UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the fiscal year ended December 31, 2001
or
o
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 0-6612
RLI CORP.
(Exact name of registrant as specified in its charter)
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Illinois |
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37-0889946 |
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(State or other jurisdiction of incorporation or organization) |
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(I.R.S. Employer Identification No.) |
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9025 North Lindbergh Drive, Peoria, Illinois |
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61615 |
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(Address of principal executive offices) |
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(Zip Code) |
Registrant’s telephone number, including area code (309) 692-1000
Securities registered pursuant to Section 12(b) of the Act:
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Title of each class |
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Name of each exchange on which registered |
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Common Stock $1.00 par value |
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New York Stock Exchange |
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
ý Yes o No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
The aggregate market value of the voting stock held by non-affiliates of the Registrant, based upon the closing sale price of the Common Stock on March 7, 2002 as reported on the New York Stock Exchange, was $500,920,913. Shares of Common Stock held directly or indirectly by each officer and director along with shares held by the Company ESOP have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.
The number of shares outstanding of the Registrant’s Common Stock, $1.00 par value, on March 7, 2002 was 9,919,226.
DOCUMENTS INCORPORATED BY REFERENCE.
Portions of the Annual Report to Shareholders for the past year ended December 31, 2001, are incorporated by reference into Parts I and II of this document.
Portions of the Registrant’s definitive Proxy Statement for the 2002 annual meeting of security holders to be held May 2, 2002, are incorporated herein by reference into Part III of this document.
Exhibit index is located on pages 33-34 of this document.
PART I
Item 1. Business
(a) General Development of Business
As used in this Form 10-K, the term “Company” refers to RLI Corp. and its subsidiaries and affiliates, unless the context otherwise indicates.
RLI Corp., which was incorporated in Illinois in 1965, merged into and became a Delaware corporation in 1984. In May of 1993, RLI Corp. changed its state of incorporation back to Illinois through a merger. RLI Corp. is a holding company, which, through its subsidiaries, underwrites selected property and casualty insurance.
(b) Financial Information about Industry Segments
Selected information about industry segments is included within Item I.
(c) Narrative Description of Business
RLI INSURANCE GROUP
RLI Insurance Group is principally composed of four insurance companies. RLI Insurance Company, the principal subsidiary, writes multiple lines insurance on an admitted basis in all 50 states, the District of Columbia and Puerto Rico. Mt. Hawley Insurance Company (“Mt. Hawley”), a subsidiary of RLI Insurance Company, writes surplus lines insurance in all 50 states, the District of Columbia, Puerto Rico, the Virgin Islands and Guam. Underwriters Indemnity Company (“UIC”), a subsidiary of RLI Insurance Company, has authority to write multiple lines of insurance on an admitted basis in 33 states and the District of Colombia and surplus lines insurance in Ohio. Planet Indemnity Company (“PIC”), a subsidiary of Mt. Hawley, has authority to write multiple lines insurance on an admitted basis in 40 states and the District of Columbia. PIC has authority to write surplus lines insurance in an additional three states. Other companies in the RLI Insurance Group include: Replacement Lens Inc., RLI Insurance Agency, Ltd., RLI Insurance Ltd., Underwriters Indemnity General Agency, Inc., and Safe Fleet Insurance Services, Inc.
Since 1977, when the Company first began underwriting specialty property and casualty coverages for commercial risks, highly cyclical market conditions and a number of other factors have influenced the Company’s growth and underwriting profits. The Company, as a “niche” company rather than an “all lines” company, seeks to develop expertise and large homogeneous books of business in areas generally overlooked by traditional markets.
In response to the soft market conditions of the 1980’s, which were characterized by severe rate competition and excess underwriting capacity, the Company limited its writings in specialty property and casualty lines and terminated certain lines and sources of production.
Significant rate increases resulted when the insurance market hardened in late 1984. The Company responded by expanding its premium volume in targeted lines. From 1987 to 2001, the industry has experienced generally soft market conditions featuring intensified competition for admitted and surplus lines insurers, resulting in rate decreases. The Company has continually monitored its rates and controlled its costs in an effort to maximize profits during this entrenched soft market condition. As a result of catastrophic losses, such as Hurricane Andrew and the Northridge Earthquake, property rates hardened in California, Florida and the wind belt, but remained soft in other areas of the country. In 1994 and 1995, rates hardened and premium growth was achieved in the commercial property book of business. Otherwise, rates for property and casualty lines have declined over time. To maintain profitability, underwriters have tightened selection criteria, broadened their focus to other market segments and given up business where rates dropped too low.
Since the end of 1999, a trend emerged of modest firming in the pricing of branch office business. A return to conservative underwriting has become common in the industry for the segments the Company writes since early in 2001. The events of September 11th and the reduction in available reinsurance capacity are expected to open up more demand for the Company’s specialty products.
2
The Company initially wrote specialty property and casualty insurance through independent underwriting agents. The Company opened its first branch office in 1984, and began to shift from independent underwriting agents to wholly-owned branch offices which market to wholesale producers. The Company also markets certain products to retail producers from its Specialty Markets Division and the Surety Division. The Company produces business under agreements with underwriting general agents. Additional underwriting agents are accepted under the auspices of Company product vice presidents. The majority of the specialty property and casualty business is marketed through the Specialty Markets and Surety divisions and branch offices located in Los Angeles, California; Oakland, California; Glastonbury, Connecticut; Atlanta, Georgia; Alpharetta, Georgia; Honolulu, Hawaii; Chicago, Illinois; Overland Park, Kansas; Boston, Massachusetts; St. Paul, Minnesota; Summit, New Jersey; Philadelphia, Pennsylvania; Dallas, Texas; Houston, Texas; and Seattle, Washington.
For the year ended December 31, 2001, the following table provides the geographic distribution of the Company’s risks insured as represented by direct premiums earned for all product lines. For the year ended December 31, 2001, no other state accounted for more than 2% of total direct premiums earned for all product lines.
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Direct Premiums |
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State |
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Earned |
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Percent of Total |
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(in thousands) |
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California |
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$ |
117,806 |
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25.5 |
% |
Texas |
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46,018 |
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10.0 |
% |
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Florida |
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38,263 |
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8.3 |
% |
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New York |
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34,017 |
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7.4 |
% |
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Illinois |
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15,611 |
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3.4 |
% |
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Georgia |
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15,314 |
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3.3 |
% |
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Ohio |
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13,087 |
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2.8 |
% |
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Hawaii |
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12,558 |
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2.7 |
% |
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Tennessee |
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11,640 |
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2.5 |
% |
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New Jersey |
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10,685 |
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2.3 |
% |
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Pennsylvania |
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10,093 |
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2.2 |
% |
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Michigan |
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9,234 |
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2.0 |
% |
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All Other |
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126,806 |
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27.6 |
% |
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Total direct premiums |
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$ |
461,132 |
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100.0 |
% |
The Company presently underwrites selected property and casualty insurance primarily in the following lines:
A. PROPERTY SEGMENT
1. Commercial Property. The Company’s commercial property coverage consists primarily of excess and surplus lines and specialty insurance such as fire and difference in conditions which includes earthquake, flood and collapse coverages written in the United States and abroad. The Company writes coverage for a wide range of commercial and industrial classes such as office buildings, apartments, condominiums, certain industrial and mercantile structures, buildings under construction and movable equipment. The Company also writes boiler and machinery under the same management as commercial property. The Alpharetta, Boston, Chicago, Dallas, Houston, Los Angeles and Oakland branch offices are responsible for underwriting this coverage. In 2001, 2000, and 1999, net earned premiums totaled $62.9 million, $51.8 million and $43.9 million, or 20%, 20% and 19%, respectively, of the Company’s consolidated net revenues.
2. Homeowners/Residential Property. In 1997, the Company assumed a book of homeowners and dwelling fire business for Hawaii homeowners from the Hawaii Property Insurance Association. In the aftermath of Hurricane Iniki in 1992, this business was available at reasonable rates and terms. Net earned premiums totaled $7.9 million, $8.7 million and $6.9 million, or 3% of consolidated net revenues for 2001, 2000, and 1999, respectively.
3. Other. The Company acquired property business as a part of the acquisition of Underwriters Indemnity Holdings on January 29, 1999. All property coverages associated with this business were non-renewed in
3
accordance with allowed policy provisions. In 1999, net earned premiums totaled $622,000 or less than 1% of consolidated net revenue. In 2000, net earned premiums were negative ($485,000), as reinsurance adjustments resulted in a reclass between premium earned and ceded commissions. This change resulted in no net impact to the Company’s bottom line. No premiums were earned on this business in 2001.
B. SURETY SEGMENT
3. Surety. The Company underwrites this product line from the Home Office in Peoria and branch facilities in Atlanta, Boston, Chicago, Cleveland, Dallas, Houston, Kansas City, Los Angeles, New Jersey, Philadelphia and Seattle. The division focuses on writing contract bonds for small size contractors, energy-related business for oil and gas operators and a wide range of commercial surety bonds through independent agencies, regional and national brokers. Net earned premium totaled $45.3 million, $34.7 million, and $25.4 million, or 15%, 13% and 11% of consolidated net revenues for 2001, 2000 and 1999, respectively.
C. CASUALTY SEGMENT
4. General Liability. The Company writes general liability coverages through its Los Angeles, Glastonbury, Chicago, Alpharetta and Dallas branch offices. The Company’s general liability business consists primarily of coverage for third party liability of commercial insureds including manufacturers, contractors, apartments and mercantile risks. Net earned premiums totaled $47.7 million, $34.9 million and $31.1 million, or 15%, 13% and 14% of consolidated net revenues for the years 2001, 2000 and 1999, respectively.
5. Commercial and Personal Umbrella Liability. The Company’s commercial umbrella coverage is produced through its St. Paul, Alpharetta, Glastonbury, Los Angeles and Dallas branch offices. Commercial Umbrella was also written through an underwriting general agency in San Francisco until the agreement was discontinued late in 2001. The coverage is principally written in excess of primary liability insurance provided by other carriers and, to a small degree, in excess of primary liability written by the Company. The personal umbrella coverage, which is produced through the Specialty Markets Division, is written in excess of the homeowners and automobile liability coverage provided by other carriers. Net earned premiums totaled $56.3 million, $62.9 million and $59.0 million, or 18%, 24% and 26% of consolidated net revenues for the years 2001, 2000 and 1999, respectively.
6. Executive Products. The Company produces financial products such as Directors’ and Officers’ Liability through underwriting facilities in Chicago, Dallas, Philadelphia, Los Angeles and Summit. The Company offers Miscellaneous Professional Liability for a variety of low to moderate classes of risks. D&O is a relatively small component of the overall P&C market, which has been subject to severe competition. Underwriters have relinquished market share rather than accept inadequate pricing. The package of coverages offered has been expanded to include a variety of coverages of interest to corporations and executives, such as Employment Practices Liability and Fiduciary Liability. This is designed to give the product broader appeal. Net earned premiums totaled $4.5 million, $3.0 million and $2.6 million, or 1% of consolidated net revenues for the years 2001, 2000 and 1999, respectively.
7. Program Business. The Company began writing Program Business in 1998 through a broker in New Jersey. During 2001, the Program division’s infrastructure was improved to streamline processing through automation and utilization of new technologies that will shorten the time required to launch new products and programs. This division continues to develop new programs for a variety of affinity groups. Coverages offered include: Commercial Property, General Liability, Commercial Automobile, Inland Marine, and Crime. Often, these coverages are combined into a package or portfolio policy. The division establishes relationships with program administrators that perform many of the underwriting and policy servicing functions under guidelines established by the Company’s underwriting group. Net earned premiums totaled $8.5 million, $4.6 million and $456,000 for 2001, 2000 and 1999, respectively. These amounts represent 3% of consolidated net revenues for 2001 and 2% of revenues in 2000.
8. Transportation. In 1997, the Company opened a transportation insurance facility in Atlanta to offer automobile liability and physical damage insurance to local, intermediate and long haul truckers, public transportation risks and equipment dealers. Incidental, related insurance coverages are also offered, including general liability, commercial umbrella and excess liability, and motor truck cargo. The facility is staffed by highly experienced transportation underwriters who produce business through independent agents and brokers nationwide. Net earned premiums totaled $23.5 million, $14.2 million and $9.6 million, or 8%, 5% and 4% of consolidated net revenues for 2001, 2000 and 1999, respectively.
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9. Other. Smaller programs offered by the Company include: deductible buy-back, in-home business, and employer’s excess indemnity. Net earned premiums from these lines totaled $16.4 million, $17.3 million and $15.6 million, or 5%, 7% and 6% of consolidated net revenues for the years 2001, 2000 and 1999, respectively.
Competition
The Company’s specialty property and casualty insurance subsidiaries are part of an extremely competitive industry which is cyclical and historically characterized by periods of high premium rates and shortages of underwriting capacity followed by periods of severe competition and excess underwriting capacity. Within the United States alone, approximately 2,500 companies, both stock and mutual, actively market property and casualty products. The combination of products, service, pricing and other methods of competition vary from line to line. The Company’s principal methods of meeting this competition are innovative products, marketing structure and quality service to the agents and policyholders at a fair price. The Company is a leader in using the internet to conduct e-business for products that lend themselves to that approach. The Company competes favorably in part because of its sound financial base and reputation, as well as its broad geographic penetration into all 50 states, the District of Columbia, Puerto Rico, the Virgin Islands and Guam. In the property and casualty area, the Company has acquired experienced underwriting specialists in its branch and home offices. In 1987, the insurance industry, in general, entered into a “soft” or highly competitive period during which insurance rates generally decreased. The specialty property and casualty market continued to be soft with some rate increases experienced in the property lines in California, Florida and the wind belt from 1993 through 1995. From 1996 to 1999, competition reasserted itself and the Company reduced rates somewhat. Towards the end of 1999, a favorable trend emerged of price firming on commercial business, driven in part by the reinsurance market. This trend continued for the Company’s commercial business throughout 2000 and became more significant in 2001. The Company has continued to maintain its underwriting and marketing standards by not seeking market share at the expense of earnings. New products and new programs are offered where the opportunity exists to provide needed insurance coverage with exceptional service on a profitable basis.
Ratings
During 1992, the A.M. Best rating for RLI Insurance Company, the principal subsidiary of the Company, was upgraded to “A” (Excellent). During 1993, Mt. Hawley Insurance Company’s (an indirect subsidiary of the Company) A.M. Best rating was upgraded to “A” (Excellent). During 2001, A.M. Best gave a group rating to the combined entity of both RLI Insurance Company and Mt. Hawley Insurance Company based on the similarities of management structure and strategy for the two firms. The rating for 2001 for the Group was reaffirmed as “A”, and both companies were assigned a financial size category of “IX”. Underwriters Indemnity Company’s (an indirect subsidiary of the Company) A.M. Best rating for 2001 remained “A-” (Excellent). Planet Indemnity Company’s (an indirect subsidiary of the Company) A.M. Best rating for 2001 remained “A-” (Excellent).
During 1997, the Company, for the first time, applied for and received a claims-paying rating from Standard & Poor’s. As a result, a rating of “A” (Good) was received for the combined insurance operation. In 1999, the “A” rating was upgraded to “A+”, as Standard & Poor’s cited the Company’s strong operating performance, capitalization and risk management. In 2001, Standard & Poor’s reaffirmed the Company’s “A+” rating, however, the outlook for the rating was revised to “Negative” as a result of continued catastrophe exposure in the Company’s DIC product line.
A.M. Best ratings for the industry range from “A++” (Superior) to “F” (In Liquidation) with some companies not being rated. Standard & Poor’s ratings for the industry range from “AAA” (Superior) to “CC” (Default Expected). Publications of both A.M. Best and Standard & Poor’s indicate that “A” and “A+” ratings are assigned to those companies that, in their opinion, have achieved excellent overall performance when compared to the standards established by these firms and 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, both firms review the company’s profitability, leverage and liquidity, as well as the company’s spread of risk, the quality and appropriateness of its reinsurance, the quality and diversification of its assets, the adequacy of its policy and loss reserves, the adequacy of its surplus, its capital structure and the experience and objectives of its management. These ratings are based on factors relevant to policyholders, agents, insurance brokers and intermediaries and are not directed to the protection of investors.
As of December 31, 2001, the Company had no public debt outstanding; therefore, no debt rating existed.
5
Reinsurance
The Company reinsures a significant portion of its property and casualty insurance exposure, paying to the reinsurer a portion of the premiums received on such policies. Earned premiums ceded to non-affiliated reinsurers totaled $194.3 million, $161.5 million and $129.9 million in 2001, 2000 and 1999, respectively. Insurance is ceded principally to reduce net liability on individual risks and to protect against catastrophic losses. Although reinsurance does not legally discharge an insurer from its primary liability for the full amount of the policies, it does make the assuming reinsurer liable to the insurer to the extent of the insurance ceded.
The Company attempts to purchase reinsurance from a number of financially strong reinsurers. Retention levels are adjusted each year to maintain a balance between the growth in surplus and the cost of reinsurance. At December 31, 2001, the Company had reinsurance recoverables on paid and unpaid losses and settlement expenses of $81.6 million with American Re-Insurance Co., $39.1 million with General Cologne Re, $33.7 million with Employers Reinsurance Corp., and $21.7 million with Transatlantic Reinsurance (all four rated “A++” (Superior) by A.M. Best Company). All other reinsurance balances recoverable, when considered by individual reinsurer, are less than 5% of shareholders’ equity.
The following table sets forth the largest reinsurers in terms of amounts recoverable before reinsurance payables from such reinsurers as of December 31, 2001. Also shown are the amounts of written premium ceded by the Company to such reinsurers during 2001.
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Gross Reinsurer |
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Ceded |
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Exposure as of |
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Percent |
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Premiums |
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Percent |
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December 31, 2001 |
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of Total |
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Written |
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of Total |
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(in thousands) |
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American Re-Insurance Co. |
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$ |
81,629 |
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22.6 |
% |
$ |
27,650 |
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14.1 |
% |
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General Cologne Re |
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39,068 |
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10.8 |
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15,947 |
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8.1 |
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Employers Reinsurance Corp. |
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33,710 |
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9.3 |
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18,092 |
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9.2 |
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Transatlantic Reinsurance |
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21,654 |
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6.0 |
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5,936 |
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3.0 |
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St. Paul Fire & Marine |
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13,403 |
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3.7 |
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6,924 |
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3.5 |
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Lloyd’s Underwriters |
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12,669 |
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3.5 |
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22,066 |
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11.2 |
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Liberty Mutual Insurance Co. |
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11,800 |
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3.3 |
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8,004 |
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4.1 |
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Continental Casualty Co. |
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11,127 |
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3.1 |
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4,754 |
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2.4 |
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Swiss Reinsurance America |
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8,900 |
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2.5 |
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5,831 |
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3.0 |
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St. Paul Fire & Marine UK |
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8,323 |
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2.3 |
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1,872 |
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1.0 |
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All other reinsurers |
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119,476 |
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32.9 |
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79,696 |
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40.4 |
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Total ceded exposure |
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$ |
361,759 |
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100.0 |
% |
$ |
196,772 |
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100.0 |
% |
As of December 31, 2001, the Company held $6.8 million in irrevocable letters of credit, $7.9 million under trust agreements and $2.0 million in cash to collateralize a portion of the total amount recoverable.
Reinsurance contracts are subject to certain risks, specifically market risk, which affects the cost of and the ability to secure these contracts, and collection risk. Since 1992, the Company has purchased non-proportional contracts. This allows the Company to retain a larger percentage of the premium and a larger portion of the initial loss ris