ceded to the reinsurer. These reinsurance
agreements are part of several other agreements which have collectively resulted
in the substantial reduction of the Company's life insurance operation. The
Company continues to remain primarily obligated for approximately $77 million in
statutory reserve value of annuities which, at December 31, 2000, have been
fully co-insured with Great Southern Insurance Company ("Great Southern"). The
Company believes Great Southern is financially sound and able to meet its
reinsurance obligations. Great Southern was rated "A" (Excellent) by A.M Best as
of December 31, 2000. Revenue and operating results from this subsidiary were
not significant in 2000, 1999 or 1998.
MEDICAL MALPRACTICE INSURANCE
Fremont's medical malpractice insurance operation underwrote primarily
standard professional liability insurance on a "claims made" basis, through
non-exclusive independent brokers mainly in California. On January 1, 1998, the
Company entered into reinsurance and assumption agreements with SCPIE Indemnity
Company and certain of its subsidiaries (collectively "SCPIE") whereby
substantially all of the assets and liabilities related to the medical
malpractice policies were ceded to SCPIE. These reinsurance agreements are part
of several other agreements which collectively resulted in the sale of Fremont's
medical malpractice operation to SCPIE effective January 1, 1998. The Company
believes SCPIE is financially sound and able to meet its reinsurance
obligations. SCPIE was rated "A" (Excellent) by A.M. Best as of December 31,
2000. The effect on the Company's operations from these agreements was not
material during 2000, 1999 or 1998.
DISCONTINUED OPERATIONS
Fremont's discontinued operations consist primarily of assumed treaty and
facultative reinsurance business that was discontinued between 1986 and 1991. In
1990, the Company established a management group to actively manage the
liquidation of this business by the commutation of liabilities and as
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claims are paid. The liabilities associated with this business are long term in
duration and, therefore, the Company continues to be subject to claims being
reported. Claims under these reinsurance treaties include professional
liability, product liability and general liability which include asbestos and
environmental claims.
During the third quarter of 1999, the Company recognized an after tax
charge of $25 million in recognition of an increase in asbestos and
environmental claims reserves over previous estimates. This charge is
represented by the Company's contribution of $25 million to the discontinued
operations to ensure that sufficient funds are available to discharge estimated
liabilities as they become due.
The discontinued operations' assets at December 31, 2000 consisted of
$146.5 million in cash and investment securities, reinsurance recoverables of
$32.0 million and other assets totaling $25.3 million. Fremont estimates that
the dedicated assets supporting these operations and all future cash inflows
will be adequate to fund future obligations. (See Note P of Notes to
Consolidated Financial Statements.)
REGULATION
Industrial Bank Regulation
Fremont's industrial bank is subject to supervision and regulation by the
Department of Financial Institutions of the State of California (the "DFI") and,
as an insured institution, by the FDIC. None of the Company's subsidiaries are
regulated or supervised by the Office of Thrift Supervision, which regulates
savings and loan institutions. Fremont General Corporation is generally not
directly regulated or supervised by the DFI, the FDIC, the Federal Reserve Board
or any other bank regulatory authority, except with respect to guidelines
concerning its relationship with the industrial bank subsidiary. Such guidelines
include (i) general regulatory and enforcement authority of the DFI and the FDIC
over transactions and dealings between Fremont and the industrial bank, (ii)
specific limitations regarding ownership of the capital stock of the parent
company of any industrial bank, and (iii) specific limitations regarding the
payment of dividends from the industrial bank as discussed below. The industrial
bank is examined on a regular basis by both agencies. At December 31, 2000, the
industrial bank was in compliance with the regulatory requirements of these
agencies.
Federal and state regulations prescribe certain minimum capital
requirements and the industrial bank is currently in compliance with such
requirements. Federal and state regulatory authorities also have the power to
prohibit or limit the payment of dividends by the industrial bank. Fremont does
not believe that the restrictions on the industrial bank's ability to pay
dividends imposed by federal or state law will adversely affect the ability of
Fremont to meet its obligations. (See "Risk Factors.")
California Law. The industrial banking business conducted by Fremont's
industrial bank is governed by the California Revised Banking Law, which became
effective September 30, 2000, and the rules and regulations of the Commissioner
of the DFI. The Revised Banking Law made significant changes in the licensing
and regulation of industrial banks, formerly known as industrial loan companies
or thrift and loan companies. The Revised Banking Law required all industrial
banks to amend the purpose clause of their articles of incorporation to include
industrial banking. Fremont's industrial bank is in compliance with that
requirement.
Prior to the enactment of the Revised Banking Law, Fremont's industrial
bank was subject to the California Industrial Loan Law and regulations
promulgated thereunder, which regulated and limited, among other things, loan
term and interest rates, affiliate transactions, loans to single obligors,
acceptable collateral, portfolio mix, out of state lending, capital/thrift
certificate leverage ratios, annual assessments and charges for periodic
regulatory examinations.
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The effect of the Revised Banking Law is that an industrial bank is now
defined as a bank. All statutory and regulatory references to banks or
commercial banks apply equally to industrial banks. Essentially this means that
Fremont's industrial bank may offer all loan and credit programs and deposit
accounts that commercial banks may offer, with two significant exceptions. The
first is that industrial banks are not authorized to offer demand deposit
accounts. While Fremont's bank may not offer demand deposit accounts, it may
offer negotiable orders of withdrawal accounts (NOW accounts) and money market
deposit accounts (MMDA). The second exception is that industrial banks were
permitted to opt out of the provision of the Revised Banking law with regard to
payment of dividends, provided the election was made prior to January 30, 2001.
Fremont has made such election and consequently its authority to declare and pay
dividends continues to be governed by the provisions of the California General
Corporation Law, which otherwise applies to for-profit California corporations.
That election is valid for four years, after which the dividend provision of the
Revised Banking Law pertaining to commercial banks will apply. (See "Limitations
of Dividends.")
The bank continues to be authorized to invest in such investments as are
lawful for commercial banks. With regard to investment in subsidiary entities,
application and approval by the DFI may be required in each instance.
There are other differences in the Revised Banking Law from the Industrial
Loan Law. These include annual regulatory assessments equal to commercial banks
and no charges for regular periodic regulatory examinations, elimination of
limits on out of state lending, elimination of restrictions on affiliate
transactions, application of Federal Reserve Regulation O, increase in the
aggregate sum of obligations owing by a single borrower, and elimination of
capital/thrift leverage ratios. In addition, upon regulatory approval, Fremont's
industrial bank is now authorized to engage in trust business.
Maximum unsecured loans to one borrower is limited to 15% of shareholders'
equity, allowance for loan losses, and capital notes and debentures of an
industrial bank. Maximum secured and unsecured loans to one borrower is limited
to 25% of shareholders' equity, allowance for loan losses, and capital notes and
debentures of an industrial bank. The Commissioner of the DFI has authority to
determine if property is eligible to qualify a loan as secured. Unsecured and
secured obligations may not be combined in the same note. Separate notes are
required.
Loans secured by corporate stock of a single corporation are limited to 5%
of the bank's assets.
Prior approval must be obtained from the DFI before a person or entity
acquires control of an industrial bank or its controlling person, i.e., the
bank's holding company. Control means direct or indirect ownership or power to
vote 25% of the voting stock of the person or to direct management or its
policies. There is a presumption, however, as there is under the Federal Deposit
Insurance Act, that ownership or power of over 10% or more of the voting stock
is presumed to constitute control. (See "Federal Law") In addition to filing
with the FDIC, a separate letter filing must be made with the DFI for approval
or to rebut the presumption.
Under prior California law, the DFI was empowered to take possession of an
industrial bank in the event the capital was impaired or if the industrial bank
failed to cure a net worth deficiency within 120 days from notice. Rather than
the former capital deficiency and net worth tests, under the Revised Banking
Law, the DFI may take possession of an industrial bank if, among other things,
the tangible shareholders' equity is less than the greater of 3% of the
industrial bank's total assets, or $1 million. Violations of a bank's articles
of incorporation or any California law, unsafe or unauthorized conduct of
business, or unsafe or unsound conditions are also grounds for taking possession
and for liquidation of an industrial bank.
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Federal Law. The industrial bank's deposits are insured by the FDIC to the
full extent permitted by law. As an insurer of deposits, the FDIC issues
regulations, conducts examinations, requires the filing of reports and generally
supervises the operations of institutions to which it provides deposit
insurance. The approval of the FDIC is required prior to any merger,
consolidation or change in control or the establishment or relocation of any
branch office of the industrial bank. This supervision and regulation is
intended primarily for the protection of the insured deposit funds. Prior
written notice to the FDIC is required to close a branch office. FDIC approval,
however, is not required to open, relocate, or close a loan production office.
The industrial bank is subject to federal risk-based capital adequacy
guidelines which provide a measure of capital adequacy and are intended to
reflect the degree of risk associated with both on- and off-balance sheet items,
including residential real estate loans sold with recourse, legally binding loan
commitments and standby letters of credit. A financial institution's risk-based
capital ratio is calculated by dividing its qualifying capital by its
risk-weighted assets. Financial institutions are generally expected to meet a
minimum ratio of qualifying total capital to risk-weighted assets of 8%, of
which at least 4% of qualifying total capital must be in the form of core
capital ("Tier 1") -- common stock, noncumulative perpetual preferred stock,
minority interests in equity capital accounts of consolidated subsidiaries and
allowed mortgage servicing rights, less all intangible assets other than allowed
mortgage servicing rights and eligible purchased credit card relationships.
Supplementary capital ("Tier 2") consists of the allowance for loan and lease
losses up to 1.25% of risk-weighted assets, cumulative perpetual preferred
stock, long-term preferred stock (original maturity of at least 20 years),
perpetual preferred stock, hybrid capital instruments, term subordinated debt
and intermediate term preferred stock (original average maturity of five years
or more). The maximum amount of Tier 2 capital which may be recognized for
risk-based capital purposes is limited to 100% of Tier 1 capital (after any
deductions for disallowed intangibles and certain deferred tax assets). The
aggregate amount of term subordinated debt and intermediate term preferred stock
that may be treated as Tier 2 capital is limited to 50% of Tier 1 capital.
Certain other limitations and restrictions also apply. As of December 31, 2000,
the industrial bank's allowance for loan losses for Tier 2 capital was $49.5
million. At December 31, 1999, the Tier 2 capital of the industrial bank
consisted of approximately $40.5 million of allowance for loan losses. The
following table presents the industrial bank's risk-based capital position at
the dates indicated:
DECEMBER 31, 2000 DECEMBER 31, 1999
-------------------------- --------------------------
PERCENT OF PERCENT OF
RISK-WEIGHTED RISK-WEIGHTED
AMOUNT ASSETS AMOUNT ASSETS
---------- ------------- ---------- -------------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Tier 1 capital.................. $ 387,572 9.79% $ 338,939 9.48%
Minimum requirement............. 158,336 4.00 142,981 4.00
---------- ----- ---------- -----
Excess........................ $ 229,236 5.79% $ 195,958 5.48%
========== ===== ========== =====
Total capital................... $ 437,084 11.04% $ 379,396 10.61%
Minimum requirement............. 316,673 8.00 285,961 8.00
---------- ----- ---------- -----
Excess........................ $ 120,411 3.04% $ 93,435 2.61%
========== ===== ========== =====
Risk-weighted assets............ $3,958,372 $3,574,514
========== ==========
The FDIC has adopted a minimum leverage ratio which is intended to
supplement risk-based capital requirements and to ensure that all financial
institutions continue to maintain a minimum level of core capital. The minimum
leverage capital requirement for an FDIC-insured, state non-member bank, such as
Fremont's, shall consist of a ratio of Tier 1 capital to average total assets of
not less than 3%. This minimum only applies to the most highly-rated banks that
are not anticipating or experiencing any
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significant growth. All other FDIC-insured, state non-member banks would need to
meet a minimum leverage capital ratio at least 1% to 2% above this minimum. It
is improbable, however, that an institution with a 3% core capital-to-total
assets ratio would be rated in the highest category since a strong capital
position is so closely tied to the rating system. Therefore, the "minimum"
leverage ratio is, for all practical purposes, significantly above 3%. The
following table presents the industrial bank's leverage ratio (the ratio of Tier
1 capital to the quarterly average total assets) at the dates indicated:
DECEMBER 31, 2000 DECEMBER 31, 1999
-------------------------- --------------------------
PERCENT OF PERCENT OF
AVERAGE TOTAL AVERAGE TOTAL
AMOUNT ASSETS AMOUNT ASSETS
---------- ------------- ---------- -------------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Tier 1 capital.................... $ 387,572 9.00% $ 338,939 8.97%
Minimum requirement............... 129,185 3.00 113,313 3.00
---------- ---- ---------- ----
Excess.......................... $ 258,387 6.00% $ 225,626 5.97%
========== ==== ========== ====
Average total assets for the
quarter ended December 31,...... $4,306,182 $3,777,101
========== ==========
The FDIC has designated Fremont's industrial bank as a "well-capitalized"
institution under the regulations promulgated under the Federal Deposit
Insurance Corporation Improvement Act of 1991. A "well-capitalized" institution
has a total risk-based capital ratio of at least 10%, has a Tier 1 risk-based
capital ratio of at least 6%, has a leverage ratio of at least 5% and is not
subject to any written agreement, capital directive or prompt corrective action
directive issued by the FDIC under Section 8 or Section 38 of the Federal
Deposit Insurance Act to meet and maintain a specific capital level for any
capital measure. The total risk-based capital ratio is the ratio of qualifying
total capital to risk-weighted assets and the Tier 1 risk-based capital ratio is
the ratio of Tier 1 capital to risk-weighted assets.
As a "well-capitalized" institution, the industrial bank's annual FDIC
insurance premiums currently are 1.9 cents per $100 of eligible domestic
deposits in 2001. The insurance premium payable is subject to semi-annual
adjustment. The FDIC, by the first day of the month preceding each semi-annual
period, is required to notify each insured institution of its assessment
risk-classification upon which the insurance premium assessment for the
following period will be based. The FDIC has the authority to assess to all
insured institutions collectively, additional premiums to cover losses and
expenses associated with insuring deposits maintained at financial institutions
and for other purposes it deems necessary.
In November 1999, the FDIC announced proposed new regulations which are
designed primarily to increase the capital requirements for insured financial
institutions engaged in sub-prime lending. These proposed regulations address
the concentration of sub-prime risk in loan portfolios of insured financial
institutions, formalizes the definition of sub-prime lending which would be
subject to the proposed regulations and establishes higher levels of required
capital for insured financial institutions engaged in the type of sub-prime
lending as defined in the proposed regulations. It is unclear what changes, if
any, will be made to these proposed regulations by the FDIC before they are
finalized and implemented. While the Company's FDIC insured industrial bank
originates sub-prime residential real estate loans, it is unclear what impact,
if any, these proposed regulations, once finalized and implemented, will have on
the Company's financial position or operating results.
The FDIC, together with other federal banking regulatory agencies, issued a
joint release entitled "Expanded Guidance for Sub-prime Lending Programs" on
January 31, 2001 which contains supplemental guidelines regarding sub-prime
lending. The supplemental guidelines primarily apply to institutions with
sub-prime lending program of 25% or more of the institution's Tier 1 regulatory
capital. The
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guidelines are intended to intensify examination scrutiny of institutions that
target the sub-prime market. Institutions are examined on a case by case basis
to determine the sufficiency of capital to support the risk of sub-prime
lending. Generally, additional capital is required depending upon the additional
risk assessment. Although there are differences between holding a portfolio of
sub-prime loans and the securitization and sale of such loans, each requires
special attention to assure the adequacy of capital and proper risk management.
Limitations on Dividends. Under the Revised Banking Law, the industrial
bank elected to be governed by provisions of the California General Corporations
Law authorizing dividends for a period of four years beginning January 2001. The
California General Corporation Law permits distributions to shareholders if the
institution's financial condition meets either the retained earnings test or the
remaining assets test. If the industrial bank did not make such election, its
authorization to pay dividends would be subject to provisions applicable to
commercial banks, which is limited to the lesser of retained earnings or the
industrial bank's net income for its last three fiscal years, less amount of any
distributions made by the industrial bank or by any majority owned subsidiary of
the industrial bank to the shareholders of the industrial bank during such
period. Upon application to and approval by the DFI, the industrial bank would
be able to make distributions similar to the California General Corporation Law.
The election by the industrial bank avoids this request and approval.
In policy statements, the FDIC has advised insured institutions that the
payment of cash dividends in excess of current earnings from operations is
inappropriate and may be cause for supervisory action. Under the Financial
Institutions Supervisory Act and the Financial Institutions Reform, Recovery and
Enforcement Act of 1989, federal regulators also have authority to prohibit
financial institutions from engaging in business practices which are considered
to be unsafe or unsound. It is possible that, depending upon the financial
condition of the Company's industrial bank and other factors, such regulators
could assert that the payment of dividends in some circumstances might
constitute unsafe or unsound practices and could prohibit payment of dividends
even though technically permissible.
Other Regulation. Fremont's industrial bank is also subject to federal
consumer protection laws, including the Truth In Savings Act, the Truth in
Lending Act, the Community Reinvestment Act, the Real Estate Settlement
Procedures Act, and the Gramm-Leach-Bliley Act with regard to privacy of
consumer financial information.
Insurance Regulation
Fremont's workers' compensation insurance operation now has premiums
inforce in 46 states and the District of Columbia. Insurance companies are
subject to supervision and regulation by the state insurance authority in each
state in which they transact business. Such supervision and regulation relate to
numerous aspects of an insurance company's business and financial condition. The
primary purpose of such supervision and regulation is the protection of injured
workers and policyholders rather than investors or shareholders of an insurer.
The extent of such regulation varies, but generally derives from state statutes
that delegate regulatory, supervisory and administrative authority to state
insurance departments. Accordingly, the authority of the state insurance
departments includes the establishment of minimum solvency standards which must
be met and maintained by insurers, the licensing to do business of insurers and
agents, restrictions on investments by insurers, establishing premium rates for
certain property and casualty insurance and life and disability insurance, and
the approval of policy forms. Additionally, many states require insurers to
participate in assigned risk plans which provide insurance coverage to
individuals or entities who are unable to obtain coverage from existing insurers
in those states. The net profit or loss incurred in the administration of these
plans is allocated back to participant insurers based on the insurers' relative
market share (i.e., insurance premiums) in each state.
17
20
State insurance departments also conduct periodic examinations of the affairs of
insurance companies and require the filing of annual and other reports relating
to the financial condition of insurance companies. Fremont's multi-state
insurance operations require, and will continue to require, significant
resources of the Company in order to continue to comply with the regulations of
each state in which it transacts business. (See "Risk Factors.")
Beginning in 1995, Fremont's workers' compensation insurance policies have
for the most part been written as non-participating, which does not include
provisions for policyholder dividend consideration. Prior to January 1, 1995,
the Company's policies, which were written mainly in California, were primarily
written as participating, which obligated the Company to consider policyholder
dividend payments. This shift in policy type was due primarily to the increased
competition in the California market which resulted from the repeal of the
minimum rate law, effective January 1, 1995. The shift to non-participating
policies has continued and is a characteristic element of the competitive
environment.
Fremont's insurance subsidiaries are required in certain states to maintain
on deposit investment securities meeting specified standards that have an
aggregate market value equal to the Company's workers' compensation loss
reserves.
Insurance Guaranty Association Laws. Under insolvency or guaranty fund laws
in most states in which the Company's insurance subsidiaries operate, insurers
doing business in those states can be assessed, up to the prescribed limits, for
losses incurred by policyholders as a result of the insolvency of other
insurance companies. The amount and timing of such assessments are beyond the
control of Fremont and generally have not had an adverse impact on Fremont's
earnings in years in which such assessments have been made. Premiums written
under workers' compensation policies are generally subject to assessment only
with respect to covered losses incurred by the insolvent insurer under workers'
compensation policies. Such assessments generally are recoverable through future
policy surcharges.
Holding Company Regulation. The Company is subject to the California
Insurance Holding Company System Regulatory Act (the "Holding Company Act").
This act, and similar laws in other states, require the Company to periodically
file information with the DOI and other state regulatory authorities, including
information relating to its capital structure, ownership, financial condition
and general business operations. Certain transactions between an insurance
company and its affiliates, including sales, loans or investments which in any
twelve month period aggregate at least 5% of its admitted assets or 25% of its
statutory capital and surplus, also are subject to prior approval by the DOI.
The Holding Company Act also provides that the acquisition or change of
"control" of a California domiciled insurance company or of any person who
controls such an insurance company cannot be consummated without the prior
approval of the Insurance Commissioner. In general, a presumption of "control"
arises from the ownership of voting securities and securities that are
convertible into voting securities, that in the aggregate constitute 10% or more
of the voting securities of a California insurance company or of a person that
controls a California insurance company, such as Fremont. A person seeking to
acquire "control," directly or indirectly, of Fremont must generally file with
the Insurance Commissioner an application for change of control containing
certain information required by statute and published regulations and provide a
copy of the application to the Company. The Holding Company Act also effectively
restricts Fremont from consummating certain reorganizations or mergers without
prior regulatory approval.
The Holding Company Act also limits the ability of Fremont's insurance
subsidiaries to pay dividends to the Company. The act permits a property and
casualty insurance company to pay dividends in any year which, together with
other dividends or other distributions made within the preceding twelve months,
do not exceed the greater of 10% of its statutory surplus or 100% of its net
income as of the end
18
21
of the preceding year, subject to certain limitations. Larger dividends are
payable only upon prior regulatory approval. Applicable regulations further
require that an insurer's statutory surplus following a dividend or other
distribution be reasonable in relation to its outstanding liabilities and
adequate to its financial needs.
Other Regulations. The NAIC adopted a formula to calculate risk based
capital ("RBC") of property and casualty insurance companies for inclusion in
annual statements filed with state insurance departments. The purpose of the RBC
model is to help state regulatory authorities monitor the capital adequacy of
property and casualty insurance companies by measuring several major areas of
risk facing property and casualty insurers including underwriting, credit and
investment risks. Companies having less statutory surplus than the RBC model
calculates will be required to adequately address these risk factors and will be
subject to varying degrees of regulatory intervention, depending on the level of
capital inadequacy. The NAIC also adopted the Codification of Statutory
Accounting Principles ("Codification") that is effective January 1, 2001. The
Codification supersedes the NAIC's guidance on statutory accounting, "Accounting
Practices and Procedures Manual" and will result in changes to the prescribed
accounting practices that the Company has used previously, including for the
year 2000. (See Note B of Notes to Consolidated Financial Statements.)
Agreement with the DOI. As previously discussed, on November 27, 2000, the
Company's workers' compensation insurance subsidiaries entered into an agreement
with the DOI that, among other things, allows their insurance subsidiaries to
adjust to present value their workers' compensation insurance net loss and LAE
reserves for accident years 1999 and prior. In addition, under the agreement
with the DOI, the DOI has increased regulatory supervision and oversight over
the Company's workers' compensation insurance subsidiaries and the subsidiaries
will provide the DOI with additional and more frequent regulatory financial
information and are required to obtain the DOI's prior approval on future
material transactions, including the payment of dividends and certain other
affiliate payments.
INTERCOMPANY TRANSACTIONS
The payment of stockholder's dividends to Fremont by its subsidiaries are
and may continue to be subject to certain statutory and regulatory restrictions.
Fremont does not expect to receive any dividends from its property and casualty
insurance subsidiaries for the foreseeable future.
Fremont receives management fees from its property and casualty insurance
subsidiaries as reimbursement for certain administrative and investment
portfolio management services rendered by Fremont. As indicated above, the
Company's workers' compensation insurance subsidiaries entered into an agreement
with the DOI, under which the DOI could limit such reimbursement.
RISK FACTORS
Operating Results and Financial Condition May Vary
The Company's profitability can be affected significantly by many factors
including competition, the severity and frequency of claims, fluctuation in
interest rates and the rate of inflation, legislation and regulations, court
decisions, the judicial and regulatory climate and general economic conditions
and trends, all of which are outside of the Company's control. In addition,
Fremont's results may be affected by its ability to contain expenses and to
implement appropriate technological changes. Any of these factors could
contribute to significant variation in the Company's results of operations
within the different aspects of its business, or businesses taken as a whole,
from quarter to quarter and from year to year.
19
22
During periods when economic conditions are unfavorable, the Company's
financial services business may not be able to originate new loan products or
maintain the credit quality of its finance receivables, both in its portfolio
and for those loans that have been securitized, at previously attained levels.
This may result in increased levels of non-performing assets and net credit
losses. Changes in market interest rates, or in the relationships between
various interest rates, could cause Fremont's interest margins to be reduced and
may result in significant changes in the prepayment patterns of the Company's
finance receivables. These risk factors could adversely affect the value of
Fremont's loans and their related collateral, as well as the valuation of the
residual interests in the Company's securitized loans, both of which could
adversely affect Fremont's results of operations and financial condition. In
addition, should the Company elect to monetize, in full or in part, its residual
interests in securitized loans for liquidity or other purposes through the sale,
or by other means, of these interests, the Company may realize, possibly
significant, amounts less than the value of the interests as recorded in its
financial statements due to the limited market for such residual interests and
the timing and nature of such a transaction.
With respect to Fremont's workers' compensation insurance business, changes
in economic conditions can lead to reduced premium levels due to lower payrolls
as well as increased claims due to the tendency of workers who are laid off to
submit workers' compensation insurance claims. Changes in the medical,
rehabilitation and legal environment can impact the severity of claims and the
average cost per claim. Changes in market interest rates and credit conditions
can affect the amount of interest income that the Company earns on its
investment portfolio, as well as the amount of realized and unrealized gains or
losses on specific holdings within the Company's investment portfolio. The
Company's balance sheet includes significant amounts of reinsurance
recoverables. Reinsurance contracts do not relieve the Company's property and
casualty operations from its obligations to policyholders. The failure of
reinsurers to meet their obligations in a timely and complete manner could
result in losses to the Company. The Company also has premium receivables and
agents' balances that represent amounts due its property and casualty insurance
operations. Due to the current uncertainty surrounding the Company's workers'
compensation insurance operations and their recent restructuring, there may be
higher than normal delays in, or non-payment of, the amounts due. While the
Company's property and casualty insurance operations have established an
allowance for doubtful accounts in an amount it believes is sufficient to cover
such potentialities, higher than expected levels of delinquency and non-payment
could have an adverse impact upon the Company's financial position. Legislative
and regulatory changes can also cause the operating results of the Company's
workers' compensation insurance businesses to vary. The outlook for the future
of the Company's workers' compensation insurance business is uncertain and is
dependent upon the ability to maintain adequate rates, and to write sufficient
business at such rates, manage claims costs and frequency, and to keep operating
expenses in line with expected reductions in premium volume.
Loss Reserves and Allowance for Loan Losses May Prove to Be Inadequate
The Company's financial services business maintains an allowance for loan
losses on its portfolio of finance receivables in amounts that the Company
believes is sufficient to provide adequate protection against potential losses.
The finance receivables that Fremont primarily originates, both for its
portfolio and for securitization, are generally non-conventional and
non-investment grade loans. To mitigate for the somewhat higher potential risk
of the lending that the Company is primarily engaged in and for the impact that
adverse economic developments could have on the Company's finance receivables,
Fremont lends primarily on a senior and secured basis and employs a proactive
asset management approach. The Company also attempts to carefully evaluate the
underlying collateral that secures these loans and to maintain underwriting
standards that are designed to effect appropriate loan to collateral valuations
and
20
23
cash flow coverages. Although the Company believes that its consolidated level
of allowance is sufficient to cover potential credit losses, the allowance could
prove to be inadequate due to unanticipated adverse changes in economic
conditions or discrete events that adversely affect specific borrowers,
industries or markets. Any of these changes could impair the Company's ability
to realize the expected value of the collateral securing certain of its finance
receivables or the timing of the realization thereof.
Fremont's property and casualty insurance subsidiaries are required to
maintain reserves to cover the Company's ultimate liability for losses and LAE
with respect to reported and unreported claims incurred as of the end of each
accounting period. These reserves do not represent an exact calculation of
liabilities, but instead are estimates involving actuarial projections at a
given time of what the ultimate settlement and administration of claims will
cost, including estimates of reinsurance recoveries associated with the
estimated claims costs. These projections are based on facts and circumstances
then known, predictions of future events, estimates of future trends in claims
frequency and severity, and judicial theories of liability, as well as other
factors. The Company regularly reviews its reserving techniques, overall reserve
position and reinsurance. In light of present facts, trends and legal
interpretations, the Company believes that adequate provisions have been made
for loss and LAE reserves, net of reinsurance recoverables; however, the
establishment of appropriate gross loss and LAE reserves and reinsurance
recoverables is an inherently uncertain process and there can be no certainty
that currently established gross loss and LAE reserves and reinsurance
recoverables will prove to be adequate in light of subsequent actual experience.
Subsequent actual experience has resulted, and could result, in net loss and LAE
reserves being too high or too low. The Company's future loss and LAE
development could require an increase in its gross loss and LAE reserves or a
decrease in its reinsurance recoverables from prior periods, which would
adversely affect the Company's earnings in future periods.
Competition May Adversely Affect the Company's Market Share and Operating
Results
The Company's financial services business competes in markets that are
highly competitive and are characterized by factors that vary based upon loan
product and geographic region. The markets in which Fremont competes are
typically characterized by a large number of competitors who compete for loans
based primarily upon price, terms and loan structure. The Company's industrial
bank also competes for deposits to fund its operations. Competition is highly
price-sensitive and competitive forces could affect the industrial bank's
ability to source adequately priced deposits. The Company primarily competes
with banks and mortgage and finance companies, many of which are larger and have
greater financial resources than Fremont. The competitive forces of these
markets could adversely affect the Company's net finance income, loan
origination volume or net credit losses.
Fremont's property and casualty insurance business competes in a market
characterized primarily by competition on the basis of price and service. In
addition, state regulatory changes could affect competition in the states where
the Company transacts business. Although Fremont was one of the largest writers
of workers' compensation insurance in the nation, the Company began reducing its
workers' compensation insurance writings during 2000, and on into 2001, in
response to increased operating leverage that resulted primarily from gross loss
reserve actions taken in 2000. In addition, A.M. Best reduced its rating on the
Company's workers' compensation insurance subsidiaries to "E" (Under Regulatory
Supervision) in December of 2000, making it difficult for the Company to renew
policies and attract new business. While the Company continues to evaluate
various alternatives to assist in its efforts to be able to write sufficient
premium volume, there can be no certainty that such initiatives will be
realized. Most of the Company's competitors are larger and have greater
resources. For these reasons, the Company will most likely not maintain its
market share in the states where it plans to do
21
24
business in the future and the Company may not be able to obtain adequate
pricing for its insurance products.
Geographic Concentration of Business Could Adversely Affect the Company's
Operations
While the Company attempts to diversify its loan origination by geographic
region, the Company's geographic concentration of commercial and residential
real estate loans remains in California. At December 31, 2000, approximately
half of Fremont's commercial and residential real estate loans, both in its
portfolio and those loans that have been securitized, were collateralized by
properties located in California. Adverse events in California, such as real
estate market declines or the occurrence of natural disasters upon property
located therein, may have a more significant adverse effect upon the Company's
operating results and financial condition than if a higher percentage of its
loans were collateralized by properties located outside California.
Fremont's workers' compensation insurance operations have been restructured
to concentrate on writing workers' compensation insurance in California and the
western United States, and to eliminate operations in other states, in
particular Illinois. The Company expects that as the amount of total premium
volume decreases, the significant majority of its business will be located in
California. Because of this geographic concentration of business in California,
the Company's financial position and results of operations are expected to be
significantly influenced by general trends in the California economy, and in
particular, the condition of the California workers' compensation insurance
market. The impact of unfavorable economic conditions, legislation, regulatory
restrictions and supervision, and other trends within California may result in
greater uncertainty and volatility in the Company's business operations and
could adversely affect the results of Fremont's operations and its financial
condition more than if the Company's premium had been originated with more
geographic diversification.
Regulatory Developments May Adversely Affect the Company's Operations
Fremont's financial services businesses include an FDIC insured industrial
bank subject to supervision and regulation by the DFI and the FDIC. Federal and
state regulations prescribe certain minimum capital requirements and, while the
Company's industrial bank is currently in compliance with such requirements, in
the future the Company could be required to make additional contributions to its
industrial bank in order to maintain compliance with such requirements. Future
changes in government regulation and policy could adversely affect the
industrial bank industry, including Fremont's industrial bank. Such changes in
regulations and policies may place restrictions on or make changes to the
Company's lending business and increase the costs of compliance.
As previously reported, the Company's workers' compensation insurance
subsidiaries have entered into an agreement with the DOI in which the DOI is
allowed additional regulatory supervision and oversight over their activities.
Under the agreement, prior approval by the DOI is required for certain payments
by the workers' compensation insurance subsidiaries, including those to
affiliates. These payments are generally for the reimbursement of certain
expenses and for various services rendered. Previously, substantially all
affiliate payments have been made to Fremont. Delay, or denial in whole or in
part, by the DOI of such future payments may adversely impact the liquidity of
Fremont. In addition, should the DOI determine in good faith that the financial
position of the Company's workers' compensation insurance subsidiaries no longer
adequately protects policyholders from financial hazard, the DOI may institute
various regulatory actions, including conservation. Should the Company's
significant workers' compensation insurance subsidiaries come under regulatory
conservation, or similar arrangement, this may cause an event of default under
the Company's Series B senior notes (the "Senior Notes") outstanding. If an
event of default is declared under the Senior Notes, the outstanding principal
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25
may become immediately due and payable. The Company's current financial position
would not enable it to meet such an obligation and, as a result, the Company and
the holders of its Senior Notes may pursue various alternatives. Such actions
could have a significant adverse impact upon the Company and the holders of its
various securities.
While the Company expects that in the future the predominant amount of
workers' compensation insurance premiums will be represented by policies in
California, after giving effect to the previously discussed restructuring of the
workers' compensation insurance operation in December 2000, the Company's
workers' compensation insurance operation could be adversely impacted by the
actions of regulatory authorities in other states, including those states in
which the Company no longer intends to underwrite workers' compensation
insurance policies in. Such actions could include, among other things,
suspension of licenses, various restrictions on business activities, and
increased levels in the amounts of investment securities to be maintained on
deposit with various states.
A significant portion of Fremont's workers' compensation insurance premiums
are derived from policies issued in California. California began operating under
an open rating system effective January 1, 1995. Each insurance company sets its
base rates to reflect its particular loss experience and operating costs and is
not required to adopt such advisory rates. In particularly competitive
environments, such as California, many insurance companies often set their
premium rates below such advisory rates. Before January 1, 1995, California
operated under a minimum rate law, whereby premium rates established by the DOI
were the minimum rates that could be charged by an insurance carrier. The repeal
of the minimum rate law has resulted in lower premiums and profitability on the
Company's California workers' compensation insurance policies due to increased
price competition.
ITEM 2. PROPERTIES
The Company leases substantially all of its office facilities in various
cities for its corporate and subsidiary operations. The Company considers these
facilities to be adequate for its operating needs. See Note N of Notes to
Consolidated Financial Statements in this Annual Report on Form 10-K, which note
is incorporated herein by reference.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries and affiliates are parties to various
legal proceedings, which in some instances include claims for punitive damages,
most of which are considered routine and incidental to their business. Fremont
believes that ultimate resolution or settlement of such matters will not have a
material adverse effect on its consolidated financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Fremont's common stock is traded on the New York Stock Exchange ("NYSE")
under the trading symbol "FMT." The following table sets forth the high and low
sales prices of the Company's common stock as reported as composite transactions
on the NYSE and the cash dividends declared on the Company's common stock during
each quarter presented.
DIVIDENDS
HIGH LOW DECLARED
------ ------ ---------
2000
1st Quarter........................................ $ 9.63 $ 5.50 $0.08
2nd Quarter........................................ 6.88 3.88 0.08
3rd Quarter........................................ 5.25 2.69 0.04
4th Quarter........................................ 5.38 1.50 0.04
-----
Total.................................... $0.24
=====
1999
1st Quarter........................................ $25.69 $17.56 $0.08
2nd Quarter........................................ 21.75 16.50 0.08
3rd Quarter........................................ 19.56 8.50 0.08
4th Quarter........................................ 9.50 4.69 0.08
-----
Total.................................... $0.32
=====
On December 31, 2000, the closing sale price of the Company's common stock
on the NYSE was $2.81 per share. There were 1,849 stockholders of record as of
December 31, 2000.
Fremont has paid cash dividends in every quarter since its initial public
offering in 1977. The decision to do so is made quarterly by the Board of
Directors and is dependent on the earnings of the Company, management's
assessment of future capital needs, and other factors. (See "Item 1.
Business -- Risk Factors" and Item 7. "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Liquidity and Capital
Resources.)
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ITEM 6. SELECTED FINANCIAL DATA
YEAR ENDED DECEMBER 31,
----------------------------------------------------------
2000(1) 1999(2) 1998(3) 1997(4) 1996
---------- ---------- ---------- -------- --------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS AND PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Property and casualty premiums
earned.............................. $1,016,086 $ 831,005 $ 552,078 $601,183 $486,860
Interest and fee income on loans...... 379,243 366,408 240,749 199,195 168,018
Net investment income................. 160,982 169,559 192,815 149,729 123,531
Realized investment losses............ (2,754) (3,548) (605) (1,964) (1,658)
Other revenue......................... 23,615 34,186 44,143 23,020 17,547
---------- ---------- ---------- -------- --------
Total revenues................. $1,577,172 $1,397,610 $1,029,180 $971,163 $794,298
========== ========== ========== ======== ========
Financial services income............. $ 102,173 $ 79,874 $ 55,506 $ 42,286 $ 36,589
Property and casualty insurance income
(loss).............................. (748,535) (116,178) 169,235 144,667 117,593
Corporate and other interest
expense............................. (46,496) (29,980) (28,029) (28,060) (25,873)
---------- ---------- ---------- -------- --------
Income (loss) before taxes............ (692,858) (66,284) 196,712 158,893 128,309
Income tax (expense) benefit.......... 174,128 25,907 (63,748) (50,601) (41,021)
---------- ---------- ---------- -------- --------
Net income (loss) from continuing
operations.......................... $ (518,730) $ (40,377) $ 132,964 $108,292 $ 87,288
========== ========== ========== ======== ========
GAAP RATIOS FOR PROPERTY AND CASUALTY
INSURANCE:
Loss ratio(1)......................... 124.2% 92.7% 60.8% 64.7% 68.9%
Expense ratio(1)...................... 57.9% 31.6% 34.5% 27.5% 25.9%
Policyholder dividends ratio.......... 3.8% 4.4% 0.9% 0.8% --
---------- ---------- ---------- -------- --------
Combined ratio........................ 185.9% 128.7% 96.2% 93.0% 94.8%
========== ========== ========== ======== ========
PER SHARE DATA:
Cash dividends declared............... $ 0.24 $ 0.32 $ 0.305 $ 0.30 $ 0.30
Stockholders' equity:
Including SFAS 115.................. 3.46 10.44 13.60 12.04 9.95
Excluding SFAS 115.................. 4.18 11.42 13.04 11.28 9.90
Net income (loss) from continuing
operations:
Basic............................... (8.23) (0.64) 2.09 1.90 1.77
Diluted(5).......................... (8.23) (0.64) 1.90 1.62 1.37
WEIGHTED AVERAGE SHARES USED TO
CALCULATE PER SHARE DATA:
Basic................................. 63,052 63,650 63,529 57,059 49,315
Diluted(5)............................ 63,052 63,650 70,082 68,585 67,206
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DECEMBER 31,
--------------------------------------------------------------
2000(1) 1999(2) 1998(3) 1997(4) 1996
---------- ---------- ---------- ---------- ----------
(THOUSANDS OF DOLLARS)
BALANCE SHEET DATA:
Total assets........................... $8,164,058 $8,053,520 $7,433,954 $6,166,558 $4,310,966
Investments............................ 1,978,899 2,205,834 2,386,757 2,442,813 1,484,310
Loans receivable....................... 3,403,256 3,060,984 2,958,176 1,983,687 1,688,040
Claims and policy liabilities.......... 3,146,999 2,792,159 2,635,369 2,536,481 1,582,779
Deposits............................... 3,849,211 3,423,243 2,134,839 1,492,985 1,114,352
Short-term debt........................ -- 10,000 165,702 26,290 16,896
Long-term debt......................... 376,843 429,185 913,006 691,068 636,456
Trust Originated Preferred
Securities(SM)....................... 100,000 100,000 100,000 100,000 100,000
Stockholders' equity:
Including SFAS 115................... 244,899 731,101 950,912 832,815 559,117
Excluding SFAS 115................... 295,717 800,191 912,010 779,906 556,488
- ---------------
(1) In 2000, the Company recognized an increase in gross liability for losses
totaling $450 million and $267.8 million of charges related to the
restructuring of its workers' compensation insurance operations.
(2) The Company sold Fremont Financial Corporation on December 20, 1999.
(3) The Company acquired UNICARE Specialty Services, Inc. on September 1, 1998.
(4) The Company acquired Industrial Indemnity Holdings, Inc. on August 1, 1997.
(5) For 2000 and 1999, dilutive securities were excluded from diluted weighted
average shares because the effect would have been antidilutive.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
Fremont General Corporation ("Fremont" or "the Company") is a financial
services holding company. Fremont manages its business through two operating
segments: (i) financial services and (ii) property and casualty insurance.
Fremont's financial services' segment is consolidated within Fremont General
Credit Corporation, which is engaged in collateralized commercial and consumer
lending nationwide through its California-chartered industrial bank subsidiary,
Fremont Investment & Loan ("FIL"). Fremont's property and casualty insurance
segment is consolidated within Fremont Compensation Insurance Group ("FCIG") and
substantially all of its insurance operation is represented by the underwriting
of workers' compensation insurance policies. Each segment is managed separately
and uses different pricing, distribution and operating methods. Additionally,
there are certain corporate revenues and expenses, comprised primarily of
investment income, interest expense and certain general and administrative
expenses, that Fremont does not allocate to its segments.
This discussion and analysis should be read in conjunction with the audited
Consolidated Financial Statements and notes thereto presented under Item 8 and
the Business section presented under Item 1.
RESULTS OF OPERATIONS
The following table presents a summary of the Company's income (loss)
before taxes by business segment and net after tax income (loss) for the years
ended December 31, 2000, 1999 and 1998:
YEAR ENDED DECEMBER 31,
----------------------------------
2000 1999 1998
--------- --------- --------
(THOUSANDS OF DOLLARS)
Income (loss) before taxes:
Financial Services........................ $ 102,173 $ 79,874 $ 55,506
Property and casualty..................... (748,535) (116,178) 169,235
Unallocated corporate interest and other
expenses............................... (46,496) (29,980) (28,029)
--------- --------- --------
Total income (loss) before taxes.......... $(692,858) $ (66,284) $196,712
Income tax (expense) benefit.............. 174,128 25,907 (63,748)
--------- --------- --------
Net income (loss) from continuing
operations............................. (518,730) (40,377) 132,964
Discontinued operations, net of tax....... -- (25,000) --
Extraordinary gains on extinguishment of
debt, net of tax....................... 12,418 -- --
--------- --------- --------
Net income (loss)......................... $(506,312) $ (65,377) $132,964
========= ========= ========
The substantial property and casualty segment loss before taxes for the
year ended December 31, 2000 is predominantly the result of the recognition of
an increase of $450 million in the Company's gross liability for loss and LAE
reserves during the quarter ended June 30, 2000, and the recognition of $267.8
million in certain charges during the quarter ended December 31, 2000 associated
with the Company's restructuring of its workers' compensation insurance
operation, which was announced by the Company on December 14, 2000. The increase
in the Company's gross loss and LAE reserves was related primarily to claims
under workers' compensation insurance policies effective in or prior to 1999.
Additionally, during the quarter ended December 31, 2000, the Company recognized
$44.1 million in various non-recurring charges, primarily in the elimination of
previously recorded tabular discounts in the Company's loss reserves and an
increase in the allowance for doubtful accounts for premiums
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receivable and agents' balances. The aforementioned increase in gross loss and
LAE reserves, restructuring charges and additional non-recurring charges, are
explained in more detail in the notes to the Company's consolidated financial
statements and in the "Property and Casualty Insurance Operation" section
herein.
As previously discussed in the "Business section -- General" presented
under Item 1, the Company, as a result of substantial operating losses in its
property and casualty insurance segment in 2000, has entered into an agreement
with the DOI which provides for additional regulatory oversight and supervision
of the Company's workers' compensation insurance subsidiaries. The Company has
restructured its workers' compensation insurance operation to reduce operating
expenses to levels considered appropriate for the expected significant
reductions in workers' compensation insurance premiums. In addition, in an
effort to mitigate the impact that the Company's "E" (Under Regulatory
Supervision) rating from A.M. Best has on its ability to write new and renewal
workers' compensation insurance policies, the Company and an insurance carrier
with an "A" rating from A.M. Best have reached agreement on substantially all
material terms of a fronting facility. This fronting facility transaction is
pending definitive documentation and final regulatory approval, and the Company
cannot be certain that an agreement will be finalized and implemented.
The Company's property and casualty insurance operation segment's loss
before taxes for the year ended December 31, 1999 was due primarily to the
impact of two actions. First, the Company, in the third quarter of 1999,
recognized in the amount of $147 million, the adverse effect on incurred loss
and LAE of a lower than expected level of certain reinsurance recoverables than
had been actuarially predicted at the inception of certain reinsurance
agreements. Second, the recognition of a settlement agreement with Reliance
under a reinsurance contract that was in effect from January 1, 1998 through
December 31, 1999, which resulted in a charge of $75 million. The aforementioned
two actions are explained in more detail in the notes to the Company's
consolidated financial statements and in the "Property and Casualty Insurance
Operation" section herein.
The financial services segment recorded income before taxes of $102.2
million for 2000, as compared to $79.9 million and $55.5 million for 1999 and
1998, respectively. Included in the results for 1999 is the recognition of a
gain in the amount of $10.3 million related to the sale of the Company's
commercial finance subsidiary, Fremont Financial, in December of 1999. Fremont
Financial's income before taxes of $9.0 million and $11.4 million for 1999 and
1998, respectively, are included in the financial services segment results
reported. The significant increase in income before taxes for 2000, as compared
to 1999, is primarily related to an increase in the interest margin, lower
operating expense ratios, and higher levels of gains on the whole loan sales of
residential real estate loans. The increase in income before taxes in 1999, as
compared to 1998, is primarily due to a significant increase in average earning
assets, with an offset due to slightly lower interest margins and a decrease in
gains on the whole loan sales of residential real estate loans. See the
"Financial Services Operation" section herein for additional detail.
Unallocated corporate interest and other expenses during the year ended
December 31, 2000 consisted primarily of investment income revenue, offset by
unallocated corporate expenses consisting primarily of interest expense, net of
any affiliate interest income, and general and administrative expenses, net of
subsidiary reimbursement. The unallocated corporate interest and other expense
loss before taxes for the year ended December 31, 2000, was $46.5 million as
compared to $30.0 and $28.0 million, for 1999 and 1998, respectively. The
significant increase in 2000 as compared to the consistent levels in 1999 and
1998 is due primarily to lower affiliate interest income from the Company's
downstream holding company subsidiaries. The lower affiliate interest income
resulted from the Company's conversions on January 1, 2000 and April 1, 2000 of
approximately $154 million and
28
31
$267 million, respectively, in notes receivable due from these subsidiaries to
common equity in the subsidiaries, thereby establishing capital contributions to
them. The January 1, 2000 conversion transaction affected Fremont General Credit
Corporation ("FGCC"), the downstream holding company subsidiary that holds the
Company's industrial bank subsidiary, FIL. The April 1, 2000 conversion
transaction impacted FCIG, which is the downstream holding company subsidiary
that holds the Company's insurance company subsidiaries. With these debt
conversions, beginning January 1, 2000, and to a larger extent April 1, 2000,
the Company's unallocated corporate interest expense is, and will continue to
be, higher. After these conversions, there is no affiliate debt due from the
Company's downstream holding company subsidiaries. See "Liquidity and Capital
Resources" for additional information.
YEAR ENDED DECEMBER 31,
--------------------------------------
2000 1999 1998
---------- ---------- ----------
(THOUSANDS OF DOLLARS)
Revenues:
Financial services...................... $ 420,987 $ 411,575 $ 297,469
Property and casualty................... 1,151,596 984,573 729,728
Unallocated corporate revenue........... 4,589 1,462 1,983
---------- ---------- ----------
Total........................... $1,577,172 $1,397,610 $1,029,180
========== ========== ==========
The Company generated revenues of approximately $1.58 billion for 2000, as
compared to revenues of $1.40 billion and $1.03 billion for 1999 and 1998,
respectively. Higher revenues in 2000 as compared to 1999 resulted from higher
workers' compensation insurance premiums in the property and casualty insurance
segment. Revenues in the financial services segment remained relatively even in
2000 as compared to 1999. While the Company's commercial real estate average
loan portfolio increased from $2.09 billion in 1999 to $2.60 billion in 2000,
and the Company experienced slightly higher yields on its average loan portfolio
and investments, the Company did not have any revenue from its Fremont Financial
subsidiary in 2000 as a result of its sale in December 1999. Higher workers'
compensation insurance premiums were achieved in 2000 primarily from increased
new business development during 1999, which increased gross estimated annual
premiums in effect at December 31, 1999 to $1.03 billion, and from a lower level
of ceded reinsurance premiums. During 1999 and 2000, the Company had lowered its
reinsurance attachment point to $50,000, which resulted in higher ceded
reinsurance premiums and lower net earned premium revenues during these two
years. (See "Property and Casualty Insurance Operation -- Premiums.") Higher
revenues for 1999 as compared to 1998 resulted from increases in both financial
services and property and casualty insurance revenues. Financial services'
revenues increased as its average earning assets increased from $2.59 billion in
1998 to $4.09 billion in 1999, despite a slight decrease in yields. (See
"Financial Services Operation.") Revenues for the property and casualty
insurance segment increased primarily due to increased new business development
and the September 1, 1998 acquisition of Unicare Specialty Services, Inc.
("Unicare"), a workers' compensation insurance company, from Wellpoint Health
Networks Inc.
During the year ended December 31, 2000 the Company purchased $40.9 million
and $7.3 million, respectively, in principal amount of its publicly traded 7.7%
Series B Senior Notes due 2004 and 7.875% Series B Senior Notes due 2009
("Senior Notes"), which were originally issued by the Company pursuant to an
exchange offer in the second quarter of 1999. See "Liquidity and Capital
Resources" for additional detail on this extinguishment of debt. In addition,
during 2000, the Company purchased $2.3 million of principal amount at maturity
of its publicly traded Liquid Yield Option Notes due 2013 (the "LYONs"). The
Company recognized an after-tax gain of $12.4 million from these actions during
29
32
2000. The after-tax gain is reported as an extraordinary item in the
accompanying Consolidated Statements of Operations.
In the year ended December 31, 1999, the Company incurred a net after-tax
loss of $25 million to recognize the contribution by Fremont of additional
assets to its discontinued insurance operations. The additional assets were
considered necessary as the Company observed an increase in reported asbestos
and environmental claims in excess of previous estimates. The Company's
discontinued insurance operations consist primarily of assumed treaty and
facultative reinsurance business that was discontinued between 1986 and 1991. In
1990, the Company established a management group to actively manage the
liquidation of this business. The liabilities associated with this business are
long term in duration and, therefore, the Company continues to be subject to
claims being reported. Claims under these reinsurance treaties include
professional liability, product liability and general liability, which include
environmental and asbestos claims.
Income tax expense (benefits) of $(174,128,000), $(25,907,000), and
$63,748,000 for 2000, 1999 and 1998, represents effective tax rates of 25.1%,
39.1%, and 32.4%, respectively, on income (loss) before taxes and extraordinary
items of $(692,858,000), $(66,284,000) and $196,712,000 for the same respective
periods. The effective tax rates for the three periods presented are different
than the federal enacted tax rate of 35%, due mainly to tax exempt investment
income, which either reduces the Company's taxable income or increases the
Company's taxable loss, higher state income tax provisions within the Company's
financial services operation and tax exempt goodwill amortization, which is
excluded from deductible expenses. The significant change in effective tax rates
in 2000, as compared to 1999 and 1998, is a result of the Company's write off of
certain goodwill balances and other intangible assets as part of its
restructuring charge in 2000. See Note B of the Company's consolidated financial
statements for further detail on the restructuring charge recognized by the
Company in 2000. As the Company is currently in a net loss carryover condition,
the income tax benefit in the twelve months ended December 31, 2000 has been
recognized as a deferred tax asset. See Note G of the Company's consolidated
financial statements for further detail on the Company's income tax provisions
and deferred tax asset.
FINANCIAL SERVICES OPERATION
YEAR ENDED DECEMBER 31,
-----------------------------------
2000 1999 1998
--------- --------- ---------
(THOUSANDS OF DOLLARS)
FINANCIAL SERVICES
Interest and fee income on loans................... $ 379,243 $ 366,408 $ 240,749
Interest income on investment securities........... 18,936 10,408 12,716
--------- --------- ---------
Total interest income.................... 398,179 376,816 253,465
Interest expense................................... (217,862) (205,939) (134,587)
--------- --------- ---------
Net interest income...................... 180,317 170,877 118,878
Provision for loan losses.......................... (17,526) (25,470) (11,059)
--------- --------- ---------
Net interest income after provision for
loan losses............................ 162,791 145,407 107,819
Other non-interest income.......................... 22,808 24,435 42,769
Gain on sale of Fremont Financial.................. -- 10,324 --
Operating expenses................................. (83,426) (100,292) (95,082)
--------- --------- ---------
Income before taxes................................ $ 102,173 $ 79,874 $ 55,506
========= ========= =========
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33
The financial services operation's income before taxes was $102.2 million
for the year 2000. This is a 69% increase when compared to 1999's income before
taxes, excluding the gain on the sale of Fremont Financial and its $9.0 million
in income before taxes for 1999. This increase in earnings is a result of the
following:
- Net interest income as a percentage of average earning assets increased
to 4.49% for 2000 as compared to 4.18% for 1999. This increase reflects
improved pricing for the Company's lending products, lower relative costs
of funding and a more favorable mix of higher yielding lending products.
- Increased levels of gains recognized on whole loan sales.
- Lower net operating expense levels as a percentage of average earning
assets. This percentage was 2.1% in 2000, as compared to 2.5% in 1999.
This reflects the success of the Company's cost containment efforts.
- Net charge-offs, as a percentage of the average loan portfolio, were a
low 0.17%, resulting in a lower provision for loan losses in 2000 than in
1999.
The financial services operation's income before taxes was $79.9 million
for the year 1999. This amount includes a $10.3 million gain on the sale of
Fremont Financial and its operating results until its sale in December of 1999.
This is a 25% increase when compared to 1998's income before taxes, excluding
the gain on sale of Fremont Financial in 1999. An increase in net earning assets
from $2.6 billion in 1998 to $4.1 billion in 1999 was the primary factor in
increased income before taxes. Offsetting this was a decline in net interest
income as a percentage of average earning assets to 4.18% for 1999 as compared
to 4.59% for 1998. In addition, in 1999, the Company sold less residential real
estate loans in whole loan sales transactions due to market pricing conditions.
The Company instead sold residential real estate loans through three
securitizations during 1999 and recognized no net gain on sale. Lower net
operating expense levels were realized in 1999, as a percentage of average
earning assets, as compared to 1998. This percentage was 2.5% in 1999 as
compared to 3.6% in 1998.
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34
The following table identifies the interest income, interest expense,
average interest bearing assets and liabilities, and interest margins for
Fremont's financial services operation:
YEAR ENDED DECEMBER 31,
------------------------------------------------------------------------------------------------
2000 1999 1998
------------------------------ ------------------------------ ------------------------------
AVERAGE YIELD/ AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST COST BALANCE INTEREST COST BALANCE INTEREST COST
---------- -------- ------ ---------- -------- ------ ---------- -------- ------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Interest bearing
assets(1):
Commercial real estate
loans $2,600,159 $267,938 10.30% $2,086,038 $193,491 9.28% $1,220,115 $120,718 9.89%
Residential real
estate loans(2) 737,083 71,854 9.75 726,552 67,248 9.26 417,872 40,025 9.58
Syndicated loans 336,455 33,438 9.94 486,835 43,808 9.00 249,440 24,829 9.95
Insurance premium
finance loans 53,731 6,014 11.19 60,691 6,358 10.48 62,050 6,214 10.01
Commercial finance
loans -- -- -- 527,521 55,503 10.52 416,264 48,963 11.76
Investments 290,784 18,935 6.51 201,527 10,409 5.17 226,097 12,716 5.62
---------- -------- ----- ---------- -------- ----- ---------- -------- -----
Total interest
bearing assets $4,018,212 $398,179 9.91% $4,089,164 $376,817 9.22% $2,591,838 $253,465 9.78%
========== ======== ========== ======== ========== ========
Interest bearing
liabilities:
Time deposits $2,989,436 $180,895 6.05% $2,163,215 $116,377 5.38% $1,339,116 $ 76,215 5.69%
Savings deposits 646,072 36,529 5.65 657,697 32,797 4.99 388,355 20,245 5.21
Debt with banks and
other institutions 6,303 389 495,941 26,916 5.43 268,834 17,170 6.39
Securitization
obligation -- -- -- 332,873 18,160 5.46 287,386 17,588 6.12
Debt from affiliates -- -- -- 129,007 9,276 7.19 53,813 3,279 6.09
Other 2,471 49 1.98 41,993 2,412 5.74 2,082 90 4.32
---------- -------- ----- ---------- -------- ----- ---------- -------- -----
Total interest
bearing
liabilities $3,644,282 $217,862 5.98% $3,820,726 $205,938 5.39% $2,339,586 $134,587 5.75%
========== ======== ========== ======== ========== ========
Net interest income $180,317 $170,879 $118,878
======== ======== ========
Percent of average
interest-earning
assets:
Interest income 9.91% 9.22% 9.78%
Interest expense 5.42% 5.04% 5.19%
-------- -------- --------
Net interest margin 4.49% 4.18% 4.59%
======== ======== ========
- ---------------
(1) Average loan balances include non-accrual loan balances, and exclude
residual interests in securitized loans.
(2) Includes loans held for sale
The margin between the Company's interest income and expense ("net yield")
increased in 2000 as compared to 1999 due mainly to the combined effect of an
increase in the net yields on commercial real estate loans, and to a lesser
degree, increases in net yields on syndicated loans. The net yields on
residential real estate loans decreased slightly. As indicated in the table
above, the average outstandings of commercial real estate loans increased by 25%
in 2000 and created a significant positive impact on the Company's overall net
interest income margin. The decrease in the net interest margin percentage from
1998 to 1999 reflects lower levels of net yields, particularly on commercial
real estate and commercial finance loans. These lower pricing levels for the
Company's lending products in 1999, as compared to 1998, reflected market
competitive pressures, which were evident in 1998 and 1999.
32
35
Loans Receivable and Reserve Activity. The following table shows loans
receivable in the various financing categories and the percentages of the total
represented by each category:
DECEMBER 31,
--------------------------------------------------------------
2000 1999 1998
------------------ ------------------ ------------------
% OF % OF % OF
AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL
---------- ----- ---------- ----- ---------- -----
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Term loans:
Commercial real estate loans... $2,900,147 84% $2,332,880 75% $1,561,145 52%
Residential real estate
loans....................... 253,236 7 388,297 13 549,400 18
Syndicated loans............... 312,386 9 322,715 10 168,170 6
Insurance premium finance
loans....................... -- -- 64,596 2 58,319 2
Commercial finance loans....... -- -- -- -- 168,040 5
---------- ---- ---------- ---- ---------- ----
Total term loans....... 3,465,769 100 3,108,488 100 2,505,074 83
Revolving loans:
Syndicated loans............... 5,086 -- 8,990 -- 191,980 6
Commercial finance loans....... -- -- -- -- 317,468 11
---------- ---- ---------- ---- ---------- ----
Total revolving
loans................ 5,086 -- 8,990 -- 509,448 17
---------- ---- ---------- ---- ---------- ----
Total loans............ 3,470,855 100 3,117,478 100 3,014,522 100
Less allowance for loan losses... (67,599) (2) (56,494) (2) (56,346) (2)
---------- ---- ---------- ---- ---------- ----
Loans receivable............... $3,403,256 98% $3,060,984 98% $2,958,176 98%
========== ==== ========== ==== ========== ====
The following table illustrates the maturities of Fremont's loans
receivable:
MATURITIES AT DECEMBER 31, 2000
------------------------------------------------
1 TO 24 25 TO 60 OVER 60
MONTHS MONTHS MONTHS TOTAL
---------- -------- -------- ----------
(THOUSANDS OF DOLLARS)
Term loans -- variable rate..... $1,537,436 $850,823 $540,602 $2,928,861
Term loans -- fixed rate........ 69,013 95,240 372,655 536,908
Revolving loans -- variable
rate.......................... -- 5,086 -- 5,086
---------- -------- -------- ----------
Total................. $1,606,449 $951,149 $913,257 $3,470,855
========== ======== ======== ==========
The Company monitors the relationship of fixed and variable rate loans and
interest bearing liabilities in order to minimize interest rate risk. The
Company's loans are predominately variable rate. (See "Variability of Operating
Results.")
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36
The following table describes the asset classifications, loss experience
and reserve reconciliation of the financial services operation as of or for the
periods ended as shown below:
DECEMBER 31,
-----------------------------------------
2000 1999 1998
----------- ----------- -----------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Non-accrual loans................................. $ 69,964 $ 30,462 $ 22,520
Real estate owned ("REO")......................... 16,149 3,720 4,918
---------- ---------- ----------
Total non-performing assets....................... $ 86,113 $ 34,182 $ 27,438
========== ========== ==========
Accrual loans 90 days past due.................... $ 1,023 $ 928 $ 1,264
========== ========== ==========
Beginning allowance for loan losses............... $ 56,494 $ 56,346 $ 44,402
Provision for loan losses......................... 17,526 25,470 11,059
Reserves (sold) established with portfolio
(dispositions) acquisitions..................... -- (14,265) 3,465
Charge-offs:
Commercial real estate loans.................... 5,168 762 202
Residential real estate loans................... 1,339 1,318 1,036
Syndicated loans................................ -- 2,164 --
Insurance premium finance loans................. 125 91 132
Commercial finance loans........................ -- 6,965 2,049
---------- ---------- ----------
Total charge-offs....................... 6,632 11,300 3,419
---------- ---------- ----------
Recoveries:
Commercial real estate loans.................... 45 74 534
Residential real estate loans................... 159 59 161
Syndicated loans................................ -- -- --
Insurance premium finance loans................. 7 16 28
Commercial finance loans........................ -- 94 116
---------- ---------- ----------
Total recoveries........................ 211 243 839
---------- ---------- ----------
Net charge-offs................................... 6,421 11,057 2,580
---------- ---------- ----------
Ending allowance for loan losses.................. $ 67,599 $ 56,494 $ 56,346
========== ========== ==========
Allocation of allowance for loan losses:
Commercial real estate loans.................... $ 56,295 $ 41,535 $ 28,762
Residential real estate loans................... 5,182 9,053 11,335
Syndicated loans................................ 6,122 5,344 6,798
Insurance premium finance loans................. -- 562 468
Commercial finance loans........................ -- -- 8,983
---------- ---------- ----------
Total allowance for loan losses......... $ 67,599 $ 56,494 $ 56,346
========== ========== ==========
Total loans receivable before allowance for loan
losses.......................................... $3,470,855 $3,117,478 $3,014,522
Average total loans receivable(1)................. 3,727,428 3,887,637 2,365,741
Net charge-offs to average total loans
receivable...................................... 0.17% 0.28% 0.11%
Non-performing assets to total loans receivable
plus REO........................................ 2.47% 1.10% 0.91%
Allowance for loan losses to total loans
receivable...................................... 1.95% 1.81% 1.87%
Allowance for loan losses to non-performing
assets.......................................... 78.50% 165.27% 205.36%
Allowance for loan losses to non-performing assets
and accrual loans 90 days past due.............. 77.58% 160.91% 196.31%
- ---------------
(1) Includes loans held for sale.
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37
Non-performing assets increased during 2000 to $86.1 million, or 2.47% of
total loans receivable plus real estate owned at December 31, 2000. In addition,
there were $1.0 million in loans on accrual status, which were 90 days or
greater past due. Non-performing assets as of December 31, 1999 were 1.10% of
total loans receivable plus real estate owned, which was consistent with a level
of 0.91% at December 31, 1998. The level of non-performing assets fluctuates and
specific loans can have a material impact upon the total. Non-performing
commercial real estate loans (including accrual loans 90 days past due) and real
estate owned at December 31, 2000 represented 1.47% of total commercial real
estate loans and real estate owned. At December 31, 1999, non-performing
commercial real estate loans and real estate owned represented 0.63% of the
total commercial real estate loans and real estate owned outstanding. The
increase is due to only a few loans being classified as non-accrual and becoming
real estate owned through foreclosure, for example, at December 31, 1999 there
was no real estate owned, as compared to two real estate owned properties at
December 31, 2000 with a balance of $10.2 million. The increase in residential
real estate non-performing loans was primarily attributable to increased levels
of loan originations, which totaled $2.0 billion in 2000, as compared to $1.7
billion in 1999, and general trends for sub-prime loans. The syndicated loan
group had no loans in non-performing status at December 31, 1999, and only one,
with a balance of $9.4 million, at December 31, 2000. See Note D of Notes to
Consolidated Financial Statements for additional detail of the Company's
non-performing assets.
The provision for loan losses in 2000 decreased to $17.5 million, as
compared to $25.5 million in 1999. The amount for 1999, however, did include
$6.8 million that was related to the Company's commercial finance subsidiary,
Fremont Financial, which was sold in December of 1999. The allowance for loan
losses, however, as a percentage of total loans receivable, increased to 1.95%
as of December 31, 2000, as compared to 1.81% at December 31, 1999. The
provision for losses in 2000 and 1999 are also reflective of a growth in total
loans receivable of 11.3% and 3.4% in 2000 and 1999, respectively. The provision
for losses in 1998 was $11.1 million and is reflective of a low ratio of net
charge-offs to average total loans receivable of 0.11%. The ratio of net
charge-offs to average total loans receivable in 2000 and 1999 was also
considered to be low at 0.17% and 0.28%, respectively. The increase for 1999 as
compared to 2000 was primarily attributable to a higher than normal level of net
charge-offs in the commercial finance portfolio during 1999.
The following table summarizes the amounts of residential real estate loan
sales during the years of 2000, 1999 and 1998, by type of sale (in thousands of
dollars):
DECEMBER 31,
------------------------------------
2000 1999 1998
---------- ---------- --------
Residential real estate loan sales:
Whole loan sales................................. $2,060,492 $ 343,468 $746,506
Securitizations.................................. -- 1,411,295 --
---------- ---------- --------
Total residential real estate loan sales........... $2,060,492 $1,754,763 $746,506
========== ========== ========
Gains recognized on whole loan sales............... $ 14,087 $ 4,967 $ 29,742
========== ========== ========
As previously indicated, the Company realized a lower level of gains on
sale from the whole loan sales of residential real estate loans during 1999 as
the Company instead securitized $1.4 billion of these loans in three separate
securitization transactions. Whole loan sales are cash transactions made without
recourse to the Company or its subsidiaries. The lower whole loan sales resulted
from an observed decrease in the price for the Company's residential real estate
loans beginning in the second half of 1998. This condition was a consequence of
market disruptions and an oversupply of loans available for sale which occurred
during this same period. Rather than sell its loans at cash prices lower than
what it
35
38
believed was the economic benefit to be derived, the Company began a program to
retain these benefits by either retaining the loans in its portfolio or by
securitizing them. For the year ended December 31, 1999, the Company did not
recognize any gain on the residual interests retained from the three
securitizations, since the value of the residual interests is subject to
substantial credit, prepayment, and interest rate risks on the loans sold. While
this reduces current period income, income may be recognized in future periods
if the Company's original assumptions develop favorably. (See "Variability of
Operating Results" and Notes A and D of Notes to Consolidated Financial
Statements.)
PROPERTY AND CASUALTY INSURANCE OPERATION
The following table presents information with respect to the Company's
property and casualty insurance operation:
YEAR ENDED DECEMBER 31,
-------------------------------------
2000 1999 1998
----------- --------- ---------
(THOUSANDS OF DOLLARS)
PROPERTY AND CASUALTY INSURANCE
Net earned premium........................ $ 1,016,086 $ 831,005 $ 552,078
Loss and loss adjustment expenses......... (1,262,000) (770,523) (335,450)
Impairment, restructuring and other
charges................................. (267,831) -- --
Underwriting expenses..................... (321,173) (262,677) (190,698)
Policyholder dividends.................... (38,386) (36,123) (4,735)
----------- --------- ---------
Underwriting gain (loss)................ (873,304) (238,318) 21,195
Investment income......................... 133,914 149,808 171,490
Realized losses on investments............ (2,754) (3,548) (613)
Interest expense.......................... (7,184) (23,536) (22,837)
Other..................................... 793 (584) --
----------- --------- ---------
Income (loss) before taxes................ $ (748,535) $(116,178) $ 169,235
=========== ========= =========
Loss and Loss Adjustment Expense
The property and casualty insurance operation's loss and LAE incurred was
$1.262 billion, $770.5 million and $335.5 million in 2000, 1999 and 1998,
respectively. In addition, the ratio of these losses and LAE to property and
casualty insurance premiums earned ("loss ratio") was 124.2%, 92.7% and 60.8% in
2000, 1999 and 1998, respectively. The significant increase in the loss ratio in
2000 resulted mainly from the effects of a significant increase in the Company's
gross loss and LAE reserves under workers' compensation insurance policies
effective in or prior to 1999, which were recognized by the Company in the
quarter ended June 30, 2000. See the "Special Discussion Concerning the Loss and
LAE Reserve Increases in 2000" for additional information. The loss ratio
increased significantly in 1999 as compared to 1998 due to the combined adverse
effect on loss and LAE incurred of a lower than expected level of reinsurance
recoveries than had been actuarially predicted, coupled with the effect of the
Company's recognition of the settlement agreement with Reliance under a
reinsurance treaty that was in effect from January 1, 1998 through December 31,
1999. See "Special Discussion Concerning Reinsurance Transactions and Reserve
Adjustments Recognized in 1999" for additional information.
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39
GAAP Combined Ratio
Set forth below is certain information pertaining to Fremont's property and
casualty insurance business as determined in accordance with generally accepted
accounting principles ("GAAP") for the years indicated.
YEAR ENDED DECEMBER 31,
-------------------------
2000 1999 1998
------ ------ -----
(THOUSANDS OF DOLLARS,
EXCEPT PERCENTS)
Loss ratio.............................................. 124.2% 92.7% 60.8%
Expense ratio(1)........................................ 57.9% 31.6% 34.5%
Policyholders' dividend ratio........................... 3.8% 4.4% 0.9%
----- ----- ----
Total combined ratio.......................... 185.9% 128.7% 96.2%
===== ===== ====
- ---------------
(1) For 2000, includes 26.3% related to restructuring charge.
Statutory Combined Ratio
The following table reflects the combined ratios of Fremont's workers'
compensation insurance business determined in accordance with statutory
accounting practices, together with the workers' compensation industry-wide
combined ratios after policyholders' dividends, as compiled by A.M. Best, for
the years indicated.
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
2000 1999 1998 1997 1996
-------------- ----- ----- ----- ----
Workers' Compensation:
Company............................ 165.5% 120.0% 113.4%(2) 96.6%(3) 97.9%
Industry(1)........................ not available 115.3% 107.6% 100.7% 99.7%
- ---------------
(1) Nationwide statutory combined ratio information for the workers'
compensation insurance industry for 1996 through 1999 is from A.M. Best's
Aggregates & Averages, Property-Casualty (1997 through 2000 editions).
(2) Includes the statutory results for Unicare for the period January 1, 1998
through August 31, 1998, which was prior to the Company's acquisition of
Unicare on September 1, 1998. The significant increase in the statutory
combined ratio in 1998 as compared to 1997 is due primarily to significant
increases in the liability for losses and LAE for Unicare, which occurred
prior to its acquisition by the Company.
(3) Includes the statutory results for Industrial Indemnity Holdings, Inc. for
the period January 1, 1997 through July 31, 1997, which was prior to the
Company's acquisition of Industrial Indemnity Holdings, Inc. on August 1,
1997.
37
40
Analysis of Loss and Loss Adjustment Expense Development
The following table shows the cumulative amount paid, net of reinsurance
recoveries, against the previously recorded liability, net of reinsurance
recoverables, at the end of each succeeding year and the cumulative development
of the estimated net liability for the ten years ending December 31, 2000.
Conditions and trends that have affected the development of these net reserves
and net payments in the past will not necessarily recur in the future.
Accordingly, management does not believe that it is appropriate to use this
cumulative history to project future performance.
The re-estimated net liability portion of the following table shows the
year-by-year development of the previously estimated net liability at the end of
each succeeding year. The re-estimated net liabilities are increased or
decreased as more information becomes known about the frequency and severity of
claims for individual years. The increases or decreases are reflected in the
current year's operating earnings. Each column shows the net reserve held at the
indicated calendar year-end and cumulative data on re-estimated net liabilities
for the year and all prior years making up those calendar year end net
liabilities.
38
41
CHANGES IN HISTORICAL RESERVES FOR LOSS AND LAE FOR THE LAST TEN YEARS
GAAP BASIS AS OF DECEMBER 31, 2000
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------------------------------
1990 1991 1992 1993 1994 1995 1996 1997
-------- -------- -------- -------- -------- ---------- ---------- ----------
(THOUSANDS OF DOLLARS)
Reserves for Loss and
LAE, net of
reinsurance
recoverable $652,284 $627,103 $633,394 $644,190 $610,510 $1,185,706 $1,010,886 $1,809,395
Net reserve re-
estimated as of:
One year later 624,953 668,107 629,268 626,956 611,892 1,186,456 958,563 1,795,948
Two years later 647,959 660,729 615,747 633,333 632,397 1,116,673 955,644 1,745,340
Three years later 638,879 651,482 621,348 641,166 644,485 1,116,103 978,872 1,910,523
Four years later 627,194 654,403 626,174 659,968 641,581 1,096,712 1,054,694
Five years later 631,165 659,050 685,517 656,549 698,045 1,154,516
Six years later 634,628 717,517 681,811 698,918 723,927
Seven years later 675,661 714,447 720,800 712,248
Eight years later 672,560 747,198 727,164
Nine years later 694,387 754,061
Ten years later 702,991
Net cumulative
redundancy
(deficiency) (50,707) (126,958) (93,770) (68,058) (113,417) 31,190 (43,808) (101,128)
Cumulative amount of
reserve paid, net of
reserve recoveries,
through:
One year later 245,777 257,951 240,552 236,774 241,667 401,980 386,469 590,197
Two years later 403,105 419,638 402,048 392,237 397,640 662,943 607,273 895,834
Three years later 495,707 521,729 499,924 484,474 495,825 812,174 714,248 1,113,906
Four years later 550,404 583,013 558,935 545,574 548,109 883,106 784,222
Five years later 585,094 623,022 600,071 580,503 577,367 933,177
Six years later 608,802 652,990 624,813 599,414 601,410
Seven years later 629,321 670,625 637,967 616,449
Eight years later 641,031 680,387 650,274
Nine years later 646,969 689,296
Ten years later 652,985
Net reserve --
December 31,
Reinsurance
recoverable
Gross reserve --
December 31,
Net re-estimated
reserve
Re-estimated
reinsurance
recoverable
Gross re-estimated
reserve
Gross cumulative
redundancy
(deficiency)
YEAR ENDED DECEMBER 31,
------------------------------------
1998 1999 2000
---------- ---------- ----------
(THOUSANDS OF DOLLARS)
Reserves for Loss and
LAE, net of
reinsurance
recoverable $1,597,116 $1,495,280 $1,910,029
Net reserve re-
estimated as of:
One year later 1,689,883 1,863,990
Two years later 1,901,469
Three years later
Four years later
Five years later
Six years later
Seven years later
Eight years later
Nine years later
Ten years later
Net cumulative
redundancy
(deficiency) (304,353) (368,710)
Cumulative amount of
reserve paid, net of
reserve recoveries,
through:
One year later 576,320 554,933
Two years later 891,746
Three years later
Four years later
Five years later
Six years later
Seven years later
Eight years later
Nine years later
Ten years later
---------- ---------- ----------
Net reserve --
December 31, $1,597,116 $1,495,280 $1,910,029
Reinsurance
recoverable 701,002 939,477 898,404
---------- ---------- ----------
Gross reserve --
December 31, $2,298,118 $2,434,757 $2,808,433
========== ========== ==========
Net re-estimated
reserve $1,901,469 $1,863,990
Re-estimated
reinsurance
recoverable 731,776 976,488
---------- ----------
Gross re-estimated
reserve $2,633,245 $2,840,478
========== ==========
Gross cumulative
redundancy
(deficiency) $ (335,127) $ (405,721)
========== ==========
39
42
In 2000 the Company increased its net loss and LAE reserves for 1999 and
prior accident years by $368.7 million, comprised mainly of: $316 million in
loss and directly allocated LAE ("ALAE") reserve increases pursuant to the
Company's reserve actions in the three months ended June 30, 2000 and $28
million in unallocated LAE ("ULAE") reserve increases. The combined net reserve
increase for loss, ALAE and ULAE totaling $344 million represent primarily the
1999 and prior accident year component of the $450 million in total loss and LAE
reserve increase recognized by the Company in the second quarter ended June 30,
2000. (See "Special Discussion Concerning the Loss and LAE Reserve Increases in
2000.")
In 1999 the Company increased its net loss and LAE reserves for 1998 and
prior accident years by $92.8 million. The increase resulted primarily from the
combined effect of a lower than expected level of reinsurance recoveries than
had been actuarially predicted of incurred losses ceded under certain
reinsurance contracts that were in effect from January 1, 1998 through December
31, 1999, coupled with the effect on the 1998 accident year of the Company's
recognition of the settlement agreement with Reliance under a reinsurance treaty
that expired December 31, 1999. Under the settlement agreement, FCIG received in
excess of $100 million in cash and no longer has any involvement with Reliance
under the reinsurance contract.
Special Discussion Concerning the Loss and LAE Reserve Increases in 2000
In the second quarter of 2000, the Company increased its gross loss and LAE
reserves under workers' compensation insurance policies effective in or prior to
1999 by $450 million. The Company's reserve action was determined through an
evaluation of several factors, including increased severity trends observed
since December 31, 1999 relating to the 1999 and prior accident years, increased
variability of actuarial indications, and increased uncertainty within the
workers' compensation industry as to the underlying causes and consequent
ultimate impact of both increases in claim severity and an acceleration in the
payment of claims. The Company further evaluated the actuarial indications as of
June 30, 2000 to determine what impact, if any, such indications would have on
the Company's recognition of incurred loss and LAE in the second half of 2000.
After excluding the previously discussed non-recurring items from the fourth
quarter 2000 results, the loss ratios recognized by the Company in the third and
fourth quarters of 2000 were 80.6% and 82.6%, respectively. The adequacy of
these provisions for loss and LAE incurred for the 2000 accident year were
evaluated by the Company, taking into consideration the actuarial indications as
of December 31, 2000, the severity development potential for reinsurance
recoveries, assumptions regarding changes in the development pattern of claims
incurred on the 2000 accident year, as well as other factors. Based on these
considerations, the Company believes that adequate provisions have been made for
the ultimate settlement costs of claims incurred in calendar year 2000. With
respect to prior accident years, the Company evaluated the actuarial indications
as of December 31, 2000, as well as various internal and external factors, to
determine the adequacy of the loss and LAE reserves associated with these
accident years. On a net-of-reinsurance basis and excluding the commutation with
Reliance, the Company observed that with regard to accident years prior to 2000,
favorable development had emerged since June 30, 2000. In particular, the
emergence of favorable development in ultimate settlement costs estimates on the
combined accident years 1998 and prior more than offset additional unfavorable
development on the 1999 accident year. Additionally, this observed unfavorable
development on the 1999 accident year since June 30, 2000 represents an 82%
reduction in such development as compared to the development observed on the
1999 accident year for the period from December 31, 1999 through June 30, 2000.
This decrease in unfavorable development on the 1999 accident year in the second
half of 2000 is considered by the Company as an indication of greater stability
in the actuarial indications of ultimate settlement costs for the 1999 accident
year as it matures over time. (See "Risk Factors.")
40
43
With respect to the $450 million total loss and LAE reserve increase in the
second quarter of 2000, $400 million relates to loss and directly ALAE, with the
remaining reserve increase of $50 million relating to that portion of the
Company's gross LAE reserves that provide for the general and administrative
costs of settling estimated claims and which are not allocated to specific
claims, or ULAE.
Contributing to the Company's determination to increase its loss and ALAE
reserves was an observed increase in the gross claim severity trend primarily
related to the 1999 accident year and to a lesser extent, 1998 and prior
accident years. At December 31, 1999, the Company had observed relative
stability in its gross loss and ALAE indications, particularly with regard to
accident years prior to 1998, as compared to its observations of reinsurance
recoveries. During the six months ended December 31, 1999, the Company had
recorded significant reductions in its original estimates of reinsurance
recoveries. See "Special Discussion Concerning Reinsurance Transactions and
Reserve Adjustments Recognized in 1999" following. During the six months ended
June 30, 2000, the Company observed that the gross severity trend for the 1999
accident year was both higher than that observed for the 1998 accident year, and
was emerging at levels higher than what was expected to emerge using the
actuarial indications at December 31, 1999. During this same period but to a
lesser extent than during 1999, the Company observed that the 1998 accident year
was also emerging at levels higher than what was actuarially predicted at
December 31, 1999.
Another contributing factor to the Company's gross loss and ALAE reserve
actions in the second quarter of 2000 was increased variability observed among
the actuarial methods evaluated by the Company at June 30, 2000. In addition to
the actuarial indications developed by the Company's actuaries, the Company
reviewed actuarial indications from various other actuaries and observed
variability among the actuarial methods employed and the results derived. Other
than as specifically articulated by the actuary, the Company is not able to
determine with certainty the specific cause or causes of the observed
variability of actuarial indications and has reached its own conclusions based
on a review of its internal data base and a subjective evaluation of both
internal and external factors.
The Company also observed that the workers' compensation industry,
particularly in California, has experienced significant increases in claim
severity on the 1999 accident year and to a lesser extent the 1998 accident
year. These severity increases covered both medical and indemnity costs and were
above levels adjusted for estimated inflation. The frequency of claims, however,
has remained stable to slightly lower. The increasing severity on the 1999
accident year, coupled with a continuing industry-wide acceleration in paid
losses observed by the Company over the past several years, has resulted in
significant increases in the projections of total industry-wide losses and ALAE.
While certain factors have been cited as reasons for the industry-wide severity
increases and paid loss acceleration, conclusive evidence has not been
identified by the Company to either support or refute these findings.
In addition to the previously discussed gross loss and ALAE reserve
increase, the Company strengthened its ULAE reserves by $50 million in the
second quarter of 2000. Similar to the Company's observations concerning its
gross loss and ALAE reserves, the Company observed increased variability among
actuarial indications of its ULAE reserves. The Company determined its reserve
action after reviewing several actuarial indications, as well as a review of
both internal data and available industry information related to claim
administration costs.
Effective for workers' compensation insurance policies incepting January 1,
2000 and after, and until April 1, 2000, the Company's reinsurance limits were
significantly reduced through the expiration at December 31, 1999 of certain
low-level reinsurance contracts. The reinsurance "attachment point" was
increased from $50,000 per loss occurrence prior to January 1, 2000 to $1
million per loss
41
44
occurrence on January 1, 2000 and after. Effective April 1, 2000, the Company
purchased additional reinsurance that lowered the attachment point to $250,000
per loss occurrence. The Company anticipates that these changes in the Company's
reinsurance program at January 1, 2000 and April 1, 2000 will have the net
effect of lowering the total amount of reinsurance recoveries for calendar year
2000 as compared to calendar year 1999. Lower amounts of reinsurance recoveries
have been recognized in 2000 as compared to 1999.
Special Discussion Concerning Reinsurance Transactions and Reserve Adjustments
Recognized in 1999
For the year ended December 31, 1999, the Company's property and casualty
insurance operation recorded a loss before taxes from continuing operations of
$116.2 million. This loss resulted primarily from the combined adverse effect on
incurred loss and LAE of a lower than expected level of reinsurance recoverables
than had been actuarially predicted at inception, coupled with the Company's
recognition of the settlement agreement with Reliance under a reinsurance
contract that was in effect from January 1, 1998 through December 31, 1999.
With regard to the lower than expected reinsurance recoverables, which were
recognized in the third and fourth quarters of 1999, the Company lowered its
estimate of reinsurance recoverables on unpaid losses for the 1998 and 1999
accident years by approximately $147 million. This decrease was in recognition
of a lower than actuarially predicted level of incurred losses ceded under
certain reinsurance contracts that were in effect from January 1, 1998 through
December 31, 1999. These reinsurance contracts reduced the Company's net loss
exposure from a historical retention of $1 million per loss occurrence to
$50,000 per loss occurrence. During the third quarter of 1999, and pursuant to
its regular review of net incurred loss and LAE estimates, the Company observed
a deterioration in these net loss and LAE estimates as compared to the actuarial
predictions. To assist the Company in its determination of net loss and LAE
reserve estimates, the Company retained independent actuarial consultants who
performed an actuarial analysis of the Company's net loss and LAE reserves as of
June 30, 1999. These actuarial indications were further re-evaluated by
independent outside actuaries at December 31, 1999, which resulted in the
Company's recognition of the deterioration in reinsurance recoverables in the
third and fourth quarters of 1999. (See "Risk Factors.")
Also contributing to the Company's loss before taxes in the fourth quarter
of 1999 was the recognition of $75 million in lower reinsurance recoverables on
the 1998 and 1999 accident years pursuant to a settlement agreement entered into
on February 28, 2000 between the Company and Reliance under a reinsurance
contract that was in effect from January 1, 1998 through December 31, 1999.
Under the settlement agreement, the Company received approximately $102 million
in cash and no longer has any involvement with the Reliance workers'
compensation reinsurance programs brokered for Reliance by Unicover Managers,
Inc. The $75 million decrease in reinsurance recoverables represents primarily
the adjustment necessary to bring the estimated reinsurance recoverables
relating to the 1998 and 1999 accident years under the reinsurance contract with
Reliance to a present value basis at December 31, 1999.
Premiums
Insurance premiums earned from the Company's property and casualty
insurance operations was $1.02 billion for the year 2000, as compared to $831.0
million in 1999. The increase in premiums in 2000 were due primarily to the
combined effects of: i) an expansion in the Company's premium base through new
business development in 1999, ii) premium rate increases which the Company began
implementing during the second half of 1999 and accelerated during 2000, iii)
lower reinsurance costs beginning
42
45
January 1, 2000, and iv) additional premiums earned in the second quarter of
2000 under certain expired retrospectively rated workers' compensation insurance
policies.
Using estimated annual premiums on policies in effect at December 31, 2000
and 1999 (referred to as "inforce premiums"), the Company's gross inforce
premiums have decreased 33% to $695.2 million at December 31, 2000 from $1.03
billion at December 31, 1999. Gross inforce premiums have steadily declined
during 2000 as a consequence of ratings downgrades, the Company's efforts to
bring premium levels in line with levels of statutory surplus in its workers'
compensation insurance subsidiaries, and the restructuring of the workers'
compensation insurance operation in December of 2000. On March 1, 2000, A.M.
Best downgraded FCIG from "A-" (Excellent) to "B++" (Very Good) citing concerns
regarding FCIG's loss reserve adequacy and the state of the workers'
compensation market in California. A "B++" rating is still within A.M. Best's
"Secure" range. On August 1, 2000, A.M. Best downgraded FCIG from "B++" (Very
Good) to "B" (Fair) citing further concerns regarding the state of the workers'
compensation market in California. A "B" rating is a "Vulnerable" rating per
A.M. Best's guidelines. As previously discussed, the Company entered an
agreement with the DOI on November 27, 2000 which provided for additional
regulatory oversight and supervision, as well as limiting the amount of new and
renewal workers' compensation insurance premiums that FCIG could underwrite. Due
to this regulatory supervision, A.M. Best downgraded FCIG's rating to "E" (Under
Regulatory Supervision) on December 1, 2000. An "E" rating severely limits
FCIG's ability to underwrite new and renewal workers' compensation insurance
policies. To mitigate the "E" rating's impact, see the previous discussion on
the Company's efforts to finalize a fronting facility with an "A" rated
insurance carrier.
During 2000, the Company achieved premium rate increases across all of its
national geographic regions. On a weighted average basis, these increases
averaged 18% on a nationwide basis, and 27% in California. These premium rate
increases are a continuation of efforts by the Company, which began in the
second half of 1999, to further strengthen its premium rate levels. The
Company's commitment to strengthening its premium rate levels, among other
things, has also resulted in a reduction in its renewal business which
contributed to further reductions in the Company's gross inforce premiums.
Beginning January 1, 2000 the Company's reinsurance costs, which are
classified as a reduction to net premiums earned, were reduced significantly due
to the December 31, 1999 expiration of certain low-level reinsurance contracts
that had incepted January 1, 1998. In addition, during the second quarter of
2000, the Company recorded approximately $44 million in additional premiums
under certain expired retrospectively rated workers' compensation insurance
policies as a result of additional loss experience under these insurance
policies. Typically, the terms of retrospectively rated insurance policies
provide for additional premiums when loss experience under the insurance policy
reaches certain levels as specified within the policy. Usually the extent of any
additional premiums is subject to a maximum limit as specified within the
policy.
Policy Acquisition Costs and Other Operating Costs and Expenses
The ratio of policy acquisition costs and other operating costs and
expenses to insurance premiums is referred to as the expense ratio. The
Company's expense ratio was 57.9% and 31.6% for the years 2000 and 1999,
respectively. The year 2000's expense ratio, however, included 26.3% that was
related to the Company's restructuring charge recognized during the fourth
quarter of 2000. Removing the 26.3% from the 2000 expense ratio results in a
revised ratio of 31.6%, which is identical to 1999's ratio. The expense ratio
for the fourth quarter of 2000 was 41.1%, excluding the effect of the
restructuring charge, as compared to 27.4% for the fourth quarter of 1999. This
increase in the expense ratio was due in part to higher earned premiums during
the fourth quarter of 1999 as compared to the fourth quarter of 2000, but was
also due to the effect of premiums earned reducing faster than expenses were
reduced. As stated
43
46
previously, the Company expects that its workers' compensation premium writings
will be significantly reduced in the foreseeable future. While policy
acquisition costs are expected to vary directly with the intended premium
decreases, other operating costs and expenses, however, do not typically vary
directly with the premium level changes. The Company cannot be certain that it
will be able to continue to reduce expenses at the same rate as its premium base
decreases and thereby prevent the expense ratio from increasing in the future.
Dividends to Policyholders
The Company's policyholder dividend ratio was 3.8% and 4.4% for the years
2000 and 1999, respectively. The increase in the policyholder dividend ratio in
2000 and 1999, as compared to 1998 is due to the Company's expansion in various
states in which "participating" policies are more frequent. Participating
policies obligate the Company to consider the payment of dividends to its
policyholders. Although the substantial majority of the Company's workers'
compensation insurance policies within its primary regions are written as
"non-participating" and thereby do not obligate the Company to consider the
payment of dividends, the Company does write "participating" business in other
states. The majority of the Company's participating insurance policies were
written in its midwest and eastern regions.
Net Investment Income
Net investment income within the property and casualty insurance operation
was $133.9 million and $149.8 million for 2000 and 1999, respectively. Lower
investment income in 2000 was due primarily to lower amounts of average invested
assets in 2000, and to a lesser degree, lower yields, as compared to 1999. The
lower average invested assets resulted primarily from higher ceded reinsurance
costs in 1999 and claim payments. Also, during the third and fourth quarters of
2000, the Company increased the proportionate share of short-term investments in
its workers' compensation insurance investment portfolio. This was done to
provide additional liquidity for the Company as it contemplated various options,
such as the purchase of adverse loss development reinsurance policies, to
increase the statutory surplus of its workers' compensation insurance
subsidiaries. The Company did not enter into adverse loss development
reinsurance agreements, but rather entered in an agreement with the DOI that
provided the Company's workers' compensation insurance subsidiaries with the
permitted practice of discounting its loss and LAE reserves. By increasing the
short-term investments component of its workers' compensation insurance
investment portfolio the yields realized by the Company decreased. As of
December 31, 2000, the Company's workers' compensation insurance subsidiaries'
investment portfolio, at amortized cost, totaled $1.65 billion, as compared to
$1.84 billion at December 31, 1999. See "Note C of Notes to Consolidated
Financial Statements" for additional detail on the Company's investment
portfolio.
MARKET RISK
The Company is subject to market risk resulting primarily from fluctuations
in interest rates arising from balance sheet financial instruments such as
investments, loans and debt. Changes in interest rates will affect the Company's
net investment income, loan interest, interest expense and total stockholders'
equity. The objective of Fremont's asset and liability management activities is
to provide the highest level of net interest and investment income and to seek
cost effective sources of capital, while maintaining acceptable levels of
interest rate and liquidity risk. The Company has designated its entire
investment portfolio as investments that would be available for sale in response
to changing market conditions, liquidity requirements, interest rate movements
and other investment factors. (See Notes A and C to Consolidated Financial
Statements.) Fremont currently owns no derivative financial instru-
44
47
ments and, consequently, is not subject to market risk for such off-balance
sheet financial instruments. Furthermore, the Company does not have exposure to
foreign currency or commodity price risk.
FINANCIAL SERVICES OPERATION -- INTEREST RATE RISK
Fremont's financial services operation is subject to interest rate risk
resulting from differences between the rates on, and repricing characteristics
of, interest-earning loans receivable and the rates on, and repricing
characteristics of, interest-bearing liabilities used to finance its loans such
as industrial bank deposits and debt. Interest rate gaps may arise when assets
are funded with liabilities having different repricing intervals or different
market indices to which the instruments' interest rate is tied and to this
degree earnings will be sensitive to interest rate changes. Additionally,
interest rate gaps could develop between the market rate and the interest rate
on loans in Fremont's financial services loan portfolio, which could result in
borrowers' prepaying their loan obligations to the Company. While the Company
attempts to match the characteristics of interest rate sensitive assets and
liabilities to minimize the effect of fluctuations in interest rates, the
Company does not currently utilize derivative financial instruments to meet
these objectives. For the financial services operation, the expected maturity
date does not necessarily reflect the net market risk exposure because certain
instruments are subject to interest rate changes before expected maturity.
45
48
The following table provides information about the assets and liabilities
of the Company's financial services operation that are sensitive to changes in
interest rates. For loans, investments, industrial bank deposits and other
liabilities with contractual maturities, the table presents principal cash flows
and related weighted-average interest rates by contractual maturity, adjusted
for estimated loan prepayments based upon the historical behavior of its
financial services loan portfolio. Industrial bank deposits that have no
contractual maturity are presented as maturing in 2000.
FINANCIAL SERVICES OPERATION
INTEREST RATE SENSITIVITY
PRINCIPAL AMOUNT MATURING IN:
-----------------------------------------------------------------------------------------------
FAIR VALUE AT
2001 2002 2003 2004 2005 THEREAFTER TOTAL 12/31/00
---------- -------- -------- -------- ------- ---------- ---------- -------------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Interest rate sensitive
assets:
Variable rate
Commercial real estate
loans................. $ 968,124 $849,265 $295,054 $203,553 $68,767 $ 46,576 $2,431,339 $2,431,407
Weighted-average
interest rate......... 10.10% 9.26% 9.61% 9.63% 9.63% 9.56% 9.68%
Residential real estate
loans(1).............. $ 441,559 $ 48,215 $ 8,737 $ 5,521 $ 3,990 $ 11,306 $ 519,328 $ 539,191
Weighted-average
interest rate....... 10.74% 10.79% 10.86% 10.91% 10.94% 10.95% 10.75%
Syndicated loans........ $ 995 $ 830 $ 692 $ 578 $ 482 $313,894 $ 317,471 $ 317,471
Weighted-average
interest rate....... 9.34% 9.19% 9.19% 9.19% 9.19% 9.19% 9.19%
Investments............. $ 21,710 $ 3,461 $ 1,022 $ 284 $ 76 $ 27 $ 26,580 $ 26,581
Weighted-average
interest rate....... 5.90% 4.85% 4.85% 4.85% 4.85% 4.85% 5.70%
Fixed Rate
Commercial real estate
loans................. $ 57,694 $ 53,124 $ 53,730 $ 42,702 $20,654 $264,026 $ 491,930 $ 488,088
Weighted-average
interest rate....... 9.39% 9.63% 9.32% 9.19% 8.60% 8.39% 8.82%
Residential real estate
loans(1).............. $ 7,342 $ 5,922 $ 3,753 $ 2,326 $ 1,830 $ 6,664 $ 27,837 $ 28,637
Weighted-average
interest rate....... 10.65% 10.70% 11.01% 10.95% 11.05% 11.03% 10.85%
Investments............. $ 264,947 -- -- -- -- -- $ 264,947 $ 264,947
Weighted-average
interest rate....... 5.10% -- -- -- -- -- 5.10%
Interest rate sensitive
liabilities:
Variable Rate
Industrial bank
deposits.............. $ 564,300 -- -- -- -- -- $ 564,300 $ 564,300
Weighted-average
interest rate....... 5.61% -- -- -- -- -- 5.61%
Fixed Rate
Industrial bank
deposits.............. $2,882,762 $ 71,383 $ 74,731 $119,020 $39,388 $ 97,627 $3,284,911 $3,286,564
Weighted-average
interest rate....... 6.56% 6.28% 5.81% 5.87% 5.94% 6.14% 6.50%
- ---------------
(1) Residential real estate loan amounts include loans held for sale.
46
49
During 1999, the Company securitized certain of its residential real estate
loans. A securitization has the effect of reducing interest rate risk since the
securitized loans are typically removed from the balance sheet. However, the
Company retains a residual interest in the securitized loans, and this residual
interest is recorded on the balance sheet at fair value ($52.1 million at
December 31, 2000). Residual interests do not have a stated maturity or
amortization period and the expected amount of the net cash flow, as well as the
timing of such cash flow, depends on the performance of the underlying
collateral supporting each securitization. The actual cash flow of these
instruments could vary substantially if performance is different from the
Company's assumptions. Fremont develops assumptions to value its residual
interests by analyzing past portfolio performance, current loan characteristics
and current market and interest rate conditions.
PROPERTY AND CASUALTY INSURANCE OPERATION -- INTEREST RATE RISK
The property and casualty insurance operation has exposure to changes in
long-term interest rates due mainly to its significant investment in the
available-for-sale investment portfolio. Fluctuations in interest rates affect
the fair value of the fixed rate investments resulting in fluctuations in
unrealized gains and losses on investments, which also affects the Company's
stockholders' equity. Generally, for an investment in a fixed rate bond, a rise
in market interest rates for bonds with a similar remaining term and face amount
will result in a decline in the fair value of the fixed rate bond. The converse
situation applies as well.
The following table presents principal cash flows of the investment
portfolio by expected maturity dates. The weighted-average interest rate is
based on expected maturities for fixed interest rate investments. For variable
interest rate investments, the weighted-average interest rate is based on
implied forward rates from appropriate annual spot rate observations as of the
reporting date.
PRINCIPAL AMOUNT MATURING IN:
--------------------------------------------------------------------------------------
FAIR VALUE AT
2001 2002 2003 2004 2005 THEREAFTER TOTAL 12/31/00
-------- ---- ------ ------- ------- ---------- ---------- -------------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Interest rate sensitive assets:
Securities available for sale:
Fixed interest rate
investments................... $517,828 $465 $4,030 $22,765 $10,445 $999,776 $1,555,309 $1,506,072
Weighted-average interest
rate........................ 7.50% 7.50% 6.00% 7.17% 6.69% 6.63% 6.81%
Variable interest rate
investments................... -- -- -- -- -- $ 96,566 $ 96,566 $ 93,924
Weighted-average interest
rate........................ -- -- -- -- -- 5.70% 5.70%
47
50
FREMONT GENERAL CORPORATION (PARENT-ONLY) -- INTEREST RATE RISK
The following table provides information about interest rate sensitive
assets and liabilities of Fremont General Corporation. For short-term
investments with variable interest rates, the table presents principal cash
flows by expected maturity dates. The weighted-average interest rates are based
on implied forward rates as derived from appropriate annual spot rate
observations as of the reporting date.
PRINCIPAL AMOUNT MATURING IN:
-------------------------------------------------------------------------------
FAIR VALUE AT
2001 2002 2003 2004 2005 THEREAFTER TOTAL 12/31/00
------- ---- ---- -------- ---- ---------- -------- -------------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Interest rate sensitive assets:
Fixed interest rate short-term
investments............................ $62,310 -- -- -- -- -- $ 62,310 $ 62,233
Weighted-average interest rate......... 7.08% -- -- -- -- -- 7.08%
Variable interest rate................... $ 5,000 -- -- -- -- -- $ 5,000 $ 5,000
short-term investments................... 8.00% -- -- -- -- -- 8.00%
Interest rate sensitive liabilities:
Fixed interest rate debt borrowings...... -- -- -- $159,125 -- $225,289 $384,414 $181,120
Weighted-average interest rate......... -- -- -- 7.70% -- 7.78% 7.75%
Fixed interest rate Company-obligated
mandatorily redeemable preferred
securities of subsidiary Trust holding
solely Company junior subordinated
debentures............................. -- -- -- -- -- $100,000 $100,000 $ 43,000
Weighted-average interest rate......... -- -- -- -- -- 9.00% 9.00%
LIQUIDITY AND CAPITAL RESOURCES
The Company's industrial bank subsidiary finances its lending activities
through customer deposits, which have grown to $3.85 billion at December 31,
2000 from $3.42 billion at December 31, 1999. Additionally, beginning in 1999,
the Company financed certain of its residential real estate loans through
securitization. The industrial bank is also eligible for financing through the
Federal Home Loan Bank of San Francisco, which financing is available at varying
rates and terms. Additionally in 1999, the industrial bank obtained a line of
credit with the Federal Reserve Bank of San Francisco. (See "Item 1.
Business -- Financial Services Operation -- Funding Sources."). The FDIC has
established certain capital and liquidity standards for its member institutions,
and Fremont's industrial bank was in compliance with these standards as of
December 31, 2000. (See "Item 1. Business -- Regulation -- Industrial Bank
Regulation.")
The property and casualty insurance operation must have cash and liquid
assets available to meet its obligations to policyholders in accordance with
contractual obligations, in addition to having funds available to meet ordinary
operating costs. The operation has several sources of funds to meet its
obligations, including cash flow from operations, recoveries from reinsurance
contracts and investment securities. By statute, the majority of the cash from
the operation is required to be invested in investment grade securities to
provide protection for policyholders. Fremont invests in fixed income and
preferred equity securities with an objective of providing a reasonable return
while limiting credit and liquidity risk. The Company's property and casualty
insurance operation's investment portfolio had unrealized losses of $78.3
million and $106.3 million at December 31, 2000 and 1999, respectively. The
property and casualty insurance operation has experienced significant negative
cash flow in recent years, primarily from increases in claim payments and, in
1999 and 1998, higher levels of ceded reinsurance premiums. With the expectation
of significantly reduced levels of workers' compensation insurance premiums, the
Company expects to experience negative cash flow in its property and casualty
insurance operation for the foreseeable future, however, the Company believes it
has adequate levels of liquidity and invested
48
51
assets to meet ongoing obligations to policyholders and claimants, and to cover
ordinary operating expenses.
Fremont's property and casualty insurance subsidiaries are required in
certain states to maintain on deposit with regulatory authorities investments
that meet specified standards of quality, concentrations and type. These deposit
requirements generally require an aggregate market value equal to the Company's
net discounted workers' compensation loss reserves. At December 31, 2000, the
Company had approximately $475 million in cash and investment securities, at
amortized cost, which exceeded amounts on deposit.
As a holding company, Fremont General Corporation ("the holding company")
pays its operating expenses, meets its other obligations and pays stockholders'
dividends from its cash on hand, intercompany tax payments from its industrial
bank, management fees paid by its subsidiaries and dividends from its
subsidiaries. Dividends on its common stock aggregated $19.3 million, $21.7
million, and $20.5 million during 2000, 1999 and 1998, respectively, however,
the Company can give no assurance that future common stock dividends will be
declared. As a result of the substantial operating losses incurred by the
Company's property and casualty insurance operations during 2000, and its
agreement with the DOI, which provides for additional supervision, Fremont does
not expect to receive any dividends from its property and casualty insurance
operations for the foreseeable future. Fremont has available to it significant
tax net operating loss carryforwards, which may be utilized to reduce or
eliminate future tax payments. As a result, intercompany payments of tax
obligations from the industrial bank, which would otherwise be payable to taxing
authorities, are available for use by Fremont for general working capital
purposes. (See Note G of Notes to Consolidated Financial Statements.) In
December of 2000, the Company's industrial bank transferred, by way of dividend,
all of its rights and obligations in one of its securitization transactions to
Fremont General Credit Corporation ("FGCC"). FGCC is the downstream holding
company subsidiary that holds the Company's industrial bank subsidiary. In
January 2001, the industrial bank transferred, via dividend, all of its rights
and obligations in its two remaining securitization transactions to FGCC. These
dividends resulted in a positive impact to the industrial bank through an
increase in its risk-based capital ratios and provide Fremont with additional
flexibility in potentially monetizing the securitizations.
On January 1, 2000 and April 1, 2000, the holding company converted
approximately $154 million and $267 million, respectively, in notes receivable
due from the Company's downstream holding company subsidiaries, FGCC and FCIG,
to common equity in the subsidiaries, thereby establishing capital contributions
to them. The January 1, 2000 conversion transaction affected FGCC and the April
1, 2000 conversion transaction impacted FCIG, which is the downstream holding
company subsidiary that holds the Company's property and casualty insurance
subsidiaries. After these conversions, there is no affiliate debt due from the
Company's downstream holding company subsidiaries.
On March 17, 1999, Fremont General Corporation issued $425 million of
Senior Notes consisting of $200 million of 7.70% Senior Notes due 2004 and $225
million of 7.875% Senior Notes due 2009. During the year ended December 31,
2000, the Company purchased $40.875 million and $7.3 million in par value of its
7.7% Series Senior Notes due 2004 and 7.875% Series Senior Notes due 2009,
respectively. The cost to the Company was approximately $22.9 million. In
addition, during the year ended December 31, 2000, the Company purchased $2.3
million in maturity value of its LYONs for approximately $531,000.
In December 1999, the Company discontinued its commercial finance lending
activities through the sale on December 20, 1999 of Fremont Financial
Corporation, its commercial finance subsidiary, to
49
52
FINOVA Capital Corporation, a subsidiary of The FINOVA Group, Inc. for
approximately $708 million in cash and the assumption of existing debt. (See
"Financial Services Operation.")
During 2000, an aggregate $20,000 principal amount at maturity of LYONs
were converted into 1,000 shares of Fremont General Corporation's common stock.
The effect of these conversions was an increase in stockholders' equity and a
decrease in long-term debt of $10,000. During 1999, an aggregate $3.7 million
principal amount at maturity of LYONs was converted into 141,000 shares of
Fremont General Corporation's common stock. The effect of the conversions was an
increase in stockholders' equity and a decrease in long-term debt of $1.7
million. During 1998, an aggregate $21.0 million principal amount at maturity of
LYONs was converted into 809,000 shares of Fremont General Corporation's common
stock. The effect of the 1998 conversions was an increase in stockholders'
equity and a decrease in long-term debt of $10 million.
Despite the significant losses recorded in 2000, as well as the regulatory
supervision and downgrade by A.M. Best of its workers' compensation
subsidiaries, the Company believes it has adequate resources to continue as a
going concern. Fremont has cash and short term investments of $68.0 million at
December 31, 2000 and no debt maturities until March of 2004 and believes that,
with its other available sources of liquidity, it will have sufficient means to
satisfy its liquidity needs for at least the next twelve months.
ITEM 7.(A) QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information set forth under the subheadings "Market Risk," "Financial
Services Operation -- Interest Rate Risk," "Property and Casualty Insurance
Operation -- Interest Rate Risk," and "Fremont General Corporation
(Parent-only) -- Interest Rate Risk" in the Company's Management's Discussion
and Analysis is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's Consolidated Financial Statements, including supplementary
data, are set forth in the "Index" on page 56 hereof.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
50
53
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information set forth under the subheadings "Election of Directors,"
"Executive Officers" and "Section 16(a) Beneficial Ownership Reporting
Compliance" in the Company's definitive Proxy Statement for the 2001 Annual
Meeting of Stockholders is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information set forth under the subheadings "Election of Directors,"
"Compensation of Directors," "Executive Officers," "Summary Compensation Table,"
"Summary Compensation Table -- Explanations," "Option/SAR Grants In Last Fiscal
Year," "Option Exercises and Year-End Option Values," "Aggregated Option
Exercises in Last Fiscal Year and Fiscal Year-End Option Values Table,"
"Employment Agreements" and "Retirement and Other Benefit Plans, A-K" in the
Company's definitive Proxy Statement for the 2001 Annual Meeting of Stockholders
is incorporated herein by this reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information set forth under the subheading "Principal and Management
Stockholders" in the Company's definitive Proxy Statement for the 2001 Annual
Meeting of Stockholders is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information immediately following the captions "Election of Directors,"
"Employment Agreements," and "Certain Relationships and Related Transactions" in
the Company's definitive Proxy Statement for the 2001 Annual Meeting of
Stockholders is incorporated herein by reference.
51
54
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) and (a)(2) and (d) FINANCIAL STATEMENTS AND SCHEDULES. Reference is
made to the "Index -- Consolidated Financial Statements and Financial Statements
Schedules -- Annual Report on Form 10-K filed as part of this Annual Report.
(a)(3) and (c) EXHIBITS.
EXHIBIT NO. DESCRIPTION
----------- -----------
3.1 Restated Articles of Incorporation of Fremont General
Corporation. (Incorporated by reference to Exhibit 3.1 to
the Registrant's Quarterly Report on Form 10-Q, for the
period ended June 30, 1998, Commission File Number 1-8007.)
3.2 Certificate of Amendment of Articles of Incorporation of
Fremont General Corporation. (Incorporated by reference to
Exhibit 3.2 to the Registrant's Annual Report on Form 10-K,
for the fiscal year ended December 31, 1998, Commission File
Number 1-8007.)
3.3 Amended and Restated By-Laws of Fremont General Corporation.
(Incorporated by reference to Exhibit 3.3 to the
Registrant's Annual Report on Form 10-K, for the fiscal year
ended December 31, 1995, Commission File Number 1-8007.)
4.1 Form of Stock Certificate for Common Stock of the
Registrant.
4.2 Indenture with respect to Liquid Yield Option Notes Due 2013
between the Registrant and Bankers Trust Company.
(Incorporated by reference to Exhibit 4.4 to Registration
Statement on Form S-3 filed on October 1, 1993.)
4.3 Indenture among the Registrant, the Trust and Bank of New
York (originated with First Interstate Bank of California),
a New York Banking Corporation, as trustee. (Incorporated by
reference to Exhibit 4.3 to the Registrant's Annual Report
on Form 10-K, for the fiscal year ended December 31, 1995,
Commission File Number 1-8007.)
4.4 Amended and Restated Declaration of Trust among the
Registrant, the Regular Trustees, The Chase Manhattan Bank
(USA), a Delaware banking corporation, as Delaware trustee,
and The Chase Manhattan Bank, N.A., a national banking
association, as Institutional Trustee. (Incorporated by
reference to Exhibit 4.5 to the Registrant's Annual Report
on Form 10-K, for the fiscal year ended December 31, 1995,
Commission File Number 1-8007.)
4.5 Preferred Securities Guarantee Agreement between the
Registrant and The Chase Manhattan Bank, N.A., a national
banking association, as Preferred Guarantee Trustee.
(Incorporated by reference to Exhibit 4.6 to the
Registrant's Annual Report on Form 10-K, for the fiscal year
ended December 31, 1995, Commission File Number 1-8007.)
4.6 Common Securities Guarantee Agreement by the Registrant.
(Incorporated by reference to Exhibit 4.7 to the
Registrant's Annual Report on Form 10-K, for the fiscal year
ended December 31, 1995, Commission File Number 1-8007.)
4.7 Form of Preferred Securities. (Included in Exhibit 4.5).
(Incorporated by reference to Exhibit 4.8 to the
Registrant's Annual Report on Form 10-K, for the fiscal year
ended December 31, 1995, Commission File Number 1-8007.)
52
55
EXHIBIT NO. DESCRIPTION
----------- -----------
10.1(a)* Fremont General Corporation Supplemental Retirement Plan, as
restated January 1, 1997. (Incorporated by reference to
Exhibit 10.5 to the Registrant's Quarterly Report on Form
10-Q, for the period ended September 30, 1997, Commission
File Number 1-8007.)
10.1(b)* Amendment Number One to the Fremont General Corporation
Supplemental Retirement Plan. (Incorporated by reference to
Exhibit 10.5 to the Registrant's Quarterly Report on Form
10-Q, for the period ended March 31, 1998, Commission File
Number 1-8007.)
10.1(c)* Amendment Number Two to the Fremont General Corporation
Supplemental Retirement Plan of the Registrant.
(Incorporated by reference to Exhibit 10.5(b) to the
Registrant's Annual Report on Form 10-K, for the fiscal year
ended December 31, 1998, Commission File Number 1-8007.)
10.1(d)* Amendment Number Three to the Fremont General Corporation
Supplemental Retirement Plan of the Registrant.
10.2* Trust Agreement for Fremont General Corporation Supplemental
Retirement Plan and Fremont General Corporation Senior
Supplemental Retirement Plan and amendment. (Incorporated by
reference to Exhibit 10.6 to the Registrant's Annual Report
on Form 10-K, for the fiscal year ended December 31, 1995,
Commission File Number 1-8007.)
10.3(a)* Fremont General Corporation Senior Supplemental Retirement
Plan, as restated January 1, 1997. (Incorporated by
reference to Exhibit 10.7 to the Registrant's Quarterly
Report on Form 10-Q, for the period ended September 30,
1997, Commission File Number 1-8007.)
10.3(b)* First Amendment to the Fremont General Corporation Senior
Supplemental Retirement Plan. (Incorporated by reference to
Exhibit 10.7 (b) to the Registrant's Annual Report on Form
10-K, for the fiscal year ended December 31, 1998,
Commission File Number 1-8007.)
10.3(c)* Second Amendment to the Fremont General Corporation Senior
Supplemental Retirement Plan.
10.4(a)* Fremont General Corporation Excess Benefit Plan Restated
effective as of January 1, 1997 and First Amendment dated
December 21, 1998. (Incorporated by reference to Exhibit
10.8(a) to the Registrant's Annual Report on Form 10-K, for
the fiscal year ended December 31, 1998, Commission File
Number 1-8007.)
10.4(b)* Trust Agreement for Fremont General Corporation Excess
Benefit Plan. (Incorporated by reference to Exhibit 10.8 to
the Registrant's Annual Report on Form 10-K, for the fiscal
year ended December 31, 1995, Commission File Number
1-8007.)
10.5* 1997 Stock Plan and related agreements. (Incorporated by
reference to Exhibit 10.10 to Quarterly Report on Form 10-Q,
for the period ended June 30, 1997, Commission File Number
1-8007.)
10.6* The 1999 Long Term Incentive Compensation Plan of the
Registrant. (Incorporated by reference to Exhibit 10.10 to
the Registrant's Annual Report on Form 10-K, for the fiscal
year ended December 31, 1999, Commission File Number
1-8007.)
53
56
EXHIBIT NO. DESCRIPTION
----------- -----------
10.7* 1995 Restricted Stock Award Plan As Amended and forms of
agreement thereunder. (Incorporated by reference to Exhibit
4.1 to Registration Statement on Registrant's Form S-8/S-3
File 333-17525 which was filed on December 9, 1997.)
10.8(a)* Fremont General Corporation Employee Benefits Trust
Agreement ("Grantor Trust") dated September 7, 1995 between
the Registrant and Merrill Lynch Trust Company of
California. (Incorporated by reference to Exhibit 10.12 to
the Registrant's Annual Report on Form 10-K, for the fiscal
year ended December 31, 1995, Commission File Number
1-8007.)
10.8(b)* November 11, 1999 Amendment to Exhibit A to the Fremont
General Corporation Employee Benefits Trust ("Grantor
Trust") dated September 7, 1995 between the Registrant and
Merrill Lynch Trust Company of California. (Incorporated by
reference to Exhibit 10.13 (a) to the Registrant's Quarterly
Report on Form 10-Q for the period ended September 30, 1999,
Commission File Number 1-8007.)
10.9(a)* Employment Agreement between the Registrant and James A.
McIntyre dated January 1, 1994. (Incorporated by reference
to Exhibit (10)(i) to the Registrant's Quarterly Report on
Form 10-Q for the period ended March 31, 1994, Commission
File Number 1-8007.)
10.9(b)* First Amendment to Employment Agreement between the
Registrant and James A. McIntyre dated August 1, 1996.
(Incorporated by reference to Exhibit 10.10 to the
Registrant's Quarterly Report on Form 10-Q, for the period
ended June 30, 1997, Commission File Number 1-8007.)
10.9(c)* Second Amendment to Employment Agreement between the
Registrant and James A. McIntyre dated August 8, 1997.
(Incorporated by reference to Exhibit 10.14(c) to the
Registrant's Quarterly Report on Form 10-Q, for the period
ended September 30, 1997, Commission File Number 1-8007.)
10.9(d)* Third Amendment to Employment Agreement between the
Registrant and James A. McIntyre dated August 1, 2000.
10.10* Employment Agreement between the Registrant and Louis J.
Rampino dated February 25, 2000.
10.11* Employment Agreement between the Registrant and Wayne R.
Bailey dated February 25, 2000.
10.12* Employment Agreement between the Registrant and Raymond G.
Meyers dated February 25, 2000. (Incorporated by reference
to Exhibit 10.16 to the Registrant's Quarterly Report on
Form 10-Q, for the period ended June 30, 2000, Commission
File Number 1-8007.)
10.13* Management Continuity Agreement between the Registrant and
John Donaldson dated April 1, 2000. (Incorporated by
reference to Exhibit 10.17 to the Registrant's Quarterly
Report on Form 10-Q, for the period ended June 30, 2000,
Commission File Number 1-8007.)
10.14* Management Continuity Agreement between the Registrant and
Patrick E. Lamb dated April 1, 2000. (Incorporated by
reference to Exhibit 10.18 to the Registrant's Quarterly
Report on Form 10-Q, for the period ended June 30, 2000,
Commission File Number 1-8007.)
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57
EXHIBIT NO. DESCRIPTION
----------- -----------
10.15* Management Continuity Agreement between the Registrant and
Alan Faigin dated April 1, 2000. (Incorporated by reference
to Exhibit 10.19 to the Registrant's Quarterly Report on
Form 10-Q, for the period ended June 30, 2000, Commission
File Number 1-8007.)
10.16* Management Continuity Agreement between the Registrant and
Eugene E. McNany, Jr. dated April 1, 2000. (Incorporated by
reference to Exhibit 10.20 to the Registrant's Quarterly
Report on Form 10-Q, for the period ended June 30, 2000,
Commission File Number 1-8007.)
10.17* Management Continuity Agreement among the Registrant,
Fremont Investment & Loan and Murray L. Zoota dated May 15,
2000. (Incorporated by reference to Exhibit 10.21 to the
Registrant's Quarterly Report on Form 10-Q, for the period
ended June 30, 2000, Commission File Number 1-8007).
10.18* Management Continuity Agreement among the Registrant,
Fremont Investment & Loan and Gwyneth E. Colburn dated May
15, 2000. (Incorporated by reference to Exhibit 10.22 to the
Registrant's Quarterly Report on Form 10-Q, for the period
ended June 30, 2000, Commission File Number 1-8007).
10.19* Management Continuity Agreement among the Registrant,
Fremont Investment & Loan and Kyle R. Walker dated May 15,
2000. (Incorporated by reference to Exhibit 10.23 to the
Registrant's Quarterly Report on Form 10-Q, for the period
ended June 30, 2000, Commission File Number 1-8007).
10.20* Management Continuity Agreement among the Registrant,
Fremont Compensation Insurance Group and William B. (Brian)
O'Hara dated May 15, 2000.
10.21* Management Incentive Compensation Plan of Fremont General
Corporation and Affiliated Companies. (Incorporated by
reference to Exhibit 10.16 to the Registrant's Quarterly
Report on Form 10-Q, for the period ended March 31, 2000,
Commission File Number 1-8007.)
10.22 Continuing Compensation Plan for Retired Directors.
(Incorporated by reference to Exhibit 10.17 to the
Registrant's Annual Report on Form 10-K, for the fiscal year
ended December 31, 1995, Commission File Number 1-8007.)
10.23 Letter Agreement among Fremont Compensation Insurance Group,
the Registrant and the State of California Department of
Insurance dated November 27, 2000.
21 Subsidiaries of the Registrant.
23 Consent of Ernst & Young LLP Independent Auditors.
- ---------------
* Management or compensatory plans or arrangements.
With respect to long-term debt instruments, the Registrant undertakes to
provide copies of such agreements upon request by the Commission.
(b) REPORTS ON FORM 8-K. None.
55
58
FREMONT GENERAL CORPORATION
CONSOLIDATED FINANCIAL STATEMENTS AND
FINANCIAL STATEMENT SCHEDULES
ANNUAL REPORT ON FORM 10-K
INDEX
PAGE
-----
Report of Independent Auditors.............................. 57
Consolidated Financial Statements:
Consolidated Balance Sheets as of December 31, 2000 and
1999................................................... 58
Consolidated Statements of Operations for the years ended
December 31, 2000, 1999 and 1998....................... 59
Consolidated Statements of Cash Flows for the years ended
December 31, 2000, 1999 and 1998....................... 60
Consolidated Statements of Changes in Stockholders' Equity
for the years ended December 31, 2000, 1999 and 1998... 61
Notes to Consolidated Financial Statements................ 62
Schedules:
II -- Condensed Financial Information of Registrant...... 93
III -- Supplementary Insurance Information................ 97
IV -- Reinsurance........................................ 98
V -- Valuation and Qualifying Accounts................... 99
VI -- Supplemental Information Concerning
Property/Casualty Insurance Operations................. 100
All other schedules are omitted because of the absence of conditions under
which they are required or because the necessary information is provided in the
consolidated financial statements or notes thereto.
56
59
REPORT OF INDEPENDENT AUDITORS
Stockholders and Board of Directors
Fremont General Corporation
We have audited the accompanying consolidated balance sheets of Fremont
General Corporation and subsidiaries as of December 31, 2000 and 1999, and the
related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 2000. Our
audits also included the financial statement schedules listed in the Index at
Item 14(a). These financial statements and schedules 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 auditing standards generally
accepted in the United States. 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 financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Fremont General
Corporation and subsidiaries at December 31, 2000 and 1999, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 2000, in conformity with accounting principles
generally accepted in the United States. Also, in our opinion, the related
financial statement schedules, when considered in relation to the basic
financial statements taken as a whole, present fairly in all material respects
the information set forth therein.
ERNST & YOUNG LLP
Los Angeles, California
March 23, 2001
57
60
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
DECEMBER 31,
------------------------
2000 1999
---------- ----------
(THOUSANDS OF DOLLARS)
Investment securities available for sale at fair value:
Fixed maturity investments (cost: 2000 -- $925,727;
1999 -- $1,458,721)..................................... $ 890,075 $1,391,229
Non-redeemable preferred stock (cost: 2000 -- $276,809;
1999 -- $407,903)....................................... 234,280 369,103
---------- ----------
Total investment securities available for sale..... 1,124,355 1,760,332
Loans receivable, net of unearned income and allowance for
loan losses............................................... 3,403,256 3,060,984
Short-term investments...................................... 843,434 410,457
Loans held for sale......................................... 298,568 294,639
Residual interests in securitized loans at fair value....... 52,061 62,959
Other investments........................................... 11,110 35,045
---------- ----------
Total Investments and Loans Receivable............. 5,732,784 5,624,416
Cash........................................................ 198,099 65,102
Accrued investment income................................... 40,638 44,244
Premiums receivable and agents' balances.................... 364,618 303,999
Reinsurance recoverable on paid losses...................... 43,460 19,822
Reinsurance recoverable on unpaid losses.................... 975,404 1,049,477
Deferred policy acquisition costs........................... 9,491 59,198
Costs in excess of net assets acquired...................... 21,660 157,927
Deferred income taxes....................................... 395,414 243,645
Other assets................................................ 178,699 236,167
Assets held for discontinued operations..................... 203,791 249,523
---------- ----------
Total Assets....................................... $8,164,058 $8,053,520
========== ==========
LIABILITIES
Claims and policy liabilities:
Losses and loss adjustment expenses....................... $2,808,433 $2,434,757
Life insurance benefits and liabilities................... 91,024 118,390
Unearned premiums......................................... 214,045 218,868
Dividends to policyholders................................ 33,497 20,144
---------- ----------
Total Claims and Policy Liabilities................ 3,146,999 2,792,159
Reinsurance premiums payable and funds withheld............. 13,149 63,806
Other liabilities........................................... 254,165 288,017
Deposits.................................................... 3,849,211 3,423,243
Short-term debt............................................. -- 10,000
Long-term debt.............................................. 376,843 429,185
Liabilities of discontinued operations...................... 178,792 216,009
---------- ----------
Total Liabilities.................................. 7,819,159 7,222,419
Company-obligated mandatorily redeemable preferred
securities of subsidiary Trust holding solely Company
junior subordinated debentures............................ 100,000 100,000
STOCKHOLDERS' EQUITY
Common Stock, par value $1 per share -- Authorized:
150,000,000 shares; Issued and outstanding:
(2000 -- 70,732,000 and 1999 -- 70,039,000)............... 70,732 70,039
Additional paid-in capital.................................. 280,764 285,922
Retained earnings........................................... 10,677 533,523
Deferred compensation....................................... (66,456) (89,293)
Accumulated other comprehensive loss........................ (50,818) (69,090)
---------- ----------
Total Stockholders' Equity......................... 244,899 731,101
---------- ----------
Total Liabilities and Stockholders' Equity......... $8,164,058 $8,053,520
========== ==========
See notes to consolidated financial statements.
58
61
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
-----------------------------------------------
2000 1999 1998
------------- ------------- -------------
(THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA)
Revenues
Property and casualty premiums earned........... $1,016,086 $ 831,005 $ 552,078
Interest and fee income on loans................ 379,243 366,408 240,749
Net investment income........................... 160,982 169,559 192,815
Realized investment losses...................... (2,754) (3,548) (605)
Other revenue................................... 23,615 34,186 44,143
---------- ---------- ----------
Total Revenues.......................... 1,577,172 1,397,610 1,029,180
Expenses
Losses and loss adjustment expenses............. 1,262,000 770,523 335,450
Policy acquisition costs........................ 208,239 191,923 123,393
Impairment, restructuring and other charges..... 267,831 -- --
Provision for loan losses....................... 17,526 25,470 11,059
Other operating costs and expenses.............. 212,915 199,401 197,064
Dividends to policyholders...................... 38,386 36,123 4,735
Interest expense................................ 263,133 240,454 160,767
---------- ---------- ----------
Total Expenses.......................... 2,270,030 1,463,894 832,468
---------- ---------- ----------
Income (loss) before taxes...................... (692,858) (66,284) 196,712
Income tax expense (benefit).................... (174,128) (25,907) 63,748
---------- ---------- ----------
Net income (loss) from continuing operations.... (518,730) (40,377) 132,964
Extraordinary gains on extinguishment of debt... 12,418 -- --
Discontinued operations......................... -- (25,000) --
---------- ---------- ----------
Net Income (Loss)....................... $ (506,312) $ (65,377) $ 132,964
========== ========== ==========
Per Share Data:
Basic:
Net income (loss) from continuing
operations................................. $ (8.23) $ (0.64) $ 2.09
Extraordinary gains on extinguishment of
debt....................................... 0.20 -- --
Discontinued operations...................... -- (0.39) --
---------- ---------- ----------
Net income (loss)............................ $ (8.03) $ (1.03) $ 2.09
========== ========== ==========
Diluted:
Net income (loss) from continuing
operations................................. $ (8.23) $ (0.64) $ 1.90
Extraordinary gains on extinguishment of
debt....................................... 0.20 -- --
Discontinued operations...................... -- (0.39) --
---------- ---------- ----------
Net income (loss)............................ $ (8.03) $ (1.03) $ 1.90
========== ========== ==========
See notes to consolidated financial statements.
59
62
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
-----------------------------------------
2000 1999 1998
----------- ----------- -----------
(THOUSANDS OF DOLLARS)
OPERATING ACTIVITIES
Net income (loss) from continuing operations.............. $ (518,730) $ (40,377) $ 132,964
Adjustments to reconcile net income (loss) from continuing
operations to net cash provided by operating activities:
Change in premiums receivable and agents' balances and
reinsurance recoverable on paid losses................ (84,257) (59,323) (9,652)
Change in accrued investment income..................... 3,606 (206) (1,871)
Change in claims and policy liabilities................. 482,945 (25,570) (424,115)
Amortization of policy acquisition costs................ 208,239 191,923 123,393
Policy acquisition costs deferred....................... (201,270) (206,125) (130,214)
Impairment, restructuring and other charges............. 267,831 -- --
Net change in residual interests in securitized loans... 10,898 (62,959) --
Deferred income tax (benefit) expense................... (161,606) (29,028) 33,583
Provision for loan losses............................... 17,526 25,470 11,059
Depreciation and amortization........................... 45,897 44,207 40,318
Net amortization on fixed maturity investments.......... (133) (8,571) (25,991)
Realized investment losses.............................. 2,754 3,548 605
Change in other assets and liabilities.................. (139,521) 35,145 50,176
----------- ----------- -----------
Net Cash Used in Operating Activities............... (65,821) (131,866) (199,745)
INVESTING ACTIVITIES
Investment securities available for sale:
Purchases............................................... (150,746) (613,480) (1,122,255)
Sales................................................... 671,034 622,081 865,642
Maturities or calls..................................... 141,179 217,097 389,253
(Increase) decrease in short-term and other investments... (409,042) (205,893) 275,197
Loan originations and bulk purchases funded............... (3,691,080) (4,229,786) (2,651,041)
Receipts from repayments and bulk sales of loans.......... 3,327,353 3,806,869 1,665,493
Acquisition of companies, less cash acquired.............. -- -- (109,989)
Purchases of property and equipment....................... (15,679) (26,332) (33,727)
----------- ----------- -----------
Net Cash Used in Investing Activities............... (126,981) (429,444) (721,427)
FINANCING ACTIVITIES
Proceeds from short-term debt............................. -- -- 126,995
Repayments of short-term debt............................. (10,000) (155,702) (13,300)
Proceeds from long-term debt.............................. -- 497,237 298,000
Repayments of long-term debt.............................. (24,844) (980,045) (41,228)
Net increase in deposits.................................. 425,968 1,288,404 641,854
Annuity contract receipts................................. 1,423 699 714
Annuity contract withdrawals.............................. (55,455) (39,252) (47,288)
Dividends paid............................................ (19,337) (21,704) (20,476)
Stock options exercised................................... -- 407 1,453
Decrease (increase) in deferred compensation plans........ 8,044 (43,507) (10,664)
----------- ----------- -----------
Net Cash Provided by Financing Activities........... 325,799 546,537 936,060
----------- ----------- -----------
Increase (Decrease) in Cash................................. 132,997 (14,773) 14,888
Cash at beginning of year................................. 65,102 79,875 64,987
----------- ----------- -----------
Cash at end of year......................................... $ 198,099 $ 65,102 $ 79,875
=========== =========== ===========
See notes to consolidated financial statements.
60
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FREMONT GENERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
ACCUMULATED
ADDITIONAL OTHER
COMMON PAID-IN RETAINED DEFERRED COMPREHENSIVE
STOCK CAPITAL EARNINGS COMPENSATION INCOME (LOSS) TOTAL
------- ---------- --------- ------------ ------------- ---------
(THOUSANDS OF DOLLARS)
Balance at January 1, 1998............. $34,571 $323,065 $ 508,533 $(86,263) $ 52,909 $ 832,815
Net income for 1998.................. -- -- 132,964 -- -- 132,964
Cash dividends to stockholders....... -- -- (20,885) -- -- (20,885)
Two-for-one stock split.............. 34,952 (34,952) -- -- -- --
Conversion of LYONs.................. 423 9,224 -- -- -- 9,647
Stock options exercised.............. 52 1,557 -- 577 -- 2,186
Retirement of common stock........... (59) (2,691) -- 2,750 -- --
Shares acquired or allocated for
employee benefit plans............. -- 10,157 -- (23,287) -- (13,130)
Amortization of restricted stock..... -- -- -- 9,592 -- 9,592
ESOP shares allocated................ -- 3,379 -- 3,906 -- 7,285
Other adjustments.................... -- (1,370) -- 5,815 -- 4,445
Net change in unrealized gain (loss)
on investments, net of deferred
taxes.............................. -- -- -- -- (14,007) (14,007)
------- -------- --------- -------- --------- ---------
Balance at December 31, 1998........... 69,939 308,369 620,612 (86,910) 38,902 950,912
Net loss for 1999.................... -- -- (65,377) -- -- (65,377)
Cash dividends to stockholders....... -- -- (21,712) -- -- (21,712)
Conversion of LYONs.................. 141 1,599 -- -- -- 1,740
Stock options exercised.............. -- (923) -- 1,416 -- 493
Retirement of common stock........... (41) (919) -- 960 -- --
Shares acquired or allocated for
employee benefit plans............. -- (13,862) -- (29,472) -- (43,334)
Amortization of restricted stock..... -- -- -- 10,564 -- 10,564
ESOP shares allocated................ -- 294 -- 5,513 -- 5,807
Other adjustments.................... -- (8,636) -- 8,636 -- --
Net change in unrealized gain (loss)
on investments, net of deferred
taxes.............................. -- -- -- -- (107,992) (107,992)
------- -------- --------- -------- --------- ---------
Balance at December 31, 1999........... 70,039 285,922 533,523 (89,293) (69,090) 731,101
Net loss for 2000.................... -- -- (506,312) -- -- (506,312)
Cash dividends to stockholders....... -- -- (16,534) -- -- (16,534)
Conversion of LYONs.................. 1 9 -- -- -- 10
Retirement of common stock........... (66) (310) -- 376 -- --
Shares issued, acquired or allocated
for employee benefit plans......... 758 (9,643) -- 15,989 -- 7,104
Amortization of restricted stock..... -- -- -- 11,975 -- 11,975
ESOP shares allocated................ -- (886) -- 1,826 -- 940
Other adjustments.................... -- 5,672 -- (7,329) -- (1,657)
Net change in unrealized gain (loss)
on investments, net of deferred
taxes.............................. -- -- -- -- 18,272 18,272
------- -------- --------- -------- --------- ---------
Balance at December 31, 2000........... $70,732 $280,764 $ 10,677 $(66,456) $ (50,818) $ 244,899
======= ======== ========= ======== ========= =========
See notes to consolidated financial statements.
61
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FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A -- NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
Fremont General Corporation ("Fremont") is a financial services holding
company engaged through subsidiaries in select financial services and property
and casualty insurance businesses. The financial services business includes an
industrial bank with commercial and residential real estate lending and
interests in large syndicated commercial loans originated and serviced by other
financial institutions ("syndicated loans"). The industrial bank's deposits are
insured by the Federal Deposit Insurance Corporation ("FDIC"). The property and
casualty insurance business is represented by the underwriting of workers'
compensation insurance policies. In November 2000, Fremont's workers'
compensation insurance subsidiaries entered into an agreement with the
California Department of Insurance ("DOI") that provided for certain regulatory
oversight. (See Note B.) In December 1999, Fremont sold its commercial finance
subsidiary that provided commercial working capital lines of credit ("commercial
finance"). Real estate lending represents approximately 90% of loan interest
revenues (1999 -- 71%; 1998 -- 68%). Syndicated and commercial finance loans
account for substantially all of the remaining loan interest revenues.
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States
("GAAP") which, as to the subsidiary insurance companies, differ from statutory
accounting practices prescribed or permitted by regulatory authorities. The
significant accounting policies followed by the Company that materially affect
financial reporting are summarized below.
Consolidation: The consolidated financial statements include the accounts
and operations, after intercompany eliminations, of Fremont General Corporation
and subsidiaries ("the Company"). (See Note P for the accounting treatment of
discontinued operations.)
Use of Estimates: The preparation of the financial statements in conformity
with GAAP requires management to make estimates and assumptions that affect the
amounts reported in the financial statements and accompanying notes. Actual
results could differ from those estimates.
Investment Securities: Fixed maturity investments represent bonds and
redeemable preferred stocks that mature more than one year after the purchase
date. Non-redeemable preferred stocks are equity securities, the majority of
which do not include adjustable dividend yield provisions.
Premiums and discounts on investment securities are primarily amortized
using the interest method over the estimated lives of the investments. The
estimated lives of such investments are determined based upon the current
expectations of future cash flows. Adjustments for other-than-temporary market
declines are recorded when determination of loss is probable and is reflected
with a write-down of amortized cost to estimated fair value. Short-term
investments are carried at cost, which approximates their fair value. Realized
investment gains and losses are included as a component of revenues based on
specific identification of the investment sold.
Loans and Residual Interests in Securitizations: Interest and fee income on
loans receivable are recognized as revenue over the life of the related loan
using the interest method. Loan origination fees and related costs are deferred
and amortized to interest and fee income over the life of the loan on the
interest method. Loans are stated net of unearned income and the allowance for
loan losses. The allowance is increased by provisions charged against operations
and reduced by loan amounts charged off by management. The allowance is
maintained at a level considered adequate to provide for inherent
62
65
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
losses on loans based on management's evaluation of the loan portfolio. While
management uses all available information to estimate the level of the allowance
for credit losses, future additions may be necessary based on changes in the
amounts and timing of future cash flows expected due to changes in collateral
values supporting loans, general economic conditions and borrowers' financial
conditions.
Management classifies loans as non-accrual generally when principal or
interest is past due 90 days or more unless the loan has collateral sufficient
to discharge the debt and management reasonably expects repayment of the debt or
restoration to a current status in the near future. When a loan is placed on
non-accrual status, any previously uncollected interest is reversed as a
reduction of interest earned on loans receivable and accrued interest
receivable. Subsequent collections on non-accrual loans are applied as a
reduction of principal. The Company's charge-off policy is based on a monthly
loan-by-loan review.
Loans held for sale are comprised of residential real estate loans and are
stated at the lower of aggregate amortized cost or market. Market value is based
on market quotes for such loans.
Real estate owned is primarily acquired through or in lieu of foreclosure
on credits secured by real estate and is included in the financial statements
under other assets at the lower of cost or estimated realizable value (net of
estimated costs to sell). Estimated realizable values are based on management's
evaluation of numerous factors, including appraisals, sales of comparable assets
and estimated market conditions.
The residual interests relate to the residential securitized loans that the
Company retains and represent the right to receive certain future cash flows
which are generally equal to the value of the principal and interest to be
collected on the loans in excess of: (i) the principal and interest to be paid
on the securities sold through a securitization trust to third party investors;
and (ii) various contractual net servicing fees and other expenses. The residual
interests are at estimated fair value. Since active market quotes are generally
not available for residual interests, the Company determines fair value by
computing the present value of the estimated net cash flows retained, using the
dates that such cash flows are expected to be released to the Company (the
cash-out method), at a discount rate that management considers to be
commensurate with the risks associated with the cash flows. The Company
recognized no initial net gain on the residual interests it retained above the
carrying costs of the loans sold into the securitizations. The carrying costs
include direct and indirect origination costs.
Loan sales are on a cash basis wherein the buyer acquires all future rights
to the loans sold with no recourse to the Company. Gains and losses on these
whole loan sales are recognized at the date of settlement and are based upon the
difference between the cash received for the loans and the Company's carrying
cost of the loans. Gains and losses on whole loan sales are classified as other
revenue.
Deposits: Deposits consist of certificates of deposit and installment
certificates (which are similar to passbook savings accounts and money market
accounts) at the Company's California-chartered industrial bank subsidiary. Such
balances are credited with interest at rates ranging from 3.20% to 6.90% at
December 31, 2000. The estimated fair value of the deposits was $3,850,864,000
at December 31, 2000. (See Note H.)
Premium Income: Revenues from property and casualty insurance premiums are
recognized proportionately over the terms of the related policies. The Company's
property and casualty insurance premiums are substantially all from workers'
compensation insurance policies. Direct premiums earned but not billed at the
end of each accounting period are estimated and accrued, and differences between
63
66
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
such estimates and final billings are included in current operations. Unearned
premiums are calculated using the monthly pro rata basis. Premiums receivable
and agents' balances and reinsurance recoverable on paid and unpaid losses
include allowances for doubtful accounts of $29,663,000 and $16,243,000 at
December 31, 2000 and 1999, respectively.
Loss and Loss Adjustment Expenses and Reinsurance Recoverables on Unpaid
Losses: The estimated liabilities for loss and loss adjustment expenses ("LAE")
include the accumulation of estimates for losses and claims reported prior to
the balance sheet dates, estimates (based primarily on projections of historical
developments) of claims incurred but not reported and estimates of expenses for
investigating and adjusting all incurred and unadjusted claims. Amounts reported
are management's best estimates of the ultimate costs of settlement, net of
subrogation and salvage recoveries, which are necessarily subject to the impact
of future changes in economic and social conditions. Management believes that,
given the inherent variability in any such estimate, the recorded loss reserves
are within a reasonable and acceptable range of adequacy. Loss reserves are
continually monitored and reviewed, and as settlements are made or reserves
adjusted, differences are included in current operations.
Reinsurance recoverables on unpaid losses represent estimates of that
portion of the estimated liabilities for loss and loss adjustment expenses that
will be recovered after the balance sheet date from reinsurers under contracts
of reinsurance in place for current and prior years. Similar to gross loss and
loss adjustment expenses, amounts reported for reinsurance recoverables on
unpaid losses are estimates of the ultimate amounts to be recovered from
reinsurers after the balance sheet date, and are necessarily subject to the
impact of future changes in economic and social conditions, as well as other
factors. Management believes that, given the inherent variability in any such
estimate, the aggregate reinsurance recoverables on unpaid losses are within a
reasonable and acceptable range of adequacy. Reinsurance recoverable estimates
are continually monitored and reviewed, and as recoveries are made or estimates
adjusted, any differences are included in current operations.
Deferred Policy Acquisition Costs: Commissions, premium taxes and certain
sales and underwriting expenses are capitalized and amortized as premiums are
earned over the terms of the related property and casualty insurance policies.
Anticipated investment income is considered in determining if premium
deficiencies exist. In December 2000, the Company wrote-off $42.7 million in
deferred policy acquisition costs. (See Note B.)
Dividends to Policyholders: Dividends, if applicable, to policyholders on
workers' compensation insurance policies are accrued during the period in which
the related premiums are earned.
Life Insurance Benefits and Liabilities: Policyholder contract liabilities
for universal life and investment-type products represent the premiums received
plus accumulated interest, less mortality and other administrative charges under
the contracts and before applicable surrender charges. Policy benefits and
claims that are charged to expense include benefit claims incurred in excess of
related policy account balances. Substantially all life insurance has been
reinsured to an unrelated insurer. (See Note F.)
Intangibles: The excess of the costs of acquisitions over net assets
acquired, also referred to as goodwill, is reported net of accumulated
amortization (2000 - $5,076,000; 1999 - $34,126,000) and amounts written off.
The carrying values of intangible assets such as goodwill, as well as other
long-lived assets, are reviewed for impairment if changes in the facts and
circumstances, such as the economic or
64
67
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
competitive environment in which the Company operates, or cash flow or
profitability analysis, indicate potential impairment of their carrying values.
In December 2000, the Company wrote-off as impaired $128,706,000 of goodwill and
$69,343,000 of trade name intangible assets related to the restructuring of its
workers' compensation insurance operations. (See Note B.) The balance of
goodwill at December 31, 2000 is being amortized primarily over 25 years.
Furniture and Equipment: Furniture and equipment are stated at cost, less
accumulated depreciation. Generally depreciation is computed using the
straight-line method over periods ranging from two to twelve years. Leasehold
improvements are amortized over the terms of the lease. The net book value of
these fixed assets (2000 - $49,770,000; 1999 - $76,162,000) is included in other
assets.
Credit Risk: Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of temporary cash investments,
fixed maturity securities, preferred stocks, real estate and syndicated loans,
residual interests in securitized residential real estate loans, and reinsurance
recoverables. The Company places its temporary cash investments with high credit
quality financial institutions and limits the amounts of credit exposure to any
one financial institution. Concentrations of credit risk with respect to
investments in fixed securities, preferred stocks and syndicated loans are
limited due to the large number of such investments and their distribution
across many different industries and geographic regions. The Company attempts to
limit the concentration of credit risk for commercial real estate loans by
emphasizing first mortgage lending on a wide variety of properties that generate
stable or increasing cash flow streams, have strong asset quality and proven
sponsorship. At December 31, 2000 and 1999, there were 32 and 16 commercial real
estate loans, respectively, each with loan balances in excess of $15 million,
and 51% of the commercial real estate loan portfolio was secured by mortgages on
properties located in California. Concentration of credit risk with respect to
residential real estate loans is limited due to the large number of borrowers;
however, approximately 41% of these loans are from borrowers within the state of
California. To minimize its exposure to significant losses from reinsurance
insolvencies, the Company evaluates the financial condition of its reinsurers
and monitors concentrations of credit risk arising from similar geographic
regions, activities, or economic characteristics of the reinsurers. As of
December 31, 2000, Gerling Global Reinsurance Corporation of America ("Gerling")
was the only reinsurer that accounted for more than 10% of total reinsurance
recoverables on paid and estimated unpaid losses. Gerling represents
approximately 30% of the Company's reinsurance recoverables at December 31,
2000. Gerling was rated "A" (Excellent) by A.M. Best as of December 31, 2000.
The remaining reinsurance recoverables were spread over approximately 175
reinsurers.
Fair Values of Financial Instruments: The Company uses various methods and
assumptions in estimating its fair value disclosures for financial instruments.
For fixed maturity investment securities and preferred stocks, fair values are
determined from certain valuation services, as well as from quoted market
prices. Loans receivable with variable rates, as well as thrift deposits for
passbook and money market type accounts, are deemed to be at fair value. The
fair values of thrift certificates of deposits, fixed rate real estate loans and
other fixed rate loans are estimated using discounted cash flow analyses, using
interest rates currently being offered for similar accounts or loans to
borrowers with similar credit ratings. Residual interests in securitized loans
are estimated using discounted cash flow analyses using a discount rate
considered commensurate with the risk associated with the cash flows.
65
68
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For short-term debt, the carrying amount of the Company's borrowings
approximates fair value. The fair value of the Company's long-term debt and
mandatorily redeemable preferred securities of a subsidiary Trust is based on
quoted market prices for securities actively traded. For long-term debt not
actively traded, the fair value is estimated using discounted cash flow
analyses, based on the Company's current incremental borrowing rates for similar
types of borrowing arrangements.
The carrying amounts and fair values of the Company's financial instruments
at December 31, 2000 are summarized in the following table:
CARRYING ESTIMATED
AMOUNT FAIR VALUE
---------- ----------
(THOUSANDS OF DOLLARS)
Assets
Fixed maturity investments (Note C)......................... $ 890,075 $ 890,075
Non-redeemable preferred stock (Note C)..................... 234,280 234,280
Loans receivable (Note D)................................... 3,403,256 3,408,889
Loans held for sale (Note A)................................ 298,568 309,824
Residual interests in securitized loans (Note D)............ 52,061 52,061
Liabilities
Industrial bank deposits (Note A and H)..................... 3,849,211 3,850,864
Long-term debt (Note J)..................................... 376,843 181,120
Company-obligated mandatorily redeemable preferred
securities of subsidiary Trust holding solely Company
junior subordinated debentures (Note K)................... 100,000 43,000
Insurance related financial instruments, other than those classified as
investment securities, are exempt from fair value disclosure requirements.
New Accounting Standards: In June 1998, the Financial Accounting Standards
Board issued Statement No. 133 ("SFAS 133"), "Accounting for Derivative
Instruments and Hedging Activities" which, as amended, is effective for the
Company on January 1, 2001. SFAS 133 requires that all derivatives and hedges be
identified and recognized as either assets or liabilities and measured at fair
value.
The Company has reviewed its investment securities, loan portfolio,
insurance contracts, debt and lease agreements and has determined that it has
not entered into any derivative, hedge or other off-balance sheet arrangements.
In addition, the Company has concluded that it has not engaged in any contracts
with embedded derivative instruments. Therefore, the adoption of SFAS 133, as
amended, will not have a significant effect on the Company's results of
operations and financial position.
Reclassifications: Certain 1999 and 1998 amounts have been reclassified to
conform to the 2000 presentation.
NOTE B -- REGULATORY MATTERS AND IMPAIRMENT, RESTRUCTURING AND OTHER CHARGES
As a result of substantial operating losses incurred by the Company's
property and casualty insurance operation in 2000, the Company's workers'
compensation insurance subsidiaries entered into an agreement on November 27,
2000 with the DOI which provides for increased regulatory oversight
66
69
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
and supervision and also grants a permitted statutory accounting practice to
discount their workers' compensation loss and allocated LAE reserves for
accident years 1999 and prior. A discount rate of 4.25% was applied to the loss
and allocated LAE reserves, and was based on actuarially determined payout
patterns. This permitted accounting practice was granted for the year ending
December 31, 2000 and for the first three quarters of the year 2001. However,
the Company believes that this permitted practice will continue into the
foreseeable future if the workers' compensation subsidiaries continue to meet
their obligations and have no significant adverse loss development. The effect
of this permitted accounting practice, which is a departure from prescribed
statutory accounting practices, is a decrease to loss reserves and an increase
in surplus for statutory reporting purposes of $254.5 million at December 31,
2000.
In December 2000, A.M. Best downgraded the workers' compensation insurance
subsidiaries' rating to "E" (Under Regulatory Supervision). An "E" rating
severely limits the Company's ability to underwrite new and renewal workers'
compensation insurance policies. As a result of these events, the Company
announced in December 2000 the restructuring of its workers' compensation
insurance operations. This restructuring resulted in the Company no longer
underwriting workers' compensation insurance policies on a national scale.
Beginning in December 2000, the Company's workers' compensation insurance
operations are now concentrated on underwriting policies only in certain of the
western United States. The charges related to the restructuring recognized in
the statement of operations for the year ended December 31, 2000, consist of the
following (thousands of dollars):
PRE-TAX
ADJUSTMENT
----------
Write-off of goodwill....................................... $128,706
Write-off of other intangible assets........................ 69,343
Write-off of deferred policy acquisition costs.............. 42,738
Write-off of capitalized software costs and related
equipment................................................. 19,927
Other....................................................... 7,117
--------
$267,831
========
The impairment adjustment wrote-off all of the goodwill and trade name
intangible assets related to the acquisition in previous years of Fremont
Casualty Insurance Company, Fremont American Insurance Company, Fremont Pacific
Insurance Company and Fremont Industrial Indemnity Company. Each of these
companies are workers' compensation insurance subsidiaries. This adjustment was
required because of the limited cash flows that these subsidiaries will generate
in the future.
In addition, the Company wrote-off $42.7 million in deferred policy
acquisition costs ("DAC"), comprised of $28.8 million of DAC related to the
offices that the Company closed, as well as $13.9 million related to
underwriting expenses in the Company's remaining offices that the Company has
determined are not sufficiently variable with current premium writings to
warrant deferring at December 31, 2000.
The Company also wrote-off $19.9 million related to capitalized software
costs of certain abandoned premium policy and claims systems, as well as the net
book value of equipment considered impaired due to the office closures. The
other charges include $7.1 million for rent and other costs for
67
70
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
contractual obligations related to the closed offices, as well as termination
benefits for the employees affected by the office closures.
In addition to the restructuring charge, the Company recognized $44.1
million in various non-recurring charges in its property and casualty insurance
operations during the fourth quarter of 2000. These charges consisted primarily
of the elimination of previously recorded tabular discounts in the Company's
reserves for losses and LAE, which are no longer recognized due to the
implementation of the permitted practice, and an increase in the allowance for
doubtful accounts for premiums receivable and agents' balances.
Despite the significant losses recorded in 2000, as well as the regulatory
supervision and the downgrade by A.M. Best, the Company believes it has adequate
resources to continue as a going concern. Fremont has cash and short term
investments of $68.0 million at December 31, 2000 and no debt maturities until
March of 2004. The Company's financial services segment remains profitable and
the Company's workers' compensation insurance subsidiaries have reached
agreement on substantially all material terms of a fronting facility with an
insurance carrier that is rated "A" by A.M. Best that would provide the Company
with policy issuance services under that carrier's name. The transaction is
pending definitive documentation and final regulatory approval. The Company
believes that this fronting arrangement, if finalized, will provide the
Company's workers' compensation insurance subsidiaries the ability to mitigate
the effect of the above discussed events and allow it to underwrite new and
renewal workers' compensation insurance premiums at levels that could not be
achieved without such a facility in place. However, even without such an
arrangement, the Company believes it has the resources to meet its policyholder
and other obligations.
Net income and statutory surplus of the Company's property and casualty and
life insurance subsidiaries (excluding discontinued assumed reinsurance
subsidiaries (See Note P)), as filed with regulatory authorities on the basis of
statutory accounting practices, are summarized in the following table:
2000 1999 1998
--------- -------- --------
(THOUSANDS OF DOLLARS)
Statutory net income (loss) for the year......... $(374,879) $ 2,060 $100,780
Statutory surplus at year end(1)................. 224,276 574,615 665,262
- ---------------
(1) Statutory surplus at December 31, 2000 reflects the Company's implementation
of the permitted statutory accounting practice. This practice provided
$254.5 million in additional statutory surplus at year end 2000.
The National Association of Insurance Commissioners ("NAIC") adopted the
Codification of Statutory Accounting Principles ("Codification") that is
effective January 1, 2001. The Codification supersedes the NAIC's guidance on
statutory accounting, "Accounting Practices and Procedures Manual" and will
result in changes to prescribed accounting practices. Implementation of the
Codification will likely result in a net reduction of statutory surplus of the
property and casualty insurance subsidiaries, primarily as a result of
non-admitting certain premiums receivable that are not due within a 90 day
period, and other lesser items; however, adjusted statutory surplus after the
implementation of Codification is expected to be in compliance with regulatory
requirements as
68
71
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
established under various agreements with the DOI. Codification allows for the
continued use of permitted practices if approved by the state of domicile.
NOTE C -- INVESTMENTS
The amortized cost and fair values of the fixed maturity investments and
non-redeemable preferred stock by major category are summarized in the following
table:
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------- ---------- ---------- ----------
(THOUSANDS OF DOLLARS)
At December 31, 2000
United States Treasury securities and
obligations of other US government
agencies and corporations............... $ 19,762 $ 545 $ -- $ 20,307
Obligations of states and political
subdivisions............................ 112,789 2,050 (129) 114,710
Redeemable preferred stock................. 42,092 -- (2,587) 39,505
Mortgage-backed securities................. 290,687 2,751 (5,669) 287,769
Corporate securities:
Banks................................... 136,389 56 (12,323) 124,122
Financial............................... 91,092 -- (15,297) 75,795
Industrial.............................. 232,916 2,521 (7,570) 227,867
---------- ------- --------- ----------
Total fixed maturity investments... 925,727 7,923 (43,575) 890,075
Non-redeemable preferred stock............. 276,809 63 (42,592) 234,280
---------- ------- --------- ----------
Total investment securities available for
sale....................................... $1,202,536 $ 7,986 $ (86,167) $1,124,355
========== ======= ========= ==========
At December 31, 1999
United States Treasury securities and
obligations of other US government
agencies and corporations............... $ 64,601 $ 53 $ (187) $ 64,467
Obligations of states and political
subdivisions............................ 139,559 154 (7,575) 132,138
Redeemable preferred stock................. 80,127 -- (6,327) 73,800
Mortgage-backed securities................. 344,649 1,780 (19,436) 326,993
Corporate securities:
Banks................................... 136,401 -- (10,405) 125,996
Financial............................... 179,600 605 (13,582) 166,623
Industrial.............................. 513,784 7,011 (19,583) 501,212
---------- ------- --------- ----------
Total fixed maturity investments... 1,458,721 9,603 (77,095) 1,391,229
Non-redeemable preferred stock............. 407,903 3,160 (41,960) 369,103
---------- ------- --------- ----------
Total investment securities available for
sale....................................... $1,866,624 $12,763 $(119,055) $1,760,332
========== ======= ========= ==========
69
72
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The amortized cost and fair value of fixed maturity investments at December
31, 2000 by contractual maturity, are summarized in the following table:
AMORTIZED FAIR
COST VALUE
---------- ---------
(THOUSANDS OF DOLLARS)
One year or less.......................................... $ 25,330 $ 25,211
Over 1 year through 5 years............................... 34,860 37,911
Over 5 years through 10 years............................. 121,512 121,828
Over 10 years............................................. 453,338 417,356
-------- --------
Subtotal................................................ 635,040 602,306
Mortgage-backed securities................................ 290,687 287,769
-------- --------
Totals.......................................... $925,727 $890,075
======== ========
The contractual maturities in the foregoing table may differ from actual
maturities because certain borrowers have the right to sell or repay obligations
with or without call or prepayment penalties. Most of the Company's
mortgage-backed securities provide for periodic payments through their lives.
Proceeds from sales of securities and related realized gains and losses are
summarized in the following table:
YEAR ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
-------- -------- --------
(THOUSANDS OF DOLLARS)
Proceeds from sales........................... $671,034 $622,081 $865,642
Gross realized gains.......................... 8,085 10,347 7,469
Gross realized losses......................... 10,839 13,895 8,074
Investment income by major category of investments is summarized in the
following table:
YEAR ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
-------- -------- --------
(THOUSANDS OF DOLLARS)
Fixed maturities.............................. $ 96,112 $126,606 $144,158
Non-redeemable preferred stock................ 29,428 34,860 34,976
Short-term.................................... 38,083 10,009 16,061
Other......................................... 1,256 1,864 324
-------- -------- --------
164,879 173,339 195,519
Investment expenses........................... (3,897) (3,780) (2,704)
-------- -------- --------
Net investment income............... $160,982 $169,559 $192,815
======== ======== ========
70
73
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table reflects the average amortized cost of investment
securities, including short-term investments, of the Company, and related yields
realized, for the periods indicated:
YEAR ENDED DECEMBER 31,
-----------------------------------------
2000 1999 1998
----------- ----------- -----------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Average investment securities............. $2,254,250 $2,260,957 $2,345,464
========== ========== ==========
Investment yield earned on investment
securities:
Excluding realized gains and losses..... 7.14% 7.52% 8.25%
Including realized gains and losses..... 7.02% 7.37% 8.23%
The Company relies on external rating agencies to establish quality ratings
for its investments. The Company only purchases securities that are rated
investment grade by at least one rating agency, but may hold investments that
are subsequently downgraded to non-investment grade. As of December 31, 2000,
all investments held by the Company are current as to principal and interest,
with no investment in default. Investments at fair value included in fixed
maturity investments and non-redeemable preferred stock that in total exceed 10%
of stockholders' equity at December 31, 2000 are summarized in the following
table:
FIXED MATURITY NON-REDEEMABLE
INVESTMENTS PREFERRED STOCK TOTALS
-------------- --------------- --------
(THOUSANDS OF DOLLARS)
General Motors Corporation......................... $ 54,545 $ -- $ 54,545
Citigroup, Inc. ................................... -- 51,793 51,793
Bear Stearns Companies Inc......................... -- 48,579 48,579
Phillip Morris Companies, Inc. .................... 47,729 -- 47,729
Bankers Trust Company.............................. 32,299 -- 32,299
ABN-AMRO Holding N.V. ............................. -- 31,513 31,513
Safeco Capital Trust............................... 30,392 -- 30,392
Hutchison Whampoa Ltd. ............................ 29,155 -- 29,155
Northrop Grumman Corporation....................... 28,120 -- 28,120
Heller Financial, Inc. ............................ -- 27,274 27,274
-------- -------- --------
$222,240 $159,159 $381,399
======== ======== ========
Using Standard & Poor's, Moody's and Fitch's rating services, the quality
mix of the Company's investment portfolio at December 31, 2000 is summarized in
the following table (using Standard & Poor's and Fitch's rating scale):
AAA (including US government obligations)................... 32%
AA.......................................................... 11
A........................................................... 42
BBB......................................................... 12
BB.......................................................... 3
---
100%
===
71
74
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The fair value of fixed maturity investments, non-redeemable preferred
stock and cash totaling $1,099,447,000 at December 31, 2000 were on deposit with
regulatory authorities in compliance with legal requirements related to the
insurance operations.
The Company currently holds no derivative, hedge or other off-balance sheet
arrangements.
NOTE D -- LOANS RECEIVABLE AND RESIDUAL INTERESTS IN SECURITIZATIONS
Loans receivable consist of commercial and residential real estate loans
and syndicated loans. Commercial real estate loans, which are primarily variable
rate, represent loans secured primarily by first mortgages on income-producing
properties such as office, retail, industrial, hotels/motels, multi-family and
mixed-use properties. Loan terms are generally for up to five years. Residential
real estate loans have loan terms for up to thirty years and are generally
secured by first deeds of trust on single-family residences. Syndicated loans
are variable rate senior loans originated on both a revolving and fixed-term
basis, generally not in excess of seven years. These loans are secured by
substantially all of the assets of the borrower, and, if applicable, of its
subsidiaries. In September 2000, the Company sold substantially all of its
insurance premium finance loan portfolio. Commercial finance loans pertained to
a subsidiary sold in December 1999. (See Note O.) Insurance premium notes
receivable were loans collateralized by security interests in return premiums.
Commercial finance loans were asset-based loans that were secured by the
borrowers' eligible trade accounts receivable, inventory, machinery and
equipment, and real estate.
72
75
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Balances of non-performing loans receivable and real estate owned are
summarized in the following table by loan type:
ACCRUAL LOANS
NON-ACCRUAL 90 DAYS REAL ESTATE
LOANS PAST DUE OWNED TOTAL
----------- ------------- ----------- -------
(THOUSANDS OF DOLLARS)
As of December 31, 2000:
Commercial real estate...................... $31,553 $1,023 $10,171 $42,747
Residential real estate..................... 28,866 -- 5,978 34,844
Syndicated loans............................ 9,440 -- -- 9,440
Other....................................... 105 -- -- 105
------- ------ ------- -------
$69,964 $1,023 $16,149 $87,136
======= ====== ======= =======
As of December 31, 1999:
Commercial real estate...................... $14,384 $ 240 $ -- $14,624
Residential real estate..................... 15,538 -- 3,720 19,258
Syndicated loans............................ -- -- -- --
Premium finance............................. 514 687 -- 1,201
Other....................................... 26 1 -- 27
------- ------ ------- -------
$30,462 $ 928 $ 3,720 $35,110
======= ====== ======= =======
As of December 31, 1998:
Commercial real estate...................... $ 9,014 $ 399 $ -- $ 9,413
Residential real estate..................... 11,262 -- 3,848 15,110
Syndicated loans............................ -- -- -- --
Commercial finance.......................... 1,669 -- 1,070 2,739
Premium finance............................. 438 864 -- 1,302
Other....................................... 137 1 -- 138
------- ------ ------- -------
$22,520 $1,264 $ 4,918 $28,702
======= ====== ======= =======
Activity in the allowance for loan losses is summarized in the following
table:
YEAR ENDED DECEMBER 31,
----------------------------
2000 1999 1998
------- -------- -------
(THOUSANDS OF DOLLARS)
Balance, beginning of year.................................. $56,494 $ 56,346 $44,402
Provision for loan losses................................... 17,526 25,470 11,059
Recoveries.................................................. 211 243 839
Charge-offs................................................. (6,632) (11,300) (3,419)
Reserves (sold) established with portfolio (dispositions)
acquisitions.............................................. -- (14,265) 3,465
------- -------- -------
Balance, end of year........................................ $67,599 $ 56,494 $56,346
======= ======== =======
At December 31, 2000, the recorded investment in loans that are considered
to be impaired was $69,964,000 all of which were on a non-accrual basis. The
Company's policy is to consider a loan impaired when, based on current
information and events, it is probable that the Company will be unable
73
76
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
to collect all amounts due according to the contractual terms of the loan
agreement. Evaluation of a loan's impairment is based on the present value of
expected cash flows or the fair value of the collateral, if the loan is
collateral dependent. As a result of charge-offs, these impaired loans do not
necessarily have a related specific allowance for loan loss allocated to them.
However, the $69,964,000 of loans considered impaired do have an allocated
specific allowance that totaled $9,792,000. The average net investment in
impaired loans was $49,638,000, $29,703,000 and $25,373,000 for 2000, 1999 and
1998, respectively. Interest income that was recognized on the cash basis of
accounting on loans classified as impaired during the year was $898,000,
$999,000 and $1,401,000 for years ended December 31, 2000, 1999 and 1998,
respectively. Interest income foregone for loans on non-accrual status that had
not performed in accordance with their original terms was $4,572,000,
$2,262,000, and $979,000 for the years ended December 31, 2000, 1999, and 1998,
respectively. At December 31, 2000 and 1999, there were no loans included in
accrual status that had been modified in connection with troubled debt
restructurings.
The carrying amounts and estimated fair values at December 31, 2000 and
1999 of loans receivable are summarized in the following table:
2000 1999
----------------------- -----------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
---------- ---------- ---------- ----------
(THOUSANDS OF DOLLARS)
Commercial real estate loans............... $2,923,269 $2,919,495 $2,351,595 $2,321,789
Residential real estate loans.............. 248,597 258,004 377,875 391,743
Syndicated loans........................... 317,471 317,471 331,705 331,705
Premium finance loans...................... -- -- 64,596 64,596
---------- ---------- ---------- ----------
3,489,337 3,494,970 3,125,771 3,109,833
Purchase discount and deferred fees........ (18,482) (18,482) (8,293) (8,293)
Allowance for loan losses.................. (67,599) (67,599) (56,494) (56,494)
---------- ---------- ---------- ----------
Loans receivable, net...................... $3,403,256 $3,408,889 $3,060,984 $3,045,046
========== ========== ========== ==========
In 1999, the Company securitized $1,411,383,000 of its residential real
estate loans in three separate transactions. The Company did not securitize any
residential real estate loans in 2000. The remaining principal balance
outstanding of the loans sold into the 1999 securitizations was $1,000,410,000
and $1,288,832,000 as of December 31, 2000, and 1999, respectively. These loans
carried a weighted average coupon rate of 10.36% and 9.94% at December 31, 2000
and 1999, respectively. The following are the primary assumptions used in the
valuation of the Company's residual interests as of December 31, 2000:
Expected weighted average annual constant prepayment rate... 40.55%
Expected weighted average cumulative net loss assumption.... 2.31%
Weighted average discount rate used......................... 16.0%
Weighted average remaining life of residual interests....... 1.64years
The outstanding balance of the Company's residual interests in the
securitizations was $52.1 million as of December 31, 2000. The amounts and
timing of the cash flows to the Company from the securitizations are estimated
after considering various economic factors and other factors, including
74
77
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
prepayment speeds and delinquency, default and loss rates. To allow for
variations in the determination of fair value, the Company recognized in 2000,
as a charge against other revenue, a reduction in the valuation of its residual
interests in the amount of $5.2 million.
NOTE E -- CLAIM LIABILITIES FOR LOSS AND LOSS ADJUSTMENT EXPENSES
The following table provides a reconciliation of the beginning and ending
reserve balances for the Company's claim liabilities for loss and LAE on a
net-of-reinsurance basis to the gross amounts reported in the Company's
consolidated balance sheets.
YEAR ENDED DECEMBER 31,
------------------------------------
2000 1999 1998
---------- ---------- ----------
(THOUSANDS OF DOLLARS)
Reserves for loss and LAE, net of reinsurance
recoverable, at beginning of year................... $1,495,280 $1,597,116 $1,809,395
Incurred loss and LAE:
Provision for insured events of the current year,
net of reinsurance............................... 893,290 677,756 348,897
Increase (decrease) in provision for insured events
of prior years, net of reinsurance............... 368,710 92,767 (13,447)
---------- ---------- ----------
Total incurred loss and LAE................. 1,262,000 770,523 335,450
Payments:
Loss and LAE, net of reinsurance, attributable to
insured events of:
Current year..................................... (292,318) (296,039) (245,177)
Prior years...................................... (554,933) (576,320) (590,197)
---------- ---------- ----------
Total payments.............................. (847,251) (872,359) (835,374)
---------- ---------- ----------
Subtotal.................................... 1,910,029 1,495,280 1,309,471
Liability for loss and LAE for companies acquired
during the year..................................... -- -- 287,645
---------- ---------- ----------
Reserves for loss and LAE, net of reinsurance
recoverable, at end of year......................... 1,910,029 1,495,280 1,597,116
Reinsurance recoverable for loss and LAE, at end of
year................................................ 898,404 939,477 701,002
---------- ---------- ----------
Reserves for loss and LAE, gross of reinsurance
recoverable, at end of year......................... $2,808,433 $2,434,757 $2,298,118
========== ========== ==========
The property and casualty insurance operation's loss and LAE incurred was
$1.262 billion, $770.5 million and $335.5 million in 2000, 1999 and 1998,
respectively. In addition, the ratio of these losses and LAE to property and
casualty insurance premiums earned ("loss ratio") was 124.2%, 92.7% and 60.8% in
2000, 1999 and 1998, respectively. The significant increase in the loss and LAE
recognized in 2000 resulted primarily from the effects of a significant increase
in the Company's gross loss and LAE reserves under workers' compensation
insurance policies effective in or prior to 1999. The Company increased its
gross loss and LAE reserves by $450 million during the second quarter of 2000.
The Company's reserve action was determined through an evaluation of several
factors, including increased severity trends observed since December 31, 1999
relating to the 1999 and prior accident years, increased variability of
actuarial indications, and increased uncertainty within the workers'
compensation
75
78
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
industry as to the underlying causes and consequent ultimate impact of both
increases in claim severity and an acceleration in the payment of claims. These
severity increases covered both medical and indemnity costs, and were above
levels adjusted for estimated inflation. The frequency of claims, however, has
remained stable to slightly lower. The increasing severity on the 1999 accident
year, coupled with a continuing industry-wide acceleration in paid losses
observed by the Company over the past several years, has resulted in significant
increases in the projections of total industry-wide losses and LAE. The
Company's loss and LAE increased significantly in 1999 due to the combined
adverse effect on loss and LAE incurred of a lower than expected level of
reinsurance recoveries than had been actuarially predicted, coupled with the
effect of the Company's recognition of the settlement agreement with Reliance
Insurance Company ("Reliance") under a reinsurance treaty that was in effect
from January 1, 1998 through December 31, 1999. The Company lowered its estimate
of reinsurance recoverables on unpaid losses for the 1998 and 1999 accident
years by approximately $147 million during 1999. This decrease was in
recognition of a lower than actuarially predicted level of incurred losses ceded
under certain reinsurance contracts that were in effect from January 1, 1998
through December 31, 1999. These reinsurance contracts reduced the Company's net
loss exposure from a historical retention of $1 million per loss occurrence to
$50,000 per loss occurrence.
NOTE F -- REINSURANCE
In the normal course of business, the Company seeks to reduce the loss that
may arise from catastrophes or other events that cause unfavorable underwriting
results by reinsuring certain levels of risk in various areas of exposure with
other insurance enterprises or reinsurers. Amounts recoverable from reinsurers
are estimated in a manner consistent with the claim liability associated with
the reinsured policy.
Reinsurance contracts do not relieve the Company from its obligations to
policyholders. The failure of reinsurers to honor their obligations could result
in losses to the Company; consequently, allowances are established for amounts
deemed uncollectible. The Company evaluates the financial condition and economic
characteristics of its reinsurers to minimize its exposure to significant losses
from reinsurer insolvencies.
The effect of ceded reinsurance on property and casualty premiums are
summarized in the following table:
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------------
2000 1999 1998
----------------------- ----------------------- ---------------------
WRITTEN EARNED WRITTEN EARNED WRITTEN EARNED
---------- ---------- ---------- ---------- --------- ---------
(THOUSANDS OF DOLLARS)
Direct..................................... $1,080,806 $1,128,755 $1,145,104 $1,084,454 $ 750,301 $ 717,021
Assumed.................................... 16,943 16,372 9,362 9,641 11,848 13,040
Ceded...................................... (131,670) (129,041) (256,833) (263,090) (190,473) (177,983)
---------- ---------- ---------- ---------- --------- ---------
Net property and casualty premiums....... $ 966,079 $1,016,086 $ 897,633 $ 831,005 $ 571,676 $ 552,078
========== ========== ========== ========== ========= =========
The effect of ceded reinsurance on loss and LAE was a decrease in expenses
of $235,042,000, $344,699,000 and $371,378,000 for the three years ended
December 31, 2000, 1999 and 1998, respectively. The effect of ceded reinsurance
on net premiums written and earned, and on loss and LAE was lower in 2000 as
compared to 1999 due primarily to changes in the Company's reinsurance program,
76
79
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
as well as to the elimination of certain reinsurance effective January 1, 2000
on policies incepting in 1999 and expiring in 2000. The elimination of this
reinsurance was pursuant to a settlement agreement with the reinsurer.
Effective January 1, 2000, reinsurance limits were reduced. Beginning
January 1, 2000, the Company had in place excess of loss reinsurance for new and
renewal workers' compensation insurance policies with effective dates of January
1, 2000 or after, that assumes liability for up to a maximum of $399,000,000 of
loss and certain allocated LAE in excess of $1,000,000 per loss occurrence.
Effective April 1, 2000, the Company executed an excess of loss reinsurance
agreement for losses occurring April 1, 2000 and subsequent under policies
written and renewed from January 1, 2000. The terms of this agreement reduces
the Company's assumed liability for up to a maximum of $399,750,000 of loss and
certain allocated LAE in excess of $250,000 per loss occurrence. For policies
with inception dates in 1999 and 1998, the attachment point had been at $50,000
per loss occurrence with a maximum coverage of $399,950,000 in excess of the
attachment point. These reductions in reinsurance limits as compared to 1999 and
1998, resulted in lower premiums ceded and lower ceded loss and LAE.
On February 28, 2000, the Company reached an agreement with Reliance to
settle all obligations between the Company and Reliance under a contract of
reinsurance which was in effect for the period January 1, 1998 through December
31, 1999. Under the terms of this agreement, the Company received approximately
$102 million in cash on March 29, 2000 and no longer has any involvement with
the Reliance workers' compensation reinsurance programs brokered for Reliance by
Unicover Managers, Inc. In recognition of this settlement, the Company recorded
a charge to its operating results for the year ended December 31, 1999 of
approximately $48.8 million after taxes ($75 million before taxes), consisting
primarily of the adjustment necessary to bring the estimated unpaid reinsurance
recoverables under the reinsurance contract to a present value basis at December
31, 1999.
The Company entered into reinsurance and assumption agreements with a
reinsurer whereby substantially all of the Company's universal life insurance
and annuity business was ceded to the reinsurer effective December 31, 1995, and
all the annuity business was ceded to the reinsurer effective January 1, 1996.
As a result of these agreements, the Company's life insurance operations have
been substantially reduced with no significant gain or loss recorded. Included
in life insurance benefits and liabilities and reinsurance recoverable on unpaid
losses in the accompanying balance sheet is approximately $77,000,000 related to
one of the reinsurance contracts that continues to be on a co-insurance basis.
77
80
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE G -- INCOME TAXES
The major components of income tax expense (benefit) are summarized in the
following table:
YEAR ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
--------- -------- -------
(THOUSANDS OF DOLLARS)
Federal income tax
Current............................................. $ (15,087) $ -- $27,314
Deferred............................................ (161,606) (29,028) 33,583
--------- -------- -------
(176,693) (29,028) 60,897
State income tax...................................... 2,565 3,121 2,851
--------- -------- -------
Income tax expense (benefit)........................ $(174,128) $(25,907) $63,748
========= ======== =======
A reconciliation of the effective federal tax rates in the consolidated
statements of operations with the prevailing federal income tax rate of 35% is
summarized in the following table:
YEAR ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
--------- -------- -------
(THOUSANDS OF DOLLARS)
Federal income tax at 35%........................... $(242,500) $(23,199) $68,849
Effects of:
Write-off of goodwill and other intangible
assets......................................... 66,769 -- --
Dividends received deduction...................... (7,726) (9,391) (8,857)
Dividends in stock-based deferred compensation.... (991) (927) (795)
Amortization of goodwill and other intangible
assets......................................... 1,834 3,292 3,085
Other............................................. 5,921 1,197 (1,385)
--------- -------- -------
Federal income tax expense (benefit)................ $(176,693) $(29,028) $60,897
========= ======== =======
Net payments made (net cash received) for federal and state income taxes
were $(5,068,000), $12,132,000, and $188,000 for 2000, 1999, and 1998,
respectively. In 2000, the Company received a refund of taxes paid in prior
years and on deposit with the IRS totaling $5,001,000. Included in 1999 tax
payments is $9.1 million paid in settlement of an Internal Revenue Service
("IRS") review of tax losses carried back against prior years' taxes paid. The
majority of the amount paid was offset by an increase to the Company's tax
effect of its net loss carryover as determined by the IRS in its review and is
included in the Company's total tax effect of net loss carryovers of
$195,582,000. Additionally, there was $1.4 million paid to the California
Franchise Tax Board in 1999 in resolution of certain ongoing tax matters. These
tax settlements had been accrued for in prior years.
The deferred income tax balance includes the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and for income tax purposes.
78
81
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The components of the Company's deferred tax assets as of December 31, 2000 and
1999 are summarized in the following table:
DECEMBER 31,
----------------------
2000 1999
--------- ---------
(THOUSANDS OF DOLLARS)
Discount on liabilities for loss and loss adjustment
expenses.................................................. $121,730 $111,843
NOL carryover............................................... 195,582 80,536
Net unrealized loss on investments.......................... 27,363 37,202
Allowance for loan losses and other doubtful accounts....... 36,515 24,557
Accrued expenses............................................ 23,144 22,407
Unearned premiums........................................... 4,605 16,269
Employee benefit expenses................................... 11,531 9,818
Dividends to policyholders.................................. 10,964 6,290
Other, net.................................................. -- 2,312
-------- --------
Deferred income tax asset amounts......................... 431,434 311,234
Deferred policy acquisition costs........................... (3,267) (20,574)
Earned but unbilled premiums................................ (6,634) (17,406)
Residual interests in securitized loans..................... (11,914) (15,886)
Deferred loan origination costs............................. (10,462) (10,941)
Accrual of market discount.................................. (229) (2,782)
Other, net.................................................. (3,514) --
-------- --------
Deferred income tax liability amounts..................... (36,020) (67,589)
-------- --------
Net deferred income tax asset..................... $395,414 $243,645
======== ========
The Company's principal deferred tax assets arise due to the discounting of
liabilities for loss and loss adjustment expenses ("loss reserves") which delays
a portion of the loss reserve deduction for income tax purposes, the net
operating loss ("NOL") carryover, the net unrealized loss on investments, the
provision for doubtful loss accounts, the accrual of dividends to policyholders,
a portion of the unearned premiums, certain accrued expenses, and certain
employee benefit expenses. The majority of the Company's NOL carryover was
generated in tax years 2000 and 1999, resulting primarily from the losses
recognized in the Company's property and casualty insurance segment. (See Notes
B and E.) Additional NOL carryover amounts were generated through amendments of
prior years' tax returns as well as the previously described settlement with the
IRS in its review of certain tax losses carried back against prior years' tax
returns filed by the Company. At December 31, 2000, the Company's net tax loss
carryforwards totaled $558.6 million, which expire in years 2015 through 2020.
In assessing the realization of deferred income tax assets, the Company
considers whether it is more likely than not that the deferred income tax assets
will be realized. The ultimate realization of deferred income tax assets depends
upon the generation of future taxable income during the periods in which
temporary differences become deductible. In the Company's opinion, the deferred
tax assets will be fully realized and no valuation allowance is necessary
because the Company has the ability to generate
79
82
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
sufficient future taxable income to realize the tax benefits. If future income
is not generated as expected, a valuation allowance may need to be established.
NOTE H -- DEPOSITS
The Company's industrial bank's deposits are insured by the FDIC and are
summarized as follows by type and with their respective interest rate ranges as
of December 31:
2000 1999 1998
--------------------------- --------------------------- ---------------------------
BALANCES INTEREST RATES BALANCES INTEREST RATES BALANCES INTEREST RATES
---------- -------------- ---------- -------------- ---------- --------------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
Passbook and money market
deposits....................... $ 615,910 3.20% - 5.83% $ 671,834 2.57% - 5.13% $ 504,543 2.57% - 5.20%
Certificates of deposit:
Under $100,000................. 2,684,061 4.94% - 6.90% 2,290,373 4.75% - 8.68% 1,418,137 4.51% - 8.68%
$100,000 and over.............. 549,240 4.89% - 6.83% 461,036 4.75% - 7.25% 212,159 4.41% - 7.25%
---------- ---------- ----------
$3,849,211 $3,423,243 $2,134,839
========== ========== ==========
The certificates of deposit outstanding at December 31, 2000, mature as
follows (thousands of dollars):
2001................................................... $2,831,095
2002................................................... 71,440
2003................................................... 74,731
2004................................................... 119,020
2005................................................... 39,388
Thereafter................................................ 97,627
----------
$3,233,301
==========
The table below summarizes the Company's certificates of deposit as of
December 31, 2000, which are in amounts of $100,000 or more, by maturity and by
type:
CERTIFICATES OF DEPOSIT $100,000 OR MORE, MATURING
-----------------------------------------------------------------
3 MONTHS OVER 3 THROUGH OVER 6 THROUGH OVER
OR LESS 6 MONTHS 12 MONTHS 12 MONTHS TOTAL
-------- -------------- -------------- --------- --------
(THOUSANDS OF DOLLARS)
Retail............................................... $131,280 $106,616 $46,779 $ 17,137 $301,812
IRA's................................................ 3,058 6,308 6,570 2,294 18,230
Brokered............................................. -- 9,520 -- 219,678 229,198
-------- -------- ------- -------- --------
Total $134,338 $122,444 $53,349 $239,109 $549,240
======== ======== ======= ======== ========
NOTE I -- SHORT-TERM DEBT
Fremont's industrial bank is a member of the Federal Home Loan Bank system
("FHLB") and at December 31, 2000 and 1999, had a borrowing capacity of $449.2
million and $363.9 million, respectively, with no outstanding borrowings at
December 31, 2000, and $10.0 million at December 31, 1999, from the FHLB of San
Francisco. Fremont's industrial bank has pledged loans with a carrying value of
$812.0 million and $1,390.2 million at December 31, 2000 and 1999, respectively,
to secure any future borrowings. The industrial bank's borrowing capacity can be
used to borrow under various FHLB
80
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FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
loan programs, including adjustable and fixed-rate financing, for periods
ranging from one day to 30 years, with a variety of interest rate structures
available. The weighted average interest rate on the amount outstanding at
December 31, 1999 was 5.49%. The borrowing capacity has no commitment fees or
cost, requires minimum levels of investment in FHLB stock ($7.3 million and $7.4
million at December 31, 2000 and 1999, respectively), and can be withdrawn by
the FHLB if there is any significant change in the financial or operating
condition of the industrial bank and is conditional upon its compliance with
certain agreements covering advances, collateral maintenance, eligibility and
documentation requirements. The industrial bank was in compliance with all
requirements at December 31, 2000 and 1999.
In 1999, Fremont's industrial bank obtained a line of credit with the
Federal Reserve Bank of San Francisco, and at December 31, 2000 and 1999 had a
borrowing capacity of $168.8 million and $272.5 million, respectively, with no
outstanding borrowings or activity during 2000 and 1999. Fremont's industrial
bank has pledged loans with a carrying value of $225.1 million and $363.2
million at December 31, 2000 and 1999, respectively to the Federal Reserve. This
line of credit is provided when all other sources of funds are not reasonably
available, and such advances are made with the expectation that they will be
repaid when the availability of the usual source of funds is restored, usually
the next business day.
NOTE J -- LONG-TERM DEBT
Long-term debt is summarized in the following table:
DECEMBER 31,
-----------------------
2000 1999
---------- ----------
(THOUSANDS OF DOLLARS)
Fremont General Corporation:
Senior Notes due 2004, less discount (2000 -- $881;
1999 -- $1,129)........................................ $158,244 $198,871
Senior Notes due 2009, less discount (2000 -- $3,079;
1999 -- $3,162)........................................ 214,621 221,838
Liquid Yield Option Notes due 2013, less discount
(2000 -- $3,611; 1999 -- $4,949)....................... 3,978 4,924
ESOP Note Payable due 2002................................ -- 3,552
-------- --------
$376,843 $429,185
======== ========
On March 17, 1999, the Company issued $425,000,000 of Senior Notes ("the
Senior Notes") in a private placement. The Senior Notes were subsequently
exchanged for notes registered with the Securities and Exchange Commission under
a Form S-4 Registration Statement effective on May 11, 1999. These notes consist
of $200,000,000 and $225,000,000 Series B 7.70% Senior Notes due 2004 and Series
B 7.875% Senior Notes due 2009, respectively. Total proceeds to the Company were
approximately $420,237,000. The Senior Notes may be redeemed at any time in
whole or in part before maturity, but are not subject to sinking fund payments.
These notes are unsecured senior indebtedness of the Company ranking equally
with the Company's existing and future unsubordinated indebtedness. Interest is
payable on the notes semi-annually in March and September. During 2000, the
Company purchased $40,875,000 and $7,300,000 par value of the 7.7% Senior Notes
due 2004 and 7.875% Senior Notes due 2009, respectively, with carrying values of
$40,626,000 and $7,194,000 resulting in extraordinary gains net of taxes of
$11,014,000 and $1,010,000, respectively.
81
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FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In August 2000, the Company cancelled a credit facility with several banks
that permitted borrowings of up to $225,000,000.
In 1993, the Company sold in a public offering an aggregate $373,750,000
principal amount at maturity of Liquid Yield Option Notes due October 12, 2013
(Zero Coupon-Subordinated) (the "LYONs") at an issue price of $372.42 for a
total net proceeds to the Company of approximately $135,000,000. The yield to
maturity is 5% with no periodic payments of interest. Each LYON is convertible
into 38.5735 shares of the Company's common stock and was non-callable for five
years. Holders converted aggregate principal amounts of $20,000, $3,654,000 and
$20,974,000 of LYONs into 1,000, 141,000 and 809,000 shares of the Company's
common stock during 2000, 1999 and 1998, respectively. In addition, during 2000,
$2,264,000 of outstanding LYONs with a carrying value of $1,166,000 were
repurchased resulting in an after tax gain of $394,000.
In January 2000, the Company paid off the Fremont General Employee Stock
Ownership Plan ("ESOP") bank loan with a maximum principal amount of $15 million
that was to mature April 1, 2002. The ESOP Note Payable due 2002 was secured by
certain shares of the ESOP and the interest and principal payments were
guaranteed by the Company. Interest was based on, at the Company's option, the
bank's prime lending rate, LIBOR plus 1%, or an applicable certificate of
deposit rate.
The carrying amounts and the estimated fair values of long-term borrowings
at December 31, 2000 are summarized in the following table:
CARRYING ESTIMATED
AMOUNT FAIR VALUE
-------- ----------
(THOUSANDS OF DOLLARS)
Senior Notes due 2004............................. $158,244 $ 78,568
Senior Notes due 2009............................. 214,621 100,958
LYONs............................................. 3,978 1,594
-------- --------
Total long-term borrowings................... $376,843 $181,120
======== ========
Total interest payments were $252,977,000, $231,500,000, and $151,411,000
in 2000, 1999 and 1998, respectively. These payments represent interest expense
on deposits of the industrial bank, short-term debt, long-term debt (excluding
LYONs) and the Preferred Securities discussed in Note K.
NOTE K -- COMPANY OBLIGATED MANDATORILY REDEEMABLE PREFERRED SECURITIES OF
SUBSIDIARY TRUST HOLDING SOLELY COMPANY JUNIOR SUBORDINATED DEBENTURES
In 1996, Fremont General Financing I, a statutory business trust (the
"Trust") and consolidated wholly-owned subsidiary of the Company, sold $100
million of 9% Trust Originated Preferred Securities(SM) ("the Preferred
Securities") in a public offering. The Preferred Securities represent preferred
undivided beneficial interests in the assets of the Trust. Holders of the
Preferred Securities are entitled to receive cumulative cash distributions at an
annual rate of 9% of the liquidation amount of $25 per Preferred Security,
payable quarterly. The proceeds from the sale of the Preferred Securities were
invested in 9% Junior Subordinated Debentures of the Company ("the Junior
Subordinated Debentures"). The Junior Subordinated Debentures are the sole asset
of the Trust.
The Preferred Securities will be redeemed upon maturity of the Junior
Subordinated Debentures in 2026, subject to the election available to the
Company to extend the maturity up to 2045, and they may
82
85
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
be redeemed, in whole or in part, at any time on or after March 31, 2001 and
under certain specified circumstances. The Company has the right to defer
payments of interest on the Junior Subordinated Debentures, at any time, for up
to 20 consecutive quarters. If interest payments on the Junior Subordinated
Debentures are so deferred, distribution on the Preferred Securities will also
be deferred.
The Junior Subordinated Debentures rank pari passu with the Company's
$7,589,000 remaining aggregate principal amount at maturity of LYONs due 2013,
and are subordinate and junior to all senior indebtedness of the Company. (See
Note J.) Payment of distributions out of cash held by the Trust, and payments on
liquidation of the Trust or the redemption of the Preferred Securities are
guaranteed by the Company to the extent that the Trust has funds available to
make such payments. Trust distributions of $9,000,000 in 2000, 1999 and 1998
were included in interest expense.
NOTE L -- STOCKHOLDERS' EQUITY AND RESTRICTIONS
The Company is authorized to issue up to 2,000,000 shares of $.01 par value
preferred stock; however, none has been issued to date.
On December 8, 2000, the Company issued 758,000 common shares with a fair
value of $3,693,000 to fund stock-based compensation programs.
The Company has stock award plans for the benefit of certain key members of
management that authorizes up to 4,686,000 shares of either stock rights or
stock options to be allocable to participants. The Company awarded an aggregate
of 917,500, 2,195,000 and 1,383,000 shares of restricted stock at a weighted
average fair value of $5.18, $5.38 and $23.17 in 2000, 1999 and 1998,
respectively. Restricted stock awards are generally amortized over 10 years.
Amortization expense amounted to $11,975,000, $10,564,000 and $9,592,000 for
2000, 1999 and 1998, respectively. Unamortized amounts are reported as deferred
compensation in the consolidated balance sheet.
Options are granted at exercise prices equal to the fair value of the stock
on the date of grant. Grantees vest at the rate of 25% per year beginning on the
first anniversary of the grant and expire after ten years. The Company accounts
for stock option grants in accordance with Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees." Because the exercise price
of the options equaled the fair value of the stock on the date of the grant, no
compensation expense was recognized. Pursuant to SFAS Statement No. 123 ("SFAS
123") "Accounting for Stock-Based Compensation," the pro forma basic and diluted
net loss per share, calculated as if the recognition and measurements provisions
of SFAS 123 had been adopted, would have been $(8.05) and $(1.05) for the years
ended December 31, 2000 and 1999, respectively. For the year ended December 31,
1998, the pro forma basic and diluted earnings per share would have been $2.07
and $1.88, respectively. The pro forma effects are not likely to be
representative of the effects on reported net income for future years because
SFAS 123 has not been applied to options granted prior to January 1, 1995.
The Black-Scholes option pricing method was used to value the options as of
the grant date with the following assumptions: risk-free interest rate of 5.68%;
expected life of 7 years; expected volatility of 23% and expected dividend yield
of 1.13%.
83
86
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The stock option activity is summarized in the following table:
NUMBER WEIGHTED AVERAGE
OF SHARES EXERCISE PRICE
--------- ----------------
Outstanding at January 1, 1998............... 2,202,748 $13.12
Granted.................................... (133,318) 10.90
Exercised.................................. (228,572) 14.08
--------- ------
Outstanding at December 31, 1998............. 1,840,858 13.16
Granted.................................... --
Exercised.................................. (61,880) 6.58
--------- ------
Outstanding at December 31, 1999............. 1,778,978 13.38
Granted.................................... -- --
Exercised.................................. -- --
--------- ------
Outstanding at January 1, 2000............... 1,778,978 $13.38
========= ======
The exercise prices of the option shares outstanding at December 31, 2000
range from $7.16 to $14.94. The weighted average remaining contractual life is
approximately four and three-fourths years for the 355,978 option shares that
range from $7.16 to $7.84 per share and six years for the 1,423,000 option
shares that range from $14.00 to $14.94 per share.
The number of shares exercisable at the end of the year and related
weighted average exercise prices are summarized in the following table:
DECEMBER 31,
---------------------------------
2000 1999 1998
--------- --------- -------
Shares exercisable............................ 1,421,978 1,064,978 757,482
Related weighted average exercise price....... $ 13.01 $ 12.38 $ 10.80
The portion of the consolidated stockholders' equity represented by Fremont
General's investment in its subsidiaries is subject to various laws and
regulations, whereby amounts available for payment of dividends may be
restricted. Currently there is no retained earnings and additional paid-in
capital of the property and casualty insurance companies available for dividend
distribution. In December of 2000, the Company's industrial bank transferred, by
way of dividend, all of its rights and obligations in one of its securitization
transactions to Fremont General Credit Corporation ("FGCC"). FGCC is a wholly-
owned subsidiary of Fremont. The dividend was comprised of the carrying value of
the Company's residual interest in the securitized loans plus servicing advance
reimbursements receivable related to the securitization transaction. In January
of 2001, the Company's industrial bank transferred, via dividend, all of its
rights and obligations in its two remaining securitization transactions to FGCC.
Unrealized gains or losses on the Company's investment securities
available-for-sale are included in other comprehensive income. Reclassification
adjustments avoid double counting in comprehensive income items that are
included in comprehensive income and net income in different periods. The
reclassification adjustments for the years ended December 31, 2000, 1999 and
1998 represent net unrealized gains or losses included in accumulated other
comprehensive income at the prior year end.
84
87
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The components of total comprehensive income (loss) are summarized in the
following table:
YEAR ENDED DECEMBER 31,
----------------------------------
2000 1999 1998
--------- --------- --------
(THOUSANDS OF DOLLARS)
Net income (loss)................................... $(506,312) $ (65,377) $132,964
Other comprehensive income (loss):
Net unrealized gains (losses) on investments, net
of tax:
Net change in unrealized gains (losses) during
the period, net of deferred income tax
expense (benefit) (2000 -- $7,894,
1999 -- $(51,656) and 1998 -- $(4,738))...... 14,661 (95,931) (8,797)
Less: reclassification adjustments, net of tax
(2000 -- $(1,945) 1999 -- $6,494 and
1998 -- $2,805).............................. 3,611 (12,061) (5,210)
--------- --------- --------
Other comprehensive income (loss)............ 18,272 (107,992) (14,007)
--------- --------- --------
Total comprehensive income (loss)......... $(488,040) $(173,369) $118,957
========= ========= ========
NOTE M -- EMPLOYEE BENEFIT PLANS
The Company sponsors a 401(k) Plan and an Employee Stock Ownership Plan
("ESOP") that cover substantially all employees with at least one year of
service. Contribution expense for these plans amounted to $11,522,000,
$11,649,000, and $10,536,000 for 2000, 1999 and 1998, respectively, of which
$5,303,000, $5,005,000 and $4,295,000 related to the ESOP. Cash contributions to
the ESOP, which relate to 2000, 1999 and 1998, were $4,227,000, $3,751,000 and
$3,002,000, respectively. The contributions, which are generally discretionary,
are based on total compensation of the participants.
Until January 2000 when the Company paid off the bank loan to the ESOP, the
ESOP had been leveraged. Shares that had been pledged as collateral had been
reported as deferred compensation in the consolidated balance sheet. The annual
contributions made by the Company to the ESOP were used to repay the loan. As
the debt was repaid, shares were released from collateral and were allocated to
participants based on total compensation. Dividends received by the ESOP on its
pledged shares amounting to $36,000, $174,000 and $253,000 in 2000, 1999 and
1998, respectively, were also used to service these loans. Interest expense was
$14,000, $187,000 and $359,000 for 2000, 1999 and 1998, respectively.
At December 31, 2000 all 4,224,000 shares of Company stock owned by the
ESOP were allocated to participants. Unearned shares acquired prior to January
1, 1993 were accounted for in accordance with the historical cost approach.
Unearned shares acquired after December 31, 1992 were accounted for in
accordance with the current fair value approach and were not considered
outstanding for earnings per share purposes.
NOTE N -- COMMITMENTS AND CONTINGENCIES
The Company is a defendant in a number of legal actions arising primarily
from claims made under insurance policies or in connection with previous
reinsurance agreements. Those actions have been considered in establishing the
Company's liabilities. Management and its legal counsel are of the opinion
85
88
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
that the settlement of those actions will not have a material effect on the
Company's financial position or results of operations.
Total rental expense for 2000, 1999 and 1998, was $18,523,000, $18,024,000,
and $16,110,000, respectively. The Company leases office facilities and certain
equipment under non-cancelable operating leases, the terms of which range from
one to ten years. Certain leases provide for an increase in the basic rent to
compensate the lessor for increases in operating and maintenance costs. The
leases also provide renewal options.
Under present leases, rental commitments are summarized in the following
table (thousands of dollars):
2001................................................. $ 30,809
2002................................................. 27,921
2003................................................. 26,635
2004................................................. 22,027
2005................................................. 15,366
Thereafter........................................... 38,105
--------
$160,863
========
The Company included provisions for the impact of the costs expected to be
incurred in eliminating or reducing the contractual obligations related to the
closing of offices in connection with the restructuring of its workers'
compensation insurance operations. (See Note B.) The Company expects that in the
process of eliminating or reducing these lease obligations, that it will
significantly reduce the amounts reflected as future rental commitments in the
table above.
The Company's industrial bank engages in whole loan sales, substantially
all of which were residential real estate loans, and which were made without
recourse, except for standard representations and warranties. Management
believes that any liability related to the breach of these standard
representations and warranties would not be significant.
At December 31, 2000 and 1999, the Company's industrial bank had total loan
commitments of $953 million and $653 million, respectively, substantially all of
which were related to commercial real estate loans pending funding or advances
under existing loan agreements.
NOTE O -- DISPOSITION AND ACQUISITIONS
On December 20, 1999, the Company sold its commercial finance subsidiary,
Fremont Financial Corporation ("FFC"), to FINOVA Capital Corporation, a
subsidiary of The FINOVA Group, Inc. The selling price was approximately $708
million in cash and assumption of existing debt. The sale resulted in a $10.3
million gain before taxes that is included in other revenue in the Company's
consolidated statement of operations for the year ended December 31, 1999. At
the date of sale, FFC had $701 million of assets, year-to-date revenues of $82.1
million and $9.0 million of income before taxes. The operating results of FFC
were consolidated until the date of sale.
On September 1, 1998, the Company acquired UNICARE Specialty Services,
Inc., ("Unicare") the workers' compensation insurance subsidiary of WellPoint
Health Networks Inc., for $110 million in
86
89
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
cash. At acquisition date, Unicare's assets approximated $424 million, including
$348 million in investment securities. Liabilities assumed approximated $333
million, including $293 million of loss reserves. The purchase price included
$19 million of costs in excess of net assets acquired that is being amortized
over 25 years. None of the goodwill or other intangibles written-off in 2000
were related to the Unicare acquisition. Unicare's operating results are
included in the Company's consolidated statement of operations from the date of
acquisition.
NOTE P -- DISCONTINUED OPERATIONS
The Company discontinued all of its assumed reinsurance operations, as well
as certain other insurance operations, during the period 1986 to 1991. In 1999,
the Company incurred a net loss of $25 million (net of $13.5 million of income
tax benefits) in recognition of an increase in asbestos and environmental claims
reserves over previous estimates. This charge is represented by the Company's
contribution of $25 million to the discontinued operations to ensure that
sufficient funds are available to discharge estimated liabilities as they become
due. The Company estimates that with the additional contribution of $25 million,
the dedicated assets (primarily cash, investment securities and reinsurance
recoverables) supporting these operations and all future cash inflows will be
adequate to fund future obligations. These operations consisted primarily of
facultative and treaty reinsurance covering primary and excess property and
casualty insurance coverages. All discontinued insurance operations are
accounted for using the liquidation basis of accounting whereby all future cash
inflows and outflows are considered in determining whether dedicated assets are
sufficient to meet all future obligations.
The Company determines the adequacy of the assets dedicated to fund the
liabilities of discontinued operations by: (i) estimating the ultimate remaining
liabilities; (ii) discounting these liabilities using estimates of payment
patterns and investment yields derived from the dedicated investment portfolio;
and (iii) comparing this discounted estimate of liabilities to the dedicated
assets.
A statement of financial condition of the discontinued operations is
summarized in the following table:
DECEMBER 31,
----------------------
2000 1999
--------- ---------
(THOUSANDS OF DOLLARS)
Assets
Cash and invested assets, at amortized cost............. $146,491 $177,911
Reinsurance recoverables................................ 31,967 49,667
Other assets............................................ 25,333 21,945
-------- --------
Total........................................... $203,791 $249,523
======== ========
Liabilities
Reserves for loss and loss adjustment expenses.......... $133,235 $175,500
Deferred income taxes................................... 31,276 32,846
Reinsurance payable and funds withheld.................. 6,227 7,483
Other liabilities....................................... 8,054 180
-------- --------
Total........................................... $178,792 $216,009
======== ========
87
90
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The amortized cost and fair value of cash and invested assets of the
discontinued operations as of December 31, 2000 are summarized in the following
table:
AMORTIZED COST FAIR VALUE
-------------- ----------
(THOUSANDS OF DOLLARS)
Fixed maturities............................... $ 87,030 $ 80,373
Non-redeemable preferred stock................. 46,195 44,081
Cash and other invested assets................. 13,266 13,266
-------- --------
Cash and invested assets.................. $146,491 $137,720
======== ========
The average maturity of the fixed income portfolio was 7.89 years at
December 31, 2000. The quality mix of the fixed maturity portfolio as of
December 31, 2000 is summarized in the following table:
AAA....................................................... 16%
AA........................................................ 15
A......................................................... 22
BBB....................................................... 28
BB........................................................ 9
B......................................................... 10
---
100%
===
At December 31, 2000, all investments included in discontinued operations
were current with respect to principal and interest. It is the Company's belief
that the carrying value of the investments will be fully realized.
NOTE Q -- OPERATIONS BY REPORTABLE SEGMENT
The Company's businesses are managed within two reportable segments:
financial services and property and casualty insurance. Additionally, there are
certain corporate revenues and expenses, comprised primarily of investment
income, interest expense and certain general and administrative expenses, that
the Company does not allocate to its segments.
The following data for the years ended December 31, 2000, 1999 and 1998
provide certain information necessary for reportable segment disclosure, as well
as a reconciliation to total consolidated financial information. For both the
financial services and property and casualty insurance segments,
88
91
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
interest revenue is reported net of interest expense. This net interest revenue
is used to assess segment performance.
YEAR ENDED DECEMBER 31,
------------------------------------
2000 1999 1998
---------- ---------- ----------
(THOUSANDS OF DOLLARS)
REVENUES
Financial services............................ $ 420,987 $ 411,575 $ 297,469
Property and casualty insurance............... 1,151,596 984,573 729,728
Unallocated corporate......................... 4,589 1,462 1,983
---------- ---------- ----------
Total............................... 1,577,172 1,397,610 1,029,180
Intersegment:
Property and casualty insurance............. -- 1,108 1,227
Unallocated corporate....................... 14,914 42,774 36,073
---------- ---------- ----------
14,914 43,882 37,300
---------- ---------- ----------
Total revenue....................... 1,592,086 1,441,492 1,066,480
Reconciling items: intersegment revenues...... (14,914) (43,882) (37,300)
---------- ---------- ----------
Total consolidated.................. $1,577,172 $1,397,610 $1,029,180
========== ========== ==========
INCOME (LOSS) BEFORE INCOME TAXES
Financial services............................ $ 102,173 $ 79,874 $ 55,506
Property and casualty insurance............... (748,535) (116,178) 169,235
Unallocated corporate......................... (46,218) (25,824) (23,751)
---------- ---------- ----------
Total............................... (692,580) (62,128) 200,990
Reconciling items -- intercompany dividends... (278) (4,156) (4,278)
---------- ---------- ----------
Total consolidated.................. $ (692,858) $ (66,284) $ 196,712
========== ========== ==========
INTEREST REVENUE, NET OF INTEREST EXPENSE
Financial services............................ $ 180,317 $ 170,877 $ 118,878
Property and casualty insurance............... 131,190 130,052 151,357
Unallocated corporate......................... (32,994) (6,480) 1,545
---------- ---------- ----------
Total............................... 278,513 294,449 271,780
Reconciling items:
Intersegment elimination.................... 3,279 4,844 3,721
---------- ---------- ----------
Total consolidated.................. $ 281,792 $ 299,293 $ 275,501
========== ========== ==========
AMORTIZATION AND DEPRECIATION EXPENSE
Financial services............................ $ 6,416 $ 9,455 $ 6,993
Property and casualty insurance............... 29,092 26,593 25,540
Unallocated corporate 10,389 8,159 7,785
---------- ---------- ----------
Total consolidated.................. $ 45,897 $ 44,207 $ 40,318
========== ========== ==========
89
92
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2000 1999 1998
---------- ---------- ----------
(THOUSANDS OF DOLLARS)
SEGMENT ASSETS
Financial services........................ $4,298,454 $3,805,135 $3,258,522
Property and casualty insurance........... 3,596,708 3,823,649 3,891,227
Unallocated corporate..................... 65,105 175,213 40,627
---------- ---------- ----------
Total consolidated........................ 7,960,267 7,803,997 7,190,376
Reconciling items:
Assets held for discontinued
operations........................... 203,791 249,523 243,578
---------- ---------- ----------
$8,164,058 $8,053,520 $7,433,954
========== ========== ==========
NOTE R -- EARNINGS PER SHARE
Earnings per share have been computed based on the weighted average number
of shares. The following table sets forth the computation of basic and diluted
earnings per share:
2000 1999 1998
----------- ---------- ----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Income (loss) from continuing operations
(numerator for basic earnings per share)... $(518,730) $(40,377) $132,964
Effect of dilutive securities:
LYONs...................................... -- -- 327
--------- -------- --------
Income (loss) from continuing operations
available to common stockholders after
assumed conversions (numerator for diluted
earnings per share)........................ $(518,730) $(40,377) $133,291
========= ======== ========
Weighted-average shares (denominator for
basic earnings per share).................. 63,052 63,650 63,529
Effect of dilutive securities:
Restricted stock........................... -- -- 4,729
Stock options.............................. -- -- 917
LYONs...................................... -- -- 907
--------- -------- --------
Dilutive potential common shares............. -- -- 6,553
Adjusted weighted-average shares and assumed
conversions (denominator for diluted
earnings per share)........................ 63,052 63,650 70,082
========= ======== ========
Basic earnings per share from continuing
operations................................. $ (8.23) $ (0.64) $ 2.09
========= ======== ========
Diluted earnings per share from continuing
operations................................. $ (8.23) $ (0.64) $ 1.90
========= ======== ========
For additional disclosures regarding the LYONs, the stock options and
restricted stock see Notes J and L, respectively.
90
93
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For the years ended December 31, 2000 and 1999, dilutive securities of
6,048,000 and 5,103,000 respectively, were not included in dilutive weighted
average shares outstanding because the effects would have been antidilutive.
NOTE S -- QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
THREE MONTH PERIODS ENDED
-------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
--------- --------- ------------- ------------
(THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA)
2000
Revenues.............................. $392,637 $ 428,334 $390,392 $ 365,809
Income (loss) from continuing
operations.......................... 9,484 (270,318) 6,272 (264,168)
Net income (loss)..................... 9,484 (268,073) 10,936 (258,659)
Income (loss) from continuing
operations per share:
Basic............................... 0.15 (4.29) 0.10 (4.14)
Diluted............................. 0.14 (4.29) 0.09 (4.14)
Net income (loss) per share:
Basic............................... 0.15 (4.26) 0.17 (4.06)
Diluted............................. 0.14 (4.26) 0.16 (4.06)
1999
Revenues.............................. $298,779 $ 336,111 $349,726 $ 412,994
Income (loss) from continuing
operations.......................... 34,311 34,975 (60,913) (48,750)
Net income (loss)..................... 34,311 34,975 (85,913) (48,750)
Income (loss) from continuing
operations per share:
Basic............................... 0.51 0.52 (0.92) (0.80)
Diluted............................. 0.49 0.50 (0.92) (0.80)
Net Income (loss) per share:
Basic............................... 0.51 0.52 (1.30) (0.80)
Diluted............................. 0.49 0.50 (1.30) (0.80)
The loss from continuing operations in the quarter ended June 30, 2000 was
predominately the result of increases in the Company's gross liability for loss
and LAE totaling $450 million under workers' compensation insurance policies
effective in or prior to 1999. (See Note E.)
The quarter ended December 31, 2000 includes $267.8 million of charges
related to the Company's restructuring of its workers' compensation insurance
operation in addition to $44.1 million of other non-recurring charges. (See Note
B.)
The loss from continuing operations in the quarter ended September 30, 1999
was due primarily to a deterioration in the Company's reserves for workers'
compensation net incurred loss and LAE. Additionally, the net loss in the
quarter ended September 30, 1999 is higher than the loss from continuing
operations due to the Company's recognition of a net loss from discontinued
operations of
91
94
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
$25 million. The net loss from discontinued operations resulted primarily from a
deterioration in the Company's estimated reserves for asbestos and environmental
claims. (See Notes E and P.)
The quarter ended December 31, 1999 includes a charge of $75 million before
taxes associated with a settlement agreement reached February 28, 2000 with
Reliance Insurance Company under a workers' compensation reinsurance contract
that was in effect from January 1, 1998 through December 31, 1999. There was
also an additional recognition of a deterioration in the reserves for net
incurred loss and LAE related to the Company's workers' compensation insurance
operation. (See Notes E and F.)
92
95
FREMONT GENERAL CORPORATION (PARENT COMPANY)
SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
BALANCE SHEETS
ASSETS
DECEMBER 31,
------------------------
2000 1999
---------- ----------
(THOUSANDS OF DOLLARS)
Cash........................................................ $ 784 $ 1,118
Notes receivable from subsidiaries*......................... -- 424,880
Investment in subsidiaries*................................. 700,667 720,476
Short-term investments...................................... 67,233 107,023
Other receivables from subsidiaries*........................ 1,805 6,895
Deferred income taxes....................................... 395,414 243,645
Other assets................................................ 32,549 44,921
---------- ----------
Total Assets...................................... $1,198,452 $1,548,958
========== ==========
LIABILITIES
Accrued expenses and other liabilities...................... $ 44,504 $ 55,752
Amounts due to subsidiaries*................................ 429,113 229,827
Notes payable to subsidiary*................................ 103,093 103,093
Long-term debt.............................................. 376,843 429,185
---------- ----------
Total Liabilities................................. 953,553 817,857
Commitments and contingencies
Stockholders' Equity
Preferred Stock, par value $.01 -- authorized 2,000,000
shares; none issued.......................................
Common Stock, par value $1 per share -- Authorized:
150,000,000
Issued and outstanding: (2000 -- 70,732,000 and
1999 -- 70,039,000).................................... 70,732 70,039
Additional paid-in capital.................................. 280,764 285,922
Retained earnings........................................... 10,677 533,523
Deferred compensation....................................... (66,456) (89,293)
Accumulated other comprehensive loss........................ (50,818) (69,090)
---------- ----------
Total Stockholders' Equity........................ 244,899 731,101
---------- ----------
Total Liabilities and Stockholders' Equity........ $1,198,452 $1,548,958
========== ==========
- ---------------
* Eliminated in consolidation
See notes to condensed financial statements.
93
96
FREMONT GENERAL CORPORATION (PARENT COMPANY)
SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
-------------------------------
2000 1999 1998
--------- -------- --------
(THOUSANDS OF DOLLARS)
Revenues
Interest income from subsidiaries*....................... $ 5,357 $ 29,340 $ 22,517
Dividends from consolidated subsidiaries*................ 278 4,156 4,278
Net investment income.................................... 4,575 1,450 1,836
Realized investment gains................................ -- -- 8
Other income*............................................ 12,018 9,012 8,139
--------- -------- --------
Total Revenues................................. 22,228 43,958 36,778
Expenses
Interest expense......................................... 34,445 32,427 18,086
Interest on notes payable to subsidiary*................. 9,278 9,278 9,278
General and administrative............................... 25,001 29,473 33,770
--------- -------- --------
Total Expenses................................. 68,724 71,178 61,134
--------- -------- --------
(46,496) (27,220) (24,356)
Income tax benefit....................................... (15,687) (11,282) (13,694)
--------- -------- --------
Loss before equity in undistributed income (loss) of
subsidiary companies, extraordinary gains on
extinguishment of debt and discontinued operations..... (30,809) (15,938) (10,662)
Equity in undistributed income (loss) of subsidiary
companies.............................................. (487,921) (24,439) 143,626
--------- -------- --------
Net income (loss) from continuing operations............. (518,730) (40,377) 132,964
Extraordinary gains on extinguishment of debt............ 12,418 -- --
Discontinued operations.................................. -- (25,000) --
--------- -------- --------
Net Income (Loss).............................. $(506,312) $(65,377) $132,964
========= ======== ========
- ---------------
* Eliminated in consolidation
See notes to condensed financial statements.
94
97
FREMONT GENERAL CORPORATION (PARENT COMPANY)
SCHEDULE II-CONDENSED FINANCIAL INFORMATION OF REGISTRANT
STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
---------------------------------
2000 1999 1998
--------- --------- ---------
(THOUSANDS OF DOLLARS)
OPERATING ACTIVITIES
Net income (loss) from continuing operations........... $(518,730) $ (40,377) $ 132,964
Adjustments to reconcile net income (loss) from
continuing operations to net cash provided by
operating activities:
Equity in undistributed (income) loss from
continuing operations of subsidiaries........... 487,921 24,439 (143,626)
Change in accrued investment income............... (17) (4) 2
Change in amounts due to or from subsidiaries..... 214,215 37,322 (18,051)
Deferred income tax (benefit) expense............. (161,606) (29,028) 33,583
Provision for depreciation and amortization....... 10,389 8,159 7,562
Realized investment gains......................... -- -- (8)
Change in other assets and liabilities............ (8,022) 2,148 1,005
--------- --------- ---------
Net Cash Provided by Continuing Operations... 24,150 2,659 13,431
Effect of discontinued operations.................... (25,000) (9,745) 3,252
--------- --------- ---------
Net Cash Provided by (Used in) Operating
Activities................................. (850) (7,086) 16,683
INVESTING ACTIVITIES
Purchases of fixed maturity investments.............. -- -- (44,653)
Sales of fixed maturity investments.................. -- -- --
Fixed maturity investments matured or called......... -- -- 44,884
Decrease (increase) in short-term and other
investments....................................... 39,790 (88,129) (3,476)
Net decrease (increase) in credit lines with
subsidiaries...................................... 1,435 (79,348) (43,924)
Purchase of and additional investments in
subsidiaries...................................... (6,820) -- (32)
Distribution from subsidiary......................... -- 124,341 --
Purchase of property and equipment................... (29) (759) (1,917)
--------- --------- ---------
Net Cash Provided by (Used in) Investing
Activities................................. 34,376 (43,895) (49,118)
FINANCING ACTIVITIES
Repayment of short-term debt......................... -- (717) (800)
Proceeds from long-term debt......................... -- 497,237 100,000
Repayment of long-term debt.......................... (24,844) (379,285) (41,228)
Dividends paid....................................... (19,337) (21,704) (20,476)
Stock options exercised.............................. -- 407 1,453
Decrease (increase) in deferred compensation plans... 10,321 (43,986) (7,256)
--------- --------- ---------
Net Cash Provided by (Used in) Financing
Activities................................. (33,860) 51,952 31,693
--------- --------- ---------
Increase (Decrease) in Cash.................. (334) 971 (742)
Cash at beginning of year............................ 1,118 147 889
--------- --------- ---------
Cash at end of year.......................... $ 784 $ 1,118 $ 147
========= ========= =========
See notes to condensed financial statements.
95
98
FREMONT GENERAL CORPORATION (PARENT COMPANY)
SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
NOTES TO CONDENSED FINANCIAL STATEMENTS
NOTE 1 -- BASIS OF PRESENTATION
In the parent company financial statements, the parent's investment in
subsidiaries is stated at cost plus equity in undistributed earnings of
subsidiaries since date of acquisition. Parent company financial statements
should be read in conjunction with the Company's consolidated financial
statements.
NOTE 2 -- SALE OF SUBSIDIARY
In connection with the December 1999 sale of FFC by a subsidiary, the
parent company received a distribution of $124 million from that subsidiary. See
Note O of Notes to Consolidated Financial Statements.
96
99
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
SCHEDULE III -- SUPPLEMENTARY INSURANCE INFORMATION
DECEMBER 31, YEAR ENDED DECEMBER 31,
-------------------------------------------------- -----------------------
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G
- ---------------------------------------- ----------- ------------ -------- ---------- ---------- ----------
RESERVES
DEFERRED FOR CLAIMS,
POLICY BENEFITS AND DIVIDENDS NET
ACQUISITION SETTLEMENT UNEARNED TO POLICY- PREMIUM INVESTMENT
SEGMENT COSTS EXPENSES PREMIUMS HOLDERS REVENUE INCOME
- ---------------------------------------- ----------- ------------ -------- ---------- ---------- ----------
(THOUSANDS OF DOLLARS)
2000
Life insurance........................ $ 150 $ 91,024 $ -- $ -- $ 853 $ 2,293
Property and casualty insurance....... 9,341 2,808,433 214,045 33,497 1,016,086 135,178
------- ---------- -------- ------- ---------- --------
$ 9,491 $2,899,457 $214,045 $33,497 $1,016,939 $137,471
======= ========== ======== ======= ========== ========
1999
Life insurance........................ $ 250 $ 118,390 $ -- $ -- $ 912 $ 517
Property and casualty insurance....... 58,948 2,434,757 218,868 20,144 831,005 157,700
------- ---------- -------- ------- ---------- --------
$59,198 $2,553,147 $218,868 $20,144 $ 831,917 $158,217
======= ========== ======== ======= ========== ========
1998
Life insurance........................ $ 350 $ 136,973 $ -- $ -- $ 453 $ 713
Property and casualty insurance....... 44,646 2,298,118 184,116 16,162 552,078 178,263
------- ---------- -------- ------- ---------- --------
$44,996 $2,435,091 $184,116 $16,162 $ 552,531 $178,976
======= ========== ======== ======= ========== ========
YEAR ENDED DECEMBER 31,
--------------------------------------------------
COLUMN A COLUMN H COLUMN I COLUMN J COLUMN K
- ---------------------------------------- ------------ ------------ --------- --------
AMORTIZATION
CLAIMS, OF DEFERRED
BENEFITS AND POLICY OTHER NET
SETTLEMENT ACQUISITION OPERATING PREMIUMS
SEGMENT EXPENSES COSTS EXPENSES WRITTEN
- ---------------------------------------- ------------ ------------ --------- --------
(THOUSANDS OF DOLLARS)
2000
Life insurance........................ $ -- $ -- $ 7,056 $ N/A
Property and casualty insurance....... 1,262,000 208,239 51,166 966,079
---------- -------- ------- --------
$1,262,000 $208,239 $58,222 $966,079
========== ======== ======= ========
1999
Life insurance........................ $ -- $ -- $ 6,116 $ N/A
Property and casualty insurance....... 770,523 191,923 52,531 897,633
---------- -------- ------- --------
$ 770,523 $191,923 $58,647 $897,633
========== ======== ======= ========
1998
Life insurance........................ $ -- $ -- $ 1,314 $ N/A
Property and casualty insurance....... 335,450 123,393 58,146 571,676
---------- -------- ------- --------
$ 335,450 $123,393 $59,460 $571,676
========== ======== ======= ========
97
100
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
SCHEDULE IV -- REINSURANCE
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
- ------------------------------------ ---------- --------- --------- ---------- ----------
ASSUMED PERCENTAGE
CEDED TO FROM OF AMOUNT
GROSS OTHER OTHER NET ASSUMED
AMOUNT COMPANIES COMPANIES AMOUNT TO NET
---------- --------- --------- ---------- ----------
(THOUSANDS OF DOLLARS, EXCEPT PERCENTS)
YEAR ENDED DECEMBER 31, 2000
Life insurance inforce*............. $ 85,870 $ 55,305 $ -- $ 30,565 0%
========== ======== ======= ==========
Premium Revenue
Life insurance premiums........... $ 2,605 $ 1,752 $ -- $ 853 0%
Property and casualty insurance... 1,128,755 129,041 16,372 1,016,086 2%
---------- -------- ------- ----------
$1,131,360 $130,793 $16,372 $1,016,939
========== ======== ======= ==========
YEAR ENDED DECEMBER 31, 1999
Life insurance inforce*............. $ 96,748 $ 64,902 $ -- $ 31,846 0%
========== ======== ======= ==========
Premium Revenue
Life insurance premiums........... $ 1,992 $ 1,080 $ -- $ 912 0%
Property and casualty insurance... 1,084,454 263,090 9,641 831,005 1%
---------- -------- ------- ----------
$1,086,446 $264,170 $ 9,641 $ 831,917
========== ======== ======= ==========
YEAR ENDED DECEMBER 31, 1998
Life insurance inforce*............. $ 107,094 $ 69,054 $ -- $ 38,040 0%
========== ======== ======= ==========
Premium Revenue
Life insurance premiums........... $ 986 $ 533 $ -- $ 453 0%
Property and casualty insurance... 717,021 177,983 13,040 552,078 2%
---------- -------- ------- ----------
$ 718,007 $178,516 $13,040 $ 552,531
========== ======== ======= ==========
- ---------------
* Balance at end of year.
Intercompany transactions have been eliminated.
98
101
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
SCHEDULE V -- VALUATION AND QUALIFYING ACCOUNTS
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- -------------------------------- ---------- --------------------------- ---------- ----------
ADDITIONS
---------------------------
BALANCE AT CHARGED TO CHARGED TO BALANCE AT
BEGINNING COSTS AND OTHER ACCOUNTS DEDUCTIONS END
DESCRIPTION OF PERIOD EXPENSES DESCRIBE DESCRIBE OF PERIOD
- -------------------------------- ---------- ---------- -------------- ---------- ----------
(THOUSANDS OF DOLLARS)
YEAR ENDED DECEMBER 31, 2000
Deducted from asset accounts:
Allowance for loan
losses................... $56,494 $17,526 $ -- $ 6,421(1) $67,599
Premiums receivable and
agents' balances and
reinsurance
recoverable.............. 16,243 12,650 -- (770) 29,663
------- ------- --------- --------- -------
Totals................ $72,737 $30,176 $ -- $ 5,651 $97,262
======= ======= ========= ========= =======
YEAR ENDED DECEMBER 31, 1999
Deducted from asset accounts:
Allowance for loan
losses................... $56,346 $25,470 $ (14,265)(2) $ 11,057(1) $56,494
Premiums receivable and
agents' balances and
reinsurance
recoverable.............. 14,660 1,834 -- 251 16,243
------- ------- --------- --------- -------
Totals................ $71,006 $27,304 $ (14,265) $ 11,308 $72,737
======= ======= ========= ========= =======
YEAR ENDED DECEMBER 31, 1998
Deducted from asset accounts:
Allowance for loan
losses................... $44,402 $11,059 $ 3,465(2) $ 2,580(1) $56,346
Premiums receivable and
agents' balances and
reinsurance
recoverable.............. 17,052 (2,392) -- -- 14,660
------- ------- --------- --------- -------
Totals................ $61,454 $ 8,667 $ 3,465 $ 2,580 $71,006
======= ======= ========= ========= =======
- ---------------
(1) Uncollectible accounts written off, net of recoveries and reclassifications.
(2) Reserves (sold) established with company and portfolio (dispositions)
acquisitions.
99
102
FREMONT GENERAL CORPORATION AND SUBSIDIARIES
SCHEDULE VI -- SUPPLEMENTAL INFORMATION CONCERNING PROPERTY/CASUALTY
INSURANCE OPERATIONS
DECEMBER 31, YEAR ENDED DECEMBER 31,
---------------------------------------------- ---------------------------------------------
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F COLUMN G COLUMN H
- ------------------------------- ----------- ---------- -------- -------- ---------- ---------- -------------------
CLAIMS AND CLAIM
ADJUSTMENT
RESERVES EXPENSES INCURRED
FOR UNPAID DISCOUNT RELATED TO
DEFERRED CLAIMS IF ANY -------------------
POLICY AND CLAIM DEDUCTED NET (1) (2)
AFFILIATION WITH ACQUISITION ADJUSTMENT IN UNEARNED EARNED INVESTMENT CURRENT PRIOR
REGISTRANT COSTS EXPENSES COLUMN C PREMIUMS PREMIUMS INCOME YEAR YEARS
- ------------------------------- ----------- ---------- -------- -------- ---------- ---------- -------- --------
(THOUSANDS OF DOLLARS)
Fremont Compensation Insurance
Group and Consolidated
Subsidiaries
2000......................... $ 9,341 $2,808,433 $ -- $214,045 $1,016,086 $135,178 $893,290 $368,710
1999......................... $58,948 $2,434,757 $25,742 $218,868 $ 831,005 $157,700 $677,756 $ 92,767
1998......................... $44,646 $2,298,118 $25,908 $184,116 $ 552,078 $178,263 $348,897 $(13,447)
YEAR ENDED DECEMBER 31,
-------------------------------------
COLUMN A COLUMN I COLUMN J COLUMN K
- ------------------------------- ----------- ---------- ----------
AMORTIZA-
TION OF PAID
DEFERRED CLAIMS
POLICY AND CLAIM NET
AFFILIATION WITH ACQUISITION ADJUSTMENT PREMIUMS
REGISTRANT COSTS EXPENSES WRITTEN
- ------------------------------- ----------- ---------- ----------
(THOUSANDS OF DOLLARS)
Fremont Compensation Insurance
Group and Consolidated
Subsidiaries
2000......................... $208,239 $847,251 $ 966,079
1999......................... $191,923 $872,359 $ 897,633
1998......................... $123,393 $835,374 $ 571,676
100
103
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on the 30th day of
March 2001.
FREMONT GENERAL CORPORATION
By: /s/ PATRICK E. LAMB
------------------------------------
Title: Vice President, Finance
(Principal Accounting Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ JAMES A. MCINTYRE Chairman of the Board and March 30, 2001
- --------------------------------------------------- Chief Executive Officer
James A. McIntyre (Principal Executive Officer)
/s/ LOUIS J. RAMPINO President, Chief Operating March 30, 2001
- --------------------------------------------------- Officer and Director
Louis J. Rampino
/s/ WAYNE R. BAILEY Executive Vice President, March 30, 2001
- --------------------------------------------------- Treasurer, Chief Financial
Wayne R. Bailey Officer and Director
(Principal Financial Officer)
/s/ PATRICK E. LAMB Vice President, Finance March 30, 2001
- --------------------------------------------------- (Principal Accounting
Patrick E. Lamb Officer)
/s/ DAVID W. MORRISROE Director March 30, 2001
- ---------------------------------------------------
David W. Morrisroe
/s/ DICKINSON C. ROSS Director March 30, 2001
- ---------------------------------------------------
Dickinson C. Ross
Director March 30, 2001
- ---------------------------------------------------
Thomas W. Hayes
101