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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
------------------
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from________________ to______________________
COMMISSION FILE NUMBER: 1-6732
DANIELSON HOLDING CORPORATION
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 95-6021257
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
TWO NORTH RIVERSIDE PLAZA, SUITE 600
CHICAGO, IL 60606
(Address of Principal Executive Offices) (Zip Code)
(312) 466-4030
(Registrant's Telephone Number, Including Area Code)
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check mark whether registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
CLASS OUTSTANDING AT NOVEMBER 7, 2003
-----
Common Stock, $0.10 par value 30,693,896 shares
DANIELSON HOLDING CORPORATION
FORM 10-Q QUARTERLY REPORT
FOR THE QUARTER ENDED SEPTEMBER 30, 2003
PART I
Item 1. Financial Statements
Condensed Consolidated Statements of Operations for the Quarter and Nine Months Ended
September 30, 2003 and September 27, 2002 (Unaudited)..................................................... 1
Condensed Consolidated Statements of Financial Position as of September 30, 2003 (Unaudited)
and December 27, 2002..................................................................................... 2-3
Condensed Consolidated Statement of Stockholders' Equity for the Nine Months Ended
September 30, 2003 (Unaudited)............................................................................ 4
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended
September 30, 2003 and September 27, 2002 (Unaudited)..................................................... 5
Notes to Condensed Consolidated Financial Statements (Unaudited).......................................... 6-11
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................................................ 12-18
Item 3. Quantitative and Qualitative Disclosures about Market Risk........................................... 19
Item 4. Controls and Procedures.............................................................................. 19
PART II. OTHER INFORMATION
Item 3. Defaults Upon Senior Securities...................................................................... 20
Item 6. Exhibits and Reports on Form 8-K..................................................................... 20
OTHER
Signatures.................................................................................................... 21
Exhibit 10.1 Corporate Services Agreement, Dated as of September 2, 2003 Between Equity Group Investments, LLC
and Danielson Holding Corporation............................................................................. 22
Exhibit 31.1 CEO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002...................... 27
Exhibit 31.2 CFO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002...................... 28
Exhibit 32.1 CEO Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002..................................................... 29
Exhibit 32.2 CFO Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002..................................................... 30
DANIELSON HOLDING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
QUARTERS ENDED NINE MONTHS ENDED
---------------------------- ----------------------------
SEPTEMBER 30, SEPTEMBER 27, SEPTEMBER 30, SEPTEMBER 27,
2003 2002 2003 2002
------------- ------------- ------------- -------------
INSURANCE SERVICES:
OPERATING REVENUES:
Gross Premiums Earned $ 9,170 $ 15,299 $ 30,918 $ 54,631
Ceded Premiums Earned (774) (1,266) (2,314) (4,010)
--------- --------- --------- ---------
Net Premiums Earned 8,396 14,033 28,604 50,621
Net Investment Income 909 1,367 3,107 4,306
Net Realized Investment (Losses) Gains (438) (2,630) (142) 1,346
Other Income 42 146 253 512
--------- --------- --------- ---------
Total Insurance Services' Operating Revenues 8,909 12,916 31,822 56,785
--------- --------- --------- ---------
OPERATING EXPENSES:
Gross Losses and Loss Adjustment Expenses 8,752 13,510 33,486 46,443
Ceded Losses and Loss Adjustment Expenses (623) (1,890) (3,798) (3,424)
--------- --------- --------- ---------
Net Losses and Loss Adjustment Expenses 8,129 11,620 29,688 43,019
Policy Acquisitions Expenses 1,987 2,776 6,719 11,139
General and Administrative 1,466 1,481 3,772 4,389
--------- --------- --------- ---------
Total Insurance Services' Operating Expenses 11,582 15,877 40,179 58,547
--------- --------- --------- ---------
Operating Loss from Insurance Services (2,673) (2,961) (8,357) (1,762)
--------- --------- --------- ---------
MARINE SERVICES:
OPERATING REVENUES:
Marine Revenues - 195,011 - 255,948
--------- --------- --------- ---------
OPERATING EXPENSES:
Materials, Supplies and Other - 83,984 - 108,757
Rent - 14,179 - 19,108
Labor and Fringe Benefits - 47,155 - 60,819
Fuel - 20,183 - 27,161
Depreciation and Amortization - 17,872 - 24,004
Taxes, Other than Income - 6,589 - 8,938
--------- --------- --------- ---------
Total Marine Sevices' Operating Expenses - 189,962 - 248,787
--------- --------- --------- ---------
Operating Income from Marine Services - 5,049 - 7,161
--------- --------- --------- ---------
PARENT COMPANY:
Net Investment Income 70 - 296 352
Net Realized Investment Gains - - 687 100
Investment Income Related to ACL Debt - - - 8,402
Administrative Expenses (943) (1,782) (3,400) (3,720)
--------- --------- --------- ---------
Operating (Loss) Income from Parent Company (873) (1,782) (2,417) 5,134
--------- --------- --------- ---------
Operating (Loss) Income (3,546) 306 (10,774) 10,533
OTHER (INCOME) EXPENSES:
Interest Expense - 16,070 - 21,059
Other, Net - 2,343 - 3,132
Equity in Net (Income) Loss of Unconsolidated Marine
Services Subsidiaries (104) - 54,993 -
--------- --------- --------- ---------
Total Other (Income) Expenses (104) 18,413 54,993 24,191
--------- --------- --------- ---------
Loss before Provision for Income Taxes (3,442) (18,107) (65,767) (13,658)
Income Tax Provision - 178 12 340
--------- --------- --------- ---------
Net Loss $ (3,442) $ (18,285) $ (65,779) $ (13,998)
========= ========= ========= =========
LOSS PER SHARE OF COMMON STOCK - BASIC $ (0.11) $ (0.59) $ (2.13) $ (0.57)
========= ========= ========= =========
LOSS PER SHARE OF COMMON STOCK - DILUTED $ (0.11) $ (0.59) $ (2.13) $ (0.57)
========= ========= ========= =========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
1
DANIELSON HOLDING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
(UNAUDITED)
SEPTEMBER 30, DECEMBER 27,
2003 2002
------------- ------------
ASSETS
PARENT COMPANY'S AND INSURANCE SERVICES' ASSETS:
Cash and Cash Equivalents $ 10,449 $ 9,939
Investments:
Fixed Maturities, Available for Sale at Fair Value (Cost: $73,873 and $83,399) 75,801 88,499
Equity Securities, Available for Sale at Fair Value (Cost: $3,344 and $6,620) 4,124 5,247
Accrued Investment Income 850 1,143
Premium and Consulting Receivables, Net of
Allowances of $432 and $1,623 4,741 7,638
Reinsurance Recoverable on Paid Losses, Net of
Allowances of $770 and $780 1,689 3,124
Reinsurance Recoverable on Unpaid Losses, Net of
Allowances of $251 and $206 21,282 22,057
Ceded Unearned Premiums 1,078 1,091
Properties, Net 248 382
Investments in Unconsolidated Marine Services Subsidiaries 4,309 -
Other Assets 3,795 4,370
---------- ----------
Total Parent Company's and Insurance Services' Assets 128,366 143,490
---------- ----------
PREVIOUSLY CONSOLIDATED MARINE SERVICES SUBSIDIARIES' ASSETS:
CURRENT ASSETS
Cash and Cash Equivalents - 15,244
Restricted Cash - 6,328
Accounts Receivable - 50,630
Accounts Receivable - Related Parties - 6,571
Materials and Supplies - 34,774
Other Current Assets - 27,342
---------- ----------
Total Current Assets - 140,889
PROPERTIES - Net - 654,193
PENSION ASSETS - 20,806
INVESTMENT IN UABL - 48,627
OTHER ASSETS - 26,893
---------- ----------
Total Previously Consolidated Marine Services Subsidiaries' Assets - 891,408
---------- ----------
Total Assets $ 128,366 $1,034,898
========== ==========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
2
DANIELSON HOLDING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
(DOLLARS IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
(UNAUDITED)
SEPTEMBER 30, DECEMBER 27,
2003 2002
------------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
PARENT COMPANY'S AND INSURANCE SERVICES' LIABILITIES:
Unpaid Losses and Loss Adjustment Expenses $ 87,789 $ 101,249
Unearned Premiums 8,824 10,622
Other Liabilities 5,467 3,874
----------- -----------
Total Parent Company's and Insurance Services' Liabilities 102,080 115,745
----------- -----------
PREVIOUSLY CONSOLIDATED MARINE SERVICES SUBSIDIARIES' LIABILITIES:
CURRENT LIABILITIES
Accounts Payable - 36,437
Accrued Payroll and Fringe Benefits - 16,686
Deferred Revenue - 10,835
Accrued Claims and Insurance Premiums - 26,695
Accrued Interest - 16,761
Short-Term Debt - 43,873
Current Portion of Long-Term Debt - 590,731
Other Current Liabilities - 38,768
----------- -----------
Total Current Liabilities - 780,786
LONG-TERM DEBT - 8,468
PENSION LIABILITY - 15,072
OTHER LONG-TERM LIABILITIES - 37,467
----------- -----------
Total Previously Consolidated Marine Services Subsidiaries' Liabilities - 841,793
----------- -----------
Total Liabilities 102,080 957,538
----------- -----------
STOCKHOLDERS' EQUITY:
Preferred Stock ($0.10 par value; authorized 10,000,000 shares; none issued
and outstanding) - -
Common Stock ($0.10 par value; authorized 150,000,000 shares; issued 3,076 3,083
30,764,887 and 30,828,093 shares; outstanding 30,754,091 and 30,817,297
shares)
Additional Paid-in Capital 117,063 117,148
Unearned Compensation (637) (1,132)
Accumulated Other Comprehensive Income (Loss) 1,838 (12,464)
Accumulated Deficit (94,988) (29,209)
Treasury Stock (Cost of 10,796 shares) (66) (66)
----------- -----------
Total Stockholders' Equity 26,286 77,360
----------- -----------
Total Liabilities and Stockholders' Equity $ 128,366 $ 1,034,898
=========== ===========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
3
DANIELSON HOLDING CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003
(UNAUDITED)
(DOLLARS IN THOUSANDS)
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
-------------------- PAID-IN UNEARNED COMPREHENSIVE ACCUMULATED
SHARES AMOUNT CAPITAL COMPENSATION (LOSS) INCOME DEFICIT
---------- ------- -------------- ----------- -------------- -----------
Balance at December 27, 2002 30,828,093 $ 3,083 $ 117,148 $ (1,132) $ (12,464) $ (29,209)
Stock Option Compensation Expense 73
Amortization of Unearned Compensation 303
Adjustment of Unearned Compensation for
Terminated Employees (63,206) (7) (158) 158
Employee payments for stock issued under
restrictive stock plan 34
Comprehensive Loss:
Net Loss (65,779)
Net Unrealized Loss on Available for
Sale Securities (273)
Reclassification Adjustment for Net
Realized Gain on Available for Sale
Securities Included in Net Loss (747)
Net Reclassification Adjustment for
Amount Included in Equity in
Net Loss of Unconsolidated
Marine Services Subsidiaries 15,322
--------- ----------
Total Comprehensive Income (Loss) 14,302 (65,779)
---------- ------- ---------- -------- --------- ----------
Balance at September 30, 2003 30,764,887 $ 3,076 $ 117,063 $ (637) $ 1,838 $ (94,988)
========== ======= ========== ======== ========= ==========
TREASURY STOCK
-------------------
SHARES AMOUNT TOTAL
--------- ------- ---------
Balance at December 27, 2002 10,796 $ (66) $ 77,360
Stock Option Compensation Expense 73
Amortization of Unearned Compensation 303
Adjustment of Unearned Compensation for
Terminated Employees (7)
Employee payments for stock issued under
restrictive stock plan 34
Comprehensive Loss:
Net Loss (65,779)
Net Unrealized Loss on Available for
Sale Securities (273)
Reclassification Adjustment for Net
Realized Gain on Available for Sale
Securities Included in Net Loss (747)
Net Reclassification Adjustment for
Amount Included in Equity in
Net Loss of Unconsolidated
Marine Services Subsidiaries 15,322
---------
Total Comprehensive Income (Loss) (51,477)
------ ------- ---------
Balance at September 30, 2003 10,796 $ (66) $ 26,286
====== ======= =========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
4
DANIELSON HOLDING CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(DOLLARS IN THOUSANDS)
NINE MONTHS ENDED
----------------------------
SEPTEMBER 30, SEPTEMBER 27,
2003 2002
------------- -------------
OPERATING ACTIVITIES
Net Loss $(65,779) $(13,998)
Adjustments to Reconcile Net (Loss) Income to Net Cash Used in
Operating Activities:
Net Gain on Investment Securities (2,436) -
Other Than Temporary Decline in Fair Value of Investment Securities 1,891 -
Gain Related to ACL Debt Contributed in Acquisition of ACL - (12,478)
Other Operating Activities - 5,346
Depreciation and Amortization 163 24,004
Stock Option and Unearned Compensation Expense 389 779
Interest Accretion and Amortization 140 1,997
Equity in Net Loss of Unconsolidated Marine Services Subsidiaries 54,993 -
Change in Operating Assets and Liabilities:
Accounts Receivable - (11,501)
Materials and Supplies - (5,794)
Accrued Interest - 9,355
Accrued Investment Income 293 363
Premium and Consulting Receivables 2,897 4,660
Reinsurance Recoverable on Paid Losses 1,435 (276)
Reinsurance Recoverable on Unpaid Losses 775 1,046
Ceded Unearned Premiums 13 -
Other Assets 1,756 312
Unpaid Losses and Loss Adjustment Expenses (13,460) (9,150)
Unearned Premiums (1,798) (6,878)
Other Liabilities 1,488 (1,089)
Other, Net 27 3,265
-------- --------
Net Cash Used in Operating Activities (17,213) (10,037)
-------- --------
INVESTING ACTIVITIES
Property Additions (29) (8,573)
Collection of Notes Receivable from Affiliate 6,036 -
Proceeds from the Sale of Investment Securities 5,053 1,388
Proceeds from the Sale of Property and Equipment - 2,604
Distribution Received from Unconsolidated Marine Services Subsidiary 58 -
Purchase of ACL, GMS, and Vessel Leasing - (42,665)
Purchase of Investment Securities (26,483) (5,783)
Net Change in Restricted Cash - (104)
Proceeds from Fixed Maturities, Matured or Called 34,673 -
Other Investing Activities (1,599) 4,447
-------- --------
Net Cash Provided by (Used in) Investing Activities 17,709 (48,686)
-------- --------
FINANCING ACTIVITIES
Cash Received for Restricted Stock 14 -
Short-Term Borrowings, Net - 5,349
Long-Term Debt Issued - 3,206
Long-Term Debt Repaid - (9,616)
Cash Overdrafts - (1,442)
Proceeds from Rights Offering, Net of Expenses - 42,228
Proceeds from Exercise of Warrants for Common Stock - 9,500
Proceeds from Exercise of Options for Common Stock - 1,088
Other Financing - (928)
-------- --------
Net Cash Provided by Financing Activities 14 49,385
-------- --------
Net Increase (Decrease) in Cash and Cash Equivalents 510 (9,338)
Cash and Cash Equivalents at Beginning of Period 9,939 39,693
-------- --------
Cash and Cash Equivalents at End of Period $ 10,449 $ 30,355
======== ========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
5
DANIELSON HOLDING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
(DOLLARS IN THOUSANDS)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
of Danielson Holding Corporation ("DHC") have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not include all of the information
and footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals, except for
the other than temporary impairment charges discussed in Notes 3 and 9)
considered necessary for a fair presentation have been included. For further
information, refer to the consolidated financial statements and footnotes
thereto included in DHC's Annual Report on Form 10-K for the year ended December
27, 2002. Operating results for the interim period are not necessarily
indicative of the results that may be expected for the fiscal year ending
December 2003.
DHC is a holding company whose subsidiaries consist principally of
insurance operations in the western United States, primarily California, and
American Commercial Lines LLC ("ACL"), an integrated marine transportation and
service company. ACL provides barge transportation and ancillary services
throughout the inland United States and Gulf Intracoastal Waterway Systems,
which include the Mississippi, Ohio and Illinois Rivers and their tributaries
and the Intracoastal canals that parallel the Gulf Coast. In addition, ACL
provides barge transportation services on the Orinoco River in Venezuela and the
Parana/Paraguay River System serving Argentina, Brazil, Paraguay, Uruguay and
Bolivia.
DHC holds all of the voting stock of Danielson Indemnity Company
("DIND"). DIND owns 100% of the common stock of National American Insurance
Company of California, DHC's principal operating insurance subsidiary, which
owns 100% of the common stock of Valor Insurance Company, Incorporated
("Valor"). National American Insurance Company of California and its
subsidiaries are collectively referred to herein as "NAICC". The operations of
NAICC are in property and casualty insurance. NAICC writes non-standard private
passenger insurance in the western United States, primarily California.
Effective July 7, 2003, NAICC discontinued writing new commercial automobile
insurance.
As more fully disclosed in Note 2, ACL, which was acquired on May 29,
2002, and certain of its subsidiaries filed a petition on January 31, 2003 with
the U.S. Bankruptcy Court for the Southern District of Indiana, New Albany
Division to reorganize under Chapter 11 of the U.S. Bankruptcy Code. As a result
of this filing, while DHC continues to exercise significant influence over the
operating and financial policies of ACL, it no longer maintains control of the
activities of ACL. Accordingly, DHC no longer includes ACL and its subsidiaries
as consolidated subsidiaries in DHC's financial statements. DHC's investments in
these entities are presented using the equity method effective as of the
beginning of the year ending December 31, 2003. DHC has direct ownership
interest in two 50% owned subsidiaries of ACL. It owns 5.4% of the remaining 50%
interest in Global Materials Services, LLC ("GMS") and the remaining 50%
interest in Vessel Leasing, LLC ("Vessel Leasing"). These direct ownership
interests are also reported using the equity method of accounting since DHC has
the ability to exercise significant influence over the operating and financial
policies of these companies. Under the equity method of accounting, DHC reports
its share of ACL's, GMS's, and Vessel Leasing's ("Investees") income and loss
for the period based on its ownership interest. DHC, GMS and Vessel Leasing are
not guarantors of ACL's debt nor are they liable for any of ACL's liabilities.
ACL, GMS and Vessel Leasing are together referenced to herein as
"Marine Services". DHC's insurance subsidiaries are referenced to herein as
"Insurance Services".
The December 27, 2002 consolidated financial statements include the
accounts of DHC, ACL and its consolidated subsidiaries, GMS, Vessel Leasing and
DIND and its consolidated subsidiaries. The September 30, 2003 consolidated
financial statements include the accounts of DHC and DIND and its consolidated
subsidiaries. All significant intercompany accounts and transactions have been
eliminated. As previously mentioned, DHC's investments in ACL and its
consolidated subsidiaries, GMS and Vessel Leasing, are included in the nine
months ended September 30, 2003 consolidated financial statements using the
equity method of accounting.
The accompanying consolidated statement of financial position at
December 27, 2002 has been derived from the audited consolidated financial
statements at that date but does not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. Amounts on this statement
have been reclassified to conform to the September 30, 2003 presentation.
6
DANIELSON HOLDING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
(DOLLARS IN THOUSANDS)
NOTE 1. BASIS OF PRESENTATION (CONTINUED)
Through June 30, 2002, DHC's reporting periods were calendar month ends
while ACL's reporting periods ended on the last Friday of the month. In the
third quarter of 2002, DHC conformed its reporting periods to ACL's. Effective
with the quarter ended June 30, 2003, DHC is again reporting on a calendar month
end basis to conform with DIND and its consolidated subsidiaries' reporting
periods. The transition period activity is included in the consolidated
financial statements for the quarter ended June 30, 2003 and is considered
immaterial.
NOTE 2. CHAPTER 11 FILING
During 2002 and 2003, ACL experienced a decline in barging rates,
reduced shipping volumes and excess barging capacity during a period of slow
economic growth and a global economic recession. Due to these factors, ACL's
revenues and earnings did not meet expectations and ACL's liquidity was
significantly impaired and debt covenant violations occurred. As a result, ACL
was unable to meet its financial obligations as they became due. On January 31,
2003 (the "Petition Date"), prior to the commencement of business, ACL filed a
petition with the U.S. Bankruptcy Court for the Southern District of Indiana,
New Albany Division (the "Bankruptcy Court") to reorganize under Chapter 11 of
the U.S. Bankruptcy Code (the "Bankruptcy Code" or "Chapter 11") under case
number 03-90305. Included in the filing are ACL, ACL's direct parent (American
Commercial Lines Holdings LLC), American Commercial Barge Line LLC, Jeffboat
LLC, Louisiana Dock Company LLC and ten other U.S. subsidiaries of ACL
(collectively with ACL, the "Debtors") under case numbers 03-90306 through
03-90319. These cases are jointly administered for procedural purposes before
the Bankruptcy Court under case number 03-90305. The Chapter 11 petitions do not
cover any of ACL's foreign subsidiaries or certain of its U.S. subsidiaries.
Neither DHC, GMS nor Vessel Leasing filed for Chapter 11 protection and are not
a party to any proceedings under the Bankruptcy Code.
ACL and the other Debtors are continuing to operate their businesses as
debtors-in-possession under the jurisdiction of the Bankruptcy Court and in
accordance with the applicable provisions of the Bankruptcy Code and orders of
the Bankruptcy Court. As debtors-in-possession, the Debtors may not engage in
transactions outside of the ordinary course of business without approval, after
notice and hearing, of the Bankruptcy Court. As part of the Chapter 11 cases,
the Debtors intend to develop and propose for confirmation pursuant to Chapter
11 a plan of reorganization that will restructure the operations and liabilities
of the Debtors to the extent necessary to result in the continuing viability of
ACL. A filing date for such a plan has not been determined; however, the Debtors
had the exclusive right to file a plan of reorganization at any time during the
120 day period following January 31, 2003. The Debtors filed motions to extend
such time period, and the deadline was again extended on September 19, 2003
until December 29, 2003. If the exclusive filing period were to expire, other
parties, such as ACL creditors, would have the right to propose alternative
plans of reorganization.
The Debtors have entered into a debtor-in-possession Credit Facility
(the "DIP Credit Facility") that provides up to $75 million of financing. As of
September 30, 2003, the Debtors have drawn $50 million, which was used to retire
ACL's Pre-Petition Receivables Facility and which continues to be used to fund
the Debtors' day-to-day cash needs. The DIP Credit Facility is secured by the
same and additional assets that collateralized ACL's Senior Credit Facilities
and Pre-Petition Receivables Facility, and bears interest, at ACL's option, at
LIBOR plus four percent or an Alternate Base Rate (as defined in the DIP Credit
Facility) plus three percent. There are also certain interest rates in the event
of a default under the facility.
The DIP Credit Facility also contains certain restrictive covenants
that, among other things, restrict the Debtors' ability to incur additional
indebtedness or guarantee the obligations of others. ACL is also required to
maintain minimum cumulative EBITDA, as defined in the DIP Credit Facility, and
limit its capital expenditures.
Certain events of default under ACL's Senior Credit Facilities, Senior
Notes, PIK Notes and Old Senior Notes occurred subsequent to December 27, 2002,
the effects of which are stayed pursuant to certain provisions of the Bankruptcy
Code.
7
DANIELSON HOLDING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
(DOLLARS IN THOUSANDS)
NOTE 2. CHAPTER 11 FILING (CONTINUED)
Under Chapter 11, actions by creditors to collect claims in existence
at the filing date are stayed or deferred absent specific Bankruptcy Court
authorization to pay such pre-petition claims while the Debtors continue to
manage their businesses as debtors-in-possession and act to develop a plan of
reorganization for the purpose of emerging from these proceedings. A claims bar
date of December 5, 2003 has been established. The Debtors have received
approval from the Bankruptcy Court to pay or otherwise honor certain of their
pre-petition obligations, including but not limited to employee wages and
certain employee benefits, certain critical vendor payments, certain insurance
and claim obligations and certain tax obligations as a plan of reorganization is
developed.
The amount of the claims to be filed against the Debtors by their
creditors could be significantly different than the amount of the liabilities
recorded by the Debtors. The Debtors also have numerous executory contracts and
other agreements that could be assumed or rejected during the Chapter 11
proceedings. Parties affected by these rejections may file claims with the
Bankruptcy Court in accordance with the reorganization process. Under these
Chapter 11 proceedings, the rights of and ultimate payments to pre-petition
creditors, rejection damage claimants and ACL's equity investor may be
substantially altered. This could result in claims being liquidated in the
Chapter 11 proceedings at less (possibly substantially less) than 100% of their
face value, and the membership interests of ACL's equity investor, DHC, being
diluted or cancelled. The Debtors have not yet proposed a plan of
reorganization. The Debtors' pre-petition creditors and DHC will each have a
vote in the plan of reorganization.
The United States Trustee appointed an unsecured creditors' committee.
The official committee and its legal representatives have a right to be heard on
all matters that come before the Bankruptcy Court.
The Chapter 11 process presents inherent material uncertainty; it is
not possible to determine the additional amount of claims that may arise or
ultimately be filed, or predict the length of time that the Debtors will
continue to operate under the protection of Chapter 11, the outcome of the
Chapter 11 proceedings in general, whether the Debtors will continue to operate
in their present organizational structure, or the effects of the proceedings on
the business of ACL, the other Debtors and its non-filing subsidiaries and
affiliates, or on the interests of the various creditors and equity holder. The
ultimate recovery, if any, by creditors and DHC will not be determined until
confirmation of a plan or plans of reorganization. No assurance can be given as
to what value will be ascribed in the bankruptcy proceedings to each of these
constituencies. While it cannot presently be determined, DHC believes it will
receive little or no value with respect to its equity interest in ACL.
Accordingly, after recognizing its equity in ACL's net loss for the quarter
ended March 28, 2003, DHC wrote off its remaining investment in ACL as an other
than temporary asset impairment (see Note 3).
NOTE 3. EQUITY IN INCOME AND LOSSES OF MARINE SERVICES INVESTEES
As discussed in Note 2, DHC wrote off its investment in ACL during the
quarter ended March 28, 2003. The GMS and Vessel Leasing investments are not
considered by DHC to be impaired. The 2003 reported net loss for the periods
indicated includes, under the caption "Equity in Net Income (Loss) of
Unconsolidated Marine Services Subsidiaries", the following components:
Quarter Nine Months
Ended Ended
September 30, 2003 September 30, 2003
------------------ ------------------
ACL's Reported Loss for the Three Months
Ended March 28, 2003 $ --- $(46,998)
Other Than Temporary Impairment of Remaining
Investment in ACL as of March 28, 2003 --- (8,205)
------ --------
Total ACL Loss --- (55,203)
GMS Income 35 9
Vessel Leasing Income 69 201
------ --------
Equity in Net Income (Loss) of Unconsolidated
Marine Services Subsidiaries $ 104 $(54,993)
====== ========
8
DANIELSON HOLDING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
(DOLLARS IN THOUSANDS)
NOTE 3. EQUITY IN INCOME AND LOSSES OF MARINE SERVICES INVESTEES (CONTINUED)
Activity in these subsidiaries for the quarter ended September 30, 2003 is as
follows:
Vessel
ACL GMS Leasing
--- --- -------
Net Revenue $ 149,969 $ 12,438 $ 1,152
Operating Income* 8,823 1,245 673
Net (Loss) Income (4,162) 639 137
Activity in these subsidiaries for the nine months ended September 30, 2003 is
as follows:
Vessel
ACL GMS Leasing
--- --- -------
Net Revenue $ 449,751 $ 38,320 $ 3,455
Operating (Loss) Income* (19,208) 3,277 2,029
Net (Loss) Income (66,595) 165 401
* Before ACL Reorganization Expenses
NOTE 4. PER SHARE DATA
Per share data is based on the weighted average number of shares of
common stock of DHC, par value $0.10 per share ("Common Stock"), outstanding
during the relevant period. Diluted earnings per share computations, as
calculated under the treasury stock method, include the average number of shares
of additional outstanding Common Stock issuable for stock options and warrants,
whether or not currently exercisable. Basic and fully diluted earnings per share
data have been calculated using the average number of outstanding shares of
Common Stock. Average shares were 30,816,595 for the quarter and 30,817,063 for
the nine months ended September 30, 2003 and 30,817,297 and 24,755,186 for the
quarter and nine months ended September 27, 2002, respectively. Diluted earnings
per share do not include shares related to stock options and warrants because
their effect is anti-dilutive.
NOTE 5. REINSURANCE
NAICC cedes reinsurance on an excess of loss basis for workers'
compensation risks in excess of $500 prior to April 2000 and $200 thereafter.
For all other lines, NAICC cedes reinsurance on an excess of loss basis for
exposure in excess of $250.
NOTE 6. INCOME TAXES
DHC files a Federal consolidated income tax return with its
subsidiaries. DHC's Federal consolidated return includes the taxable results of
certain grantor trusts established pursuant to a prior court approved
reorganization to assume various liabilities of certain present and former
subsidiaries of DHC. These trusts are not consolidated with DHC for financial
statement purposes. DHC records its interim tax provisions based upon estimated
effective tax rates for the year.
DHC's provision for income taxes in the condensed consolidated
statements of operations consists of certain state and other taxes. Tax filings
for these jurisdictions do not consolidate the activity of the trusts referred
to above, and reflect preparation on a separate company basis. For further
information, reference is made to Note 14 of the Notes to the Consolidated
Financial Statements included in DHC's Annual Report on Form 10-K for the year
ended December 27, 2002.
9
DANIELSON HOLDING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
(DOLLARS IN THOUSANDS)
NOTE 7. STOCKHOLDERS' EQUITY
In connection with efforts to preserve DHC's net operating tax loss
carryforwards, DHC has imposed restrictions on the ability of holders of five
percent or more of DHC Common Stock to transfer the Common Stock owned by them
and to acquire additional Common Stock, as well as the ability of others to
become five percent stockholders as a result of transfers of Common Stock.
NOTE 8. BUSINESS SEGMENTS
Insurance Marine Corporate Total
--------- ------ --------- -----
QUARTER ENDED SEPTEMBER 30, 2003:
Operating Revenues $ 8,909 $ --- $ --- $ 8,909
Segment (Loss) Earnings, Including Equity
in Net Income of Unconsolidated
Marine Services Subsidiaries (2,673) 104 (873) (3,442)
QUARTER ENDED SEPTEMBER 27, 2002:
Operating Revenues $ 12,916 $ 195,011 $ --- $ 207,927
Segment (Loss) Earnings (2,961) 5,049 (1,782) 306
NINE MONTHS ENDED SEPTEMBER 30, 2003:
Operating Revenues $ 31,822 $ --- $ --- $ 31,822
Segment (Loss), Including Equity in Net
(Loss) of Unconsolidated Marine
Services Subsidiaries (8,357) (54,993) (2,417) (65,767)
NINE MONTHS ENDED SEPTEMBER 27, 2002:
Operating Revenues $ 56,785 $ 255,948 $ --- $ 312,733
Segment (Loss) Earnings (1,762) 7,161 5,134 10,533
Total assets decreased from December 27, 2002 compared to September 30,
2003 due to the change in reporting for the Marine Services Subsidiaries from
consolidation to the equity method, as described in Note 1. Additionally, the
investment in ACL was written off during the quarter ended March 28, 2003, as
described in Note 3.
The following is a reconciliation of segment (loss) earnings to consolidated
pre-tax totals:
Quarter Ended Quarter Ended Nine Months Ended Nine Months Ended
September 30, 2003 September 27, 2002 September 30, 2003 September 27, 2002
------------------ ------------------ ------------------ ------------------
Total Segment (Loss) Earnings..................... $ (3,442) $ 306 $(65,767) $ 10,533
Unallocated Amounts:
Interest Expense............................. --- (16,070) --- (21,059)
Other, Net................................... --- (2,343) --- (3,132)
-------- -------- -------- --------
Loss before Provision
for Income Taxes............................. $ (3,442) $(18,107) $(65,767) $(13,658)
======== ======== ======== ========
10
DANIELSON HOLDING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2003
(DOLLARS IN THOUSANDS)
NOTE 9. INVESTMENTS
DHC's fixed maturity and equity securities portfolio is classified as
"available for sale" and is carried at fair value. Changes in fair value are
credited or charged directly to stockholders' equity as unrealized gains or
losses, respectively. "Other than temporary" declines in fair value are recorded
as realized losses in the statement of operations and the cost basis of the
security is reduced. DHC recorded an "other than temporary" decline in fair
value of its securities portfolio of $451 in the quarter ended September 30,
2003, and $1,891 for nine months ended September 30, 2003.
NOTE 10. INCENTIVE COMPENSATION PLANS
Stock-based compensation cost is measured using the intrinsic value
based method of accounting prescribed by Accounting Principles Board Opinion No.
25 "Accounting for Stock Issued to Employees" ("APB 25") for DHC directors and
employees. The fair value based method of accounting prescribed by Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123") is used to measure stock-based compensation for DHC
contractors. Pro forma net loss and loss per share are disclosed below as if the
fair value based method of accounting under SFAS 123 had been applied to all
stock-based compensation awards.
Quarter Ended Quarter Ended Nine Months Ended Nine Months Ended
September 30, 2003 September 27, 2002 September 30, 2003 September 27, 2002
------------------ ------------------ ------------------ ------------------
Stock Option Expense Recorded.................. $ (24) $ --- $ (73) $ ---
========= ======== ======== ========
Net Loss As Reported........................... $ (3,442) $(18,285) $(65,779) $(13,998)
Pro Forma Compensation Expense................. (553) (185) (1,659) (519)
--------- -------- -------- --------
Pro Forma Net Loss ........................... $ (3,995) $(18,470) $(67,438) $(14,517)
========= ======== ======== ========
Diluted (Loss) Income Per Share:
As Reported............................... $ (0.11) $ (0.59) $ (2.13) $ (0.57)
Pro Forma................................. (0.13) (0.60) (2.19) (0.59)
NOTE 11. COMPREHENSIVE INCOME (LOSS)
Quarter Ended Quarter Ended Nine Months Ended Nine Months Ended
September 30, 2003 September 27, 2002 September 30, 2003 September 27, 2002
------------------ ------------------- ------------------ ------------------
Net Loss......................................... $ (3,442) $ (18,285) $ (65,779) $ (13,998)
Unrealized Holding Gains (Losses) on Available
for Sale Securities Arising During the Period.. 264 (1,833) (273) 9,299
Other............................................ --- (253) --- (253)
Reclassification Adjustments:
Net Realized Gains on Available for Sale
Securities Included in Net Loss.............. --- --- (747) (12,478)
Amount Included in Equity in Net Loss
of Marine Services Subsidiaries.............. --- --- 15,322 ---
--------- --------- ---------- ---------
Total Comprehensive Loss......................... $ (3,178) $ (20,371) $ (51,477) $ (17,430)
========= ========= ========== =========
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements in the Quarterly Report on Form 10-Q may constitute
"forward-looking" statements as defined in Section 27A of the Securities Act of
1933 (the "Securities Act"), Section 21E of the Securities Exchange Act of 1934
(the "Exchange Act"), the Private Securities Litigation Reform Act of 1995 (the
"PSLRA") or in releases made by the Securities and Exchange Commission, all as
may be amended from time to time. Such forward looking statements involve known
and unknown risks, uncertainties and other important factors that could cause
the actual results, performance or achievements of Danielson Holding Corporation
("DHC") and its subsidiaries, or industry results, to differ materially from any
future results, performance or achievements expressed or implied by such
forward-looking statements. Statements that are not historical fact are
forward-looking statements. Forward looking statements can be identified by,
among other things, the use of forward-looking language, such as the words
"plan", "believe", "expect", "anticipate", "intend", "estimate", "project",
"may", "will", "would", "could", "should", "seeks", or "scheduled to", or other
similar words, or the negative of these terms or other variations of these terms
or comparable language, or by discussion of strategy or intentions. These
cautionary statements are being made pursuant to the Securities Act, the
Exchange Act and the PLSRA with the intention of obtaining the benefits of the
"safe harbor" provisions of such laws. DHC cautions investors that any
forward-looking statements made by DHC are not guarantees or indicative of
future performance. Important assumptions and other important factors that could
cause actual results to differ materially from those forward-looking statements
with respect to DHC, include, but are not limited to, the risks and
uncertainties affecting their businesses described in Item 1 of DHC's Annual
Report on Form 10-K for the year ended December 27, 2002 and in other securities
filings by DHC.
Although DHC believes that its plans, intentions and expectations
reflected in or suggested by such forward-looking statements are reasonable,
actual results could differ materially from a projection or assumption in any of
its forward-looking statements. DHC's future financial condition and results of
operations, as well as any forward-looking statements, are subject to change and
inherent risks and uncertainties. The forward-looking statements contained in
this Quarterly Report on Form 10-Q are made only as of the date hereof and DHC
does not have or undertake any obligation to update or revise any
forward-looking statements whether as a result of new information, subsequent
events or otherwise, unless otherwise required by law.
OVERVIEW AND SIGNIFICANT EVENTS
DHC is organized as a holding company with substantially all of its
current operations conducted in the Insurance Services industry. DHC also has
investments in companies engaged in the Marine Services industry which,
beginning in 2003, are accounted for under the equity method.
DHC, on a parent-only basis, has continuing expenditures for
administrative expenses and derives revenues primarily from investment returns
on portfolio securities. Therefore, the analysis of DHC's financial condition is
generally done on an operating subsidiary basis. DHC possesses approximately
$630 million in federal tax net operating loss carryforwards. DHC's strategic
and business plan is to acquire businesses that will allow DHC to earn an
attractive return on its investments.
In May 2002, as part of DHC's implementation of its strategic plan, DHC
acquired a 100% ownership interest in American Commercial Lines, LLC ("ACL")
thereby entering into the marine transportation, construction and related
service provider businesses.
On January 31, 2003, ACL and certain of its subsidiaries and its
immediate direct parent entity, American Commercial Lines Holdings, LLC ("ACL
Holdings"), filed a petition with the U.S. Bankruptcy Court to reorganize under
Chapter 11 of the U.S. Bankruptcy Code. HYI Investments, LLC ("HYI"), an entity
affiliated with Samuel Zell, DHC's Chief Executive Officer and Chairman of the
Board of Directors, and Philip G. Tinkler, DHC's Chief Financial Officer, is a
holder of approximately 42% of ACL's Senior Notes and PIK Notes. For additional
information see Note 2 in the accompanying financial statements and DHC's Annual
Report on Form 10-K for the year ended December 27, 2002.
12
DHC owns a direct 5.4% interest in Global Materials Services, LLC
("GMS") and a direct 50% interest in Vessel Leasing, LLC ("Vessel Leasing"). ACL
owns 50% of GMS and the remaining 50% of Vessel Leasing. Neither of these two
companies filed for Chapter 11 protection. GMS is an owner and operator of
marine terminals and warehouse operations, and Vessel Leasing leases barges to
ACL's barge transportation operations, which are in Chapter 11. DHC, GMS and
Vessel Leasing are not guarantors of ACL's debt nor are they liable for any of
ACL's liabilities.
As a result of the bankruptcy filing, while DHC continues to exercise
significant influence over the operating and financial policies of ACL, it no
longer maintains control of ACL. Accordingly, for the nine months ended
September 30, 2003, DHC has accounted for its investments in ACL, GMS and Vessel
Leasing using the equity method of accounting. Under the equity method of
accounting, DHC reports its share of the equity investees' income or loss based
on its ownership interest.
In conjunction with the uncertainty of the outcome of the ACL
bankruptcy, DHC evaluated the carrying values of its investments in ACL, GMS and
Vessel Leasing and recorded an impairment loss for its remaining original
investment in ACL during the quarter ended March 28, 2003 as described in Note 3
of the accompanying financial statements. No impairment loss adjustments have
been made to the carrying values of GMS and Vessel Leasing. The carrying values
of the investments in GMS and Vessel Leasing at September 30, 2003 were $1.2
million and $3.1 million, respectively.
INSURANCE OPERATIONS
The operations of DHC's insurance subsidiary, National American
Insurance Company of California ("NAICC"), are primarily property and casualty
insurance. Effective July 2003, the decision was made to focus exclusively on
the California non-standard personal automobile insurance market. Effective July
7, 2003, NAICC ceased writing new policy applications for commercial automobile
insurance and began the process of providing the required statutory notice of
its intention not to renew existing policies. NAICC expects that by September
2004, it will have completely exited the commercial automobile marketplace.
QUARTER ENDED SEPTEMBER 30, 2003 COMPARED WITH QUARTER ENDED SEPTEMBER 27, 2002
RESULTS OF INSURANCE OPERATIONS
Net premiums earned were $8.4 million and $14.0 million for the
quarters ended September 30, 2003 and September 27, 2002, respectively. The
change in net premiums earned during those periods was directly related to the
change in net written premiums. Net written premiums were $5.4 million and $11.6
million for the quarters ended September 30, 2003 and September 27, 2002,
respectively.
The $6.2 million decrease in net written premiums for 2003 was
attributable to a reduction in private passenger automobile policies written as
a result of production moratoriums, cancellation of the commercial automobile
program, and the expiration of all in force workers' compensation policies.
Net written premiums in workers' compensation decreased by $1.4 million
for the quarter ended September 30, 2003 as compared to the quarter ended
September 27, 2002. Net written premiums for non-standard private passenger
automobile were $4.2 million for the quarter ended September 30, 2003, a
decrease of $1.8 million from the comparable period in 2002. Net written
premiums for commercial automobile were $1.3 million for the quarter ended
September 30, 2003, a decrease over the comparable period in 2002 of $3.0
million. The reduction in commercial automobile premiums was due to NAICC
ceasing to write new policies effective July 7, 2003 and not renewing existing
policies starting in September 2003.
13
Net investment income was $0.9 million and $1.4 million for the
quarters ended September 30, 2003 and September 27, 2002, respectively. The
decrease was attributable to reductions in both the overall portfolio yield and
the cash and invested asset base. Realized losses were $0.4 million in the
quarter ended September 30, 2003 and were due primarily to the impairment loss
on one equity security of $0.5 million. Realized losses recorded for the
comparable period in 2002 were $2.6 million and were related to the sale of
equity securities.
Net losses and loss adjustment expenses ("LAE") were $8.1 million and
$11.6 million for the quarters ended September 30, 2003 and September 27, 2002,
respectively. The resulting loss and LAE ratios for the corresponding periods
were 96.8% and 82.8%, respectively. The loss and LAE ratio increased in 2003
over 2002 due primarily to recording $1.3 million in adverse development in the
Montana workers' compensation line for 2002 and prior accident years, versus
recording $0.8 million in adverse development in the private passenger
automobile line in the quarter ended September 27, 2002.
Policy acquisition costs were $2.0 million and $2.8 million for the
quarters ended September 30, 2003 and September 27, 2002, respectively. As a
percentage of net premiums earned, policy acquisition expenses were 23.7% and
19.8% for the quarters ended September 30, 2003 and September 27, 2002,
respectively. The increase in the policy acquisition expense ratio in 2003
reflects earned premiums decreasing at a greater rate than NAICC was able to
reduce fixed and variable acquisition costs.
General and administrative expenses were $1.5 million for both of the
quarters ended September 30, 2003 and September 27, 2002. Employee severance
costs of $0.3 million were recognized in the quarter ended September 30, 2003.
Combined underwriting ratios were 137.9% and 113.2% for the quarters
ended September 30, 2003 and September 27, 2002, respectively. Underwriting
ratios measure the level of loss and loss expenses to earned premiums as well as
level of expenses to written premiums.
NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED WITH NINE MONTHS ENDED SEPTEMBER
27, 2002
RESULTS OF INSURANCE OPERATIONS
Net premiums earned were $28.6 million and $50.6 million for the nine
months ended September 30, 2003 and September 27, 2002, respectively. The change
in net premiums earned during those periods was directly related to the change
in net written premiums. Net written premiums were $26.8 million and $44.4
million for the nine months ended September 30, 2003 and September 27, 2002,
respectively.
The $17.6 million decrease in net written premiums for 2003 was
attributable to a moratorium being placed on a large portion of the private
passenger automobile line, cancellation of the commercial automobile program
effective September 2003, and the expiration of all in force workers'
compensation policies. The overall production decline is in response to NAICC's
diminishing surplus.
Net written premiums in workers' compensation decreased by $6.9 million
during 2003 over the comparable period in 2002. Net written premiums for
non-standard private passenger automobile were $14.1 million in 2003, a decrease
of $6.0 million from the comparable period in 2002. Net written premiums for
commercial automobile were $12.3 million in 2003, a decrease over the comparable
period in 2002 by $4.7 million. Effective July 7, 2003, NAICC ceased writing
commercial automobile policies and began providing the required statutory notice
of its intention not to renew existing policies.
14
Net investment income was $3.1 million and $4.3 million for the nine
months ended September 30, 2003 and September 27, 2002, respectively. The
decrease was attributable to reductions in both the overall portfolio yield and
the cash and invested asset base. Average fixed income portfolio yield on bonds
was 5.62% during the nine months ended September 30, 2003 compared to 6.20% for
the nine months ended September 27, 2002. Average cash and invested assets
earning interest, exclusive of its investments in ACL, decreased by $22.9
million from the comparable period in 2002 with an ending asset base of $83.9
million as of September 30, 2003. Realized losses were $0.1 million in the nine
months ended September 30, 2003 and were due to the impairment loss on three
equity securities of $1.9 million offset by gains on the sale of equity
securities of $0.8 million and fixed income securities of $1.0 million. Realized
gains recorded for the comparable period in 2002 were $1.3 million and included
a $5.2 million gain related to the conversion of ACL notes to equity as a result
of ACL's reorganization in May 2002, offset by other realized losses related to
the sale of equity securities.
Net losses and LAE were $29.7 million and $43.0 million for the nine
months ended September 30, 2003 and September 27, 2002, respectively. The
resulting loss and LAE ratios for the corresponding periods were 103.8% and
85.0%, respectively. The loss and LAE ratio increased in 2003 over 2002 due
primarily to recording $4.3 million in adverse development for 2002 and prior
accident years in the commercial automobile line and $3.3 million in adverse
development in the Valor workers' compensation line. In 2002, $4.1 million of
adverse development was recognized in workers' compensation and private
passenger automobile lines. Excluding the effects of adverse development in both
periods, the loss and LAE ratio was 77.2% and 76.9% for 2003 and 2002,
respectively.
Policy acquisition costs were $6.7 million and $11.1 million for the
nine months ended September 30, 2003 and September 27, 2002, respectively. As a
percentage of net premiums earned, policy acquisition expenses were 23.5% and
22.0% for the nine months ended September 30, 2003 and September 27, 2002,
respectively. The increase in the policy acquisition expense ratio in 2003 was
due primarily to earned premiums decreasing at a greater rate than NAICC was
able to reduce its variable and fixed acquisition costs.
General and administrative expenses were $3.8 million and $4.4 million
for the nine months ended September 30, 2003 and September 27, 2002,
respectively. General and administrative expenses decreased in 2003 compared to
2002 due to cost containment efforts.
Combined underwriting ratios were 140.5% and 115.7% for the nine months
ended September 30, 2003 and September 27, 2002, respectively. Underwriting
ratios measure the level of loss and loss expenses to earned premiums as well as
level of expenses to written premiums.
CASH FLOW FROM INSURANCE OPERATIONS
Cash used in operations was $17.1 million and $13.1 million for the
nine months ended September 30, 2003 and September 27, 2002, respectively. The
increase in cash used in operations was due to NAICC experiencing a condition in
which claim payments related to the lines and territories placed into run-off
exceeded premium receipts from existing lines. Such negative cash flow restricts
NAICC from re-investing bond maturity proceeds in order to meet obligations as
they arise. Cash provided by investing activities was $10.7 million and $10.1
million for the nine months ended September 30, 2003 and September 27, 2002,
respectively. The $0.6 million increase in cash provided by investing activities
was primarily due to the sale of equity securities. The primary source of cash
for investment in fixed income securities in 2003 resulted from a $4.0 million
capital contribution by DHC and early repayment of a $4.0 million promissory
note that was due to NAICC in May 2004. Overall cash and invested assets at
September 30, 2003 were $88.0 million compared to $97.3 million at December 27,
2002.
LIQUIDITY AND CAPITAL RESOURCES - INSURANCE OPERATIONS
NAICC requires both readily liquid assets and adequate capital to meet
ongoing obligations to policyholders and claimants, as well as to pay ordinary
operating expenses. NAICC meets both its short-term and long-term liquidity
requirements through operating cash flows that include premium receipts,
investment income and reinsurance recoveries. To the extent operating cash flows
do not provide sufficient cash flow, NAICC relies on the sale of invested
assets. NAICC's investment policy guidelines require that all loss and LAE
liabilities be matched by a comparable amount of investment grade assets. DHC
believes that NAICC has both adequate capital resources and sufficient
15
reinsurance to meet any unforeseen events such as natural catastrophes,
reinsurer insolvencies, or possible reserve deficiencies.
The National Association of Insurance Commissioners provides minimum
solvency standards in the form of risk based capital requirements ("RBC"). The
RBC model for property and casualty insurance companies requires that carriers
report their RBC ratios based on their statutory annual statements as filed with
the regulatory authorities. As noted above, ACL filed for protection under
Chapter 11 of the Bankruptcy Code. As a result, it was determined for statutory
insurance accounting purposes that NAICC's investment in ACL was fully impaired.
At December 31, 2002, NAICC recognized a statutory charge to its surplus of $7.4
million. This charge, when combined with NAICC's underwriting results and
investment losses reduced its statutory surplus level below the Company Action
Level of NAICC's RBC calculation. In response to the above statutory condition,
DHC repaid the $4 million note due May 2004 to NAICC, and further contributed $4
million to NAICC to increase its statutory capital during February 2003. With
permission from the California Department of Insurance, these transactions were
recorded at December 31, 2002. As a condition to granting such permission, the
Department will require NAICC to obtain permission prior to entering into any
future loans with an affiliate. Including the $8 million contribution noted
above, NAICC's reported capital and surplus as of December 31, 2002 was above
the Company Action Level of NAICC's RBC calculation. NAICC has projected its RBC
requirement as of September 30, 2003 under the RBC model and believes that it is
above the Company Action Level of NAICC's RBC calculation.
Two other common measures of capital adequacy for insurance companies
are premium-to-surplus ratios (which measure current operating risk) and
reserves-to-surplus ratios (which measure financial risk related to possible
changes in the level of loss and LAE reserves). A commonly accepted standard for
net written premium-to-surplus ratio is 3 to 1, although this varies with
different lines of business. NAICC's annualized premium-to-year-end statutory
surplus ratio of 1.8 to 1 and 1.6 to 1 for the nine months ended September 30,
2003 and September 27, 2002, respectively, remains well under current industry
standards. A commonly accepted standard for the ratio of losses and LAE
reserves-to-year-end statutory surplus is 5 to 1, compared with NAICC's ratio of
3.4 to 1 at September 30, 2003.
RESULTS OF PARENT OPERATIONS
General and administrative expenses were approximately $0.8 million
lower during the quarter ended September 30, 2003 compared to the quarter ended
September 27, 2002. For the nine months ended September 30, 2003, general and
administrative expenses were approximately $0.3 million lower than the
comparable period in 2002. These decreases were primarily attributable to
increased efficiency in the management of administrative costs and
non-recurring expenses related to a 2002 modification of stock options.
CASH FLOW FROM PARENT-ONLY OPERATIONS
Operating cash flow of DHC, on a parent-only basis, is primarily
dependent on the rate of return achieved on its investment portfolio and the
payment of general and administrative expenses incurred in the normal course of
business. For the nine months ended September 30, 2003 and September 27, 2002,
cash used in parent-only operating activities was $1.7 million and $2.9 million,
respectively.
During the nine months ended September 30, 2003, DHC, on a parent-only
basis, had net cash provided by investing and financing activities of
approximately $0.6 million. An investment in an available-for-sale security was
sold for proceeds of $2.5 million and a note receivable from ACLines LLC, in the
amount of $6.0 million, was repaid. DHC made an additional capital contribution
of $4 million to NAICC. Additionally, a loan due to NAICC in the amount of $4
million, plus accrued interest was repaid.
During the nine months ended September 27, 2002, DHC, on a parent-only
basis, had net cash provided by investing and financing activities of
approximately $1.9 million. This was primarily due to the excess of the amount
of capital raised in 2002 over the acquisition price of ACL.
16
LIQUIDITY AND CAPITAL RESOURCES - PARENT-ONLY OPERATIONS
On a parent-only basis, DHC's sources of funds are its investments as
well as dividends received from its subsidiaries. Various state insurance
requirements restrict the amounts that may be transferred to DHC in the form of
dividends or loans from its insurance subsidiaries without prior regulatory
approval.
At September 30, 2003 and September 27, 2002, cash and marketable
security investments of DHC, on a parent-only basis, were approximately $2.4
million and $8.3 million, respectively. This decrease is primarily attributable
to DHC liquidating investment assets to contribute $4 million of capital to
NAICC and fund general and administrative expenses.
OTHER EXPENSES
Interest Expense and Other, Net in the quarter and nine months ended
September 27, 2002 relates to the Marine Services Subsidiaries.
As noted above, DHC accounts for its investments in Marine Services
subsidiaries under the equity method. The equity in net loss of unconsolidated
Marine Services subsidiaries includes DHC's share of the subsidiaries' reported
net loss of $46.8 million, for the nine months ended September 30, 2003, as well
as an other than temporary impairment charge of $8.2 million related to the
investment in ACL.
CASH FLOW INFORMATION
Cash flow information for each of DHC's business segments for the nine
months ended September 30, 2003 and 2002 reconciles to the condensed
consolidated statements of cash flows as follows:
SEPTEMBER 30, 2003
Insurance Marine Corporate Total
--------- ------ --------- -----
Net Cash Used In Operating Activities $(17,082) $ --- $ (131) $(17,213)
Net Cash Provided By
Investing Activities 10,683 --- 7,026 17,709
Net Cash Provided by (Used In)
Financing Activities 8,000 --- (7,986) 14
-------- ------ -------- --------
Net Increase (Decrease) In Cash
and Cash Equivalents $ 1,601 $ --- $ (1,091) $ 510
======== ====== ======== ========
SEPTEMBER 27, 2002
Insurance Marine Corporate Total
--------- ------ --------- -----
Net Cash (Used in) Provided By
Operating Activities $(13,073) $ 5,955 $ (2,919) $(10,037)
Net Cash Provided By (Used In)
Investing Activities 10,063 (7,721) (51,028) (48,686)
Net Cash (Used In) Provided By
Financing Activities --- (3,501) 52,886 49,385
-------- -------- -------- --------
Net Decrease in Cash and
Cash Equivalents $ (3,010) $ (5,267) $ (1,061) $ (9,338)
======== ======== ======== ========
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RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
As noted above, the foregoing discussion may include forward-looking
statements that involve risks and uncertainties. In addition to other factors
and matters discussed elsewhere herein, some of the important factors that, in
the view of DHC, could cause actual results to differ materially from those
discussed in the forward-looking statements include the following:
1. The insurance products sold by NAICC are subject to intense
competition from many competitors, many of whom have
substantially greater resources than NAICC. There can be no
assurance that NAICC will be able to successfully compete and
generate sufficient premium volume at attractive prices to be
profitable.
2. The insurance industry is highly regulated and it is not
possible to predict the impact of future state and federal
regulation on the operations of NAICC.
3. Unpaid losses and LAE are based on estimates of reported
losses, historical experience of losses reported by reinsured
companies for insurance assumed from such insurers, and
estimates based on historical and industry experience for
unreported claims. Such liability is, by necessity, based upon
estimates which may change in the near term, and there can be
no assurance that the ultimate liability will not exceed, or
even materially exceed, such estimates.
4. NAICC is subject to certain regulatory RBC requirements.
Depending on its calculated RBC, NAICC could be subject to
four levels of increasing regulatory intervention ranging from
company action to mandatory control. NAICC's capital is also
one factor used to determine its ability to distribute or loan
funds to DHC.
5. In order to implement its business plan, DHC has been seeking
to enter into strategic partnerships and/or make acquisitions
of businesses that would enable DHC to earn an attractive
return on investment. Restrictions on DHC's ability to issue
additional equity in order to finance any such transactions
exist which could significantly affect DHC's ability to
finance any such transaction. DHC may have limited other
resources with which to implement its strategy and there can
be no assurance that any transaction will be successfully
consummated.
6. One of DHC's potentially significant assets is its federal net
operating loss carryforwards for income tax reporting
purposes. In order to utilize the loss carryforwards, DHC must
generate taxable income which can offset such carryforwards.
The loss carryforwards are also utilized by income from
certain grantor trusts that were established as part of the
Mission Insurance Group Inc. reorganization. The loss
carryforwards will expire if not used. The loss carryforwards
would be further substantially reduced if DHC were to undergo
an "ownership change" within the meaning of Section 382(g)(1)
of Internal Revenue Code. DHC will be treated as having had an
"ownership change" if there is more than a 50% increase in
stock ownership during a three year "testing period" by "5%
stockholders".
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
DHC's objectives in managing its investment portfolio are to maximize
investment income and investment returns while minimizing overall credit risk.
Investment strategies are developed based on many factors including underwriting
results, overall tax position, regulatory requirements, and fluctuations in
interest rates. Market risk represents the potential for loss due to adverse
changes in the fair value of securities. The market risks related to DHC's fixed
maturity portfolio are primarily interest rate risk and prepayment risk. The
market risks related to DHC's equity portfolio are primarily equity price risk.
There have been no material changes to DHC's market risk for the nine months
ended September 30, 2003. For further discussion of the qualitative and
quantitative disclosures about market risk affecting DHC, please see Item 7A,
"Qualitative and Quantitative Disclosures About Market Risk" in DHC's Annual
Report on Form 10-K for the year ended December 27, 2002.
ITEM 4. CONTROLS AND PROCEDURES
DHC's management, with the participation of its Chief Executive
Officer and Chief Financial Officer, have evaluated the effectiveness of DHC's
disclosure controls and procedures, as required by Rule 13a-15 under the
Securities Exchange Act of 1934 (the "Act"). Based upon the results of that
evaluation, DHC's Chief Executive Officer and Chief Financial Officer have
concluded that as of the end of the period covered by this quarterly report,
DHC's disclosure controls and procedures were effective in all material
respects to ensure that the information required to be disclosed by DHC in
reports it files or submits under the Act is recorded, processed, summarized
and reported, within the time periods specified in the Securities and Exchange
Commission's rules and forms. In addition, there have been no changes in DHC's
internal control over financial reporting during the fiscal quarter ended
September 30, 2003 that have materially affected, or which are reasonably
likely to materially affect, DHC's internal control over financial reporting.
The Company's management, including the Chief Executive Officer and
Chief Financial Officer, does not expect that its disclosure controls and
procedures or internal controls and procedures will prevent all error and all
fraud. A control system, no matter how well conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of the control
system are met. Further, the design of a control system must reflect the fact
that there are resource constraints, and the benefits of controls must be
considered relative to their costs. Because of the inherent limitations in all
control systems, no evaluation of controls can provide absolute assurance that
all control issues and instances of fraud, if any, within the Company have been
detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple
error or mistake. Additionally, controls can be circumvented by the individual
acts of some persons, by collusion of two or more people, or by management
override of the control. The design of any system of controls also is based in
part upon certain assumptions about the likelihood of future events, and there
can be no assurance that any design will succeed in achieving its stated goals
under all potential future conditions; over time, control may become inadequate
because of changes in conditions, or the degree of compliance with the policies
or procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur and
not be detected.
19
PART II
OTHER INFORMATION
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
On December 31, 2002, American Commercial Lines LLC ("ACL") elected to
utilize the 30-day grace period with respect to the $7.7 million interest
payment due on its approximately $137.1 million in outstanding 11.25% ACL senior
notes due January 1, 2008 ("Senior Notes"), and the $0.3 million interest
payment due on its approximately $6.5 million in principal outstanding 10.25%
ACL senior notes due June 2008 ("Old Senior Notes"). This non-payment resulted
in an event of default under ACL's $335 million secured credit facility with
JPMorgan Chase Bank ("Senior Credit Facilities") and under ACL's receivables
facility ("Receivables Facility").
Prior to the commencement of business on January 31, 2003, and the
expiration of the 30-day grace period under the Senior Notes and Old Senior
Notes, ACL filed for protection under Chapter 11 of the U.S. Bankruptcy Code
("Bankruptcy Code"). The ACL bankruptcy filing caused additional defaults under
the Senior Credit Facilities, Senior Notes, Old Senior Notes and caused a
default under the approximately $123.1 million outstanding 12% ACL pay-in-kind
senior subordinated notes due July 1, 2008 ("PIK Notes"). The Receivables
Facility was retired on January 31, 2003 with the proceeds from a
debtor-in-possession financing arrangement and any defaults under the
Receivables Facility were extinguished. The effects of all defaults under the
Senior Credit Facilities, Senior Notes, Old Senior Notes and PIK Notes are
stayed pursuant to certain provisions of the Bankruptcy Code.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit 10.1 - Corporate Services Agreement, Dated as of September 2,
2003 Between Equity Group Investments, LLC and Danielson Holding
Corporation
Exhibit 31.1 - Certification Pursuant to Section 302 of Sarbanes-Oxley
Act of 2002 from Chief Executive Officer
Exhibit 31.2 - Certification Pursuant to Section 302 of Sarbanes-Oxley
Act of 2002 from Chief Financial Officer
Exhibit 32.1 - Certification of Periodic Financial Report Pursuant to
Section 906 of Sarbanes-Oxley Act of 2002 from Chief Executive Officer
Exhibit 32.2 - Certification of Periodic Financial Report Pursuant to
Section 906 of Sarbanes-Oxley Act of 2002 from Chief Financial Officer
(b) Reports on Form 8-K:
DHC filed Current Reports on Form 8-K as follows:
Date Description
- --------------- -------------------------------------------------------
August 14, 2003 Relating to press release announcing earnings results.
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, Danielson
Holding Corporation has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
DANIELSON HOLDING CORPORATION
(Danielson Holding Corporation)
By: /s/ PHILIP G. TINKLER
----------------------------
Philip G. Tinkler
Chief Financial Officer
November 7, 2003
21