ITEM 1. BUSINESS
THE COMPANY
Meadowbrook Insurance Group, Inc. (the "Company") is a Michigan corporation which was originally incorporated in 1985 under the name Star Holding Company. In November 1995, the Company changed its name and acquired Meadowbrook, Inc. ("Meadowbrook"). Meadowbrook was founded in 1955 as the Meadowbrook Insurance Agency and was subsequently incorporated in 1965.
The Company serves as a holding company for not only Meadowbrook but also for Star Insurance Company ("Star"), Savers Property and Casualty Insurance Company ("Savers") and American Indemnity Insurance Company Ltd. ("American Indemnity"). Star was formed in 1985 as a subsidiary of Star Holding Company. Star then acquired Savers in 1990, and the Company acquired American Indemnity in 1994.
The Company acquired Association Self Insurance Services, Inc. ("ASI") of Montgomery, Alabama in November of 1996. The acquisition was not material to the Company's results of operations. ASI is a full service risk-management operation focused on pools and funds whose services include claims, loss control, managed care, and policy issuance. ASI's operations were consolidated with the Company's existing operations in Montgomery, Alabama.
In July of 1997, the Company acquired Crest Financial Services ("Crest"), a California based holding company which holds 100% of Williamsburg National Insurance Company ("Williamsburg"), an insurance carrier, and Crest Financial Services, a risk management service company. Crest provides these services primarily to the trucking industry within California. The acquisition was not material to the Company's results of operation.
INDUSTRY SEGMENTS
Since 1976, the Company has been developing and managing alternative market risk management programs for defined client groups and their members. The alternative market, which developed as a result of historical volatility in the cost and availability of traditional commercial insurance coverages, includes a wide range of approaches to financing and managing risk exposures, such as captives and rent-a-captives, risk retention and risk purchasing groups, governmental pools and trusts and self-insurance plans. According to an industry report made in 1994, the alternative market accounts for an estimated $61 billion, or 33%, of the estimated $186 billion of United States property and casualty premium written; and according to industry sources is expected to reach an estimated $85 billion, or 38%, of the estimated $225 billion of United States property and casualty premium written in the year 2000. The Company believes that the alternative market has continued to expand even during the current soft market as a result of the desire of many insureds to exercise greater control over the risk management process and to obtain customized risk management services.
GENERAL
The Company provides alternative risk management programs and services primarily to industry, public entities, and trade/professional groups. Revenues are generated from four principal sources: fees from program management services, commissions earned on insurance placed by a subsidiary with other carriers, earned insurance premiums, and investment income. The subsidiaries of the Company that provide these services are Star, Savers, Crest and its wholly owned insurer Williamsburg, American Indemnity, ASI, and Meadowbrook, the risk management company.
Through these subsidiaries the Company develops programs, which are customized packages of services or coverages marketed to the group's members. The programs are categorized by the level of risk assumed by the Company either as managed programs, risk-sharing programs, or fully-insured programs.
The Company's capabilities in the provision of both services and insurance coverages provide flexibility for the consideration and implementation of a variety of alternative market solutions. Services provided and insurance lines of business include:
SERVICES LINES OF BUSINESS
- Risk Analysis and Identification - Workers' Compensation - Feasibility Studies - Commercial Multi-Peril - Program and Product Design - General Liability - Sales, Marketing and Public Relations -- Errors and Omissions - Consultation, Education and Training -- Automobile - Captive Formation -- Owners, Landlord and - Captive Management (Onshore and Offshore) Tenant - Employment Practices Liability - Rent-a-Captive - Professional Liability - Underwriting/Risk Selection -- Legal - Policy Issuance -- Medical Malpractice - Reinsurance Brokerage -- Real Estate Appraisers - Claims Handling and Administration -- Accountants - Litigation Management -- Pharmacists - Accounting and Financial Statement Preparation - Inland Marine - Regulatory Compliance -- Cargo - Actuarial and Loss Reserve Analysis -- Watercraft - Loss Prevention and Control - Product Liability - Legal and Audit Support - Excess Reinsurance - Information Technology and Processing - Commercial Property
DESCRIPTION OF SERVICES AND CAPABILITIES
PROGRAM DESIGN. Prior to implementing a new program, the Company reviews a significant amount of data, including: financial projections for the contemplated program; historical loss experience; actuarial studies of the underlying risks; the creditworthiness of the potential client; and the availability of reinsurance. A senior management team and associates representing each of the risk-management disciplines within the Company work together to design, market and implement new programs. While the Company does not generate substantial fees for program design services, these services are an integral part of the Company's program management services.
FORMATION AND MANAGEMENT OF RISK-BEARING ENTITIES. The Company generates fees by forming and managing risk-bearing entities for clients and agents. The Company currently manages over twenty-nine captives and holds a minority interest in ten of these captives. The offshore captives are managed by the Company's subsidiaries in Bermuda and Barbados.
RISK SELECTION. The Company performs underwriting services for its clients, its clients' captives and certain individual accounts. Compensation for underwriting services generally is included in the Company's management fees. The Company's underwriting personnel help develop the proper criteria for selecting risks, while actuarial and reinsurance personnel evaluate and recommend the appropriate levels of risk retention. The program is then tailored according to the requirements of each client.
REINSURANCE BROKERAGE. The Company earns fees by placing excess reinsurance for its programs. The Company's two reinsurance brokerage subsidiaries, Meadowbrook Intermediaries, Inc. and Meadowbrook International, Ltd., place reinsurance (as well as insurance coverage with high deductibles) for insurance companies, captives and self-insured programs managed by the Company. Reinsurance is also placed for clients that do not have other business relationships with the Company.
LOSS CONTROL AND PREVENTION. The Company earns fees for loss control services which are designed to help clients prevent or limit certain loss events. Through an evaluation of the client's workplace environment, the Company's loss control specialists assist the client in planning and implementing a loss prevention program and, in certain cases, provide educational and training programs for the client.
CLAIMS HANDLING AND ADMINISTRATION. The Company is experienced in handling and managing claims for workers' compensation and most other casualty lines, property and general liability. It handles all claims functions for most of the programs managed by the Company. The Company's involvement in claims handling and administration provides feedback to program managers in assessing the client's risk environment and the overall structure of the program.
SALES AND MARKETING. The Company markets its programs and services to associations, groups, local, regional and national insurance agents and insurance consultants. Once a program has been developed for a particular association or group, the Company generally then markets the program to members of the association or group. Sales and marketing efforts include personal contact, direct mail, telemarketing, advertising, internet based marketing (www.meadowbrookinsgrp.com), and attendance at seminars and trade and industry conventions.
CUSTOMERS, MARKETING AND DISTRIBUTION
FEE BASED OPERATIONS:
AGENCY. The Company earns commissions through the operation of a retail property and casualty insurance agency. Formed in 1955 as Meadowbrook's original business, the insurance agency places principally commercial insurance, as well as personal property, casualty, life and accident and health insurance, with more than 25 insurance carriers. The agency has grown to be one of the largest agencies in Michigan. In addition, with the 1997 acquisition of Crest, the Company added two California based subsidiaries: a licensed insurance agent, and a licensed general agent and excess and surplus lines broker.
In total, the Company's agency operations generated commissions of $7.6 million, $4.8 million and $4.8 million for the years ended December 31, 1997, 1996 and 1995, respectively. In addition to its independent retail agency activities, the Company's insurance agency also earns revenue by serving as agent for several of the Company's programs, including two of its ten largest programs.
MANAGED PROGRAMS. In a managed program, the Company, through Meadowbrook, earns commission and fee revenue by providing management and other services to a client's risk-bearing entity, but generally does not share in the operating results of such programs. The Company believes that its managed programs provide a stable source of revenue as well as opportunities for revenue growth without a proportionate increase in expenses. Revenue growth may occur through the sale of existing managed program products to additional members of the sponsoring client group, the expansion of coverages and services provided to existing programs and the creation of programs for new client groups (such as additional municipal associations) with needs that are similar to existing client groups.
Meadowbrook specializes in providing managed programs to public entity associations, and currently manages public entity pools and other captive insurance entities, which provide insurance coverage for over 2500 participants, including city, county, township and village
governments in five states. Over the years, Meadowbrook has been able to expand the services offered under existing programs as well as to increase the number of participants in these managed programs.
Managed program services for which Meadowbrook receives commissions and fees include: program design and development; underwriting; reinsurance brokerage; policy administration; loss prevention and control services (including the provision of specialized law enforcement training); claims and litigation management; information processing and accounting functions; and general management oversight of the program on behalf of the sponsoring client group. Fees and commissions received by the Company under its managed programs are generally either in a fixed amount or based on a percentage of premium serviced.
In addition to municipal associations, Meadowbrook also manages mutual insurance companies, offshore captives and other insurance entities including the Company's insurance subsidiaries Star, Savers and Williamsburg.
In total, Meadowbrook employs 585 associates.
INSURANCE OPERATIONS:
The Company's major insurance subsidiaries, Star, Savers and Williamsburg, collectively the "Insurance operations", issue insurance policies for both risk-sharing and fully-insured programs. These companies are complemented by American Indemnity, which offers clients a rent-a-captive vehicle for risk-sharing programs. The insurance operations are managed by Meadowbrook and have no employees.
The Insurance operations are authorized to write business, on either an admitted or surplus lines basis, in fifty states. Through both risk-sharing and fully insured programs, the Insurance operations primarily offer workers' compensation, commercial multiple peril, inland marine and other liability. The Insurance operations also provide policy issuance services for surety bonds and transfer the risk to Connecticut Surety (see Surety Bonds below). For the year ended December 31, 1997, workers' compensation line of business accounted for 44.8% and 48.1% of gross written premiums and net earned premiums, respectively.
Star, Savers, and Williamsburg are domiciled in Michigan, Missouri, and California, respectively.
During 1997, A.M.Best affirmed an A-, A-, and B++ for Star, Savers, and Williamsburg, respectively. A.M. Best ratings are based upon factors of concern to policyholders and are not directed toward the protection of investors. No assurances can be given that in the future A.M. Best will not reduce or withdraw the ratings of the Company's insurance subsidiaries.
CLIENT RISK-SHARING. In a client risk-sharing program, the Company participates in the operating results of the program, and the client group also shares in such results through a captive, a rent-a-captive or a retrospectively-rated program. In many instances, a captive owned by a client reinsures a portion of the risk on a quota-share basis. In addition to premium revenue and investment income from its participation in the operating results of the program, the Company may also be compensated through the receipt of ceding commissions and other fees for policy issuance services and acquisition costs, captive management services, reinsurance brokerage, loss prevention services and claims handling and administration services. For financial reporting purposes, ceding commissions are treated as a reduction in underwriting expenses.
The Company's experience has been that the number of claims and the cost of losses tend to be lower in risk-sharing programs than with traditional forms of insurance. The Company believes that client risk-sharing motivates insureds to focus on loss prevention and control measures and to establish and adhere to stricter underwriting guidelines. As a result of its experience with risk-
sharing programs, the Insurance operations have sustained a ten year average combined ratio of 95.3% and have outperformed the industry by an average of 12 points.
The Company assists the sponsoring group in forming a captive, which is capitalized by contributions from members of the sponsoring group in exchange for shares of the captive. The captive is generally managed for a fee by an offshore subsidiary of the Company. The Company works with the client to determine the amount of risk exposure that will be assumed by the captive, which varies depending on the captive's capitalization, the line of business, the amount to be retained by the Company and the amount to be reinsured by excess reinsurers. The Company then issues an insurance policy and receives premium from the insured. Pursuant to the quota-share reinsurance agreement with the captive, the Company generally transfers (cedes) a portion of the retained risk to the captive and pays to the captive its share of the net premium (after deducting ceding commissions, policy issuance fees, the cost of excess reinsurance, taxes and other fees and expenses). The Company generally seeks to cede approximately 50% of its loss exposures, but in some cases cedes as little as 20% or as much as 80% of its loss exposures. The Company secures obligations due from captives through the use of funds withheld trusts and letters of credit. Through its reinsurance intermediary subsidiaries, the Company obtains excess-of-loss reinsurance, subject to agreed upon limits and retention levels. The Company generally administers all claims handling functions, and the captive provides funds to the Company for the payment of the captive's proportionate share of paid claims and claims expenses. The captive realizes investment income from its capital, unearned premium and loss reserves, and shares in the underwriting results.
The Company also offers its clients "rent-a-captive" risk-sharing programs. These programs allow a client to retain a significant portion of its own loss exposure without the administrative costs and capital commitment required to establish and operate its own captive.
In another variation on client risk-sharing, the Company establishes retrospectively-rated programs for individual accounts. In such a program, the Company works with the client to develop the appropriate self-insured retention and loss fund amount and then helps arrange for excess of loss reinsurance. The client reimburses the Company for all claims payments within the client's retention. The Company generally earns a management fee (which includes claims and loss control fees). In most of these programs, the Company also participates in the operating results of the reinsurance coverage and earns a ceding commission.
AGENT RISK-SHARING. The Company also writes program business on a risk-sharing basis with agents or brokers. The Company believes that agent risk-sharing has grown as a result of market volatility and lack of coverage availability in the traditional market. Risk-sharing is achieved either through an agent-owned captive, rent-a-captive or through a contingent commission structure tied to operating results. The Company believes that certain agents and brokers view risk-sharing as a means to recapture lost profit margins on commissions that have been reduced due to premium reductions in the soft market and to establish a long-term relationship with an insurer.
The agent may own a captive or purchase an interest in a rent-a-captive which acts as a reinsurer on business produced. In some cases, the captive's shareholders may include key producers, subproducers and insureds. In other circumstances, the agent accepts a lower up-front commission in exchange for a multi-year contingent commission based on operating results. The Company believes that multi-year commission structures motivate the agent to produce business with better risk characteristics and higher profit potential.
FULLY-INSURED PROGRAMS. In a fully-insured program, the Company earns premium revenue by providing insurance coverage without a risk-sharing mechanism. The Company may provide fully-insured programs when it perceives opportunities for the development of risk-sharing programs in the future.
SURETY BONDS. The Company formed a surety bond business unit in late 1993 and began issuing surety bonds for contractors and licensees in 1994. The Company earned premium revenue on surety bonds issued through general agents throughout the United States, including a wholly-owned subsidiary of the Company. General agents were paid commissions and, in some cases, profit sharing bonuses based upon loss ratios. The general agents had limited underwriting authority. In marketing payment and performance surety bonds to clients, the Company generally considered the net worth and working capital ratios and the client's experience, expertise, financial statements and historical track record. In certain instances, the Company required collateral before issuing a surety bond. The form of collateral varied depending upon an assessment of the risk factors associated with the surety bond. Generally, collateral consisted of escrowed cash, letters of credit or investment securities, all of which was held through the term of the bond.
In December 1996, the Company entered into a five-year joint underwriting agreement with Connecticut Surety Corporation. The agreement provides for the transfer of the underwriting risk on the majority of the Company's existing surety bond business. In addition, Star will continue to write new surety business, utilizing its capital and licenses, and Connecticut Surety will manage the operations and assume the risk. This arrangement substantially reduces the Company's underwriting risk exposure while creating a five-year fee arrangement. This enables the Company to refocus its efforts on its core business, alternative risk management.
DEPENDENCE ON KEY PROGRAMS
The Company provides alternative risk management programs and services to certain large client groups and associations and then markets them to their individual members. In 1997, 1996, and 1995 the Company's top four programs, excluding the surety bond business, accounted for 46%, 37% and 34%, respectively, of the Company's total net earned premiums on an actual basis. The loss or cancellation of any of the Company's significant programs by the relevant client groups, or the general availability of commercial market coverage to members of such groups on more favorable terms than provided under the Company's programs, could have an adverse effect on the Company's results of operations.
RESERVES
The information required by this item is incorporated by reference to pages 23, 36, 37, and 41 of the Company's 1997 Annual Report to Shareholders.
Reserves are computed by the Company based on actuarial principles and procedures applicable to the lines of business written by the Company. These reserve calculations are reviewed regularly by management and the Company engages independent actuaries on an annual basis to express an opinion as to the adequacy of statutory reserves established by management. These opinions are filed with the various jurisdictions in which the Company is licensed. Provisions for inflation are implicitly considered in the reserving process. For GAAP and statutory purposes, the Company's reserves are carried at the total estimate for ultimate expected loss without any discount to reflect the time value of money.
Significant periods of time often elapse between the occurrence of an insured loss, the reporting of the loss to the Company, and the Company's payment of that loss. To recognize liabilities for unpaid losses, the Company establishes reserves as balance sheet liabilities representing estimates of amounts needed to pay reported and unreported losses and loss adjustment expenses ("LAE").
The following table shows the development of reserves for unpaid losses and LAE from 1988 through 1997 for the Company's current insurance subsidiaries.
Due to the Company's adoption of SFAS 113, the bottom portion of the table shows the impact of reinsurance for the years 1992 through 1997, reconciling the net reserves shown in the upper portion of the table to gross reserves.
ANALYSIS OF LOSS AND LOSS ADJUSTMENT EXPENSE DEVELOPMENT YEARS ENDED DECEMBER 31, (Dollars in thousands)
Loss and LAE reserves have historically developed redundancies on a net basis apart from the most recent two years. The cumulative deficiencies of $644,000 and $1,235,000 in 1995 and 1996, respectively, reflect adverse development on the surety bond program, partially offset by favorable development in the residual market pools. The residual market pools in many states have declined resulting in reductions in pool premiums and losses. Gross deficiencies of $6,632,000 and $3,415,000 in 1995 and 1996, respectively, also reflect adverse development on the surety bond program. Payments on both a gross and net basis have typically been about one third of respective prior year-end reserves. However, in 1997, net payments were 48% of 1996 reserves due to two novations conducted in 1997 as well as the run-off of the surety bond business. In addition, gross payments in 1993 were 46.1% of 1992 year-end gross reserves, due to the settlement of the large claim on an agent risk-sharing program covering a type of risk that is no longer insured by the Company. Net payments in 1993 were only 23.0% of 1992 year-end net reserves, due to the commutation of a reinsurance treaty with a captive in which the recapture of $4.5 million in loss and loss adjustment reserves was recorded as a reduction in net paid losses. Excluding the effects of these two items, 1993 payments would have represented 33.8% and 37.1% of 1992 year-end reserves on a gross and net basis, respectively.
INVESTMENTS
The information required by this item is incorporated by reference to pages 22, 35, and 38-41 of the Company's 1997 Annual Report to Shareholders.
COMPETITION AND PRICING
The Company competes both with other providers of alternative risk management programs and services and with traditional providers of commercial insurance coverages. Both the alternative risk management and the traditional property and casualty insurance markets are highly competitive. The Company's alternative risk management programs and services compete with products and services offered by insurance companies, other providers of alternative risk management services (including certain domestic and foreign insurers and reinsurers and insurance brokers) as well as with self-insurance plans, captives managed by others, and a variety of other risk-financing vehicles and mechanisms. These competitive products are offered by other companies that may have greater financial resources than the Company.
The market for alternative risk management products and services is significantly influenced by market conditions affecting the traditional property and casualty insurance industry. Insurance market conditions historically have been subject to significant variability due to premium rate competition, natural disasters and other catastrophic events, judicial trends, changes in the investment and interest rate environment, regulation and general economic conditions. Pricing is a primary means of competition in the commercial insurance market. Competition is also based on the availability and quality of products, quality and speed of service (including claims service), financial strength, ratings, distribution systems and technical expertise. The primary basis for competition among alternative risk management providers varies with the financial and insurance needs and resources of each potential insured. Principal factors that are considered by insureds include: an analysis of the net present-value (after tax) of the cost of financing the insured's expected level of losses, the amount of excess coverage provided in the event losses exceed expected levels, cash flow and tax planning considerations and the expected quality and consistency of the services to be provided. The Company believes that it is able to compete based on its experience, the quality of its products and services and its program-oriented approach. However, its ability to successfully compete is dependent upon a number of factors, many of which, including market and competitive conditions, are outside of the Company's control.
REGULATION
REGULATION IN GENERAL
The Company's insurance subsidiaries are subject to regulation by government agencies in the states in which they do business. The nature and extent of such regulation vary from jurisdiction to jurisdiction, but typically involve prior approval of the acquisition of control of an insurance company or of any company controlling an insurance company, regulation of certain transactions entered into by an insurance company with any of its affiliates, approval of premium rates, forms and policies used for many lines of insurance, standards of solvency and minimum amounts of capital and surplus which must be maintained, establishment of reserves required to be maintained for unearned premium, losses and loss expense or for other purposes, limitations on types and amounts of investments, restrictions on the size of risks which may be insured by a single company, licensing of insurers and agents, deposits of securities for the benefit of policyholders, and the filing of periodic reports with respect to financial condition and other matters. In addition, state regulatory examiners perform periodic examinations of insurance companies. Such regulation is generally intended for the protection of policyholders rather than security holders.
In addition to the regulatory oversight of the Company's insurance subsidiaries, the Company is also subject to regulation under the Michigan, Missouri and California Insurance Holding Company System Regulatory Acts (the "Holding Company Acts"). The Holding Company Acts contain certain reporting requirements including those requiring the Company, as the ultimate parent company, to file information relating to its capital structure, ownership, and financial condition and general business operations of its insurance subsidiaries. The Holding Company Acts contain special reporting and prior approval requirements with respect to transactions among affiliates.
Insurance companies are also affected by a variety of state and federal legislative and regulatory measures and judicial decisions that define and extend the risks and benefits for which insurance is sought and provided. These include redefinitions of risk exposure in areas such as product liability, environmental damage and workers' compensation. In addition, individual state insurance departments may prevent premium rates for some classes of insureds from reflecting the level of risk assumed by the insurer for those classes. Such developments may adversely affect the profitability of various lines of insurance. In some cases, these adverse effects on profitability can be minimized through re-pricing, if permitted by applicable regulations, of coverages or limitations or cessation of the affected business.
The Company's reinsurance intermediaries are subject to regulation as reinsurance intermediaries. Under applicable regulations, the intermediary is responsible as a fiduciary for funds received for the account of the parties to the reinsurance transaction and is required to hold such funds in appropriate bank accounts subject to restrictions on withdrawals and prohibitions on commingling.
INSURANCE REGULATION CONCERNING CHANGE OR ACQUISITION OF CONTROL
Star, Savers and Williamsburg are domestic property and casualty insurance companies organized, respectively, under the insurance laws (the "Insurance Codes") of Michigan, Missouri and California. The Insurance Codes provide that the acquisition or change of "control" of a domestic insurer or of any person that controls a domestic insurer cannot be consummated without the prior approval of the relevant insurance regulatory authority. A person seeking to acquire control, directly or indirectly, of a domestic insurance company or of any person controlling a domestic insurance company must generally file with the relevant insurance regulatory authority an application for change of control containing certain information required by statute and published regulations and provide a copy of such to the domestic insurer. In all three states, control is generally presumed to exist if any person, directly or indirectly, owns, controls, holds
with the power to vote or holds proxies representing 10% or more of the voting securities of any other person.
In addition, many state insurance regulatory laws contain provisions that require pre-notification to state agencies of a change in control of a non-domestic admitted insurance company in that state. While such pre-notification statutes do not authorize the state agency to disapprove the change of control, such statutes do authorize issuance of a cease and desist order with respect to the non-domestic admitted insurer if certain conditions exist such as undue market concentration.
Any future transactions that would constitute a change in control of the Company would also generally require prior approval by the Insurance Departments of Michigan, Missouri and California and would require pre-acquisition notification in those states which have adopted pre-acquisition notification provisions and in which the insurers are admitted. Such requirements may deter, delay or prevent certain transactions that could be advantageous to the stockholders of the Company.
RESTRICTIONS ON DIVIDENDS AND RISK-BASED CAPITAL
The information required by this item is incorporated by reference to pages 25-27 and 44 of the Company's 1997 Annual Report to Shareholders.
EFFECT OF FEDERAL LEGISLATION
Although the federal government does not directly regulate the business of insurance, federal initiatives often affect the insurance business in a variety of ways. Current and proposed federal measures which may significantly affect the insurance business include federal government participation in asbestos and other product liability claims, pension regulation (ERISA), examination of the taxation of insurers and reinsurers minimum levels of liability insurance and automobile safety regulations.
NAIC-IRIS RATIOS
The NAIC's Insurance Regulatory Information System ("IRIS") was developed by a committee of state insurance regulators and is primarily intended to assist state insurance departments in executing their statutory mandates to oversee the financial condition of insurance companies operating in their respective states. IRIS identifies 11 industry ratios and specifies "usual values" for each ratio. Departure from the usual values on four or more ratios generally leads to inquiries from individual state insurance commissioners.
In 1997, Star had one ratio which varied from the "usual value" range as follows:
For Star: RATIO USUAL RANGE STAR VALUE ----------------------- ----------- ---------- Agents' balances / under 40 43 Surplus................
Star's "agents' balance to surplus ratio" was affected by increased gross premium writings in the fourth quarter. In particular, two portfolio transfers (novations) occurred in late 1997 and will be collected and remitted to reinsurers in early 1998. Eliminating the effect of these portfolio transfers, the agents' balance would have been 30, which puts Star within the usual range.
ITEM 2.
ITEM 2. PROPERTIES
The Company currently leases its corporate offices in Southfield, Michigan from 26600 Development Associates Limited Partnership. In 1996, the Company paid rent in the amount of approximately $1,060,000. The term of the lease for the offices in Southfield expires on September 30, 2004. The Company, through its subsidiaries, is also a party to various leases for locations in which such subsidiaries have offices. The Company does not consider any of these leases to be material.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
On June 26, 1995, two shareholders of a former agent of Star initiated legal proceedings against, among others, Star and Meadowbrook. The plaintiffs have requested injunctive relief, compensatory damages, punitive and exemplary damages, and attorney's fees in an unspecified amount. The Nevada Insurance Department revoked the license of the first plaintiff and denied further licensing of the second plaintiff. The Company is vigorously defending itself and has filed counterclaims against the plaintiffs. While the Company believes that it has meritorious defenses and counterclaims in this lawsuit, there can be no assurance that the Company's results of operations and financial condition will not be materially adversely affected by this lawsuit. The ultimate outcome of the lawsuit cannot be determined at this time, and the Company is unable to estimate the range of possible loss, if any.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
PART II
ITEM 5.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The information required by this item is incorporated by reference to page 51 of the Company's 1997 Annual Report to Shareholders.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this item is incorporated by reference to page 28 of the Company's 1997 Annual Report to Shareholders.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information required by this item is incorporated by reference to pages 19-27 of the Company's 1997 Annual Report to Shareholders.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by this item is incorporated by reference to pages 30-34 of the Company's 1997 Annual Report to Shareholders.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not Applicable PART III
Certain information required by Part III is omitted from this Report in that the Registrant has filed a definitive proxy statement pursuant to Regulation 14A (the "Proxy Statement") not later than 120 days after the end of the fiscal year covered by this report and certain information included therein is incorporated herein by reference. Only those sections of the Proxy Statement that specifically address the items set forth herein are incorporated by reference.
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is included under the caption "Directors and Executive Officers" of the Company's Proxy Statement relating to the Annual Meeting of Shareholders to be held on May 18, 1998, which is hereby incorporated by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is included under the captions "Executive Compensation", "Report of Compensation Committee on Executive Compensation" and "Stock Performance Graph" of the Company's Proxy Statement relating to the Annual Meeting of Shareholders to be held on May 18, 1998, which are hereby incorporated by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is included under the caption "Security Ownership of Certain Beneficial Owners and Management" of the Company's Proxy Statement relating to the Annual Meeting of Shareholders to be held on May 18, 1998, which is hereby incorporated by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Not applicable.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(A) The following documents are filed as part of this Report:
1. Financial Statements: The following Consolidated Financial Statements of Meadowbrook Insurance Group, Inc., the accompanying Notes to Consolidated Financial Statements and Report of Coopers & Lybrand L.L.P., Independent Accountants, have been incorporated herein by reference in their entirety, from pages 29-49 of the 1997 Annual Report to Shareholders:
Report of Coopers & Lybrand L.L.P., Independent Accountants
Consolidated Balance Sheet - December 31, 1997 and 1996
Consolidated Statement of Income - Fiscal Years Ended December 31, 1997, 1996 and 1995
Consolidated Statement of Shareholders' Equity - Fiscal Years Ended December 31, 1997, 1996 and 1995
Consolidated Statement of Cash Flows - Fiscal Years Ended December 31, 1997, 1996 and 1995
Notes to Consolidated Financial Statements
2. Report of Independent Accountants on Financial Statement Schedule Listed Under 14(a)3 of this Form 10-K (attached on pg. 17)
3. Financial Statement Schedule
Schedule II Condensed Financial Information of Registrant (attached on pg. 18-20)
Schedules not listed above have been omitted because they are not applicable or are not required or the information required to be set forth therein is included in the Consolidated Financial Statements and Notes thereto.
4. Exhibits The Exhibits listed on the accompanying Index to Exhibits immediately following the financial statement schedule are filed as part of, or incorporated by reference into, this Form 10-K.
INDEX TO EXHIBITS
Exhibit No. Description Filing Basis - ------- ----------- ------------ 3.1 Articles of Incorporation of the Company, including Certificate of Amendment to the Articles of Incorporation. *
3.2 Bylaws of the Company. *
10.1 Employment Agreement between the Company and James R. Parry, Sr. ("Parry") dated January 1, 1993. *
Exhibit No. Description Filing Basis - ------- ----------- ------------ 10.2 Management Services Agreement among the Company, Star, Savers and Meadowbrook dated January 1, 1993. *
10.3 Meadowbrook Insurance Group, Inc. 1995 Stock Option Plan. *
10.4 Lease between Meadowbrook and 26600 Development Associates Limited Partnership, with fourth amendment to lease dated March 21, 1995. *
10.5 Fifth and sixth Amendments to Lease between Meadowbrook and 26600 Development Associates Limited Partnership dated August 7, 1995 and May 13, 1996. *
10.6 Meadowbrook, Inc. 401(k) Profit Sharing Plan Trust, amended and restated December 31, 1994. *
10.7 Employment Agreement, Covenant Not to Compete and Restricted Stock Agreement dated as of August 1, 1995 between Meadowbrook and Robert A. Engle. *
10.8 Employment Agreement, Covenant Not to Compete and Restricted Stock Agreement dated as of August 1, 1995 between Meadowbrook and Robert A. Engle, Amendment. *
10.9 Stock Purchase Agreement dated August 1, 1995 among the Company , Robert A. Engle, Trustee of the Robert A. Engle Revocable Trust dated November 24, 1993, Merton J. Segal and certain other employees of the Company. *
10.10 Stock Purchase Agreement dated August 1, 1995 among the Company , Robert A. Engle, Trustee of the Robert A. Engle Revocable Trust dated November 24, 1993, Merton J. Segal and certain other employees of the Company, Amendment. *
11 Statement re computation of per share earnings. Pg. 21
13 1997 Annual Report to Shareholders. Pg. 22-75
21 List of Subsidiaries. Pg. 76
23 Consent of Independent Accountants Pg. 77
24 Power of attorney. Pg. 78
27 Financial Data Schedule. Pg. 79
28.1 Star Insurance Company's 1997 Schedule P. Pg. 80 - 131 **
28.2 Savers Property & Casualty Insurance Company's 1997 Schedule P. Pg. 132 - 187**
28.3 Williamsburg National Insurance Company's 1997 Schedule P. Pg. 188 - 244** (*) Incorporated by reference to Form S-1 Registration Statement (No. 33-2626206) of Meadowbrook Insurance Group, Inc. declared effective November 20, 1995.
(**) Submitted in paper format under separate cover; see Form SE filing.
(B) REPORTS ON FORM 8-K
No reports on Form 8-K were filed by the Registrant during the year ended December 31, 1997.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, in Southfield, Michigan, on March 26, 1998.
MEADOWBROOK INSURANCE GROUP, INC.
By: ** ------------------------------------ Merton J. Segal Chairman and Chief Executive Officer (Principal Executive Officer)
By:/s/ Daniel G. Gibson ------------------------------------------ Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) Dated: March 26, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity and on the dates indicated.
Signature Title Date - --------- ----- ----
** Chairman, Chief Executive Officer and March 26, 1998 - ---------------------- Director (Principal Executive Officer) Merton J. Segal
** Vice Chairman and Director March 26, 1998 - ---------------------- Warren D. Gardner
/s/ Robert S. Cubbin Office of the President, Secretary March 26, 1998 - ---------------------- and Director Robert S. Cubbin
** Office of the President, Treasurer March 26, 1998 - ---------------------- and Director Joseph C. Henry
** Office of the President, March 26, 1998 - ---------------------- Chief Marketing Officer and Director James R. Parry, Sr.
** Director March 26, 1998 - ---------------------- Bruce E. Thal
** Director March 26, 1998 - ---------------------- Hugh W. Greenberg
** By: /s/ Robert S. Cubbin ---------------------- Robert S. Cubbin, Attorney-in-fact
[LETTERHEAD OF COOPERS & LYBRAND]
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders Meadowbrook Insurance Group, Inc.
We have audited the consolidated financial statements of Meadowbrook Insurance Group, Inc. and subsidiaries as of December 31, 1997 and 1996, and for each of the three years in the period ended December 31, 1997, which financial statements are included on pages 30 through 49 of the 1997 Annual Report to Shareholders of Meadowbrook Insurance Group, Inc. and Incorporated by reference herein. We have also audited the financial statement schedule listed under Item 14(A)3 of this Form 10-K. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Meadowbrook Insurance Group, Inc. and Subsidiaries as of December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. In addition, in our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein.
COOPERS & LYBRAND LLP
Detroit, Michigan March 19, 1998
SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
MEADOWBROOK INSURANCE GROUP, INC. PARENT COMPANY ONLY
INCOME STATEMENT
For the years ended December 31,
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SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
MEADOWBROOK INSURANCE GROUP, INC. PARENT COMPANY ONLY
BALANCE SHEET
As of December 31, 1997 and 1996
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SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
MEADOWBROOK INSURANCE GROUP, INC. PARENT COMPANY ONLY
STATEMENT OF CASH FLOWS
For the years ended December 31,
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