SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [FEE REQUIRED]
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transaction period from ___________________ to ____________________
Commission File Number: 0-25505
NCRIC GROUP, INC.
______________________________________________________
(Exact Name of Registrant as Specified in its Charter)
DISTRICT OF COLUMBIA 52-2134774
_________________________________________________ ________________________
(State or Other Jurisdiction of Incorporation or (I.R.S. Employer
Organization) Identification Number)
1115 30TH STREET, N.W., WASHINGTON, D.C. 20007
________________________________________________ __________
(Address of Principal Executive Offices) (Zip Code)
(202) 969-1866
___________________________________________________
(Registrant's Telephone Number including area code)
Securities Registered Pursuant to Section 12(b) of the Act:
NONE
_________________________________________
(Title of Class)
Securities Registered Pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.01 PER SHARE
(Title of Class)
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 twelve months (or for such shorter period that the
Registrant was required to file reports) and (2) has been subject to such
requirements for the past 90 days.
YES X NO
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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
amendments to this Form 10-K. [X]
Indicate by check mark whether the Registrant is an accelerated filer
(as defined in Rule 12b-2 of the Securities Exchange Act of 1934).
YES NO X
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As of February 28, 2003, there were issued and outstanding 3,708,399
shares of the Registrant's Common Stock. The aggregate value of the voting stock
held by non-affiliates of the Registrant, computed by reference to the last
trade price of the Common Stock as of February 28, 2003 was $17.9 million.
TABLE OF CONTENTS
PAGE
PART I
ITEM 1. Business........................................................2
ITEM 2. Properties.....................................................25
ITEM 3. Legal Proceedings..............................................25
ITEM 4. Submission of Matters to a Vote of Security Holders............25
PART II
ITEM 5. Market for Registrant's Common Equity and Related
Stockholder Matters..........................................25
ITEM 6. Selected Financial Data........................................27
ITEM 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................28
ITEM 7A. Quantitative and Qualitative Disclosures About Market Price....49
Item 8. Financial Statements and Supplementing Data....................51
ITEM 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.....................................86
PART III
ITEM 10. Directors and Executive Officers of the Registrant.............86
ITEM 11. Executive Compensation.........................................88
ITEM 12. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters...................93
ITEM 13. Certain Relationships and Related Transactions.................93
ITEM 14. Controls and Procedures........................................93
PART IV
ITEM 15. Exhibits, Financial Statement Schedules and Reports on
Form 8-K:....................................................93
PART I
ITEM 1. BUSINESS
OVERVIEW
We are a healthcare financial services organization that provides
individual physicians and groups of physicians and other healthcare providers
with economical, high-quality medical professional liability insurance and the
practice management and financial services necessary for them to succeed in the
current healthcare environment. We own NCRIC, Inc., a medical professional
liability insurance company and NCRIC MSO, Inc., a physician practice management
and financial services company.
We offer medical professional liability insurance and practice
management services to physicians and other health care providers in Delaware,
the District of Columbia, Maryland, Virginia and West Virginia. We currently
provide our insurance products and practice management services to approximately
5,000 physicians throughout this market area as of December 31, 2002. This
compares to approximately 4,000 physicians in 2001 and 3,000 physicians in 2000.
This increase is primarily driven by growth in our insurance segment. The number
of our practice management clients has remained stable at approximately 1,000
over this same period. The following table shows our insurance segment policy
count and gross premiums written over the last ten years.
GROSS PREMIUMS
WRITTEN (IN
POLICY COUNT THOUSANDS)
____________ _________________
1992 1,229 $ 23,541
1993 1,215 22,801
1994 1,226 21,509
1995 1,223 19,506
1996 1,231 19,017
1997 1,250 17,869
1998 1,328 19,214
1999 1,532 21,353
2000 2,010 22,727
2001 2,953 34,459
2002 3,785 51,799
As reflected in the table above, we have experienced significant growth
since 1999, and not during the soft-market pricing environment of the
mid-to-late 1990s. We have maintained a disciplined approach towards
underwriting, product pricing and loss reserves, and we have remained focused on
selective expansion in our core markets as pricing conditions have improved.
According to data provided by A.M. Best, in 2001, we had 53.3% of the
District of Columbia medical professional liability market share. We believe
that we have one of the highest retention rates of policyholders in the industry
at more than 95%, for 2002, and our market presence has expanded significantly
as competing medical professional liability insurers have been forced to either
restrict their premium writings or exit the market completely due to financial
difficulties.
We have a strong management team with many years of industry
experience. R. Ray Pate, President and Chief Executive Officer, has 7 years
with us and 16 years of experience in the medical professional liability
insurance business. William E. Burgess, Senior Vice President, has been
with us for 22 years and has been responsible for our risk management and
claims processing functions. Stephen S. Fargis, Senior Vice President and
Chief Operating Officer, joined us in 1995 and has 19 years of experience
in the healthcare industry. Mr. Fargis has been responsible for
implementing our growth strategy in our existing and new geographic
markets. Rebecca B. Crunk, Senior Vice President and Chief Financial
Officer, has been with us since 1998 and is responsible for our financial
reporting functions. Ms. Crunk is a certified public accountant with 25
years' experience in insurance industry accounting.
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Given the long-tail nature of our professional liability insurance
business, we focus on our operating ratio, which combines the ratio of
underwriting income or loss to net premiums earned, referred to as the combined
ratio, offset by the benefit of investment income generated from our cash and
invested assets, also expressed as a percentage of premiums earned. Our average
statutory operating ratio for the five year period ended December 31, 2001 was
77.0%. This compares favorably to an average statutory operating ratio of 94.4%
for the property and casualty industry over the same period, according to data
published by A.M. Best. The long-tail nature also results in a higher level of
invested assets and investment income as compared to other property and casualty
lines of business. At December 31, 2001 our ratio of cash and invested assets,
which totaled $108.6 million, to statutory surplus was 3.3x as compared to 2.7x
for the property and casualty industry according to information reported by A.M.
Best. For the five years ended December 31, 2001, our net investment income
averaged 34.4% of net premiums earned compared to 14.0% for the property and
casualty industry over the same period according to information reported by A.M.
Best, in each case determined on a statutory basis.
For the year ended December 31, 2002, we generated $51.8 million of
gross premiums written, $30.1 million of net premiums earned and $42.3 million
of total revenues. At December 31, 2002, we had consolidated assets of $202.7
million, liabilities of $154.9 million, and stockholders' equity of $47.8
million. Our insurance subsidiaries are rated "A-" (Excellent) by A.M. Best.
FORWARD-LOOKING STATEMENTS
Certain statements contained herein are not based on historical facts
and are "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.
Such forward-looking statements may be identified by reference to a future
period or periods, or by the use of forward-looking terminology, such as "may,"
"will," "believe," "expect," "estimate," "anticipate," "continue," or similar
terms or variations on those terms, or the negative of those terms. These
forward-looking statements include: statements of our goals, intentions and
expectations; statements regarding our business plans, prospects, growth and
operating strategies; and estimates of our risks and future costs and benefits.
These forward-looking statements are subject to significant risks, assumptions
and uncertainties, including, among other things, the following important
factors that could affect the actual outcome of future events:
o general economic conditions, either nationally or in our market
area, that are worse than expected;
o price competition;
o inflation and changes in the interest rate environment and
performance of financial markets;
o adverse changes in the securities markets;
o changes in laws or government regulations affecting medical
professional liability insurance and practice management and
financial services;
o NCRIC, Inc.'s concentration in a single line of business;
o our ability to successfully integrate acquired entities;
o changes to our ratings assigned by A.M. Best;
o impact of managed healthcare;
o uncertainties inherent in the estimate of loss and loss
adjustment expense reserves and reinsurance;
o the cost and availability of reinsurance;
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o changes in accounting policies and practices, as may be adopted
by our regulatory agencies and the Financial Accounting Standards
Board; and
o changes in our organization, compensation and benefit plans.
We wish to caution readers not to place undue reliance on any such
forward-looking statements, which speak only as of the date made, and wish to
advise readers that the factors listed above could affect our financial
performance and could cause actual results for future periods to differ
materially from any opinions or statements expressed with respect to future
periods in any current statements. We do not undertake and specifically decline
any obligation to publicly release the result of any revisions that may be made
to any forward-looking statements to reflect events or circumstances after the
date of such statements or to reflect the occurrence of anticipated or
unanticipated events.
BUSINESS STRATEGY
Our business strategy is designed to enhance our profitability and
strengthen our position as a leading provider of medical professional liability
insurance, alternative risk financing services, and financial and practice
management services in the Mid-Atlantic region. The major elements of our
business strategy are:
STRENGTHEN AND EXPAND OUR MEDICAL PROFESSIONAL LIABILITY INSURANCE BUSINESS BY:
ADHERING TO STRICT UNDERWRITING CRITERIA AND DISCIPLINED PRICING
PRACTICES. We consistently have followed strict underwriting procedures with
respect to the issuance of all of our insurance policies and do not manage our
business to achieve a certain level of premium growth or market share. In
addition, we solicit the input of physicians from a cross section of medical
specialties to assess accurately the underwriting risks in each of our market
territories. We seek to achieve our principal objective of attracting and
retaining high quality business by focusing on independent physicians who
practice individually or in small groups who we believe are more receptive to
our service-intensive approach and more likely to remain with us in times of
price based competition. We continually monitor market conditions to identify
potentially negative trends that may require corrective actions in our prices
and underwriting criteria.
AGGRESSIVELY MANAGING POLICYHOLDER CLAIMS. In addition to prudent risk
selection, we seek to control our underwriting results through effective claims
management. Our claims department focuses on the early evaluation and aggressive
management of medical professional liability claims. We investigate each claim
and vigorously litigate claims that we consider unwarranted or claims where
settlement resolution cannot be achieved. We have established an understanding
of the legal climates in our core market area and we retain locally based
attorneys who specialize in medical professional liability defense. We believe
this approach contributes to lower overall costs, and results in greater
customer loyalty.
MAINTAINING OUR FINANCIAL STRENGTH. We are rated "A-" (Excellent) by
A.M. Best. An "A-" rating is assigned to companies that have, on balance,
excellent balance sheet strength, operating performance and business profile.
These companies, in A.M. Best's opinion, have a strong ability to meet their
ongoing obligations to policyholders. We have sustained our financial strength
and stability during difficult market conditions through adhering to strict
underwriting, pricing and loss reserving practices. We are committed to abiding
to these practices. We recognize the importance of our A.M. Best rating to our
customers and agents and intend to manage our business to protect our financial
security.
EXPANDING OUR DISTRIBUTION CHANNELS AND PURSUING STRATEGIC
ACQUISITIONS. In addition to our leading position in the District of Columbia,
we are a significant insurer in Delaware, Maryland, Virginia, and West Virginia.
Historically, direct sales in the District of Columbia were the primary source
of written premiums. In recent years, growth in states outside of the District
of Columbia has largely come through our independent agents. In 2002, 17% of all
new business was written through direct distribution and 83% through independent
agents. We believe we can further increase new business through the continued
use of independent agents. We also believe that consolidation will continue in
the medical professional liability insurance industry. This may give rise to
opportunities for us to make strategic acquisitions to expand our business.
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MAINTAINING CLOSE RELATIONSHIPS WITH AREA MEDICAL COMMUNITIES. National
Capital Reciprocal Insurance Company was founded in 1980 with the strong support
of the Medical Society of the District of Columbia (MSDC) and the District of
Columbia's physicians. We maintain the exclusive endorsement of the MSDC, as
well as that of the Virginia-based Arlington County Medical Society. We also
maintain strong working relationships with the Medical Society of Virginia and
the Delaware Medical Society.
ENHANCING OUR PRODUCT OFFERINGS. We have developed other insurance
products in addition to our core medical professional liability insurance
offerings. These products include comprehensive premises liability coverage for
medical offices and PracticeGard Plus. PracticeGard Plus is designed to protect
physicians from costly civil fees and penalties related to the government's
regulations regarding billing coding and compliance.
UTILIZE OUR EXPERTISE IN MEDICAL PROFESSIONAL LIABILITY INSURANCE TO OFFER
ALTERNATIVE RISK TRANSFER PRODUCTS TO HEALTHCARE PROVIDERS.
As a result of significant premium rate increases, healthcare providers
are seeking alternatives methods to secure medical professional liability
coverage. We established ACC under District of Columbia Law in 2001 to form
independent protected captive cells to accommodate affinity groups seeking to
manage their own risk through an alternative risk transfer structure.
Alternative risk transfer is broadly defined as the use of alternative insurance
mechanisms as a substitute for traditional risk-transfer products offered by
insurers. ACC is well positioned to meet current professional liability
insurance market needs due to our ability to manage risk and provide access to
increasingly unavailable reinsurance markets. We believe this venture is
strategically placed to capitalize on the emerging opportunities as demand for
these specialized services increases. Our first protected-cell captive is
expected to commence operations upon final regulatory approval, which is
anticipated in 2003. We are competing with established national brokerage and
specialty companies to provide both the risk transfer vehicle and services to
support and manage captives. We also compete on a regulatory level with other
jurisdictions and varying regulatory requirements in such domiciles as Hawaii,
Bermuda, the Caribbean and Europe.
PROVIDE PRACTICE MANAGEMENT SERVICES TO ASSIST PHYSICIANS IN THE PRACTICE OF
MEDICINE.
We offer practice management and financial services to physicians in
the District of Columbia, North Carolina and Virginia. These services are
heavily concentrated in North Carolina and Virginia and are utilized by more
than 1,000 physicians. Most of our clients are small and solo practitioners. We
compete most often with single source providers of individual services who
target small business. In our accounting, tax and financial services we also
compete with local and regional certified public accounting firms. In our
retirement plan administration we compete with large brokerage firms; while with
respect to our payroll services we compete with national companies.
GROWTH OPPORTUNITIES
Financial pressure on medical professional liability companies and
market contraction in the industry has occurred as companies that expanded
nationally or outside of their traditional market areas have sought to reduce or
in some cases eliminate their medical professional liability insurance business
on a going forward basis in order to regain financial stability. For several
years in the 1990s, many of these carriers engaged in soft-market pricing
tactics that generally resulted in lower premiums rates. Reduced profitability,
reductions in surplus and capacity constraints have led many medical
professional liability carriers to withdraw from, or limit new business in, one
or more markets.
We have maintained strict underwriting criteria and a disciplined
approach with respect to pricing our product and establishing reserves. We have
remained focused on growth in our existing markets as pricing conditions have
improved. Further industry contraction and a hard insurance market characterized
by increasing premium rates, lesser competition and a shortage of capital may
create additional opportunities for growth within our market area. We are
raising additional capital through this offering to better position ourselves to
pursue further growth and market opportunities that arise.
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In our market areas, The St. Paul Companies, a national writer and the
country's largest medical professional liability insurance carrier in 2001,
exited the market leaving behind an approximately 9% industry-wide market share.
This had a significant impact on our Delaware and Virginia markets as The St.
Paul Companies had 2001 market shares of 22% and 15%, respectively. In addition,
Fireman's Fund, another leading carrier also withdrew from the market. Princeton
Insurance Company and MIIX Group, Inc. also have restricted writing premium
policies to their domiciled states leaving former policyholders seeking coverage
in our key markets of Delaware, Maryland and Virginia. Furthermore, financial
difficulties have led to the insolvency of Doctors' Insurance Reciprocal (a
subsidiary of The Reciprocal Group of America), leaving more than 1,000
physicians needing coverage in Virginia.
Further industry contraction and a continued hard insurance market may
create additional opportunities for expansion within our market area. The
additional capital raised in this offering will better position us to pursue
continued growth and market opportunities that arise.
COMPETITION
The competitive environment in the medical professional liability
industry has changed significantly over the past several years. We do not expect
competition from the national companies, such as The St. Paul Companies and CNA
Insurance Companies, which have historically been our largest competitors. The
largest writers of medical professional liability insurance have recently
decided to retrench or exit the marketplace. As a result, the market now is
composed of smaller companies that offer only medical professional liability
insurance.
We expect to face competition from those companies that are focused on
narrow geographic markets. In addition, our competitors may have existing
relationships with insurance brokers or other distribution channels, which we
may be unable to supplant.
The following is a brief summary of our primary competitors in the
jurisdictions in which we operate.
DISTRICT OF COLUMBIA. We are one of a few remaining carriers currently
writing insurance policies in Washington, D.C. According to A.M. Best 2001 data,
the most recent available, we have 53% of the District of Columbia medical
professional liability market share. The Doctors Company Insurance Group holds a
9% market share in the District of Columbia. Professionals Advocate, a member of
The Medical Mutual Group, holds an 8% market share in the District of Columbia.
DELAWARE. As a result of the withdrawal of The St. Paul Companies and
Fireman's Fund from the Delaware market and the downgrade of Princeton Insurance
Company, we are expanding our market share among Delaware physicians. Companies
licensed to do business in the state include MLMIC Group and SCPIE Holdings,
Inc. which hold market shares of 13% and 7%, respectively.
MARYLAND. We also have been writing insurance policies in Maryland
since 1980. The departure of Princeton Insurance Company and MIIX Group, Inc.
from Maryland and the insolvency of PHICO Insurance Company has created
opportunities for growth in the state. Our primary competitor in Maryland is
Medical Mutual of Maryland, a physician-governed carrier that has approximately
49% of the market share.
VIRGINIA. Our primary competitors in the Virginia marketplace include
State Volunteer Mutual Insurance Company, Medical Mutual of North Carolina, The
Doctors Company Insurance Group, MAG Mutual Insurance Company, Professionals
Advocate, and ProAssurance Corporation. We have experienced significant growth
in the Virginia market in the last two years. In 2002, The St. Paul Companies,
Princeton Insurance Company and MIIX Group, Inc. exited this market creating
additional growth opportunities. In addition, in January 2003 the largest
underwriter of medical professional liability insurance in Virginia, Doctors
Insurance Reciprocal, entered into receivership, which we believe will present
additional growth opportunities. It is estimated that as a result of these
developments, approximately 30% of the physicians in Virginia will be seeking
alternative coverage.
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WEST VIRGINIA. We currently do not expect to expand our business and we
intend to maintain a limited exposure in West Virginia. Although few carriers
are currently writing new business in West Virginia, ProAssurance Corporation
has emerged as one of the state's primary markets for physicians.
INSURANCE ACTIVITIES
GENERAL. We provide medical professional liability insurance for
independent physicians who practice individually or in small groups. We
generally sell an insurance product with $1 million of coverage for any one
incident with a $3 million limit for incidents reported within the policy year.
Our policies are written on a claims made basis and include coverage for the
entire defense cost of the claim. These policies provide coverage for claims
arising from incidents that both occur and are reported to us while the policy
is in force. A claims-made policy is in force from the starting date of the
initial policy period and continues in force from that date through each
subsequent renewal. Policyholders can purchase up to $10 million dollars of
excess coverage that provides coverage for losses up to $11 million with an
annual limit of $13 million.
UNDERWRITING. Our policyholder services department is responsible for
the evaluation of applicants for medical professional liability coverage, the
issuance of policies and the establishment and implementation of underwriting
standards. In addition, this department provides information to the D.C.
Underwriting Committee and Virginia, West Virginia and Delaware Physician
Advisory Boards. These boards are comprised of physicians who represent a cross
discipline of medical specialties and provide valued input on local standards of
care as they relate to understanding medical risk and underwriting in each area.
We believe this combination of medical and insurance industry professionals
provides a competitive advantage in underwriting services when compared to our
competitors.
We adhere to consistent and strict underwriting procedures with respect
to the issuance of all physician medical professional liability policies. Each
applicant or member of an applicant medical group is required to complete and
sign a detailed application that provides a personal and professional history,
the type and nature of the applicant's professional practice, information
relating to specific practice procedures, hospital and professional affiliations
and a complete history of any prior claims and incidents.
We also perform a continuous process of underwriting policyholders at
renewal. Information concerning physicians with large losses, a high frequency
of claims or changing or unusual practice characteristics is developed through
renewal applications, claims history and risk management reports.
CLAIMS. Our claims department is responsible for claims investigation,
establishment of appropriate case reserves for losses and LAE, defense planning
and coordination, monitoring of attorneys engaged by us to defend an insured
against a claim and negotiation of the settlement or other disposition of a
claim.
We emphasize early evaluation and aggressive management of claims. When
a claim is reported, our claims professionals complete a preliminary evaluation
and set the initial reserve. After a full evaluation of the claim has been
completed, which generally occurs within seven months, the initial reserve may
be adjusted.
As of December 31, 2002, we had approximately 517 open cases with an
average of 65 cases being handled by each claims representative. Our claims
department consists of nine claims professionals and the level of education
ranges from certified paralegal to juris doctor. The current professional claims
staff has an average of 12 years of experience handling medical professional
liability cases. We limit the number of claims handled by each representative to
fewer than 90 cases. We believe this number is lower than other companies in the
medical professional liability insurance industry.
Our focus is to maintain a local presence in the jurisdictions where we
write coverage. We have obtained an understanding of the local medical and legal
climates where we write policies through on-site visits, interviews with local
law firms, discussions with policyholders and ongoing communications with local
law firms. We retain locally-based attorneys who specialize in medical
professional liability defense and share our philosophy to represent our
policyholders. We also retain the services of medical experts who are leaders in
their specialties and who bring credibility and expertise to the litigation
process.
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Our D.C. claims committee is composed of 9 physicians from various
specialties and meets monthly to provide evaluation and guidance on claims. The
multi-specialty approach of these physicians adds a unique perspective to the
claims handling process as it provides an opportunity to obtain the opinions of
several different specialists meeting to share their knowledge in the area of
liability evaluation and general peer review.
Our objective of local physician claims guidance is carried out in
Delaware, Virginia and West Virginia through advisory boards which serve as our
preliminary risk screening mechanism. These boards meet to review medical
incidents, assess claims and practice characteristics of current and prospective
policyholders, and bring to our attention all matters of special interest to
healthcare providers in their state.
RISK MANAGEMENT. The goal of our risk management staff is to assist our
policyholders in identifying potential areas of exposure to loss and to develop
strategies to reduce or eliminate such risk. Our risk management committee, a
group of nine physicians comprising various specialties, lend their individual
expertise in the development of risk management services tailored to the needs
of the individual policyholders to aid in this endeavor.
Our risk management staff presents educational seminars throughout the
year in locations convenient to our policyholders. Programs designed to address
the needs and interests of physicians are held throughout the District of
Columbia, Delaware, Maryland, Virginia and West Virginia, and cover a wide
variety of topics. Our staff is also available to present customized programs,
on an as requested basis, to individual physician groups and/or office staff.
Physicians unable to attend a live seminar are given the opportunity to
access our risk management services in other ways. Currently, three home study
courses are available and accessible either on-line or in booklet format. Those
physicians wanting a more involved approach to dealing with their risk
management concerns may participate in an office assessment conducted by one of
our risk management staff members.
CME accreditation through the MSDC, allows us to award Category 1 CME
credit to those physicians who attend a live seminar, successfully complete a
home study course, or undergo an office assessment. Participation in one of
these activities also entitles policyholders to a 5% policy premium discount.
MARKETING. Within the District of Columbia, we market directly to
individual physicians and other prospective policyholders through our sponsored
relationship with the MSDC, referrals by existing policyholders, advertisements
in medical journals, and direct solicitation to licensed physicians. We attract
new physicians by targeting medical residents and physicians just entering
medical practice. In addition, we participate as a sponsor and participant in
various medical group and hospital administrators' programs, medical association
and specialty society conventions and similar events. We believe that our
comprehensive approach, market knowledge and insurance expertise all play key
roles in the successful direct marketing of our medical professional liability
insurance in this jurisdiction.
Our primary marketing channel in Delaware, Maryland, Virginia and West
Virginia is our independent agent network. In 2002, our agent network totaled 32
agencies. These agents produced 83% of new premiums and 50% of renewing premiums
in 2002. Healthcare providers frequently utilize agents when they purchase
medical professional liability insurance. Therefore, we believe that developing
our broker relationships in these states is important to grow our market share.
We select agents who have demonstrated experience and stability in the medical
professional liability insurance industry. Brokers and agents receive market
rate commissions and other incentives averaging 9% based on the business they
produce and maintain. We strive to foster relationships with those brokers and
agents who are committed to promoting our products and are successful in
producing business for us. In 2002, we created the President's Gold Circle to
recognize agencies that contribute growth in excess of $1 million in premium.
Account information is communicated to all policyholders and agents
through our Policyholder Services Department. This department strives to
maintain a close relationship with the medical groups and individual
practitioners insured by us as well as the agents who make up our agency
network. To best serve clients and agents, we deploy client service
representatives who can answer most inquiries and, in other instances, provide
immediate access to an appropriate individual who has the expertise to provide a
response. For hospital-based programs and
8
large and mid-size medical groups, we have an account manager assigned to each
group who leads a team comprised of underwriting, risk management and claims
management representatives, each of whom may be contacted directly by the
policyholder for prompt response. Over the years, we believe this approach has
resulted in our high customer retention and satisfaction rate.
RISK SHARING ARRANGEMENTS. We have entered into agreements for risk
sharing programs for groups of physicians practicing at some hospitals in the
Washington, D.C. metropolitan area. The type of risk sharing arrangement offered
involves the initial funding of a portion of a premium being held to pay losses.
In this type of arrangement, we receive full gross premium, less applicable
credits otherwise granted. After quota share losses are determined, if loss
development is favorable, any premium in excess of the losses is returned.
Risk sharing arrangements help lower our risk associated with medical
care provided by the hospital's attending physicians. The arrangements also
establish a cost-effective source of professional liability coverage for
physicians participating in the program.
We reduced the level of risk share discount offered in our risk sharing
programs in 2003, and established an administrative management program for
intensive risk management services specific to these programs. This new
administrative program is provided on a fee basis and generates additional
non-risk bearing revenue.
RATES. We establish rates and rating classifications for physician and
medical group policyholders in the District of Columbia based on the losses and
LAE experience we have developed over the past 21 years. For our other market
areas, we rely on losses and LAE experience data from the medical professional
liability industry. We have various rating classifications based on practice
location, medical specialty and other factors. We utilize premium discounts,
including discounts for part-time practice, physicians just entering medical
practice, claim-free physicians and risk management participation. Generally,
total discounts granted to a policyholder do not exceed 25% of the base premium.
In addition, surcharges generally do not exceed 25% of the base premium.
Effective rates equal our base rate, less any discounts, plus any surcharges to
the policyholder.
Our rates are established based on previous loss experience, loss
adjustments expenses, anticipated policyholder discounts or surcharges, and
fixed and variable operating expenses. In recognition of the increase in the
severity of losses, the weighted average rate increase for our base premiums
was 29% effective January 1, 2003, and 15.8% effective January 1,2002.
RESERVES FOR LOSSES AND LAE. The determination of losses and LAE
reserves involves projection of ultimate losses through an actuarial analysis of
our claims history and other medical professional liability insurers, subject to
adjustments deemed appropriate by us due to changing circumstances. Included in
our claims history are losses and LAE paid by us in prior periods, and case
reserves for losses and LAE developed by our claims department as claims are
reported and investigated. Actuaries rely primarily on historical loss
experience in determining reserve levels on the assumption that historical loss
experience provides a good indication of future loss experience despite the
uncertainties in loss trends and the delays in reporting and settling claims. As
additional information becomes available, the estimates reflected in earlier
loss reserves might be revised. Any increase or decrease in the amount of
reserves, including reserves for insured events of prior years, would have a
corresponding adverse or beneficial effect on our results of operations for the
period in which the adjustments are made.
Our estimates of the ultimate cost of settling the claims are based on
numerous factors including, but not limited to:
o information then known;
o predictions of future events;
o estimates of future trends in claims frequency and severity;
o predictions of future inflation rates;
9
o judicial theories of liability;
o judicial interpretations of insurance contracts; and
o legislative activity.
The inherent uncertainty of establishing reserves is greater for
medical professional liability insurance because lengthy periods may elapse
before notice of a claim or a determination of liability. Medical professional
liability insurance policies are long tail policies, which means that claims and
expenses may be paid over a period of 10 or more years. This is longer than most
property and casualty claims. As a result of these long payment periods, trends
in medical professional liability policies may be slow to emerge, and we may not
promptly modify our underwriting practices and change our premium rates to
reflect underlying loss trends. Finally, changes in the practice of medicine and
healthcare delivery, like the emergence of new, larger medical groups that do
not have an established claims history, and additional claims resulting from
restrictions on treatment by managed care organizations, may not be fully
reflected in our underwriting and reserving practices.
Our independent actuary reviews our reserves for losses and LAE
periodically and prepare semi-annual reports that include a recommended level of
reserves. We consider this recommendation as well as other factors, like loss
retention levels and anticipated or estimated changes in frequency and severity
of claims, in establishing the amount of its reserves for losses and LAE. We
continually refine reserve estimates as experience develops and claims are
settled. Medical professional liability insurance is a line of business for
which the initial losses and LAE estimates may change significantly as a result
of events occurring long after the reporting of the claim. For example, losses
and LAE estimates may prove to be inadequate because of sudden severe inflation
or adverse judicial or legislative decisions.
Activity in the liability for unpaid losses and LAE is summarized as
follows:
YEAR ENDED DECEMBER 31,
---------------------------------------
2002 2001 2000
----------- ----------- -----------
(IN THOUSANDS)
Balance, beginning of year.................... $ 84,560 $ 81,134 $ 84,282
Less reinsurance recoverable on unpaid
claims...................................... 29,624 27,312 25,815
----------- ----------- -----------
Net balance................................... 54,936 53,822 58,467
----------- ----------- -----------
Incurred related to:
Current year................................ 24,063 23,056 17,829
Prior years................................. 2,766 (4,198) (5,883)
----------- ----------- -----------
Total incurred........................... 26,829 18,858 11,946
----------- ----------- -----------
Paid related to:
Current year................................ 1,491 1,599 917
Prior years................................. 18,664 16,145 15,674
----------- ----------- -----------
Total paid............................... 20,155 17,744 16,591
----------- ----------- -----------
Net balance................................... 61,610 54,936 53,822
Plus reinsurance recoverable on unpaid
claims...................................... 42,412 29,624 27,312
----------- ----------- -----------
Balance, end of year.......................... $ 104,022 $ 84,560 $ 81,134
=========== =========== ===========
The amounts shown above and the reserve for unpaid losses and LAE on
the chart located on the next page are presented in conformity with GAAP.
The following table reflects the development of reserves for unpaid
losses and LAE for the years indicated, at the end of that year and each
subsequent year. The first line shows the reserves, as originally reported at
the end of the stated year. Each calendar year-end reserve includes the
estimated unpaid liabilities for that coverage year and for all prior coverage
years. The section under the caption "Cumulative Liability Paid Through End of
Year" shows the cumulative amounts paid through each subsequent year on those
claims for which reserves were carried as of
10
each specific year-end. The section under the caption "Re-estimated Liability"
shows the original recorded reserve as adjusted as of the end of each subsequent
year to reflect the cumulative amounts paid and any other facts and
circumstances discovered during each year. The line "Redundancy (deficiency)"
sets forth the difference between the latest re-estimated liability and the
liability as originally established.
The table reflects the effects of all changes in amounts of prior
periods. For example, if a loss determined in 1996 to be $100,000 was first
reserved in 1992 at $150,000, the $50,000 favorable loss development, being the
original estimate minus the actual loss, would be included in the cumulative
redundancy in each of the years 1992 through 1996 shown below. This table
presents development data by calendar year and does not relate the data to the
year in which the claim was reported or the incident actually occurred.
Conditions and trends that have affected the development of these reserves in
the past will not necessarily recur in the future.
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
-------- -------- -------- -------- -------- -------- -------- -------- -------- --------
(IN THOUSANDS)
Reserve for Unpaid
Losses and LAE...... $ 86,727 $ 88,891 $ 77,647 $ 68,928 $ 68,101 $ 72,031 $ 84,595 $ 84,282 $ 81,134 $ 84,560
CUMULATIVE LIABILITY
PAID THROUGH END OF
YEAR:
One year later.... 18,103 19,786 21,667 16,084 14,916 9,667 13,865 20,813 20,828 21,995
Two years later... 35,861 39,293 34,829 27,634 22,237 21,810 32,778 38,078 34,253
Three years later. 51,163 47,348 43,237 32,409 29,135 36,310 42,381 44,696
Four years later.. 56,648 51,845 45,219 34,657 39,938 42,553 44,352
Five years later.. 59,473 52,984 45,682 41,578 44,297 43,581
Six years later... 60,335 53,208 51,450 43,753 44,724
Seven years later. 60,440 58,246 52,551 43,962
Eight years later. 63,395 59,086 52,737
Nine years later.. 64,113 59,108
Ten years later... 64,115
RE-ESTIMATED LIABILITY:
One year later.... $ 79,174 $ 70,640 $ 68,891 $ 62,028 $ 61,121 $ 71,419 $ 72,575 $ 77,373 $ 73,582 $ 86,534
Two years later... 65,174 63,248 66,439 53,429 62,097 64,980 66,733 71,489 73,654
Three years later. 62,521 65,422 60,858 55,883 58,169 61,336 60,752 68,439
Four years later.. 65,225 64,460 62,625 53,400 54,324 54,996 59,069
Five years later.. 67,681 66,275 61,077 50,744 50,977 53,952
Six years later... 69,765 64,877 58,220 47,946 50,666
Seven years later. 68,415 63,514 55,739 47,099
Eight years later. 67,740 61,262 55,156
Nine years later.. 65,671 60,160
Ten years later... 64,213
Redundancy (deficiency) $ 22,514 $ 28,731 $ 22,491 $ 21,829 $ 17,435 $ 18,079 $ 25,526 $ 15,843 $ 7,480 $ (1,974)
General office premises liability incurred losses have been less than
1% of medical professional liability incurred losses in the last five years. We
do not have reserves for pollution claims as our policies exclude liability for
pollution. We have never been presented with a pollution claim brought against
us or our insureds.
REINSURANCE. We follow customary industry practice by reinsuring a
portion of our risks and paying a reinsurance premium based upon the premiums
received on all policies subject to reinsurance. By reducing our potential
liability on individual risks, reinsurance protects us against large losses. We
have full underwriting authority for medical professional liability policies
including premises liability policies issued to physicians, surgeons, dentists
and professional corporations and partnerships. The 2003 reinsurance program
cedes to the reinsurers up to the maximum reinsurance policy limit those risks
insured by us in excess of our $1 million retention.
Although reinsurance does not discharge us from our primary liability
for the full amount of our insurance policies, it contractually obligates the
reinsurer to pay successful claims against us to the extent of risk ceded. Our
11
current reinsurance program is designed to provide coverage through separate
reinsurance treaties for two layers of risk.
LOSSES IN EXCESS OF $1,000,000 PER CLAIM UP TO $2,000,000. Effective
January 1, 2003 to January 1, 2006, the treaty, which reinsures us for losses in
excess of $1,000,000 per claim up to $2,000,000, is a fixed rate treaty. The
reinsurance premium is agreed upon as a fixed percentage of gross net earned
premium income. Gross net earned premium income is our gross premium earned net
of discounts for coverage limits up to $2,000,000.
Effective January 1, 2000 to January 1, 2003 our primary treaty
reinsures losses in excess of $500,000 per claim up to $1,000,000 and is a fixed
rate treaty. Our first excess cession treaty covers losses up to $1,000,000 in
excess of $1,000,000 per claim. For risks related to claims submitted January 1,
2000 to January 1, 2003, under this first excess cession treaty, we cede 100% of
our risks and premium.
For claims submitted for 1999 and prior years, we have a swing-rated
treaty which reinsures us for losses in excess of $500,000 per claim up to
$1,000,000, subject to an inner aggregate deductible of 5% of gross net earned
premium income. The ultimate reinsurance premium is subject to incurred losses
and ranges between a minimum premium of 4% of gross net earned premium income
and a maximum premium of 22.5% of gross net earned premium income. The inner
aggregate deductible means that we must pay losses within the reinsurance layer
until the inner aggregate deductible is satisfied. We paid a deposit premium
equal to 14% of gross net earned premium income that is ultimately increased or
decreased based on actual losses, subject to the minimum and maximum premium.
Following are the reinsurance premium terms for the swing-rated treaty for
calendar years 1999, 1998, 1997 and 1996.
PERCENTAGE OF GROSS NET EARNED
PREMIUM INCOME
----------------------------------------------
1999 1998 1997 1996
--------- -------- -------- --------
Deposit premium.............. 14.0% 14.0% 14.0% 14.0%
Maximum premium.............. 22.5 22.5 22.5 30.0
Minimum premium.............. 4.0 4.0 4.0 4.0
Inner aggregate deductible... 5.0 5.0 5.0 10.0
We have recorded, based on actuarial analysis, management's best
estimate of premium expense under the terms of the swing-rated treaty. In the
initial year of development for each coverage year, the premium was capped at
the maximum rate. We then adjust the liability and expense as losses develop in
subsequent years.
For claims related to 1999 and prior years, we cede 91% of its risks
and premium to the $1,000,000 excess layer treaty program and retain 9% of the
risks and premium. We receive a ceding commission from the reinsurers to cover
the costs associated with issuing this coverage.
LOSSES UP TO $9,000,000 IN EXCESS OF $2,000,000 PER CLAIM. An excess
cession layer treaty covers losses up to $9,000,000 in excess of $2,000,000
per claim. We cede 100% of our risks to the $2,000,000 excess layer treaty
program and retain none of the risks. The premium for the $2,000,000 excess
layer treaty is 100% of the premium collected from insureds for this coverage.
We receive a ceding commission from the reinsurers to cover the costs
associated with issuing this coverage.
Ceding commissions, which are 15% of gross ceded reinsurance premiums
in the excess layer and other treaties are deducted from other underwriting
expenses. Ceding commissions were $1.1 million, $644,000 and $357,000 in 2002,
2001 and 2000, respectively.
Additionally, our reinsurance program protects us from paying multiple
retentions for claims arising out of one event. In most situations we will
only pay one $1,000,000 retention regardless of the number of original
policies or claimants involved. We also have protection against losses in
excess of its existing reinsurance. We may provide higher policy limits
reinsured through facultative reinsurance programs. Facultative reinsurance
programs are reinsurance programs which are specifically designed for a
particular risk not covered by our existing reinsurance arrangements.
12
We determine the amount and scope of reinsurance coverage to purchase
each year based upon evaluation of the risks accepted, consultations with
reinsurance consultants and a review of market conditions, including the
availability and pricing of reinsurance. Our primary reinsurance treaty is
placed with non-affiliated reinsurers for a three-year term with annual
renegotiations. Our current three-year treaty expires January 1, 2006.
The reinsurance program is placed with a number of individual
reinsurance companies and Lloyds' syndicates to mitigate the concentrations of
reinsurance credit risk. Most of the reinsurers are European companies or
Lloyds' syndicates; there is a small percentage placed with a domestic
reinsurer. As of December 31, 2002, the amounts recoverable from reinsurers
attributable to Lloyds of London represents a total of 42 syndicates. We rely on
our wholly owned brokerage firm, National Capital Insurance Brokerage, Ltd.,
Willis Re, Inc. and a London-based intermediary to assist in the analysis of the
credit quality of reinsurers. We also require reinsurers that are not authorized
to do business in the District of Columbia to post a letter of credit to secure
reinsurance recoverable on paid losses.
The following table reflects reinsurance recoverable on paid and unpaid
losses at December 31, 2002 by reinsurer:
REINSURANCE A.M. BEST
REINSURER RECOVERABLE RATING
- ------------ -------------- ---------
(IN THOUSANDS)
Lloyd's of London syndicates................................. $ 25,846 A-
Hanover Rueckversicherungs - AG.............................. 4,091 A+
CNA Reinsurance LTD.......................................... 3,102 NR3
Unionamerica Insurance....................................... 1,948 C++
Transatlantic Reinsurance Company............................ 3,491 A++
AXA Reassurance.............................................. 2,622 A
Terra Nova Insurance Company LTD............................. 1,208 B++
Other reinsurers............................................. 923 A/A-
-------------
Total.................................................... $ 43,231
=============
The effect of reinsurance on premiums written and earned for the years
ended December 31, 2002, 2001 and 2000 is as follows:
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------------
2002 2001 2000
------------------------ ------------------------- ------------------------
WRITTEN EARNED WRITTEN EARNED WRITTEN EARNED
----------- ----------- ----------- ----------- ----------- -----------
(IN THOUSANDS)
Direct........... $ 51,799 $ 44,113 $ 34,459 $ 28,192 $ 22,727 $ 19,965
Ceded............ (18,003) (14,023) (10,542) (7,296) (5,874) (4,110)
----------- ----------- ----------- ----------- ----------- -----------
Net.............. $ 33,796 $ 30,090 $ 23,917 $ 20,896 $ 16,853 $ 15,855
=========== =========== =========== =========== =========== ===========
In late 1999, we introduced PracticeGard Plus, which provides errors
and omissions coverage on Medicare/Medicaid billing to health care providers.
This coverage provides up to $1 million in indemnity and expense protection and
only pays indemnity on civil fines and penalties. We reinsure 100% of this risk
and receive a ceding commission. We intend to evaluate our level of risk
acceptance based on how losses develop in the future. Since this coverage
protects a new risk based on recently passed national legislation, current loss
development is uncertain.
INVESTMENT PORTFOLIO. Investment income is an important component in
support of our operating results. We utilize external investment managers who
adhere to policies established and supervised by our investment
13
committee. Our current investment policy has placed primary emphasis on
investment grade, fixed income securities and seeks to maximize after-tax yields
while minimizing portfolio credit risk. Toward achieving this goal, our
investment guidelines, which set the parameters for our investment policy,
permit investments in tax-advantaged securities such as municipal bonds and
preferred stock. Our investment guidelines document is reviewed and updated as
needed but at least annually.
Deutsche Asset Management (DeAM), previously Zurich Scudder Insurance
Asset Management, was the external investment manager for our fixed income
securities including tax advantaged preferred stocks for the three years ended
December 31, 2002. Effective January 1, 2003, Standish Mellon Asset Management
became the external investment manager for our portfolio.
Each year we, along with our investment manager, have conducted
extensive financial analyses of the investment portfolio using stochastic models
to develop a risk appropriate investment portfolio given the business
environment and risks relevant to us. DeAM supplemented stochastic modeling with
the output from their independent investment research and strategy group to
develop a tailored investment approach for us. Analysis of our capital structure
and risk-bearing ability, valuation, peer comparisons, as well as proprietary
and third party modeling, determine the optimal level of tax advantaged
investments and provide strategy input.
DeAM used Dynamic Financial Analysis (DFA) a total company tool to test
our capital structure and business plan under numerous potential future economic
scenarios. The results of DFA, in the form of probability distributions on key
financial statistics, allow us to make risk informed decisions on the structure
of our investment portfolio as it relates to our business profile. DFA output
has been especially useful in setting portfolio policy regarding average
duration and optimizing potential equity exposure.
We have classified our investments as available for sale and report
them at fair value, with unrealized gains and losses excluded from net income
and reported, net of deferred taxes, as a component of stockholders' equity.
During periods of rising interest rates, as experienced during 1999, the fair
value of our investment portfolio will generally decline resulting in decreases
in our stockholders' equity. Conversely, during periods of falling interest
rates, as experienced during 2002, the fair value of our investment portfolio
will generally increase resulting in increases in our stockholders' equity.
14
The following table sets forth the fair value and the amortized cost of
our investment portfolio at the dates indicated.
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
COST GAINS LOSSES FAIR VALUE
------------ ----------- ---------- ------------
(IN THOUSANDS)
AT DECEMBER 31, 2002
U.S. Government and agencies...... $ 27,664 $ 292 $ (4) $ 27,952
Corporate......................... 32,680 1,567 (488) 33,759
Tax-exempt obligations............ 30,416 2,309 (21) 32,704
Asset and mortgage-backed securities 19,549 882 (150) 20,281
------------ ----------- ---------- ------------
110,309 5,050 (663) 114,696
Equity securities................. 5,561 150 (287) 5,424
------------ ----------- ---------- ------------
Total........................... $ 115,870 $ 5,200 $ (950) $ 120,120
============ =========== ========== ============
AT DECEMBER 31, 2001
U.S. Government and agencies...... $ 4,600 $ 161 $ -- $ 4,761
Corporate......................... 43,739 977 (1,311) 43,405
Tax-exempt obligations............ 19,304 634 (134) 19,804
Asset and mortgage-backed securities 28,073 695 (15) 28,753
------------ ----------- ---------- ------------
95,716 2,467 (1,460) 96,723
Equity securities................. 6,691 118 (407) 6,402
------------ ----------- ---------- ------------
Total........................... $ 102,407 $ 2,585 $ (1,867) $ 103,125
============ =========== ========== ============
AT DECEMBER 31, 2000
U.S. Government and agencies...... $ 13,037 $ 490 $ (14) $ 13,513
Corporate......................... 32,301 181 (1,763) 30,719
Tax-exempt obligations............ 15,379 631 -- 16,010
Asset and mortgage-backed securities 31,335 208 (303) 31,240
------------ ----------- ---------- ------------
92,052 1,510 (2,080) 91,482
Equity securities................. 7,121 45 (603) 6,563
------------ ----------- ---------- ------------
Total........................... $ 99,173 $ 1,555 $ (2,683) $ 98,045
============ =========== ========== ============
Our investment portfolio of fixed maturity securities consists
primarily of intermediate-term, investment-grade securities. Our investment
policy provides that all security purchases be limited to rated securities or
unrated securities approved by management on the recommendation of our
investment advisor. At December 31, 2002, we held 58 asset and mortgage-related
securities, most of which had a quality of Agency/AAA. Collectively, our
mortgage-related securities had an average yield to maturity of approximately
3.42%. Approximately 53.4% of the mortgage-related securities are pass-through
securities. We do not have any interest only or principal only pass-through
securities.
The following table contains the investment quality distribution of our
fixed maturity investments at December 31, 2002.
TYPE/RATINGS OF INVESTMENT PERCENTAGE
----------------------------------------- ----------
Treasury/Agency.......................... 34.4%
AAA...................................... 29.8
AA....................................... 9.8
A........................................ 19.7
BBB...................................... 6.1
B........................................ 0.2
-----
100.0%
=====
The ratings set forth in the table are based on ratings assigned by
Standard & Poor's Corporation and Moody's Investors Service, Inc.
The following table sets forth information concerning the maturities of
fixed maturity securities in our investment portfolio as of December 31, 2002,
by contractual maturity. Actual maturities will differ from contractual
maturities because borrowers may have the right to prepay obligations with or
without prepayment penalties.
15
AT DECEMBER 31, 2002
----------------------------------------
PERCENTAGE
AMORTIZED OF FAIR
COST FAIR VALUE VALUE
---------- ----------- -----------
(IN THOUSANDS)
Due in one year or less........... $ 742 $ 750 1%
Due after one year through five
years............................. 40,685 42,283 35
Due after five years through ten
years............................. 36,707 38,825 32
Due after ten years............... 12,626 12,557 10
---------- ---------- --------
90,760 94,415 78%
Equity securities................. 5,561 5,424 5
Asset and mortgage-backed securities 19,549 20,281 17
---------- ---------- --------
Total.......................... $ 115,870 $ 120,120 100%
========== ========== ========
Proceeds from bond maturities, sales and redemptions of available for
sale investments during the years 2002, 2001, and 2000 were $39.0 million, $22.0
million and $10.5 million, respectively. Gross gains of $1,437,000, $787,000 and
$16,000 and gross losses of $1,568,000, $1,065,000 and $21,000 were realized on
available for sale investment redemptions during 2002, 2001, and 2000,
respectively.
The average effective maturity and the average modified duration of the
securities in our fixed maturity portfolio as of December 31, 2002 and 2001, was
4.4 years and 4.7 years, respectively.
A.M. BEST COMPANY RATINGS
A.M. Best, which rates insurance companies based on factors of concern
to policyholders, rated NCRIC, Inc. and CML "A-" (Excellent). This is the fourth
highest rating of the 15 ratings that A.M. Best assigns. NCRIC, Inc. received
its initial rating of "B" in 1988, was upgraded to "B+" in 1989, to "B++" in
1996 and was upgraded to "A-" in 1997. A.M. Best reaffirmed the "A-" ratings of
NCRIC, Inc. and CML in 2002. A.M. Best reviews its ratings periodically.
A.M. Best's "A-" rating is assigned to those companies that in A.M.
Best's opinion have a strong ability to meet their obligations to policyholders
over a long period of time. In evaluating a company's financial and operating
performance, A.M. Best reviews:
o the company's profitability, leverage and liquidity;
o its book of business;
o the adequacy and soundness of its reinsurance;
o the quality and estimated market value of its assets;
o the adequacy of its reserves and surplus;
o its capital structure;
o the experience and competence of its management; and
o its market presence.
RISK FACTORS
OUR RESULTS MAY BE AFFECTED IF ACTUAL INSURED LOSSES DIFFER FROM OUR LOSS
RESERVES
Significant periods of time often elapse between the occurrence of an
insured loss, the reporting of the loss to us and our payment of that loss. To
recognize liabilities for unpaid losses, we establish reserves as balance sheet
liabilities representing estimates of amounts needed to pay reported losses and
the related loss adjustment expenses. The process of estimating loss reserves is
a difficult and complex exercise involving many variables and subjective
16
judgments. We regularly review our reserving techniques and our overall level of
reserves. As part of the reserving process, we review historical data and
consider the impact of various factors such as:
o Trends in claim frequency and severity;
o Changes in operations;
o Emerging economic and social trends;
o Inflation; and
o Changes in the regulatory and litigation environments.
This process assumes that past experience, adjusted for the effects of
current developments and anticipated trends, is an appropriate, but not
necessarily accurate, basis for predicting future events. There is no precise
method for evaluating the impact of any specific factor on the adequacy of
reserves, and actual results are likely to differ from original estimates. To
the extent loss reserves prove to be inadequate in the future, we would need to
increase our loss reserves and incur a charge to earnings in the period the
reserves are increased, which could have a material adverse impact on our
financial condition and results of operations. Although we intend to estimate
conservatively our future payments relating to losses incurred, there can be no
assurance that currently established reserves will prove adequate in light of
subsequent actual experience. Our ultimate liability will be known only after
all claims are closed, which is likely to be several years into the future.
The loss reserves of our insurance subsidiaries also may be affected by
court decisions that expand liability on our policies after they have been
priced and issued. In addition, a significant jury award, or series of awards,
against one or more of our insureds could require us to pay large sums of money
in excess of our reserved amounts. Our policy to litigate aggressively claims
against our insureds that we consider unwarranted or claims where settlement
resolution cannot be achieved may increase the risk that we may be required to
make such payments.
THE CHANGE IN OUR REINSURANCE PROGRAM EFFECTIVE JANUARY 1, 2003 EXPOSES US TO
LARGER LOSSES
We increased our retention of loss from $500,000 to $1,000,000 for each
and every loss. As a result, we expect a higher level of losses and are subject
to a higher level of loss volatility since it is more difficult to predict the
number and timing of losses in excess of $500,000.
We purchase limited reinsurance for protection against more than one
insured being involved in a single incident so that we are exposed to no more
than one retention of loss in a single medical incident. The limited protection
may not be adequate if there are several policyholders involved in a single
medical incident and a jury returns an extraordinarily high verdict against all
defendants.
OUR EARNINGS MAY NOT INCREASE AS A RESULT OF GROWTH IN NEW BUSINESS IN STATES IN
WHICH WE HAVE LIMITED OPERATING EXPERIENCE
In recent years we have expanded our business in Delaware, Virginia and
West Virginia. We utilize publicly available information on loss experience of
our competitors when we price our products in states when we can not rely on our
own experience. The use of competitor data does not provide the same level of
confidence as when we can use our own historical data from territories we have
been operating in for many years, i.e., the District of Columbia and Maryland.
The increase in uncertainty is a result of us not knowing the effectiveness of
our underwriting and claims adjudication process in the new territory.
OUR REVENUES AND INCOME MAY FLUCTUATE WITH INTEREST RATES AND INVESTMENT RESULTS
We generally rely on the positive performance of our investment
portfolio to offset insurance losses and to contribute to our profitability. As
our investment portfolio is primarily comprised of interest-earning assets,
prevailing economic conditions, particularly changes in market interest rates,
may significantly affect our operating
17
results. Changes in interest rates also can affect the value of our
interest-earning assets, which are principally comprised of fixed rate
investment securities. Generally, the value of fixed rate investment securities
fluctuates inversely with changes in interest rates. Interest rate fluctuation
could adversely affect our GAAP stockholders' equity, total comprehensive income
and/or cash flows. As of December 31, 2002, $119 million of our $120 million
investment portfolio was invested in fixed maturities. Unrealized pre-tax net
investment gains on investments in fixed maturities were $4.2 million and
$700,000 as of December 31, 2002, and 2001, respectively.
In accordance with our investment policies, the duration of our
investment portfolio is intended to be similar to our expectation for the
duration of our loss reserves. Changes in the actual duration of our loss
reserves from our expectations may affect our results. Our investment portfolio,
however, is subject to prepayment risk primarily due to our investments in
mortgage-backed and other asset-backed securities. An investment has prepayment
risk when there is a risk that the timing of cash flows that result from the
repayment of principal might occur earlier than anticipated because of declining
interest rates or later than anticipated because of rising interest rates. We
are subject to reinvestment risk to the extent that we are not able to reinvest
prepayments at rates comparable to the rates on the maturing investments.
REGULATORY CHANGES COULD HAVE A MATERIAL IMPACT ON OUR OPERATIONS
Our insurance businesses are subject to extensive regulation by state
insurance authorities in each state in which we operate. Regulation is intended
for the benefit of policyholders rather than stockholders. In addition to the
amount of dividends and other payments that can be made by our insurance
subsidiaries, these regulatory authorities have broad administrative and
supervisory power relating to:
o rates charged to insurance customers;
o licensing requirements;
o trade practices;
o capital and surplus requirements; and
o investment practices.
These regulations may impede or impose burdensome conditions on rate
increases or other actions that we may want to take to enhance our operating
results, and could affect our ability to pay dividends on our common stock. In
addition, we may incur significant costs in the course of complying with
regulatory requirements. Most states also regulate insurance holding companies
like us in a variety of matters such as acquisitions, changes of control, and
the terms of affiliated transactions. Future legislative or regulatory changes
may adversely affect our business operations.
THE UNPREDICTABILITY OF COURT DECISIONS COULD HAVE A MATERIAL IMPACT ON OUR
FINANCIAL RESULTS
The financial position of our insurance subsidiaries may also be
affected by court decisions that expand insurance coverage beyond the intention
of the insurer at the time it originally issued an insurance policy or by a
judiciary's decision to accelerate the resolution of claims through an expedited
court calendar, thereby reducing the amount of investment income we would have
earned on related reserves. In addition, a significant jury award, or series of
awards, against one or more of our insureds could require us to pay large sums
of money in excess of our reserve amount.
OUR REVENUES AND OPERATING PERFORMANCE MAY FLUCTUATE WITH INSURANCE BUSINESS
CYCLES
Growth in premiums written in the medical professional liability
industry have fluctuated significantly over the past 10 years as a result of,
among other factors, changing premium rates. The cyclical pattern of such
fluctuation has been generally consistent with similar patterns for the broader
property and casualty insurance industry, due in part to the participation in
the medical professional liability industry of insurers and reinsurers
18
which also participate in many other lines of property and casualty insurance
and reinsurance. Historically, the financial performance of the property and
casualty insurance industry has tended to fluctuate in cyclical patterns
characterized by periods of greater competition in pricing and underwriting
terms and conditions, a soft insurance market, followed by period of capital
shortage, lesser competition and increasing premium rates, a hard insurance
market.
For several years in the 1990s, the medical professional liability
industry faced a soft insurance market that generally resulted in lower premium
rates. The medical professional liability industry is currently in a hard
insurance market cycle. We cannot predict whether, or the extent to which, the
recent increase in premium rates will continue.
OUR GEOGRAPHIC CONCENTRATION TIES OUR PERFORMANCE TO THE ECONOMIC, REGULATORY
AND DEMOGRAPHIC CONDITIONS OF THE MID-ATLANTIC REGION
Our revenues and profitability are subject to prevailing economic,
regulatory, demographic and other conditions in the region in which we write
insurance. We write our medical professional liability insurance in the District
of Columbia, Delaware, Maryland, Virginia and West Virginia. Because our
business is concentrated in a limited number of states, we may be exposed to
adverse developments that may have a greater affect on us than the risks of
doing business in a broader market area.
OUR BUSINESS COULD BE ADVERSELY AFFECTED IF WE ARE NOT ABLE TO ATTRACT AND
RETAIN INDEPENDENT AGENTS
We depend in part on the services of independent agents in marketing
our insurance products. We face competition from other insurance companies for
the services and allegiance of our independent agents. While we believe that the
commissions and services we provide to our agents are competitive with other
insurers, changes in commissions, services or products offered by our
competitors could make it more difficult for us to attract and retain
independent agents to sell our insurance products.
IF WE ARE UNABLE TO MAINTAIN A FAVORABLE A.M. BEST COMPANY RATING, IT MAY BE
MORE DIFFICULT FOR US TO WRITE NEW BUSINESS OR RENEW OUR EXISTING BUSINESS
A.M. Best assesses and rates the financial strength and claims-paying
ability of insurers based upon its criteria. The financial strength ratings
assigned by A.M. Best to insurance companies represent independent opinions of
financial strength and ability to meet policyholder obligations, and are not
directed toward the protection of investors. A.M. Best ratings are not ratings
of securities or recommendations to buy, hold or sell any security and are not
applicable to the securities being offered by this prospectus.
Our insurance subsidiaries hold a financial strength rating of "A-"
(Excellent) by A.M. Best. An "A-" rating is A.M. Best's fourth highest rating
out of its 15 possible rating classifications. Financial strength ratings are
used by agents and customers as an important means of assessing the financial
strength and quality of insurers. If our financial position deteriorates, we may
not maintain our favorable rating. A downgrade or withdrawal of any such rating
could severely limit or prevent us from writing desirable business or renewing
our existing business.
IF MARKET CONDITIONS CAUSE REINSURANCE TO BE MORE COSTLY OR UNAVAILABLE, WE MAY
BE REQUIRED TO BEAR INCREASED RISKS OR REDUCE THE LEVEL OF OUR UNDERWRITING
COMMITMENTS
As part of our overall risk and capacity management strategy, we
purchase reinsurance for significant amounts of risk underwritten by our
insurance company subsidiaries. Market conditions beyond our control determine
the availability and cost of the reinsurance we purchase, which may affect the
level of our business and profitability. We may be unable to maintain our
current reinsurance coverage or to obtain other reinsurance coverage in adequate
amounts and at favorable rates. If we are unable to renew our expiring
reinsurance coverage or to obtain new reinsurance coverage, either our net
exposure risk would increase or, if we are unwilling to bear an increase in net
risk exposures, we would have to reduce the amount of risk we underwrite.
19
WE CANNOT GUARANTEE THAT OUR REINSURERS WILL PAY IN A TIMELY FASHION, IF AT ALL,
AND, AS A RESULT, WE COULD EXPERIENCE LOSSES
We transfer some of the risk we have assumed to reinsurance companies
in exchange for part of the premium we receive in connection with the risk.
Although reinsurance coverage makes the reinsurer liable to us to the extent the
risk is transferred, it does not relieve us of our liability to our
policyholders. If our reinsurers fail to pay us or fail to pay us on a timely
basis, our financial results would be adversely affected.
THE GUARANTY FUND ASSESSMENTS THAT WE ARE REQUIRED TO PAY TO STATE GUARANTY
ASSOCIATIONS MAY INCREASE AND OUR RESULTS OF OPERATIONS AND FINANCIAL CONDITIONS
COULD BE ADVERSELY AFFECTED
Each jurisdiction in which we operate has separate insurance guaranty
fund laws requiring property and casualty insurance companies doing business
within their respective jurisdictions to be members of their guaranty
associations. These associations are organized to pay covered claims (as defined
and limited by the various guaranty association statutes) under insurance
policies issued by insolvent insurance companies. Most guaranty association laws
enable the associations to make assessments against member insurers to obtain
funds to pay covered claims after a member insurer becomes insolvent. These
associations levy assessments (up to prescribed limits) on all member insurers
in a particular state on the basis of the proportionate share of the premiums
written by member insurers in the covered lines of business in that state.
Maximum assessments permitted by law in any one year generally vary between 1%
and 2% of annual premiums written by a member in that state.
Property and casualty guaranty fund assessments incurred by us totaled
$355,000 and $243,000 for 2002 and 2001, respectively. Our policy is to accrue
the guaranty fund assessments when notified and in accordance with GAAP. We
cannot reasonably estimate liabilities for insolvency because of the lack of
adequate financial data on insolvent companies.
OUR BUSINESS COULD BE ADVERSELY AFFECTED BY THE LOSS OF ONE OR MORE EMPLOYEES
We are heavily dependent upon our senior management and the loss of
services of our senior executives could adversely affect our business. Our
success has been, and will continue to be, dependent on our ability to retain
the services or our existing key employees and to attract and retain additional
qualified personnel in the future. The loss of services of any of our senior
management or any other key employee, or the inability to identify, hire and
retain other highly qualified personnel in the future, could adversely affect
the quality and profitability of our business operations. While we have
employment agreements with our senior executives, we currently do not maintain
key employee insurance with respect to any of our employees.
WE ARE A HOLDING COMPANY AND ARE DEPENDENT ON DIVIDENDS AND OTHER PAYMENTS FROM
OUR OPERATING SUBSIDIARIES, WHICH ARE SUBJECT TO DIVIDEND RESTRICTIONS
We are a holding company whose principal source of funds is cash
dividends and other permitted payments from our operating subsidiaries,
principally NCRIC, Inc. If our subsidiaries are unable to make payments to us,
or are able to pay only limited amounts, we may be unable to pay dividends or
make payments on our indebtedness. The payment of dividends by these operating
subsidiaries is subject to restrictions set forth in the insurance laws and
regulations of the District of Columbia. See "Insurance Regulatory Matters -
Regulation of Dividends and Other Payments From Our Operating Subsidiaries."
OUR PROFITABILITY COULD BE ADVERSELY AFFECTED BY MARKET DRIVEN CHANGES IN THE
HEALTHCARE INDUSTRY
Managed care has negatively impacted physicians' ability to efficiently
conduct a traditional medical practice. As a result, many physicians have joined
or affiliated with managed care organizations, healthcare delivery systems or
practice management organizations. The impact of managed care and tightened
Medicare/Medicaid reimbursement may impact a physician's decision to continue
purchasing consulting and practice management services, shifting a purchase
decision from quality and value to price only. Larger healthcare systems
generally retain more risk by accepting higher deductibles and self-insured
retentions or form their own captive insurance companies. This consolidation has
reduced the role of the individual physician and the small medical group, which
20
represents a significant portion of our policyholders, in the medical
professional liability insurance purchasing decision.
RISING INTEREST RATES WOULD INCREASE INTEREST COSTS ASSOCIATED WITH THE TRUST
PREFERRED SECURITIES ISSUED BY US
In December 2002 we issued $15,000,000 of trust preferred securities.
The trust preferred securities bear interest at a rate of 400 basis points over
the three-month London Interbank Offered Rate (LIBOR) and adjust quarterly
subject to a maximum interest rate of 12.5%. Our interest expense will increase
if the three-month LIBOR increases.
STATE INSURANCE REGULATORS MAY NOT BE WILLING TO APPROVE OUR CAPTIVE INSURANCE
OPERATIONS
While higher pricing and reduced availability of traditional insurance
sources have created favorable market conditions for this risk financing
vehicle, state insurance regulatory may not be willing to approve our captive
insurance operations or market conditions may change.
A DECLINE IN REVENUE AND PROFITABILITY IN NCRIC MSO COULD RESULT IN A SFAS 142
IMPAIRMENT CHARGE
NCRIC MSO's revenue is subject to clients facing declining
reimbursement for their services. Therefore, in an effort to pare their own
expenses to improve their net profitability, our clients may not order new
services, or may diminish and possibly cease using our existing services. This
could result in a reduction of revenue to us, thereby reducing net income and
resulting in an impairment charge relative to the goodwill ascribed to NCRIC
MSO.
INSURANCE COMPANY REGULATION
GENERAL. NCRIC, Inc. is subject to supervision and regulation by the
District of Columbia Department of Insurance and Securities Regulation and
insurance authorities in Maryland. CML is subject to supervision and regulation
by the District of Columbia Department of Insurance and Securities Regulation
and insurance authorities in Delaware, Maryland, Virginia and West Virginia.
This regulation is concerned primarily with the protection of policyholders'
interests rather than stockholders' interests. Accordingly, decisions of
insurance authorities made with a view to protecting the interests of
policyholders may reduce our profitability. The extent of regulation varies by
jurisdiction, but this regulation usually includes:
o regulating premium rates and policy forms;
o setting minimum capital and surplus requirements;
o regulating guaranty fund assessments;
o licensing of insurers and agents;
o approving accounting methods and methods of setting statutory
loss and expense reserves;
o underwriting limitations;
o the terms upon which a full demutualization transaction can
occur;
o restrictions on transactions with affiliates;
o setting requirements for and limiting the types and amounts of
investments;
o establishing requirements for the filing of annual statements and
other financial reports;
o conducting periodic statutory examinations of the affairs of
insurance companies;
o approving proposed changes of control; and
o limiting the amounts of dividends that may be paid without prior
regulatory approval.
21
Without the approval of the District of Columbia Commissioner of
Insurance and Securities, neither NCRIC, Inc. nor CML may diversify out of the
healthcare and insurance fields through an acquisition or otherwise.
NAIC CODIFICATION. The Codification of Statutory Accounting Principles
was developed by the NAIC as a comprehensive guide to statutory accounting
intended to provide analysts and other users with more comparable financial
statements. Much of statutory accounting is based on GAAP with modifications
that emphasize the concepts of conservatism and solvency inherent in statutory
accounting. The Codification was mandated by the NAIC to be effective as of
January 1, 2001. Statutory accounting changes resulting from this guidance do
not have an effect on the financial statements prepared in accordance with GAAP,
which have been included with this document and filed with the Securities and
Exchange Commission.
GUARANTY FUND LAWS. Each of the jurisdictions in which we do business
has guaranty fund laws under which insurers doing business in those
jurisdictions can be assessed on the basis of premiums written by the insurer in
that jurisdiction in order to fund policyholder liabilities of insolvent
insurance companies. Under these laws in general, an insurer is subject to
assessment, depending upon its market share of a given line of business, to
assist in the payment of policyholder claims against insolvent insurers. In the
District of Columbia, insurance companies are assessed in three categories: (i)
automobile; (ii) workers' compensation; and (iii) all other. An insurance
company licensed to do business in the District of Columbia is only liable to
pay an assessment if another insurance company within its category becomes
insolvent. We are in the "all other" category.
Significant assessments could have a material adverse effect on our
financial condition or results of operations. While we will not necessarily be
liable to pay assessments each year, the insolvency of another insurance company
within our category of insurance could result in the maximum assessment being
imposed on us over several years. We cannot predict the amount of future
assessments. During 2001 we received an assessment due to the insolvency of
Reliance Insurance Company. Recently PHICO Insurance Company went into
receivership; this resulted in guaranty fund assessments to us of $355,000 in
2002. In each of the jurisdictions in which we conduct business, the amount of
the assessment cannot exceed 2% of our direct premiums written per year in that
jurisdiction.
EXAMINATION OF INSURANCE COMPANIES. Every insurance company is subject
to a periodic financial examination under the authority of the insurance
commissioner of its jurisdiction of domicile. Any other jurisdiction interested
in participating in a periodic examination may do so. The last completed
periodic financial examination of NCRIC, Inc., based on December 31, 1999
financial statements, was completed and a final report was issued on February
20, 2001. The final report positively assessed our financial stability and
operating procedures. The last periodic financial examination report of CML,
based on December 31, 2001 financial statements, was issued on August 30, 2002.
The periodic financial examination positively assessed CML's financial stability
and operating procedures.
APPROVAL OF RATES AND POLICIES. The District of Columbia, Virginia and
Delaware require us to submit rates to regulators on a file and use basis. Under
a file and use system, an insurer is permitted to bring new rates and policies
into effect on filing them with the appropriate regulator, subject to the right
of the regulator to object within a fixed period of days. In each of the
District of Columbia, Delaware and Virginia, rating plans, policies and
endorsements must be submitted to the regulators 30 days prior to their
effectiveness. Maryland and West Virginia are prior approval jurisdictions. The
possibility exists that we may be unable to implement desired rates, policies,
endorsements, forms or manuals if these items are not approved by an insurance
commissioner.
MEDICAL PROFESSIONAL LIABILITY REPORTS. We principally write medical
professional liability insurance, as such, requirements are placed upon us to
report detailed information with regard to settlements or judgments against our
insureds. In addition, we are required to report to the D.C. Department of
Insurance and Securities Regulation or state regulatory agencies or the National
Practitioners Data Bank payments, claims closed without payments and actions
like terminations or premiums surcharges with respect to our insureds. Penalties
may attach if we fail to report to either the Department of Insurance and
Securities Regulation or an applicable state insurance regulator or the National
Practitioners Data Bank.
CHANGES IN GOVERNMENT REGULATION OF THE HEALTHCARE SYSTEM. Federal and
state governments recently have considered reforming the healthcare system.
While some of the proposals could be beneficial to our business the
22
adoption of others could adversely affect us. Public discussion of a broad range
of healthcare reform measures will likely continue in the future. These measures
that would affect our medical professional liability insurance business and our
practice management products and services include, but are not limited to:
o spending limits;
o price controls;
o limits on increases in insurance premiums;
o limits on the liability of doctors and hospitals for tort claims;
and
o changes in the healthcare insurance system.
INSURANCE HOLDING COMPANY REGULATION. The Commissioner of Insurance and
Securities of the District of Columbia has jurisdiction over NCRIC Group as an
insurance holding company. We are required to file information periodically with
the Department of Insurance and Securities Regulation, including information
relating to its capital structure, ownership, financial condition and general
business operations. In the District of Columbia, transactions by an insurance
company with affiliates involving loans, sales, purchases, exchanges, extensions
of credit, investments, guarantees or other contingent obligations, which within
any 12-month period aggregate at least 3% of the insurance company's admitted
assets or 25% of its surplus, whichever is greater, require prior approval.
Prior approval is also required for all management agreements, service contracts
and cost-sharing arrangements between an insurance company and its affiliates.
Some reinsurance agreements or modifications also require prior approval.
District of Columbia insurance laws also provide that the acquisition
or change of control of a domestic insurance company or of any person or entity
that controls an insurance company cannot be consummated without prior
regulatory approval. A change in control is generally defined as the acquisition
of 10% or more of the issued and outstanding shares of an insurance holding
company.
REGULATION OF DIVIDENDS FROM INSURANCE SUBSIDIARIES. The District of
Columbia insurance laws limit the ability of NCRIC, Inc. to pay dividends.
Without prior notice to and approval of the Commissioner of Insurance and
Securities, NCRIC, Inc. may not declare or pay an extraordinary dividend, which
is defined as any dividend or distribution of cash or other property whose fair
market value, together with other dividends or distributions made, within the
preceding 12 months exceeds the lesser of (1) 10% of NCRIC, Inc.'s statutory
surplus as of the preceding December 31, or (2) NCRIC, Inc.'s statutory net
income excluding realized capital gains, for the 12-month period ending the
preceding December 31, but does not include pro rata distributions of any class
of our own securities. In calculating net income under the test, NCRIC, Inc. may
carry forward net income, excluding realized capital gains, from the previous
two calendar years that has not been paid out as dividends. District of Columbia
law gives the Commissioner of Insurance and Securities broad discretion to
disapprove dividends even if the dividends are within the above-described
limits. The District of Columbia permits the payment of dividends only out of
unassigned statutory surplus. Using these criteria, as of December 31, 2002,
because of the statutory loss from operations in 2002, NCRIC, Inc. would be able
to pay approximately $1.2 million in dividends without regulatory approval.
CML's dividend restrictions are identical to NCRIC, Inc.'s. Based on its 2002
operating results, CML would be able to pay approximately $500,000 in dividends
without prior approval of the Commissioner of Insurance and Securities.
OUR COMPANIES
We were organized in December 1998 in connection with the
reorganization of National Capital Reciprocal Insurance Company into a mutual
holding company structure. NCRIC, A Mutual Holding Company owns all of the
outstanding shares of NCRIC Holdings, Inc., which prior to July 29, 1999, owned
all of the outstanding shares of NCRIC Group, Inc. Effective July 29, 1999, we
completed an initial public offering and issued 2,220,000 shares of the common
stock to NCRIC Holdings, Inc. and 1,480,000 shares of the common stock in a
subscription and community offering at a price of $7.00 per share.
23
NCRIC, INC. NCRIC, Inc., a wholly owned subsidiary of NCRIC Group,
Inc., is the former National Capital Reciprocal Insurance Company incorporated
in 1980 and is a licensed property and casualty insurance company domiciled in
the District of Columbia. NCRIC, Inc. provides professional liability insurance
to physicians in the District of Columbia. Policyholders of NCRIC, Inc. are also
members of NCRIC, A Mutual Holding Company.
COMMONWEALTH MEDICAL LIABILITY INSURANCE COMPANY. Commonwealth Medical
Liability Insurance Company, a wholly owned subsidiary of NCRIC, Inc.
incorporated in 1989, is a licensed property and casualty insurance company
domiciled in the District of Columbia. CML provides professional liability
insurance to physicians in Delaware, Maryland, Virginia and West Virginia and is
licensed to conduct business in Tennessee.
NATIONAL CAPITAL INSURANCE BROKERAGE, LTD. National Capital Insurance
Brokerage, Ltd., a wholly owned subsidiary of NCRIC, Inc. incorporated in 1984,
is a licensed insurance brokerage that provides reinsurance brokerage services
to NCRIC, Inc., CML and protected cells within American Captive Corporation.
AMERICAN CAPTIVE CORPORATION. ACC, a wholly owned subsidiary of NCRIC,
Inc. incorporated in 2001, is an organization that is authorized to form
independent protected cells to accommodate affinity groups seeking to manage
their own risk through an alternative risk transfer structure. In February 2002,
NCRIC announced formation of a joint venture with Risk Services, LLC, to form
National Capital Risk Services to offer a complete range of alternative risk
transfer services to healthcare clients throughout the nation.
NCRIC INSURANCE AGENCY, INC. NCRIC Insurance Agency, Inc., a wholly
owned subsidiary of NCRIC, Inc. incorporated in 1989, is a licensed insurance
agency that has strategic partnerships with experienced brokers to provide life,
health, disability, and long term care coverage to our clients. These products
are not underwritten by us.
NCRIC MSO, INC. NCRIC MSO, Inc., a wholly owned subsidiary of NCRIC
Group, Inc. incorporated in 1998, provides practice management services and
employee benefits services to physicians and dentists in the District of
Columbia, North Carolina and Virginia.
NCRIC PHYSICIANS ORGANIZATION, INC. NCRIC PO, Inc., a wholly owned
subsidiary of NCRIC MSO, Inc., was organized in 1994 to provide a network for
managed care contracting with third party payers. NCRIC PO no longer contracts
as a network and effective October 1, 2004 will reach the end of a settlement
agreement with a former health plan partner, American Medical Services. In this
settlement, AMS currently pays $6,000 per month to NCRIC PO.
NCRIC STATUTORY TRUST I. NCRIC Statutory Trust I was formed in 2002 as
a special purpose entity for the purpose of issuing trust preferred securities.
PERSONNEL
As of December 31, 2002, we employed 108 full-time persons. None of our
employees are represented by a collective bargaining unit and we consider our
relationship with our employees to be good.
WEBSITE DISCLOSURE OF CERTAIN REGULATORY FILINGS
We maintain a website at www.ncric.com and make available, free of
charge, through this website our annual reports on Form 10-K, quarterly reports
on Form 10-Q, current reports on Form 8-K, and all amendments to those reports
as soon as reasonably practicable after such material is electronically filed
with or furnished to the Securities and Exchange Commission ("SEC"). These forms
can be accessed within the Investor Relations portion of the website by clicking
on "SEC Filing."
24
ITEM 2. PROPERTIES
Our principal business operations are conducted from our leased
executive offices, which consist of approximately 18,156 square feet located at
1115 30th Street, N.W., Washington, D.C. 20007. The term of the lease is for 10
years, commencing April 15, 1998 and expiring April 30, 2008. Annual rental is
$421,476 with 2% annual increases for the first five years of the term. In the
sixth year of the term, the rent increases by $2.00 per rentable square foot and
remains at that level for the balance of the term. We have the option to renew
the lease for one additional term of five years. We also maintain office space
in Lynchburg and Richmond, Virginia as well as in Greensboro, North Carolina.
The following table sets forth the facilities leased by us at December
31, 2002, along with the applicable lease expiration date:
LEASE
PROPERTY LOCATION EXPIRATION DATE
- ----------------------------------------------------------- -----------------
OFFICES:
1115 30th Street, N.W., Washington, D.C. 20007 April 30, 2008
424 Graves Mill Road, Lynchburg, Virginia 24502 October 31, 2007
4701 Cox Road, Richmond, Virginia 23060 April 30, 2004
600 Green Valley Road, Greensboro, North Carolina 27408 March 31, 2008
ITEM 3. LEGAL PROCEEDINGS
We are from time to time named as a defendant in various lawsuits
incidental to our insurance business. In many of these actions, plaintiffs
assert claims for exemplary and punitive damages. We vigorously defend
these actions, unless a reasonable settlement appears appropriate. We
believe that these legal proceedings in the aggregate are not to our
consolidated financial condition.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
We do not currently pay cash dividends on our common stock and we do
not intend to pay any cash dividends in the foreseeable future. As a holding
company with no direct operations, we rely on cash dividends and other permitted
payments from our insurance subsidiaries to pay any future dividends to our
stockholders. State insurance laws and restrictions under our credit agreement
limit the amounts that may be paid to us by our insurance subsidiaries See
"Business of NCRIC Group - Insurance company regulation."
Our common stock is traded on the Nasdaq SmallCap Market under the
symbol "NCRI." The following table sets forth the high and low closing
prices for shares of our common stock for the periods indicated. As of
December 31, 2002, there were 1,488,399 publicly held shares of our common
stock issued and outstanding held by approximately 333 shareholders of
record.
YEAR ENDED DECEMBER 31, 2002 HIGH LOW
- ---------------------------- ----------- ----------
Fourth quarter $11.000 $9.870
Third quarter 11.200 9.940
Second quarter 11.625 10.350
First quarter 12.980 10.430
25
YEAR ENDED DECEMBER 31, 2001 HIGH LOW
- ---------------------------- ----------- ----------
Fourth quarter $12.000 $9.750
Third quarter 12.120 9.900
Second quarter 14.000 8.000
First quarter 9.750 8.250
Set forth below is information as of December 31, 2002 as to any equity
compensation plans of the Company that provides for the award of equity
securities or the grant of options, warrants or rights to purchase equity
securities of the Company.
====================================================================================================================
NUMBER OF SECURITIES TO
BE ISSUED UPON EXERCISE NUMBER OF SECURITIES
EQUITY COMPENSATION PLANS OF OUTSTANDING OPTIONS WEIGHTED AVERAGE REMAINING AVAILABLE FOR
APPROVED BY SHAREHOLDERS AND RIGHTS EXERCISE PRICE ISSUANCE UNDER PLAN
- --------------------------------------------------------------------------------------------------------------------
Stock Option Plan............. 74,000 $7.00 0
- --------------------------------------------------------------------------------------------------------------------
Stock Award Plan.............. 24,667(1) Not Applicable 0
- --------------------------------------------------------------------------------------------------------------------
EQUITY COMPENSATION PLANS NOT None None None
APPROVED BY SHAREHOLDERS
- --------------------------------------------------------------------------------------------------------------------
Total.................... 98,667 $7.00 0
====================================================================================================================
_______________________________
(1) Represents shares that have been granted but have not yet vested.
26
ITEM 6. SELECTED FINANCIAL DATA
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following tables set forth selected consolidated historical
financial and other data of NCRIC Group for the years and at the dates indicated
is derived in part from and should be read together with the audited
consolidated financial statements and notes thereto of NCRIC Group, as well as
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" which are included elsewhere in this Form 10-K.
AT OR FOR THE YEAR ENDED DECEMBER 31,
----------------------------------------------------------------
2002 2001 2000 1999 1998
----------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
STATEMENT OF OPERATIONS DATA:
Gross premiums written................. $ 51,799 $ 34,459 $ 22,727 $ 21,353 $ 19,214
========== ========== ========== ========== ==========
Net premiums written after renewal credits $ 33,804 $ 23,624 $ 15,610 $ 16,188 $ 21,014
========== ========== ========== ========== ==========
Net premiums earned.................... $ 30,098 $ 20,603 $ 14,611 $ 14,666 $ 18,459
Net investment income.................. 5,915 6,136 6,407 6,089 5,996
Net realized investment (losses) gains. (131) (278) (5) (71) 159
Practice management and related income. 5,800 6,156 5,317 4,576 78
Other income........................... 1,013 602 470 373 357
---------- ---------- ---------- ---------- ----------
Total revenues...................... 42,695 33,219 26,800 25,633 25,049
Losses and loss adjustment expenses.... 26,829 18,858 11,946 12,867 15,677
Underwriting expenses.................. 8,168 4,877 3,591 3,010 3,858
Practice management and related expenses 5,811 6,063 4,970 4,845 378
Other expenses......................... 1,467 1,245 1,237 1,439 1,510
---------- ---------- ---------- ---------- ----------
Total expenses...................... 42,275 31,043 21,744 22,161 21,423
Income before income taxes............. 420 2,176 5,056 3,472 3,626
Income tax provision (benefit)......... (322) 597 1,561 967 1,079
---------- ---------- ---------- ---------- ----------
Net income............................. $ 742 $ 1,579 $ 3,495 $ 2,505 $ 2,547
========== ========== ========== ========== ==========
BALANCE SHEET DATA:
Invested assets........................ $ 120,120 $ 103,125 $ 98,045 $ 95,092 $ 96,348
Total assets........................... 202,687 161,002 145,864 140,947 134,326
Reserves for losses and loss
adjustment expenses.................. 104,022 84,560 81,134 84,282 84,595
Total liabilities.................... 154,870(1) 116,548 104,415 105,152 103,315
Total stockholders' equity............. 47,817 44,454 41,449 35,795 31,011
SELECTED GAAP UNDERWRITING RATIOS(2):
Losses and loss adjustment expenses ratio 89.1% 91.5% 81.7% 87.7% 84.9%
Underwriting expense ratio............. 27.2% 23.7% 24.6% 20.5% 20.9%
Combined ratio after renewal credits... 116.3% 115.2% 106.3% 108.2% 105.8%
SELECTED STATUTORY DATA:
Losses and loss adjustment expenses ratio 89.2% 90.0% 75.3% 80.8% 82.5%
Underwriting expense ratio............. 22.6% 21.8% 19.7% 15.7% 15.1%
Combined ratio......................... 111.8% 111.8% 95.0% 96.5% 97.6%
Operating ratio(3)..................... 92.4% 84.3% 63.6% 66.7% 82.5%
Ratio of net premiums written
to policyholders' surplus............ 0.83 0.77 0.60 0.63 1.24
Policyholders' surplus................. $ 44,269 $ 32,759 $ 29,764 $ 29,212 $ 24,116
__________________________
(1) Includes $15.0 million of Trust Preferred Securities.
(2) In calculating GAAP underwriting ratios, renewal credits are considered a
reduction of premium income. In addition, earned premium is used to
calculate the GAAP loss and underwriting expense ratios. For statutory
purposes, renewal credits are not considered a reduction in premium income,
and written premiums are used to calculate the statutory underwriting
expense ratio. Due to these differences in treatment, GAAP combined ratios
can differ significantly from statutory combined ratios. See Note 11 to the
consolidated financial statements for a discussion of the differences
between statutory and GAAP reporting.
(3) The operating ratio is the statutory combined ratio offset by the benefit
of investment income expressed as a percentage of premiums earned.
27
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
The financial statements and data presented herein have been prepared
in accordance with generally accepted accounting principles (GAAP) unless
otherwise noted. GAAP differs from statutory accounting practices used by
regulatory authorities in their oversight responsibilities of insurance
companies. See Note 11 to the consolidated financial statements for a
reconciliation of our net income and equity between GAAP and statutory
accounting bases.
CRITICAL ACCOUNTING POLICIES
Following is a discussion of key financial concepts and of those
accounting policies which we believe to be the most critical. That is, these are
most important to the portrayal of our financial condition and results of
operations and they require management's most complex judgments, including the
need to make estimates about the effect of insurance losses and other matters
that are inherently uncertain.
PREMIUM INCOME. Gross premiums written represent the amounts billed to
policyholders. Gross premiums written are reduced by premiums ceded to
reinsurers and renewal credits in determining net premiums written. Premiums
ceded to reinsurers represent the cost to us of reducing our exposure to medical
professional liability losses by transferring agreed upon insurance risks to
reinsurers through a reinsurance contract or treaty. Renewal credits are
reductions in premium billings to renewing policyholders. Net premiums written
a