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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 11, 2001
REGISTRATION NO. 333-65440
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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AMENDMENT NO. 1
TO
FORM S-4
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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RADIAN GROUP INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 6351 23-2691170
(STATE OR OTHER JURISDICTION (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
OF INCORPORATION OR CLASSIFICATION NUMBER) IDENTIFICATION NUMBER)
ORGANIZATION)
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FRANK P. FILIPPS
CHAIRMAN AND CHIEF EXECUTIVE OFFICER
1601 MARKET STREET
PHILADELPHIA, PENNSYLVANIA 19103
(215) 564-6600
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
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Copies to:
STEVEN C. ROBBINS, ESQ.
REED SMITH LLP
1650 MARKET STREET
PHILADELPHIA, PENNSYLVANIA 19103
(215) 851-8119
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APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after this Registration Statement becomes effective.
If the securities being registered on this Form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
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THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING
PURSUANT TO SAID SECTION 8(a), MAY DETERMINE.
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PROSPECTUS
$250,000,000
[RADIAN GROUP LOGO]
RADIAN GROUP INC.
OFFER TO EXCHANGE UP TO
$250,000,000 7.75% DEBENTURES DUE 2011
FOR $250,000,000 7.75% DEBENTURES DUE 2011
THAT HAVE BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933
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We are offering to exchange new 7.75% debentures due 2011, that we have
registered under the Securities Act of 1933, for all of our outstanding 7.75%
debentures due 2011, which were previously issued pursuant to an exemption from
registration under the Securities Act of 1933. We refer to these registered
debentures as the new debentures and the outstanding unregistered debentures as
the old debentures.
THE EXCHANGE OFFER
- We will exchange an equal principal amount of new debentures that are
freely tradeable for all old debentures that are validly tendered and not
validly withdrawn.
- You may withdraw tenders of outstanding old debentures at any time prior
to the expiration of the exchange offer.
- The exchange offer is subject to the satisfaction of limited, customary
conditions.
- The exchange offer expires at 5:00 p.m., Philadelphia time, on November
11, 2001, unless extended.
- The exchange of old debentures for new debentures in the exchange offer
generally will not be a taxable event for U. S. federal income tax
purposes.
- We will not receive any proceeds from the exchange offer.
THE NEW DEBENTURES
- We are offering the new debentures in order to satisfy our obligations
under the registration rights agreement entered into in connection with
the private placement of the old debentures.
- The terms of the new debentures to be issued in the exchange offer are
substantially identical to the terms of the old debentures, except that
the new debentures are registered under the Securities Act and have no
transfer restrictions, rights to additional interest or registration
rights except in limited circumstances.
SEE "RISK FACTORS" BEGINNING ON PAGE 10 TO READ ABOUT FACTORS YOU SHOULD
CONSIDER IN CONNECTION WITH THE EXCHANGE OFFER.
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If you are a broker-dealer that receives new debentures for your own
account as a result of market-making or other trading activities, you must
acknowledge that you will deliver a prospectus in connection with any resale of
the new debentures. The letter of transmittal accompanying this prospectus
states that by so acknowledging and by delivering a prospectus, you will not be
deemed to admit that you are an "underwriter" within the meaning of the
Securities Act. You may use this prospectus, as we may amend or supplement it in
the future, for your resales of new debentures. We will make this prospectus
available to any broker-dealer for use in connection with any such resale for a
period of 180 days after the date of expiration of this exchange offer.
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Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of the new debentures or determined if
this prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
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The date of this prospectus is October 12, 2001.
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WHERE YOU CAN FIND MORE INFORMATION
We file annual, quarterly and current reports, proxy statements and other
information with the Securities and Exchange Commission. You may read and copy
any document we file with the Commission at the public reference facilities the
Commission maintains at 450 Fifth Street, N.W., Washington, D.C. 20549, and at
the Commission's regional office located at Northwestern Atrium Center, Suite
1400, 500 West Madison Street, Chicago, Illinois 60661. You may also obtain
copies of these materials by mail from the Public Reference Section of the
Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed
rates. Please call the Commission at 1-800-SEC-0330 for further information on
the operation of the public reference rooms. The Commission also maintains a web
site, the address of which is http://www.sec.gov. That site contains our annual,
quarterly and current reports, proxy statements and other information. You may
also read our annual, quarterly and current reports, proxy statements and other
documents relating to us at the offices of the New York Stock Exchange at 20
Broad Street, New York, New York 10005.
We have filed this prospectus with the Commission as part of a registration
statement on Form S-4 under the Securities Act. This prospectus does not contain
all of the information set forth in the registration statement because some
parts of the registration statement are omitted in accordance with the rules and
regulations of the Commission. The registration statement and its exhibits are
available for inspection and copying as set forth above and our security holders
may obtain this information from us without charge by writing to us at 1601
Market Street, Philadelphia, PA 19103, or by calling us at (215) 564-6600.
You should rely only on the information contained in this prospectus. We
have not authorized any other person to provide you with different or additional
information. If anyone provides you with different or additional information,
you should not rely on it. The information contained in this prospectus is
accurate only as of the date on the front cover of this prospectus. Our
business, financial condition, results of operations and prospects may have
changed since then. We are not making an offer to sell the new debentures in any
jurisdiction where the offer or sale is not permitted.
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NOTE TO READERS
Throughout this prospectus, we present information about us that reflects
important adjustments to historical information. We have made these adjustments
because we believe that the adjusted information will enable you to better
evaluate our business and operations in light of the significant acquisitions
and the issuance of the old debentures that we effected since January 1, 2000.
The adjustments that we have made are as follows:
- we present certain financial information about our financial position and
results of operations on a pro forma basis to reflect the most
significant, but not all, of our acquisitions and the issuance of the old
debentures during, after or as of the beginning or end of, the applicable
periods. We identify this information by referring to it as being pro
forma or reflecting these transactions, which we refer to as the pro
forma transactions. The basis on which we have prepared this information
is described under "Unaudited Pro Forma Condensed Combined Financial
Statements;" and
- in describing our business, we generally provide information on a basis
that gives effect to completed acquisitions. This information includes
the pro forma transactions as well as other transactions that are not
part of the pro forma transactions.
[REMAINDER OF PAGE INTENTIONALLY LEFT BLANK.]
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SUMMARY
This summary highlights selected information about us and the exchange
offer. This summary is not complete and does not contain all of the information
that you should consider before participating in this exchange offer. You should
read this entire prospectus carefully, including the section entitled "Risk
Factors."
RADIAN GROUP INC.
Radian Group Inc., referred to herein as Radian Group, we or us provides
through its wholly owned subsidiary, Radian Guaranty Inc. (referred to herein as
Radian Guaranty) private mortgage insurance coverage in the United States on
residential mortgage loans. Private mortgage insurance protects mortgage lenders
and investors from default related losses on residential first mortgage loans
made primarily to home buyers who make down payments of less than 20% of the
home's purchase price. Private mortgage insurance also facilitates the sale of
such mortgage loans in the secondary mortgage market, principally to Freddie Mac
and Fannie Mae. Radian Guaranty is restricted to providing insurance on
residential first mortgage loans only. Radian Group has another mortgage
insurance subsidiary, Amerin Guaranty Corporation (referred to herein as Amerin
Guaranty). Amerin Guaranty has previously offered insurance of residential first
mortgages only but beginning October 1, 2001, is licensed as an insurer of
second mortgages only and will be restricted to writing new business on second
mortgages. We currently offer two principal types of private mortgage insurance
coverage, primary and pool. At June 30, 2001, primary insurance comprised 94.5%
of our risk in force and pool insurance comprised 5.5% of our risk in force. The
volume of pool insurance written increased significantly in the past several
years, but declined in 2000 and the first and second quarter of 2001, and is
expected to continue to decline in the future due primarily to stringent capital
requirements.
In September 2000, we commenced operations in Radian Insurance Inc.
(referred to herein as Radian Insurance), a subsidiary which writes credit
insurance on non-traditional mortgage related assets, such as second mortgages
and manufactured housing, and provides credit enhancement to mortgage related
capital market transactions. We intend to take advantage of our expertise in
credit underwriting and evaluation of asset performance to write business which
we are otherwise precluded from writing through the monoline mortgage guaranty
companies, Radian Guaranty and Amerin Guaranty. In 2000, Radian Insurance wrote
$1.6 billion of new insurance representing approximately $211 million in risk.
During the first half of 2001, Radian Insurance wrote approximately 1.9 billion
of new insurance representing approximately $429 million in risk. We expect the
business written in Radian Insurance to increase significantly in the balance of
2001, mostly consisting of insurance on second mortgages and home equity loans.
The insurance structures typically used in Radian Insurance are pool insurance
or modified pool insurance which can have a reserve or first loss position in
front of Radian Insurance's layer of risk. We have agreed to maintain at least
$30 million in capital in Radian Insurance and intend to capitalize Radian
Insurance at all times in an amount that would support the existing risk in
force.
Additionally, we recently acquired the business of Enhance Financial
Services Group Inc. (referred to herein as Enhance Financial Services) pursuant
to a merger completed on February 28, 2001. Enhance Financial Services, now our
wholly-owned subsidiary, through its operating subsidiaries, insures and
reinsures credit-based risks and acquires and services credit-based assets in a
variety of domestic and international niche markets. Its businesses are divided
into two operating segments, its insurance businesses and its asset-based
businesses, with the insurance businesses being by far the larger operating
segment. On a pro forma basis, Enhance Financial Services would have accounted
for 22.3% of the combined companies' total revenue for the year ended December
31, 2000. See "Unaudited Pro Forma Condensed Combined Financial Information."
Our principal executive offices are located at 1601 Market Street,
Philadelphia, Pennsylvania 19103. Our telephone number is (215) 564-6600.
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THE OFFERING
SUMMARY OF TERMS OF THE EXCHANGE OFFER
Background On May 29, 2001, we completed a private placement
of our outstanding, unregistered old debentures. In
connection with that private placement, we entered
into a registration rights agreement in which we
agreed to deliver this prospectus to you and to
make an exchange offer.
The Exchange Offer We are offering to exchange up to $250 million
aggregate principal amount of our new debentures
which have been registered under the Securities Act
for up to $250 million aggregate principal amount
of our old debentures. You may tender old
debentures only in integral multiples of $1,000
principal amount. You should read the discussion
under the heading "The Exchange Offer" beginning on
page 80 for further information about the exchange
offer and resale of the new debentures.
Resale of New Debentures Based on interpretive letters of the SEC staff to
third parties, we believe that you may resell and
transfer the new debentures issued pursuant to the
exchange offer in exchange for old debentures
without compliance with the registration and
prospectus delivery provisions of the Securities
Act, if:
- you are acquiring the new debentures in the
ordinary course of your business;
- you have no arrangement or understanding with any
person to participate in the distribution of the
new debentures; and
- you are not our affiliate as defined under Rule
405 of the Securities Act.
If you fail to satisfy any of these conditions, you
must comply with the registration and prospectus
delivery requirements of the Securities Act in
connection with a resale of the new debentures.
Broker-dealers that acquired old debentures
directly from us, but not as a result of
market-making activities or other trading
activities, must comply with the registration and
prospectus delivery requirements of the Securities
Act in connection with a resale of the new
debentures.
Each broker-dealer that receives new debentures for
its own account pursuant to the exchange offer in
exchange for old debentures that it acquired as a
result of market-making or other trading activities
must deliver a prospectus in connection with any
resale of the new debentures and provide us with a
signed acknowledgement of this obligation.
Consequences If You Do Not
Exchange Your Old
Debentures Old debentures that are not tendered in the
exchange offer or are not accepted for exchange
will continue to bear legends restricting their
transfer. You will not be able to offer or sell the
old debentures unless:
- an exemption from the requirements of the
Securities Act is available to you;
- we register the resale of the old debentures
under the Securities Act; or
- the transaction requires neither an exemption
from nor registration under the requirements of
the Securities Act.
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After the completion of the exchange offer, we will
no longer have an obligation to register the old
debentures, except in limited circumstances.
Expiration Date 5:00 p.m., Philadelphia time, on November 11, 2001,
unless we extend the exchange offer.
Conditions to the Exchange
Offer The exchange offer is subject to limited, customary
conditions, which we may waive.
Procedures for Tendering
Old
Debentures If you wish to accept the exchange offer, you must
deliver to the exchange agent:
- either a completed and signed letter of
transmittal or, for old debentures tendered
electronically, an agent's message from The
Depository Trust Company, which we refer to as
DTC, Euroclear Clearance System, referred to
herein as Euroclear, or Banking Societe Annoyme
Luxembourg, referred to herein as Clearstream,
stating that the tendering participant agrees to
be bound by the letter of transmittal and the
terms of the exchange offer;
- your old debentures by timely confirmation of
book entry transfer through DTC, Euroclear or
Clearstream; and
- all other documents required by the letter of
transmittal.
These actions must be completed before the
expiration of the exchange offer.
If you hold old debentures through DTC, Euroclear
or Clearstream, you must comply with their standard
procedures for electronic tenders, by which you
will agree to be bound by the letter of
transmittal.
By signing, or by agreeing to be bound by the
letter of transmittal, you will be representing to
us that:
- you will be acquiring the new debentures in the
ordinary course of your business;
- you have no arrangement or understanding with any
person to participate in the distribution of the
new debentures; and
- you are not our affiliate as defined under Rule
405 of the Securities Act.
See "The Exchange Offer--Procedures for Tendering."
Guaranteed Delivery
Procedures
for Tendering Old
Debentures If you cannot meet the expiration deadline or you
cannot deliver your old debentures, the letter of
transmittal or any other documentation to comply
with the applicable procedures under DTC, Euroclear
or Clearstream standard operating procedures for
electronic tenders in a timely fashion, you may
tender your old debentures according to the
guaranteed delivery procedures set forth under "The
Exchange Offer--Guaranteed Delivery Procedures."
Special Procedures for
Beneficial
Holders If you beneficially own old debentures which are
registered in the name of a broker, dealer,
commercial bank, trust company or other nominee and
you wish to tender in the exchange offer, you
should contact that registered holder promptly and
instruct that person to tender on your behalf. If
you wish to tender in the exchange offer on your
own behalf, you must, prior to completing and
executing the letter of transmittal and
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delivering your old debentures, either arrange to
have the old debentures registered in your name or
obtain a properly completed bond power from the
registered holder. The transfer of registered
ownership may take considerable time.
Withdrawal Rights You may withdraw your tender of old debentures any
time before the exchange offer expires.
Tax Consequences The exchange pursuant to the exchange offer
generally will not be a taxable event for U. S.
federal income tax purposes. See "Summary of United
States Federal Tax Consequences."
Use of Proceeds We will not receive any proceeds from the exchange
or the issuance of new debentures in connection
with the exchange offer.
Registration Rights If we fail to complete the exchange offer and a
resale registration statement in respect of the old
notes is not declared effective within specified
time periods, we may be obligated to pay additional
interest to holders of old notes. Please read "The
Exchange Offer -- Purpose and Effect of Exchange
Offer; Registration Rights" beginning on page 80
for more information regarding your rights as a
holder of old notes.
Exchange Agent First Union National Bank (referred to herein as
First Union) is serving as exchange agent in
connection with the exchange offer. The address and
telephone number of the exchange agent are set
forth under "The Exchange Offer -- Exchange Agent."
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SUMMARY DESCRIPTION OF THE NEW DEBENTURES
The form and terms of the new debentures are the same as the form and terms
of the old debentures, except that:
- the new debentures will be registered under the Securities Act and will
therefore not bear legends restricting their transfer; and
- specified rights under the registration rights agreement, including the
provisions providing for registration rights and the payment of
additional interest in specified circumstances will be limited or
eliminated.
The new debentures will evidence the same debt as the old debentures and
will rank equally with the old debentures. The same indenture will govern both
the old debentures and the new debentures.
You should read the discussion under the headings "Description of the New
Debentures" beginning on page 89 for further information about the new
debentures.
TERMS OF THE NEW DEBENTURES
The specific financial terms of the new debentures are as follows:
- Title: 7.75% Debentures due June 1, 2011
- Issuer: Radian Group Inc.
- Total principal amount being issued: $250,000,000
- Due date for principal: June 1, 2011
- Interest rate: 7.75% annually
- Date interest started accruing: May 29, 2001
- Due dates for interest: every June 1 and December 1
- First due date for interest: December 1, 2001
- Regular record dates for interest: every May 15 and November 15
- Optional Redemption: at any time at our option
- Repayment at option of Holder: none
The covenants contained in the new debentures are identical to the
covenants contained in the old debentures and include limits on our ability to:
- merge, consolidate or sell all of our assets;
- to incur liens on the capital stock of certain of our subsidiaries; and
- to sell the capital stock of our subsidiaries.
Likewise, the events of default of the new debentures are identical to the
events of default of the old debentures, and include:
- failure to pay interest or principal when due;
- failure to perform covenants;
- failure to pay at maturity or otherwise incur a default on certain
indebtedness in excess of $15,000,000; and
- certain events of bankruptcy, insolvency, and reorganization.
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SUMMARY UNAUDITED PRO FORMA COMBINED FINANCIAL AND OTHER DATA
The summary unaudited pro forma combined financial and other data set forth
below have been derived from the pro forma combined financial statements
included under "Unaudited Pro Forma Condensed Combined Financial Information."
The pro forma income statement data gives effect to the acquisition as if
it occurred on January 1, 2000.
This summary unaudited pro forma condensed combined summary information is
provided only for the purposes of illustration, and it does not necessarily
indicate what our operating results would have been if the acquisition of
Enhance Financial Services had been completed at the dates indicated. Moreover,
this information does not necessarily indicate what the future operating results
of the combined company will be. You should read this unaudited pro forma
condensed combined summary financial information in conjunction with the
information contained in the section titled "Unaudited Pro Forma Condensed
Combined Financial Information." This unaudited pro forma condensed combined
summary financial information does not reflect any adjustments to conform to
generally accepted accounting principles, or to reflect any cost savings or
other synergies anticipated as a result of the acquisition or any future
acquisition-related expenses.
UNAUDITED PRO FORMA COMBINED
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FOR THE SIX MONTHS FOR THE YEAR ENDED
ENDED JUNE 20, 2001 DECEMBER 31, 2000
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(IN THOUSANDS, EXCEPT PER SHARE DATA)
Premiums earned............................................. $335,448 $631,123
Net investment income....................................... 81,377 145,907
Provision for losses........................................ 140,501 189,032
Policy acquisition costs.................................... 41,731 71,614
Other operating expenses.................................... 120,743 141,108
Pretax income............................................... 138,469 386,969
Net income.................................................. 96,903 262,539
Net income per share -- diluted............................. 1.01 2.78
Cash dividends per share.................................... 0.03 0.12
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SUMMARY HISTORICAL FINANCIAL DATA
Our summary historical financial information set forth below is derived
from our unaudited consolidated financial statements, except for the unaudited
information for the quarters ended June 30, 2001 and 2000, which is derived from
our quarterly report on Form 10-Q for the quarter ended June 30, 2001. Per share
data has been adjusted for the two-for-one stock split effected in June 2001.
You should read this financial information in conjunction with our financial
statements included elsewhere this prospectus.
AT OR FOR THE
SIX MONTHS ENDED
JUNE 30, AT OR FOR THE YEAR ENDED DECEMBER 31,
----------------------------- --------------------------------------------------------------
2001 2000 2000 1999 1998 1997 1996
---- ---- ---- ---- ---- ---- ----
(IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
Premiums earned......... $ 335,004 $256,836 $ 520,871 $ 472,635 $ 405,252 $ 330,039 $ 250,270
Net investment income... 67,475 39,131 82,946 67,259 59,862 52,394 46,882
Provision for losses.... 101,582 76,787 154,326 174,143 166,377 147,421 112,575
Policy acquisition
costs................. 39,037 26,394 51,471 58,777 58,479 41,807 35,335
Other operating
expenses.............. 62,748 25,811 57,167 62,659 59,720 41,592 31,902
Merger expenses......... 0 0 0 37,766 1,098 0 0
Pretax income........... 242,062 170,711 352,470 219,466 197,913 159,161 122,167
Net income.............. 172,834 120,458 248,938 148,138 142,237 115,726 90,450
Net income per share --
diluted............... 1.92 1.56 3.22 1.92 1.84 1.50 1.18
Cash dividends per
share................. 0.02 0.02 0.06 0.05 0.04 0.04 0.03
Assets.................. $4,083,507 $2,272,811 $1,776,712 $1,513,405 $1,222,666 $1,014,972
Investments............. 3,104,427 1,750,457 1,388,677 1,175,452 974,650 841,951
Reserve for losses...... 553,299 390,021 335,584 245,125 179,908 126,936
Unearned premiums....... 473,388 77,241 54,925 75,538 72,684 73,909
Redeemable preferred
stock................. 40,000 40,000 40,000 40,000 40,000 40,000
Common stockholders'
equity................ 2,114,417 1,362,197 1,057,256 932,199 780,098 656,953
Book value per share.... 22.66 17.97 14.17 12.65 10.69 9.05
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RISK FACTORS
An investment in the new debentures involves certain risks and
uncertainties including the following:
IF YOU FAIL TO EXCHANGE YOUR OLD DEBENTURES, THEY WILL CONTINUE TO BE RESTRICTED
SECURITIES AND MAY BECOME LESS LIQUID
Old debentures which you do not tender or we do not accept will, following
the exchange offer, continue to be restricted securities. You may not offer or
sell untendered old debentures except pursuant to an exemption from, or in a
transaction not subject to, the Securities Act and applicable state securities
laws. We will issue new debentures in exchange for the old debentures pursuant
to the exchange offer only following the satisfaction of procedures and
conditions described elsewhere in this prospectus. These procedures and
conditions include timely receipt by the exchange agent of the old debentures
and of a properly completed and duly executed letter of transmittal.
Because we anticipate that most holders of old debentures will elect to
exchange their old debentures, we expect that the liquidity of the market for
any old debentures remaining after the completion of the exchange offer may be
substantially limited. Any old debenture tendered and exchanged in the exchange
offer will reduce the aggregate principal amount of the old debentures
outstanding. Following the exchange offer, if you did not tender your old
debentures you generally will not have any further registration rights and your
old debentures will continue to be subject to transfer restrictions.
Accordingly, the liquidity of the market for any old debentures could be
adversely affected.
WE ARE A HOLDING COMPANY THAT DEPENDS ON THE ABILITY OF OUR SUBSIDIARIES TO PAY
DIVIDENDS TO SERVICE OUR DEBT
Our principal source of cash to make payments on our debt are dividends and
other distributions from our subsidiaries, which are limited, among other
things, by the level of their liquidity, earnings and cash. Under applicable
state insurance law, the amount of cash dividends and other distributions that
our insurance subsidiaries may pay is restricted. Moreover, in connection with
obtaining approval from the New York Insurance Department for our acquisition of
Enhance Financial Services, two of Enhance Financial Services' operating
subsidiaries, Enhance Reinsurance Company (referred to herein as Enhance
Reinsurance), our financial guaranty reinsurance subsidiary and Asset Guaranty
Insurance Company (referred to herein as Asset Guaranty), a direct insurer and
reinsurer of financial guaranty and other similar obligations, have agreed not
to declare or pay dividends for a period of two years following the acquisition.
Our subsidiaries may also be restricted in their ability to pay dividends in
order to maintain adequate capital requirements necessary to retain their
ratings from applicable rating agencies. A significant deterioration in the
subsidiaries' earnings or cash flow, as a result of an economic downturn and a
corresponding decrease in credit quality or otherwise, could limit their ability
to pay cash dividends to us, which, in turn, would limit our ability to service
our debt.
In addition, as a holding company, the rights of creditors, including the
holders of the new debentures, to participate in our assets upon any
liquidation, receivership or reorganization will be junior and subject to the
prior claims of the subsidiaries' creditors, including policyholders.
LOSING THE BUSINESS OF ANY MAJOR CUSTOMER COULD HARM FINANCIAL PERFORMANCE
Since our formation by the merger of Amerin Corporation into CMAC
Investment Corporation, Radian Guaranty has been dependent on a small number of
lenders for referring a substantial portion of its business risk. Radian
Guaranty's top ten lenders were responsible for 42.8% of the direct primary risk
in force at December 31, 2000. Direct primary risk in force refers to an
aggregate amount equal to the principal amount of each insured loan multiplied
by the applicable coverage percentage on that loan. The top ten lenders were
also responsible for 43.4% of primary new insurance written in 2000.
The concentration of business with lenders may increase as a result of
mergers or other factors. These lenders may reduce the amount of business
currently given to Radian Guaranty or cease doing business with it altogether.
Radian Guaranty's master policies and related lender agreements do not, and by
law cannot,
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require its lenders to do business with it. The loss of business from any major
lender could materially adversely affect Radian Guaranty's and our business and
financial results.
Enhance Reinsurance currently derives substantially all of its reinsurance
premium revenues from four primary insurers and 43% of total gross premiums for
Enhance Reinsurance and Asset Guaranty. A substantial reduction in the amount of
insurance ceded by one or more of these four principal clients could have a
material adverse effect on Enhance Reinsurance's gross written premiums and,
consequently, our results from operations.
WE MAY FACE NEW COMPETITION FROM FANNIE MAE AND FREDDIE MAC WHICH MAY REDUCE
REVENUES
Fannie Mae and Freddie Mac have both announced programs under which less
mortgage insurance coverage may be required on loans with down payments of less
than 20%. Although there has been minimal business of this kind written to date,
if these programs are successful, or if Fannie Mae or Freddie Mac elect to
assume more of the credit risks on these loans or use credit enhancements other
than mortgage insurance, less mortgage insurance would be used. This would in
turn reduce our revenues.
INCREASED CLAIMS AND LOSSES ON POLICIES COULD HARM FINANCIAL PERFORMANCE
The factors identified below affect the private mortgage insurance industry
in general and will affect us. Any of these factors could cause claims and
losses on the policies issued by us to increase. Any increase in claims and
losses may materially adversely affect our financial condition and results of
operations.
(1) THE CONCENTRATION OF RISK IN FORCE IN RELATIVELY FEW STATES COULD
INCREASE CLAIMS AND LOSSES.
We can be particularly affected by economic downturns in regions where
large portions of our business are concentrated. As of December 31, 2000, Radian
Guaranty had a relatively high percentage of primary risk in force concentrated
in the following ten states:
- California 16.8% of total primary risk in force
- Florida 7.4% of total primary risk in force
- New York 6.1% of total primary risk in force
- Texas 5.3% of total primary risk in force
- Georgia 4.3% of total primary risk in force
- New Jersey 3.9% of total primary risk in force
- Arizona 3.8% of total primary risk in force
- Illinois 3.7% of total primary risk in force
- Pennsylvania 3.7% of total primary risk in force
- Colorado 3.1% of total primary risk in force
Continued and prolonged adverse economic conditions in these states could
result in high levels of claims and losses. In addition, refinancing activity,
such as that which occurred in 1998, and is occurring in 2001, can have the
effect of concentrating insurance in force in economically weaker areas, since
loans in areas experiencing property value appreciation are less likely to
require mortgage insurance at the time of refinancing than are loans in areas
experiencing limited or no property value appreciation.
Enhance Reinsurance and Asset Guaranty also had relatively high percentages
of risk in force concentrated in six states (California, New York, Florida,
Texas, Pennsylvania and Illinois) which accounted for 40.9% of their insurance
in force in 2000.
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(2) WE CANNOT CANCEL POLICIES OR ADJUST RENEWAL PREMIUMS TO PROTECT OURSELF
FROM UNANTICIPATED CLAIMS OR LOSSES.
Generally, we cannot cancel mortgage insurance coverage we provide. Also,
generally, renewal premium rates for the life of the policy are fixed when
issued. If the risk underlying a particular product develops more adversely than
anticipated or if national and regional economies undergo unanticipated stress,
we cannot increase renewal premium rates or cancel coverage to offset against
such adverse developments.
(3) A SIGNIFICANT PORTION OF RISK IN FORCE CONSISTS OF LOANS WITH
LOAN-TO-VALUE RATIOS IN EXCESS OF 90%, WHICH GENERALLY RESULT IN MORE
CLAIMS THAN LOANS WITH LOWER LOAN-TO-VALUE RATIOS.
At December 31, 2000:
- 46.2% of primary risk in force consisted of mortgage loans with
loan-to-value ratios greater than 90.01%;
- 39.5% of primary risk in force consisted of mortgage loans with
loan-to-value ratios greater than 90.01%, but less than or equal to
95.00%;
- 6.7% of primary risk in force consisted of mortgage loans with
loan-to-value ratios greater than 95.00%; and
- 14.0% of primary risk in force consisted of adjustable rate mortgage
loans.
Loans with loan-to-value ratios greater than 90% are expected to have claim
incidence rates substantially higher than mortgage loans with loan-to-value
ratios equal to or less than 90%. In the case of adjustable rate mortgage loans,
such loans generally have higher claim incidence rates than fixed rate loans.
(4) PREMIUM RATES MAY GENERATE INSUFFICIENT INCOME TO COVER LOSSES.
Mortgage insurance premium rates are based upon the expected risk of claim
on the insured loan, and take into account the loan-to-value ratios, loan type,
mortgage term, occupancy status and coverage percentage. In addition, the
premium rates take into account persistency, operating expenses and reinsurance
costs, as well as profit and capital needs and the prices offered by
competitors. However, premiums earned, and the associated investment income, may
ultimately prove to be inadequate to compensate for future losses. Some loans
are classified as "Alt-A" and "A minus." These loan programs enable borrowers
with either less than normal documentation or less than ideal credit histories
to obtain mortgages and mortgage insurance and are considered riskier than our
general portfolio. At December 31, 2000, Alt-A loans constituted 6.3% and A
minus loans constituted 3.4% of our mortgage insurance primary risk in force.
(5) GENERAL ECONOMIC FACTORS MAY ADVERSELY AFFECT LOSS EXPERIENCE.
We believe that our loss experience, and the loss experience of other
mortgage insurers, would be materially and adversely affected by extended
national or regional economic recessions, falling housing values, rising
unemployment rates, interest rate volatility or combinations of such factors.
Such economic events could also materially adversely impact the demand for
housing and, consequently, mortgage insurance.
(6) LOSS EXPERIENCE TENDS TO INCREASE AS POLICIES AGE.
The majority of claims under private mortgage insurance policies have
historically occurred during the third through the sixth years after issuance of
the policies. As of December 31, 2000, approximately 72.8% of the primary risk
in force was written since January 1, 1998. As a result, loss experience on
these loans is expected to significantly increase as policies continue to age.
If the claim frequency on such risk in force significantly exceeds the claim
frequency that was assumed in setting premium rates, our financial condition,
results of operations and cash flows would be materially and adversely affected.
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(7) RESERVES MAY BE INSUFFICIENT TO COVER CLAIMS PAID OR LOSS-RELATED
EXPENSES INCURRED.
Results of operations would be adversely affected if reserves are
insufficient to cover the actual related claims paid and loss-related expenses
incurred. We establish loss reserves to recognize the liability for unpaid
losses related to insurance in force on mortgage loans which are in default.
These loss reserves are based upon the estimated claim rate and related claim
amount. These estimates are regularly reviewed and updated using the most
current information available. These reserves are necessarily based on estimates
and the ultimate claim rate and the resulting aggregate amount of claims may
vary from these estimates. Any resulting adjustments, which may be material, are
reflected in then current consolidated results of operations. The reserves may
not be adequate to cover ultimate loss development on incurred defaults.
Generally accepted accounting principles do not permit us to establish loss
reserves in respect of estimated potential defaults that may occur in the
future.
(8) PAYING A SIGNIFICANT NUMBER OF CLAIMS UNDER CERTAIN INSURANCE PROGRAMS
WRITTEN COULD HARM FINANCIAL PERFORMANCE.
We expect to continue offering traditional pool insurance, which is
generally considered riskier than primary insurance. Under primary insurance, an
insurer's exposure is limited to a specified percentage of any unpaid principal,
delinquent interest and related expenses on an individual loan. Under
traditional pool insurance, there is an aggregate exposure limit -- a "stop
loss" -- on a pool of loans, which amount is generally between 1% and 10% of the
initial aggregate loan balance of the entire pool of loans. Under our pool
insurance, we could be required to pay the full amount of every loan in the pool
that is in default and upon which a claim is made until the stop loss is
reached, rather than a percentage of that amount. If we are required to pay a
significant number of claims under pool insurance, then our financial condition
and results of operations could be materially and adversely affected. We also
recently commenced operations in Radian Insurance, which writes credit insurance
on non-traditional mortgage related assets. These types of insurance products
are generally riskier than our traditional mortgage insurance products and, as a
result, may have higher claim payouts. Payment of a significant number of claims
by Radian Insurance could materially and adversely affect our financial
condition and results of operations.
(9) DELEGATED UNDERWRITING MAY CAUSE US TO INSURE, AND PAY CLAIMS RELATED
TO, UNACCEPTABLY RISKY LOANS THAT WE WOULD NOT HAVE OTHERWISE INSURED
AS UNDERWRITERS.
Radian Guaranty and other mortgage insurers offer programs of delegated
underwriting to some of their customers. Amerin Guaranty has written
substantially all of its insurance on a delegated underwriting basis. We expect
to continue offering delegated underwriting to customers of Radian Guaranty that
are currently authorized to use delegated underwriting, and may expand the
availability of delegated underwriting to additional customers. The performance
of loans insured through programs of delegated underwriting has not been tested
over an extended period of time. The performance of such loans has not been
tested in a period of adverse economic conditions.
Once a lender is accepted for delegated underwriting, the insurer generally
may not refuse to insure, or rescind coverage on, a particular loan originated
by such lender even if the insurer reevaluates the loan's risk profile or if the
lender fails to follow delegated underwriting criteria. Our ability to take
action against a lender will be limited by access to data with which to assess
the risk of a lender's insured loans and to assess compliance with applicable
criteria. Moreover, we would remain at risk for any loans insured by a lender
prior to its curtailing or terminating a lender's delegated underwriting
authority. A lender could possibly cause us to insure a material volume of loans
with unacceptable risk profiles before that lender's delegated underwriting
authority was terminated.
IF CLAIMS-PAYING ABILITY RATINGS ARE DOWNGRADED, THEN LENDERS AND THE
SECURITIZATION MARKET MAY NOT PURCHASE MORTGAGES OR SECURITIES INSURED BY US
WHICH WOULD HARM OUR FINANCIAL PERFORMANCE
Standard & Poor's Rating Services, referred to herein as S&P, Fitch IBCA
Duff & Phelps, referred to herein as Fitch, and Moody's Investors Service, Inc.,
referred to herein as Moody's, have rated the respective
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claims-paying ability and financial strength of Radian Guaranty and Amerin
Guaranty, as "AA" (financial strength, S&P and Fitch) and "Aa3" (financial
strength, Moody's). Radian Insurance is rated "AA" by S&P (claims-paying) and
"Aa3" by Moody's (claims-paying). Enhance Reinsurance has an insurance financial
strength rating of "Aa2" by Moody's and a claims-paying ability rating of "AAA"
by S&P. Asset Guaranty has a claims-paying ability rating of "AA" by S&P.
The claims-paying ability or financial strength ratings of our subsidiaries
may be downgraded by one or more rating agencies in the future. Any downgrading
of these ratings below these levels could have a material adverse effect on our
results of operations and prospects. Adverse developments in these subsidiaries'
financial condition or results of operations, by virtue of underwriting or
investment losses or otherwise, or changes in the views of the rating agencies,
could cause the rating agencies to lower their ratings. If the financial
strength ratings of Radian Guaranty, Radian Insurance or Amerin Guaranty fall
below "Aa3" from Moody's or "AA" from S&P and Fitch, then national mortgage
lenders, and a large segment of the mortgage securitization market, including
Fannie Mae and Freddie Mac, generally will not purchase mortgages or
mortgage-backed securities insured by them.
In addition, Enhance Reinsurance and Asset Guaranty are parties to several
agreements that grant the primary insurer the right to recapture business ceded
to Enhance Reinsurance or Asset Guaranty under these agreements if the financial
strength rating or claims-paying ability rating, as applicable, is downgraded
below minimum rates established in the agreements. This recapture of business by
a primary insurer could have a material adverse effect on deferred premium
revenue and recognition of future income from such agreements.
AN INCREASE IN OUR SUBSIDIARIES' RISK TO CAPITAL RATIO AND/OR LEVERAGE RATIO MAY
PREVENT THEM FROM WRITING NEW INSURANCE, WHICH WOULD HARM OUR FINANCIAL
PERFORMANCE
Moody's, S&P and Fitch regularly monitor Radian Guaranty, Amerin Guaranty,
Radian Insurance, Enhance Reinsurance and Asset Guaranty and their respective
subsidiaries and the amount of insurance risk that may be written by such
subsidiaries in conjunction with the issuance and maintenance of their financial
strength and claims-paying ability ratings. Moody's and S&P have also entered
into an agreement with Radian Guaranty which obligates Radian Guaranty to
maintain at least $30 million of capital in Radian Insurance as a condition of
the issuance and maintenance of Radian Insurance's "Aa3" and "AA" financial
strength and claims-paying ability rating ratings. We may be required to enter
into similar agreements in the future. If so, our subsidiaries have several
alternatives available to control their risk to capital ratios or leverage
ratios, including obtaining capital contributions from us, purchasing additional
quota share or excess of loss reinsurance or reducing the amount of new business
written. However, we may not be able to raise additional funds, or do so on a
timely basis, in order to make a capital contribution to our subsidiaries. In
addition, reinsurance may not be available to the subsidiaries or, if available,
may not be available on satisfactory terms. A material reduction in statutory
capital, whether resulting from underwriting or investment losses or otherwise
or a disproportionate increase in risk in force, could increase the risk to
capital ratio or leverage ratio. An increase in the risk to capital ratio or
leverage ratio could limit our subsidiaries' ability to write new business,
which then could materially adversely affect our results of operations and
prospects.
WE COMPETE WITH PRIVATE MORTGAGE INSURERS, GOVERNMENTAL AGENCIES AND OTHERS
WHICH MAY REDUCE OUR REVENUES
The mortgage insurance industry is increasingly competitive. This
competition may reduce our revenues, which could in turn decrease the value of
investments in us. The principal sources of direct and indirect competition are:
- other private mortgage insurers, some of which are subsidiaries of well
capitalized, diversified public companies and therefore have higher
claims-paying ability ratings and greater access to capital than we do;
- federal and state governmental and quasi-governmental agencies,
principally the Federal Housing Administration; and
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- mortgage lenders that forego third-party coverage and retain the full
risk of loss on their high loan-to-value ratio loans.
The United States private mortgage insurance industry is both highly
dynamic and intensely competitive. Many factors bear on the relative position of
the private mortgage insurance industry versus the "direct" government and
quasi-governmental competition and the "indirect" competition of major lending
institutions, including:
- legislative and/or regulatory initiatives which affect the FHA's
competitive position; and
- the capital adequacy of, and alternative business opportunities for,
lending institutions.
As of June 30, 2001, our market share of the private mortgage insurance
market based on new primary insurance written was 15.5%, according to Inside
Mortgage Finance. However, our market share of new insurance written may not
grow and could decrease in the future.
FAILURE TO SUCCESSFULLY INTEGRATE ENHANCE FINANCIAL SERVICES WITH US COULD
ADVERSELY AFFECT OUR FUTURE OPERATIONS
In deciding that the merger of Enhance Financial Services with us was in
the best interests of both Enhance Financial Services and our stockholders, our
board of directors and the Enhance Financial Services' board of directors
considered the potential complementary effects of combining the companies'
assets, personnel and operational expertise. Integrating businesses, however,
involves a number of special risks, including the possibility that management
may be distracted from regular business concerns by the need to integrate
operations, unforeseen difficulties in integrating operations and systems,
problems concerning assimilating and retaining the employees of the combined
company, challenges in retaining customers, and potential adverse short-term or
long-term effects on operating results.
Further, the reinsurance business is highly specialized and volatile.
Enhance Financial Services' past results were due in large part to the strength
and continuity of its management strategies. The success of Enhance Financial
Services as our subsidiary will depend in part on our ability to retain key
management and to integrate ours and Enhance Financial Services' operations and
personnel in a timely and efficient manner. As we were not involved in the
financial guaranty reinsurance business prior to its acquisition of Enhance
Financial Services, this integration may be difficult. If we and Enhance
Financial Services cannot successfully integrate our businesses, the combined
companies may not be able to realize the expected benefits of the merger.
WE FACE ADDITIONAL RISKS IN OUR FINANCIAL GUARANTY AND OTHER INSURANCE
BUSINESSES RECENTLY ACQUIRED FROM ENHANCE FINANCIAL SERVICES
Our recently acquired subsidiaries, Enhance Reinsurance and Asset Guaranty,
maintain reserves in amounts sufficient to pay their estimated ultimate
liability for losses and loss adjustment expenses, as required by law. Since
none of Enhance Reinsurance, Asset Guaranty or the financial guaranty industry
has had an actuarially significant number of losses in its financial guaranty
reinsurance activities, we do not believe that traditional actuarial approaches
used in the property/casualty industry apply in the determination of loss
reserves for financial guaranty insurers. Consequently, we establish reserves in
our financial guaranty business either when (1) a primary insurer provides for
losses and loss adjustment expenses or (2) in our opinion, a default is probable
on an insured risk, and the amount of such reserve is based on an analysis of
the individual insured risk. Although we believe the reserves established at our
financial guaranty insurance subsidiaries will prove to be adequate, there can
be no assurance that such reserves actually will be adequate.
In addition, the demand for financial guaranty insurance and the demand for
the primary insurance and reinsurance that Enhance Reinsurance and Asset
Guaranty provide depend on many factors that are generally not in our control,
including:
- prevailing interest rates;
- investor concern regarding the credit quality of municipalities and
corporations;
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- investor perception of the strength of financial guaranty providers and
the guaranty offered;
- premium rates charged for financial guaranty insurance;
- the availability of other forms of credit enhancement; and
- governmental regulation, including changes in tax laws affecting the
municipal, asset-backed and trade credit debt markets.
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
We have made forward-looking statements in this prospectus. Forward-looking
statements include those regarding our goals, beliefs, plans or current
expectations and other statements regarding matters that are not historical
facts. For example, when we use words such as "project," "believe,"
"anticipate," "plan," "expect," "estimate," "intend," "should," "would,"
"could," or "may," or other words that convey uncertainty of future events or
outcome, we are making forward-looking statements. Forward-looking statements
include statements concerning:
- the risk that housing demand may decrease as a result of
higher-than-expected interest rates, adverse economic conditions, or
other reasons;
- the risk that seasonality may be different from the historical pattern;
- the risk that the market share of the segment of the mortgage market
served by the mortgage insurance industry may decline as a result of
competition from government programs or other substitute products;
- the risk that the business of Enhance Financial Services may not be
adequately integrated to maximize the expected benefits of the
acquisition;
- the risk that our share of originations having private mortgage insurance
may decline as a result of competition or other factors; and
- the risk that the addition of the business of Radian Insurance may not be
successful.
Our forward-looking statements are subject to risks and uncertainties. You
should note that many important factors, some of which are discussed elsewhere
in this prospectus, could affect us in the future and could cause our results to
differ materially from those expressed in our forward-looking statements. For a
discussion of some of these factors, please read carefully the information under
"Risk Factors." We do not undertake any obligation to update forward-looking
statements we make.
USE OF PROCEEDS
We will not receive any proceeds from the exchange offer. In consideration
for issuing the new debentures, we will receive old debentures from you in like
principal amount. The old debentures surrendered in exchange for the new
debentures will be retired and canceled and cannot be reissued. Accordingly,
issuance of the new debentures will not result in any change in our
indebtedness.
RATIO OF EARNINGS TO FIXED CHARGES
The following table sets forth our historical ratio of earnings to fixed
charges and on a pro forma basis giving effect to the issuance of the old
debentures and their replacement by the new debentures. Earnings consist of
income (loss) from continuing operations before income taxes, extraordinary
items, cumulative effect of accounting changes, equity in net income of
affiliates and fixed charges. Fixed charges consist of interest expense and
capitalized interest and an estimate of interest expense within rental expense.
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SIX MONTHS
ENDED JUNE 30, YEARS ENDED DECEMBER 31,
----------------- ---------------------------------------
2001(1) 2001(2) 2000(3) 1999 1998 1997 1996
------- ------- ------- ---- ---- ---- ----
Ratio of earnings to fixed charges.... 29.9 42.0 151.1x 105.1x 165.8x 203.0x 167.4x
---------------
(1) On a pro forma basis, giving effect to the issuance of the old debentures
and the new debentures as if issued as of February 28, 2001.
(2) Actual.
(3) Does not include any adjustments to show the effect of the acquisition of
Enhance Financial Services on February 28, 2001. On a stand-alone basis, as
of December 31, 2000, Enhance Financial Services had a ratio of earnings to
fixed charges of (0.2)x and a deficit of earnings to fixed charges of
$21,439,000.
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CAPITALIZATION
The following table sets forth our consolidated capitalization, as of June
30, 2001. Issuance of the new debentures will not affect our capitalization.
JUNE 30, 2001
-------------
ACTUAL
------
Long-term Debt, net of current portion...................... $ 324,043
Preferred Stock, par value $0.001 per share; 20,000,000
authorized, 800,000 shares designated, issued and
outstanding as $4.125 Preferred Stock, actual and as
adjusted, 150,000 shares designated as Series A Preferred
Stock, none issued and outstanding, actual and as
adjusted.................................................. 40,000
Common Stock, par value $0.001 per share; 200,000,000 shares
authorized, 93,331,194 issued and outstanding, actual and
adjusted.................................................. 93
Additional Paid-In Capital.................................. 1,190,153
Retained Earnings........................................... 911,392
Accumulated Other Comprehensive Income...................... 14,938
Treasury Stock.............................................. (2,159)
----------
Total Capitalization.............................. $2,478,460
==========
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UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL INFORMATION
The following unaudited pro forma condensed combined financial information
should be read in conjunction with our historical consolidated financial
statements, including the notes thereto, and those of Enhance Financial Services
appearing elsewhere in the prospectus. The unaudited pro forma condensed
combined information is not presented in connection with the exchange offer, it
is presented for illustration purposes only. It is presented in accordance with
the assumptions set forth below, and is not necessarily indicative of the
operating results that would have occurred if the merger had been completed. Nor
is it necessarily indicative of future operating results of the combined
enterprise.
The unaudited pro forma condensed combined statements of income combine
our's and Enhance Financial Services' historical statements of income and give
effect to the acquisition as if it occurred on January 1, 2000, the beginning of
the earliest period presented.
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UNAUDITED PRO FORMA CONDENSED COMBINED STATEMENT OF INCOME
FOR THE SIX MONTHS ENDED JUNE 30, 2001
HISTORICAL HISTORICAL PRO FORMA PRO FORMA
RADIAN ENHANCE(5) ADJUSTMENTS COMBINED
---------- ---------- ----------- ---------
(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)
REVENUES
Premiums earned.......................... $335,004 $ 444 $335,448
Net investment Income.................... 70,046 11,331 81,377
Equity in net income of affiliates....... 24,804 2,805 27,609
Other net income......................... 15,575 (9,988) 5,587
-------- --------- ------- --------
Total revenues................... 445,429 4,592 0 450,021
======== ========= ======= ========
EXPENSES
Provision for losses..................... 101,582 38,919 140,501
Policy acquisition costs................. 39,037 5,718 (3,024)(2) 41,731
Other operating expenses................. 56,899 63,844 120,743
Interest expense......................... 5,649 2,728 8,577
-------- --------- ------- --------
Total expenses................... 203,367 111,209 (3,024) 311,552
======== ========= ======= ========
Pretax income (loss)..................... 242,062 (106,617) 3,024 138,469
Provision (benefit) for income taxes..... 69,228 (11,345) (16,317)(2)(3) 41,566
-------- --------- ------- --------
Net income (loss)................ 172,634 (95,272) 19,341 96,903
======== ========= ======= ========
Net income (loss) per common
share -- basic........................... 1.96 (2.48) 1.02
======== ========= ========
Net income (loss) per common
share -- diluted......................... 1.92 (2.45) 1.01
======== ========= ========
Average number of common shares
outstanding -- basic..................... 87,400 38,468 (32,826)(1) 93,042
======== ========= ======= ========
Average number of common and common
equivalent shares
outstanding -- diluted................... 88,946 38,935 (33,225)(1) 94,656
======== ========= ======= ========
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UNAUDITED PRO FORMA CONDENSED COMBINED STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 2000
HISTORICAL
HISTORICAL ENHANCE
RADIAN FINANCIAL PRO FORMA PRO FORMA
GROUP SERVICES ADJUSTMENTS COMBINED
---------- ---------- ----------- ---------
(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)
REVENUES
Premiums earned.......................... $520,871 $110,252 $631,123
Net investment income.................... 82,946 62,961 145,907
Equity in net income of affiliates....... 0 13,117 13,117
Other net income......................... 11,617 3,855 15,472
-------- -------- ------- --------
Total revenues................... 615,434 190,185 0 805,619
-------- -------- ------- --------
EXPENSES
Provision for losses..................... 154,326 34,706 189,032
Policy acquisition costs................. 51,471 42,757 (22,614)(2) 71,614
Other operating expenses................. 57,167 106,679 (22,738)(4) 141,108
Interest expense......................... 0 16,896 16,896
-------- -------- ------- --------
Total expenses................... 262,964 201,038 (45,352) 418,650
-------- -------- ------- --------
Pretax income (loss)..................... 352,470 (10,853) 45,352 386,969
Provision (benefit) for income taxes..... 103,532 (1,444) 22,342(2)(3)(4) 124,430
-------- -------- ------- --------
Net income (loss)................ 248,938 (9,409) 23,010 262,539
======== ======== ======= ========
Net income (loss) per common
share -- basic........................... 3.26 (0.25) 2.82
======== ======== ========
Net income (loss) per common
share -- diluted......................... 3.22 (0.24) 2.78
======== ======== ========
Average number of common shares
outstanding -- basic..................... 75,268 38,179 (21,381)(1) 92,066
======== ======== ======= ========
Average number of common and common
equivalent shares
outstanding -- diluted................... 76,298 38,645 (21,641)(1) 93,302
======== ======== ======= ========
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NOTES TO UNAUDITED PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS
The unaudited pro forma condensed combined statements of income combine
our's and Enhance Financial Services' historical statements of income and give
effect to the acquisition as if it occurred on January 1, 2000, the beginning of
the earliest period presented.
The total estimated purchase price of Enhance Financial Services has been
allocated to assets and liabilities based on our management's estimates of their
fair values with the excess of net assets acquired over costs allocated to the
present value of future insurance profits.
(1) Adjustment to reflect the issuance of our common stock and related direct
acquisition expenses as the total purchase price for the net assets of
Enhance Financial Services, based on the conversion of each of the Enhance
Financial Services common shares into 0.22 of each of our common shares (.44
on a split-adjusted basis), the elimination of Enhance Financial Services
stockholders' equity and the write-down of Enhance Financial Services'
deferred policy acquisition asset, offset by the recognition of the present
value of future insurance profits, and a current income tax benefit of
$3,884,000 recognized in the year ended December 31, 2000.
(2) Adjustment to reflect the change in amortization expense and the related
income tax expense associated with the write-down of Enhance Financial
Services' deferred policy acquisition asset, offset by an increase in
amortization expense and the related income tax benefit associated with the
estimated present value of future insurance profits recognized at January 1,
2000.
For the six months ended June 30, 2001:
Decrease in deferred policy acquisition amortization...... $ (3,024)
Increase in Federal income tax expense.................... 1,058
For the year ended December 31, 2000:
Decrease in deferred policy acquisition amortization...... $(22,614)
Increase in federal income tax expense.................... 7,915
(3) Adjustment to reflect the reversal of an income tax benefit relating to
income tax reductions produced by an investment in a portfolio of
approximately 500 residential mortgage backed securities consisting of
residual interests in real estate mortgage investment conduits ("REMIC")
owned by Enhance Financial Services. These deductions were treated by
Enhance Financial Services as permanent tax differences due to a partnership
exit strategy that will not be executed by us. Therefore, the tax deductions
from the REMIC residuals will be treated as a timing difference which
eliminates the income tax benefit for GAAP purposes.
In the first two months of 2001, prior to the acquisition, Enhance Financial
Services reversed the income tax benefit relating to the REMIC, thus
reversal would not have been necessary and is therefore being eliminated in
the pro forma income statement.
For the six months ended June 30, 2001:
Decrease in Federal income tax expense.................... $(17,375)
For the year ended December 31, 2000:
Increase in federal income tax expense.................... $ 6,469
(4) Reflects the adjustments and related income tax expense required to
eliminate the amortization of goodwill that was created as a result of prior
acquisitions of Enhance Financial Services.
For the year ended December 31, 2000:
Decrease in goodwill amortization......................... $(22,738)
Increase in federal income tax expense.................... 7,958
(5)For the purposes of this pro forma presentation the Historical Financial
Statements of Enhance Financial Services represent their statement of income
for the two month period ended February 28, 2001, the last day the operating
results of Enhance Financial Services were excluded from the operating
results of Radian.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OUR BUSINESS
We provide through our subsidiaries, Radian Guaranty and Amerin Guaranty,
private mortgage insurance coverage in the United States on residential mortgage
loans. Private mortgage insurance protects mortgage lenders and investors from
default related losses on residential first mortgage loans made primarily to
home buyers who make down payments of less than 20% of the home's purchase
price. Private mortgage insurance also facilitates the sale of such mortgage
loans in the secondary mortgage market, principally to Freddie Mac and Fannie
Mae. Radian Guaranty is restricted to providing insurance on residential first
mortgage loans only. Amerin Guaranty has previously offered insurance of
residential first mortgages only, but beginning October 1, 2001, is licensed as
an issuer of second mortgages only and will be restricted to writing new
business on second mortgages.
In September 2000, we commenced operations in Radian Insurance Inc.,
referred to herein as Radian Insurance, a subsidiary which writes credit
insurance on non-traditional mortgage related assets, such as second mortgages
and manufactured housing, and provides credit enhancement to mortgage related
capital market transactions. Beginning October 1, 2001, Amerin Guaranty will be
licensed to conduct second mortgage insurance in all 50 states and second
mortgage insurance done by Radian will most likely be written in Amerin
Guaranty.
Additionally, as a result of the acquisition of the business of Enhance
Financial Services and its operating subsidiaries, we insure and reinsure
credit-based risks and acquire and service credit-based assets in a variety of
domestic and international niche markets. This business is divided into two
operating segments, the insurance business and the asset-based businesses, with
the insurance business being by far the larger operating segment.
THREE MONTH PERIOD ENDED JUNE 30, 2001 COMPARED TO THREE MONTH PERIOD ENDED JUNE
30, 2000
Recent Developments
On July 19, 2001, the Office of Federal Housing Enterprise Oversight issued
new risk-based capital regulations for Fannie Mae and Freddie Mac (together,
known as Government Sponsored Entities, or GSEs). The most relevant provision of
these regulations to us is a new distinction that is being made between AAA
rated insurers and AA rated insurers. Specifically, the new regulations create
guidelines that reduce the credit the GSEs are given for exposure ceded to AAA
insurers by 5% while exposure ceded to AA insurers, like our operating
subsidiaries, is reduced by 15%. The regulations are expected to take effect in
July 2002 and phase in these cuts on a straight-line basis over a period of five
years.
Prior to the effective date, there will be a period for public comment and
amendment. We will be strongly advocating that the AAA/AA distinction be
eliminated or, if not eliminated, significantly reduced. We believe that given
the length and complexity of these regulations and the possibility of them being
amended before they become effective, the effect of the new regulations on our
results of operations is uncertain at this time. Furthermore, the GSEs may
determine that the reduction does not have a material effect on their ability to
meet the capital adequacy test and therefore may decide not to distinguish
between AAA and AA insurers in their business practices. They may also try to
avoid concentrating all of their risks in the two AAA rated mortgage insurers.
Should the regulation take effect in substantially its current form, and
the GSEs start distinguishing between the AAA insurers and the AA insurers in
their business practices, we have several contemplated actions we believe should
mitigate the adverse effects of the regulations. These include one or more of
the following:
- upgrading the ratings of one or more of our operating subsidiaries by
obtaining additional capital, reinsurance or a soft capital facility,
- increasing the amount of coverage so as to eliminate the reduction,
- utilizing Enhance Reinsurance, which is AAA rated, or;
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- providing protection against loss to the GSEs through a derivative
contract rather than through an insurance policy -- the form favored under
the current version of the regulations.
Given these alternatives and the strong incentive the GSEs have to work
with us, we believe we are sufficiently positioned to implement whatever
solutions the new regulations will ultimately require.
We do not anticipate any material loss resulting from exposure to the
tragic events in New York, New York or Washington, D.C. of September 11. Our
financial guaranty subsidiaries, Asset Guaranty and Enhance Re, have completed a
review of their exposures and confirmed that no insurance losses related to
these events are expected. We continue to closely monitor our insurance and
reinsurance portfolio and maintain regular dialogue with our reinsurance
clients. Specifically, Asset Guaranty has no direct insured net par exposure to
the World Trade Center, Battery Park City Authority, EETC (Enhanced Equipment
Trust Certificates), the Port Authority of New York and New Jersey or the
Metropolitan Washington D.C. Airport Authority. However, Asset Guaranty does
maintain approximately $70 million in par exposure related to the Port Authority
of New York and New Jersey through reinsurance agreements with the AAA-rated
primary bond insurers. Similarly, Enhance Re concurs with the assessment of its
primary clients, who have each affirmed their expectations for no material
losses resulting from these events. Enhance Re has no exposure to the World
Trade Center, however it does maintain $404 million of exposure to EETC; $291
million to the Port Authority of New York and New Jersey and $2.8 billion to
U.S. airports, of which $169 million is exposure to the Metropolitan Washington
D.C. Airport Authority.
Results of Consolidated Operations
Consolidated net income for the first six months of 2001 was $172.8
million, a 43.5% increase compared to $120.5 million for the same period of 2000
and consolidated net income for the second quarter of 2001 was $92.7 million as
compared to $61.9 million for the second quarter of 2000, an increase of 49.8%.
This improvement was a result of growth in premiums earned and net investment
income and the inclusion of equity in net income of affiliates, offset by an
increase in provision for losses, policy acquisition costs and other operating
expenses. As a result of the acquisition of Enhance Financial Services on
February 28, 2001, net income for the first six months of 2001 included the
results from operations for March 2001 through June 2001 for Enhance Financial
Services, which contributed $39.4 million and $25.0 million to net income for
the six month period and the quarter ended June 30, 2001, respectively.
Consolidated earned premiums increased $78.2 million or 30.4% from $256.8
million for the first six months of 2000 to $335.0 million for the same period
of 2001, with the inclusion of Enhance Financial Services contributing $41.9
million of the increase. For the second quarter of 2001, consolidated earned
premiums were $179.2 million as compared to $129.5 million for the second
quarter of 2000, a 38.4% increase, with the inclusion of Enhance Financial
Services contributing $30.7 million of the increase. Net consolidated investment
income increased from $39.1 million for the first six months of 2000 to $67.5
million in the same period of 2001, a 72.4% increase, with Enhance Financial
Services contributing $20.0 million of the increase. For the second quarter of
2001, net consolidated investment income was $39.5 million as compared to $20.3
million for the second quarter of 2000, with Enhance Financial Services
contributing $14.7 million of the increase. Equity in net income of affiliates
for the first six months and second quarter of 2001 was $24.8 million and $12.8
million, respectively. Consolidated provision for losses increased $24.8 million
for the first six months of 2001 from $76.8 million in 2000 to $101.6 million
for the same period of 2001, an increase of 32.3% with the inclusion of Enhance
Financial Services accounting for $11.6 million of the increase. For the second
quarter of 2001, consolidated provision for losses was $52.3 million, a 37.6%
increase from $38.0 million for the same quarter of 2000, with the inclusion of
Enhance Financial Services accounting for $8.8 million of the increase.
Consolidated policy acquisition and other operating expenses also increased from
the first six months of 2000 by 83.8% from $52.2 million to $95.9 for the first
six months of 2001 and Enhance Financial Services accounted for $15.8 million of
the increase. For the second quarter of 2001, consolidated policy acquisition
and other operating expenses were $54.9 million as compared to $25.5 million for
the same quarter of 2000, a 115.5% increase, with Enhance Financial Services
accounting for $11.6 million of the increase. Interest expense for the first six
months and second quarter of 2001 was $5.8 million and $4.4 million,
respectively. Diluted net income per share for the six month period ended June
30, 2001 increased 23.1% from $1.56 per share in the first six months of 2000
(after
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adjusting for the two-for-one stock split completed during the first quarter of
2001) to $1.92 per share for the same period in 2001 and for the second quarter
of 2001, diluted net income per share increased 21.0% to $0.97 per share from
$0.80 per share for the same quarter of 2000 (after adjusting for the stock
split). The weighted average shares for the six months ended June 30, 2001
included four months of outstanding shares issued in connection with the Enhance
Financial Services acquisition.
Mortgage Insurance and Related Services -- Results of Operations
Net income for the first six months of 2001 was $133.4 million, a 10.8%
increase compared to $120.5 million for the first six months of 2000 and net
income for the quarter ended June 30, 2001 was $67.7 million, a 9.5% increase
compared to $61.9 million for the same period in 2000. These improvements in net
income were the result of growth in premiums earned, net investment income and
other income, offset by a higher provision for losses and an increase in policy
acquisition costs and other operating expenses.
New primary insurance written during the first six months of 2001 was $19.4
billion, an 83.2% increase compared to $10.6 billion for the first six months of
2000 and for the second quarter of 2001, new primary insurance written of $10.8
billion was 96.3% higher than the $5.5 billion written in the second quarter of
2000. This increase in our primary new insurance written volume for the first
six months and second quarter of 2001 was primarily due to a 68.3% and 80.4%,
respectively, increase in new insurance written volume in the private mortgage
insurance industry compared to the same periods of 2000. In addition, our market
share of the industry increased to 15.5% and 14.3%, respectively, for the six
months and quarter ended June 30, 2001 as compared to 14.2% and 13.2%,
respectively, for the same periods of 2000. We believe the market share increase
was due in part to an increase in our share of new insurance written under bulk
transactions which are included in industry new insurance written figures.
During the first six months and second quarter of 2001, we wrote $2.6 billion
and $1.4 billion, respectively, of such transactions as compared to $25.7
million for both the quarter and six months ended June 30, 2000. Our
participation in the bulk transaction market is likely to vary significantly
from quarter to quarter. During the first six months of 2001, we wrote $88.0
million of pool insurance risk as compared to $104.3 million in the first six
months of 2000 and for the quarter ended June 30, 2001, our pool risk written
was $55.0 million as compared to $14.0 million for the same period of 2000. Most
of this pool insurance volume relates to a group of structured transactions
composed primarily of GSE-eligible conforming mortgage loans, known as the GSE
Pool. This business contains loans with loan-to-value ratios above 80% which
have primary insurance that places the pool insurance in a secondary loss
position and loans with loan-to-value ratios of 80% and below for which the pool
coverage is in a first loss position. The performance of this business written
in prior years has been better than anticipated although the historical
performance might not be an indication of future performance.
Our volume in the first six months and second quarter of 2001 was
positively impacted by relatively lower interest rates that affected the entire
mortgage industry. The trend toward lower interest rates, which began in the
fourth quarter of 2000, caused refinancing activity during the first half of
2001 to increase significantly and contributed to the increase in the mortgage
insurance industry new insurance written volume for the first half of 2001. Our
refinancing activity as a percentage of primary new insurance written was 39.0%
and 42.0%, respectively, for the six months and quarter ended June 30, 2001, as
compared to 12.0% and 11.0%, respectively, for the same periods in 2000. The
persistency rate, which is defined as the percentage of insurance in force that
is renewed in any given year, was 72.6% for the twelve months ended June 30,
2000, as compared to 78.4% for the twelve months ended June 30, 2000. This
decrease was consistent with the increasing level of refinancing activity during
the last quarter of 2000 which has continued into the first half of 2001, which
has caused the cancellation rate to increase. Our expectation for the third
quarter of 2001 is a continuation of strong industry volume, albeit lower than
the second quarter, and a continuation of relatively lower persistency rates.
We insure non-traditional mortgage loans, specifically Alternative A and
A-minus loans. Alternative A borrowers have credit profiles similar to our
typical insured borrowers, but their loans are underwritten with reduced
documentation and verification of information. We typically charge a higher
premium rate for this business due to the reduced documentation, but do not
consider this business to be significantly more risky than our prime business.
The A-minus loan programs typically have non-traditional credit standards which
are
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less stringent than standard credit guidelines. To compensate for this
additional risk, we receive a higher premium for insuring this product that we
believe is commensurate with the additional default risk. During the six months
and quarter ending June 30, 2001, this business, also known as our non-prime
business, accounted for $6.1 billion and $3.3 billion, respectively, or 31.2%
and 30.9%, respectively, of our new primary insurance written as compared to
$1.7 billion and $848.4 million, respectively, for the same periods of 2000,
which accounted for 16.0% and 15.4%, respectively, of our new primary insurance
written during 2000.
In the third quarter of 2000, we began to insure obligations secured by
mortgage-related assets in Radian Insurance, a Pennsylvania domiciled credit
insurer. Radian Insurance is rated AA by Standard & Poor's Insurance Rating
Service and Aa3 by Moody's Investors Service and was formed to write credit
insurance and financial guaranty insurance on obligations secured by
mortgage-related assets that are not permitted to be insured by monoline
mortgage guaranty insurers. These assets include second mortgages, manufactured
housing loans, home equity loans and mortgages with loan-to-value ratios above
100%. During the first six months and second quarter of 2001, Radian Insurance
wrote $1.9 billion and $807.0 million, respectively, of insurance. This business
is written under varying structures and thus premium rates and commensurate risk
levels will vary on a deal by deal basis. The performance of this business is
too young to determine whether the premium rates charged will compensate us for
the anticipated level of risk.
Net premiums earned in the first six months of 2001 were $293.1 million, a
14.1% increase compared to $256.8 million for the first six months of 2000, and
premiums earned for the quarter ended June 30, 2001 were $148.5 million, a 14.6%
increase compared to $129.5 million for the same period of 2000. These
increases, which were greater than the increase in insurance in force, reflected
the premiums earned in Radian Insurance of $14.3 million and $8.9 million,
respectively, for the six months and quarter ended June 30, 2001, and the change
in the mix of new insurance written volume originated by us during the second
half of 2000 and the first six months of 2001, combined with the increase in new
insurance written volume. This change in mix included a higher percentage of
non-prime business. This type of business has higher premium rates, which are
commensurate with the increased level of risk associated with the insurance. The
insurance in force growth resulting from strong new insurance volume in the
first six months of 2001 was offset slightly by the decrease in persistency
levels. Our direct primary insurance in force increased 3.4%, from $100.9
billion at December 31, 2000 to $104.3 billion at June 30, 2001. GSE Pool risk
in force also grew to $1.2 billion at June 30, 2001 from $1.1 billion at the end
of 2000, an increase of 5.6% for the six month period while total pool risk in
force grew from $1.4 billion at the end of 2000 to $1.5 billion at June 30,
2001, an increase of 9.3% for the six month period.
We and others in our industry have entered into risk-sharing arrangements
with various customers that are designed to allow the customer to participate in
the risks and rewards of the mortgage insurance business. One such product is
captive reinsurance, in which a mortgage lender sets up a mortgage reinsurance
company that assumes part of the risk associated with that lender's insured book
of business. In most cases, the risk assumed by the reinsurance company is an
excess layer of aggregate losses that would be penetrated only in a situation of
adverse loss development. For the first six months and second quarter of 2001,
premiums ceded under captive reinsurance arrangements were $25.4 million and
$13.4 million, respectively, or 8.3% and 8.7%, of total premiums earned during
the period and for the same periods of 2000, premiums ceded were $16.0 million
and $7.9 million, respectively, or 5.7% and 5.7%, of total premiums earned
during the period. New primary insurance written under captive reinsurance
arrangements for the six months and quarter ended June 30, 2001 were $5.8
billion and $2.9 billion, respectively, accounting for 29.6% and 26.9%, of total
new primary insurance written during the periods. For the same periods of 2000,
new primary insurance written under captive reinsurance arrangements was $3.1
billion and $1.4 billion, respectively, representing 29.2% and 25.4%, of total
new primary insurance written during those periods in 2000.
Net investment income for the first half of 2001 was $47.9 million, a 22.5%
increase compared to $39.1 million for the same period of 2000, and for the
second quarter of 2001, net investment income was $24.8 million, as compared to
$20.3 million for the second quarter of 2000, a 22.1% increase. These increases
were a result of continued growth in invested assets primarily due to positive
operating cash flows of $217.4 million for the first half of 2001. We have
continued to invest some of our new operating cash flow in tax-advantaged
securities, primarily municipal bonds, although we modified our investment
policy to allow the purchase of
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various other asset classes, including common stock and convertible securities,
beginning in the second quarter of 1998, and some of our cash flows have been
used to purchase these classes of securities. Our intent is to target the common
equity exposure at a maximum of 5% of the investment portfolio's market value
while the investment-grade convertible securities and investment-grade taxable
bonds exposures are each targeted not to exceed 10%.
The provision for losses was $90.0 million for the first six months of
2001, an increase of 17.1% compared to $76.8 million for the first six months of
2000, and for the second quarter of 2001, the provision was $43.5 million as
compared to $38.0 million for the second quarter of 2000, an increase of 14.5%.
These increases reflected an increase in the number of delinquent loans as a
result of the maturation of our book of business combined with an overall
increase in delinquencies on both the prime and non-prime books of business.
Claim activity is not spread evenly throughout the coverage period of a book of
business. Relatively few claims are received during the first two years
following issuance of the policy. Historically, claim activity has reached its
highest level in the third through fifth years after the year of loan
origination. Approximately 66.5% of our primary risk in force and almost all of
our pool risk in force at June 30, 2001 had not yet reached its anticipated
highest claim frequency years. Our overall delinquency rate at June 30, 2001 was
1.8% as compared to 1.6% at December 31, 2000, while the delinquency rate on the
primary business was 2.7% at June 30, 2001, as compared to 2.3% at December 31,
2000. We believe the increase in our overall delinquency rate is a result of the
slowing economy. A strong economy generally results in better loss experience
and a decrease in the overall level of losses. A continued weakening of the
economy could negatively impact our overall delinquency rates, which would
result in an increase in the provision for losses. The number of delinquencies
rose from 26,520 at December 31, 2000 to 30,371 at June 30, 2001 and the average
loss reserve per delinquency declined from $14,707 at the end of 2000 to $13,929
at June 30, 2001. The delinquency rate in California was 1.5% (including pool)
at June 30, 2001 as compared to 1.5% at December 31, 2000, and claims paid in
California during the first half of 2001 were $3.6 million, representing
approximately 8.5% of total claims as compared to 19.1% for the same period of
2000. California represented approximately 16.1% of primary risk in force at
June 30, 2001, as compared to 16.8% at December 31, 2000. The delinquency rate
in Florida was 3.2% (including pool) at June 30, 2001, as compared to 2.7% at
December 31, 2000 and claims paid in Florida during the first half of 2001 were
$4.3 million, representing approximately 10.2% of total claims, as compared to
15.1% for the same period of 2000. Florida represented approximately 7.4% of
primary risk in force at June 30, 2001 and December 31, 2000. We have reported
an increased number of delinquencies on non-prime business insured beginning in
1997. Although the delinquency rate on this business is higher than on our
normal books of business, it is within the expected range for this type of
business, and the higher premium rates charged are expected to compensate for
the increased level of risk. The number of delinquent non-prime loans at June
30, 2001 was 4,398, which represented 18.5% of the total number of delinquent
primary loans, as compared to 2,690 at December 31, 2000, which represented
13.1% of the delinquent primary loans. The delinquency rate on this business
rose from 4.1% at December 31, 2000 to 4.8% at June 30, 2001, as compared to the
primary delinquency rate on our prime business at June 30, 2001 and December 31,
2000 of 2.5% and 2.3%, respectively. Direct losses paid in the first six months
of 2001 declined to $41.6 million, as compared to $48.5 million in the same
period of 2000, a decrease of 14.2% and direct losses paid during the second
quarter of 2001 were $19.9 million, a 26.7% decrease compared to $25.2 for the
same period in 2000. The severity of loss payments has declined due to property
value appreciation, but any negative impact on future property values would most
likely increase the loss severity.
Underwriting and other operating expenses were $80.1 million for the first
six months of 2001, an increase of 53.4% compared to $52.2 million for the same
period of 2000, and for the second quarter of 2001, these expenses were $43.3
million, as compared to $25.5 million for the second quarter of 2000, an
increase of 70.0%. These expenses consisted of policy acquisition expenses,
which relate directly to the acquisition of new business, and other operating
expenses, which primarily represent contract underwriting expenses, overhead and
administrative costs.
Policy acquisition costs in the first six months of 2001 were $30.8
million, an increase of 16.9% compared to $26.4 million for the first half of
2000, and these expenses were $15.7 million in the second quarter of 2001, an
increase of 19.7% compared to $13.1 million for the same period in 2000. This
reflects an increase in
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expenses to support the higher new insurance written volume during the first six
months of 2001, as compared to the same period of 2000. In addition, we have
continued development of our marketing and e-commerce efforts. Other operating
expenses for the six months ended June 30, 2001 were $49.2 million, an increase
of $23.4 million or 90.8% as compared to $25.8 million for the same period in
2000, and these expenses were $27.6 million for the second quarter of 2000, an
increase of 123.3% compared to $12.4 million for the second quarter of 2000.
This reflects an increase in expenses associated with contract underwriting.
Contract underwriting expenses for the first six months of 2001 included in
other operating expenses were $19.9 million as compared to $7.2 million for the
same period of 2000, an increase of 175.2%, and for the second quarter of 2001,
these expenses were $11.9 million, an increase of 210.6% as compared to $3.8
million for the same period of 2000. This $12.7 million increase in contract
underwriting expenses during the first half of 2001 reflected the increasing
demand for contract underwriting services as mortgage origination volume has
increased. Consistent with the increase in contract underwriting expenses, other
income related to contract underwriting services increased 216.4% to $7.4
million for the first half of 2001 as compared to $2.3 million for the same
period in 2000. For the second quarter of 2001, other income related to contract
underwriting services increased 303.3% to $4.1 million as compared to $1.0
million for the second quarter of 2000. During the first six months of 2001,
loans underwritten via contract underwriting accounted for 31.4% of
applications, 30.2% of commitments, and 23.4% of certificates issued by us as
compared to 28.7% of applications, 25.4% of commitments, and 18.5% of
certificates issued in the first six months of 2000.
The effective tax rate for the six months ended June 30, 2001 was 28.8% as
compared to 29.4% for the same period in 2000, and the tax rate for the second
quarter of 2001 was 28.8% as compared to 29.6% for the second quarter of 2000.
Operating income accounted for 73.6% and 74.2%, respectively, of net income for
the six months and quarter ended June 30, 2001, as compared to 76.4% and 76.6%,
respectively, for the same periods in 2000, thus resulting in the decrease in
effective tax rates for 2001 as the tax advantaged investment income represented
a larger share of pretax net income.
Financial Guaranty Insurance -- Results of Operations
The financial guaranty insurance operations are conducted through Enhance
Financial Services and primarily involve the reinsurance and direct underwriting
of financial guaranties of municipal and asset-backed debt obligations.
Reinsurance is assumed primarily from four monoline financial guaranty insurers.
In addition, another insurance subsidiary, Van-American Insurance Company, is
engaged on a run-off basis in reclamation bonds for the coal mining industry and
surety bonds covering closure and post-closure obligations of landfill
operators. That business is not expected to be material to our financial
results. Our consolidated results of operations include only four months of
operating results from Enhance Financial Services and prior periods include no
Enhance Financial Services results so prior period comparisons are not provided.
Net written premiums for the year-to-date period and quarter ended June 30,
2001 were $49.4 million and $39.8 million, respectively, and net earned premiums
for the year-to-date period and quarter ended June 30, 2001 were $41.9 million
and $30.7 million, respectively. Included in net earned premiums for the
year-to-date period and quarter ended June 30, 2001 were refundings of $2.8
million and $1.6 million, respectively. Net written premiums for the
year-to-date period ended June 30, 2001 were composed of $29.3 million of
assumed reinsurance, $9.3 million in direct financial guaranty, and $10.8
million of trade credit insurance and reinsurance. Net written premiums for the
second quarter of 2001 were composed of $24.7 million of assumed reinsurance,
$7.6 million in direct financial guaranty, and $7.5 million of trade credit
insurance and reinsurance. The breakdown of net earned premiums for the
year-to-date period ended June 30, 2001 included $22.3 million in assumed
reinsurance, $9.9 million in direct financial guaranty, and $9.7 million in
trade credit. The breakdown of net earned premiums for the quarter ended June
30, 2001 included $17.0 million in assumed reinsurance, $6.6 million in direct
financial guaranty, and $7.1 million in trade credit. Net investment income for
the year-to-date period and quarter ended June 30, 2001 was $19.6 million and
$14.7 million, respectively. Other income for the year-to-date period and
quarter ended June 30, 2001 was $0.9 million and $0.5 million, respectively, and
resulted from several relatively small sources and is not anticipated to present
a recurring or meaningful component on an ongoing basis. Net realized losses on
sale of investments for the year-to-date period and quarter ended June 30, 2001
were $0.8 million for each period.
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Incurred losses and loss adjustment expenses for the year-to-date period
and quarter ended June 30, 2001 were $11.6 million or 27.7% of earned premium
and $8.8 million and 28.6% of earned premium, respectively. This level of losses
is higher than expected and resulted primarily from a trade credit reinsurance
loss in the second quarter resulting from the bankruptcy of one insured credit.
Policy acquisition costs for the year-to-date period and quarter ended June 30,
2001 were $8.2 million and $6.3 million, respectively. Other insurance operating
expenses for the year-to-date period and quarter ended June 30, 2001 totaled
$6.6 million and $4.8 million, respectively. Together these expenses resulted in
an insurance expense ratio for the year-to-date period and quarter ended June
30, 2001 of 35.3% and 36.0%, respectively. The combined ratio for the year-to-
date period and quarter ended June 30, 2001 was 63.1% and 64.6%, respectively.
Interest expense for the year-to-date period and quarter ended June 30, 2001 of
$4.1 million and $2.7 million, respectively, represented interest on the $75.0
million long-term public debt of Enhance Financial Services and $173.7 million
of short-term bank debt. The $173.7 million of short-term bank debt was retired
on May 29, 2001. The effective tax rate for the year-to-date period and quarter
ended June 30, 2001 was 28.0%.
Asset-Based Business -- Results of Operations
Enhance Financial Services' asset-based businesses are conducted primarily
through its minority owned subsidiaries, Sherman Financial Group LLC and
Credit-Based Asset Servicing and Securitization LLC, referred to herein as
C-BASS. Enhance Financial Services and Mortgage Guaranty Insurance Company each
own 46% interests in C-BASS and we and Mortgage Guaranty Insurance each own a
45.5% interest in Sherman Financial Group. C-BASS is engaged in the origination,
servicing and/or securitization of special assets, including
sub-performing/non-performing and seller-financed residential mortgages, real
estate and subordinated residential mortgage-based securities. Sherman Financial
Group conducts a business that focuses on purchasing and servicing delinquent
unsecured consumer assets. In addition, two wholly owned subsidiaries, Singer
Asset Finance Company, L.L.C. and Enhance Consumer Services LLC, which had been
engaged in the origination, purchase, servicing, and securitization of assets
including state lottery awards, structured settlement payments, and viatical
settlements, are currently operating on a run-off basis, primarily servicing
prior originations, and the results of these subsidiaries are not expected to be
material to our financial results. Equity in net income from affiliates for the
year-to-date period and quarter ended June 30, 2001 was $24.8 million and $12.8
million, respectively. Both of these periods were influenced by strong results
from C-BASS, which are expected to be lower in the second half of 2001, and is
likely to vary significantly from period to period due to a significant portion
of income generated from market-driven securitization transactions.
TWELVE-MONTH PERIOD ENDED DECEMBER 31, 2000 COMPARED TO TWELVE-MONTH PERIOD
ENDED DECEMBER 31, 1999
Our net income for 2000 was $248.9 million, a 68.0% increase compared to
$148.1 million for 1999. However, net income for 1999 included merger expenses
(net of tax) of $34.4 million and without these merger expenses, net income for
1999 was $182.6 million. This represents an increase of 36.4% or $66.3 million
from 1999 to 2000. This improvement in net income, excluding merger expenses,
was a result of growth in premiums earned and net investment income combined
with a lower provision for losses and a reduction in policy acquisition costs
and other operating expenses. The merger expenses were incurred in connection
with the formation of our company from the merger of Amerin Corporation into our
predecessor, CMAC Investment Corporation.
New primary insurance written during 2000 was $24.9 billion, a 25.0%
decrease compared to $33.3 billion for 1999. This decrease in our primary new
insurance written volume in 2000 was partially due to a 14.0% decrease in new
insurance written volume in the private mortgage insurance industry compared to
1999. In addition, our market share of the industry decreased to 15.2% for the
year ended December 31, 2000 as compared to 17.5% for the same period of 1999.
We believe the market share decline was due in part to the reduction in business
provided by a few of the largest national accounts, which rebalanced their
mortgage insurance allocation after the merger. In addition, we believe that we
had a relatively low market share of certain large bulk transactions which are
included in industry new insurance written figures. For the year
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ended December 31, 2000, we wrote $1.2 billion of such bulk transactions. In
2000, we reduced the volume of pool insurance we wrote to $187.9 million of risk
written as compared to $421.2 million in 1999. Most of this pool insurance
volume relates to GSE Pool loans that are geographically well dispersed
throughout the United States and have lower average loan-to-value ratios than
our primary business. This business contains loans with loan-to-value ratios
above 80% which have primary insurance that places the pool insurance in a
secondary loss position and loans with loan-to-value ratios of 80% and below for
which the pool coverage is in a first loss position. The performance of this
business written in prior years has been better than anticipated although the
business is relatively young and the historical performance might not be an
indication of future performance. Under a pool insurance transaction, our
exposure on each individual loan is uncapped; however, the aggregate stop-loss
percentage (typically 1.0% to 1.5% of the aggregate original loan balance in the
Fannie Mae/Freddie Mac transactions) is the maximum that can be paid out in
losses before the insurer's exposure terminates. We expect our pool insurance
activity to continue at the current reduced levels during 2001. Premium rates on
pool insurance are significantly lower than on primary insurance loans due to
the low stop-loss levels, which limit the overall risk exposure to us, and the
focus of such product on high-quality primary insurance customers. S&P, Moody's
and Fitch have determined that the capital requirements to support such pool
insurance will be significantly more stringent than on primary insurance due to
the low premium rates and low stop-loss levels which increase expected losses as
a percentage of risk outstanding.
Mortgage insurance industry volume in 2000 was negatively impacted by
relatively higher interest rates which affected the entire mortgage industry for
most of the year. The trend toward higher interest rates, which began in the
third quarter of 1999, caused refinancing activity during 2000 to decline to
normal levels and contributed to the decrease in the mortgage insurance industry
new insurance written volume for 2000. Our refinancing activity as a percentage
of primary new insurance written was 14.0% for 2000 as compared to 27.0% for
1999. However, a decrease in interest rates during the fourth quarter of 2000
resulted in an increase in refinancing activity for us during the quarter to
17.0% of primary new insurance written as compared to 12.0% for the third
quarter of 2000. The persistency rate was 78.2% for 2000 as compared to 75.0%
for 1999. This increase was consistent with the declining level of refinancing
activity during most of 2000, which caused the cancellation rate to decrease.
The expectation for 2001 is a higher industry volume and lower persistency
rates, influenced by lower interest rates.
We insure non-traditional loans, specifically Alternative A and A minus
loans. Alternative A borrowers have an equal or better credit profile than our
typical insured borrowers, but these loans are underwritten with reduced
documentation and verification of information. We typically charge a higher
premium rate for this business due to the reduced documentation, but do not
consider this business to be significantly more risky than our normal primary
business. The A minus loan programs typically have non-traditional credit
standards that are less stringent than standard credit guidelines. To compensate
for this additional risk, we receive a higher premium for insuring this product
that we believe is commensurate with the additional default risk. During 2000,
this business accounted for $5.4 billion or 21.5% of our new primary insurance
written as compared to $3.5 billion or 9.7% for the same period in 1999.
In the third quarter of 2000, we began to insure mortgage-related assets in
Radian Insurance. Radian Insurance is rated AA by S&P and Aa3 by Moody's and was
formed to write credit insurance and financial guaranty insurance on assets that
are not permitted to be insured by monoline mortgage guaranty insurers. These
assets include manufactured housing loans, second mortgages, home equity loans
and mortgages with loan-to-value ratios above 100%. During 2000, Radian
Insurance wrote $1.6 billion of insurance which represented $211.0 million of
risk. Such business is similar to mortgage guaranty insurance, however, the
structures can vary and thus premium rates and commensurate risk levels will be
variable.
Net premiums earned in 2000 were $520.9 million, a 10.2% increase compared
to $472.6 million for 1999. This increase, which was greater than the increase
in insurance in force, reflected the change in the mix of new insurance written
volume originated by us during the second half of 1999 and throughout 2000. This
change in mix included a higher percentage of loans with loan-to-value ratios of
95% or higher and Alternative A and A minus business. These types of business
have higher premium rates, which are commensurate with the increased level of
risk associated with the insurance. Our higher loan-to-value activity was 45.0%
for 2000 as compared to 41.0% for 1999 and the Alternative A and A minus
business accounted for 21.5% of our new
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primary insurance written in 2000 as compared to 9.7% for 1999. The reduced
level of refinancing activity and the resulting increase in persistency led to
an increase in direct primary insurance in force during 2000 of 3.9%, from $97.1
billion at December 31, 1999 to $100.9 billion at December 31, 2000. GSE Pool
risk in force also grew to $1.1 billion at December 31, 2000, an increase of
4.2% for the year. We and others in our industry have entered into risk-sharing
arrangements with various customers that are designed to allow the customer to
participate in the risks and rewards of the mortgage insurance business. One
such product is captive reinsurance, in which a mortgage lender sets up a
mortgage reinsurance company that assumes part of the risk associated with that
lender's insured book of business. In most cases, the risk assumed by the
reinsurance company is an excess layer of aggregate losses that would be
penetrated only in a situation of adverse loss development. For 2000, premiums
ceded under captive reinsurance arrangements were $39.5 million, or 7.6% of
total premiums earned during 2000, as compared to $27.5 million, or 5.8% of
total premiums earned for the same period of 1999. New primary insurance written
under captive reinsurance arrangements was $8.1 billion, or 32.6% of total new
primary insurance written in 2000 as compared to $13.7 billion, or 41.3% of
total new primary insurance written in 1999.
Net investment income for 2000 was $82.9 million, a 23.3% increase compared
to $67.3 million in 1999. This increase was a result of continued growth in
invested assets primarily due to positive operating cash flows of $280.0 million
during 2000. We have continued to invest some of our new operating cash flows in
tax-advantaged securities, primarily municipal bonds, although we did modify our
investment policy to allow the purchase of various other asset classes,
including common stock and convertible securities, beginning in the second
quarter of 1998 and some of our cash flows have been used to purchase these
classes of securities. Our intent is to target the common equity exposure at a
maximum of 5% of the investment portfolio's market value while the convertible
securities and mortgage-backed securities exposures are targeted not to exceed
10% each. We expect no material long-term impact on total investment returns as
a result of this investment asset diversification.
The provision for losses was $154.3 million in 2000, a decrease of 11.4%
compared to $174.1 million in 1999. This decrease was due to a reduction from
1999 to 2000 in the percentage of delinquencies on higher loan-to-value loans
which have higher loss reserves per default and a decrease in loss severity due
to strong property value appreciation. Claim activity is not evenly spread
throughout the coverage period of a book of business. Relatively few claims are
received during the first two years following issuance of the policy.
Historically, claim activity has reached its highest level in the third through
fifth years after the year of loan origination. Approximately 76.0% of our
primary risk in force and almost all of our pool risk in force at December 31,
2000 had not yet reached its anticipated highest claim frequency years. Due to
the high cancellation rates and strong new insurance volume in 1998 and the
first half of 1999, this percentage of newer risk in force is significantly
higher than normal levels. Our overall default rate at December 31, 2000 was
1.6% as compared to 1.5% at December 31, 1999, while the default rate on the
primary business was 2.3% at December 31, 2000 as compared to 2.2% at December
31, 1999. The increase in our overall default rate could be a result of the
slowing economy. A strong economy generally results in better loss experience
and a decrease in the overall level of losses. A continued weakening of the
economy could negatively impact our overall default rates, which would result in
an increase in the provision for losses. The number of defaults rose from 22,151
at December 31, 1999 to 26,520 at December 31, 2000 and the average loss reserve
per default declined from $15,071 at the end of 1999 to $14,707 at December 31,
2000. The decrease in average loss reserve per default was primarily the result
of a decline in our percentage of higher loan-to-value loans in default which
results in a lower overall reserve per default as lower loan-to-value loans are
perceived as having a lower risk of claim incidence. The percentage of loans in
default with loan-to-value ratios of 90.01% or higher decreased to 45.2% as of
December 31, 2000 as compared to 47.9% as of December 31, 1999. The default rate
in California was 1.5% (including pool) at December 31, 2000 as compared to 1.8%
at December 31, 1999 and claims paid in California during 2000 were $15.8
million, representing approximately 16.1% of total claims as compared to 26.8%
in 1999. California represented approximately 16.8% of primary risk in force at
December 31, 2000 as compared to 17.2% at December 31, 1999. The default rate in
Florida was 2.7% (including pool) at December 31, 2000 as compared to 3.1% at
December 31, 1999 and claims paid in Florida during 2000 were $13.3 million,
representing approximately 13.6% of total claims as compared to 13.4% in 1999.
Florida represented 7.4% of primary risk in force at December 31, 2000 and 1999.
We have
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reported an increased number of defaults on the non-prime business insured
beginning in 1997. Although the default rate for this business is higher than on
our normal books of business, it is within the expected range for this type of
business, and the higher premium rates charged are expected to compensate for
the increased level of risk. The number of non-prime loans in default at
December 31, 2000 was 2,690, which represented 13.1% of the total number of
primary loans in default and the default rate on this business was 4.1% as of
December 31, 2000 as compared to the primary default rate on our prime business
of 2.3% at the end of 2000. Direct loss-es paid in 2000 were $93.3 million as
compared to direct losses paid during 1999 of $88.2 million, an increase of
5.8%. The severity of loss payments has declined due to property value
appreciation, but any negative impact on future property values would most
likely increase the loss severity.
Underwriting and other operating expenses were $108.6 million for 2000, a
decrease of 10.5% compared to $121.4 million for 1999. These expenses consisted
of policy acquisition expenses, which relate directly to the acquisition of new
business, and other operating expenses, which primarily represent contract
underwriting expenses, overhead, and administrative costs.
Policy acquisition costs were $51.5 million in 2000, a decrease of 12.4%
compared to $58.8 million in 1999. This decrease reflects the synergies achieved
as a result of the merger and the decrease in the level of new insurance written
for 2000, as compared to 1999. Other operating expenses for 2000 were $57.2
million, a decrease of 8.8% compared to $62.7 million for 1999. This reflects a
decrease in expenses associated with contract underwriting services offset by an
increase in expenses associated with our administrative and support functions.
Contract underwriting expenses for 2000 included in other operating expenses
were $20.3 million as compared to $32.4 million for 1999, a decrease of 37.5%.
However, contract underwriting expenses were $6.8 million for the fourth quarter
of 2000, as compared to $6.9 million for the same period in 1999. This $12.1
million decrease in contract underwriting expenses during 2000 reflected the
decreased demand for contract underwriting services throughout the first nine
months of 2000, as mortgage origination volume declined; however, the increase
in expenses for the fourth quarter of 2000 reflected the increasing demand for
contract underwriting services as more lenders took advantage of the integration
of the contract underwriting process with Freddie Mac's Loan Prospector and
Fannie Mae's Desktop Underwriter origination systems to eliminate back offices
origination functions, combined with the decrease in interest rates toward the
end of 2000 which resulted in an increase in the level of refinanced mortgage
origination volume. Consistent with the decline in contract underwriting
expenses, other income decreased 34.5% to $7.4 million in 2000, as compared to
$11.3 million in 1999. During 2000, loans underwritten via contract underwriting
accounted for 30.1% of applications, 26.2% of insurance commitments, and 19.4%
of certificates issued by us as compared to 22.2% of applications, 18.8% of
commitments, and 15.6% of certificates in 1999. In 2001, these percentages are
expected to decrease if there is a continued increase in the level of
refinancing as refinanced loans tend to have lower loan-to-value ratios and
therefore contain a relatively low percentage of loans that require mortgage
insurance.
During 1999, we incurred merger-related expenses of $37.8 million. We
incurred no additional merger-related expenses in 2000, and do not expect to
incur any additional expenses related to this merger in 2001 or beyond.
The effective tax rate for 2000 was 29.4% and, excluding merger costs (net
of tax) of $34.4 million, the effective tax rate for the same period in 1999 was
29.0%. Eliminating the merger expenses of $37.8 million in 1999, operating
income accounted for 73.2% of net income in 1999, as compared to 75.3% for the
same period in 2000, thus resulting in an increase in effective tax rates for
2000.
TWELVE-MONTH PERIOD ENDED DECEMBER 31, 1999 COMPARED TO TWELVE-MONTH PERIOD
ENDED DECEMBER 31, 1998
Net income for 1999 was $148.1 million, a 4.1% increase compared to $142.2
million for 1998. However, net income for 1999 included merger expenses (net of
tax) of $34.4 million as compared to merger expenses (net of tax) of $714,000 in
1998. Without these merger expenses, net income for 1999 was $182.6 million as
compared to $143.0 million for 1998, an increase of 27.7% or $39.6 million. This
improvement in net income, excluding merger expenses, was a result of
significant growth in premiums earned and net investment income,
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partially offset by a higher provision for losses, an increase in policy
acquisition costs and other operating expenses, and a reduction in other income.
New primary insurance written during 1999 was $33.3 billion, a 10.3%
decrease compared to $37.1 billion for 1998. This decrease in our primary new
insurance written volume in 1999, was primarily due to a decline in our market
share of the industry volume, which fell to 17.5% for the year ended December
31, 1999, as compared to 19.3% for the same period of 1998. This decrease in
market share was slightly offset by an increase in primary new insurance written
volume in the private mortgage insurance industry for 1999, as compared to 1998
of $775.0 million or 0.4%. We believe the market share decline was primarily due
to the reduction in business provided by a few of the largest national accounts,
which rebalanced their mortgage insurance allocation after the merger. In 1999,
we wrote a smaller amount of pool insurance, which represented an addition to
risk written of $421.2 million as compared to $475.0 million in 1998. Most of
this pool insurance volume related to GSE Pool business.
Our volume in 1999 was positively impacted by relatively lower interest
rates that affected the entire mortgage industry for most of the year. The trend
toward lower interest rates, which began in the third quarter of 1997, caused
refinancing activity during the first half of 1999 to continue at a higher rate
than normal, and strong housing prices caused a large percentage of the
refinanced loans to be closed without private mortgage insurance at a
loan-to-value ratio of 80% or below. Therefore, the rate of growth in the
private mortgage insurance industry, although substantial, was not as high as
that of the entire mortgage market. An increase in interest rates during the
third quarter of 1999 resulted in a decline in refinancing activity for us and
contributed to the 15.2% decrease in the mortgage insurance industry new
insurance written volume for the second half of 1999 compared to the same period
in 1998. Our refinancing activity as a percentage of primary new insurance
written was 27.0% for 1999 as compared to 34.0% in 1998; however, for the fourth
quarter of 1999, that rate had declined to 13.0% from 20.0% in the third quarter
of 1999 and 39.0% in the fourth quarter of 1998. The persistency rate was 75.0%
for 1999 as compared to 66.6% for 1998. This increase was consistent with the
declining level of refinancing activity during the second half of 1999, which
caused the cancellation rate to decrease.
We also became more involved in insuring non-conforming loans, specifically
Alternative A and A minus loans, during 1999. In 1999, this business accounted
for $3.5 billion or 9.7% of our new primary insurance written as compared to
$1.7 billion or 4.7% for the same period in 1998.
Net premiums earned in 1999 were $472.6 million, a 16.6% increase compared
to $405.3 million for 1998. This increase reflected the insurance in force
growth resulting from strong new insurance volume and pool insurance written
during 1999, and was aided by the increase in persistency levels. The strong
volume led to an increase in direct primary insurance in force during 1999 of
16.7%, from $83.2 billion at December 31, 1998 to $97.1 billion at December 31,
1999. Direct pool risk in force also grew to $1.4 billion at December 31, 1999
from $993.0 million at the end of 1998, an increase of 40.8% for the year. For
1999, premiums ceded under captive reinsurance arrangements were $27.5 million,
or 5.8% of total premiums earned during 1999, as compared to $13.8 million, or
3.4% of total premiums earned for the same period of 1998. New primary insurance
written under captive reinsurance arrangements was $13.7 billion, or 41.3% of
total new primary insurance written in 1999 as compared to $9.7 billion, or
26.1% of total new primary insurance written in 1998.
Net investment income for 1999 was $67.3 million, a 12.4% increase compared
to $59.9 million in 1998. This increase was a result of continued growth in
invested assets primarily due to positive operating cash flows of $261.7 million
during 1999. We continued to invest some of our new operating cash flows in
tax-advantaged securities, primarily municipal bonds, although we did modify our
investment policy to allow the purchase of various other asset classes,
including common stock and convertible securities, beginning in the second
quarter of 1998 and some of our cash flows have been used to purchase these
classes of securities.
The provision for losses was $174.1 million in 1999, an increase of 4.7%
compared to $166.4 million in 1998. This increase reflected an increase in the
number of delinquent loans as a result of the significant growth and maturation
of our book of business over the past several years and the continued poor
experience of certain affordable housing program loans insured in 1994 and 1995,
especially in Florida. Approximately 65% of our primary risk in force and almost
all of our pool risk in force at December 31, 1999 had not yet reached
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its anticipated highest claim frequency years. Due to the high cancellation
rates and strong new insurance volume in 1998 and the first half of 1999, this
percentage of risk in force was significantly higher than normal levels. Our
overall default rate at December 31, 1999 was 1.5% as compared to 1.6% at
December 31, 1998, while the default rate on the primary business was 2.2% at
December 31, 1999 as compared to 2.1% at December 31, 1998. The decrease in our
overall default rate was a result of the continued strong economy and the
relatively lower interest rates that have been experienced over the past few
years. The number of defaults rose from 18,775 at December 31, 1998 to 22,151 at
December 31, 1999 and the average loss reserve per default rose from $13,056 at
the end of 1998 to $15,071 at December 31, 1999. The increase in average loss
reserve per default reflected our continued implementation of a more
conservative reserve calculation for certain loans in default perceived as
having a higher risk of claim incidence. In addition, an increase in the average
loan balance and the coverage percentage on loans originated beginning in 1995,
have necessitated a higher reserve balance on loans in a default status due to
the increased ultimate exposure on these loans. The default rate in California
was 1.8% (including pool) at December 31, 1999, as compared to 2.4% at December
31, 1998, and claims paid in California during 1999 were $24.4 million,
representing approximately 26.8% of total claims as compared to 45.1% in 1998.
California represented approximately 17.2% of primary risk in force at December
31, 1999, as compared to 18.6% at December 31, 1998. The default rate in Florida
was 3.1% (including pool) at December 31, 1999, as compared to 3.3% at December
31, 1998, and claims paid in Florida during 1999 were $12.2 million,
representing approximately 13.4% of total claims as compared to only 11.2% in
1998. Florida represented 7.4% of primary risk in force at December 31, 1999 and
1998. In addition, we reported an increased number of defaults on the non-prime
business insured beginning in 1997 through 1999. Direct losses paid in 1999 were
$88.2 million as compared to direct losses paid during 1998 of $105.5 million, a
decrease of 16.5%.
Underwriting and other operating expenses were $121.4 million for 1999, an
increase of 2.7% compared to $118.2 million for 1998. These expenses consisted
of policy acquisition and other operating expenses.
Policy acquisition costs were $58.8 million in 1999, an increase of 0.5%
compared to $58.5 million in 1998. This slight increase reflected the growth in
variable sales-and-underwriting-related expenses relating to our continued
strong levels of new insurance written, offset by the synergies realized in the
second half of the year as a result of the merger. We continued development of
our marketing infrastructure needed to support a focus on larger, national
mortgage lenders in order to take advantage of the widespread consolidation and
centralized decision making occurring in the mortgage lending industry. Other
operating expenses for 1999 were $62.7 million, an increase of 4.9% compared to
$59.7 million for 1998. Most of the increase was a result of an increase in
expenses associated with our administrative and support functions. Contract
underwriting expenses for 1999, included in other operating expenses were $32.4
million as compared to $34.4 million for 1998, a decrease of 5.9%. This $2.0
million decrease in contract underwriting expenses during 1999 reflected the
decreasing demand for contract underwriting services as mortgage origination
volume declined. The additional costs related to running duplicate systems and
other administrative operations during the integration process resulted in an
increase in other operating expenses unrelated to contract underwriting of $8.0
million. During 1999, loans underwritten via contract underwriting accounted for
22.2% of applications, 18.8% of insurance commitments, and 15.6% of certificates
issued by us as compared to 21.2% of applications, 17.9% of commitments, and
15.6% of certificates in 1998. In addition to the increase in contract
underwriting volume, changing market conditions caused the cost of contract
underwriting to increase during 1997 and 1998, due to the high demand for
available resources. In addition, as the level of refinancing decreased, the
demand for available resources also decreased, resulting in a decline in
contract underwriting costs.
During 1999, we incurred merger-related expenses of $37.8 million as
compared to $1.1 million for 1998. Total merger-related expenses were $38.9
million and consisted of the following types of expenses:
- Professional services of $11.8 million;
- Compensation arrangements of $8.5 million;
- Write-offs of fixed and intangible assets of $15.8 million; and
- Miscellaneous merger-related costs of $2.8 million.
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The effective tax rate for 1999, excluding merger costs, net of tax, of
$34.4 million, was 29.0% as compared to 28.3% for 1998. Eliminating the merger
expenses of $37.8 million and $1.1 million for 1999 and 1998, respectively,
operating income accounted for 73.2% of net income in 1999, as compared to 68.3%
for the same period in 1998, thus resulting in the increase in effective tax
rates for 1999.
LIQUIDITY AND CAPITAL RESOURCES
Our sources of funds consist primarily of premiums and investment income.
Funds are applied primarily to the payment of our claims and operating expenses.
Cash flows from operating activities for the six months ended June 30, 2001
were $218.7 million as compared to $145.9 million for the same period of 2000.
This increase consisted of an increase in net premiums written and investment
income received offset by an increase in operating expenses. In addition, the
June 30, 2001 operating cash flows included four months of cash flows from the
Enhance Financial Services operations of $1.3 million. Positive cash flows are
invested pending future payments of claims and other expenses; cash flow
shortfalls, if any, are funded through sales of short-term investments and other
investment portfolio securities.
Stockholders' equity plus redeemable preferred stock of $40.0 million,
increased from $1.4 billion at December 31, 2000 to $2.2 billion at June 30,
2001, primarily as a result of the issuance of stock associated with the
acquisition of Enhance Financial Services of $574.0 million, net income of
$172.8 million, and proceeds from the issuance of common stock of $20.4 million,
offset by a decrease in the market value of securities available for sale of
$10.4 million, net of tax, and dividends of $4.6 million.
As of June 30, 2001, we have plans to implement a new general ledger system
at an anticipated cost of approximately $4.0 million.
We own a 46% interest in C-BASS. We have not made any capital contributions
to C-BASS subsequent to acquiring the interest in C-BASS in connection with the
acquisition of Enhance Financial Services.
We own a 45.5% interest in Sherman Financial Group. We have made $15.0
million of capital contributions to Sherman Financial Group subsequent to
acquiring the interest in connection with the acquisition of Enhance Financial
Services. In conjunction with the acquisition, we have guaranteed payment of up
to $12.5 million of a $25.0 million revolving credit facility issued to Sherman
Financial Group. During the second quarter of 2001, Sherman Financial Group used
$500,000 of the credit facility and this amount was repaid in July 2001.
We obtained long-term financing through the issuance of the Old Debentures.
The Old Debentures were issued on May 29, 2001 at an offering price of 99.615%
of par value with registration rights. The Old Debentures mature on June 1,
2011. The Old Debentures bear interest at 7.75%, payable semi-annually in June
and December. Enhance Financial Services was party to a credit agreement with
major commercial banks providing Enhance Financial Services with a borrowing
facility aggregating up to $175.0 million, the proceeds of which were to be used
for general corporate purposes. The outstanding principal balance under the
Credit Agreement of $173.7 million was retired on May 29, 2001 with proceeds
from the Old Debentures.
We believe that our operating subsidiaries will have sufficient funds to
satisfy their claims payments and operating expenses and to pay dividends to us
for at least the next 12 months. We also believe that we will be able to satisfy
our long-term (more than 12 months) liquidity needs with cash flow from the
operating subsidiaries. As a holding company, we conduct our principal
operations through our subsidiaries. Our ability to pay dividends on our
outstanding $4.125 Preferred Stock and to pay principal and interest on the
debentures is dependent upon our subsidiaries' ability to pay dividends or make
other distributions to us. In connection with obtaining approval from the New
York Insurance Department for the change of control of Enhance Reinsurance when
we acquired Enhance Financial Services, Enhance Reinsurance agreed not to
declare or pay dividends for a period of two years following consummation of the
acquisition. Consequently, we cannot rely upon or expect any dividends or other
distributions from Enhance Reinsurance. Based on our current intention to pay
quarterly common stock dividends of approximately $0.02 per share, we will
require distributions from our other operating subsidiaries of $10.8 million
annually to pay the dividends on the
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outstanding shares of $4.125 Preferred Stock and common stock. In addition, we
will require distributions from our other subsidiaries of $19.4 million annually
to pay the debt service on our long-term debt financing. There are regulatory
and contractual limitations on the payment of dividends or other distributions;
however, we do not believe that these restrictions will prevent the payment by
our other subsidiaries or us of these anticipated dividends or distributions in
the foreseeable future.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
During the first six months of 2001, we experienced a decrease in the fair
market value of the available for sale portfolio, which resulted in a decrease
in the net unrealized gain on the investment portfolio of $10.1 million, from a
net unrealized gain of $25.3 million at December 31, 2000 to a net unrealized
gain of $15.2 million at June 30, 2001. This decrease in value was a result of
changes in market interest rates and not as a result of changes in the
composition of the investment portfolio. For a more complete discussion about
the potential impact of interest rate changes upon the fair value of the
financial instruments in the Company's investment portfolio, see "Quantitative
and Qualitative Disclosures about Market Risk" in the Company's 2000 Form 10-K.
We manage our investment portfolio to achieve safety and liquidity, while
seeking to maximize total return. We believe we can achieve these objectives by
active portfolio management and intensive monitoring of investments. Market risk
represents the potential for loss due to adverse changes in the fair value of
financial instruments. The market risk related to a financial instruments
primarily relate to the investment portfolio, which exposes us to risks related
to interest rates, default prepayments, and declines in equity prices. Interest
rate risk is the price sensitivity of a fixed income security to changes in
interest rates. We view these potential changes in price within the overall
context of asset and liability management. Our analysts estimate the payout
pattern of the mortgage insurance loss reserves to determine their duration,
which is the weighted average payments expressed in years. We set duration
targets for fixed income investment portfolios that we believe mitigates the
overall effect of interest rate risk. As of December 31, 2000, the average
duration of the fixed income portfolio was 6.3 years. Based upon assumptions we
use in our duration calculations, increases in interest rates of 100 and 150
basis points would cause decreases in the market value of the fixed maturity
portfolio (excluding short-term investments) of approximately 5.1% and 7.5%,
respectively. Similarly, a decrease in interest rates of 100 and 150 basis
points would cause increases in the market value of the fixed maturity portfolio
of approximately 5.2% and 7.8%, respectively. At June 30, 2001, we had no
foreign investments and our investment in non-investment grade fixed income
securities was $11,460,880. At June 30, 2001, the market value and cost of our
equity securities were $73,916,443 and $70,893,394. We are exposed to equity
price risk as a result of our investment in equity securities. However, this
risk is minimal due to the relatively minor component of the overall portfolio
consisting of equity securities.
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RADIAN GROUP INC.
GENERAL
We provide, through our wholly owned principal operating subsidiaries,
Radian Guaranty and Amerin Guaranty, private mortgage insurance coverage in the
United States on residential mortgage loans. We were formed on June 9, 1999, by
the merger of CMAC Investment Corporation and Amerin Corporation, Radian
Guaranty and Amerin Guaranty. Prior to the merger and our formation, CMAC
Investment Corporation, through its wholly owned subsidiary, Commonwealth
Mortgage Assurance Company, had been engaged in the mortgage insurance business
since 1977. Private mortgage insurance protects mortgage lenders and investors
from default related losses on residential mortgage loans made primarily to
homebuyers who make downpayments of less than 20% of the home's purchase price.
Private mortgage insurance also facilitates the sale of such mortgage loans in
the secondary mortgage market, principally to Freddie Mac and Fannie Mae. We are
restricted, both by state insurance laws and regulations and the eligibility
requirements of Freddie Mac and Fannie Mae, to providing insurance on
residential first mortgage loans only. We currently offer two principal types of
private mortgage insurance coverage, primary and pool. At December 31, 2000,
primary insurance comprised 94.7% of our risk in force and pool insurance
comprised 5.3% of our risk in force. In addition, during the third quarter of
2000, we commenced operations in Radian Insurance, a subsidiary which writes
credit insurance on non-traditional mortgage related assets such as second
mortgages and manufactured housing. There was a minimal amount of business
written by Radian Insurance in 2000, but this amount is expected to increase
significantly in 2001 and beyond.
On February 28, 2001, we acquired Enhance Financial Services, a New York
based insurance holding company. Shareholders of Enhance Financial Services
received 0.22 shares of our common stock in return for each share of Enhance
Financial Services common stock. The acquisition, which was accounted for as a
purchase with a value of approximately $540 million, has allowed us to diversify
in the financial guaranty reinsurance and insurance of municipal and
asset-backed businesses as well as several asset based businesses. Enhance
Financial Services is a holding company primarily engaged, through its
wholly-owned, New York domiciled financial guaranty insurance subsidiaries,
Enhance Reinsurance and Asset Guaranty, in the reinsurance of financial
guaranties of municipal and asset-backed debt obligations issued by the four
major monoline primary U. S. financial guaranty insurers, referred to herein as
the Major Monolines: MBIA Insurance Corporation, AMBAC Assurance Corporation,
Financial Guaranty Insurance Company and Financial Security Assurance Inc.
Enhance Financial Services has, since its inception, conducted substantially its
entire insurance business through Enhance Reinsurance and Asset Guaranty.
Enhance Financial Services is also engaged in other insurance and reinsurance
businesses, including the issuance of direct financial guaranties of municipal
and other debt obligations, including, asset-backed transactions and
collateralized debt obligations, trade credit reinsurance, excess-SIPC and
similar types of bonds.
Primary Insurance
Primary insurance provides mortgage default protection on individual loans
at a specified coverage percentage which is applied to the unpaid loan
principal, delinquent interest and certain expenses associated with the default
and subsequent foreclosure, which we refer to collectively as the claim amount.
Our obligation to an insured lender in respect of a claim is determined by
applying the appropriate coverage percentage to the claim amount. Our "risk" on
each insured loan is the unpaid loan principal multiplied by the coverage
percentage. Much of our current business is written with 30% coverage on loans
with a loan-to-value ratio between 90.01% and 95%, which we refer to as 95s, and
25% coverage on loans with a loan-to-value ratio between 85.01% and 90%, which
we refer to as 90s. As of December 31, 2000, approximately 60% of our primary
insurance in force had such coverage. In January 1999, Fannie Mae announced a
new program which allows for lower levels of required mortgage insurance for
certain low downpayment loans approved through its Desktop Underwriter automated
underwriting system. The insurance levels in this program are similar to those
required prior to 1995. In March 1999, Freddie Mac announced a similar program
for loans approved through its Loan Prospector automated underwriting system.
Through the end of 2000, a minimal amount of insurance
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was written in these programs. For more information on these developments, see
"Freddie Mac and Fannie Mae," on page 65.
Under our master policy, upon a default, we have the option of paying the
entire claim amount and taking title to the mortgage property, or paying the
coverage percentage in full satisfaction of our obligations under the insurance
written. In 2000, the entire claim amount was paid in approximately 6% of filed
claims because of the expected economic advantage associated with that choice.
This is significantly higher than in past years and is due to the good economic
conditions experienced over the past few years in which property values have
remained generally strong. There is no guarantee that housing values will remain
strong in the future.
Pool Insurance
Pool insurance differs from primary insurance in that the exposure on pool
insurance is not limited to a specific coverage percentage on each individual
loan. Because of this feature and the generally lower premium rates associated
with pool insurance, the rating agency capital requirements for the product are
more restrictive than primary insurance. There is an aggregate exposure limit,
known as a stop loss on a "pool" of loans which is generally between 1% and 10%
of the initial aggregate loan balance. Modified pool insurance has a stop loss
like pool insurance, but also has exposure limits on each individual loan. The
use of modified pool insurance is more limited than traditional pool insurance.
We offer pool insurance on a selected basis to various state housing
finance agencies on the collateral for their bond issues, as a credit
enhancement to mortgage loans included in mortgage-backed securities or in whole
loan sales, and in certain other specific situations. Since 1996, Radian
Guaranty and Amerin Guaranty have offered pool insurance on mortgage product
sold to Freddie Mac and Fannie Mae by their primary insurance customers, which
we refer to as GSE Pool. This pool insurance has a very low stop loss, generally
1.0% to 1.5%, and the insured pools contain loans with and without primary
insurance. Loans without primary insurance have an loan-to-value ratio of 80.0%
or below. Premium rates on this business are significantly lower than primary
insurance rates and the expected profitability on this business is lower than
that of primary insurance. The volume of such business increased significantly
from 1997 to 1998, due to the strong demand for this product from Radian
Guaranty and Amerin Guaranty customers and due to the increased size of the
mortgage market. During 2000, we had pool risk written of $188 million
consisting mostly of GSE Pool business, compared to $421 million in 1999, and
$475 million in 1998. This significant decrease is due to our effort to curtail
use of the product due to the capital requirements and our development of
alternative products, primarily captive reinsurance. We expect to continue to
write a minimal amount GSE Pool insurance in 2001. GSE Pool risk in force at
June 30, 2001 represented 4.4% of our total risk in force.
Structured Transactions
We, from time to time, engage in structured transactions which may include
either primary insurance, pool insurance or some form of combination thereof. A
structured transaction generally involves insuring a large group of seasoned or
unseasoned loans or issuing a commitment to insure new loan originations under
negotiated terms. Some structured transactions contain a risk-sharing component
under which the insured or a third party assumes a first-loss position or shares
in losses in some other manner. Opportunities for structured transactions have
increased during the last two years, however we compete with other mortgage
insurers as well as capital market executions such as senior/subordinated
security structures to obtain such business. The use of structured transactions
increased significantly in 2000. Most structured transactions involve non-
traditional mortgage or mortgage related assets such as Alternative A or A minus
mortgages. Alternative A or A minus mortgages are known as our nonprime
business. Competition for this business is generally based upon price. We wrote
$2.6 billion in new primary insurance in structured transactions in the first
six months of 2001, which represents 12.4% of primary new insurance written, and
$1.2 billion in new primary insurance in structured transactions in 2000, which
represented 4.8% of primary new insurance written, and Radian Insurance wrote
$1.9 billion of new insurance in structured transactions for the first six
months of 2001, and $1.6 billion of new insurance in structured transactions in
2000, which represented all of the new insurance written in Radian Insurance.
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Revenue Sharing Products
We, like other mortgage insurers, offer financial products to our mortgage
lender customers that are designed to allow the customer to participate in the
risks and rewards of the mortgage insurance business. One such product is
captive reinsurance, in which a lender sets up a reinsurance company that
assumes part of the risk associated with that lender's insured book of business.
In most cases, the risk assumed by the reinsurer is an excess layer of aggregate
losses that would be penetrated only in a situation of adverse loss development.
We have approximately 30 active captive reinsurance agreements in place at June
30, 2000 and could enter into several new agreements or modify existing
agreements in 2001, some with large national lenders. Premiums ceded to captive
reinsurance companies in 2000 were $39.6 million, representing 7.0% of total
premiums earned, as compared to $27.5 million, or 5.8% of total premiums earned
in 1999, and primary insurance written in 2000 that had captive reinsurance
associated with it was $8.1 billion, or 32.6% of our total as compared to $13.7
billion or 41.3% in 1999. During 2000, Freddie Mac issued standards for captive
reinsurance through its mortgage insurance eligibility requirements.
Additionally, a task force consisting of lenders, mortgage insurers and
accounting firms has been set up to study the risk transferability and the
appropriate accounting treatment for captive reinsurance.
Radian Insurance Inc.
Radian Insurance was reorganized and rated in September 2000 to write
credit insurance on non-traditional mortgage related assets such as second
mortgages and manufactured housing and to provide credit enhancement to mortgage
related capital market transactions. We feel that there are many opportunities
to take advantage of our expertise in credit underwriting and evaluation of
asset performance to write business which we are precluded from writing in our
monoline mortgage guaranty companies, Radian Guaranty and Amerin Guaranty.
However, as of October 1, 2001, Amerin Guaranty will be licensed to write second
mortgage insurance in all 50 states, and second mortgage insurance business done
by Radian will most likely be written in Amerin Guaranty. Radian Insurance
obtained a AA rating from S&P and a Aa3 rating from Moody's based on a prudent
business plan and a Net Worth and Liquidity Maintenance Agreement from Radian
Guaranty, which obligates Radian Guaranty to maintain at least $30 million of
capital in Radian Insurance. In 2000, Radian Insurance wrote $1.6 billion of new
insurance representing approximately $211 million in risk. For the first six
months of 2001, Radian Insurance wrote $1.9 billion of new insurance
representing $429 million in risk. The insurance structures typically used in
Radian Insurance are pool insurance or modified pool insurance which can have a
reserve or first loss position in front of Radian Insurance's layer of risk. In
addition to the Net Worth and Liquidity Maintenance Agreement, we intend to
capitalize Radian Insurance at all times in an amount that would support the
existing risk in force.
Financial Guaranty Insurance Business
Financial guaranty insurance provides an unconditional and irrevocable
guaranty to the holder of a debt obligation of full and timely payment of
principal and interest. In the event of a default under the obligation, the
insurer has recourse against the issuer and/or any related collateral (which is
a more common component in the case of insured asset-backed obligations or other
non-municipal debt) for amounts paid under the terms of the policy. Payments
under the insurance policy may not be accelerated by the holder of the debt
obligation. Absent payment in full at the option of the insurer, in the event of
a default under an insured obligation, the holder continues to receive payments
of principal and interest on schedule, as if no default had occurred. Each
subsequent purchaser of the obligation generally receives the benefit of such
guaranty.
The issuer of the obligation pays the premium for financial guaranty
insurance either in full at the inception of the policy or, less commonly, in
installments on an annual basis. Premium rates are typically calculated as a
percentage of either the principal amount of the debt or total exposure
(principal and interest). Rate setting reflects such factors as the credit
strength of the issuer, type of issue, sources of income, collateral pledged,
restrictive covenants, maturity and competition from other insurers.
Premiums are generally non-refundable and are earned over the life of the
insured obligation. This long and relatively predictable earnings pattern is
characteristic of the financial guaranty insurance industry and
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provides a relatively stable source of future revenues and claims-paying ability
to financial guaranty insurers and reinsurers.
The primary financial guaranty insurance market consists of two main
sectors: municipal bond insurance and insurance on asset-backed debt.
Municipal Bond Market. Municipal bond insurance provides credit
enhancement of bonds, notes and other evidences of indebtedness issued by states
and their political subdivisions (for example, counties, cities, or towns),
utility districts, public universities and hospitals, public housing and
transportation authorities, and other public and quasi-public entities.
Municipal bonds are supported by the issuer's taxing power in the case of
general obligation or special tax-supported bonds, or by its ability to impose
and collect fees and charges for public services or specific projects in the
case of most revenue bonds. Insurance provided to the municipal bond market has
been and continues to be the major source of revenue for the financial guaranty
insurance industry.
Asset-Backed Debt Market. Asset-backed transactions or securitizations
constitute a form of structured financing which is distinguished from unsecured
debt issues by being secured by a specific pool of assets held by the issuing
entity, rather than relying on the general unsecured creditworthiness of the
issuer of the obligation. While most asset-backed debt obligations represent
interests in pools of assets, such as residential and commercial mortgages and
credit card and auto loan receivables, monoline financial guarantors have also
insured asset-backed debt obligations secured by one or a few assets, such as
utility mortgage bonds and multi-family housing bonds. The asset-backed
securities market has grown significantly in recent years although consensus
estimates are lacking as to the insured volume.
Financial Guaranty Reinsurance
Reinsurance is the commitment by one insurance company, the "reinsurer," to
reimburse another insurance company, the "ceding company," for a specified
portion of the insurance risks underwritten by the ceding company. Because the
insured party contracts for coverage solely with the ceding company, the failure
of the reinsurer to perform does not relieve the ceding company of its
obligation to the insured party under the terms of the insurance contract.
While reinsurance provides various benefits to the ceding company, perhaps
most importantly it enables a primary insurer to write greater single risks and
greater aggregate risks without contravening the capital requirements of
applicable state insurance laws and rating agency guidelines. State insurance
regulators allow primary insurers to reduce the liabilities appearing on their
balance sheets to the extent of reinsurance coverage obtained from licensed
reinsurers or from unlicensed reinsurers meeting certain solvency and other
financial criteria. Similarly, the rating agencies permit such a reduction for
reinsurance in an amount that depends on the claims-paying ability or financial
strength rating of the reinsurer.
The principal forms of reinsurance are treaty and facultative. Under a
treaty arrangement the ceding company is obligated to cede, and the reinsurer is
correspondingly obligated to assume, a specified portion of a specified type of
risk or risks insured by the ceding company during the term of the treaty
(although the reinsurance risk thereafter extends for the life of the respective
underlying obligations). Under a facultative agreement, the ceding company from
time to time during the term of the agreement offers a portion of specific risks
to the reinsurer, usually in connection with particular debt obligations. A
facultative arrangement further differs from a treaty arrangement in that under
a facultative arrangement the reinsurer oftentimes performs its own underwriting
credit analysis to determine whether to accept a particular risk, while in a
treaty arrangement the reinsurer generally relies on the ceding company's credit
analysis. Both treaty and facultative agreements are typically entered into for
a term of one year, subject to a right of termination under certain
circumstances.
Treaty and facultative reinsurance are typically written on either a
proportional or non-proportional basis. Proportional relationships are those in
which the ceding company and the reinsurer share the premiums, as well as the
losses and expenses, of a single risk or group of risks in an agreed percentage.
In addition, the reinsurer generally pays the ceding company a ceding
commission, which is typically related to the ceding
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company's cost of obtaining the business being reinsured. Non-proportional
reinsurance relationships are typically on an excess-of-loss basis. An
excess-of-loss relationship provides coverage to a ceding company up to a
specified dollar limit for losses, if any, incurred by the ceding company in
excess of a specified threshold amount.
Reinsurers may also, in turn, purchase reinsurance under retrocessional
agreements to cover all or a portion of their own exposure for reasons similar
to those that cause primary insurers to purchase reinsurance.
Other Financial Guaranty Insurance Businesses
We service certain insurance specialty markets not served by the Major
Monolines. In certain of these business areas, Asset Guaranty operates as a
primary insurer in areas or for transactions where the Major Monolines may
decline to provide coverage; others involve us serving as a reinsurer for
certain specialty primary insurers, in some of which we have significant equity
interests or are otherwise a participant. In writing these other insurance lines
of business, we utilize our expertise in evaluating complex credit-based risks.
Premiums from certain of our other financial guaranty insurance businesses are
earned over a significantly shorter period than those from our monoline
financial guaranty reinsurance business. Our ability to realize consistent
levels of earned premiums in these insurance businesses will therefore depend on
our ability to write consistent levels of new insurance.
We write municipal bond insurance as a primary insurer in certain
transactions where the Major Monolines generally elect not to participate. This
writing is focused on various market sectors including tax-backed obligations,
infrastructure revenue bonds, health-care bonds, higher education bonds and
municipal lease obligations. Each issue, after being insured, is reviewed by a
rating agency, which determines the credit quality of the issue, provides us
with a shadow rating for the transaction and report their findings to us. We
also write financial guaranty insurance as a primary insurer for asset-backed
transactions, collateralized debt obligations or securitizations. These are a
form of structured financing which are distinguished from unsecured debt issues
by being secured by a specific pool of assets held by the issuing entity, rather
than relying on the general unsecured creditworthiness of the issuer of the
obligation. While the securitizations that we insure represent interests in
pools of assets, we have also insured debt obligations secured by one or a few
assets. Generally, prior to being insured, each transaction is reviewed by one
or more rating agencies, which determine the credit quality of the issue and
report their findings to us and provides us with a shadow rating and an estimate
of the required capital charge for the transaction. Trade credit reinsurance
protects sellers of goods under certain circumstances against non-payment of the
receivables they hold from buyers of those goods. We cover receivables both
where the buyer and seller are in the same country as well as cross-border
receivables. Sometimes in the latter instance, the coverage extends to certain
political risks (foreign currency controls, expropriation, etc.) that interfere
with the payment from the buyer. As of June 30, 2001, we, through our ownership
of Enhance Financial Services, owned an indirect 36.5% equity interest in
Exporters Insurance Company Ltd., an insurer of primarily foreign trade
receivables for multinational companies. Enhance Financial Services provides
significant reinsurance capacity to this joint venture on a quota-share, surplus
share and excess-of-loss basis.
Other Enhance Financial Services Asset-Based Businesses. In addition, we
are engaged in certain asset-based businesses, including the origination,
purchase, servicing and/or securitization of special assets, including state
lottery awards, structured settlements, sub-performing/non-performing and
seller-financed residential mortgages and delinquent unsecured consumer assets,
that utilize our expertise in performing sophisticated analysis of complex,
credit-based risks.
Most significant of the asset-based businesses is our 46% interest in
C-BASS. C-BASS is a mortgage investment and servicing firm specializing in
credit sensitive, single-family residential mortgage assets and residential
mortgage-backed securities. C-BASS invests in whole loans, single-family
residential properties that have been, or are being, foreclosed, subordinated
securities, known as "B pieces," collateralized by residential loans and
seller-financed notes. By using sophisticated analytics, C-BASS essentially
seeks to take advantage of what it believes to be the mispricing of credit risk
for certain of these assets in the marketplace. In addition, its residential
mortgage servicing company, Litton Loan Servicing LP, which specializes in loss
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mitigation, default collection, collection of insurance claims and guaranty
collections under government-sponsored mortgage programs, services whole loans
and real estate. Litton Loan Servicing's subsidiaries service seller-financed
loans and buy and sell seller-financed loans. As part of its investment
strategy, C-BASS holds some assets on its books, securitizes certain assets and
sells other assets directly into the secondary market.
In 2000, Enhance Financial Services decided to wind down, sell or otherwise
dispose of the origination, purchase, servicing and/or securitization of state
lottery awards, structured settlements and viatical (life insurance payment)
businesses. In connection therewith, in October 2000, Enhance Financial Services
sold certain assets and intangibles of Enhance Financial Services' viatical
settlements business and in December 2000 Enhance Financial Services sold to the
prior management thereof of certain of Enhance Financial Services' off-balance
sheet assets, including its pipeline of lottery and structured settlement
transactions and certain intangibles.
Customers
Mortgage originators, such as mortgage bankers, mortgage brokers,
commercial banks and savings institutions, are our principal customers, although
individual mortgage borrowers generally incur the cost of primary insurance
coverage. We do offer lender-paid mortgage insurance whereby mortgage insurance
premiums are charged to the mortgage lender or loan servicer. On the lender-paid
product, the interest rate to the borrower is usually higher to compensate for
the mortgage insurance premium that the lender is paying. In 2000, approximately
19% of our primary insurance was originated on a lender-paid basis. This
lender-paid business is highly concentrated among a few large mortgage lender
customers.
To obtain primary insurance from us, a mortgage lender must first apply for
and receive a master policy from us. Our approval of a lender as a master
policyholder is based, among other factors, upon an evaluation of the lender's
financial position and its management's demonstrated adherence to sound loan
origination practices. Our quality control function then monitors the master
policyholder based on a number of criteria.
The number of primary individual policies we had in force was 867,616 at
June 30, 2001, 858,413 at December 31, 2000, 807,286 at December 31,1999, and
718,789 at December 31, 1998.
Our top 10 customers were responsible for 43.4% of our primary new
insurance written in 2000 compared to 44.6% in 1999 and 51.4% in 1998. Our
largest single customer (including branches and affiliates of such customer),
measured by primary new insurance written, accounted for 10.4% of primary new
insurance written during 2000 compared to 12.2% in 1999 and 18.3% in 1998.
Enhance Financial Services' financial guaranty reinsurance customers
consist of the Major Monolines. Two previous primary U.S. financial insurers,
Capital Market Assurance Corporation and Construction Loan Insurance
Corporation, were acquired by MBIA Insurance Corporation in February 1998 and by
AMBAC Assurance Corporation in December 1997, respectively. There are two
additional financial guaranty insurers that are not our customers, CGA Group,
Ltd. and ACA Financial Guaranty Corp. In June 2000, The Dexia Group acquired the
corporate parent of Financial Security Assurance. Thus far, Financial Security
Assurance has retained its triple-A ratings from the major rating agencies. It
is unclear what effect, if any, this acquisition will have on the volume of
business that Financial Security Assurance will cede to us or otherwise on our
relationship with Financial Security Assurance.
The Major Monolines were responsible for 43% of Enhance Financial Services'
gross premiums written in 2000, compared to 45% in 1999 and 62% in 1998. The
largest single customer of Enhance Financial Services, measured by gross
premiums written, accounted for 17% of gross premiums written during 2000
compared to 20% in 1999 and 19% in 1998. This customer concentration results
from the small number of primary insurance companies, which are licensed to
write financial guaranty insurance.
Enhance Financial Services has maintained close and long-standing
relationships with the Major Monolines, dating essentially from either Enhance
Financial Services' or the given primary insurer's inception. In our opinion,
these relationships provide us with a comprehensive understanding of our
clients' procedures
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and reinsurance requirements and allow the clients to utilize our underwriting
expertise effectively, thus improving the service they receive.
We are a party to facultative agreements with all, and a party to treaty
agreements with all except one of, the Major Monolines. Our facultative and
treaty agreements are generally subject to termination (i) upon written notice
(ranging from 90 to 120 days) prior to the specified deadline for renewal, (ii)
at the option of the primary insurer if we fail to maintain certain financial,
regulatory and rating agency criteria which are equivalent to or more stringent
than those Enhance Financial Services' operating subsidiaries are otherwise
required to maintain for their own compliance with the New York Insurance Law
and to maintain a specified claims-paying ability or financial strength rating
for the particular operating subsidiary or (iii) upon certain changes of
control. We obtained a waiver of these provisions for the merger transaction
between us and Enhance Financial Services. Upon termination under the conditions
set forth in (ii) and (iii) above, we may be required (under some of our
reinsurance agreements) to return to the primary insurer all unearned premiums,
less ceding commissions, attributable to reinsurance ceded pursuant to such
agreements. Upon the occurrence of the conditions set forth in (ii) above,
whether or not an agreement is terminated, we may be required to obtain a letter
of credit or alternative form of security to collateralize our obligation to
perform under that agreement. In addition, a substantial portion of Asset
Guaranty's written business is subject to similar provisions with respect to any
downgrade of its S&P rating.
ExpressClose.com Acquisition
On November 9, 2000, we acquired ExpressClose.com, Inc., an Iowa
Corporation engaged in the business of Internet-based mortgage processing,
closing and settlement services for approximately $8.0 million in cash, shares
of our common stock, options to purchase shares of our common stock and other
consideration. This transaction has allowed us to expand further into the
mortgage service business which is considered an important adjunct to both the
primary mortgage insurance business and the second mortgage activities of Radian
Insurance.
SALES, MARKETING AND COMPETITION
Sales and Marketing
We employ a mortgage insurance field sales force of approximately
eighty-four (84) persons, organized into three regions, providing local sales
representation throughout the United States. Each of the three regions is
supervised by a regional business manager who is directly responsible for
several area sales managers and several service centers where underwriting and
application processing are performed. The regional business managers are
responsible for managing the profitability of business in their regions
including premiums, losses and expenses. The area sales managers are responsible
for managing a small sales force in different areas within the region. In
addition, a new position of key account manager was created in 2000. Key account
managers are intended to manage specific accounts within a region that are not
national accounts but that need more targeted oversight and attention. Our sales
personnel are compensated by salary, commissions on new insurance written and a
production incentive based on the achievement of various goals. During 2000,
these goals were related to volume and market share and this is generally
expected to continue in 2001. In addition to securing business from small and
mid-size regional customers, our business regions provide support to the
national account effort in the field.
The financial guaranty insurance business derives from relationships
Enhance Financial Services has established and maintains with many of the
primary insurance companies. These relationships provide business for us in the
following major areas: (1) reinsurance for municipal bonds and asset-backed
securities (in which area one or both of Enhance Reinsurance and Asset Guaranty
currently has either treaty or facultative agreements with all the highest rated
monoline primary companies); (2) trade credit reinsurance; and (3) reinsurance
for affiliated-companies reinsurance (including Exporters Insurance Company
Ltd.). We market directly to the monoline insurers writing credit enhancement
business and have direct relationships with their affiliated primary insurers.
Specialist reinsurance intermediaries, most of whom are located in London,
usually present to us reinsurance opportunities in the credit insurance sector.
These brokers work with
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our marketing personnel in introducing us to the primary credit insurance
markets and in structuring reinsurance to meet the needs of the primary
insurers. Intermediaries are typically compensated by the reinsurer based on a
percentage of premium assumed, which varies from agreement to agreement.
National Accounts
In recognition of the increased consolidation in the mortgage lending
business and the large proportional amount of mortgage business done by large
national accounts, we have a focused national accounts team consisting of five
national account managers and a dedicated A Team that is directly and solely
responsible for supporting national accounts. Each national account manager is
responsible for a select group of dedicated accounts and is compensated on the
results for those accounts as well as our results. There has been a trend among
national accounts to move to a more centralized decision about mortgage
insurance based on revenue sharing products and other value added services
provided by the mortgage insurance companies. We also have a dedicated national
account manager who is primarily responsible for relations with and programs
implemented with Fannie Mae and Freddie Mac. National accounts business
represented approximately 65% of our primary new insurance written in 2000 and
is expected to provide a similar percentage in 2001.
Competition
We and other private mortgage insurers compete directly with various
federal government agencies, principally the Federal Housing Administration,
which is known as the FHA. In addition to competition from federal agencies, we
and other private mortgage insurers face competition from state-supported
mortgage insurance funds. The private mortgage insurance industry consists of us
and six other active mortgage insurance companies. During 2000, we were the
fourth largest private mortgage insurer, measured by market share and have,
according to industry data, a market share of new primary mortgage insurance
written of 15.5% as compared to 14.2% as of June 30, 2000. We believe the market
share increase was due in part to an increase in our share of new insurance
written under bulk transactions which are included in industry new insurance
written figures.
Enhance Financial Services is subject to competition from companies that
specialize in financial guaranty reinsurance including ACE Limited, Axa
Reassurance Finance, S.A. and RAM Reinsurance Co. Ltd. In addition, several
multiline insurers have recently increased their participation in financial
guaranty reinsurance. Certain of these multiline insurers have formed strategic
alliances with some of the U.S. primary financial guaranty insurers. Competition
in the financial guaranty reinsurance business is based upon many factors,
including overall financial strength, pricing, service and evaluation by the
rating agencies of claims-paying ability or financial strength. The agencies
allow credit to a ceding primary insurer's capital requirements and single-risk
limits for reinsurance ceded in an amount that is a function of the
claims-paying ability or financial strength rating of the reinsurer. We believe
that competition from multiline reinsurers and new monoline financial guaranty
insurers will continue to be limited due to (a) the declining number of
multiline insurers with the requisite financial strength and (b) the barriers to
entry for new reinsurers posed by state insurance law and rating agency criteria
governing minimum capitalization. Financial guaranty insurance, including
municipal bond insurance, also competes with other forms of credit enhancement,
including letters of credit and guaranties provided primarily by foreign banks
and other financial institutions, some of which are governmental entities or
have been assigned the highest credit ratings awarded by one or more of the
major rating agencies. However, these credit enhancements serve to provide
primary insurers with increased insurance capacity only for rating agency
purposes. They do not qualify as capital for state regulatory purposes, nor do
they constitute credit against specific liabilities that would allow the primary
insurer greater single-risk capacity.
We believe that we have a number of direct competitors in our other
insurance businesses, some of which have greater financial and other resources
than us. We have limited our activities in these market areas to those
activities that are not served by the Major Monolines. As a primary insurer, we
write insurance on those types of municipal bonds with respect to which such
primary insurers have generally declined to participate because of the size or
complexity of such bond issuances relative to the anticipated returns. We also
serve as a reinsurer for certain specialty primary insurers that are not
monoline financial guaranty insurers, in which we
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have significant equity interests or are otherwise a participant. These
specialty primary insurers are themselves subject to competition from other
primary insurers, many of which have greater financial and other resources.
RISK MANAGEMENT
We consider effective risk management to be critical to our long-term
financial stability. Market analysis, prudent underwriting, the use of automated
risk evaluation models and quality control are all important elements of our
risk management process.
Mortgage Insurance Business:
Risk Management Personnel
In addition to a centralized risk management department in the home office,
each of our service regions has an assigned risk manager responsible for
evaluating risk and monitoring the risk profiles of major lenders in the region.
We employ an underwriting and support staff of approximately ninety (90) persons
who are located in our twelve (12) service centers. Additionally, we have two
agency operations in place for the states of Alaska and Hawaii.
Underwriting Process
We have generally accepted applications for primary insurance (other than
in connection with structured transactions) under three basic programs: the
traditional fully documented program, a limited documentation program and the
delegated underwriting program. Programs that involve less than fully documented
file submissions have become more prevalent in recent years. In order to meet
this demand, we introduced to the marketplace the process referred to as
streamlined doc. A lender utilizing streamlined doc can submit loans to us for
insurance with abbreviated levels of documentation based on the type of loan
being submitted for insurance. During 2000, 67% of the commitments issued for
primary insurance were received by us under the streamlined doc program. In the
streamlined doc program, we have agreed to underwrite certain loans with less
documentation by relying upon a scoring model created by Radian Guaranty and
Amerin Guaranty during 1996 known as the Prophet Score(R) System (described
below).
Delegated Underwriting
We have a delegated underwriting program with a majority of our customers.
Our delegated underwriting program, which was implemented in 1989, currently
involves only lenders that are approved by our risk management department. The
delegated underwriting program allows the lender's underwriters to commit us to
insure loans based on agreed upon underwriting guidelines. Delegated loans are
submitted to us in various ways - fax, electronic data interchange and through
the Internet. We routinely audit loans submitted under this program. As of
December 31, 2000, approximately 72% of the primary loans on our books were
originated on a delegated basis and during 2000 and 1999, respectively, 63% and
74% of the primary loans insured by us during such years were originated on a
delegated basis.
Mortgage Scoring Models
During the last few years, the use of scoring mechanisms to predict loan
performance has become prevalent in the marketplace, especially with Fannie Mae
and Freddie Mac's advocacy of the use of credit scores in the mortgage loan
underwriting process. The use of credit scores was pioneered by Fair Isaac and
Company, also known as FICO, and became popular in the mid-1980s. The FICO model
calculates a score based on a borrower's credit history. This credit score based
scorecard is used to predict the future performance of a loan over a one or two
year time horizon. The higher the credit score the lower the likelihood that a
borrower will default on a loan. Our Prophet Score(R) begins with a FICO score
then adds specific additional data regarding the borrower, the loan and the
property such as loan to value, loan type, loan amount, property type, occupancy
status and borrower employment. We believe that it is this additional mortgage
data that expands the integrity of our Prophet Score(R) over the entire life of
the loan. In addition to the Prophet
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Score(R), our housing analysts regularly review major metropolitan areas to
assess the impact that key indicators such as housing permits, employment
trends, and median home sale prices have on local lending. The healthier the
real estate market, the lower the risk. We refer to this score as a GEOScore.
Beginning in October 1996, the Prophet Score(R) and GEOScore appeared on each
insurance commitment that we issued.
Automated Underwriting
Our frontline computer system for input and underwriting loan file
information is called MINACS. In utilizing MINACS, we capture information from
all segments of a loan file including the borrower's employment and income
history and appraisal information. This information is then channeled through
various edits and subfiles (including Prophet Score(R) and GEOScore) to assist
the underwriter in determining the total risk profile on a given file. This
system also includes: a) tracking loans by borrowers who have previously
defaulted on our insured loans or loans where we have paid a claim, b)
identifying borrowers who have previously applied for our insurance, and c)
information about the lender involved including volume, commitment rates and
delinquency rates.
Alternative Products
An increasingly popular form of mortgage lending is in the area of
non-prime loans. Subsets of this category in which we have become involved are
Alternative A, A minus and B/C loans. We have continued to limit our
participation in these non-prime markets to Alternative A and A minus loans
rather than B or C loans and have targeted the business insured to specific
lenders with proven good results and servicing experience in this area. Our
corporate due diligence has identified such lenders as Tier 1 lenders.
Alternative A Loans
Alternative A loans can now be segregated into two distinct credit
profiles: borrowers with a better credit profile than our typical insured
borrowers, with a FICO score greater than 680, and borrowers with a credit
profile equal to our typical insured borrower, with a FICO score from 660 to
679. We charge a higher premium for Alternative A business due to the reduced
income and/or asset documentation received at origination. The premium rate is
also risk adjusted to reflect the difference in credit profile of the FICO score
greater than 680 borrower and FICO score from 660 to 679 borrower. While we
believe the Alternative A loans in the FICO score from 660 to 679 category
present a slightly higher risk than our normal business, the premium surcharge
compensates us for this additional risk. Alternative A loans represented 6.3% of
our primary risk in force at the end of 2000 and Alternative A products made up
approximately 15% of our primary new insurance written for the first six months
of 2001, and 13.4% of our primary new insurance written in 2000 as compared to
6.2% in 1999.
A Minus Loans
The A minus program can also be segregated into two distinct credit
profiles. A near-miss prime A loan has a FICO score from 590-619. These
borrowers were forced into the A minus markets in 1996 when the GSEs set a 620
FICO score as the base for a prime borrower. These were typically borrowers
Radian Guaranty and Amerin Guaranty insured prior to 1996 and mortgage insurance
on loans made to this class of borrowers has resurfaced as the GSEs have entered
the A minus market. We receive a significantly higher premium for insuring this
product that is commensurate with the additional default risk. The second credit
profile contains borrowers with a FICO score from 570-589. This product comes to
us primarily through primary bulk transactions and the insurance is typically
lender-paid. We also receive a significantly higher premium for insuring this
product that is commensurate with the increased default risk and which is
normally a variable rate based on the Prophet Score(R). A minus loans
represented 3.4% of our primary risk in force at the end of 2000 and A minus
loans made up approximately 16% of our primary new insurance written for the
first six months of 2001, and 8.1% of our primary new insurance written in 2000
as compared to 3.5% in 1999.
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B/C Loans
We have no approved programs to insure loans that are defined as B/C risk
grades. However, some pools of loans submitted for insurance as primary bulk
transactions might contain a limited number of these loans. Typically these B/C
grades are less than 1% of the pool of loans submitted. We receive significantly
higher premium on these loans due to the increased default risk associated with
this type of loan. B/C loans represented less than 1% of our primary risk in
force at June 30, 2001.
Contract Underwriting
We utilize our underwriting skills to provide an outsource contract
underwriting service to our customers. For a fee, we underwrite fully documented
underwriting files for secondary market compliance, while at the same time
assessing the file for mortgage insurance, if applicable. The automated
underwriting service introduced in the latter part of 1997 has become a major
part of our contract underwriting service. This service offers customers access
to Fannie Mae's Desktop Underwriter and Freddie Mac's Loan Prospector loan
origination systems. Contract underwriting continues to be a popular service to
our customers. During 2000, loans underwritten via contract underwriting
accounted for 30% of applications, 26% of commitments for insurance and 19% of
insurance certificates issued by us. We give recourse to our customers on loans
we underwrite for compliance. If the loan does not meet agreed upon guidelines,
we agree to remedy the situation either by placing mortgage insurance coverage
on the loan or by purchasing the loan. During 2000, we processed requests for
remedies on less than 1% of the contract loans underwritten and sold a number of
loans previously acquired as part of the remedy process. Providing these
remedies means we assume some credit risk and interest rate risk if an error is
found during the limited remedy period in the agreements. Rising mortgage
interest rates or an economic downturn may expose us to higher losses. During
2000, the financial impact of these remedies was insignificant although there is
no assurance that such results will continue in 2001 and beyond.
Quality Control
As part of our system of internal control, the risk management function
maintains a quality control department. The quality control function is
responsible for ensuring that our portfolio of insured loans meets good
underwriting standards and conforms to our guidelines for insurability, thus
minimizing our exposure to controllable risk. Among its other activities, the
quality control function accomplishes this objective primarily by performing
contract underwriting audits, delegated lender audits, and due diligence reviews
of bulk transactions.
Contract Underwriting Audits
The quality control function routinely audits the performance of our
contract underwriters. In order to ensure the most effective use and allocation
of audit resources, a risk assessment model has been developed which identifies
high, medium, and low risk contract underwriters based upon six weighted risk
factors applied to each underwriter. The models are continually updated with
current information. Audit rotation is more frequent for high risk underwriters
and less frequent for those classified as low risk. Audit results are
communicated to management and impact whether additional targeted training is
necessary or whether termination of the underwriter's services is appropriate.
Contract underwriting audits help to ensure that customers receive quality
underwriting services. The audits also protect us in that they facilitate our
efforts to improve quality control.
Delegated Lender Audits
Through the use of borrower credit scoring and our own proprietary mortgage
scoring system, we are able to monitor the credit quality of loans submitted for
insurance. We also conduct a periodic, on-site review of a delegated lender's
insured business. Lenders with significant risk concerns, as identified in past
reviews and through our regular risk reporting and analysis of the business, may
be reviewed more frequently.
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Loans are selected for review on a random sample basis, and this sample may
be augmented by a targeted sample based upon specific risk factors or trends
identified through the monitoring process described above. The objective of the
loan review is to identify errors in the loan data transmitted to us, to
determine lender compliance with our underwriting guidelines and eligible loan
criteria, to assess the quality of a lender's underwriting decisions, and to
rate the risk of the individual loans insured. We have developed a proprietary
data collection and risk analysis application to facilitate these reviews.
Audits are graded based upon the risk ratings of the loans reviewed, lender
compliance, and data integrity. The results of each audit are summarized in a
report to the lender and to our management. The audit results are used as a
means to improve the quality of the business the lender submits to us for
insurance. Issues raised in the reports that are not resolved in a manner and
within a time period acceptable to us may result in restriction or termination
of the lender's delegated underwriting authority.
Due Diligence of Bulk Transactions
The quality control function, in conjunction with other members of the risk
management group, also performs due diligence of bulk transactions. These due
diligence reviews may be precipitated either by a desire to develop an ongoing
relationship with selected lenders, or by the submission of a proposed
transaction by a given lender. Due diligence can take two forms: business level
and loan level.
Business Level Due Diligence. We believe that a key component of
understanding the risks posed by a potential business deal is to understand the
business partner. Our objective is to understand the lender's business model in
sufficient depth to determine whether we should have confidence in the firm as a
potential long-term business partner and customer. Business level due diligence
may be performed on any prospective lender with whom a bulk deal is contemplated
and with whom we have had no prior business experience. Business level due
diligence includes a review of:
- the lender's company structure;
- management;
- business philosophy;
- financial health;
- the company's credit management processes;
- the quality control processes; and
- servicing relations.
Loan Level Due Diligence. Loan level due diligence is conducted on pending
bulk transactions in order to determine whether appropriate underwriting
guidelines have been adhered to, whether loans conform to our guidelines, to
evaluate data integrity, and to detect any fraudulent loans. Loans are selected
for audit on a sample basis, and audit results are communicated to our
management. The results of loan level due diligence assist management in
determining whether the pending deal should be consummated, and if so, provides
data that can be used to determine appropriate pricing. It also provides
management with a database of information on the quality of a particular
lender's underwriting practices for future reference.
The results of these due diligence reviews are summarized in reports to our
management. Letter grades are assigned to each section of the business and loan
level reviews. Weights are then assigned to each section of the review (e.g.,
corporate, credit, quality control, servicing) that vary based upon the product
under review, (e.g., prime first liens, A minus first liens, prime second liens,
etc.) which results in an overall letter grade assigned to the lender. The grade
conveys to our management the opinion of risk management as to the overall risk
profile presented by a lender and therefore the relative appeal of a potential
relationship with that lender.
Financial Guaranty Business.
We believe our financial guaranty underwriting discipline has been critical
to the profitability and growth of the financial guaranty insurance businesses.
We have a structured underwriting process to determine the
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characteristics and creditworthiness of risks that we reinsure, which process
supplements the underwriting procedures of the primary insurers. Rather than
relying entirely upon the underwriting performed by the primary insurers, both
Enhance Financial Services and the rating agencies conduct extensive reviews of
the primary insurers. Moreover, the ceding insurer is typically required to
retain at least 25% of the exposure on any single risk assumed.
We carefully evaluate the risk underwriting and management of treaty
customers, monitor the insured portfolio performance and conduct a detailed
underwriting review of the facultative insurance we write. We believe that the
reinsurance of municipal bond guaranties provides a relatively stable source of
premium income. In addition, most premiums received are credited as deferred
premium revenue and are earned as the related risks amortize, thereby providing
a relatively stable, predictable source of earned premiums.
We conduct periodic detailed reviews of each Major Monoline and other
carriers with which we do facultative business. That review entails an
examination of the primary insurer's operating, underwriting and surveillance
procedures; personnel; organization and existing book of business, as well as
the primary insurer's underwriting of a sample of business assumed under the
treaty. Facultative transactions are reviewed individually under procedures
adopted by our credit committees. Any underwriting issues are discussed
internally by the credit committee and with the primary insurer's personnel.
Limitations on the our single-risk exposure derive from state insurance
regulation, rating agency guidelines and internally established criteria. The
primary factor in determining single-risk capacity is the class or sector of
business being underwritten. For municipal credits, we have self-imposed
single-risk guidelines which range widely, depending upon the perceived risk of
default of the municipal obligation reinsured. For asset-backed transactions,
the single-risk guidelines generally follow state insurance regulation
limitations, as well as self-imposed single risk and cumulative servicer-related
risk. On individual underwritings, the credit committee may limit its
reinsurance participation to an amount below that allowed by the single-risk
guidelines noted above. Moreover, we rely on ongoing oversight by our credit
committees to avoid undue exposure concentration in any given type of obligation
or geographic area.
Our surveillance procedures include reviews of those exposures assumed as a
reinsurer as to which we may have concerns. We also maintain regular
communication with the surveillance departments of the ceding primary insurers.
The underwriting criteria applied in evaluating a given issue for primary
insurance coverage and the internal procedures (for example, credit committee
review) for approval of the issue are substantially the same as for the
underwriting of reinsurance. The entire underwriting responsibility rests with
us as the primary insurer. As a result, we participate more actively in the
structuring of the transaction in which we are a primary insurer than we do as a
reinsurer. We conduct, in most cases annually, in-depth surveillance of issues
insured as a primary insurer.
Ratings
We have our claims-paying ability and/or financial strength rated by S&P,
Moody's and Fitch. The rating criteria used by the rating agencies focus on the
following factors:
- capital resources;
- financial strength;
- commitment of management to, and alignment of shareholder interests with,
the insurance business;
- demonstrated management expertise in the insurance business conducted by
the company;
- credit analysis;
- systems development;
- marketing;
- capital markets and investment operations, including the ability to raise
additional capital; and
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- a minimum policyholders' surplus comparable to primary company
requirements, with initial capital sufficient to meet projected growth as
well as access to such additional capital as may be necessary to continue
to meet standards for capital adequacy.
As part of their rating process, S&P, Moody's and Fitch test our insurance
subsidiaries by subjecting them to a worst-case depression scenario. Expected
losses over a depression period are established by applying capital charges to
the existing and projected insurance portfolio.
The claims-paying ability and financial strength ratings assigned by the
rating agencies to an insurance or reinsurance company are based upon factors
relevant to policyholders and are not directed toward the protection of the
insurer's or reinsurer's securityholders. Such a rating is neither a rating of
securities nor a recommendation to buy, hold or sell any security. Claims-paying
ability and financial strength ratings assigned to our insurance subsidiaries
should not be viewed as indicative of or relevant to any ratings which may be
assigned to our outstanding debt securities by any rating agency and should not
be considered an evaluation of the likelihood of the timely payment of principal
or interest under such securities. However, these ratings are an indication to
an insurer's customers of the insurer's present financial strength and its
capacity to honor its future claims payment obligations. Therefore, ratings are
generally considered critical to an insurer's ability to compete for new
insurance business. Currently, Radian Guaranty is rated "AA" by S&P and Fitch,
and "Aa3" by Moody's.
Enhance Reinsurance is rated by S&P and Moody's. S&P has assigned Enhance
Reinsurance an "AAA" claims-paying ability rating, its highest rating, and
Moody's has assigned Enhance Reinsurance an "Aa2" financial strength rating.
Asset Guaranty is rated by S&P and has been assigned "AA" claims-paying ability
ratings by S&P.
Pursuant to the terms of Enhance Financial Services' reinsurance
agreements, a downgrade in either Enhance Reinsurance's or Asset Guaranty's
financial strength rating to (or below) A could have a material adverse effect
on their respective competitive position. A downgrade may so diminish the value
of their reinsurance to the Major Monolines that they could either materially
increase the costs to Enhance Reinsurance or Asset Guaranty associated with
cessions under the Major Monolines' treaties with Enhance Reinsurance or Asset
Guaranty or recapture business previously ceded to Enhance Reinsurance or Asset
Guaranty. In either case, the effect of such changes could materially adversely
affect our ability to continue to engage in the reinsurance of monoline
financial guaranty insurers business. While we believe that the recapture of
business by the primaries would otherwise be inconsistent with their
long-standing risk-management practices, such action, if it occurs and depending
on its magnitude, could have a material adverse effect on us. We believe that
the same consequences as set forth above would occur were Asset Guaranty to
experience any such downgrade, which, in turn, could materially adversely affect
our ability to continue to engage in certain specialty businesses, principally
insurance of municipal bonds.
Reinsurance Ceded
Amerin Guaranty and Radian Guaranty currently use reinsurance from
affiliated companies in order to remain in compliance with the insurance
regulations of certain states which require that a mortgage insurer limit its
coverage percentage of any single risk to 25%. Amerin Guaranty and Radian
Guaranty currently intend to use such reinsurance solely for purposes of such
compliance. Enhance Reinsurance and Asset Guaranty also use reinsurance from
affiliated companies in order to remain in compliance with applicable insurance
regulations, including single risk limitations. Enhance Reinsurance and Asset
Guaranty currently intend to use such reinsurance from affiliated companies
solely for the purpose of such compliance.
Radian Guaranty reinsures all direct insurance in force under an excess of
loss reinsurance program which it considers to be an effective catastrophic
reinsurance coverage. Under this program, the reinsurer is responsible for 100%
of covered losses in excess of Radian Guaranty's retention. The annual retention
is determined by a formula which contains variable components. The estimated
2001 retention is approximately $735 million of loss which represents 150% of
expected premiums earned by Radian Guaranty. The reinsurer's aggregate annual
limit of liability is also determined by a formula with variable components and
is currently estimated to be $140 million. In addition, in 1999, a limit was set
on the amount of annual pool insurance
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losses that can be counted in the reinsurance recoverable calculation. For 2001,
this limit is $90 million. If the reinsurer decides not to renew the reinsurance
arrangement and is not replaced by Radian Guaranty, the reinsurer must provide
six years of runoff coverage. There is an overall aggregate limit of liability
applicable to any runoff period equal to four times the annual limit in effect
for the calendar year of such nonrenewal. For 2001, this aggregate limit is
estimated to be $560 million. The excess of loss reinsurance program also
provides restrictions and limitations on the payment of dividends by Radian
Guaranty, investments, mergers or acquisitions involving other private mortgage
insurance companies and reinsurance of exposure retained by Radian Guaranty.
In addition, Radian Guaranty entered into a variable quota-share treaty for
primary risk in the 1994 to 1997 origination years and a portion of the pool
risk written in 1997. In this treaty, quota-share loss relief is provided at
varying levels ranging from 7.5% to 15.0% based upon the loss ratio on the
reinsured book. The higher the loss ratio, the greater the potential reinsurance
relief which protects Radian Guaranty in adverse loss situations. A ceding
commission is paid by the reinsurer to Radian Guaranty and the agreement is
noncancelable for ten years by either party. As of December 31, 2000, the risk
in force covered by the variable quota-share treaty was approximately $5.8
billion, or approximately 23.5% of our primary risk in force and $57 million, or
approximately 4.3% of our pool risk in force. It is our present intention not to
reinsure any additional business pursuant to the variable quota-share treaty for
the 2001 origination year, although the ultimate decision on reinsurance will be
impacted by business volume, capital adequacy and other factors.
Enhance Financial Services is a party to certain facultative retrocession
agreements, pursuant to which it cedes to certain retrocessionnaires a portion
of its reinsurance exposure. Since it is required to pay its obligations in full
to the primary insurer regardless of whether it is entitled to receive payments
from its retrocessionnaire, we believe that it is important that its
retrocessionnaires be very creditworthy. We also cede to reinsurers a portion of
our direct insurance exposure, and the foregoing also describes in general the
relationship between us and our reinsurers. Enhance Financial Services has
historically retroceded relatively little of its financial guaranty reinsurance
exposure for risk management reasons. In its specialty insurance businesses,
Enhance Financial Services in recent years has reinsured a portion of its direct
insurance exposure, particularly that incurred in its excess-SIPC program,
principally in order to comply with applicable regulatory single-risk
limitations. Most of the reinsurance capacity for its excess-SIPC program is
provided by certain of the Major Monolines.
Enhance Reinsurance is party to an excess-of-loss reinsurance agreement
with a European reinsurance company rated AA+ from S&P under which it is
entitled, subject to certain conditions, to draw from such reinsurer up to $25
million under certain circumstances. The agreement has a term of one year and is
cancelable annually at the option of either party, except that Enhance
Reinsurance has the option to force a seven-year run-off period.
Gross written premiums of $2.7 million were ceded or retroceded by us to
unaffiliated companies in 2000 and $1.7 million for the six months ended June
30, 2001.
Cross Guaranty Agreement
A guaranty agreement was entered into on August 11, 1999 by Radian Guaranty
and Amerin Guaranty. The agreement provides that in the event Radian Guaranty
fails to make a payment to any of its policyholders, Amerin Guaranty will make
the payment; in the event Amerin Guaranty fails to make a payment to any of its
policyholders, then Radian Guaranty will make the payment. Under the terms of
the agreement, the obligations of both parties are unconditional and
irrevocable; however, no payments will be made without prior approval by the
Pennsylvania Department of Insurance.
DEFAULTS AND CLAIMS
Defaults
The default and claim cycle on loans which have private mortgage insurance
begins with the insurer's receipt from the lender of notification of a default
on an insured loan. The master policy requires lenders to
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notify us of an uncured default on a mortgage loan within 75 days (45 days for
an uncured default in the first year of the loan), although many lenders do so
earlier. The incidence of default is affected by a variety of factors, including
change in borrower income, unemployment, divorce and illness, the level of
interest rates and general borrower creditworthiness. Defaults that are not
cured result in claims to us. Borrowers may cure defaults by making all
delinquent loan payments or by selling the property and satisfying all amounts
due under the mortgage.
The following table shows the number of our primary and pool loans insured,
our related loans in default and our percentage of loans in default (default
rate) as of the dates indicated:
DEFAULT STATISTICS
DECEMBER 31
---------------------------
2000 1999 1998(3)
------- ------- -------
PRIMARY INSURANCE:
Prime:
Insured loans in force.............................. 792,813 774,003 N/A
Loans in default (1)................................ 17,840 16,605 N/A
Percentage of loans in default...................... 2.3% 2.2% N/A
Non-Prime:
Insured loans in force.............................. 65,600 33,283 N/A
Loans in default (1)................................ 2,690 1,193 N/A
Percentage of loans in default...................... 4.1% 3.6% N/A
Total:
Insured loans in force.............................. 858,413 807,286 718,789
Loans in default (1)................................ 20,530 17,798 15,228
Percentage of loans in default...................... 2.4% 2.2% 2.1%
POOL INSURANCE (2):
Insured loans in force.............................. 768,388 676,454 474,630
Loans in default (1)................................ 5,989 4,352 3,547
Percentage of loans in default...................... 0.8% 0.6% 0.7%
---------------
(1) Loans in default exclude those loans 45 days past due or less and loans in
default for which we feel we will not be liable for a claim payment.
(2) Includes traditional and modified pool insurance of prime and non-prime
loans.
(3) Prior to 1999, we did not track prime and non-prime business separately.
Therefore, the breakdown of prime and non-prime default statistics is not
available, which is indicated by N/A in the table above, as of December 31,
1998.
Regions of the United States may experience different default rates due to
varying economic conditions. The following table shows the primary default rates
by our regions as of the dates indicated, including prime and non-prime loans.
DEFAULT RATES BY REGION
DECEMBER 31
------------------
2000 1999 1998
---- ---- ----
North....................................................... 2.50% 1.88% 1.97%
South....................................................... 2.10 2.59 2.81
West........................................................ 2.21 2.10 2.31
Alaska...................................................... 1.08 0.82 0.64
Hawaii...................................................... 2.23 2.03 1.74
Guam........................................................ -- 0.64 --
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As of December 31, 2000, primary default rates for our two largest states
measured by risk in force, California and Florida, were 2.3% and 3.9%
respectively, compared to 2.5% and 3.9% respectively, at December 31, 1999. The
relatively high default rate in Florida is due primarily to the increased
affordable housing business done in Florida since 1994 and the high default
development on such business.
Claims
The likelihood that a claim will result from a default and the amount of
such claim depend principally on the borrower's equity at the time of default
and the borrower's (or the lender's) ability to sell the home for an amount
sufficient to satisfy all amounts due under the mortgage, as well as the
effectiveness of loss mitigation efforts. Claims are also affected by local
housing prices, interest rates, unemployment levels and the housing supply.
Claim activity is not evenly spread through the coverage period of a book
of business. Relatively few claims are received during the first two years
following issuance of the policy. This is followed by a period of rising claims
which, based on industry experience, has historically reached its highest level
in the third through fifth years after the year of loan origination. Thereafter,
the number of claims received has historically declined at a gradual rate,
although the rate of decline can be affected by conditions in the economy.
Approximately 66.5% of our primary risk in force, including most of our risk in
force on alternative products, and almost all of our pool risk in force at June
30, 2000 had not yet reached its anticipated highest claim frequency years.
Loss Mitigation
Our loan workout staff consists of thirteen (13) employees, including
several full time loan workout specialists who proactively intervene in the
default process, working with borrowers to reduce the frequency and severity of
foreclosure losses. The size of the loan workout staff has decreased over the
past few years, primarily due to an enhancement in the ability of loan servicers
to perform this function adequately with less assistance needed by us. Once a
notice of default is received, we score the default using a proprietary model
that predicts the likelihood that the default will become a claim. Using this
model the loan workout specialists prioritize cases for proactive intervention
to counsel and assist borrowers. Loss mitigation techniques include
pre-foreclosure sales, extensions of credit to borrowers to reinstate insured
loans, loan modifications and deficiency settlements. We still consider our loss
mitigation efforts to be an effective way to reduce claim payments.
Subsequent to foreclosure, we use post-foreclosure sales and the exercise
of the full claim payment option to further mitigate loss. This was considered
an extremely effective loss mitigation tool in 2000 due to relatively strong
property values, although there can be no assurance that such positive results
will continue.
Homeownership Counseling
In 1995, Radian Guaranty and Amerin Guaranty established a Homeownership
Counseling Center to work with borrowers receiving insured loans under Community
Homebuyer, 97% loan to value, which we refer to as 97s, or other affordable
housing programs. We consider this counseling to be very important to the future
success of those particular borrowers with regard to sustaining their mortgage
payments. In addition, the Homeownership Counseling Center counsels such
borrowers early in the default process in an attempt to help cure the loan and
assist the borrower in meeting their mortgage obligation.
Loss Reserves
We establish reserves to provide for the estimated costs of settling claims
in respect of loans reported to be in default and loans that are in default
which have not yet been reported to us. Consistent with generally accepted
accounting principles and industry accounting practices, we do not establish
loss reserves for future claims on insured loans which are not currently in
default. In determining the liability for unpaid losses related to reported
outstanding defaults, we establish loss reserves on a case-by-case basis. The
amount reserved for any particular loan is dependent upon the characteristics of
the loan, the status of the loan as reported by the
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servicer of the insured loan as well as the economic condition and estimated
foreclosure period in the area in which the default exists. As the default
progresses closer to foreclosure, the amount of loss reserve for that particular
loan will be increased, in stages, to approximately 100% of our exposure.
Loss Experience of Enhance Financial Services
Enhance Financial Services establishes a provision for losses and related
loss adjustment expenses as to a particular insured risk when the primary
insurer reports a loss on the risk or when, in our opinion, the risk is in
default or a default is probable and the amount of the loss is reasonably
estimable. We base a provision for losses and loss adjustment expenses on the
estimated loss, including expenses associated with settlement of the loss,
through the full term of the insured obligation. In the case of obligations with
fixed periodic payments, our provision for losses and loss adjustment expenses
represents the present value of our ultimate expected losses, adjusted for
estimated recoveries under salvage or subrogation rights. On any given municipal
and asset-backed reinsurance transaction, we and our primary insurer customers
underwrite with a zero-loss underwriting objective. For the trade credit
reinsurance business, loss reserves are established based on historical loss
development patterns experienced by us and by ceding companies in similar
businesses. The estimate of reserves for losses and loss adjustment expenses,
which includes a non-specific loss reserve, is periodically evaluated by us, and
changes in estimate are reflected in income currently.
Our total unallocated or non-specific loss and loss adjustment expenses
reserve for the financial guaranty business, as of June 30, 2001 is $54.3
million, having been increased from $16.1 million as of December 31, 2000. We
believe that after giving effect to this increase, our reserves for losses and
loss adjustment expenses, including case and unallocated or non-specific
reserves, are adequate to cover the ultimate net cost of claims. However, the
reserves are necessarily based on estimates, and there can be no assurance that
the ultimate liability will not exceed such estimates.
As it anticipated, Enhance Financial Services has experienced relatively
higher loss levels in certain of its other insurance businesses than it
experienced in its financial guaranty reinsurance business. We believe that the
higher premiums we receive in these businesses adequately compensate us for the
risks involved.
At December 31, 2000, Enhance Financial Services had established $70.0
million in net reserves for losses and loss adjustment expenses (of which $27.7
million represented incurred but not reported and non-specific reserves). The
following table sets forth certain information regarding Enhance Financial
Services' loss experience for the years indicated:
YEAR ENDED DECEMBER 31,
------------------------
2000 1999 1998
------ ------ ------
(IN MILLIONS)
Net reserve for losses and loss adjustment expenses
beginning of year......................................... $49.7 $33.7 $31.0
Net provision for losses and loss adjustment expenses
Occurring in current year................................. 19.0 23.9 10.5
Occurring in prior years.................................. 15.7 2.3 (0.2)
----- ----- -----
Total............................................. 34.7 26.2 10.3
----- ----- -----
Net payments for losses and loss adjustment expenses
Occurring in current year................................. 1.3 1.5 0.4
Occurring in prior years.................................. 13.1 8.7 7.2
----- ----- -----
Total............................................. 14.4 10.2 7.6
----- ----- -----
Net reserve for losses and loss adjustment expenses at end
of year................................................... $70.0 $49.7 $33.7
===== ===== =====
The incurred loss and paid loss information presented above is classified
as "current year" and "prior year" based upon the year in which the related
reinsurance contract or insurance policy was underwritten. Therefore, amounts
presented as "Occurring in prior years" are not indicative of redundancies or
deficiencies in total reserves held as of prior year ends.
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In 2000, 1999 and 1998, Enhance Financial Services recorded losses of $21.9
million, $9.9 million and $6.5 million, respectively, in connection with its
credit and surety businesses.
ANALYSIS OF PRIMARY RISK IN FORCE
Our business strategy has been to disperse risk as widely as possible. We
analyze our portfolio in a number of ways to identify any concentrations or
imbalances in risk dispersion. We believe the quality of our insurance portfolio
is affected significantly by:
- the geographic dispersion of the properties securing the insured loans;
- the quality of loan originations;
- the types of loans insured (including loan-to-value ratio, purpose of the
loan, type of loan instrument and type of underlying property securing
the loan); and
- the age of the loans insured.
Enhance Financial Services seeks to maintain a diversified insurance
portfolio designed to spread its risk based on issuer, type of debt obligation
insured and geographic concentration.
Primary Risk In Force By Policy Year
The following table sets forth the percentage of our primary risk in force
by policy origination year as of December 31, 2000:
1995 and prior.............................................. 10.5%
1996........................................................ 6.6
1997........................................................ 10.0
1998........................................................ 26.2
1999........................................................ 25.3
2000........................................................ 21.4
-----
100.0%
=====
Geographic Dispersion
The following tables reflect the percentage of direct primary risk in force
on our mortgage insurance book of business (by location of property) for the top
ten states and top 15 metropolitan statistical areas as of December 31, 2000 and
1999:
TOP TEN STATES 2000 1999
-------------- ---- ----
California.................................................. 16.8% 17.2%
Florida..................................................... 7.4 7.4
New York.................................................... 6.1 6.2
Texas....................................................... 5.3 5.4
Georgia..................................................... 4.3 4.0
New Jersey.................................................. 3.9 4.0
Arizona..................................................... 3.8 3.7
Illinois.................................................... 3.7 3.8
Pennsylvania................................................ 3.7 3.7
Colorado.................................................... 3.1 3.0
---- ----
Total............................................. 58.1% 58.4%
==== ====
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TOP FIFTEEN MSAS 2000 1999
---------------- ---- ----
Los Angeles-Long Beach, CA.................................. 4.1% 4.4%
Atlanta, GA................................................. 3.4 3.2
Chicago, IL................................................. 3.2 3.3
Phoenix/Mesa, AZ............................................ 3.1 3.0
Washington, DC-MD-VA........................................ 2.9 2.9
New York, NY................................................ 2.5 2.4
Philadelphia, PA-NJ......................................... 2.4 2.4
Riverside-San Bernardino, CA................................ 2.1 2.1
Nassau/Suffolk, NY.......................................... 1.9 1.9
Denver, CO.................................................. 1.6 1.6
Detroit, MI................................................. 1.6 1.5
Orange County, CA........................................... 1.6 1.8
Minneapolis/St. Paul, MN.................................... 1.5 1.6
Las Vegas, NV............................................... 1.5 N/A
Houston, TX................................................. 1.4 1.5
Dallas, TX.................................................. N/A 1.4
---- ----
Total............................................. 34.8% 35.0%
==== ====
The following table sets forth the distribution by state of Enhance
Financial Services' insurance in force as of December 31, 2000 and 1999:
JURISDICTION 2000 1999
------------ ----- -----
California.................................................. 10.7% 11.0%
New York.................................................... 9.0 11.3
Florida..................................................... 6.5 6.3
Texas....................................................... 5.2 5.8
Pennsylvania................................................ 5.2 4.9
Illinois.................................................... 4.3 4.1
Other(1).................................................... 59.1 56.6
----- -----
Total............................................. 100.0% 100.0%
===== =====
---------------
(1) Represents all remaining states, the District of Columbia and several
foreign countries, in which obligations insured and reinsured by Enhance
Financial Services arise, none of which individually constitutes greater
than 4.0% of Enhance Financial Services' insurance in force.
Lender and Product Characteristics
While geographic dispersion is an important component of overall risk
dispersion and it has been our strategy to limit our exposure in the top ten
states and top 15 metropolitan statistical areas, we believe the quality of the
risk in force should be considered in conjunction with other elements of risk
dispersion, such as product distribution, as well as our risk management and
underwriting practices.
The following tables reflect our percentage of direct risk in force (as
determined on the basis of information available on the date of mortgage
origination) of mortgage insurance by the categories indicated as of December
31, 2000 and 1999:
DIRECT MORTGAGE INSURANCE RISK IN FORCE
2000 1999
----- -----
Product Type:
Primary................................................ 94.7% 94.3%
Pool(1)................................................ 5.3 5.7%
----- -----
Total............................................. 100.0% 100.0%
===== =====
---------------
(1) Includes traditional and modified pool insurance.
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DIRECT PRIMARY RISK IN FORCE
2000 1999
------- -------
Direct Primary Risk in Force (dollars in millions).......... $24,622 $20,912
Lender Concentration:
Top 10 lenders (by original applicant)................. 42.8% 43.9%
Top 20 lenders (by original applicant)................. 58.7% 55.6%
Loan-To-Value:
95.01% to 100.00%...................................... 6.7% 4.8%
90.01% to 95.00%....................................... 39.5 44.3
85.01% to 90.00%....................................... 41.4 43.9
85.00% and below....................................... 12.4 7.0
------- -------
Total............................................. 100.0% 100.0%
======= =======
Loan Grade:
Prime.................................................. 90.3 95.1
Non-Prime.............................................. 9.7 4.9
------- -------
Total............................................. 100.0% 100.0%
======= =======
Loan Type:
Fixed.................................................. 86.0% 88.9%
Adjustable rate mortgage (fully indexed)(1)............ 11.8 10.1
Adjustable rate mortgage (potential negative
amortization)(2)...................................... 2.2 1.0
------- -------
Total............................................. 100.0% 100.0%
======= =======
Mortgage Term:
15 years and under..................................... 2.7% 4.0%
Over 15 years.......................................... 97.3 96.0
------- -------
Total............................................. 100.0% 100.0%
======= =======
Property Type:
Non-condominium (principally single-family detached)... 97.1% 96.2%
Condominium or cooperative............................. 2.9 3.8
------- -------
Total............................................. 100.0% 100.0%
======= =======
Occupancy Status:
Primary residence...................................... 94.6% 96.3%
Second home............................................ 2.2 1.4
Non-owner occupied..................................... 3.2 2.3
------- -------
Total............................................. 100.0% 100.0%
======= =======
Mortgage Amount:
$200,000 or less....................................... 85.9% 82.1%
Over $200,000.......................................... 14.1 17.9
------- -------
Total............................................. 100.0% 100.0%
======= =======
Loan Purpose:
Purchase............................................... 81.5% 79.1%
Refinance.............................................. 18.5 20.9
------- -------
Total............................................. 100.0% 100.0%
======= =======
---------------
(1) Refers to loans where payment adjustments are the same as mortgage interest
rate adjustments.
(2) Loans with potential negative amortization will not have increasing
principal balances unless interest rates increase as contrasted with
scheduled negative amortization where an increase in loan balance will occur
even if interest rates do not change.
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One of the most important determinants of claim incidence is the relative
amount of borrower's equity, or downpayment, in the home. The expectation of
claim incidence on 95s is approximately two times the expected claim incidence
on 90s. We believe that the higher premium rates we charge on 95s adequately
reflect the additional risk on these loans. We and others in our industry have
been insuring 97s since 1995 and 100% loan-to-value loans, which we refer to as
100s, beginning in 2000. These loans are expected to have a higher claim
incidence than 95s; however, with proper counseling efforts and by limiting
insurance on these loans to sensible affordable housing programs, it is our
belief that the claim incidence should not be materially (more than one and
one-half times) worse than on 95s, although there can be no assurance that claim
incidence will not be materially worse on 97s or 100s than on 95s. Premium rates
on 100s and 97s are higher than on 95s to compensate for the additional risk and
the higher expected frequency and severity of claims.
In recent years, we have increased our insurance on mortgages identified by
our customers as affordable housing loans. These loans are typically made to
low- and moderate-income borrowers in conjunction with special programs
developed by state or local housing agencies, Fannie Mae or Freddie Mac. Such
programs usually include 95s, 97s and 100s and may require the liberalization of
certain underwriting guidelines in order to achieve their objectives. Our
participation in these programs is dependent upon acceptable borrower
counseling. Default experience on these programs has been worse than
non-affordable housing loans; however, we do not believe the ultimate claims
will materially affect our financial results due to the relatively small amount
of such business in our insured book combined with higher premium rates and
risk-sharing elements.
We believe that the risk of claim on non-prime loans is significantly
higher than that of prime loans. Non-prime loans generally include Alternative A
and A minus products and although higher premium rates and surcharges are
charged in order to compensate for the additional risk, these products are
relatively new and have never been insured in an adverse economic situation so
there is no assurance that the premium rates are adequate or the loss
performance will be at, or close to, expected levels.
Our claim frequency on insured adjustable rate mortgages has been higher
than on all other loan types. We believe that the risk on adjustable rate
mortgage loans is greater than on fixed rate loans due to possible monthly
payment increases if interest rates rise.
We believe that 15-year mortgages present a lower level of risk than
30-year mortgages, primarily as a result of the faster amortization and the more
rapid accumulation of borrower equity in the property. Premium rates for 15-year
mortgages are lower to reflect the lower risk.
We believe that the risk of claim is also affected by the type of property
securing the insured loan. In our opinion, loans on single-family detached
housing are subject to less risk of claim incidence than loans on other types of
properties. Conversely, loans on attached housing types, particularly
condominiums and cooperatives, are generally considered by us to be a higher
risk, due to the higher density of such properties and because a detached unit
is the preferred housing type in most areas. Our more stringent underwriting
guidelines on condominiums and cooperatives reflect this higher expected risk.
We believe that the risk of claim on relocation loans and loans originated
by credit unions is extremely low and offers lower premium rates on such loans
to compensate for the lower risk.
We believe that loans on non-owner occupied homes purchased for investment
purposes represent a substantially higher risk of claim incidence, and are
subject to greater value declines than loans on either primary or second homes.
We underwrite loans on non-owner occupied homes more stringently, and sometimes
require that the investor indemnify us directly for any loss suffered by us. We
also charge a significantly higher premium rate than the rate charged for
insuring loans on owner occupied homes.
We believe that higher priced properties experience wider fluctuations in
value than moderately priced residences and that the income of many people who
buy higher priced homes is less stable than that of people with moderate
incomes. Underwriting guidelines for such higher priced properties reflect this
concern.
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The following tables sets forth the distribution of Enhance Financial
Services' financial guaranty insurance in force by type of issue and as a
percentage of total financial guaranty insurance in force as of December 31,
2000 and 1999:
INSURANCE IN FORCE
------------------
TYPE OF OBLIGATION 2000 1999
------------------ ------ ------
(IN BILLIONS)
Municipal:
General obligation and other tax supported................ $26.8 $22.9
Water/sewer/electric/gas and investor-owned
utilities............................................. 18.1 16.8
Health care............................................ 14.1 8.0
Airports/transportation................................ 10.5 9.2
Other municipal (2).................................... 8.8 5.3
Housing revenue........................................ 2.4 1.5
----- -----
Total municipal................................... 80.7 63.7
Non-municipal:
Non-municipal............................................... $ 6.8 $12.2
Other insurance businesses.................................. 5.2 9.7
----- -----
Total non-municipal............................... 12.0 21.9
----- -----
Total............................................. $92.7 $85.6
===== =====
---------------
(1) Represents the Enhance Financial Services' proportionate share of the
aggregate outstanding principal and interest payable on such insured
obligations.
(2) Represents other types of municipal obligations, none of which individually
constitutes a material amount of Enhance Financial Services' insurance in
force.
INSURANCE IN FORCE
-------------------
TYPE OF OBLIGATION 2000 1999
------------------ ----- -----
(PERCENT OF TOTAL)
Municipal:
General obligation and other tax supported................ 28.9% 26.8%
Water/sewer/electric/gas and investor-owned
utilities............................................. 19.5 19.7
Health care............................................ 15.2 9.3
Airports/transportation................................ 11.4 10.7
Other municipal (1).................................... 9.5 6.2
Housing revenue........................................ 2.6 1.8
---- ----
Total municipal................................... 87.1 74.5
Non-municipal:
Non-municipal............................................... 7.3% 14.2%
Other insurance businesses.................................. 5.6 11.3
---- ----
Total non-municipal............................... 12.9 25.5
---- ----
Total............................................. 100% 100%
==== ====
---------------
(1) Represents other types of municipal obligations, none of which individually
constitutes a material percentage of Enhance Financial Services' insurance
in force.
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The following table identifies by issuer of Enhance Financial Services' ten
largest single-risk insurance in force by par amounts outstanding as of December
31, 2000 and the credit rating assigned by S&P as of that date (in the absence
of financial guaranty insurance) to each such issuer:
NET PAR IN FORCE
CREDIT CREDIT RATING OBLIGATION TYPE AS OF DECEMBER 31, 2000
------ ------------- ------------------- -----------------------
(IN MILLIONS)
New York City Municipal Water Finance
Authority.............................. AA Water & Sewer $395
New York City, NY........................ A- General Obligation 401
Port Authority of New York and New
Jersey................................. AA- Airport 363
State of California...................... A- General Obligation 308
Commerzbank - Citibank London............ AAA Consumer Obligation 400
Commonwealth of Puerto Rico.............. A General Obligation 341
Long Island, NY Power Authority.......... A- Water & Sewer 368
State of Massachusetts Turnpike
Authority.............................. BBB+ Toll Roads 302
Florida Hospital Association............. AAA AAA Structured 300
Transactions
San Francisco, California Airport
Commission............................. A+ Airport 377
INVESTMENT POLICY AND PORTFOLIO
Our income from our investment portfolio is one of our primary sources of
cash flow to support our operations and claim payments.
We follow an investment policy which at a minimum requires:
- 95% of our investment portfolio to consist of cash equivalents and debt
securities (including redeemable preferred stocks) which, at the date of
purchase, were rated investment grade by a nationally recognized rating
agency (e.g., "BBB" or better by S&P); and
- at least 50% of our investment portfolio to consist of cash, cash
equivalents and debt securities (including redeemable preferred stocks)
which, at the date of purchase, were rated the highest investment grade
by a nationally recognized rating agency (e.g., "AAA" by S&P).
We are permitted to invest in equity securities (including convertible debt
and convertible preferred stock), provided our equity component does not exceed
20% of the total investment portfolio.
At June 30, 2001, our investment portfolio had a carrying value of $3,095.2
million and a market value of $3,105.7 million, including $209.6 million of
short-term investments. Our investment portfolio did not include any real estate
or mortgage loans. The portfolio included 312 privately placed securities with
an aggregate carrying value of $103.8 million, with $101.6 million rated
investment grade and $2.2 million rated below investment grade. At June 30,
2001, 97.6% of our investment portfolio (which excludes cash) consisted of cash
equivalents and debt securities (including redeemable preferred stocks) which
were rated investment grade.
Our investment policies and strategies are subject to change depending upon
regulatory, economic and market conditions and the then existing or anticipated
financial condition and operating requirements, including our tax position.
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The diversification of our investment portfolio (other than short-term
investments) at June 30, 2001 is shown in the table below:
INVESTMENT PORTFOLIO DIVERSIFICATION
JUNE 30, 2001
------------------------------------
AMORTIZED FAIR
COST VALUE PERCENT(1)
---------- ---------- ----------
(IN THOUSANDS)
Fixed maturities held to maturity:
U.S. government securities(2)................. $ 7,780 $ 8,172 1.6%
State and municipal obligations(3)............ 478,399 488,486 98.4
---------- ---------- -----
Total.................................... $ 486,179 $ 496,658 100.0%
========== ========== =====
Fixed maturities available for sale:
U.S. government securities(2)................. $ 81,269 $ 81,301 3.5%
U.S. government agency securities(2).......... 8,046 9,397 0.4
State and municipal obligations(3)............ 1,662,076 1,680,690 72.0
Corporate obligations(3)...................... 416,355 418,369 18.1
Redeemable preferred stocks(3)................ 31,776 32,113 1.4
Private placements............................ 105,509 103,829 4.6
---------- ---------- -----
Total.................................... $2,305,031 $2,325,699 100.0%
========== ========== =====
Equity securities available for sale:
Equity securities............................. $ 70,720 $ 73,780 100.0%
========== ========== =====
---------------
(1) Percentage of amortized cost.
(2) Substantially all of these securities are backed by the full faith and
credit of the U.S. government.
(3) Consists primarily of investment-grade securities.
The following table shows the scheduled maturities of the securities held
in our investment portfolio at June 30, 2001:
INVESTMENT PORTFOLIO SCHEDULED MATURITY (1)
JUNE 30, 2001
---------------------------
CARRYING
VALUE PERCENT
-------------- -------
(IN THOUSANDS)
Short-term investments...................................... $ 209,591 6.8%
Less than one year.......................................... 35,855 1.2
One to five years........................................... 488,214 15.8
Five to ten years........................................... 517,216 16.7
Over ten years.............................................. 1,559,663 50.4
Mortgage-backed securities(2)............................... 178,817 5.8
Redeemable preferred stocks(3).............................. 32,113 1.0
Equity securities(3)........................................ 73,780 2.3
---------- -----
Total.................................................. $3,095,249 100.0%
========== =====
---------------
(1) Actual maturities may differ as a result of calls prior to scheduled
maturity.
(2) Substantially all of these securities are backed by the Government National
Mortgage Association, which is known as GNMA, or the Federal National
Mortgage Association, which is known as Fannie Mae.
(3) No stated maturity date.
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The following table shows the ratings by S&P of our investment portfolio
(other than short-term investments) as of June 30, 2001:
INVESTMENT PORTFOLIO BY S&P RATING
JUNE 30, 2001
---------------------------
CARRYING
RATING(1) VALUE PERCENT
--------- -------------- -------
(IN THOUSANDS)
Fixed maturities:
U.S. government and agency securities..................... $ 98,478 3.4%
AAA....................................................... 1,652,736 57.3
AA........................................................ 579,830 20.1
A......................................................... 199,870 6.9
BBB....................................................... 102,415 3.5
BB and below and other(2)................................. 11,461 0.4
Not rated(3).............................................. 167,088 5.8
Equity securities........................................... 73,780 2.6
---------- -----
Total............................................. $2,885,658 100.0%
========== =====
---------------
(1) As assigned by S&P as of June 30, 2001.
(2) Securities in this category have been rated non-investment grade by S&P as
of June 30, 2001.
(3) Securities in this category have not been rated by S&P as of June 30, 2001
but have been rated investment grade as of June 30, 2001 by at least one
other nationally recognized securities rating agency.
REGULATION
Direct Regulation
State Regulation
We and our insurance subsidiaries are subject to comprehensive, detailed
regulation principally designed for the protection of policyholders, rather than
for the benefit of investors, by the insurance departments in the various states
where we and our insurance subsidiaries are licensed to transact business.
Insurance laws vary from state to state, but generally grant broad supervisory
powers to agencies or officials to examine insurance companies and enforce rules
or exercise discretion affecting almost every significant aspect of the
insurance business.
Insurance regulations relate, among other things, to the licensing of
companies to transact business, claims handling, reinsurance requirements,
premium rates and policy forms offered to customers, financial statements,
periodic reporting, permissible investments and adherence to financial standards
relating to surplus, dividends and other criteria of solvency intended to assure
the satisfaction of obligations to policyholders.
Mortgage insurers are generally restricted to writing residential mortgage
guaranty insurance business only. Our non-insurance businesses, which consist of
mortgage insurance related services, are not generally subject to regulation
under state insurance laws.
Enhance Reinsurance and Asset Guaranty are domiciled and licensed in the
State of New York as financial guaranty insurers under that portion of the New
York Insurance Law constituting the financial guaranty insurance statute. They
are also subject to the provisions of the New York Insurance Law and related
rules and regulations governing property-casualty insurers to the extent such
provisions are not inconsistent with the financial guaranty insurance statute.
Both Enhance Reinsurance and Asset Guaranty are also licensed under the New York
Insurance Law to write surety insurance, credit insurance and residual value
insurance, which are the only other types of insurance that a financial guaranty
insurer licensed under the New York Insurance Law may be authorized to write.
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Enhance Reinsurance and Asset Guaranty are required by New York and each
other jurisdiction in which they are licensed to make various filings, including
quarterly and annual financial statements prepared in accordance with statutory
accounting practices, with those jurisdictions and with the National Association
of Insurance Commissioners.
The New York Insurance Law requires that each financial guaranty insurer
and reinsurer maintain both a reserve for unearned premiums and for incurred
losses and a special, formulaically derived contingency reserve to protect
policyholders against the impact of excessive losses occurring during adverse
economic cycles. Each calculated reserve may be drawn on with the approval of
the New York Insurance Department under specified but limited circumstances.
The New York Insurance Law establishes single-risk limits applicable to all
obligations insured by a single entity and backed by a single revenue source and
aggregate risk limits on the basis of aggregate net liability and policyholders'
surplus requirements. The New York Insurance Law also regulates the types of
securities in which Enhance Reinsurance and Asset Guaranty may invest their
minimum policyholders' surplus and imposes restrictions on the amount of
dividends that Enhance Reinsurance and Asset Guaranty may pay.
Enhance Reinsurance and Asset Guaranty are also subject to the New York
Insurance Laws in each jurisdiction in which they are licensed to transact
insurance. Reinsurance activities are generally not directly regulated by state
law, but are generally subject to limited indirect regulation in most states
through the regulation of ceding primary insurers domiciled in those states.
Insurance Holding Company Regulation. All states have enacted legislation
that requires each insurance company in an insurance holding company system to
register with the insurance regulatory authority of its state of domicile and to
furnish to such regulator financial and other information concerning the
operations of companies within the holding company system that may materially
affect the operations, management or financial condition of insurers within the
system.
Because we are an insurance holding company, Radian Guaranty and Radian
Insurance are Pennsylvania insurance companies, Amerin Guaranty is an Illinois
insurance company, and Enhance Reinsurance and Asset Guaranty are New York
insurance companies, the Pennsylvania, Illinois and New York insurance laws
regulate, among other things, certain transactions in our common stock and
certain transactions between Radian Guaranty, Radian Insurance, Amerin Guaranty,
Enhance Reinsurance, Asset Guaranty, our other insurance subsidiaries, and their
parent or affiliates. Specifically, no person may, directly or indirectly, offer
to acquire or acquire control of us, or our insurance subsidiaries, unless such
person files a statement and other documents with the relevant state's
Commissioner (or Superintendent) of Insurance and obtains such Commissioner's
prior approval. The Commissioner may hold a public hearing on the matter.
Control is presumed to exist if 10% or more of our or our insurance
subsidiaries' voting securities are owned or controlled, directly or indirectly,
by a person, although control may or may not be deemed to exist where a person
owns or controls a lesser amount of securities. In addition, material
transactions between us and our insurance subsidiaries and their parent or
affiliates are subject to certain conditions, including that they be fair and
reasonable. These restrictions generally apply to all persons controlling or
under common control with us or our insurance subsidiaries. Certain transactions
between our insurance subsidiaries and their parent or affiliates may not be
entered into unless the relevant Commissioner of Insurance is given 30 days
prior notification and does not disapprove the transaction during such 30-day
period.
Dividends. The ability of Radian Guaranty to pay dividends on its common
stock is restricted by certain provisions of the insurance laws of the
Commonwealth of Pennsylvania, its state of domicile. The insurance laws of
Pennsylvania establish a test limiting the maximum amount of dividends which may
be paid without prior approval by the Pennsylvania Insurance Commissioner. Under
such test, Radian Guaranty may pay dividends during any 12-month period in an
amount equal to the greater of (i) 10% of the preceding year-end statutory
policyholders' surplus or (ii) the preceding year's statutory net income. In
accordance with such restrictions, $198.0 million would be available for
dividends in 2001. However, an amendment to the Pennsylvania statute requires
that dividends and other distributions be paid out of an insurer's unassigned
surplus. Because of the unique nature of the method of accounting for
contingency reserves, Radian Guaranty
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has negative unassigned surplus. Thus, prior approval by the Pennsylvania
Insurance Commissioner is required for Radian Guaranty to pay dividends or make
other distributions so long as Radian Guaranty has negative unassigned surplus.
The Pennsylvania Insurance Commissioner has approved all distributions by Radian
Guaranty since the passage of this amendment and management has every
expectation that the Insurance Department will continue to approve such
distributions in the future, provided that the financial condition of Radian
Guaranty does not materially change.
The ability of Amerin Guaranty to pay dividends on its common stock is
restricted by certain provisions of the insurance laws of the State of Illinois,
its state of domicile. The insurance laws of Illinois establish a test limiting
the maximum amount of dividends that may be paid from positive unassigned
surplus by an insurer without prior approval by the Illinois Insurance
Commissioner. Under such test, Amerin Guaranty may pay dividends during any
12-month period in an amount equal to the greater of (i) 10 percent of the
preceding year-end statutory policyholders' surplus or (ii) the preceding year's
statutory net income. In accordance with such restrictions, $58.0 million would
be available for dividends in 2001 without prior regulatory approval, which
represents the positive unassigned surplus of Amerin Guaranty at December 31,
2000.
In connection with the approval of the acquisition of Enhance Financial
Services, we and Enhance Reinsurance and Asset Guaranty agreed that Enhance
Reinsurance and Asset Guaranty will refrain from paying any dividends to us for
a period of two years from the date of acquisition of control without the prior
written consent of the New York Insurance Department.
We and Radian Guaranty have entered into an agreement, pursuant to which we
have agreed to establish and, for as long as any shares of $4.125 Preferred
Stock remain outstanding, maintain a reserve account in an amount equal to three
years of dividend payments on the outstanding shares of $4.125 Preferred Stock
(currently $9.9 million), and not to pay dividends on the common stock at any
time when the amount in the reserve account is less than three years of dividend
payments on the shares of $4.125 Preferred Stock then outstanding. This
agreement between us and Radian Guaranty provides that the holders of the $4.125
Preferred Stock are entitled to enforce the agreement's provisions as if such
holders were signatories to the agreement.
We may not pay any dividends on our shares of common stock unless we have
paid all accrued dividends on, and have complied with all sinking fund and
redemption obligations relating to, our outstanding shares of $4.125 Preferred
Stock.
Radian Guaranty's current excess of loss reinsurance agreement prohibits
the payment of any dividend that would have the effect of reducing the total of
its statutory policyholders' surplus plus its contingency reserve below
$85,000,000. As of December 31, 2000, Radian Guaranty had statutory
policyholders' surplus of $171.6 million and a contingency reserve of $799.0
million, for a total of $970.6 million.
Risk to Capital. A number of states and Freddie Mac limit a private
mortgage insurer's risk in force to 25 times the total of the insurer's
policyholders' surplus plus the statutory contingency reserve, commonly known as
the "risk-to-capital" requirement. As of December 31, 2000, our consolidated
risk-to-capital ratio was 15.4 to 1, compared to 16.9 to 1 in 1999. The cross
guaranty agreement between Radian Guaranty and Amerin Guaranty makes it
appropriate to look at risk-to-capital on a consolidated basis.
Reserves. For statutory reporting, we are annually required to provide for
additions to the contingency reserve in an amount equal to 50% of earned
premiums. Such amounts cannot be withdrawn for a period of 10 years except under
certain circumstances. The contingency reserve, designed to be a reserve against
catastrophic losses, essentially restricts dividends and other distributions by
us. We classify the contingency reserve as a statutory liability. At June 30,
2001, Radian Guaranty had policyholders' surplus of $193.7 million and a
contingency reserve of $905.1 million and Amerin Guaranty had policyholders'
surplus of $309.4 million and a contingency reserve of $303.6 million. At June
30, 2001, Enhance Reinsurance had policyholders' surplus of $181.3 million and a
contingency reserve of $287.1 million and Asset Guaranty had policyholders'
surplus of $128.7 million and a contingency reserve of $33.8 million.
Premium Rates and Policy Forms. Our premium rates and policy forms are
subject to regulation in every state in which we are licensed to transact
business in order to protect policyholders against the adverse
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effects of excessive, inadequate or unfairly discriminatory rates and to
encourage competition in the insurance marketplace. In most states, premium
rates and policy forms must be filed prior to their use. In some states, such
rates and forms must also be approved prior to use. Certain of Asset Guaranty's
financial quarterly insurance policies may be filed within 30 days after use.
Changes in premium rates are subject to justification, generally on the basis of
the insurer's loss experience, expenses and future trend analysis. The general
default experience in the mortgage insurance industry may also be considered.
Reinsurance. Certain restrictions apply under the laws of several states
to any licensed company ceding business to an unlicensed reinsurer. Under such
laws, if a reinsurer is not admitted or approved in such states, the company
ceding business to the reinsurer cannot take credit in its statutory financial
statements for the risk ceded to such reinsurer absent compliance with certain
reinsurance security requirements. In addition, several states also have special
restrictions on mortgage guaranty insurance and, several states limit the amount
of risk a mortgage insurer may retain with respect to coverage on an insured
loan to 25% of the insured's claim amount. Coverage in excess of 25%, which we
refer to as deep coverage, must be reinsured.
Examination. Our insurance subsidiaries are subject to examination of
their affairs by the insurance departments of each of the states in which they
are licensed to transact business.
New York Circular Letter. The New York Insurance Department issued
Circular Letter No. 2 dated February 1, 1999, which discusses their position
concerning various transactions between mortgage guaranty insurance companies
licensed in New York and mortgage lenders. This letter confirms that captive
reinsurance transactions are permissible if they "constitute a legitimate
transfer of risk" and "are fair and equitable to the parties." This letter also
states that supernotes/performance notes, dollar pool insurance, and un-captive
captives violate New York law.
Accreditation. The National Association of Insurance Commissioners has
instituted the Financial Regulatory Accreditation Standards Program, known as
"FRASP," in response to federal initiatives to regulate the business of
insurance. FRASP provides standards intended to establish effective state
regulation of the financial condition of insurance companies. FRASP requires
states to adopt certain laws and regulations, institute required regulatory
practices and procedures, and have adequate personnel to enforce such items in
order to become accredited. In accordance with the National Association of
Insurance Commissioners's Model Law on Examinations, accredited states are not
permitted to accept certain financial examination reports of insurers prepared
solely by the insurance regulatory agency in states not accredited by January 1,
1994. Although the State of New York is not accredited, no states where Enhance
Reinsurance and Asset Guaranty are licensed have refused to accept the New York
Insurance Department's Reports on Examination for Enhance Reinsurance and Asset
Guaranty. However, there can be no assurance that, should the New York Insurance
Department remain unaccredited, other states that are accredited will continue
to accept financial examination reports prepared solely by New York. We do not
believe that the refusal by an accredited state to continue accepting financial
examination reports prepared by New York, should that occur, will have a
material adverse impact on our insurance businesses.
Federal Regulation
RESPA. The origination or refinance of a federally regulated mortgage loan
is a settlement service, and therefore subject to the Real Estate Settlement
Practices Act of 1974, and the regulations promulgated thereunder, which are
known collectively as RESPA. In December 1992, regulations were issued which
stated that mortgage insurance is also a settlement service, and therefore,
mortgage insurers are subject to the provisions of Section 8(a) of RESPA, which
generally prohibits persons from accepting anything of value for referring real
estate settlement services to any provider of such services. Although many
states prohibit mortgage insurers from giving rebates, RESPA has been
interpreted to cover many non-fee services as well. The federal government's
interest in pursuing violations of RESPA has increased awareness of both
mortgage insurers and their customers of the possible sanctions of this law.
We and all of our competitors have been sued in similar actions alleging
violations of RESPA. We are contesting the action brought against us and believe
our products and services comply with RESPA, as well as all other applicable
laws and regulations. See "Legal Proceedings" below for further details.
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HMDA. Most originators of mortgage loans are required to collect and
report data relating to a mortgage loan applicant's race, nationality, gender,
marital status and census tract to the federal government or the Federal Reserve
under the Home Mortgage Disclosure Act of 1975, which we refer to as HMDA. The
purpose of HMDA is to detect possible discrimination in home lending and,
through disclosure, to discourage such discrimination. Mortgage insurers are not
required pursuant to any law or regulation to report HMDA data, although under
the laws of several states, mortgage insurers are currently prohibited from
discriminating on the basis of certain classifications.
The active mortgage insurers, through their trade association, Mortgage
Insurance Companies of America, which is known as MICA, entered into an
agreement with the Federal Financial Institutions Examinations Council, which is
known as FFIEC, to report the same data on loans submitted for insurance as is
required for most mortgage lenders under HMDA. Reports of HMDA-type data for the
mortgage insurance industry have been submitted by MICA to the FFIEC since 1993.
Management is not aware of any pending or expected actions by governmental
agencies in response to the reports submitted by MICA to the FFIEC.
Mortgage Insurance Cancellation. The Homeowners Protection Act of 1998,
was signed into law on July 29, 1998. This act imposes certain cancellation and
termination requirements for borrower-paid private mortgage insurance and
requires certain disclosures to borrowers regarding their rights under the law.
This act also requires certain disclosures for loans covered by lender-paid
private mortgage insurance. Specifically, it provides that private mortgage
insurance on most loans originated on or after July 29, 1999 may be canceled at
the request of the borrower once the loan-to-value reaches 80%, provided that
certain conditions are satisfied. Private mortgage insurance must be canceled
automatically once the loan-to-value reaches 78% (or, if the loan is not current
on that date, on the date that the loan becomes current). This act establishes
special rules for the termination of private mortgage insurance in connection
with loans that are high risk. High risk loans are not defined but this act
leaves that determination to Fannie Mae and Freddie Mac for loans up to the
conforming loan limit and to the mortgagee for any other loan. For high risk
loans above the conforming loan limit, private mortgage insurance must be
terminated on the date that the loan-to-value is first scheduled to reach 77%.
In no case, however, may private mortgage insurance be required beyond the
midpoint of the amortization period of the loan if the mortgagor is current on
the payments required by the terms of the mortgage. We feel that the Homeowners
Protection Act of 1998 will have an immaterial impact on the persistency of our
insured loans, on our insured book of business, and on our financial results.
Other Direct Regulation
Freddie Mac and Fannie Mae
As the most significant purchasers and sellers of conventional mortgage
loans and beneficiaries of private mortgage insurance, Freddie Mac and Fannie
Mae impose requirements on private mortgage insurers so that they may be
eligible to insure loans sold to such agencies. Freddie Mac's current
eligibility requirements impose limitations on the type of risk insured,
standards for the geographic and customer diversification of risk, procedures
for claims handling, acceptable underwriting practices, standards for certain
reinsurance cessions and financial requirements which generally mirror state
insurance regulatory requirements. These requirements are subject to change from
time to time. Fannie Mae also has eligibility requirements, although such
requirements are not published. Radian Guaranty and Amerin Guaranty are approved
mortgage insurers for both Freddie Mac and Fannie Mae.
In 1995, Freddie Mac and Fannie Mae began to require deeper coverage on
certain loans with loan-to-value ratios greater than 85%. We believe that this
deeper coverage did not have a material effect on our financial results,
although premiums earned and the level of risk have increased and the
risk-to-capital ratio is relatively higher as a result of the increase in risk.
In 1995, Radian Guaranty and Amerin Guaranty issued a new master policy
which applies to all business written after June 1, 1995. Changes in the terms
include a broader scope of coverage for certain environmental and bankruptcy
related claims, and somewhat more limited rights to reject claim payments,
neither of which we believe will have a material adverse effect on our
operations or financial results. The new master policy was approved by Fannie
Mae and Freddie Mac, as well as by all states which require approval of policy
forms.
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In January 1999, Fannie Mae announced a new program which allows for lower
levels of required mortgage insurance coverage for low downpayment 30-year fixed
rate loans approved through its Desktop Underwriter automated underwriting
system. The insurance levels are similar to those required prior to 1995. Fannie
Mae will replace some of the coverage with a layer of investor mortgage
insurance coverage provided by at least two mortgage insurers, one of which will
be us. Fannie Mae also announced that it intends to purchase additional
insurance for certain eligible Flex 97 and investor loans, and we have been
selected to provide this coverage on a pilot basis. We do not believe that these
developments will adversely affect the demand for or the profitability of
mortgage insurance in the near future.
Prospective new regulations have been proposed with respect to the types of
mortgage insurance Fannie May and Freddie Mac may accept. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Recent Developments."
Indirect Regulation
We are also indirectly, but significantly, impacted by regulations
affecting originators and purchasers of mortgage loans, particularly Freddie Mac
and Fannie Mae, and regulations affecting governmental insurers such as the FHA
and VA. Private mortgage insurers, including us, are highly dependent upon
federal housing legislation and other laws and regulations which affect the
demand for private mortgage insurance and the housing market generally. For
example, legislation which increases the number of persons eligible for FHA or
VA mortgages could have a material adverse effect on our ability to compete with
the FHA or VA.
The FHA single family loan limits were raised in the fall of 1998. These
increased loan limits vary by geographic region from $109,032 to $197,620. We do
not believe that demand for private mortgage insurance has been or will be
materially adversely affected by this change.
Proposals have been advanced which would allow Fannie Mae and Freddie Mac
additional flexibility in determining the amount and nature of alternative
recourse arrangements or other credit enhancements which they could utilize as
substitutes for private mortgage insurance. We cannot predict if or when any of
the foregoing legislation or proposals will be adopted, but if adopted and
depending upon the nature and extent of revisions made, demand for private
mortgage insurance may be adversely affected. There can be no assurance that
other federal laws affecting such institutions and entities will not change, or
that new legislation or regulations will not be adopted. In addition, Fannie Mae
and Freddie Mac have entered into, and may in the future seek to enter into,
alternative recourse arrangements or other credit enhancements based on their
existing legislative authority.
In the fall of 1998, Freddie Mac proposed to Congress an amendment to its
charter that would have permitted it to substitute other forms of loss
protection for private mortgage insurance. Although the proposed amendment was
defeated, Freddie Mac may be actively exploring alternatives to conventional
mortgage insurance. Although it is not clear what, if any, changes or new
products may emerge, there is a possibility that any changes in this regard may
materially affect the mortgage insurance industry.
Recent discussions with the Federal Trade Commission with regard to the
adverse action disclosure provisions of the Fair Credit Reporting Act, which is
known as FCRA, have raised the possibility that we will need to make certain
changes to our loan servicing and tracking procedures in order to give FCRA
adverse action notices directly to borrowers. We do not believe that such
changes will have a material effect on our operations.
There can be no assurance that the above-mentioned federal laws and
regulations or other federal laws and regulations affecting lenders, private and
governmental mortgage insurers, or purchasers of insured mortgage loans, will
not be amended, or that new legislation or regulations will not be adopted, in
either case, in a manner which will adversely affect the demand for private
mortgage insurance.
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Employees
At June 30, 2001, we have approximately 1,118 employees, of which
approximately one-third were located at our Philadelphia headquarters facility
and 89 are employees of ExpressClose.com. Our employees are not unionized and
management considers employee relations to be very good.
PROPERTIES
We lease approximately 98,000 square feet for our corporate headquarters in
Philadelphia under leases which expire in 2003. In addition, we lease space for
our Regional, Service Center and On-site offices throughout the United States
comprising approximately 82,000 square feet with leases expiring between 2001
and 2005, and space for ExpressClose.com comprising approximately 21,000 square
feet, with leases expiring in 2003. With respect to all facilities, we believe
we will be able to obtain satisfactory lease renewal terms.
We believe our existing properties are well utilized and are suitable and
adequate for our present circumstances.
We maintain a mini-computer network from our corporate data center located
in our headquarters building to support our data processing requirements for
accounting, claims, marketing, risk management, underwriting and non-insurance
operations. In 1997, Radian Guaranty and Amerin Guaranty centralized all
computer operations. All the service centers are linked to the home office in
Philadelphia via a high speed frame-relay network. The centralized environment
is based on the Business Recovery Server architecture. The Business Recovery
Server consists of two geographically dispersed, identical data centers. Each
data center is currently running at 40% of capacity. Either data center is
capable of supporting the entire company. The data centers are linked via a
fiber-optic link allowing simultaneous data updates through disk shadowing. Each
center is part of a separate power grid. This redundant configuration provides
disaster tolerance and automatic back-up, resource sharing and fail-over. We
believe that our data processing systems are adequate to support our current
needs and have the capacity to support a greater volume of insurance business.
LEGAL PROCEEDINGS
In December 2000, a complaint seeking class action status on behalf of a
nationwide class of home mortgage borrowers was filed against us in the United
States District Court for the Middle District of North Carolina (Greensboro
Division). The complaint alleges that we violated Section 8 of RESPA, which
generally prohibits the giving of any fee, kickback or thing of value pursuant
to any agreement or understanding that real estate settlement services will be
referred. The complaint asserts that the pricing of pool insurance, captive
reinsurance, contract underwriting, performance notes and other, unidentified
structured transactions, should be interpreted as imputed kickbacks made in
exchange for the referral of primary mortgage insurance business, which,
according to the complaint, is a settlement service under RESPA. The complaint
seeks injunctive relief and damages of three times the amount of any mortgage
insurance premiums paid by persons who were referred to us pursuant to the
alleged agreement or understanding. The plaintiffs in the lawsuit are
represented by the same group of plaintiffs' lawyers who last year filed similar
lawsuits against other providers of primary mortgage insurance in federal court
in Georgia. The Georgia court dismissed those lawsuits for failure to state a
claim. Three of those lawsuits were settled prior to appeal; two are currently
on appeal. We have responded to the complaint by filing a motion to dismiss.
Because this case is at a very early stage, it is not possible to evaluate the
likelihood of an unfavorable outcome or to estimate the amount or range of
potential loss.
In addition to the above, we are involved in certain litigation arising in
the normal course of our business. We are contesting the allegations in each
other such pending action and believe, based on current knowledge and after
consultation with counsel, that the outcome of such litigation will not have a
material adverse effect on our consolidated financial position and results of
operations.
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SECURITY OWNERSHIP OF MANAGEMENT
AND CERTAIN BENEFICIAL OWNERS
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
The following table indicates, as of June 30, 2001, information relating to
each person known to us to be the beneficial owner within the meaning of Section
13(d) of the Securities Exchange Act of 1934, of more than five percent (5%) of
our common stock. All the information in the table is presented in reliance on
information disclosed by the named individual as of the date of filing of their
Schedule 13G. All share information has been adjusted to reflect the two-for-one
stock split effected by us in June 2001.
SHARES VOTING POWER INVESTMENT POWER
BENEFICIALLY PERCENT ------------------- ---------------------
NAME AND BUSINESS ADDRESS OWNED (1) OF CLASS (2) SOLE SHARED SOLE SHARED
------------------------- ------------ ------------ ---- ------ ---- ------
Mellon Financial
Corporation(3)................ 4,010,466 5.3% 3,242,832 68,478 3,743,676 83,296
One Mellon Center
Pittsburgh, Pennsylvania 15258
T. Rowe Price Associates(4)..... 4,589,750 6.0% 715,906 -0- 4,589,750 -0-
100 E. Pratt Street
Baltimore, MD 21202
Legg Mason, Inc.(5)............. 3,722,132 4.9%(6) 2,400,000 661,066 -0- 3,722,132
100 Light Street
Baltimore, Maryland 21202
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(1) Based on the information provided by such beneficial owners on Schedules 13D
and 13G, if any, filed with the Securities and Exchange Commission with
respect to our shares owned by it of us, or prior to our acquisition
thereof, Enhance Financial Services.
(2) The percentage has been determined based upon the number of shares
outstanding as of the close of business on May 31, 2001.
(3) On February 1, 2001, Mellon Financial Corporation filed a Schedule 13G
stating its ownership of shares of our common stock as set forth above at
December 31, 2000. According to such Schedule 13G, all of the securities are
beneficially owned by Mellon Financial Corporation and certain of its named
direct or indirect subsidiaries in their various fiduciary capacities, and
as a result, another entity in every instance is entitled to dividends or
proceeds of sale. No individual accounts hold an interest of 5% or more in
our securities.
(4) On February 12, 2001, T. Rowe Price Associates, Inc. filed a Schedule 13G
stating its ownership of Common Stock as set forth in the table above at
December 31, 2000. According to such Schedule 13G, only its client or its
client's custodian or trustee bank has the right to receive dividends paid
with respect to, and proceeds from the sale of, such securities and that the
ultimate power to direct the receipt of dividends paid with respect to, and
the proceeds from the sale of, such securities, is vested in the individual
and institutional clients which T. Rowe Price Associates serves as an
investment adviser, and any and all discretionary authority delegated to T.
Rowe Price Associates may be revoked in whole or in part at any time.
According to such Schedule 13G, no individual accounts hold an interest of
5% or more in our securities.
(5) On or about March 15, 2001, Legg Mason, Inc. filed a Schedule 13G/A
describing its ownership of shares of our common stock at December 31, 2000
as follows: Legg Mason, Inc. has sole voting power over 2,400,000 shares,
shared voting power over 1,322,132 shares, sole dispositive power over 0
shares and shared dispositive power over 3,722,132 shares of our common
stock. According to such 13G/A, these shares of common stock are held by
various identified subsidiaries of Legg Mason, Inc. which have the power to
dispose of the shares held by them. In addition, on or about March 15, 2001,
Legg Mason, Inc. filed a Schedule 13G/A describing its ownership of shares
of the common stock of Enhance Financial Services, par value $.10 at
December 31, 2000 as follows: Legg Mason, Inc. has sole voting power over
3,208,400 shares, shared voting power over 887,884 shares, sole dispositive
power over 0 shares and shared dispositive power over 4,096,284 shares of
Enhance Financial Services common stock. According
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to such 13G/A, such shares of Enhance Financial Services common stock are
held by various identified subsidiaries of Legg Mason, Inc. which have the
power to dispose of the shares held by them. Since, pursuant to the terms of
a Merger Agreement, dated as of November 13, 2000, among us, GOLD
Acquisition Corporation and Enhance Financial Services, each share of
Enhance Financial Services common stock was converted into .22 shares of our
common stock (plus cash in lieu of fractional shares of common stock) on
February 28, 2001, based on the figures provided in the aforementioned
Schedule 13G/A's, Legg Mason, Inc. after giving effect to the conversion of
Enhance Financial Services common stock into our common stock and the
subsequent two-for-one stock split of our own common stock effected in June
2001, as of December 31, 2000, Legg Mason, Inc. would beneficially own
5,524,436 shares of our common stock, and would have sole voting power over
3,811,696 shares, shared voting power over 1,712,802 shares, sole
dispositive power over 0 shares and shared dispositive power over 5,524,456
shares of our common stock. Assuming that 93,295,938 shares of our common
stock were outstanding as of June 30, 2001, Legg Mason, Inc. would have
beneficially owned 5.9% of the our common stock as of June 30, 2001.
OWNERSHIP OF COMMON STOCK BY DIRECTORS AND OFFICERS
The following table sets forth, as of June 30, 2001, all shares of our
common stock which are deemed to be beneficially held by each director, our
Chief Executive Officer, our next four most highly compensated executive
officers, and our directors and all current executive officers as a group. These
numbers have been adjusted to reflect our two-for-one stock split of our common
stock effected in June 2001.
NUMBER OF
SHARES PERCENTAGE
BENEFICIALLY OF
BENEFICIAL OWNER OWNED(1)(2) CLASS(3)
---------------- ------------ ----------
Herbert Wender.............................................. 410,250 *
Frank P. Filipps............................................ 516,070 *
C. Robert Quint............................................. 109,638 *
Roy J. Kasmar............................................... 174,336 *
Andrew Luczakowsky.......................................... 65,932 *
David C. Carney............................................. 48,400 *
James W. Jennings........................................... 46,400 *
Robert W. Richards.......................................... 37,100 *
Anthony W. Schweiger........................................ 34,200 *
Claire M. Fagin............................................. 25,200 *
Ronald W. Moore............................................. 31,200 *
Howard S. Yaruss............................................ 26,755 *
Howard B. Culang............................................ 4,000 *
Rosemarie B. Greco.......................................... 4,000 *
Stephen T. Hopkins.......................................... 4,000 *
All directors and current executive officers as a group (15
persons).................................................. 1,537,481 1.64%
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(1) Shares are beneficially owned by a person if such person, directly or
indirectly, has or shares (i) the voting power thereof, including the power
to vote or direct the voting of such shares, or (ii) the power to dispose or
direct the disposition of such shares. In addition, a person is deemed to
beneficially own any shares which such person has the right to acquire
beneficial ownership of within 60 days. Directors and officers have sole
voting and investment powers of the shares shown unless otherwise indicated.
(2) Includes: (i) shares allocable to employee contributions under our Savings
Incentive Plan as of January 31, 2001, as to which the employee has
dispositive power, (ii) shares that may be acquired within 60 days after the
ownership date reflected, upon exercise of employee and director stock
options, and (iii) phantom stock units to which vesting will occur under
certain circumstances.
(3) "*" indicates less than one percent of class.
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MANAGEMENT
The following table lists the names, ages and positions of all our
directors and executive officers as of the date of this prospectus. There are no
family relationships between any director or executive officer and any other
director or executive officer. Executive officers serve at the discretion of the
board of directors.
NAME AGE POSITION
---- --- --------
Frank P. Filipps............ 54 Chairman of the Board of Directors, Chief Executive
Officer and Director
Roy J. Kasmar............... 45 President, Chief Operating Officer and Director
C. Robert Quint............. 41 Executive Vice President, Chief Financial Officer
Howard S. Yaruss............ 43 Senior Vice President, Secretary and General Counsel
Herbert Wender.............. 64 Lead Director and Chairman of the Executive Committee
David C. Carney............. 64 Director
Howard B. Culang............ 54 Director
Claire M. Fagin............. 74 Director
Rosemarie Greco............. 55 Director
Stephen T. Hopkins.......... 51 Director
James W. Jennings........... 64 Director
Ronald W. Moore............. 56 Director
Robert W. Richards.......... 58 Director
Anthony W. Schweiger........ 59 Director
Mr. Filipps is our Chief Executive Officer and has been the Chairman of our
Board of Directors since June 1999. He joined us, as Senior Vice President and
Chief Financial Officer in November 1992, and became Executive Vice President
and Chief Operating Officer in 1994. In January 1995 he became our President and
Chairman of the Board, President and Chief Executive Officer of Radian Guaranty.
In January 1996 Mr. Filipps was named our Chief Executive Officer. From 1975
until October 1992 he was an executive with American International Group, Inc.,
an insurance holding company, serving as Vice President and Treasurer from 1989
to 1992. He has been a director of Impac Mortgage Holdings since November 1995.
He has been our director since May 1995.
Mr. Kasmar has been our President and Chief Operating Officer since June
1999. He joined Amerin Guaranty as Executive Vice President and Chief Operating
Officer in May 1996 and became President and Chief Operating Officer of Amerin
Guaranty in November 1997. From 1988 to 1996 he was a member of the Operating
Committee and managing director of the Capital Markets group with Prudential
Home Mortgage. He served as Chief Operating Officer and Vice President in charge
of secondary marketing of First Boston Capital Group from 1984 to 1988. Prior to
that he served as Vice President in charge of secondary marketing of Chase Home
Mortgage from 1981 to 1984. He has been a director of Amerin Guaranty since
December 1996, and he was a director of Amerin Corporation from September 1998
until it merged with and into us in June 1999 at which time he became our
director.
Mr. Quint was named our Executive Vice President, Chief Financial Officer
in April 1999. He was named our Senior Vice President and Chief Financial
Officer in January 1996. He joined Radian Guaranty as Vice President,
Administration and Controller in August 1990. In July 1992 he became our Vice
President, Administration and Controller. In January 1995, he was named our Vice
President, Finance and Controller and of Radian Guaranty. From June 1987 until
August 1990 he served as an Assistant Controller for Reliance Development Group,
a commercial real estate developer.
Mr. Yaruss joined us and Radian Guaranty in July 1997 as Senior Vice
President, Secretary and General Counsel. From July 1991 until July 1997 he
served as Vice President and Assistant General Counsel of Capital Reinsurance
Company, a reinsurance company.
Mr. Wender has been our Lead Director and Chairman of the Executive
Committee since June 1999. He served as our Chairman of the Board of Directors
from August 1992 to June 1999. He was Chairman of the
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Board and Chief Executive Officer of Radian Guaranty from June 1983 until July
1992. Mr. Wender was a director of LandAmerica Financial Group, Inc. from
February 1998 to December, 2000 and served as its Vice Chairman from February
1998 through May 1999. He was Chairman of the Board and Chief Executive Officer
of Commonwealth Land Title Insurance Company, a title insurance company, from
June 1983 until February 1998. He has been our director since July 1992.
Mr. Carney has been Chairman of the Board of Directors of ImageMax, Inc.
since 1999 and has been a director of ImageMax, Inc. since 1997. He served as
Executive Vice President of Jefferson Health Systems from October 1996 until May
1999. From April 1995 until October 1996 he was Chief Executive Officer of D.C.
Carney Consulting Service. He served as Chief Financial Officer of CoreStates
Financial Corp., a banking and financial services holding company from April
1991 until April 1995. Mr. Carney is a Certified Public Accountant and served as
Philadelphia Area Managing Partner for Ernst & Young from 1980 through 1991. He
has served as a director of AAA MidLantic and Keystone Insurance Companies since
1996. He has been our director since November 1992.
Mr. Culang has been President of Laurel Corporation, a financial services
firm, since January 1996. He has been President of Worldstories, LLC, a
development stage Internet company since February 1999. From January 1994 to
December 1995, he was Vice Chairman of Residential Services Corporation of
America, the holding company for Prudential Home Mortgage, Lender's Service,
Inc. and Prudential Real Estate Affiliates. He has been a director of Smart
Storage Inc. since 1997. He has been our director since June 1999.
Dr. Fagin is Dean Emerita and Professor Emerita of the School of Nursing,
University of Pennsylvania and is currently an independent consultant. She has
been associated with the University of Pennsylvania since 1977, where she served
as Interim President from 1993 to 1994. From 1977 through 1992 she was the Dean
of the School of Nursing of the University of Pennsylvania. She was a director
of Salomon Inc. from 1994 until the end of 1997, when it was acquired by
Travelers Group. She serves on the Advisory Committee of Provident Mutual Life
Insurance Company where she retired from her directorship in December 1996. She
has been our director since July 1994.
Ms. Greco is a Principal of GRECOventures, a business, consulting and
investment partnership. She served as President of CoreStates Financial Corp.,
the parent company of Corestates Bank from May 1996 until July 1997 and
President and Chief Executive Officer of CoreStates Bank, a financial
institution, from August 1994 to August 1997. She also served as Chief Banking
Officer of CoreStates Financial Corp. from August 1994 to May 1996, and as Chief
Retail Services Officer from October 1993 to August 1994. She was a bank
director from April 1992 to August 1997. Ms. Greco is also a director of Sunoco,
Inc., PECO Energy Company and Preit-Rubin Inc. She has been our director since
June 1999.
Mr. Hopkins is President of Hopkins and Company LLC, a management
consulting business he formed in February 1999. From January 1976 to January
1999, he held a number of managerial positions with Federal Home Loan Mortgage
Corporation ("Freddie Mac"), serving as Senior Vice President and National Sales
Director from April 1994 through August 1998. He has been our director since
June 1999.
Mr. Jennings has been a partner in the Philadelphia office of the law firm
of Morgan, Lewis & Bockius LLP since 1970. He has been our director since
January 1993.
Mr. Moore has been an Adjunct Professor of Business Administration,
Graduate School of Business Administration, Harvard University since 1990. He is
a director of Orion Capital Corporation. Mr. Moore has been our director since
November 1992.
Mr. Richards was Chairman of the Board of Directors of Source One Mortgage
Services Corporation, a mortgage banking company, from 1989 until his retirement
in 1996. He held a number of managerial positions with Source One from 1971
through 1996, serving as President from 1987 to 1989. He has been our director
since November 1992.
Mr. Schweiger is the President of The Tomorrow Group, LLC, which provides
specialized financial and management services for complex and
strategic/turnaround business issues. As a consultant, he has served as the
senior acting manager in a variety of businesses including Acting COO for
WineAccess, a development
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stage infomediary from May 1998 to March 1999 and Acting Chief Executive Officer
for Care Systems in 1995. He was Managing Director of the Stafford Companies, an
investment banking firm from November 1994 until April 1995. From November 1993
through August 1994, he served as the Executive Vice President of First
Advantage Mortgage Corporation, a mortgage banking company. Prior to that, he
served as the President and Chief Executive Officer of Meridian Mortgage
Corporation, from 1987 until 1993 and the Executive Vice President/Chief
Operating Officer from that company's inception in 1983. He has been our
director since November 1992.
DIRECTOR'S COMPENSATION
Mr. Wender receives, as compensation for his services as our Lead Director,
stock options with a present value on the date of grant of $100,000 per year,
payable annually. All of our other directors who did not serve as our officers
received an annual fee for their services of $20,000, a $2,000 annual fee for
serving as the chairman of a committee, a $1,500 fee for each board of directors
meeting, a $1,500 fee for each committee meeting attended not in conjunction
with a board of directors meeting and a $500 fee for each committee meeting
attended in conjunction with a board of directors meeting attended. In addition,
non-employee directors are reimbursed for their out-of-pocket expenses incurred
in connection with a board of directors or committee meeting. Directors who are
employees do not receive additional compensation for such service. Each
non-employee director automatically receives an annual grant of 400 units of
phantom stock at full value exercisable upon their departure from the board of
directors. Each director also receives a non-qualified stock option grant under
our stock option plan to acquire 1,200 shares of our common stock at the fair
market value of the common stock on the date of the grant. These options become
vested and fully exercisable on the first anniversary of the date of the grant,
provided that the optionee is a director of us on such anniversary date. Options
are exercisable for ten years after the date of the grant, provided that the
optionee remains our director. The exercise price of these options is 100% of
the fair market value of the common stock on the date of the grant.
EXECUTIVE COMPENSATION
The following table sets forth certain information for the years ended
December 31, 2000, 1999 and 1998 as to the compensation of (i) our Chief
Executive Officer, (ii) our four most highly compensated executive officers
other than the Chief Executive Officer, and (iii) Mr. Albert V. Will who would
have been included in the former group had he not resigned as an executive
officer in August 2000.
SUMMARY COMPENSATION TABLE
LONG TERM
COMPENSATION
AWARDS
------------
SECURITIES
ANNUAL COMPENSATION UNDERLYING ALL OTHER
----------------------- OPTIONS/ COMPEN-
NAME AND PRINCIPAL POSITION YEAR SALARY(1) BONUS(2)(3) SARS* SATION(4)
--------------------------- ---- --------- ----------- ------------ ---------
Frank P. Filipps.................... 2000 $530,000 $737,000 248,764(5)(6)(7) $ 47,634
Chairman of the Board and 1999 $500,000 $750,000 135,000(8) $ 21,979
Chief Executive Officer 1998 $400,000 $600,000 85,000 $ 19,920
Roy J. Kasmar....................... 2000 $397,500 $399,487 87,236(5)(6) $ 75,870
President and Chief Operating
Officer 1999 $336,828 $475,000 60,000 $137,836
1998 $275,000 $325,000 36,690(9) $ --
C. Robert Quint..................... 2000 $237,500 $198,906 43,604(5)(6) $ 18,361
Executive V.P., Chief Financial
Officer 1999 $225,000 $247,500 37,000(8) $ 15,862
1998 $180,000 $225,000 32,000 $ 15,387
Albert V. Will...................... 2000 $167,304 $146,667 0 $258,365(11)
Executive V.P. Sales -- Radian(10) 1999 $220,000 $200,000 34,000 $ 8,000
1998(12) $ 78,557 $145,754 49,420(9) $ 17,250
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LONG TERM
COMPENSATION
AWARDS
------------
SECURITIES
ANNUAL COMPENSATION UNDERLYING ALL OTHER
----------------------- OPTIONS/ COMPEN-
NAME AND PRINCIPAL POSITION YEAR SALARY(1) BONUS(2)(3) SARS* SATION(4)
--------------------------- ---- --------- ----------- ------------ ---------
Andrew R. Luczakowsky(13)........... 2000 $176,800 $127,500 16,000(5) $ 15,390
Senior V.P., Information Technology 1999 $163,266 $ 90,000 15,000(8) $ 7,945
1998 $150,000 $ 53,250 13,000 $ 6,810
Howard S. Yaruss.................... 2000 $183,750 $137,812 26,658(5)(6) $ 17,446
Sr. V.P., Secretary & General
Counsel 1999 $175,000 $131,250 19,500(8) $ 18,400
1998 $150,000 $112,500 16,000 $ 18,400
---------------
* Share totals reflect adjustments for our two-for-one stock split effected
in June 2001.
(1) Includes employee contributions to the Radian Group Savings Incentive Plan.
(2) Bonus amounts are for services rendered in the calendar year noted but paid
in the subsequent year.
(3) All or a portion of the bonus may have been deferred pursuant to the terms
of the Radian Group Deferred Compensation Plan.
(4) Includes matching contributions under the Radian Group Savings Incentive
Plan, relocation expenses and other fringe benefits.
(5) Options were granted on January 22, 2001 in consideration for 2000
performance.
(6) Includes phantom stock units granted in January 2001.
(7) Includes Mr. Filipps' reload grants totaling 75,412 options as a result of
several stock swap and reload transactions which occurred in 2000.
(8) Includes phantom stock units granted in December 1999.
(9) Number of shares underlying options have been adjusted to reflect the June
1999 merger with Amerin Corporation.
(10) Mr. Will resigned as an executive officer effective August 31, 2000.
(11) Includes $250,000 in severance pay pursuant to Change of Control agreement
that Mr. Will had with Amerin Corporation.
(12) Indicates employment commenced during the first year for which a salary is
provided.
(13) Mr. Luczakowsky was not one of the four most highly compensated executive
officers prior to the year 2000.
The following table sets forth certain information concerning grants of
stock options made during the year ended December 31, 2000 to (i) our chief
executive officer, (ii) our four most highly compensated executive officers
other than the chief executive officer, and (iii) Mr. Albert V. Will who would
have been included in the former group had he not resigned as an executive
officer in August 2000.
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OPTION GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS(1)
-------------------------------------------------
NUMBER OF % OF TOTAL
SECURITIES OPTIONS/SARS POTENTIAL REALIZABLE VALUE AT ASSUMED
UNDERLYING GRANTED TO ANNUAL RATES OF STOCK PRICE APPRECIATION
OPTIONS EMPLOYEES EXERCISE FOR OPTION TERM (10 YEARS)(2)
GRANTED/ IN FISCAL OR BASE EXPIRATION ----------------------------------------
NAME SARS YEAR PRICE DATE 0% 5% 10%
---- ---------- ------------ -------- ---------- ---------- ------------ ------------
Frank P. Filipps....... 120,000 13% $21.03 01/18/10 -- $1,587,173 $4,022,208
16,494(3) 1.79% $18.03 11/20/02 -- $ 187,038 $ 473,991
25,782(3) 2.8% $31.59 11/20/02 -- $ 512,266 $1,298,183
33,136(3) 3.6% $31.59 01/20/04 -- $ 658,384 $1,668,474
Roy J. Kasmar.......... 60,000 6.5% $21.03 01/18/10 -- $ 793,586 $2,001,104
C. Robert Quint........ 34,000 3.69% $21.03 01/18/10 -- $ 449,699 $1,139,626
Albert V. Will(4)...... 34,000 3.69% $21.03 01/18/10 -- $ 449,699 $1,139,626
Andrew Luczakowsky..... 16,000 1.74% $21.03 01/18/10 -- $ 211,623 $ 536,294
Howard S. Yaruss....... 17,500 1.9% $21.03 01/18/10 -- $ 231,463 $ 586,572
---------------
(1) All options disclosed in this table vest in four equal installments on each
anniversary of January 18 in 2002, 2003, 2004 and 2005. The options have a
reload feature whereby options exercised may be paid for with previously
owned mature shares of common stock and a regrant of the number of shares
equal to those mature shares exchanged will occur at the then current fair
market value for the remaining term of the original option grant. Share
totals and exercise prices have been adjusted to reflect our two-for-one
stock split effected in June 2001.
(2) The dollar amounts under these columns are the result of calculations at 0%,
5% and 10% rates set by the Securities and Exchange Commission by rule and
therefore are not intended to and do not forecast possible future
appreciation in the value of our common stock. The applicable rules of the
Securities and Exchange Commission permit us to use an alternative formula
for a grant date valuation, an approach which would state gains at present,
and therefore lower, value. However, we did not use such alternate formula.
(3) These stock options were granted as reloads as a result of the exercise of
options by Mr. Filipps using previously owned shares of our common stock.
(4) Mr. Will resigned as an executive officer effective August 31, 2000 and the
granted options represented in this table were cancelled upon termination of
employment.
The following table sets forth certain information concerning exercises of
stock options during the year ended December 31, 2000 and the value of
unexercised stock options at December 31, 2000 for (i) our Chief Executive
Officer, (ii) our four most highly compensated executive officers other than the
Chief Executive Officer, and (iii) Albert V. Will who would have been included
in the former group had he not resigned as an executive officer in August, 2000.
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AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND
FISCAL YEAR END OPTION/SAR VALUES(1)
VALUE OF UNEXERCISED
NUMBER OF SECURITIES IN-THE-MONEY
UNDERLYING OPTIONS/SARS OPTIONS/SARS
SHARES AT DECEMBER 31, 2000(2) AT DECEMBER 31, 2000
ACQUIRED VALUE --------------------------- ---------------------------
NAME ON EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ----------- ---------- ----------- ------------- ----------- -------------
Frank P. Filipps......... 77,925 $3,600,567(3) 349,562 255,000 $7,947,593 $2,588,188
Roy J. Kasmar............ 83,142 $1,742,440 167,098 60,000 $2,391,442 $ 990,000
C. Robert Quint.......... -- -- 166,500 92,500 $4,635,813 $1,558,438
Albert V. Will(4)........ 24,710 $ 776,221 -- -- -- --
Andrew Luczakowsky....... -- -- 58,000 35,500 $1,573,338 $ 584,219
Howard S. Yaruss......... -- -- 16,000 54,900 $ 195,515 $ 501,171
---------------
(1) At December 31, 2000, the closing price of a share of our common stock on
the New York Stock Exchange was $75.0625. All share totals, other than
"Shares Acquired on Exercise," are adjusted for our two-for-one stock split
effected in June 2001.
(2) There is a reload feature attached to outstanding option grants whereby
options exercised may be paid for with previously owned mature shares of
common stock and a regrant of the number of shares equal to those mature
shares exchanged will occur at the then current fair market value for the
remaining term of the original option grant.
(3) Shares were exercised pursuant to a stock swap and subsequent reload.
(4) Mr. Will resigned as an executive officer effective August 31, 2000.
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CHANGE OF CONTROL AGREEMENTS
See "Certain Transactions" for a description of change of control
agreements between us and our executive officers.
RADIAN GROUP DEFERRED COMPENSATION PLAN
In October 1999, our Board of Directors approved a deferred compensation
plan which we refer to as the Radian Group Deferred Compensation Plan, for
certain key officers. The Radian Group Deferred Compensation Plan affords the
key officers the opportunity to elect to defer receipt of their annual bonus
monies. This program provides a way for key officers to defer income and tax
liability while earning a rate of return equal to either (i) 200 basis points
above the U.S. 30-year Treasury rate or (ii) our return on equity.
RADIAN GROUP PENSION PLAN AND SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN
Our Board of Directors has established our Pension Plan. The Radian Group
Pension Plan is intended to be tax-qualified under Section 401(a) of the
Internal Revenue Code. All salaried and hourly employees are eligible to
participate in the Radian Group Pension Plan upon the attainment of 20 1/2 years
of age and one year of eligible service. A participant is generally fully vested
after five years of service subsequent to age 18. A separate pension plan is in
effect for the employees of Enhance Financial Services and is described below.
The amount of the annual normal retirement benefit of a participant is the
sum of (i) 1.1% of his average base salary (up to a statutory maximum equal to
$170,000 in 2000) for the five consecutive calendar years for which such average
is highest, referred to here as his "Average Annual Salary," multiplied by his
number of years of credited service not in excess of 35 years, plus (ii) 0.5% of
the participant's Average Annual Salary in excess of the average of the annual
Social Security taxable wage bases in effect for each of the 35 calendar years
ending with the calendar year in which he attains Social Security retirement age
multiplied by his number of years of credited service not in excess of 35 years,
plus (iii) 0.5% of the participant's Average Annual Salary multiplied by his
number of years of credited service in excess of 35 years.
In January 1997, our Board of Directors established a nonqualified
Supplemental Executive Retirement Plan, which we refer to as SERP, for selected
senior officers. This plan is intended to provide certain officers with a
supplemental retirement program to the qualified pension plan. The difference
between the SERP and the qualified pension plan is that the SERP is not subject
to the statutory cap on compensation that may be taken into account for the
calculation of benefits ($170,000 in 2000) and the statutory cap on actual
benefits ($135,000 in 2000). The benefit under the SERP is determined using the
same formula as that under the qualified pension plan but is based on total
compensation (inclusive of salary and bonus) up to 150% of average base pay for
the three consecutive calendar years for which such base pay is the highest.
The following table sets forth the approximate annual pension that a
full-time employee, including an officer, may receive under the Radian Group
Pension Plan, assuming selection of a single life annuity and retirement at age
65, based on the indicated assumptions as to Average Annual Salary and years of
credited service. The following table assumes that we were in existence for the
entire year of 1992. Benefits shown in the following table in excess of $135,000
are payable by us only to persons designated by the Board of Directors as
eligible to participate in the SERP.
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YEARS OF CREDITED SERVICE
------------------------------------------------------------------
REMUNERATION 5 10 15 20 25 30 35
------------ ------ ------- ------- ------- ------- ------- -------
$ 100,000 7,100 14,200 21,300 28,400 35,500 42,600 49,700
$ 150,000 11,100 22,200 33,300 44,400 55,500 66,600 77,700
$ 170,000 12,700 25,400 38,100 50,800 63,500 76,200 88,900
$ 200,000 15,100 30,200 45,300 60,400 75,500 90,600 105,700
$ 250,000 19,100 38,200 57,300 76,400 95,500 114,600 133,700
$ 300,000 23,100 46,200 69,300 92,400 115,500 138,600 161,700
$ 500,000 39,100 78,200 117,300 156,400 195,500 234,600 273,700
$ 750,000 59,100 118,200 177,300 236,400 295,500 354,600 413,700
$1,000,000 79,100 158,200 237,300 316,400 395,500 474,600 553,700
For the year ended December 31, 2000, the base salary for purposes of the
Radian Group Pension Plan for the officers named in the Summary Compensation
Table is set forth in the salary column of the Summary Compensation Table. The
credited years in service as of December 31, 2000 for each such officer is as
follows: Mr. Filipps -- 8 years; Mr. Kasmar -- 5 years; Mr. Luczakowsky -- 19
years; Mr. Yaruss -- 4 years and Mr. Quint -- 17 years.
ENHANCE FINANCIAL SERVICES PENSION PLAN AND RESTORATION PLAN
Enhance Financial Services maintains a defined benefit pension plan which
is intended to be a tax-qualified plan under Section 401(a) of the Internal
Revenue Code of 1986, as amended. All of Enhance Financial Services' employees
(other than Singer Asset Finance Company, LLC and Van-American Companies, Inc.)
who have attained age 21 and who have completed at least one year of service are
eligible to participate in the Enhance Financial Services Pension Plan. The
Enhance Financial Services Pension Plan provides a normal retirement benefit at
normal retirement, which is the earlier of the date on which a participant (a)
has attained age 65 and completed five years of participation or (b) has
attained age 62 and completed 10 years of participation, equal to 2.25% of the
participant's compensation multiplied by his or her years of service up to his
or her first 15 years, plus 1.75% of the participant's compensation multiplied
by his or her years of service for his or her next 10 years, plus 1% of the
participant's compensation multiplied by his or her years of service for his or
her next five years. Compensation is defined as the average of the participant's
three highest consecutive years of earnings. A participant whose service
terminates prior to normal retirement is eligible for a benefit at the normal
retirement date based on the participant's compensation and years of service at
the date of termination multiplied by the vested percentage. The actuarial
equivalent of the vested benefit may be distributed in a lump sum prior to
normal retirement age. The vested percentage of a participant increases 20% per
year beginning after two years of service, so that his or her vested percentage
is 100% after six years. For purposes of determining a participant's retirement
benefit and vested percentage, "years of service" and "years of participation,"
while not synonymous, include service with Enhance Financial Services and
certain service with predecessor employers.
The following table illustrates annual pension benefits payable under the
Enhance Financial Services Pension Plan assuming retirement at normal retirement
age at various levels of compensation and years of service. These benefits are
based on a straight life annuity and are not subject to any deduction for Social
Security or other offset amounts.
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ENHANCE FINANCIAL SERVICES/PENSION PLAN TABLE
-----------------------------------------------------------
HIGHEST YEARS OF SERVICE
AVERAGE -----------------------------------------------------------
EARNINGS 15 20 25 30 35*
-------- ------- ------- ------- ------- -------
$100,000 $33,750 $42,500 $51,250 $56,250 $56,250
125,000 42,188 53,125 64,063 70,313 70,313
150,000 50,625 63,750 76,875 84,375 84,375
175,000(2) 59,063 74,375 89,688 98,438 98,438
200,000(2) 67,500 85,000 102,500 112,500 112,500
225,000(2) 75,938 95,625 115,313 126,563 126,563
250,000(2) 84,375 106,250 128,125 140,625(1) 140,625(1)
300,000(2) 101,250 127,500 153,750(1) 168,750(1) 168,750(1)
400,000(2) 135,000(1) 170,000(1) 205,000(1) 225,000(1) 225,000(1)
450,000(2) 151,875(1) 191,250(1) 230,625(1) 253,125(1) 253,125(1)
500,000(2) 168,750(1) 212,500(1) 256,250(1) 281,250(1) 281,250(1)
---------------
* Plan limits service to 30 years for benefit purposes.
(1) These are hypothetical benefits based upon the Enhance Financial Services
Pension Plan's normal retirement benefit formula. The maximum annual benefit
permitted under Section 415 of the Internal Revenue Code in 1999 and 2000 is
$130,000.
(2) The benefits shown corresponding to these compensation ranges are
hypothetical benefits based upon the Enhance Financial Services Pension
Plan's normal retirement benefit formula. Under Section 401(a)(17) of the
Internal Revenue Code, a participant's compensation in excess of a specified
maximum, as may change from time to time in the future, known as the code
maximum, is disregarded for purposes of determining highest average
earnings. The specified maximum amount, as adjusted to reflect cost of
living increases, was $235,840 for the plan year beginning November 1, 1993,
decreased to $150,000 for plan years beginning November 1, 1994, November 1,
1995 and November 1, 1996, increased to $160,000 for plan years beginning
November 1, 1997, November 1, 1998 and November 1, 1999, and will increase
to $170,000 for plan years beginning November 1, 2000.
In addition, Enhance Financial Services adopted, effective July 1, 1999, a
non-qualified restoration pension plan. All employees of Enhance Financial
Services eligible to participate in the Enhance Financial Services Pension Plan
and who receive total annual compensation in excess of the code maximum and
above are eligible to participate in the Enhance Financial Services Restoration
Plan. The Enhance Financial Services Restoration Plan provides a retirement
benefit supplemental to benefits provided by the Enhance Financial Services
Pension Plan equal to 1.75% of the participant's compensation above the code
maximum multiplied by his or her years of service up to his or her first 25
years, plus 1.0% of the participant's compensation above the code maximum
multiplied by his or her years of service for his or her next five years.
Compensation is defined as the average of the participant's three highest
consecutive years of earnings. The vested percentage of a participant will be
the lower of (a) 20% per year of service beginning after two years of service so
that his or her vested percentage is 100% after six years, and (b) any other
rate per year as will cause a given participant to be fully vested at age 60.
For purposes of determining a participant's retirement benefit and vested
percentage, "years of service" and "years of participation," while not
synonymous, include service with Enhance Financial Services and certain service
with predecessor employers. Also, for purposes of the Enhance Financial Services
Restoration Plan, in addition to each such executive officer's actual years of
service, upon becoming fully vested under the terms of the Enhance Financial
Services Pension Plan a former officer of Enhance Financial Services was
credited with five additional years of service, and each other participant in
the Enhance Financial Services Restoration Plan who is or subsequently becomes
an executive officer of Enhance Financial Services at the level of Executive
Vice President and above will be credited with additional years of employment
services under the Enhance Financial Services Restoration Plan equal to the
excess of five over the actual years of employment service credited to that
officer under the Enhance Financial Services Restoration Plan prior to its
effective date.
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CERTAIN TRANSACTIONS
Prior to our initial public offering in October 1992, we and Radian
Guaranty were indirect subsidiaries of Reliance Group Holdings, Inc. Mr. Wender,
our Lead Director, was Chairman of the Board and Chief Executive Officer of
Commonwealth Land Title Insurance Company, an indirect subsidiary of Reliance
Group Holdings at that time.
Concurrently with the offering, Commonwealth Land Title purchased 800,000
shares of our $4.125 Preferred Stock for an aggregate purchase price of $40.0
million. On February 27, 1998, Commonwealth Land Title was acquired by
LandAmerica Financial Group, Inc. who, as successor to Commonwealth Land Title,
now owns the preferred stock. Dividends on the preferred stock are payable
quarterly and for the year ended December 31, 2000, totaled $3.3 million. The
preferred stock is redeemable, in whole or from time to time in part, at our
option, at $54.125 per share beginning on August 15, 2002, and declining to
$50.00 per share on August 15, 2005. On August 15 of each year beginning in
2002, we are obligated, to the extent we have funds legally available therefore,
to redeem 72,000 shares (80,000 shares in 2012) at a redemption price of $50.00
per share. In the event that dividends on the preferred stock are in arrears and
unpaid in an amount equal to six quarterly dividends, the size of our Board of
Directors will be increased by two to permit the holders of the preferred stock,
voting separately as a class, to elect two directors. We may not consummate any
fundamental transaction (such as a merger, consolidation, sale of assets or
similar transaction on which the holders of our common stock are entitled to
vote) unless the transaction is approved by two-thirds of the outstanding shares
of the preferred stock. In connection with the sale of preferred stock, we
granted to Commonwealth Land Title certain rights to register the preferred
stock under the Securities Act of 1933.
We have entered into change of control agreements with each of Messrs.
Frank P. Filipps, Roy J. Kasmar, Paul F. Fischer, Andrew Luczakowsky, C. Robert
Quint, Scott C. Stevens, R. Bruce Van Fleet and Howard S. Yaruss. The change of
control agreements have initial terms of three years and upon expiration of that
period will be automatically extended for successive one-year terms, unless
terminated by either party. The change of control agreements provide that in the
event that, within two years after a change in control of us or Radian Guaranty,
the executive's employment is terminated (i) by us for any reason other than (1)
the executive's continued illness, injury or incapacity for a period of twelve
consecutive months or (2) for cause, which means misappropriation of funds,
habitual insobriety, substance abuse, conviction of a crime involving moral
turpitude, or gross negligence in the performance of duties, which gross
negligence has had a material adverse effect on our business, operations,
assets, properties or financial condition and our subsidiaries taken as a whole,
or (ii) by the executive in the event of relocation or certain specified adverse
changes in employment status and compensation, the executive would be entitled
to a lump-sum cash payment equal to 2.0 times (1) the executive's then current
annual base compensation plus (2) the target bonus for the year in which a
termination occurs. Additionally, upon a change of control (as defined in the
agreements), all options not then vested would fully vest, and any restricted
stock previously granted to the executive which has not yet vested or become
freely transferable would become fully vested and freely transferable.
We have entered into an employment agreement with Mr. Roy J. Kasmar. The
employment agreement has a two-year term which commenced on April 9, 1999. It
provides Mr. Kasmar with a base salary of $375,000 per year, a target bonus of
$475,000 per year, a minimum bonus of $237,500 in 1999 and 2000, the right to be
nominated as a director as long as he is employed by us, reimbursement for
relocation expenses in connection with his move to our headquarters in
Philadelphia, severance in the event his employment is terminated under certain
circumstances during the term of the agreement and certain fringe benefits
commensurate to those provided to our other senior executives.
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THE EXCHANGE OFFER
PURPOSE AND EFFECT OF EXCHANGE OFFER; REGISTRATION RIGHTS
We sold the old debentures on May 29, 2001, in an unregistered private
placement to a group of investment banks that served as the initial purchasers.
The initial purchasers then resold the old debentures under an offering circular
dated May 24, 2001, in reliance on Rule 144A under the Securities Act of 1933.
As a condition to the initial sale of the old debentures, we and the
initial purchasers entered into an exchange and registration rights agreement.
Pursuant to this agreement, we agreed to:
- file with the Commission, on or prior to 60 days following the date of
issuance of the old debentures, a registration statement under the
Securities Act with regard to registered debentures, called new
debentures, to be exchanged for the old debentures; and
- use our best efforts to cause the registration statement for these new
debentures to become effective as soon as practicable, but not later than
180 days after the date of issuance of the old debentures.
The exchange offer will be for a period of at least 30 days both beginning
and ending within 45 days of the registration statement becoming effective.
During this period, we will agree to exchange the new debentures for all old
debentures properly surrendered and not withdrawn before the expiration date of
this period.
If (1) the Commission interpretations are changed on or before completion
of the exchange offer such that the old debentures received by each holder,
except for certain restricted holders, are not or would not be transferable
without restriction, (2) the exchange offer has not been completed within 225
days after the date of issuance of the old debentures or (3) the exchange offer
is not available to any holder of old debentures, we will file a registration
statement for resale of the old debentures (for the relevant holder, in the case
of (3) above) as soon as practicable, but no later than 30 days after such
obligation arises, or as in the case of (3) above, 30 days after we are
notified. We will use our best efforts to cause the registration statement to
become effective not later than 120 days after filing and to keep the
registration effective for up to two years following the date of the issuance of
the old debentures or, if earlier, such time as the relevant holder (in the case
of (3) above) may sell its old debentures without registration under Rule 144 of
the Securities Act. We will provide to the holders of the old debentures copies
of the prospectus, notify them when the resale registration for the old
debentures has become effective and take other actions required to permit
unrestricted sales of the old debentures. A holder of the old debentures that
sells old debentures pursuant to the resale registration generally (i) would be
required to be named as a selling securityholder in the related prospectus and
to deliver a prospectus to the purchaser, (ii) would be subject to certain of
the civil liability provisions of the Securities Act in connection with such
sales and (iii) would be bound by the provisions of the exchange and
registration rights agreement that are applicable to such holder (including
certain indemnification obligations).
We will be in registration default if any of the following situations
occurs:
- we do not file a registration statement with the Commission on or before
the date on which we are required to file it pursuant to the exchange and
registration rights agreement;
- a registration statement we are required under the agreement to file has
not become effective or been declared effective by the Commission on or
before the applicable deadline in the agreement;
- if the agreement requires us to make the exchange offer, we do not
complete the exchange offer within 45 days after the initial effective
date of the related registration statement; or
- any registration statement required by the agreement is filed and
declared effective but we later withdraw it or the Commission issues an
effective stop order pursuant to Section 8(d) of the Securities Act
suspending its effectiveness (except as specifically permitted in the
agreement) without being succeeded immediately by an additional
registration statement filed and declared effective.
For such period as we are in registration default, in addition to the interest
normally payable on the old debentures, we will pay additional interest accruing
at an annual rate of 0.25% for the first 90 days of the
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registration default period, 0.50% for the second 90 days of the registration
default period, 0.75% for the third 90 days of the registration default period
and 1.0% thereafter until we cure the registration default.
TERMS OF THE EXCHANGE OFFER
For each of the old debentures properly surrendered and not withdrawn
before the expiration date of the exchange offer, a new debenture having a
principal amount equal to that of the surrendered old debenture will be issued.
The form and terms of the new debentures will be the same as the form and
terms of the old debentures except that:
- the new debentures will be registered under the Securities Act and,
therefore, the global securities representing the new debentures will not
bear legends restricting the transfer of interests in the new debentures;
and
- holders of the new debentures will not be entitled to any of the
registration rights of the holders of old debentures under the exchange
and registration rights agreement, which will terminate upon the
consummation of the exchange offer.
The new debentures will evidence the same indebtedness as the old
debentures they replace, and will be issued under, and be entitled to the
benefits of, the same indenture that authorized the issuance of the old
debentures. As a result, the old debentures and the new debentures will be
treated as a single class of debentures under the indenture.
We intend to conduct the exchange offer in accordance with the provisions
of the exchange and registration rights agreement and the applicable
requirements of the Exchange Act and the related rules and regulations of the
Commission.
Under existing Commission interpretations, the new debentures would
generally be freely transferable after the exchange offer without further
registration under the Securities Act, except that broker-dealers receiving the
new debentures in the exchange offer will be subject to a prospectus delivery
requirement with respect to their resale. This view is based on interpretations
by the staff of the Commission in no-action letters issued to other issuers in
exchange offers like this one. We have not, however, asked the Commission to
consider this particular exchange offer in the context of a no-action letter.
Therefore, the Commission might not treat it in the same way it has treated
other exchange offers in the past. You will be relying on the no-action letters
that the Commission has issued to third parties in circumstances that we believe
are similar to ours. Based on these no-action letters, the following conditions
must be met:
- you must acquire the new debentures in the ordinary course of your
business;
- you must have no arrangements or understanding with any person to
participate in the distribution of the new debentures within the meaning
of the Securities Act; and
- you must not be an "affiliate of ours," as defined in Rule 405 of the
Securities Act.
If you wish to exchange old debentures for new debentures in the exchange
offer you must represent to us that you satisfy all of above listed conditions.
If you do not satisfy all of the above listed conditions:
- you cannot rely on the position of the Commission set forth in the
no-action letters referred to above; and
- you must comply with the registration and prospectus delivery
requirements of the Securities Act in connection with a resale of the new
debentures.
The Commission considers broker-dealers that acquired old debentures
directly from us, but not as a result of market-making activities or other
trading activities, to be making a distribution of the new debentures if they
participate in the exchange offer. Consequently, these broker-dealers must
comply with the registration and prospectus delivery requirements of the
Securities Act in connection with a resale of the new debentures.
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A broker-dealer that has bought old debentures for market-making or other
trading activities must deliver a prospectus in order to resell any new
debentures it receives for its own account in the exchange offer. The prospectus
may be used by a broker-dealer to resell any of its new debentures. We have
agreed in the registration rights agreement to send a prospectus to any
broker-dealer that requests copies in the notice and questionnaire for a period
of up to 180 days after the registration statement relating to this exchange
offer is declared effective.
Except as described above, you may not use this prospectus for an offer to
resell, resale or other retransfer of new debentures. We are not making this
exchange offer to, nor will we accept tenders for exchange from, holders of old
debentures in any jurisdiction in which the exchange offer or the acceptance of
it would not be in compliance with the securities or blue sky laws of that
jurisdiction.
EXPIRATION DATE; EXTENSIONS; AMENDMENTS
The expiration date for the exchange offer is 5:00 p.m., Philadelphia time,
on November 11, 2001. We may extend this expiration date in our sole discretion,
but in no event to a date later than November 26, 2001. If we so extend the
expiration date, the term "expiration date" shall mean the latest date and time
to which we extend the exchange offer.
We reserve the right, in our sole discretion:
- to delay accepting any old debentures;
- to extend the exchange offer;
- to terminate the exchange offer if, in our sole judgment, any of the
conditions described below shall not have been satisfied; or
- to amend the terms of the exchange offer in any manner.
We will give oral or written notice of any delay, extension or termination
to the exchange agent. In addition, we will give, as promptly as practicable,
oral or written notice regarding any delay in acceptance, extension or
termination of the offer to the registered holders of old debentures. If we
amend the exchange offer in a manner that we determine to constitute a material
change, or if we waive a material condition, we will promptly disclose the
amendment or waiver in a manner reasonably calculated to inform the holders of
old debentures of the amendment, and extend the offer if required by law.
Without limiting the manner in which we may choose to make public
announcements of any delay in acceptance, extension, termination, amendment or
waiver regarding the exchange offer, we shall have no obligation to publish,
advertise, or otherwise communicate any public announcement, other than by
making a timely release to a financial news service.
INTEREST ON THE NEW DEBENTURES
Interest on the new debentures will accrue at the rate of 7.75% per annum
on the principal amount, payable semiannually in arrears on June 1 and December
1, commencing on December 1, 2001. In order to avoid duplicative payment of
interest, all interest accrued on old debentures that are accepted for exchange
before November 11, 2001 will be superseded by the interest that is deemed to
have accrued on the new debentures from May 29, 2001 through the date of the
exchange.
CONDITIONS TO THE EXCHANGE OFFER
Despite any other term of the exchange offer, we will not be required to
accept for exchange, or exchange new debentures for, any old debentures and we
may terminate the exchange offer as provided in this prospectus before the
acceptance of the old debentures, if:
- the exchange offer, or the making of any exchange by a holder, violates,
in our good faith determination, any applicable law, rule or regulation
or any applicable interpretation of the staff of the Commission;
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- any action or proceeding shall have been instituted or threatened with
respect to the exchange offer which, in our judgment, would impair our
ability to proceed with the exchange offer; or
- we have not obtained any governmental approval which we, in our sole
discretion, consider necessary for the completion of the exchange offer
as contemplated by this prospectus.
The conditions listed above are for our sole benefit and we may assert them
regardless of the circumstances giving rise to any of these conditions. We may
waive these conditions in our sole discretion in whole or in part at any time. A
failure on our part to exercise any of the above rights shall not constitute a
waiver of that right, and that right shall be considered an ongoing right which
we may assert at any time and from time to time.
If we determine in our sole discretion that any of the events listed above
has occurred, we may, subject to applicable law:
- refuse to accept any old debentures and return all tendered old
debentures to the tendering holders;
- extend the exchange offer and retain all old debentures tendered before
the expiration of the exchange offer, subject, however, to the rights of
holders to withdraw these old debentures; or
- waive unsatisfied conditions relating to the exchange offer and accept
all properly tendered old debentures which have not been withdrawn.
Any determination by us concerning the above events will be final and binding.
In addition, we reserve the right in our sole discretion to:
- purchase or make offers for any old debentures that remain outstanding
subsequent to the expiration date; and
- to the extent permitted by applicable law, purchase old debentures in the
open market, in privately negotiated transactions or otherwise.
The terms of any such purchases or offers may differ from the terms of the
exchange offer.
PROCEDURES FOR TENDERING
Except in limited circumstances, only a Euroclear participant, Clearstream
participant or DTC participant listed on a DTC securities position listing with
respect to the old debentures may tender old debentures in the exchange offer.
To tender old debentures in the exchange offer:
- holders of old debentures that are DTC participants may follow the
procedures for book-entry transfer as set forth below under "Book-Entry
Transfer" and in the letter of transmittal.
- Euroclear participants and Clearstream participants on behalf of the
beneficial owners of old debentures are required to use book-entry
transfer pursuant to the standard operating procedures of Euroclear or
Clearstream. These procedures include the transmission of a
computer-generated message to Euroclear or Clearstream, in lieu of a
letter of transmittal. See the description of "agent's message" below
under "Book-Entry Transfer."
In addition, you must comply with one of the following:
- the exchange agent must receive, before expiration of the exchange offer,
a timely confirmation of book-entry transfer of old debentures into the
exchange agent's account at DTC, Euroclear or Clearstream according to
their respective standard operating procedures for electronic tenders and
a properly transmitted agent's message as described below; or
- the exchange agent must receive any corresponding certificate or
certificates representing old debentures along with the letter of
transmittal; or
- the holder must comply with the guaranteed delivery procedures described
below.
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The tender by a holder of old debentures will constitute an agreement
between such holder and us in accordance with the terms and subject to the
conditions set forth in this prospectus and in the letter of transmittal. If
less than all the old debentures held by a holder are tendered, the tendering
holder should fill in the amount of old debentures being tendered in the
specified box on the letter of transmittal. The entire amount of old debentures
delivered or transferred to the exchange agent will be deemed to have been
tendered unless otherwise indicated.
The method of delivery of old debentures, the letter of transmittal and all
other required documents or transmission of an agent's message, as described
under "Book-Entry Transfer," to the exchange agent is at the election and risk
of the holder. Instead of delivery by mail, we recommend that holders use an
overnight or hand delivery service. In all cases, sufficient time should be
allowed to assure timely delivery to the exchange agent prior to the expiration
of the exchange offer. No letter of transmittal or old debentures should be sent
to us, DTC, Euroclear or Clearstream. Delivery of documents to DTC, Euroclear or
Clearstream in accordance with their respective procedures will not constitute
delivery to the exchange agent.
Any beneficial holder whose old debentures are registered in the name of
his or its broker, dealer, commercial bank, trust company or other nominee and
who wishes to tender should contact such registered holder promptly and instruct
such registered holder to tender on its behalf. If such beneficial holder wishes
to tender on its own behalf, such beneficial holder must, prior to completing
and executing the letter of transmittal and delivering its old debentures,
either:
- make appropriate arrangements to register ownership of the old debentures
in such holder's name; or
- obtain a properly completed bond power from the registered holder.
The transfer of record ownership may take considerable time and may not be
completed prior to the expiration date.
Signatures on a letter of transmittal or a notice of withdrawal, as
described in "Withdrawal of Tenders" below, must be guaranteed by a member firm
of a registered national securities exchange or of the National Association of
Securities Dealers, Inc., a commercial bank or trust company having an office or
correspondent in the United States or an "eligible guarantor institution,"
within the meaning of Rule 17Ad-15 under the Exchange Act, which we refer to in
this prospectus as an eligible institution, unless the old debentures are
tendered:
- by a registered holder who has not completed the box entitled "Special
Registration Instructions" or "Special Delivery Instructions" on the
letter of transmittal; or
- for the account of an eligible institution.
If the letter of transmittal is signed by a person other than the
registered holder of any old debentures listed therein, the old debentures must
be endorsed or accompanied by appropriate bond powers which authorize the person
to tender the old debentures on behalf of the registered holder, in either case
signed as the name of the registered holder or holders appears on the old
debentures. If the letter of transmittal or any old debentures or bond powers
are signed by trustees, executors, administrators, guardians, attorneys-in-fact,
officers of corporations or others acting in a fiduciary or representative
capacity, such persons should so indicate when signing and, unless waived by us,
evidence satisfactory to us of their authority to so act must be submitted with
the letter of transmittal.
We will determine in our sole discretion all questions as to the validity,
form, eligibility, including time of receipt, and acceptance and withdrawal of
tendered old debentures. We reserve the absolute right to reject any and all old
debentures not properly tendered or any old debentures whose acceptance by us
would, in the opinion of our counsel, be unlawful. We also reserve the right to
waive any defects, irregularities or conditions of tender as to any particular
old debentures either before or after the expiration date. Our interpretation of
the terms and conditions of the exchange offer, including the instructions in
the letter of transmittal, will be final and binding on all parties. Unless
waived, holders must cure any defects or irregularities in connection with
tenders of old debentures within a period we will determine. Although we intend
to request the exchange agent to notify holders of defects or irregularities
relating to tenders of old debentures, neither we, the exchange
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agent nor any other person will have any duty or incur any liability for failure
to give this notification. We will not consider tenders of old debentures to
have been made until these defects or irregularities have been cured or waived.
The exchange agent will return any old debentures that are not properly tendered
and as to which the defects or irregularities have not been cured or waived to
the tendering holders, unless otherwise provided in the letter of transmittal,
as soon as practicable following the expiration date.
BOOK-ENTRY TRANSFER
We understand that the exchange agent will make a request promptly after
the date of this prospectus to establish accounts with respect to the old
debentures at DTC, Euroclear and Clearstream for the purpose of facilitating the
exchange offer. Any financial institution that is a participant in DTC's system
may make book-entry delivery of old debentures by causing DTC to transfer such
old debentures into the exchange agent's DTC account in accordance with DTC's
Automated Tender Offer Program procedures for such transfer. The exchange of new
debentures for tendered old debentures will only be made after a timely
confirmation of a book-entry transfer of the old debentures into the exchange
agent's account and timely receipt by the exchange agent of an agent's message.
The term agent's message means a message, transmitted by DTC, Euroclear or
Clearstream, and received by the exchange agent and forming part of the
confirmation of a book-entry transfer, which states that DTC, Euroclear or
Clearstream has received an express acknowledgment from a participant tendering
old debentures that such participant has received an appropriate letter of
transmittal and agrees to be bound by the terms of the letter of transmittal,
and that we may enforce such agreement against the participant. Delivery of an
agent's message will also constitute an acknowledgment from the tendering DTC,
Euroclear or Clearstream participant that the representations contained in the
letter of transmittal and described under "Resale of New Debentures" above are
true and correct.
GUARANTEED DELIVERY PROCEDURES
The following guaranteed delivery procedures are intended for holders who
wish to tender their old debentures but:
- their old debentures are not immediately available;
- the holders cannot deliver their old debentures, the letter of
transmittal, or any other required documents to the exchange agent prior
to the expiration date; or
- the holders cannot complete the procedure under the respective DTC,
Euroclear or Clearstream standard operating procedures for electronic
tenders before expiration of the exchange offer.
The conditions that must be met to tender old debentures through the
guaranteed delivery procedures are as follows:
- the tender must be made through an eligible institution;
- before expiration of the exchange offer, the exchange agent must receive
from the eligible institution either a properly completed and duly
executed notice of guaranteed delivery in the form accompanying this
prospectus, by facsimile transmission, mail or hand delivery, or a
properly transmitted agent's message in lieu of notice of guaranteed
delivery:
- setting forth the name and address of the holder, the certificate
number or numbers of the old debentures tendered and the principal
amount of old debentures tendered;
- stating that the tender offer is being made by guaranteed delivery;
and
- guaranteeing that, within five business days after expiration of the
exchange offer, the letter of transmittal, or facsimile of the
letter of transmittal, together with the old debentures tendered or
a
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book-entry confirmation, and any other documents required by the letter
of transmittal will be deposited by the eligible institution with the
exchange agent; and
- the exchange agent must receive the properly completed and executed
letter of transmittal, or facsimile of the letter of transmittal, as well
as all tendered old debentures in proper form for transfer or a book-
entry confirmation, and any other documents required by the letter of
transmittal, within five business days after expiration of the exchange
offer.
Upon request to the exchange agent, a notice of guaranteed delivery will be sent
to holders who wish to tender their old debentures according to the guaranteed
delivery procedures set forth above.
WITHDRAWAL OF TENDERS
Your tender of old debentures pursuant to the exchange offer is irrevocable
except as otherwise provided in this section. You may withdraw tenders of old
debentures at any time prior to 5:00 p.m., Philadelphia time, on the expiration
date.
For a withdrawal to be effective:
- the exchange agent must receive a written notice, which may be by
telegram, telex, facsimile transmission or letter, of withdrawal at the
address set forth below under "Exchange Agent;" or
- for DTC, Euroclear or Clearstream participants, holders must comply with
their respective standard operating procedures for electronic tenders and
the exchange agent must receive an electronic notice of withdrawal from
DTC, Euroclear or Clearstream.
Any notice of withdrawal must:
- specify the name of the person who tendered the old debentures to be
withdrawn;
- identify the old debentures to be withdrawn, including the certificate
number or numbers and principal amount of the old debentures to be
withdrawn;
- be signed by the person who tendered the old debentures in the same
manner as the original signature on the letter of transmittal, including
any required signature guarantees; and
- specify the name in which the old debentures are to be re-registered, if
different from that of the withdrawing holder.
If old debentures have been tendered pursuant to the procedure for
book-entry transfer described above, any notice of withdrawal must specify the
name and number of the account at DTC, Euroclear or Clearstream to be credited
with the withdrawn old debentures and otherwise comply with the procedures of
the applicable facility. We will determine in our sole discretion all questions
as to the validity, form and eligibility, including time of receipt, for such
withdrawal notices, and our determination shall be final and binding on all
parties. Any old debentures so withdrawn will be deemed not to have been validly
tendered for purposes of the exchange offer and no new debentures will be issued
with respect to them unless the old debentures so withdrawn are validly
retendered. Any old debentures which have been tendered but which are not
accepted for exchange will be returned to the holder without cost to such holder
as soon as practicable after withdrawal, rejection of tender or termination of
the exchange offer. Properly withdrawn old debentures may be re-tendered by
following the procedures described above under "Procedures for Tendering" at any
time prior to the expiration date.
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EXCHANGE AGENT
We have appointed First Union National Bank as exchange agent in connection
with the exchange offer. Holders should direct questions, requests for
assistance and for additional copies of this prospectus, the letter of
transmittal or notices of guaranteed delivery to the exchange agent addressed as
follows:
By Mail, Hand Delivery or By Facsimile Transmission:
Overnight Courier: First Union National Bank
FIRST UNION NATIONAL BANK Attention: Marsha Rice
Radian Group Inc. (704) 590-7628
Corporate Actions Department For Information or
1525 West W.T. Harris Blvd. 3C3 Confirmation by Telephone:
Charlotte, NC 28262 First Union National Bank
Attention: Marsha Rice Attention: Marsha Rice
(704) 590-7413
Delivery of a letter of transmittal to any address or facsimile number other
than the one set forth above will not constitute a valid delivery.
FEES AND EXPENSES
We will not make any payments to brokers, dealers or other persons
soliciting acceptances of the exchange offer. We will, however, pay the exchange
agent reasonable and customary fees for its services and will pay the exchange
agent for its related reasonable out-of-pocket expenses, including accounting
and legal fees. We may also pay brokerage houses and other custodians, nominees
and fiduciaries the reasonable out-of-pocket expenses incurred by them in
forwarding copies of this prospectus, letters of transmittal and related
documents to the beneficial owners of the old debentures and in handling or
forwarding tenders for exchange.
Holders who tender their old debentures for exchange will not be obligated
to pay any transfer taxes. If, however:
- new debentures are to be delivered to, or issued in the name of, any
person other than the registered holder of the old debentures tendered;
or
- tendered old debentures are registered in the name of any person other
than the person signing the letter of transmittal; or
- a transfer tax is imposed for any reason other than the exchange of old
debentures in connection with the exchange offer;
then the tendering holder must pay the amount of any transfer taxes due, whether
imposed on the registered holder or any other persons. If the tendering holder
does not submit satisfactory evidence of payment of these taxes or exemption
from them with the letter of transmittal, the amount of these transfer taxes
will be billed directly to the tendering holder.
CONSEQUENCES OF FAILURES TO PROPERLY TENDER OLD DEBENTURES IN THE EXCHANGE
We will issue the new debentures in exchange for old debentures under the
exchange offer only after timely receipt by the exchange agent of the old
debentures, a properly completed and duly executed letter of transmittal and all
other required documents. Therefore, holders of the old debentures desiring to
tender old debentures in exchange for new debentures should allow sufficient
time to ensure timely delivery. We are under no duty to give notification of
defects or irregularities of tenders of old debentures for exchange. Old
debentures that are not tendered or that are tendered but not accepted by us
will, following completion of the exchange offer, continue to be subject to the
existing restrictions upon transfer under the Securities Act. Upon completion of
the exchange offer, specified rights under the registration rights agreement,
including registration rights and any right to additional interest, will be
either limited or eliminated.
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Participation in the exchange offer is voluntary. In the event the exchange
offer is completed, we will not be required to register the remaining old
debentures. Remaining old debentures will continue to be subject to the
following restrictions on transfer:
- holders may resell old debentures only if we register the old debentures
under the Securities Act, if an exemption from registration is available,
or if the transaction requires neither registration under nor an
exemption from the requirements of the Securities Act; and
- the remaining old debentures will bear a legend restricting transfer in
the absence of registration or an exemption.
We do not currently anticipate that we will register the remaining old
debentures under the Securities Act. To the extent that old debentures are
tendered and accepted in connection with the exchange offer, any trading market
for remaining old debentures could be adversely affected.
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DESCRIPTION OF THE NEW DEBENTURES
GENERAL
The new debentures will be issued under an indenture between us and First
Union National Bank, as trustee. The trustee's main role is to enforce the
rights of the purchasers against us if we default. See "Events of Default,
Notice and Waiver." First Union National Bank acts as registrar, paying agent
and authenticating agent, and performs administrative duties for us, such as
sending out interest payments and notices. The indenture and its associated
documents contain the full legal text of the matters described in this section.
The indenture and new debentures are governed by New York law. The statements
set forth below are brief summaries of certain provisions contained in the
indenture, which summaries do not purport to be complete and are qualified in
their entirety by reference to the indenture which is an exhibit to the
registration statement of which this prospectus is a part. Wherever defined
terms are used but not defined herein, such terms shall have the meanings
assigned to them in the indenture, it being intended that such defined terms
shall be incorporated herein by reference.
FINANCIAL TERMS OF THE DEBENTURES
The specific financial terms of the new debentures are as follows:
- TITLE: 7.75% Debentures due June 1, 2011
- ISSUER: Radian Group Inc.
- TOTAL PRINCIPAL AMOUNT BEING ISSUED: $250,000,000
- DUE DATE FOR PRINCIPAL: June 1, 2011
- INTEREST RATE: 7.75% annually
- DATE INTEREST STARTED ACCRUING: May 29, 2001
- DUE DATES FOR INTEREST: every June 1 and December 1
- FIRST DUE DATE FOR INTEREST: December 1, 2001
- REGULAR RECORD DATES FOR INTEREST: every May 15 and November 15
- OPTIONAL REDEMPTION: at any time at our option
- REPAYMENT AT OPTION OF HOLDER: none
GLOBAL SECURITIES
The new debentures will be issued in the form of one or more global debt
securities referred to herein collectively as the global security. A global
security is a security typically held by a depository for investors in a
particular issue of securities and represents the beneficial interests of a
number of purchasers of the security. The depository for the new debentures is
DTC.
We will deposit global securities with DTC registered in the name of Cede &
Co., as nominee of DTC. After we issue the global security, DTC will credit on
its book-entry registration and transfer system the respective principal amounts
of the new debentures represented by the global security to the accounts of
persons that have accounts with DTC. These account holders are known as
participants. Only a participant or a person that holds an interest through a
participant may be the beneficial owner of a global security. Ownership of
beneficial interests in the global security will be shown on, and the transfer
of that ownership will be effected only through, records maintained by DTC and
its participants.
We and the trustee will treat DTC or Cede & Co., its nominee, as the sole
owner or holder of the new debentures represented by the global security. Except
as set forth below and in the indenture, owners of beneficial interests in the
global security will not be entitled to have the new debentures represented by
the
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global security registered in their names. They also will not receive or be
entitled to receive physical delivery of the new debentures in definitive form
and will not be considered the owners or holders of the new debentures.
Principal, premium (if any) and interest payments on new debentures
represented by the global security registered in the name of DTC or Cede & Co.
will be made to DTC or Cede & Co. as the registered owner of the global
security. Neither we, the trustee or any paying agent will have any
responsibility or liability for any aspect of the records relating to or
payments made on account of beneficial ownership interests in the global
security or the maintaining, supervising or reviewing of any records relating to
the beneficial ownership interests.
We expect that DTC, upon receipt of any payments, will immediately credit
participants' accounts with payments in amounts proportionate to their
respective beneficial interests in the principal amount of the global security
as shown on DTC's records. We expect that payments by participants to owners of
beneficial interests in the global security will be governed by standing
instructions and customary practices, as is the case with the securities held
for the amounts of customers registered in street names, and will be the
responsibility of the participants.
If DTC is at any time unwilling or unable to continue as depository and a
successor depository is not appointed by us within ninety days, we will issue
registered securities in exchange for the global security. In addition, we may
at any time in our sole discretion determine not to have any of the new
debentures represented by the global security. In that event, we will issue new
debentures in definitive form in exchange for the global security.
Because the beneficial owner of the old debentures will not be a registered
legal holder of the new debentures, the rights relating to the new debentures
will be governed by the account rules of the holder's bank or broker and of DTC,
as well as general laws relating to securities transfers. We will not recognize
any investor as a legal owner of the new debentures and instead will deal only
with the trustee and DTC, the depository that is the registered holder of the
new debentures.
DESCRIPTION OF DTC
DTC has informed us that:
DTC is a limited purpose trust company organized under the laws of the
State of New York, a member of the Federal Reserve System, a "clearing
corporation" within the meaning of the Uniform Commercial Code and a "clearing
agency" registered pursuant to the provision of Section 17A of the Securities
Exchange Act of 1934.
DTC was created to hold securities for financial institutions that have
accounts with it, and to facilitate the clearance and settlement of securities
transactions between the account holders through electronic book-entry changes
in their accounts, thereby eliminating the need for physical movement of
certificates. DTC account holders include securities brokers and dealers, banks,
trust companies and clearing corporations. Indirect access to the DTC system is
also available to banks, brokers, dealers and trust companies that clear through
or maintain a custodial relationship with a DTC account holder, either directly
or indirectly.
DTC's rules are on file with the Commission.
DTC's records reflect only the identity of the account holder to whose
accounts beneficial interests in the new debentures are credited. The account
holders may or may not be the owners of the beneficial interests so recorded.
The account holder will be responsible for keeping account of its holdings on
behalf of its beneficial owners.
EXERCISE OF LEGAL RIGHTS UNDER THE NEW DEBENTURES
DTC may grant proxies or otherwise authorize holders (or persons holding
beneficial interests in the new debentures through DTC account holders) to
exercise any rights of a legal holder of the new debentures or take any other
actions that a holder is entitled to take under the indenture or the new
debentures. Under its usual procedures, as soon as possible after a record date,
DTC would mail an omnibus proxy to us assigning
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Cede & Co.'s consenting or voting rights to those DTC account holders to whose
accounts the new debentures are credited on such record date. Accordingly, in
order to exercise any rights of a holder of new debentures, as an owner of a
beneficial interest in the new debenture, the beneficial owner must rely on the
procedures of DTC and, if the beneficial owner is not an account holder, on the
procedures of the account holder through which the beneficial owner owns the
interest.
We understand that under existing industry practice, if an owner of a
beneficial interest in the new debentures desires to take any action that Cede &
Co., as the legal holder of the new debentures, is entitled to take, Cede & Co.
would authorize the relevant DTC account holder to take the action, and the
account holder would authorize the beneficial owner, as an owner of a beneficial
interest in the new debentures through its accounts, to take the action or would
otherwise act upon the instructions of beneficial owners owning through it.
Although DTC has agreed to the procedures described above in order to
facilitate transfers of new debentures among DTC account holders, DTC is under
no obligation to perform or continue to perform such procedures, and these
procedures may be modified or discontinued at any time without the consent of
the beneficial owners and without notifying the beneficial owners.
Street name and other owners of beneficial interests in the global security
should consult their banks or brokers for information on how to exercise and
protect their rights in the new debentures.
RANKING
The new debentures are our unsecured obligations and will rank pari passu
in right of payment to our other unsecured and unsubordinated debt obligations.
We are a holding company and our principal source of cash is dividends from
subsidiaries (See "Risk Factors -- We are a Holding Company That Depends on the
Ability of Our Subsidiaries to Pay Dividends to Service Our Debt"). Under
applicable state insurance law, the amount of cash dividends and other
distributions certain subsidiaries may pay is restricted. A description of these
restrictions in general terms is included in the accompanying financial
statements or notes thereto, or elsewhere in this prospectus. Also, because we
are a holding company, our rights and the rights of our creditors, including the
beneficial holders of new debentures to participate in any distribution of
assets of any subsidiary upon the subsidiary's liquidation or reorganization or
otherwise, is subject to the prior claims of the subsidiary's creditors, except
to the extent that we may be a creditor with recognized claims against the
subsidiary.
OPTIONAL REDEMPTION
We may choose to redeem some or all of the new debentures at any time. If
we choose to do so, we will mail a notice of redemption to the holders of the
new debentures not less than 30 days and not more than 60 days before the
redemption occurs.
The redemption price will be equal to the greater of:
- 100 percent of the principal amount of the new debentures to be redeemed
plus accrued interest to the date of redemption; or
- the sum of the present values of the remaining scheduled payments on the
new debentures being redeemed, discounted to the redemption date on a
semiannual basis (assuming a 360-day year consisting of twelve 30-day
months) at the treasury rate plus 37.5 basis points.
If we are redeeming less than all the new debentures, the trustee will
select the particular new debentures to be redeemed by lot or by another method
the trustee deems fair and appropriate. Unless we default in payment of the
redemption price, on and after the redemption date, interest will cease to
accrue on the new debentures or portions thereof called for redemption.
Except as described above, the new debentures will not be redeemable by us
prior to maturity and will not be entitled to the benefit of any sinking fund.
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For purposes of calculating the redemption price, the following terms have
the meanings set forth below:
"Treasury rate" means the rate per annum equal to the semiannual equivalent
yield to maturity (computed as of the second business day immediately preceding
the redemption date) of the comparable treasury issue, assuming a price for the
comparable treasury issue (expressed as a percentage of its principal amount)
equal to the comparable treasury price for the redemption date.
"Comparable treasury issue" means the U.S. treasury security selected by an
independent investment banker that would be used, at the time of selection and
in accordance with customary financial practice, in pricing new issues of
corporate debt securities of comparable maturity to the remaining term of the
new debentures. "Independent investment banker" means one of the reference
treasury dealers that we appoint.
"Comparable treasury price" means:
- the average of the bid and asked prices for the comparable treasury issue
(expressed in each case as a percentage of its principal amount) as of
the third business day preceding the redemption date, as set forth in the
daily statistical release (or any successor release) published by the
Federal Reserve Bank of New York and designated "Composite 3:30 p.m.
Quotations for U.S. Government Securities;" or
- if that release (or any successor release) is not published or does not
contain such prices on that business day, (1) the average of the
reference treasury dealer quotations for the redemption date, after
excluding the highest and lowest of such reference treasury dealer
quotations, or (2) if the trustee obtains fewer than four such reference
treasury dealer quotations, the average of all quotations obtained.
"Reference treasury dealer" means each of Goldman, Sachs & Co. (and its
successors) and three other nationally recognized investment banking firms that
are primary U.S. Government securities dealers specified from time to time by
us. If, however, any of them ceases to be a primary U.S. Government securities
dealer, we will substitute another nationally recognized investment banking firm
that is such a dealer.
"Reference treasury dealer quotations" means, with respect to each
reference treasury dealer and any redemption date, the average, as determined by
the trustee, of the bid and asked prices for the comparable treasury issue
(expressed in each case as a percentage of its principal amount and in each case
for settlement on the next business day) quoted in writing to the trustee by
such reference treasury dealer as of 3:30 p.m., New York time, on the third
business day preceding the redemption date.
"Remaining scheduled payments" means the remaining scheduled payments of
the principal of and interest (excluding any interest accrued and paid as of the
date of redemption) on each new debenture to be redeemed that would be due after
the related redemption date but for such redemption.
CERTAIN COVENANTS
LIMITATION ON LIENS ON STOCK OF DESIGNATED SUBSIDIARIES
Neither we nor any of our subsidiaries will be permitted to create, assume,
incur or permit to exist any indebtedness secured by any lien on the present or
future capital stock of any designated subsidiary unless the new debentures, and
at our election, any other indebtedness of ours that is not subordinate to the
new debentures and with respect to which the governing instruments require, or
pursuant to which we are otherwise obligated, to provide such security, are
secured equally and ratably with this indebtedness for at least the time period
this indebtedness is so secured.
"Designated subsidiary" means any present or future consolidated
subsidiary, the consolidated shareholders' equity of which constitutes at least
15% of our consolidated stockholders' equity. As of the date hereof, the
designated subsidiaries are Radian Guaranty, Amerin Guaranty, Enhance Financial
Services and Enhance Reinsurance.
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"Indebtedness" means, with respect to any person, for purposes of this
covenant:
- the principal of, and any premium and interest on, indebtedness of the
person for money borrowed and indebtedness evidenced by notes,
debentures, bonds or other similar instruments for the payment of which
that person is responsible or liable;
- all capitalized lease obligations of that person;
- all obligations of that person issued or assumed as the deferred purchase
price of property, all conditional sale obligations and all obligations
under any title retention agreement (but excluding trade accounts payable
arising in the ordinary course of business and deferred purchase price
due and payable within 90 days);
- all obligations of that person for the reimbursement of any obligor on
any letter of credit, banker's acceptance or similar credit transaction,
other than obligations with respect to some letters of credit securing
obligations entered into in the ordinary course of business;
- all obligations of the type referred to above of other persons and all
dividends of other persons for which that person is responsible or liable
as obligor, guarantor or otherwise;
- all obligations of the type referred to above of other persons secured by
any lien on any property or asset of that person; and
- any amendments, modifications, refundings, renewals or extensions of any
indebtedness or obligation described above.
LIMITATION ON SALES OF CAPITAL STOCK OF DESIGNATED SUBSIDIARIES
Neither we nor any of the designated subsidiaries will be permitted to
issue, sell, transfer or dispose of capital stock of a designated subsidiary,
except to us or one of our subsidiaries that agrees to hold the transferred
shares subject to the terms of this sentence, unless we dispose of the entire
capital stock of the designated subsidiary at the same time for cash or property
which, in the opinion of our board of directors, is at least equal to the fair
value of the capital stock.
CONSOLIDATION, MERGER AND SALE OF ASSETS
We may not consolidate with or merge into any other person or convey or
transfer or lease our properties and assets substantially as an entirety to any
person, and we may not permit any other person to consolidate with or merge into
us, unless:
- if we consolidate with or merge into another corporation or convey or
transfer our properties and assets substantially as an entirety to any
person, the successor is organized under the laws of the United States or
any state and assumes our obligations under the new debentures;
- immediately after the transaction, no event of default occurs and
continues; and
- we meet other conditions specified in the indenture.
Upon any consolidation or merger, or any conveyance or transfer of our
properties and assets, substantially as an entirety as set forth above, the
successor person formed by such consolidation or into which we are merged or to
which such conveyance or transfer is made shall succeed to, and be substituted
for, and may exercise every right and power as we would be permitted to exercise
under the indenture with the same effect as if such successor had been named as
us in the indenture. In the event of any such conveyance or transfer, we, as the
predecessor, shall be discharged from all obligations and covenants under the
indenture and the new debentures and may be dissolved, wound up or liquidated at
any time thereafter.
Other than the restrictions in the indenture on liens described above, the
indenture and the new debentures do not contain any covenants or other
provisions designed to afford holders of new debentures protection in the event
of a recapitalization or highly leveraged transaction involving us.
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CERTAIN DEFINITIONS
The following are certain of the terms defined in the indenture:
"Holder" means a person in whose name a security is registered in the
security register.
"Person" means any individual, corporation, partnership, joint venture,
association, joint-stock company, trust, unincorporated organization or
government or any agency or political subdivision thereof.
"Security register" means the register or registers we shall keep or cause
to be kept, in which we shall provide for the registration and transfer of new
debentures.
"Subsidiary" means, with respect to any person, any corporation more than
50% of the voting stock of which is owned directly or indirectly by such person.
"U.S. government obligation" means (x) any security which is (i) a direct
obligation of the United States of America for the payment of which the full
faith and credit of the United States of America is pledged or (ii) an
obligation of a person controlled or supervised by and acting as an agency or
instrumentality of the United States of America the payment of which is
unconditionally guaranteed as a full faith and credit obligation of the United
States of America, which, in either case (i) or (ii), is not callable or
redeemable at the option of the issuer thereof, and (y) any depository receipt
issued by a bank (as defined in Section 3(a)(2) of the Securities Act of 1933,
as amended) as custodian with respect to any U. S. government obligation
specified in clause (x) above and held by such bank for the account of the
holder of such depository receipt, or with respect to any specific payment of
principal of or interest on any U. S. government obligation which is so
specified and held, provided, that (except as required by law) such custodian is
not authorized to make any deduction from the amount received by the custodian
in respect of the U. S. government obligation or the specific payment of
principal or interest evidenced by such depository receipt.
DEFEASANCE
The indenture provides that we, at our option, (a) will be discharged from
our obligations in respect of the new debentures, (except in each case for
certain obligations to issue and/or replace temporary new debentures, register
the transfer or exchange of new debentures, replace stolen, lost or mutilated
new debentures, maintain paying agencies and hold moneys for payment in trust);
or (b) need not comply with the covenants described above under "Certain
Covenants," and certain events of default (except, among others, those arising
out of the failure to pay interest, premium (if any) or principal on the new
debentures and certain events of bankruptcy, insolvency and reorganization) will
no longer constitute events of default with respect to the new debentures, in
each case if we deposit with the trustee, in trust, money or the equivalent in
U. S. government obligations, or a combination thereof, which through the
payment of interest thereon and principal thereof in accordance with their terms
will provide money in an amount sufficient to pay all the principal of, and
premium (if any) and interest on, the new debentures on the dates such payments
are due in accordance with the terms of the new debentures.
To exercise any such option, we are required, among other things, to
deliver to the trustee an opinion of counsel (i) in the case of a discharge
pursuant to clause (a), stating that we have received from, or there has been
published by, the Internal Revenue Service a ruling or since the date of the
indenture there has been a change in the applicable federal income tax law, in
either case, to the effect that the holders will not recognize gain or loss for
federal income tax purposes; and in the case of a release pursuant to clause
(b), to the effect that the holders will not recognize gain or loss for federal
income tax purposes and will be subject to federal income tax on the same
amount, in the same manner and at the same times as would be the case if such
release were not to occur; and (ii) stating that the creation of the defeasance
trust will not violate the Investment Company Act of 1940, as amended. In
addition, we are required to deliver to the trustee an officers' certificate
stating that such deposit was not made by us with the intent of preferring the
holders over our other creditors or with the intent of defeating, hindering,
delaying or defrauding our creditors or others.
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EVENTS OF DEFAULT, NOTICE AND WAIVER
The indenture provides that, if an event of default specified therein with
respect to the new debentures shall have happened and be continuing, either the
trustee thereunder or the holders of 25% in aggregate principal amount of the
outstanding new debentures may declare the principal of all the new debentures
to be due and payable immediately.
Events of default in respect of the new debentures are defined in the
indenture as being:
- default for thirty (30) days in payment of any interest installment with
respect to the new debentures;
- default in payment of principal of (or any premiums on) the new
debentures when due at their stated maturity;
- default for sixty (60) days after notice to us by the trustee thereunder
or by holders of 10% in aggregate principal amount of the outstanding new
debentures in the performance of any covenant pertaining to the new
debentures;
- a failure to pay when due at maturity or a default that results in the
acceleration of maturity of any of our other indebtedness or any
designated subsidiaries (excluding non-recourse debt) having an aggregate
principal amount outstanding of at least $15,000,000, unless the
indebtedness is discharged or the acceleration is rescinded or annulled,
in each case within 15 days after written notice of default is given to
us by the trustee or the Holders of at least 10% in principal amount of
the outstanding new debentures; and
- certain events of bankruptcy, insolvency and reorganization with respect
to us.
The indenture provides that the trustee thereunder will, within 90 days
after the occurrence of a default, give to the holders of the new debentures
notice of all defaults known to it; provided, however, that, except in the case
of default in the payment of principal of, or premium (if any) or interest on,
any of the new debentures, the trustee will be protected in withholding such
notice if it in good faith determines that the withholding of such notice is in
the interests of the holders of the new debentures. The term default for the
purpose of this provision means the happening of any of the events of default
specified above, except that any grace period or notice requirement is
eliminated.
The indenture contains provisions entitling the trustee to be indemnified
by the holders of the new debentures before proceeding to exercise any right or
power under the indenture at the request of holders of the new debentures.
The indenture provides that the holders of a majority in aggregate
principal amount of the outstanding new debentures may direct the time, method
and place of conducting proceedings for remedies available to the trustee or
exercising any trust or power conferred on the trustee in respect of the new
debentures, subject to certain conditions.
In certain cases, the holders of not less than a majority in principal
amount of the outstanding new debentures may waive, on behalf of the holders of
all new debentures, any past default or event of default with respect to the new
debentures, except, among other things, a default not theretofore cured in
payment of the principal of, or premium (if any) or interest on, any of the new
debentures.
The indenture includes a covenant that we will file annually with the
trustee a certificate of no default or specifying any default that exists.
MODIFICATION OF THE INDENTURE
We and the trustee may, without the consent of the holders of the new
debentures, enter into indentures supplemental to the indenture for, among
others, one or more of the following purposes:
(1) to evidence the succession of another person to us, and the assumption
by such successor of our obligations under the indenture and the new
debentures;
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(2) to add to our covenants, or to surrender any of our rights or powers,
for the benefit of the holders of the new debentures;
(3) to cure any ambiguity, or correct any inconsistency in the indenture or
to make any other provisions with respect to matters or questions
arising under this indenture;
(4) to evidence and provide for the acceptance of any successor trustee
with respect to the new debentures or to facilitate the administration
of the trusts thereunder by one or more trustees in accordance with the
indenture;
(5) to provide any additional events of default;
(6) to provide for the issuance of the new debentures in coupon or as fully
registered form; and
(7) to secure the new debentures pursuant to the indenture's limitation on
liens.
No supplemental indenture for the purpose identified in clauses (2), (3) or
(5) above may be entered into if to do so would adversely affect the rights of
the holders of new debentures or in any material respect.
The indenture contains provisions permitting us and the trustee thereunder,
with the consent of the holders of not less than 66 2/3% in principal amount of
the outstanding old debentures and new debentures, to execute supplemental
indentures by adding any provisions to or changing or eliminating any of the
provisions of the indenture or modifying the rights of the holders of the new
debentures, except that no such supplemental indenture may, without the consent
of the holders of the new debentures, among other things:
- change the fixed maturity of the new debentures; or
- reduce the principal amount thereof or any premiums payable thereon; or
- reduce the rate or extend the time of payment of interest thereon.
THE TRUSTEE
First Union National Bank is the trustee under the indenture. The trustee
is a depository for funds and performs other services for, and transacts other
banking business with, us in the normal course of business. The trustee is also
acting as the exchange agent.
GOVERNING LAW
The indenture is governed by, and construed in accordance with, the laws of
the State of New York.
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SUMMARY OF UNITED STATES FEDERAL TAX CONSEQUENCES
This discussion of U.S. federal income tax consequences applies to you if
you acquired old debentures at original issue for cash, exchange your old
debentures for new debentures pursuant to the terms set forth in this prospectus
and hold the new debentures as capital assets within the meaning of Section 1221
of the Internal Revenue Code of 1986. This discussion is a summary for general
information only and does not consider all aspects of U.S. federal income tax
that may be relevant to the purchase, ownership and disposition of the new
debentures. This discussion also does not address all of the U.S. federal income
tax consequences of ownership of new debentures that may be relevant to you or
the U.S. federal income tax consequences to you if you are subject to special
treatment under the U.S. federal income tax laws. Special treatment applies to,
among others:
- a bank, thrift, insurance company, regulated investment company, or other
financial institution or financial service company;
- a broker or dealer in securities or foreign currency;
- a person that has a functional currency other than the U.S. dollar;
- a partnership or other flow-through entity;
- a subchapter S corporation;
- a person subject to alternate minimum tax;
- a person who owns the new debentures as part of a straddle, hedging
transaction, conversion transaction, constructive sale transaction or
other risk-reduction transaction;
- a tax-exempt entity;
- a person who has ceased to be a United States citizen or to be taxed as a
resident alien; or
- a person who acquires the new debentures in connection with employment or
other performance of services.
This discussion is based upon the Internal Revenue Code, regulations of the
Treasury Department, IRS rulings and pronouncements and judicial decisions now
in effect, all of which are subject to change, possibly on a retroactive basis,
or to different interpretations which could result in federal income tax
consequences different from those described below. We have not and will not seek
any rulings or opinions from the IRS or counsel regarding the matters discussed
below. There can be no assurance that the IRS will not take positions concerning
the tax consequences of the purchase, exchange, ownership or disposition of the
new debentures that are different from those discussed below.
In addition, the following summary does not address all possible tax
consequences. In particular, except as specifically provided, it does not
discuss any estate, gift, generation-skipping, transfer, state, local or foreign
tax consequences. For all these reasons, we urge you to consult with your tax
advisor about the federal income tax and other tax consequences of the
acquisition, ownership and disposition of the new debentures.
PERSONS CONSIDERING THE EXCHANGE OF OLD DEBENTURES FOR NEW DEBENTURES SHOULD
CONSULT THEIR OWN ADVISERS CONCERNING THE APPLICATION OF U.S. FEDERAL INCOME TAX
LAWS, AS WELL AS THE LAWS OF ANY STATE, LOCAL OR FOREIGN TAXING JURISDICTION, TO
THEIR PARTICULAR SITUATIONS.
As explained below, the federal income tax consequences of acquiring,
owning and disposing of the new debentures depend on whether or not you are a
U.S. holder. For purposes of this summary, you are a U.S. holder if you are a
beneficial owner of the new debentures and for federal income tax purposes are:
- a citizen or resident of the United States, including an alien individual
who is a lawful permanent resident of the United States or who meets the
substantial presence residency test under the federal income tax laws;
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- a corporation, partnership or other entity treated as a corporation or
partnership for federal income tax purposes, that is created or organized
in or under the laws of the United States, any of the fifty states or the
District of Columbia, unless otherwise provided by Treasury regulations;
- an estate the income of which is subject to federal income taxation
regardless of its source; or
- a trust if a court within the United States is able to exercise primary
supervision over the administration of the trust and one or more United
States persons have the authority to control all substantial decisions of
the trust;
and if your status as a U.S. holder is not overridden under the provisions of an
applicable tax treaty. Conversely, you are a non-U.S. holder if you are a
beneficial owner of the new debentures and are not a U.S. holder.
If a partnership holds new debentures, the tax treatment of a partner will
generally depend upon the status of the partner and upon the activities of the
partnership. If you are a partner in such partnership, you should consult your
tax advisor.
U.S. HOLDERS
The following discussion is limited to the U.S. federal income tax
consequences relevant to a U.S. holder.
PAYMENT OF INTEREST ON NEW DEBENTURES
Interest paid or payable on a debenture will be taxable to a U.S. holder as
ordinary interest income, generally at the time it is received or accrued, in
accordance with such holder's regular method of accounting for U.S. federal
income tax purposes. The new debentures will not be treated as having been
issued with original issue discount. While the old debentures were issued at a
slight original issue discount, the small amount of that discount qualifies for
the Internal Revenue Code's de minimis rule which allows the holders to avoid
the complex original issue discount provisions.
In some circumstances, we may be obligated to pay you amounts in excess of
stated interest or principal on the new debentures. For example, we would have
to pay additional interest in specified circumstances if we did not satisfy our
obligation under the registration rights agreement. In addition, in some cases
we will be able to call the new debentures for redemption at a price that may
include an additional amount in excess of the principal of the new debentures.
See "Description of the New Debentures--Optional Redemption." According to
Treasury regulations, the possibility of additional interest or premiums being
paid to you will not affect the amount of interest income you recognize, in
advance of the payment of such amounts, if there is only a remote chance as of
the date the new debentures were issued that you will receive such payments. We
believe that the likelihood that we will pay additional interest is remote.
Therefore, we do not intend to treat the potential payment of such amounts as
part of the yield to maturity of any new debentures.
Similarly, we intend to take the position that the likelihood of a
redemption or repurchase of the new debentures is remote and likewise do not
intend to treat the possibility of any premium payable on a redemption or
repurchase as affecting the yield to maturity of any new debentures. Our
determination that these contingencies are remote is binding on you unless you
disclose your contrary position in the manner required by applicable Treasury
regulations. Our determination is not, however, binding on the IRS. In the event
a contingency occurs, it would affect the amount and timing of the income that
you must recognize. If we pay additional interest on the new debentures, you
will be required to recognize additional income. If we pay a redemption premium,
the premium could be treated as capital gain under the rules described under
"Sale, Exchange or Redemption of New Debentures."
99
101
SALE, EXCHANGE OR REDEMPTION OF NEW DEBENTURES
Except as described below under "Exchange Offer," you generally will
recognize gain or loss upon the sale, exchange, redemption, retirement or other
disposition of new debentures measured by the difference between:
- the amount of cash proceeds and the fair market value of any property you
receive (except to the extent attributable to accrued interest income,
which will generally be taxable as ordinary income, or attributable to
accrued interest previously included in income, which amount may be
received without generating further income); and
- your adjusted tax basis in the new debentures.
Your adjusted tax basis in the new debentures generally will equal your
acquisition cost of the new debentures after reduction for amounts allocated to
prior accrued stated interest, and reduced by any principal payments you
received. The capital gain or loss will be long-term if your holding period is
more than 12 months.
EXCHANGE OFFER
The exchange of new debentures for old debentures pursuant to the exchange
offer will not constitute a taxable event for U.S. federal income tax purposes
because there is no significant modification of the terms of the old debentures
as reflected in the new debentures. As a result, a holder of the old debentures
will not recognize taxable gain or loss as a result of the exchange of these old
debentures for new debentures, the holding period of the new debentures will
include the holding period of the old debentures surrendered in exchange
therefor and a holder's adjusted tax basis in the new debentures will be the
same as such holder's adjusted tax basis in the old debentures immediately prior
to the surrender of such old debentures pursuant to the exchange offer.
INFORMATION REPORTING AND BACKUP WITHHOLDING TAX
In general, information reporting requirements will apply to reportable
payments to non-corporate U.S. holders of principal and interest on a new
debenture, and the proceeds of the sale of a new debenture. If you are a
non-corporate U.S. holder you may be subject to backup withholding at a rate
that will be 30.5% for payment made in 2001, and decrease in steps to 28% for
payments made in 2006 and thereafter when you receive interest with respect to
the new debentures, or when you receive proceeds upon the sale, exchange,
redemption, retirement or other disposition of the new debentures. In general,
you can avoid this backup withholding by properly executing under penalties of
perjury an IRS Form W-9 or substantially similar form that provides:
- your correct taxpayer identification number; and
- a certification that (a) you are exempt from backup withholding because
you are a corporation or come within another enumerated exempt category,
(b) you have not been notified by the IRS that you are subject to backup
withholding, or (c) you have been notified by the IRS that you are no
longer subject to backup withholding.
If you do not provide your correct taxpayer identification number on the IRS
Form W-9 or substantially similar form, you may be subject to penalties imposed
by the IRS.
Backup withholding will not apply, however, with respect to payments made
to some holders, including corporations, tax exempt organizations and some
foreign persons, provided their exemptions from backup withholding are properly
established.
Amounts withheld are generally not an additional tax and may be refunded or
credited against your federal income tax liability, provided you furnish the
required information to the IRS.
We will report to the U.S. holders of new debentures and to the IRS the
amount of any reportable payments for each calendar year and the amount of tax
withheld, if any, with respect to these payments.
100
102
U.S. holders of new debentures should consult their tax advisers as to
their qualification for exemption from backup withholding and the procedure for
obtaining such exemption.
PLAN OF DISTRIBUTION
Each broker-dealer that receives new debentures for its own account in
connection with the exchange offer must acknowledge that it will deliver a
prospectus in connection with any resale of those new debentures. A
broker-dealer may use this prospectus, as amended or supplemented from time to
time, in connection with resales of new debentures received in exchange for old
debentures where such broker-dealer acquired old debentures as a result of
market-making activities or other trading activities. We have agreed that for a
period of 180 days after the expiration date of the exchange offer, we will make
available a prospectus, as amended or supplemented, meeting the requirements of
the Securities Act to any broker-dealer for use in connection with those
resales.
We will not receive any proceeds from any sale of new debentures by
broker-dealers. Broker-dealers may sell new debentures received by them for
their own account pursuant to the exchange offer from time to time in one or
more transactions in the over-the-counter market, in negotiated transactions,
through the writing of options on the new debentures or a combination of those
methods of resale, at market prices prevailing at the time of resale, at prices
related to such prevailing market prices or negotiated prices. Any such resale
may be made directly to purchasers or to or through brokers or dealers who may
receive compensation in the form of commissions or concessions from any
broker-dealer or the purchasers of any new debentures.
Any broker-dealer that resells new debentures that were received by it for
its own account pursuant to the exchange offer and any broker or dealer that
participates in a distribution of such new debentures may be deemed to be an
"underwriter" within the meaning of the Securities Act. A profit on any such
resale of new debentures and any commissions or concessions received by any such
persons may be deemed to be underwriting compensation under the Securities Act.
The letter of transmittal states that, by acknowledging that it will deliver and
by delivering a prospectus, a broker-dealer will not be deemed to admit that it
is an "underwriter" within the meaning of the Securities Act.
For a period of 180 days after the expiration date of the exchange offer,
we will promptly send additional copies of this prospectus and any amendment or
supplement to this prospectus to any broker-dealer that requests these documents
in the letter of transmittal. We have agreed to pay all expenses incident to the
exchange offer, including the expenses of one counsel for the holders of the old
debentures, other than commissions or concessions of any brokers or dealers and
will indemnify the holders of the old debentures, including any broker-dealers,
against specified liabilities, including liabilities under the Securities Act.
VALIDITY OF THE NEW DEBENTURES
The validity of the new debentures will be passed upon for us by Reed Smith
LLP, One Liberty Place, 1650 Market Street, Philadelphia, Pennsylvania 19103.
EXPERTS
Our consolidated financial statements as of December 31, 2000 and 1999, and
for each of the three years in the period ended December 31, 2000, and the
related financial statement schedules included in this document from the Radian
Group Annual Report on Form 10-K for the year ended December 31, 2000, have been
audited by Deloitte & Touche LLP, independent auditors, as stated in their
reports appearing herein, and have been so included in reliance upon the reports
of such firm given upon their authority as experts in accounting and auditing.
The consolidated financial statements of Enhance Financial Services as of
December 31, 2000 and 1999, and for each of the three years in the period ended
December 31, 2000, have been audited by Deloitte & Touche LLP, independent
auditors, as stated in their report appearing herein and has been so included in
reliance upon the report of such firm given upon their authority as experts in
accounting and auditing.
101
103
The consolidated statements of operations, common stockholders' equity and
cash flows of Amerin Corporation and subsidiaries for the year ended December
31, 1998 have been included in our consolidated financial statements, included
in this Registration Statement, through the retroactive application of the
pooling of interest method of accounting with respect to the merger of Amerin
Corporation and CMAC Investment Corporation. The aforementioned 1998 financial
statements have been audited by Ernst & Young LLP, independent auditors, to the
extent indicated in their report thereon, included in the Radian Group Annual
Report on Form 10-K for the year ended December 31, 2000. Such consolidated
statements of operations, common stockholders' equity and cash flows have been
included in reliance upon such report given on the authority of such firm as
experts in accounting and auditing.
102
104
INDEX TO FINANCIAL STATEMENTS
PAGE
----------
RADIAN GROUP INC.
Selected Financial and Statistical Data................... F-2
Consolidated Balance Sheets -- December 31, 2000 and
1999................................................... F-3
Consolidated Statements of Income -- For the years ended
December 31, 2000, 1999 and 1998....................... F-4
Consolidated Statements of Changes in Common Stockholders'
Equity -- For the years ended December 31, 2000, 1999
and 1998............................................... F-5
Consolidated Statements of Cash Flows -- For the years
ended December 31, 2000, 1999 and 1998................. F-6
Notes to Consolidated Financial Statements................ F-7
Independent Auditors' Report.............................. F-28
Independent Auditors' Report on Financial Schedules....... F-29
Schedule I -- Summary of Investments -- Other Than
Investments in Related Parties -- For the Year Ended
December 31, 2000...................................... F-30
Schedule III -- Condensed Financial Information of
Registrant Condensed Balance Sheets Parent Company
Only -- Years Ended December 31, 2000 and 1999......... F-31
Schedule VI -- Reinsurance Mortgage Insurance Premiums
Earned Years December 31, 2000, 1999 and 1998.......... F-36
Unaudited Condensed Consolidated Balance Sheets -- June
30, 2001 and December 31, 2000......................... F-37
Unaudited Condensed Consolidated Statements of
Income -- For the quarters and six months ended June
30, 2001 and 2000...................................... F-38
Unaudited Condensed Consolidated Statement of Changes in
Common Stockholders' Equity -- For the six month period
ended June 30, 2001.................................... F-39
Unaudited Condensed Consolidated Statements of Cash
Flows -- For the six months periods ended June 30, 2001
and 2000............................................... F-40
Notes to Unaudited Condensed Consolidated Financial
Statements............................................. F-41
ENHANCE FINANCIAL SERVICES GROUP INC.
Independent Auditors' Report.............................. F-44
Consolidated Balance Sheets as of December 31, 2000 and
1999................................................... F-45
Consolidated Statements of Operations for the Years Ended
December 31, 2000, 1999 and 1998....................... F-46
Consolidated Statements of Shareholders' Equity for the
Years Ended December 31, 2000, 1999 and 1998........... F-47
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2000, 1999 and 1998....................... F-48
Notes to Consolidated Financial Statements................ F-49
All schedules not included are omitted because they are either not applicable or
because the information required therein is included in Notes to Consolidated
Financial Statements.
F-1
105
RADIAN GROUP INC.
SELECTED FINANCIAL AND STATISTICAL DATA(1)
SIX MONTHS
ENDED
---------------------
JUNE 30 JUNE 30
2001 2000 2000 1999 1998 1997 1996
--------- --------- -------- -------- -------- -------- --------
(IN MILLIONS, EXCEPT PER-SHARE AMOUNTS AND RATIOS)
CONSOLIDATED STATEMENT OF
INCOME
Premiums earned............. $ 335.0 $ 256.8 $ 520.9 $ 472.6 $ 405.3 $ 330.0 $ 250.3
Net investment income....... 67.5 39.1 82.9 67.3 59.9 52.4 46.9
Total revenues.............. 445.4 299.7 615.4 552.8 483.6 390.0 302.0
Provision for losses........ 101.6 76.8 154.3 174.1 166.4 147.4 112.6
Policy acquisition costs and
other operating
expenses.................. 101.8 52.2 108.6 121.4 118.2 83.4 67.2
Merger expenses............. -- -- -- 37.8 1.1 -- --
Pretax income............... 242.1 170.7 352.5 219.5 197.9 159.2 122.2
Net income.................. 172.8 120.5 248.9 148.1 142.2 115.7 90.5
Net income per
share(2)(3)............... $ 1.92 $ 1.56 $ 3.22 $ 1.92 $ 1.84 $ 1.50 $ 1.18
Average shares
outstanding(2)(3)......... 88.9 76.0 76.2 75.8 75.6 75.0 74.4
CONSOLIDATED BALANCE SHEET
Assets...................... $ 4,083.5 $2,272.8 $1,776.7 $1,513.4 $1,222.7 $1,015.0
Investments................. 2,618.2 1,750.5 1,388.7 1,175.5 974.7 842.0
Unearned premiums........... 473.4 77.2 54.9 75.5 72.7 73.9
Reserve for losses.......... 553.3 390.0 335.6 245.1 179.9 126.9
Redeemable preferred
stock..................... 40.0 40.0 40.0 40.0 40.0 40.0
Common stockholders'
equity.................... 2,114.4 1,362.2 1,057.3 932.2 780.1 657.0
Book value per share(3)..... $ 22.66 $ 17.97 $ 14.17 $ 16.65 $ 10.69 $ 9.05
STATUTORY RATIOS(5)
Loss ratio.................. 29.8% 29.9% 30.5% 37.6% 42.0% 46.1% 46.7%
Expense ratio............... 21.1 19.1 17.9 24.2(4) 24.6 22.5 24.5
--------- ------- -------- -------- -------- -------- --------
Combined ratio.............. 50.9% 49.0% 48.4% 61.8% 66.6% 68.6% 71.2%
OTHER STATUTORY DATA(5)
New primary insurance
written................... $ 19,414 $10,600 $ 24,934 $ 33,256 $ 37,067 $ 21,481 $ 20,018
Direct primary insurance in
force..................... 104,257 97,093 100,859 97,089 83,178 67,294 54,215
Direct primary risk in
force..................... 25,348 23,513 24,622 22,901 19,840 15,158 12,023
Direct pool risk in force... 1,517 1,480 1,507 1,361 993 601 342
Other risk in force......... 640 -- 211 -- -- -- --
---------------
(1) Effective June 9, 1999, Radian Group Inc. was formed by the merger of CMAC
Investment Corporation and Amerin Corporation pursuant to an Agreement and
Plan of Merger dated November 22, 1998. The transaction was accounted for on
a pooling of interests basis and, therefore, all financial statements
presented reflect the combined entity. See note 1 of Notes to Consolidated
Financial Statements set forth on page 21 herein.
(2) Diluted net income per share and average share information per Statement of
Financial Accounting Standards No. 128, "Earnings Per Share." See note 1 of
Notes to Consolidated Financial Statements set forth on page 23 herein.
(3) All share and per-share data for prior periods have been restated to reflect
a 2-for-1 stock split in June 2001.
(4) Expense ratio calculated net of merger expenses of $21.8 million recognized
by statutory companies.
(5) Mortgage insurance operations only.
F-2
106
RADIAN GROUP INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31
--------------------------------
2000 1999
-------------- --------------
(IN THOUSANDS, EXCEPT SHARE AND
PER-SHARE AMOUNTS)
ASSETS
Investments
Fixed maturities held to maturity -- at amortized cost
(fair value $490,792 and $475,257).................... $ 469,591 $ 468,549
Fixed maturities available for sale -- at fair value
(amortized cost $1,087,191 and $839,845).............. 1,120,840 804,776
Equity securities -- at fair value (cost $58,877 and
$47,719).................................................. 64,202 58,378
Short-term investments...................................... 95,824 56,974
Cash........................................................ 2,424 7,507
Deferred policy acquisition costs........................... 70,049 61,680
Prepaid federal income taxes................................ 270,250 204,701
Provisional losses recoverable.............................. 43,740 40,065
Other assets................................................ 135,891 74,082
---------- ----------
$2,272,811 $1,776,712
---------- ----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Unearned premiums........................................... $ 77,241 $ 54,925
Reserve for losses.......................................... 390,021 335,584
Deferred federal income taxes............................... 291,294 206,168
Accounts payable and accrued expenses....................... 112,058 82,779
---------- ----------
870,614 679,456
---------- ----------
Redeemable preferred stock, par value $.001 per share;
800,000 shares issued and outstanding -- at redemption
value..................................................... 40,000 40,000
---------- ----------
COMMITMENTS AND CONTINGENCIES
Common stockholders' equity
Common stock, par value $.001 per share; 80,000,000
shares authorized; 37,907,777 and 37,307,504 shares,
respectively, issued and outstanding.................. 38 37
Treasury stock; 38,006 shares redeemed................. (2,159) --
Additional paid-in capital............................. 549,154 524,408
Retained earnings...................................... 789,831 548,684
Accumulated other comprehensive income (loss).......... 25,333 (15,873)
---------- ----------
1,362,197 1,057,256
---------- ----------
$2,272,811 $1,776,712
========== ==========
See notes to consolidated financial statements.
F-3
107
RADIAN GROUP INC.
CONSOLIDATED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31
-----------------------------------------
2000 1999 1998
----------- ----------- -----------
(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)
REVENUES
Net premiums written.................................. $544,272 $451,817 $406,467
(Increase) decrease in unearned premiums.............. (23,401) 20,818 (1,215)
-------- -------- --------
Premiums earned....................................... 520,871 472,635 405,252
Net investment income................................. 82,946 67,259 59,862
Gain on sales of investments, net..................... 4,179 1,568 3,156
Other income.......................................... 7,438 11,349 15,317
-------- -------- --------
615,434 552,811 483,587
-------- -------- --------
EXPENSES
Provision for losses.................................. 154,326 174,143 166,377
Policy acquisition costs.............................. 51,471 58,777 58,479
Other operating expenses.............................. 57,167 62,659 59,720
Merger expenses....................................... -- 37,766 1,098
-------- -------- --------
262,964 333,345 285,674
-------- -------- --------
Pretax income.............................................. 352,470 219,466 197,913
Provision for income taxes................................. (103,532) (71,328) (55,676)
-------- -------- --------
Net income................................................. $248,938 $148,138 $142,237
Dividends to preferred stockholder......................... 3,300 3,300 3,300
-------- -------- --------
Net income available to common stockholders................ $245,638 $144,838 $138,937
======== ======== ========
Basic net income per share................................. $ 6.53 $ 3.92 $ 3.78
======== ======== ========
Diluted net income per share............................... $ 6.44 $ 3.83 $ 3.67
======== ======== ========
See notes to consolidated financial statements.
F-4
108
RADIAN GROUP INC.
CONSOLIDATED STATEMENTS OF CHANGES IN COMMON STOCKHOLDERS' EQUITY
ACCUMULATED
ADDITIONAL OTHER
COMMON TREASURY PAID-IN RETAINED COMPREHENSIVE
STOCK STOCK CAPITAL EARNINGS INCOME (LOSS) TOTAL
------ -------- ---------- -------- ------------- ----------
(IN THOUSANDS)
Balance, January 1, 1998........... $36 $ -- $496,736 $271,188 $ 12,138 $ 780,098
Comprehensive income:
Net income.................... -- -- -- 142,237 -- 142,237
Unrealized holding gains
arising during period, net
of tax of $3,914............ -- -- -- -- 7,270
Less: Reclassification
adjustment for net gains
included in net income, net
of tax of $1,041............ -- -- -- -- (1,934)
--------
Net unrealized gain on
investments, net of tax of
$2,873...................... -- -- -- -- 5,336 5,336
----------
Comprehensive income............... 147,573
Issuance of common stock........... 1 -- 10,546 -- -- 10,547
Dividends.......................... -- -- -- (6,019) -- (6,019)
--- ------- -------- -------- -------- ----------
Balance, December 31, 1998......... 37 -- 507,282 407,406 17,474 932,199
Comprehensive income:
Net income.................... -- -- -- 148,138 -- 148,138
Unrealized holding losses
arising during period, net
of tax benefit of $17,398... -- -- -- -- (32,311)
Less: Reclassification
adjustment for net gains
included in net income, net
of tax of $558.............. -- -- -- -- (1,036)
--------
Net unrealized loss on
investments, net of tax
benefit of $17,956.......... -- -- -- -- (33,347) (33,347)
----------
Comprehensive income............... 114,791
Issuance of common stock........... -- -- 17,126 -- -- 17,126
Dividends.......................... -- -- -- (6,860) -- (6,860)
--- ------- -------- -------- -------- ----------
Balance, December 31, 1999......... 37 -- 524,408 548,684 (15,873) 1,057,256
Comprehensive income:
Net income.................... -- -- -- 248,938 -- 248,938
Unrealized holding gains
arising during period, net
of tax of $23,658........... -- -- -- -- 43,937
Less: Reclassification
adjustment for net gains
included in net income, net
of tax of $1,470............ -- -- -- -- (2,731)
--------
Net unrealized gain on
investments, net of tax of
$22,188..................... -- -- -- 41,206 41,206
----------
Comprehensive income............... 290,144
Issuance of common stock........... 1 -- 24,746 -- -- 24,747
Treasury stock redeemed............ -- (2,159) -- -- -- (2,159)
Dividends.......................... -- -- -- (7,791) -- (7,791)
--- ------- -------- -------- -------- ----------
Balance, December 31, 2000......... $38 $(2,159) $549,154 $789,831 $ 25,333 $1,362,197
=== ======= ======== ======== ======== ==========
See notes to consolidated financial statements.
F-5
109
RADIAN GROUP INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31
-----------------------------------
2000 1999 1998
--------- --------- ---------
(IN THOUSANDS)
Cash flows from operating activities
Net income......................................... $ 248,938 $ 148,138 $ 142,237
Adjustments to reconcile net income to net cash
provided by operating activities
Gain on sales of fixed maturity investments,
net......................................... (3,586) (1,478) (3,182)
(Gain) loss on sales of equity securities
available for sale, net..................... (439) (90) 26
Gain on sales of short-term investments,
net......................................... (154) -- --
Increase (decrease) in unearned premiums...... 22,316 (20,613) 2,854
Amortization of deferred policy acquisition
costs....................................... 51,471 58,777 58,479
Increase in deferred policy acquisition
costs....................................... (59,840) (71,474) (74,661)
Increase in reserve for losses................ 54,437 90,459 65,217
Increase in deferred federal income taxes..... 62,942 57,849 44,249
Increase in prepaid federal income taxes...... (65,549) (51,837) (45,993)
Increase in provisional losses recoverable.... (3,675) (7,347) (1,393)
Depreciation and other amortization........... 3,158 2,289 4,228
Net change in other assets, accounts payable
and accrued expenses........................ (30,042) 57,000 (255)
--------- --------- ---------
Net cash provided by operating activities.......... 279,977 261,673 191,806
--------- --------- ---------
Cash flows from investing activities
Proceeds from sales of fixed maturity investments
available for sale............................... 552,439 131,170 234,259
Proceeds from sales of fixed maturity investments
held to maturity................................. 1,922 10 1,031
Proceeds from sales of equity securities available
for sale......................................... 18,988 3,076 823
Proceeds from redemptions of fixed maturity
investments available for sale................... 16,467 24,769 23,973
Proceeds from redemptions of fixed maturity
investments held to maturity..................... 2,897 19,981 13,843
Purchases of fixed maturity investments available
for sale......................................... (813,627) (380,683) (421,754)
Purchases of equity securities available for
sale............................................. (29,713) (25,595) (25,958)
Purchases of short-term investments, net........... (38,859) (32,560) (10,685)
Purchases of property and equipment, net........... (9,419) (12,509) (8,216)
Other.............................................. (952) (1,468) (1,093)
--------- --------- ---------
Net cash used in investing activities.............. (299,857) (273,809) (193,777)
--------- --------- ---------
Cash flows from financing activities
Dividends paid..................................... (7,791) (6,860) (6,019)
Redemption of treasury stock....................... (2,159) -- --
Proceeds from issuance of common stock............. 24,747 17,126 10,547
--------- --------- ---------
Net cash provided by financing activities.......... 14,797 10,266 4,528
--------- --------- ---------
(Decrease) increase in cash............................. (5,083) (1,870) 2,557
Cash, beginning of year................................. 7,507 9,377 6,820
--------- --------- ---------
Cash, end of year....................................... $ 2,424 $ 7,507 $ 9,377
========= ========= =========
Supplemental disclosures of cash flow information
Income taxes paid.................................. $ 74,768 $ 61,450 $ 50,700
========= ========= =========
Interest paid...................................... $ 817 $ 181 $ 66
========= ========= =========
See notes to consolidated financial statements.
F-6
110
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Nature of Operations
Radian Group Inc. (the "Company"), through its wholly owned principal
operating subsidiaries, Radian Guaranty Inc. ("Radian Guaranty") and Amerin
Guaranty Corporation ("Amerin Guaranty") (together referred to as "Radian"),
provides private mortgage insurance and risk management services to mortgage
lending institutions located throughout the United States. Private mortgage
insurance protects lenders from default-related losses on residential first
mortgage loans made to homebuyers who make downpayments of less than 20% of the
purchase price and facilitates the sale of these mortgages in the secondary
market. Consistent with the rest of the private mortgage insurance industry,
Radian's highest state concentration of risk is in California. As of December
31, 2000, California accounted for 17.1% of Radian's total direct primary
insurance in force and 11.2% of Radian's total direct pool insurance in force.
In addition, California accounted for 18.1% of Radian's direct primary new
insurance written for the year ended December 31, 2000. The largest single
customer of Radian (including branches and affiliates of such customer),
measured by new insurance written, accounted for 11.2% of new insurance written
during 2000, compared to 12.2% in 1999 and 18.3% in 1998.
On November 9, 2000, the Company completed the acquisition of
ExpressClose.com, Inc. ("Express-Close"), an Internet-based settlement company
that provides real estate information products and services to the first and
second mortgage industry, for approximately $8.0 million of cash, Radian common
stock and stock options, and other consideration. The acquisition was treated as
a purchase for accounting purposes, and accordingly, the assets and liabilities
were recorded based on their fair values at the date of acquisition. The excess
of purchase price over fair value of net assets acquired of $7.4 million was
allocated to goodwill and will be amortized over 20 years. The results of
ExpressClose's operations have been included in the Company's financial
statements for the period from November 10, 2000 through December 31, 2000. The
cash component of the acquisition was financed using the Company's cash flows
from operations.
The purchase price of ExpressClose reflects the issuance of 30,000 shares
of the Company's common stock at $65.813 per share which was the closing price
of the Company's common stock on the date of the acquisition. Under the terms of
the merger agreement, the Company has also issued 20,001 options to purchase
shares of the Company's common stock. The value of the option grant was based on
a Black-Scholes valuation model assuming an average life of 7.0 years, a
risk-free interest rate of 6.75%, volatility of 39.3% and a dividend yield of
0.18%.
On November 22, 1998, the board of directors of CMAC Investment Corporation
("CMAC") and the board of directors of Amerin Corporation ("Amerin") each
approved an Agreement and Plan of Merger pursuant to which CMAC and Amerin
merged. The merger closed on June 9, 1999 after approval by the stockholders of
both companies, at which time the name of the merged company was changed to
Radian Group Inc. At the same time, the name of the Company's main operating
subsidiary, Commonwealth Mortgage Assurance Company, was changed to Radian
Guaranty, while the main operating subsidiary of Amerin, Amerin Guaranty,
retained its name. As a result of the merger, Amerin stockholders received
0.5333 shares (14,168,635 shares were issued) of CMAC common stock in a tax-free
exchange for each share of Amerin common stock that they owned. CMAC's
stockholders continued to own their existing shares after the merger. The merger
transaction was accounted for on a pooling of interests basis and, therefore,
all financial statements presented reflect the combined entity. There were no
intercompany transactions requiring elimination for any periods presented prior
to the merger.
F-7
111
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The operating results of the separate companies through the merger in 1999
and prior to the merger are as follows (in thousands):
NET NET
REVENUES INCOME
-------- --------
For the year ended December 31, 1999:
Radian Group Inc....................................... $419,611 $110,785
CMAC Investment Corporation (through March 31, 1999)... 89,787 22,878
Amerin Corporation (through March 31, 1999)............ 43,413 14,475
-------- --------
Combined............................................... $552,811 $148,138
======== ========
For the year ended December 31, 1998:
CMAC Investment Corporation............................ $332,966 $ 91,054
Amerin Corporation..................................... 150,621 51,183
-------- --------
Combined............................................... $483,587 $142,237
======== ========
The consolidated financial statements are prepared in accordance with
accounting principles generally accepted in the United States of America
("GAAP") and include the accounts of all subsidiaries. All material intercompany
balances and transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires
the Company to make estimates and assumptions that affect the reported amounts
of assets and liabilities as of the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Insurance Premiums
Statement of Financial Accounting Standards ("SFAS") No. 60, "Accounting
and Reporting by Insurance Enterprises," specifically excludes mortgage guaranty
insurance from its guidance relating to the earning of insurance premiums.
Consistent with GAAP and industry accounting practices, premiums written on an
annual and multiyear basis are initially deferred as unearned premiums and
earned over the policy term, and premiums written on a monthly basis are
primarily earned as they are received. Annual premiums are amortized on a
monthly, straight-line basis. Multiyear premiums are amortized over the terms of
the contracts in accordance with the anticipated claim payment pattern based on
historical industry experience. Ceded premiums written are initially set up as
prepaid reinsurance and are amortized in accordance with direct premiums earned.
Reserve for Losses
The reserve for losses consists of the estimated cost of settling claims on
defaults reported and defaults that have occurred but have not been reported.
SFAS 60 specifically excludes mortgage guaranty insurance from its guidance
relating to the reserve for losses. Consistent with GAAP and industry accounting
practices, the Company does not establish loss reserves for future claims on
insured loans that are not currently in default. In determining the liability
for unpaid losses related to reported outstanding defaults, the Company
establishes loss reserves on a case-by-case basis. The amount reserved for any
particular loan is dependent upon the characteristics of the loan, the status of
the loan as reported by the servicer of the insured loan as well as the economic
condition and estimated foreclosure period in the area in which the default
exists. As the default progresses closer to foreclosure, the amount of loss
reserve for that particular loan is increased, in stages, to approximately 100%
of the Company's exposure and that adjustment is included in current
F-8
112
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
operations. The Company also reserves for defaults that have occurred but have
not been reported using historical information on defaults not reported on a
timely basis by lending institutions. The estimates are continually reviewed
and, as adjustments to these liabilities become necessary, such adjustments are
reflected in current operations.
Deferred Policy Acquisition Costs
Costs associated with the acquisition of mortgage insurance business,
consisting of compensation and other policy issuance and underwriting expenses,
are initially deferred. Because SFAS 60 specifically excludes mortgage guaranty
insurance from its guidance relating to the amortization of deferred policy
acquisition costs, amortization of these costs for each underwriting year book
of business is charged against revenue in proportion to estimated gross profits
over the life of the policies using the guidance provided by SFAS No. 97,
"Accounting and Reporting by Insurance Enterprises For Certain Long Duration
Contracts and for Realized Gains and Losses From the Sale of Investments." This
includes accruing interest on the unamortized balance of capitalized acquisition
costs. The estimate for each underwriting year is updated annually to reflect
actual experience and any changes to key assumptions such as persistency or loss
development.
Income Taxes
Deferred income taxes are provided for the temporary difference between the
financial reporting basis and the tax basis of the Company's assets and
liabilities using enacted tax rates applicable to future years.
Investments
The Company is required to group its investment portfolio in three
categories: held to maturity, available for sale, and trading securities. Debt
securities for which the Company has the positive intent and ability to hold to
maturity are classified as held to maturity and reported at amortized cost. Debt
and equity securities purchased and held principally for the purpose of selling
them in the near term are classified as trading securities and are reported at
fair value, with unrealized gains and losses included in earnings. The Company
had no trading securities in its portfolio at December 31, 2000 or 1999. All
other investments are classified as available for sale and are reported at fair
value, with unrealized gains and losses (net of tax) reported in a separate
component of stockholders' equity as accumulated other comprehensive income or
losses. Realized gains and losses are determined on a specific identification
method and are included in income.
Fair Values of Financial Instruments
The following methodology was used by the Company in estimating the fair
value disclosures for its financial instruments: fair values for fixed maturity
securities (including redeemable preferred stock) and equity securities are
based on quoted market prices, dealer quotes, and prices obtained from
independent pricing services. The carrying amounts reported on the balance sheet
for cash and short-term investments approximate their fair values.
Company-owned Life Insurance
Radian Guaranty is the beneficiary of insurance policies on the lives of
certain officers and employees of Radian Guaranty. The Company has recognized
the amount that could be realized under the insurance policies as an asset in
the balance sheet. At December 31, 2000, the amount totaled $50,374,000 and is
included as a component of other assets.
F-9
113
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Accounting for Stock-Based Compensation
The Company accounts for stock-based compensation in accordance with SFAS
No. 123, "Accounting for Stock-Based Compensation." SFAS 123 requires expanded
disclosures of stock-based compensation arrangements with employees and
encourages, but does not require, the recognition of compensation expense for
the fair value of stock options and other equity instruments granted as
compensation to employees. The Company has chosen to continue to account for
stock-based compensation using the intrinsic value method prescribed in
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," ("APB 25"), and related interpretations. Accordingly, compensation
cost for stock options is measured as the excess, if any, of the quoted market
price of the Company's stock at the date of the grant over the amount an
employee must pay to acquire the stock.
In March 2000, the Financial Accounting Standards Board ("FASB")
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation" ("FIN 44"), was issued. FIN44 clarifies the application of APB25
for certain issues. The Company adopted the provisions of FIN44 in 2000. The
adoption of the interpretation did not have a material effect on the Company's
consolidated financial statements.
Net Income Per Share
The Company is required to disclose both "basic" earnings per share and
"diluted" earnings per share. Basic net income per share is based on the
weighted average number of common shares outstanding, while diluted net income
per share is based on the weighted average number of common shares outstanding
and common share equivalents that would arise from the exercise of stock
options.
The calculation of the basic and diluted net income per share was as
follows (in thousands, except per-share amounts):
2000 1999 1998
-------- -------- --------
Net income......................................... $248,938 $148,138 $142,237
Preferred stock dividend adjustment................ (3,300) (3,300) (3,300)
-------- -------- --------
Adjusted net income................................ $245,638 $144,838 $138,937
-------- -------- --------
Average diluted stock options outstanding.......... 1,926.3 2,088.1 2,212.8
Average exercise price per share................... $ 31.18 $ 26.85 $ 22.93
Average market price per share -- diluted basis.... $ 55.32 $ 46.35 $ 54.67
Average common shares outstanding.................. 37,634 36,975 36,722
Increase in shares due to exercise of
options -- diluted basis......................... 515 881 1,092
-------- -------- --------
Adjusted shares outstanding -- diluted............. 38,149 37,856 37,814
-------- -------- --------
Net income per share -- basic...................... $ 6.53 $ 3.92 $ 3.78
======== ======== ========
Net income per share -- diluted.................... $ 6.44 $ 3.83 $ 3.67
======== ======== ========
Comprehensive Income
The Company is required to present, as a component of comprehensive income,
the amounts from transactions and other events that are currently excluded from
the statement of income and are recorded directly to stockholders' equity.
F-10
114
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Recent Accounting Principles
In October 1998, the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants issued Statement of Position
98-7, "Deposit Accounting: Accounting for Insurance and Reinsurance Contracts
That Do Not Transfer Insurance Risk" ("SOP 98-7"). This statement provides
guidance on how to apply the deposit method of accounting when it is required
for insurance and reinsurance contracts that do not transfer insurance risk. The
Company adopted SOP 98-7 in 2000. The adoption of SOP 98-7 did not have a
material impact on the financial position or results of operations of the
Company.
Derivative Instruments and Hedging Activities
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." The statement, originally effective for
fiscal years beginning after June 15, 1999, was deferred for one year when the
FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging
Activities -- Deferral of the Effective Date of FASB Statement No. 133." The
statement establishes accounting and reporting standards for derivative
instruments and hedging activity and requires that all derivatives be measured
at fair value and recognized as either assets or liabilities in the financial
statements. Changes in the fair value of derivative instruments will be recorded
each period in current earnings. This represents a change from the Company's
current accounting practices whereby these changes are recorded as a component
of stockholders' equity. In June 2000, the FASB issued SFAS No. 138, "Accounting
for Certain Derivative Instruments and Certain Hedging Activities -- An
Amendment of FASB Statement No. 133," which addressed certain issues causing
implementation difficulties for entities that apply SFAS 133. The Company
adopted SFAS 133, as amended, on January 1, 2001. Transactions that the Company
has entered into that will be accounted for under SFAS 133, as amended, include
convertible debt securities.
Upon adoption of SFAS 133, as amended, the balance of the Company's
convertible debt securities was approximately $104.6 million. SFAS 133 requires
that the Company split its convertible debt securities into the derivative and
debt host components. Over the term of the securities, increases in the debt
instrument will be recorded in the Company's consolidated statement of changes
in common stockholders' equity, through accumulated other comprehensive income.
Concurrently, a deferred tax liability will be recognized as the recorded value
of the debt host increases. Changes in the fair value of the derivative will be
recorded to investment income or expense in the Company's consolidated statement
of income.
In connection with the adoption of SFAS 133, as amended, the Company
expects to reclassify $13.8 million from fixed maturities available for sale to
trading securities on its consolidated balance sheet as of January 1, 2001. The
impact of the adoption of SFAS 133, as amended, on the Company's consolidated
statement of income and the consolidated statement of changes in common
stockholders' equity is immaterial as of January 1, 2001.
Adoption of SFAS 133, as amended, could result in volatility from period to
period in investment income or expense as reported on the Company's consolidated
statement of income. The Company is unable to predict the effect this volatility
may have on its financial position or results of operations.
Subsequent Events
In the first quarter of 2001, the Company completed the previously
announced agreement to acquire Enhance Financial Services Group Inc. ("Enhance")
through the merger of a subsidiary of the Company with and into Enhance. As a
result of the merger, Enhance stockholders received 0.22 shares (8,464,968
shares were issued) of the Company's common stock for each share of Enhance
common stock that they owned in a tax-free exchange. The Company's stockholders
continued to own their existing shares after the merger. The acquisition will be
accounted for under the purchase method of accounting.
F-11
115
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In conjunction with the merger, the Company guaranteed payment of up to
$12.5 million of a $25.0 million revolving credit facility issued to Sherman
Financial Group LLC, a 45.5% owned affiliate of Enhance. There were no drawdowns
on this line of credit as of December 31, 2000.
Reclassifications
Certain items in the 1998 consolidated financial statements have been
reclassified to conform with the presentation in the 1999 and 2000 consolidated
financial statements.
2. INVESTMENTS
Fixed maturity and equity investments at December 31, 2000 and 1999
consisted of (in thousands):
DECEMBER 31, 2000
----------------------------------------------------
GROSS GROSS
AMORTIZED FAIR UNREALIZED UNREALIZED
COST VALUE GAINS LOSSES
---------- ---------- ---------- ----------
Fixed maturities held to maturity at
amortized cost:
Bonds and notes:
United States government... $ 8,765 $ 9,393 $ 628 $ --
State and municipal
obligations.............. 460,826 481,399 21,070 497
---------- ---------- ------- -------
$ 469,591 $ 490,792 $21,698 $ 497
========== ========== ======= =======
Fixed maturities available for sale:
Bonds and notes:
United States government... $ 33,126 $ 33,527 $ 756 $ 355
State and municipal
obligations.............. 822,501 848,048 28,541 2,994
Corporate.................. 152,052 157,115 8,807 3,744
Mortgage-backed securities...... 59,200 60,031 1,146 315
Redeemable preferred stock...... 20,312 22,119 2,437 630
---------- ---------- ------- -------
$1,087,191 $1,120,840 $41,687 $ 8,038
========== ========== ======= =======
Equity securities available for sale:
Equity securities............... $ 58,877 $ 64,202 $12,684 $ 7,359
========== ========== ======= =======
F-12
116
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31, 1999
----------------------------------------------------
GROSS GROSS
AMORTIZED FAIR UNREALIZED UNREALIZED
COST VALUE GAINS LOSSES
---------- ---------- ---------- ----------
Fixed maturities held to maturity at
amortized cost:
Bonds and notes:
United States government... $ 10,287 $ 10,266 $ 12 $ 33
State and municipal
obligations.............. 458,262 464,991 11,050 4,321
---------- ---------- ------- -------
$ 468,549 $ 475,257 $11,062 $ 4,354
========== ========== ======= =======
Fixed maturities available for sale:
Bonds and notes:
United States government... $ 24,167 $ 22,201 $ 44 $ 2,010
State and municipal
obligations.............. 623,700 590,318 1,689 35,071
Corporate.................. 82,167 83,741 5,580 4,006
Mortgage-backed securities...... 69,553 66,964 120 2,709
Redeemable preferred stock...... 40,258 41,552 2,006 712
---------- ---------- ------- -------
$ 839,845 $ 804,776 $ 9,439 $44,508
========== ========== ======= =======
Equity securities available for sale:
Equity securities............... $ 47,719 $ 58,378 $14,776 $ 4,117
========== ========== ======= =======
The contractual maturities of fixed maturity investments are as follows (in
thousands):
DECEMBER 31, 2000
------------------------
AMORTIZED FAIR
COST VALUE
---------- ----------
Fixed maturities held to maturity:
2001...................................................... $ 7,131 $ 7,145
2002-2005................................................. 107,144 111,554
2006-2010................................................. 213,108 225,160
2011 and thereafter....................................... 142,208 146,933
---------- ----------
$ 469,591 $ 490,792
========== ==========
Fixed maturities available for sale:
2001...................................................... $ 18,977 $ 19,007
2002-2005................................................. 139,927 141,629
2006-2010................................................. 168,473 173,519
2011 and thereafter....................................... 680,302 704,535
Mortgage-backed securities................................ 59,200 60,031
Redeemable preferred stock................................ 20,312 22,119
---------- ----------
$1,087,191 $1,120,840
========== ==========
F-13
117
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Net investment income consisted of (in thousands):
YEAR ENDED DECEMBER 31
-----------------------------
2000 1999 1998
------- ------- -------
Investment income:
Fixed maturities.................................... $79,891 $66,090 $58,145
Equity securities................................... 1,461 636 291
Short-term investments.............................. 3,941 1,789 1,592
Other............................................... 1,272 667 449
------- ------- -------
86,565 69,182 60,477
Investment expenses................................... (3,619) (1,923) (615)
------- ------- -------
$82,946 $67,259 $59,862
======= ======= =======
Net gain on sales of investments consisted of (in thousands):
YEAR ENDED DECEMBER 31
-----------------------------
2000 1999 1998
------- ------- -------
Gains on sales and redemptions of fixed maturity
investments available for sale...................... $12,732 $ 3,213 $ 4,490
Losses on sales and redemptions of fixed maturity
investments available for sale...................... (9,115) (1,752) (1,328)
Gains on sales and redemptions of fixed maturity
investments held to maturity........................ 4 27 43
Losses on sales and redemptions of fixed maturity
investments held to maturity........................ (35) (10) (23)
Gains on sales of equity securities available for
sale................................................ 2,206 273 37
Losses on sales of equity securities available for
sale................................................ (1,767) (183) (63)
Gains on sales of short-term investments.............. 184 -- --
Losses on sales of short-term investments............. (30) -- --
------- ------- -------
$ 4,179 $ 1,568 $ 3,156
======= ======= =======
For the year ended December 31, 2000, the Company sold fixed maturity
investments held to maturity with an amortized cost of $1,949,000 resulting in
gross realized losses of $27,000. For the year ended December 31, 1999, the
Company sold a fixed maturity investment held to maturity with an amortized cost
of $10,000 that resulted in no gain or loss and for the year ended December 31,
1998, the Company sold a fixed maturity investment held to maturity with an
amortized cost of $1,061,000 that resulted in a gross realized gain of $30,000.
All investments were sold in response to a significant deterioration in the
issuer's creditworthiness.
Net unrealized appreciation (depreciation) on investments consisted of (in
thousands):
YEAR ENDED DECEMBER 31
-------------------------------
2000 1999 1998
-------- -------- -------
Fixed maturities held to maturity................... $ 14,493 $(28,142) $ 4,860
======== ======== =======
Fixed maturities available for sale................. $ 68,718 $(59,636) $ 5,894
Deferred tax (provision) benefit.................... (24,051) 20,873 (2,063)
-------- -------- -------
$ 44,667 $(38,763) $ 3,831
======== ======== =======
Equity securities available for sale................ $ (5,334) $ 8,343 $ 2,316
Deferred tax benefit (provision).................... 1,867 (2,920) (811)
-------- -------- -------
$ (3,467) $ 5,423 $ 1,505
======== ======== =======
F-14
118
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Securities on deposit with various state insurance commissioners amounted
to $13,086,000 at December 31, 2000 and $13,119,000 at December 31, 1999.
3. REINSURANCE
Radian utilizes reinsurance to reduce net risk in force to meet regulatory
risk to capital requirements and to comply with the regulatory maximum per loan
coverage percentage limitation of 25%. Although the use of reinsurance does not
discharge an insurer from its primary liability to the insured, the reinsuring
company assumes the related liability. Included in other assets are amounts
recoverable from reinsurers pertaining to unpaid claims, claims incurred but not
reported, and unearned premiums (prepaid reinsurance). Prepaid reinsurance
premiums were $9,415,000 and $10,500,000 at December 31, 2000 and 1999,
respectively.
The effect of reinsurance on premiums written and earned is as follows for
the years ended December 31 (in thousands):
YEAR ENDED DECEMBER 31
--------------------------------
2000 1999 1998
-------- -------- --------
Premiums written:
Direct........................................ $592,734 $496,646 $451,572
Assumed....................................... 80 93 97
Ceded......................................... (48,542) (44,922) (45,202)
-------- -------- --------
Net premiums written.......................... $544,272 $451,817 $406,467
======== ======== ========
Premiums earned:
Direct........................................ $570,425 $517,364 $448,668
Assumed....................................... 80 87 129
Ceded......................................... (49,634) (44,816) (43,545)
-------- -------- --------
Net premiums earned........................... $520,871 $472,635 $405,252
======== ======== ========
The 2000, 1999, and 1998 figures included $9,561,000, $14,423,000, and
$26,676,000 for premiums written and $9,772,000, $14,781,000, and $27,126,000
for premiums earned, respectively, for reinsurance ceded under variable quota
share treaties entered into in 1997, 1996, 1995, and 1994 covering the books of
business originated by Radian Guaranty in those years. The 2000, 1999 and 1998
figures included $(1,048,000), $3,183,000 and $3,614,000 for premiums written
and the 1999 and 1998 figures included $1,992,000 and $2,042,000 for premiums
earned, respectively, of reinsurance ceded under an excess of loss reinsurance
program that was entered into in 1992 covering Radian Guaranty's books of
business.
Provisional losses recoverable of $43,740,000 and $40,065,000 for 2000 and
1999, respectively, represent amounts due under variable quota share treaties
entered into in 1997, 1996, 1995 and 1994, covering the books of business
originated by Radian Guaranty in those years. The term of each treaty is ten
years and is non-cancelable by either party except under certain conditions. The
treaties also include underwriting year excess coverage in years four, seven,
and ten of the treaty.
Under the terms of the contract, Radian Guaranty cedes premium to the
reinsurer based on 15% of the premiums received by Radian Guaranty on the
covered business. Radian Guaranty is entitled to receive a ceding commission
ranging from 30% to 32% of the premium paid under the treaty provided that
certain loss ratios are not exceeded. In return for the payment of premium,
Radian Guaranty receives variable quota share loss relief at levels ranging from
7.5% to 15.0% based upon the loss ratio on the covered business.
In addition, Radian Guaranty is entitled to receive, under the underwriting
year excess coverage, 8% of the ceded premium written under each treaty to the
extent that this amount is greater than the total amount received under the
variable quota share coverage on paid losses.
F-15
119
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Premiums are payable to the reinsurer on a quarterly basis net of ceding
commissions due and any losses calculated under the variable quota share
coverage. At the end of the fourth, seventh, and tenth years of each treaty,
depending on the extent of losses recovered to date under the variable quota
share provisions of the treaty, Radian Guaranty may recover amounts due under
the underwriting year excess coverage provisions of the treaty.
The Company accounts for this reinsurance coverage under guidance provided
in EITF 93-6, "Accounting for Multiple-Year Retrospectively Rated Contracts by
Ceding and Assuming Enterprises." Under EITF 93-6, the Company recognizes an
asset for amounts due from the reinsurer based on experience to date under the
contract.
For the years ended December 31, 2000, 1999, and 1998, Radian Guaranty paid
$9,561,000, $14,423,000, and $26,676,000, respectively, less ceding commissions
of $4,833,000, $6,098,000, and $9,076,000 and recovered variable quota share
losses under the treaties of $2,262,000, $6,066,000, and $4,600,000,
respectively.
Radian has also entered into captive reinsurance arrangements with certain
customers. The arrangements are structured on an excess layer basis with insured
loans grouped by loan origination year. Radian retains the first layer of risk
on a particular book of business, the captive reinsurer assumes the next layer,
and Radian assumes all losses above that point. The captive reinsurers are
generally required to maintain minimum capitalization equal to 10% of the risk
assumed. At December 31, 2000, approximately $422,700,000 of risk was ceded
under captive reinsurance arrangements. For the years ended December 31, 2000,
1999, and 1998, Radian had ceded premiums written of $39,686,000, $26,931,000,
and $14,376,000, respectively and ceded premiums earned of $39,501,000,
$27,502,000, and $13,819,000, respectively, under these various captive
reinsurance arrangements.
In addition, Radian Guaranty reinsures all of its direct insurance in force
under an excess of loss reinsurance program. Under this program, the reinsurer
is responsible for 100% of Radian Guaranty's covered losses (subject to an
annual and aggregate limit) in excess of an annual retention limit. Premiums are
paid to the reinsurer on a quarterly basis, net of any losses due to Radian
Guaranty. For the years ended December 31, 1999 and 1998, Radian Guaranty had
ceded premiums written of $3,183,000 and $3,614,000, respectively, and ceded
premiums earned of $1,992,000 and $2,042,000, respectively, under this excess of
loss reinsurance program. Beginning in 2000, this treaty was accounted for under
SOP 98-7 and therefore, $5,370,000 was included in incurred losses during 2000
relating to the excess of loss reinsurance program.
Amerin Guaranty also reinsured all of its direct insurance in force under a
$100 million excess loss protection treaty that covered Amerin Guaranty in the
event the combined ratio exceeded 100% and the risk to capital ratio exceeded
24.9 to 1. This excess loss protection program was cancelled as of December 31,
2000. The amount ceded under the treaty was based on the calculated leverage
ratio at the end of each calendar quarter. The total expense recognized under
the treaty included in other operating expenses was $2,650,000 and $2,150,000 in
1999 and 1998, respectively. Beginning in 2000, this treaty was accounted for
under SOP 98-7 and therefore, $1,600,000 was included in incurred losses during
2000 relating to the excess loss protection treaty.
4. UNPAID LOSSES AND LOSS ADJUSTMENT EXPENSES
As described in note 1, the Company establishes reserves to provide for the
estimated costs of settling claims in respect of loans reported to be in default
and loans that are in default that have not yet been reported to the Company.
The default and claim cycle on loans that Radian covers begins with a
receipt from the lender of notification of a default on an insured loan. The
master policy with each lender requires that lender to inform Radian of an
uncured default on a mortgage loan within 75 days of the default. The incidence
of default is
F-16
120
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
influenced by a number of factors, including change in borrower income,
unemployment, divorce and illness, the level of interest rates, and general
borrower creditworthiness. Defaults that are not cured result in claims to
Radian. Borrowers may cure defaults by making all delinquent loan payments or by
selling the property and satisfying all amounts due under the mortgage.
Different regions of the country experience different default rates due to
varying economic conditions and each state has different rules regarding the
foreclosure process. These rules can impact the amount of time that it takes for
a default to reach foreclosure, so the Company has developed a reserving
methodology that takes these different time periods into account in calculating
the reserve.
When a specific loan initially defaults, it is uncertain that the default
will result in a claim. It is Radian's experience that a significant percentage
of loans in default end up being cured. Increasing the reserve in stages as the
foreclosure progresses approximates the estimated total loss for that particular
claim. At any time during the foreclosure process, until the lender takes title
to the property, the borrower may cure the default. Therefore, it is appropriate
to increase the reserve in stages as new insight and information are obtained.
At the time of title transfer, the Company has approximately 100% of the
estimated total loss reserved.
The following table presents information relating to the liability for
unpaid claims and related expenses (in thousands):
2000 1999 1998
-------- -------- --------
Balance at January 1............................... $335,584 $245,125 $179,908
Add losses and LAE incurred in respect of default
notices received in:
Current year.................................. 247,759 218,139 179,674
Prior years................................... (93,433) (43,996) (13,297)
-------- -------- --------
Total incurred..................................... 154,326 174,143 166,377
-------- -------- --------
Deduct losses and LAE paid in respect of default
notices received in:
Current year.................................. 8,891 7,353 18,196
Prior years................................... 90,998 76,331 82,964
-------- -------- --------
Total paid......................................... 99,889 83,684 101,160
-------- -------- --------
Balance at December 31............................. $390,021 $335,584 $245,125
======== ======== ========
As a result of changes in estimates of insured events in prior years, the
provision for losses and loss adjustment expenses (net of reinsurance recoveries
of $1,042,000, $28,231,000, and $11,180,000 in 2000, 1999, and 1998,
respectively) decreased by $93,433,000, $43,996,000 and $13,297,000 in 2000,
1999 and 1998, respectively, due primarily to lower than anticipated claim
payments as compared to the amounts reserved as a result of strong housing
prices.
5. REDEEMABLE PREFERRED STOCK
The Company's preferred stock is entitled to cumulative annual dividends of
$4.125 per share, payable quarterly in arrears. The preferred stock is
redeemable at the option of the Company at $54.125 per share on or after August
15, 2002, and declining to $50.00 per share on or after August 15, 2005 (plus in
each case accumulated and unpaid dividends), or is subject to mandatory
redemption at a redemption price of $50.00 per share plus accumulated and unpaid
dividends based upon specified annual sinking fund requirements from 2002 to
2011.
F-17
121
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. INCOME TAXES
Deferred income taxes at the end of each period are determined by applying
enacted statutory tax rates applicable to the years in which the taxes are
expected to be paid or recovered. Deferred income taxes reflect the net tax
effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts for income tax
purposes. The effect on deferred taxes of a change in the tax rate is recognized
in earnings in the period that includes the enactment date.
Provision for income taxes includes a net deferred tax provision in 2000,
1999, and 1998 of $62,938,000, $58,083,000, and $35,875,000, respectively. Of
the 2000, 1999, and 1998 provisions, $63,685,000, $54,425,000, and $45,247,000,
respectively, were due to a deduction related to the purchase of U.S. government
non-interest-bearing tax and loss bonds as allowed by federal tax regulations,
with the 1999 and 1998 purchase deductions offset by $7,053,000 and $4,979,000,
respectively, of alternative minimum tax adjustments. These purchases are
treated as prepaid federal income taxes. The payment for the tax and loss bonds
is essentially a prepayment of federal income taxes that will become due at a
later date. All other amounts arose principally from differences in accounting
for deferred policy acquisition costs and insurance reserve tax adjustments
required as a result of the Tax Reform Act of 1986.
The significant components of the Company's net deferred tax assets and
liabilities are summarized as follows (in thousands):
DECEMBER 31
----------------------
2000 1999
--------- ---------
Deferred tax assets:
Unearned premiums...................................... $ 4,746 $ 2,975
Loss reserves.......................................... 8,896 7,946
Employee benefits...................................... 1,225 648
Net unrealized loss on investments..................... -- 8,547
Other.................................................. 1,538 --
--------- ---------
16,405 20,116
--------- ---------
Deferred tax liabilities:
Deferred policy acquisition costs...................... (24,520) (21,591)
Net unrealized gain on investments..................... (13,641) --
Depreciation........................................... (1,254) (1,278)
Deduction related to purchase of tax and loss bonds.... (268,284) (203,343)
Other.................................................. -- (72)
--------- ---------
(307,699) (226,284)
--------- ---------
Net deferred tax liability............................. $(291,294) $(206,168)
========= =========
F-18
122
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The reconciliation of taxes computed at the statutory tax rate of 35% for
2000, 1999 and 1998 to the provision for income taxes is as follows (in
thousands):
2000 1999 1998
-------- -------- --------
Provision for income taxes computed at the statutory
tax rate............................................. $123,365 $ 76,813 $ 69,269
Change in tax provision resulting from:
Tax-exempt municipal bond interest and dividends
received deduction (net of proration)........... (20,482) (15,535) (13,897)
Capitalized merger costs.......................... 123 8,124 --
Other, net........................................ 526 1,926 304
-------- -------- --------
Provision for income taxes............................. $103,532 $ 71,328 $ 55,676
======== ======== ========
7. STOCKHOLDERS' EQUITY AND DIVIDEND RESTRICTIONS
The Company is a holding company whose principal source of income is
dividends from Radian. The ability of Radian Guaranty to pay dividends on its
common stock is restricted by certain provisions of the insurance laws of the
Commonwealth of Pennsylvania, its state of domicile. The insurance laws of
Pennsylvania establish a test limiting the maximum amount of dividends that may
be paid by an insurer without prior approval by the Pennsylvania Insurance
Commissioner. Under such test, Radian Guaranty may pay dividends during any
12-month period in an amount equal to the greater of (i) 10% of the preceding
year-end statutory policyholders' surplus or (ii) the preceding year's statutory
net income. In accordance with such restrictions, $197,979,000 would be
available for dividends in 2001. However, an amendment to the Pennsylvania
statute requires that dividends and other distributions be paid out of an
insurer's unassigned surplus. Because of the unique nature of the method of
accounting for contingency reserves, Radian Guaranty has negative unassigned
surplus. Thus, prior approval by the Pennsylvania Insurance Commissioner is
required for Radian Guaranty to pay dividends or make other distributions so
long as Radian Guaranty has negative unassigned surplus. The Pennsylvania
Insurance Commissioner has approved all distributions by Radian Guaranty since
the passage of this amendment, and management has every expectation that the
Commissioner of Insurance will continue to approve such distributions in the
future, provided that the financial condition of Radian Guaranty does not
materially change.
The ability of Amerin Guaranty to pay dividends on its common stock is
restricted by certain provisions of the insurance laws of the State of Illinois,
its state of domicile. The insurance laws of Illinois establish a test limiting
the maximum amount of dividends that may be paid from positive unassigned
surplus by an insurer without prior approval by the Illinois Insurance
Commissioner. Under such test, Amerin Guaranty may pay dividends during any
12-month period in an amount equal to the greater of (i) 10% of the preceding
year-end statutory policyholders' surplus or (ii) the preceding year's statutory
net income. In accordance with such restrictions, $58,036,000 would be available
for dividends in 2001 without prior regulatory approval, which represents the
positive unassigned surplus of Amerin Guaranty at December 31, 2000.
The Company and Radian Guaranty have entered into an agreement, pursuant to
which the Company has agreed to establish and, for as long as any shares of
$4.125 Preferred Stock remain outstanding, maintain a reserve account in an
amount equal to three years of dividend payments on the outstanding shares of
$4.125 Preferred Stock (currently $9,900,000), and not to pay dividends on the
common stock at any time when the amount in the reserve account is less than
three years of dividend payments on the shares of $4.125 Preferred Stock then
outstanding. This agreement between the Company and Radian Guaranty provides
that the holders of the $4.125 Preferred Stock are entitled to enforce the
agreement's provisions as if such holders were signatories to the agreement.
F-19
123
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Radian Guaranty's current excess of loss reinsurance arrangement prohibits
the payment of any dividend that would have the effect of reducing the total of
its statutory policyholders' surplus plus its contingency reserve below
$85,000,000. As of December 31, 2000, Radian Guaranty had statutory
policyholders' surplus of $171,644,000 and a contingency reserve of
$798,954,000, for a total of $970,598,000.
The Company may not pay any dividends on its shares of common stock unless
the Company has paid all accrued dividends on, and has complied with all sinking
fund and redemption obligations relating to, its outstanding shares of $4.125
Preferred Stock.
The Company prepares its statutory financial statements in accordance with
the accounting practices prescribed or permitted by the Insurance Department of
the respective state of domicile. Prescribed statutory accounting practices
include a variety of publications of the National Association of Insurance
Commissioners ("NAIC") as well as state laws, regulations, and general
administrative rules. Permitted statutory accounting practices encompass all
accounting practices not so prescribed.
Radian Guaranty's statutory policyholders' surplus at December 31, 2000 and
1999 was $171,644,000 and $157,693,000, respectively. Radian Guaranty's
statutory net income for 2000, 1999, and 1998 was $197,979,000, $137,094,000,
and $105,264,000, respectively.
Under Illinois insurance regulations, Amerin Guaranty is required to
maintain statutory basis capital and surplus of $1,500,000. The statutory
policyholders' surplus at December 31, 2000 and 1999 was $284,813,000 and
$242,636,000, respectively. Amerin Guaranty's statutory net income for 2000,
1999, and 1998 was $101,448,000, $70,901,000, and $71,715,000, respectively.
The differences between the statutory net income and surplus and the
consolidated net income and equity presented on a GAAP basis represent
differences between GAAP and statutory accounting practices for the following
reasons:
Under statutory accounting practices, mortgage guaranty insurance companies
are required to establish each year a contingency reserve equal to 50% of
premiums earned in such year. Such amount must be maintained in the contingency
reserve for 10 years after which time it is released to unassigned surplus.
Prior to 10 years, the contingency reserve may be reduced with regulatory
approval to the extent that losses in any calendar year exceed 35% of earned
premiums for such year. Under GAAP, the contingency reserve is not required.
Under statutory accounting practices, insurance policy acquisition costs
are charged against operations in the year incurred. Under GAAP, these costs are
deferred and amortized.
Statutory financial statements only include a provision for current income
taxes due, and purchases of tax and loss bonds are accounted for as investments.
GAAP financial statements provide for deferred income taxes, and purchases of
tax and loss bonds are recorded as prepayments of income taxes.
Under statutory accounting practices, fixed maturity investments are valued
at amortized cost. Under GAAP, those investments that Radian does not have the
ability or intent to hold to maturity are considered to be available for sale
and are recorded at market value, with the unrealized gain or loss recognized,
net of tax, as an increase or decrease to stockholders' equity.
Under statutory accounting practices, certain assets, designated as
non-admitted assets, are charged directly against statutory surplus. Such assets
are reflected on the GAAP financial statements.
In March 1998, the National Association of Insurance Commissioners adopted
the Codification of Statutory Accounting Principles ("Codification"). The
Codification, which is intended to standardize regulatory accounting and
reporting for the insurance industry, is effective January 1, 2001. However,
statutory accounting principles will continue to be established by individual
state laws and permitted practices. The Commonwealth of Pennsylvania will
require adoption of the Codification for the preparation of statutory
F-20
124
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
financial statements effective January 1, 2001. The Company estimates that the
adoption of the Codification by Radian Guaranty will increase statutory capital
and surplus as of January 1, 2001 by approximately $10,333,000 in Radian
Guaranty. The State of Illinois will require adoption of the Codification for
the preparation of statutory financial statements effective January 1, 2001. The
Company estimates that the adoption of the Codification by Amerin Guaranty will
increase statutory capital and surplus as of January 1, 2001 by approximately
$2,370,000 in Amerin Guaranty.
In April 1998, the Company's board of directors approved a stockholder
rights plan designed to help ensure that all stockholders receive fair value for
their shares of common stock in the event of any proposed takeover of the
Company and to guard against the use of partial tender offers or other coercive
tactics to gain control of the Company without offering fair value to the
stockholders.
8. STOCK-BASED COMPENSATION
In November 1992, the Company's board of directors adopted the CMAC
Investment Corporation 1992 Stock Option Plan, which provides for the granting
of nonqualified stock options, either alone or together with stock appreciation
rights. Effective with the merger, the name of the plan was changed to the
Radian Group Inc. 1992 Stock Option Plan (the "Stock Option Plan"). Originally
up to 500,000 shares were subject to stock options. This amount was amended by a
vote of the stockholders to 900,000 in May 1993. These options may be granted to
directors, officers, and key employees of the Company at prices that are not
less than 90% of fair market value on the date the options are granted, although
all options have been granted with an exercise price equal to the fair value of
the Company's stock at the date of grant. Accordingly, no compensation expense
has been recognized for the Company's stock-based compensation plans. Each stock
option is exercisable for a period of ten years from the date of the grant and
is subject to a vesting schedule as approved by the Company's Stock Option and
Compensation Committee. In May 1995, the CMAC Investment Corporation Equity
Compensation Plan was instituted by a vote of the stockholders. Effective with
the merger, the name of the plan was changed to the Radian Group Inc. Equity
Compensation Plan (the "Equity Compensation Plan"). This plan provides for the
granting of nonqualified stock options, under terms similar to those in the
Stock Option Plan, or other forms of equity-based compensation. The aggregate
number of shares that may be issued under this new plan was 1,100,000, which
brought the total number of shares subject to stock options or other forms of
equity-based compensation to 2,000,000. Effective with the two-for-one stock
split in December 1996, all share totals within the plans were doubled, bringing
the total number of shares subject to stock options or other forms of
equity-based compensation to 4,000,000.
In June 1999, the number of shares subject to stock options was amended by
a vote of the stockholders to 5,000,000. At the same time, as a result of the
merger, the number of options outstanding from the prior Amerin plan was added
to the total number of shares subject to stock options or other forms of equity
compensation, bringing the total number of shares to 5,800,177.
F-21
125
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Information regarding the Stock Option Plan and Equity Compensation Plan is
as follows:
WEIGHTED
AVERAGE
EXERCISE
NUMBER OF PRICE
SHARES PER SHARE
--------- ---------
Outstanding, January 1, 1998................................ 2,611,595 $23.84
Granted................................................... 126,232 42.28
Exercised................................................. (351,477) 11.04
Cancelled................................................. (79,490) 27.47
---------
Outstanding, December 31, 1998.............................. 2,306,860 26.65
Granted................................................... 229,921 40.63
Exercised................................................. (445,558) 26.40
Cancelled................................................. (134,779) 38.52
---------
Outstanding, December 31, 1999.............................. 1,956,444 27.54
Granted................................................... 460,107 45.34
Exercised................................................. (588,678) 24.86
Cancelled................................................. (71,990) 44.00
---------
Outstanding, December 31, 2000.............................. 1,755,883 32.43
=========
Exercisable, December 31, 2000.............................. 987,167 23.95
=========
Available for grant, December 31, 2000...................... 2,325,337
=========
The Company applies APB 25 in accounting for its stock-based compensation
plans. Had compensation cost for the Company's stock option plans been
determined based upon the fair value at the grant date for awards under these
plans consistent with the methodology prescribed under SFAS 123, the Company's
net income and earnings per share would have been reduced by approximately
$4,189,000 ($.11 per share), $2,932,000 ($.08 per share), and $3,952,000 ($.10
per share in 2000, 1999, and 1998, respectively. The pro forma effect on net
income for 2000, 1999, and 1998 is not representative of the pro forma effect on
net income in future years because it does not take into consideration pro forma
compensation expense related to grants made prior to 1995.
The weighted average fair values of the stock options granted during 2000,
1999, and 1998 were $23.96, $20.65, and $20.64, respectively. The fair value of
each stock option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average
assumptions used for grants:
2000 1999 1998
----- ----- -----
Expected life (years)....................................... 7.07 7.89 6.83
Risk-free interest rate..................................... 6.69% 4.91% 5.21%
Volatility.................................................. 39.29% 38.73% 39.05%
Dividend yield.............................................. 0.16% 0.30% 0.33%
F-22
126
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following tables summarize information concerning currently outstanding
and exercisable options at December 31, 2000:
OPTIONS OUTSTANDING
---------------------------------------
WEIGHTED
AVERAGE WEIGHTED
REMAINING AVERAGE
NUMBER CONTRACTUAL EXERCISE
RANGE OF EXERCISE PRICES OUTSTANDING LIFE (YEARS) PRICE
------------------------ ----------- ------------ --------
$ 9.00 - $ 9.94................... 202,344 1.89 $ 9.00
$12.56 - $14.69................... 316,675 3.44 14.54
$22.13 - $32.50................... 304,010 5.35 26.27
$33.28 - $49.69................... 697,991 8.26 41.81
$50.39 - $67.49................... 234,863 7.79 56.83
---------
1,755,883
=========
OPTIONS EXERCISABLE
-----------------------
WEIGHTED
AVERAGE
NUMBER EXERCISE
RANGE OF EXERCISE PRICES EXERCISABLE PRICE
------------------------ ----------- --------
$ 9.00 - $ 9.94................................ 202,344 $ 9.00
$12.56 - $14.69................................ 316,675 14.54
$22.13 - $32.50................................ 241,110 24.64
$33.28 - $49.69................................ 112,936 43.12
$50.39 - $67.49................................ 114,102 56.13
-------
987,167
=======
In 1999, the Stock Option Plan was amended to include the grant of "reload"
options. The award of a "reload" option allows the optionee to receive the grant
of an additional stock option, at the then current market price, in the event
that such optionee exercises all or part of an option (an "original option") by
surrendering already owned shares of common stock in full or partial payment of
the option price under such original option. The exercise of an additional
option issued in accordance with the "reload" feature will reduce the total
number of shares eligible for award under the Stock Option Plan. At December 31,
2000, there were 234,781 options outstanding with a "reload" feature. During
2000, there were 37,707 additional options issued in accordance with the
"reload" feature.
In July 1997, the Company's board of directors adopted the 1997 CMAC
Investment Corporation Employee Stock Purchase Plan and shareholder approval was
granted during the Company's 1998 Annual Meeting. As a result of the merger, the
name of the plan was changed to the 1997 Radian Group Inc. Employee Stock
Purchase Plan (the "ESPP"). A total of 200,000 shares of the Company's
authorized but unissued common stock has been made available under the ESPP. The
ESPP allows eligible employees to purchase shares of the Company's stock at a
discount of 15% of the beginning-of-period or end-of-period (each period being
the first and second six calendar months) fair market value of the stock,
whichever is lower. Eligibility under the ESPP is determined based on standard
weekly work hours and tenure with the Company, and eligible employees are
limited to a maximum contribution of $400 per payroll period toward the purchase
of the Company's stock. Under the ESPP, the Company sold 5,200, 5,800 and 1,900
shares to employees in 2000, 1999 and 1998, respectively. The Company applies
APB 25 in accounting for the ESPP. The pro forma effect on the Company's net
income and earnings per share had compensation cost been determined under SFAS
123 was deemed immaterial in 2000, 1999 and 1998.
F-23
127
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. BENEFIT PLANS
The Company maintains a noncontributory defined benefit pension plan
covering substantially all full-time employees. Retirement benefits are a
function of the years of service and the level of compensation. Assets of the
plan are allocated in a balanced fashion with approximately 40% in fixed income
securities and 60% in equity securities.
The Company also provides a nonqualified deferred compensation plan
covering certain key executives designated by the board of directors. Under this
plan, participants are eligible to receive benefits in addition to those paid
under the defined benefit pension plan if their base compensation is in excess
of the current IRS compensation limitation for the defined benefit pension plan.
Retirement benefits under the nonqualified plan are a function of the years of
service and the level of compensation and are reduced by any benefits paid under
the defined benefit plan.
In addition to providing pension benefits, the Company will provide certain
health care and life insurance benefits to retired employees. The Company
accounts for such benefits under SFAS No. 106, "Employers Accounting for
Postretirement Benefits Other Than Pensions," and accrues the estimated costs of
retiree medical and life benefits over the period during which employees render
the service that qualifies them for benefits.
The funded status of the defined benefit plans and the postretirement
benefit plan were as follows (in thousands):
PENSION BENEFITS OTHER BENEFITS
------------------ --------------
2000 1999 2000 1999
------- ------- ----- -----
Change in Benefit Obligation
Benefit obligation at beginning of year...... $ 5,844 $ 5,258 $ 314 $ 365
Service cost................................. 1,014 797 16 19
Interest cost................................ 548 383 24 21
Increase due to plan amendments.............. 406 -- -- --
Plan participants' contributions............. -- -- 6 5
Actuarial (gain) loss........................ 1,530 (555) 16 (84)
Benefits paid................................ (40) (39) (13) (12)
------- ------- ----- -----
Benefit obligation at end of year............ $ 9,302 $ 5,844 $ 363 $ 314
------- ------- ----- -----
Change in Plan Assets
Fair value of plan assets at beginning of
year...................................... $ 4,757 $ 3,714 $ -- $ --
Actual return on plan assets................. (69) 782 -- --
Employer contributions....................... 455 300 7 7
Plan participants' contributions............. -- -- 6 5
Benefits paid................................ (40) (39) (13) (12)
------- ------- ----- -----
Fair value of plan assets at end of year..... $ 5,103 $ 4,757 $ -- $ --
------- ------- ----- -----
Underfunded status of the plan............... $(4,199) $(1,087) $(363) $(314)
Unrecognized prior service cost.............. 764 456 (168) (139)
Unrecognized net actuarial loss (gain)....... 755 (1,248) (128) (194)
------- ------- ----- -----
Accrued benefit cost......................... $(2,680) $(1,879) $(659) $(647)
======= ======= ===== =====
F-24
128
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The components of net pension and net periodic postretirement benefit costs
are as follows (in thousands):
DEFINED BENEFIT PLANS
-------------------------
2000 1999 1998
------ ----- ------
Service cost.............................................. $1,014 $ 797 $ 748
Interest cost............................................. 548 383 362
Expected return on plan assets............................ (422) (320) (219)
Amortization of prior service cost........................ 98 69 69
Recognized net actuarial loss............................. 17 10 40
------ ----- ------
Net periodic benefit cost................................. $1,255 $ 939 $1,000
====== ===== ======
POSTRETIREMENT BENEFIT PLANS
-----------------------------
2000 1999 1998
------- ------- -------
Service cost................................................ $ 16 $ 19 $ 19
Interest cost............................................... 24 21 22
Expected return on plan assets.............................. -- -- --
Amortization of prior service cost.......................... (11) (11) (11)
Recognized net actuarial gain............................... (10) (8) (8)
---- ---- ----
Net periodic benefit cost................................... $ 19 $ 21 $ 22
==== ==== ====
Assumptions used to determine net pension and net periodic postretirement
benefit costs are as follows:
DEFINED BENEFIT PLANS
-----------------------
2000 1999 1998
----- ----- -----
Weighted average assumptions as of December 31:
Discount rate.......................................... 7.50% 7.50% 6.75%
Expected return on plan assets......................... 8.50% 8.50% 8.50%
Rate of compensation increase.......................... 6.00% 4.00% 4.00%
POSTRETIREMENT BENEFIT PLANS
-----------------------------
2000 1999 1998
------- ------- -------
Weighted average assumptions as of December 31:
Discount rate.......................................... 7.25% 7.50% 6.75%
Expected return on plan assets......................... -- -- --
Rate of compensation increase.......................... -- -- --
Due to the nature of the postretirement benefit plan, no increase is
assumed in the Company's obligation due to any increases in the per capita cost
of covered health care benefits.
In addition to the defined benefit plan, the nonqualified deferred
compensation plan, and the postretirement benefit plan, the Company also
maintains a Savings Incentive Plan, which covers substantially all full-time
employees and all part-time employees employed for a minimum of 90 consecutive
days. Participants can contribute up to 15% of their base earnings as pretax
contributions. The Company will match at least 25% of the first 5% of base
earnings contributed in any given year. These matching funds are subject to
certain vesting requirements. The expense to the Company for matching funds for
the years ended December 31, 2000, 1999, and 1998 was $1,094,000, $1,220,000,
and $918,000, respectively.
F-25
129
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. COMMITMENTS AND CONTINGENCIES
In December 2000, a complaint seeking class action status on behalf of a
nationwide class of home mortgage borrowers was filed against Radian in the
United States District Court for the Middle District of North Carolina
(Greensboro Division). The complaint alleges that Radian violated Section 8 of
the Real Estate Settlement Procedures Act ("RESPA") which generally prohibits
the giving of any fee, kickback or thing of value pursuant to any agreement or
understanding that real estate settlement services will be referred. The
complaint asserts that the pricing of pool insurance, captive reinsurance,
contract underwriting, performance notes and other, unidentified "structured
transactions," should be interpreted as imputed kickbacks made in exchange for
the referral of primary mortgage insurance business, which, according to the
complaint, is a settlement service under RESPA. The complaint seeks injunctive
relief and damages of three times the amount of any mortgage insurance premiums
paid by persons who were referred to Radian pursuant to the alleged agreement or
understanding. The plaintiffs in the lawsuit are represented by the same group
of plaintiffs' lawyers who last year filed similar lawsuits against other
providers of primary mortgage insurance in federal court in Georgia. The Georgia
court dismissed those lawsuits for failure to state a claim. Three of those
lawsuits were settled prior to appeal; two are currently on appeal. Radian has
responded to the complaint by filing a motion to dismiss. Because this case is
at a very early stage, it is not possible to evaluate the likelihood of an
unfavorable outcome or to estimate the amount or range of potential loss.
In addition to the above, the Company is involved in certain litigation
arising in the normal course of its business. The Company is contesting the
allegations in each such other action and believes, based on current knowledge
and consultation with counsel, that the outcome of such litigation will not have
a material adverse effect on the Company's consolidated financial position or
results of operations.
Radian utilizes its underwriting skills to provide an outsource contract
underwriting service to its customers. Radian often gives recourse to its
customers on loans it underwrites for compliance. If the loan does not meet
agreed-upon guidelines and is not salable in the secondary market for that
reason, Radian agrees to remedy the situation either by placing mortgage
insurance coverage on the loan, by purchasing the loan, or indemnifying the loan
against future loss. During 2000, less than 1% of all loans were subject to
these remedies and the costs associated with these remedies were immaterial.
The Company leases office space for use in its underwriting, sales, loan
workout, and administrative support operations. Net rental expense in connection
with these leases totaled $2,970,000, $3,145,000, and $3,000,000 in 2000, 1999,
and 1998, respectively. The commitment for noncancelable operating leases in
future years is as follows (in thousands):
2001........................................................ $2,875
2002........................................................ 2,265
2003........................................................ 1,408
2004........................................................ 309
2005........................................................ 236
------
$7,093
======
The commitment for noncancelable operating leases in future years has not
been reduced by future minimum sublease rental payments aggregating
approximately $1,844,000.
F-26
130
RADIAN GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
11. QUARTERLY FINANCIAL DATA (UNAUDITED)
2000 QUARTER
----------------------------------------------------
FIRST SECOND THIRD FOURTH YEAR
-------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER-SHARE INFORMATION)
Net premiums written................ $135,606 $128,936 $136,147 $143,583 $544,272
Net premiums earned................. 127,297 129,539 130,236 133,799 520,871
Net investment income............... 18,827 20,304 21,179 22,636 82,946
Provision for losses................ 38,782 38,005 38,251 39,288 154,326
Policy acquisition and other
expenses.......................... 26,713 25,492 26,931 29,502 108,638
Net income.......................... 58,600 61,858 64,069 64,411 248,938
Net income per share(1)(2).......... $ 1.53 $ 1.60 $ 1.66 $ 1.66 $ 6.44
Average shares outstanding(1)....... 37,864 38,138 38,192 38,380 38,149
1999 QUARTER
---------------------------------------------------
FIRST SECOND THIRD FOURTH YEAR
-------- -------- ------- -------- --------
Net premiums written................. $111,355 $115,907 $95,537 $129,018 $451,817
Net premiums earned.................. 112,493 116,319 120,031 123,792 472,635
Net investment income................ 15,913 16,814 16,439 18,093 67,259
Provision for losses................. 44,242 43,312 42,519 44,070 174,143
Policy acquisition and other
expenses........................... 33,130 32,255 31,122 24,929 121,436
Merger expenses...................... 2,833 22,697 11,353 883 37,766
Net income........................... 37,353 25,094 37,488 48,203 148,138
Net income per share(1)(2)........... $ 0.97 $ 0.64 $ 0.97 $ 1.25 $ 3.83
Average shares outstanding(1)........ 37,723 37,891 37,765 38,046 37,856
---------------
(1) Diluted net income per share and average shares outstanding per SFAS No.
128, "Earnings Per Share." See note 1.
(2) Net income per share is computed independently for each period presented.
Consequently, the sum of the quarters may not equal the total net income per
share for the year.
F-27
131
RADIAN GROUP INC.
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
Radian Group Inc.
Philadelphia, Pennsylvania
We have audited the consolidated balance sheets of Radian Group Inc. and
subsidiaries (the "Company") as of December 31, 2000 and 1999, and the related
consolidated statements of income, changes in common stockholders' equity, and
cash flows for each of the three years in the period ended December 31, 2000.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits. The consolidated financial statements give retroactive effect to
the merger of CMAC Investment Corporation and Amerin Guaranty Corporation
("Amerin"), which has been accounted for as a pooling of interests as described
in Note 1 to the consolidated financial statements. We did not audit the related
statements of income, changes in common stockholders' equity, and cash flows of
Amerin for the year ended December 31, 1998, which statements reflect total
revenues of $145,927,000 for the year ended December 31, 1998. Those financial
statements were audited by other auditors whose report has been furnished to us,
and our opinion, insofar as it relates to the amounts included for Amerin for
1998, is based solely on the report of such other auditors.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits and the report of
the other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other auditors,
the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Radian Group Inc. and subsidiaries
at December 31, 2000 and 1999, and the results of their operations and their
cash flows for each of the three years in the period ended December 31, 2000 in
conformity with accounting principles generally accepted in the United States of
America.
Deloitte & Touche LLP
Philadelphia, Pennsylvania
March 2, 2001
F-28
132
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
Radian Group Inc.
Philadelphia, Pennsylvania
We have audited the consolidated financial statements of Radian Group Inc.
and subsidiaries (the "Company") as of December 31, 2000 and 1999, and for each
of the three years in the period ended December 31, 2000, and have issued our
report thereon dated March 2, 2001, which makes reference to the report of other
auditors; such consolidated financial statements and report are included in your
2000 Annual Report to Stockholders and are incorporated herein by reference. Our
audits also included the consolidated statement schedules of Radian Group Inc.
and subsidiaries, listed in Item 14. These consolidated financial responsibility
is to express an opinion based on our audits. In our opinion, based on our
audits and the report of other auditors, such consolidated financial statement
schedules, when considered in relation to the basic consolidated financial
statements taken as a whole, present fairly in all material respects the
information set forth therein.
/s/ DELOITTE & TOUCHE LLP
---------------------------------------------------------
Deloitte & Touche LLP
Philadelphia, Pennsylvania
March 2, 2001
F-29
133
RADIAN GROUP INC.
SCHEDULE I
SUMMARY OF INVESTMENTS -- OTHER THAN INVESTMENTS IN RELATED PARTIES
DECEMBER 31, 2000
AMOUNT
AT WHICH
SHOWN ON
AMORTIZED FAIR THE BALANCE
TYPE OF INVESTMENT COST VALUE SHEET
------------------ ---------- ---------- -----------
(IN THOUSANDS)
Fixed Maturities:
Bonds:
U.S. government and government agencies and
authorities.................................. $ 101,091 $ 102,951 $ 102,323
State and municipal obligations................ 1,283,327 1,329,447 1,308,874
Corporate obligations.......................... 152,052 157,115 157,115
Redeemable preferred stocks......................... 20,312 22,119 22,119
---------- ---------- ----------
Total fixed maturities................................... 1,556,782 1,611,632 1,590,431
Equity securities........................................ 58,877 64,202 64,202
Short-term investments................................... 95,824 95,824 95,824
---------- ---------- ----------
Total investments other than investments in related
parties................................................ $1,711,483 $1,771,658 $1,750,457
========== ========== ==========
F-30
134
RADIAN GROUP INC.
SCHEDULE III -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED BALANCE SHEETS
PARENT COMPANY ONLY
DECEMBER 31
---------------------------
2000 1999
------------ ------------
(IN THOUSANDS,
EXCEPT SHARE AND PER-SHARE
AMOUNTS)
ASSETS
Investments
Fixed maturities held to maturity -- at amortized cost
(fair value $10,160 and $10,141)...................... $ 9,808 $ 9,781
Fixed maturities available for sale -- at fair value
(amortized cost $391
and $391)............................................ 407 378
Short-term investments................................. 4,724 705
Cash........................................................ 21 106
Investment in subsidiaries, at equity in net assets......... 1,401,026 1,091,306
Federal income taxes........................................ -- 268
Other assets................................................ 427 876
---------- ----------
$1,416,413 $1,103,420
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable -- affiliates.............................. $ 2,183 $ 927
Accounts payable -- other................................... 1,742 1,337
Notes payable............................................... 6,684 3,487
Federal income taxes........................................ 3,194 --
Other liabilities........................................... 413 413
---------- ----------
14,216 6,164
---------- ----------
Redeemable preferred stock, par value $.001 per share;
800,000 shares issued and outstanding -- at redemption
value..................................................... 40,000 40,000
---------- ----------
Common stockholders' equity
Common stock, par value $.001 per share; 80,000,000
shares authorized; 37,907,777 and 37,307,504 shares,
respectively, issued and outstanding.................. 38 37
Treasury stock; 38,006 shares redeemed................. (2,159) --
Additional paid-in capital............................. 549,154 524,408
Retained earnings...................................... 789,831 548,684
Accumulated other comprehensive income (loss).......... 25,333 (15,873)
---------- ----------
1,362,197 1,057,256
---------- ----------
$1,416,413 $1,103,420
========== ==========
See supplementary notes.
F-31
135
RADIAN GROUP INC.
SCHEDULE III -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED STATEMENTS OF INCOME
PARENT COMPANY ONLY
YEAR ENDED DECEMBER 31
------------------------------
2000 1999 1998
-------- -------- --------
(IN THOUSANDS)
Revenues
Equity in undistributed net income of subsidiaries..... $251,161 $160,584 $140,291
Dividends received from subsidiaries................... 6,000 -- 4,000
Net investment income.................................. 83 200 669
Gain on sales of investments, net...................... -- -- 7
-------- -------- --------
257,244 160,784 144,967
-------- -------- --------
Expenses
Operating expenses..................................... 6,455 2,241 3,691
Merger expenses........................................ -- 12,812 --
-------- -------- --------
6,455 15,053 3,691
-------- -------- --------
Pretax income............................................... 250,789 145,731 141,276
Income tax (expense) benefit................................ (1,851) 2,407 961
-------- -------- --------
Net income.................................................. $248,938 $148,138 $142,237
======== ======== ========
See supplementary notes.
F-32
136
RADIAN GROUP INC.
SCHEDULE III -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED STATEMENTS OF CASH FLOWS
PARENT COMPANY ONLY
YEAR ENDED DECEMBER 31
---------------------------------
2000 1999 1998
--------- --------- ---------
(IN THOUSANDS)
Cash flows from operating activities
Net income............................................ $ 248,938 $ 148,138 $ 142,237
Adjustments to reconcile net income to net cash
provided by operating activities
Equity in undistributed net income of
subsidiaries................................... (251,161) (160,584) (140,291)
Increase (decrease) in federal income taxes...... 3,462 (3,645) (1,910)
Increase in notes payable........................ 3,197 1,444 2,009
Net change in other assets, accounts payable and
other liabilities.............................. 2,110 1,589 (76)
--------- --------- ---------
Net cash provided by (used in) operating activities........ 6,546 (5,768) 1,969
--------- --------- ---------
Cash flows from investing activities
Proceeds from sales of fixed maturity investments
available for sale.................................. -- -- 1,600
Purchases of fixed maturity investments available for
sale................................................ -- -- (1,205)
Purchases of short-term investments--net.............. (4,019) (530) (140)
Other................................................. (27) (16) (23)
--------- --------- ---------
Net cash (used in) provided by investing activities........ (4,046) (546) 232
--------- --------- ---------
Cash flows from financing activities
Dividends paid........................................ (7,791) (6,860) (6,019)
Capital contribution.................................. (11,067) (2,593) (1,759)
Redemption of treasury stock.......................... (2,159) -- --
Proceeds from issuance of common stock................ 18,432 13,488 7,882
--------- --------- ---------
Net cash (used in) provided by financing activities........ (2,585) 4,035 (104)
--------- --------- ---------
(Decrease) increase in cash................................ (85) (2,279) 2,305
Cash, beginning of year.................................... 106 2,385 80
--------- --------- ---------
Cash, end of year.......................................... $ 21 $ 106 $ 2,385
========= ========= =========
See supplementary notes.
F-33
137
RADIAN GROUP INC.
SCHEDULE III -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
PARENT COMPANY ONLY
SUPPLEMENTARY NOTES
NOTE A
The accompanying Parent Company financial statements should be read in
conjunction with the Consolidated Financial Statements and Notes to Consolidated
Financial Statements appearing on pages 17 through 34 of the Radian Group Inc.
2000 Annual Report to Stockholders.
NOTE B
On November 9, 2000, Radian Group Inc. (the "Company") completed the
acquisition of ExpressClose.com, Inc. ("ExpressClose"), an Internet-based
settlement company that provides real estate information products and services
to the first and second mortgage industry, for approximately $8.0 million of
cash, shares of the Company's common stock, options to purchase shares of the
Company's common stock and other consideration. The acquisition was treated as a
purchase for accounting purposes, and accordingly, the assets and liabilities
were recorded based on their fair values at the date of acquisition. The excess
of purchase price over fair value of net assets acquired of $7.4 million was
allocated to goodwill and will be amortized over 20 years. The results of
ExpressClose's operations have been included in the Company's financial
statements for the period from November 10, 2000 through December 31, 2000. The
cash component of the acquisition was financed using the Company's cash flow
from operations.
The purchase price of ExpressClose reflects the issuance of 30,000 shares
of the Company's common stock at $65.813 per share which was the closing price
of the Company's common stock on the date of the acquisition. Under the terms of
the merger agreement, the Company has also issued 20,001 options to purchase the
common stock of the Company. The value of the option grant was based on a
Black-Scholes valuation model assuming an average life of 7.0 years, a risk-free
interest rate of 6.75%, volatility of 39.3% and a dividend yield of 0.18%.
On November 22, 1998, the board of directors of CMAC Investment Corporation
("CMAC") and the board of directors of Amerin Corporation ("Amerin") each
approved an Agreement and Plan of Merger pursuant to which CMAC and Amerin
merged. The merger closed on June 9, 1999 after approval by the stockholders of
both companies, at which time the name of the merged company was changed to
Radian Group Inc. At the same time, the name of the Company's main operating
subsidiary, Commonwealth Mortgage Assurance Company, was changed to Radian
Guaranty Inc. ("Radian Guaranty"), while the main operating subsidiary of
Amerin, Amerin Guaranty Corporation ("Amerin Guaranty"), retained its name. As a
result of the merger, Amerin stockholders received 0.5333 shares (14,168,635
shares were issued) of CMAC common stock in a tax-free exchange for each share
of Amerin common stock that they owned. CMAC stockholders continued to own their
existing shares after the merger. The merger transaction was accounted for on a
pooling of interests basis and, therefore, all financial statements presented
reflect the combined entity.
The Company's preferred stock is entitled to cumulative annual dividends of
$4.125 per share, payable quarterly in arrears. The preferred stock is
redeemable at the option of the Company at $54.125 per share on or after August
15, 2002, and declining to $50.00 per share on or after August 15, 2005 (plus in
each case accumulated and unpaid dividends), or is subject to mandatory
redemption at a redemption price of $50.00 per share plus accumulated and unpaid
dividends based upon specified annual sinking fund requirements from 2002 to
2011.
The Company is a holding company whose principal source of income is
dividends from Radian Guaranty and Amerin Guaranty. The ability of Radian
Guaranty to pay dividends on its common stock is restricted by certain
provisions of the insurance laws of the Commonwealth of Pennsylvania, its state
of domicile. The insurance laws of Pennsylvania establish a test limiting the
maximum amount of dividends which may be paid by an insurer without prior
approval by the Pennsylvania Insurance Commissioner. Under such test, Radian
Guaranty may pay dividends during any 12-month period in an amount equal to the
greater of (i) 10% of the preceding year-end statutory policyholders' surplus or
(ii) the preceding year's statutory net income. In
F-34
138
SCHEDULE III -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT
PARENT COMPANY ONLY
SUPPLEMENTARY NOTES -- (CONTINUED)
accordance with such restrictions, $197,979,000 would be available for dividends
in 2001. However, an amendment to the Pennsylvania statute requires that
dividends and other distributions be paid out of an insurer's unassigned
surplus. Because of the unique nature of the method of accounting for
contingency reserves, Radian Guaranty has negative unassigned surplus. Thus,
prior approval by the Pennsylvania Insurance Commissioner is required for Radian
Guaranty to pay dividends or make other distributions so long as Radian Guaranty
has negative unassigned surplus. The Pennsylvania Insurance Commissioner has
approved all distributions by Radian Guaranty since the passage of this
amendment and management has every expectation that the Commissioner of
Insurance will continue to approve such distributions in the future, provided
that the financial condition of Radian Guaranty does not materially change.
The ability of Amerin Guaranty to pay dividends on its common stock is
restricted by certain provisions of the insurance laws of the State of Illinois,
its state of domicile. The insurance laws of Illinois establish a test limiting
the maximum amount of dividends that may be paid from positive unassigned
surplus by an insurer without prior approval by the Illinois Insurance
Commissioner. Under such test, Amerin Guaranty may pay dividends during any
12-month period in an amount equal to the greater of (i) 10% of the preceding
year-end statutory policyholders' surplus or (ii) the preceding year's statutory
net income. In accordance with such restrictions, $58,036,000 would be available
for dividends in 2001 without prior regulatory approval, which represents the
positive unassigned surplus of Amerin Guaranty at December 31, 2000.
Radian Guaranty's current excess of loss reinsurance arrangement prohibits
the payment of any dividend which would have the effect of reducing the total of
its statutory policyholders' surplus plus its contingency reserve below
$85,000,000. As of December 31, 2000, Radian Guaranty had statutory
policyholders' surplus of $171,644,000 and a contingency reserve of
$798,954,000, for a total of $970,598,000.
The Company and Radian Guaranty have entered into an agreement, pursuant to
which the Company has agreed to establish and, for so long as any shares of
$4.125 Preferred Stock remain outstanding, maintain a reserve account in an
amount equal to three years of dividend payments on the outstanding shares of
$4.125 Preferred Stock (currently $9,900,000), and not to pay dividends on the
common stock at any time when the amount in the reserve account is less than
three years of dividend payments on the shares of $4.125 Preferred Stock then
outstanding. This agreement between the Company and Radian Guaranty provides
that the holders of the $4.125 Preferred Stock are entitled to enforce the
agreement's provisions as if such holders were signatories to the agreement.
The Company may not pay any dividends on shares of common stock unless the
Company has paid all accrued dividends on and has complied with all sinking fund
and redemption obligations relating to its outstanding shares of $4.125
Preferred Stock.
NOTE C
In the first quarter of 2001, the Company completed the previously
announced agreement to acquire Enhance Financial Services Group Inc. ("Enhance")
through the merger of a subsidiary of the Company with and into Enhance. As a
result of the merger, Enhance stockholders received 0.22 shares (8,464,968
shares were issued) of the Company's common stock for each share of Enhance
common stock that they owned in a tax-free exchange. The Company's stockholders
continued to own their existing shares after the merger. The acquisition will be
accounted for under the purchase method of accounting.
In conjunction with the merger, the Company guaranteed payment of up to
$12.5 million of a $25.0 million revolving credit facility issued to Sherman
Financial Group LLC, a 45.5% owned affiliate of Enhance ("Sherman"), on a pari
passu basis with the $12.5 million guaranty of another 45.5% owner of Sherman.
There were no drawdowns on this line of credit as of December 31, 2000 and
therefore, the Company had no liability under the guaranty.
F-35
139
RADIAN GROUP INC.
SCHEDULE VI -- REINSURANCE
MORTGAGE INSURANCE PREMIUMS EARNED
YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
ASSUMED PERCENTAGE
CEDED TO FROM OF AMOUNT
GROSS OTHER OTHER NET ASSUMED
AMOUNT COMPANIES COMPANIES AMOUNT TO NET
-------- --------- --------- -------- ----------
(IN THOUSANDS)
2000...................................... $570,425 $49,634 $ 80 $520,871 0.02%
======== ======= ==== ========
1999...................................... $517,364 $44,816 $ 87 $472,635 0.02%
======== ======= ==== ========
1998...................................... $448,668 $43,545 $129 $405,252 0.03%
======== ======= ==== ========
F-36
140
RADIAN GROUP INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30 DECEMBER 31
2001 2000
---------- -----------
(IN THOUSANDS, EXCEPT
SHARE AMOUNTS)
ASSETS
Investments
Fixed maturities held to maturity -- at amortized cost
(fair value $496,658 and $490,792).................... $ 486,179 $ 469,591
Fixed maturities available for sale -- at fair value
(amortized cost $2,209,832 and $1,087,191)............ 2,311,793 1,120,840
Trading securities -- at fair value (cost $14,198)..... 13,906 --
Equity securities -- at fair value (cost $70,720 and
$58,877).............................................. 73,780 64,202
Short-term investments................................. 209,591 95,824
Cash...................................................... 47,299 2,424
Investment in affiliates.................................. 168,658 --
Deferred policy acquisition costs......................... 136,480 70,049
Prepaid federal income taxes.............................. 311,514 270,250
Provisional losses recoverable............................ 44,317 43,740
Other assets.............................................. 270,812 135,891
---------- ----------
$4,083,507 $2,272,811
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Unearned premiums......................................... $ 473,388 $ 77,241
Reserve for losses........................................ 553,299 390,021
Long-term debt............................................ 324,043 --
Federal income taxes, principally deferred................ 377,456 291,294
Accounts payable and accrued expenses..................... 200,904 112,058
---------- ----------
1,929,090 870,614
---------- ----------
Redeemable preferred stock, par value $.001 per share;
800,000 shares issued and outstanding -- at redemption
value.................................................. 40,000 40,000
---------- ----------
Common stockholders' equity
Common stock, par value $.001 per share; 200,000,000
shares authorized; 93,331,194 shares and 37,907,777
shares issued and outstanding.......................... 93 38
Treasury stock; 37,706 shares redeemed.................... (2,159) (2,159)
Additional paid-in capital................................ 1,190,153 549,154
Retained earnings......................................... 911,392 789,831
Accumulated other comprehensive income.................... 14,938 25,333
---------- ----------
2,114,417 1,362,197
---------- ----------
$4,083,507 $2,272,811
========== ==========
See Notes to Unaudited Condensed Consolidated Financial Statements.
F-37
141
RADIAN GROUP INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME
QUARTER ENDED SIX MONTHS ENDED
JUNE 30 JUNE 30
------------------- --------------------
2001 2000 2001 2000
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT
PER-SHARE AMOUNTS)
Revenues:
Premiums written:
Direct......................................... $213,599 $138,529 $385,727 $285,537
Assumed........................................ 1,540 69 1,541 73
Ceded.......................................... (15,936) (9,662) (27,816) (21,068)
-------- -------- -------- --------
Net premiums written.............................. 199,203 128,936 359,452 264,542
Increase in unearned premiums..................... (19,962) 603 (24,448) (7,706)
-------- -------- -------- --------
Premiums earned................................... 179,241 129,539 335,004 256,836
Net investment income............................. 39,455 20,304 67,475 39,131
Gain on sales of investments...................... 748 246 2,571 1,097
Equity in net income of affiliates................ 12,760 -- 24,804 --
Other income...................................... 9,284 1,289 15,575 2,639
-------- -------- -------- --------
241,488 151,378 445,429 299,703
-------- -------- -------- --------
Expenses:
Provision for losses.............................. 52,310 38,005 101,582 76,787
Policy acquisition costs.......................... 21,996 13,132 39,037 26,394
Other operating expenses.......................... 32,942 12,360 56,899 25,811
Interest expense.................................. 4,448 -- 5,849 --
-------- -------- -------- --------
111,696 63,497 203,367 128,992
-------- -------- -------- --------
Pretax income....................................... 129,792 87,881 242,062 170,711
Provision for income taxes.......................... 37,115 26,023 69,228 50,253
-------- -------- -------- --------
Net income.......................................... 92,677 61,858 172,834 120,458
Dividends to preferred stockholder.................. 825 825 1,650 1,650
-------- -------- -------- --------
Net income available to common stockholders......... $ 91,852 $ 61,033 $171,184 $118,808
======== ======== ======== ========
Basic net income per share.......................... $ 0.99 $ 0.81 $ 1.96 $ 1.58
======== ======== ======== ========
Diluted net income per share........................ $ 0.97 $ 0.80 $ 1.92 $ 1.56
======== ======== ======== ========
Average number of common shares
outstanding -- basic.............................. 93,124 75,182 87,400 75,010
======== ======== ======== ========
Average number of common and common equivalent
shares outstanding -- diluted..................... 94,854 76,276 88,946 76,002
======== ======== ======== ========
See Notes to Unaudited Condensed Consolidated Financial Statements.
F-38
142
RADIAN GROUP INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN COMMON STOCKHOLDERS'
EQUITY
ACCUMULATED OTHER
COMPREHENSIVE
INCOME (LOSS)
------------------------
FOREIGN UNREALIZED
ADDITIONAL CURRENCY HOLDING
COMMON TREASURY PAID-IN RETAINED TRANSLATION GAINS
STOCK STOCK CAPITAL EARNINGS ADJUSTMENT LOSSES TOTAL
------ -------- ---------- -------- ----------- ---------- ----------
(IN THOUSANDS)
Balance, January 1, 2001... $38 $(2,159) $ 549,154 $789,831 $ -- $ 25,333 $1,362,197
Comprehensive income:
Net income............... -- -- -- 172,834 -- -- 172,834
Unrealized foreign
currency translation
adjustment, net of tax
benefit of $161........ -- -- -- -- (311) -- (311)
Unrealized holding losses
arising during period,
net of tax of $6,284... -- -- -- -- -- (11,670) --
Less: Reclassification
adjustment for net
gains included in net
income, net of tax of
$854................... -- -- -- -- -- (1,586) --
--------
Net unrealized loss on
investments, net of tax
benefit of $5,430...... -- -- -- -- -- (10,084) (10,084)
----------
Comprehensive income....... -- 162,439
Issuance of common stock... 9 -- 594,427 -- -- -- 594,436
Dividends (unaudited)...... 46 -- 46,572 (46,618) -- -- --
Two-for-one stock split.... -- -- -- (4,655) -- -- (4,655)
--- ------- ---------- -------- ----- -------- ----------
Balance, June 30, 2001..... $93 $(2,159) $1,190,153 $911,392 $(311) $ 15,249 $2,114,417
=== ======= ========== ======== ===== ======== ==========
See Notes to Unaudited Condensed Consolidated Financial Statements.
F-39
143
RADIAN GROUP INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED
JUNE 30
----------------------
2001 2000
--------- ---------
(IN THOUSANDS)
Cash flows from operating activities........................ $ 218,660 $ 145,909
--------- ---------
Cash flows from investing activities:
Proceeds from sales of investments available for sale..... 296,542 212,652
Proceeds from sales of equity securities available for
sale................................................... 2,253 13,127
Proceeds from redemptions of investments available for
sale................................................... 74,068 11,205
Proceeds from redemptions of investments held to
maturity............................................... 5,381 3,693
Purchases of investments available for sale............... (574,021) (381,312)
Purchases of equity securities available for sale......... (18,143) (23,345)
Sales (purchases) of short-term investments, net.......... (27,078) 8,511
Sales (purchases) of property and equipment, net.......... (3,854) 637
Other..................................................... (10,841) (1,143)
--------- ---------
Net cash used in investing activities....................... (255,693) (155,975)
--------- ---------
Cash flows from financing activities:
Proceeds from issuance of common stock.................... 20,410 12,148
Repayment of short-term debt.............................. (173,724) --
Issuance of long-term debt................................ 247,100 --
Acquisition costs......................................... (7,223) --
Dividends paid............................................ (4,655) (3,876)
--------- ---------
Net cash (used in) from financing activities................ 81,908 8,272
--------- ---------
Increase (decrease) in cash................................. 44,875 (1,794)
Cash, beginning of period................................... 2,424 7,507
--------- ---------
Cash, end of period......................................... $ 47,299 $ 5,713
========= =========
Supplemental disclosures of cash flow information:
Income taxes paid........................................... $ 37,826 $ 42,168
========= =========
Interest paid............................................... $ 6,439 $ 513
========= =========
See Notes to Unaudited Condensed Consolidated Financial Statements.
F-40
144
RADIAN GROUP INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1 -- CONSOLIDATED FINANCIAL STATEMENTS
The consolidated financial statements as of and for the three month period
ended March 31, 2001, include the accounts of Radian Group Inc. (the "Company")
and its subsidiaries, including its principal mortgage guaranty subsidiaries,
Radian Guaranty Inc. and Amerin Guaranty Corporation (together referred to as
"Radian"), its principal financial guaranty operating subsidiaries, Enhance
Reinsurance Company and Asset Guaranty Insurance Company (together referred to
as "Enhance"), and its principal minority owned asset-based subsidiaries
Credit-Based Asset Servicing and Securitization LLC ("C-BASS") and Sherman
Financial Group LLC ("Sherman"). For periods prior to this quarter, the
financial statements do not include any results from operations from Enhance
Financial Services Group Inc. ("Enhance Financial"). These statements are
presented on the basis of accounting principles generally accepted in the United
States of America.
The financial information for the interim periods included herein is
unaudited; however, such information reflects all adjustments which are, in the
opinion of management, necessary for a fair presentation of the financial
position, results of operations, and cash flows for the interim periods. The
results of operations for interim periods are not necessarily indicative of
results to be expected for the full year or for any other period.
Basic net income per share is based on the weighted average number of
common shares outstanding, while diluted net income per share is based on the
weighted average number of common shares outstanding and common share
equivalents that would arise from the exercise of stock options. Preferred stock
dividends are deducted from net income in the net income per share computation.
For a summary of significant accounting policies and additional financial
information, see the Radian Group Inc. Annual Report on Form 10-K for the year
ended December 31, 2000.
2 -- ACQUISITION OF ENHANCE FINANCIAL
On February 28, 2001, the Company acquired Enhance Financial for
approximately $581.5 million representing the value of the Company's common
stock and stock options issued in connection with the acquisition and other
consideration in accordance with an Agreement and Plan of Merger, dated November
13, 2000, by and between the Company, a wholly-owned subsidiary of the Company
and Enhance Financial. The acquisition, which was structured as a merger of a
wholly-owned subsidiary of the Company with and into Enhance Financial, entitled
Enhance Financial stockholders to receive 0.22 shares of the Company's common
stock in a tax-free exchange for each share of Enhance Financial common stock
that they owned at the time of the merger. The Company's stockholders continued
to own their existing shares after the acquisition. The acquisition was treated
as a purchase for accounting purposes, and accordingly, the assets and
liabilities were recorded based on their fair values at the date of acquisition.
The excess of purchase price over fair value of net assets acquired of $52.8
million represents the future value of insurance profits which will be amortized
over a period that approximates the future life of the insurance book of
business. The results of Enhance Financial's operations have been included in
the Company's financial statements for the period from March 1, 2001 through
March 31, 2001.
The purchase price of Enhance Financial reflects the issuance of 8,462,861
shares of the Company's common stock at $65.813 per share which represents the
average closing price of the Company's common stock for the three days preceding
and following the announcement of the acquisition, and the issuance of 1,222,853
options to purchase shares of the Company's common stock to holders of options
to purchase shares of Enhance Financial common stock. The value of the option
grant was based on a Black-Scholes valuation model assuming an average life of
2.8 years, a risk-free interest rate of 4.75%, volatility of 43.4% and a
dividend yield of 0.22%.
F-41
145
RADIAN GROUP INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In conjunction with the acquisition, the Company has guaranteed payment of
up to $12.5 million of a $25.0 million revolving credit facility issued to
Sherman, a 45.5% owned affiliate of Enhance Financial. In the second quarter of
2001, Sherman used $500,000 of the line of credit and this amount was repaid in
July 2001.
3 -- DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities." The statement, originally
effective for fiscal years beginning after June 15, 1999, was deferred for one
year when the FASB issued SFAS No. 137, "Accounting for Derivative Instruments
and Hedging Activities -- Deferral of the Effective Date of FASB Statement No.
133." The statement establishes accounting and reporting standards for
derivative instruments and hedging activity and requires that all derivatives be
measured at fair value and recognized as either assets or liabilities in the
financial statements. Changes in the fair value of derivative instruments will
be recorded each period in current earnings. This represents a change from the
Company's prior accounting practices whereby these changes were recorded as a
component of stockholders' equity. In June 2000, the FASB issued SFAS No. 138,
"Accounting for Certain Derivative Instruments and Certain Hedging
Activities -- An Amendment of FASB Statement No. 133," which addressed certain
issues causing implementation difficulties for entities that apply SFAS 133. The
Company adopted SFAS 133, as amended, on January 1, 2001. Transactions that the
Company has entered into that will be accounted for under SFAS 133, as amended,
include convertible debt securities.
Upon adoption of SFAS 133, the balance of the Company's convertible debt
portfolio was approximately $104.6 million. SFAS 133 requires that the Company
split its convertible debt securities into the derivative and debt host
components. Over the term of the securities, changes in the fair value of the
debt instrument will be recorded in the Company's consolidated statement of
changes in common stockholders' equity, through accumulated other comprehensive
income or loss. Concurrently, a deferred tax liability or benefit will be
recognized as the recorded value of the debt host increases or decreases.
Changes in the fair value of the derivative will be recorded to gain or loss on
sales of investments in the Company's consolidated statement of income. In
connection with the adoption of SFAS 133, the Company reclassified $13.8 million
from fixed maturities available for sale to trading securities on its
consolidated balance sheet as of January 1, 2001. During the first six months of
2001, the fair value of the Company's derivative instruments decreased to $13.9
million, as compared to amortized value of $14.2 million, and the Company
recognized $109,000, net of tax, of loss on sales of investments in the
consolidated statement of income for the six months ended June 30, 2001.
The application of SFAS 133, as amended, could result in volatility from
period to period in investment income or expense as reported on the Company's
consolidated statement of income. The Company is unable to predict the effect
this volatility may have on its financial position or results of operations.
4 -- STOCK SPLIT
On May 1, 2001, the Company's board of directors authorized a stock split,
paid June 20, 2001, in the form of a dividend of one additional share of the
Company's common stock for each share owned by stockholders of record on June
14, 2001. To effect the stock split, the Company's stockholders approved an
increase in the number of authorized shares of common stock, from 80 million to
200 million, on June 14, 2001. The dividend was accounted for as a two-for-one
stock split and the par value of the Company's common stock remained at $.001
per share. Accordingly, all references to common per share data have been
adjusted to give effect to the stock split. In conjunction with the stock split,
the Company's board of directors voted to increase the quarterly dividend from
$.015 per share to $.02 per share of common stock outstanding after the split
was effected.
F-42
146
RADIAN GROUP INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
5 -- SEGMENT REPORTING
The Company has three reportable segments: mortgage insurance and related
businesses, financial guaranty and credit-related insurance businesses and
asset-based businesses. The mortgage insurance segment provides private mortgage
insurance and risk management services to mortgage lending institutions located
throughout the United States. Private mortgage insurance protects lenders from
default-related losses on residential first mortgage loans made to homebuyers
who make downpayments of less than 20% of the purchase price and facilitates the
sale of these mortgages in the secondary market. The financial guaranty and
credit-related insurance segment provides credit-related insurance coverage to
meet the needs of customers in a wide variety of domestic and international
markets. The Company's largest insurance business within this segment is the
provision of reinsurance to the monoline primary financial guaranty insurers for
both municipal bonds and non-municipal obligations. The Company also provides
trade credit reinsurance, financial responsibility bonds, excess-SIPC insurance
and direct financial guaranty insurance. The asset-based businesses segment
deals primarily with credit-based servicing and securitization of assets in
underserved markets, in particular, the origination, purchase, servicing and
securitization of special assets, including sub-performing/non-performing and
seller financed residential mortgages and delinquent consumer assets. The
Company's reportable segments are strategic business units, which are managed
separately as each business requires different marketing and sales expertise.
The Company evaluates performance based on net income. Summarized financial
information concerning the Company's operating segments is presented in the
following tables:
JUNE 30, 2001
-------------------------------------------------------
MORTGAGE FINANCIAL
RELATED GUARANTY ASSET-BASED CONSOLIDATED
---------- ---------- ----------- ------------
(IN THOUSANDS)
Revenues from external customers... $ 307,853 $ 42,597 $ 129 $ 350,579
Net investment income.............. 47,925 19,550 -- 67,475
Net income before taxes............ 187,361 30,944 23,757 242,062
Segment assets..................... 2,534,620 1,333,333 215,554 4,083,507
JUNE 30, 2000
-------------------------------------------------------
MORTGAGE FINANCIAL
RELATED GUARANTY ASSET-BASED CONSOLIDATED
---------- ---------- ----------- ------------
(IN THOUSANDS)
Revenues from external customers... $ 259,475 $ -- $ -- $ 259,475
Net investment income.............. 39,131 -- -- 39,131
Net income before taxes............ 170,711 -- -- 170,711
Segment assets..................... 2,003,075 -- -- 2,003,075
F-43
147
ENHANCE FINANCIAL SERVICES GROUP INC.
INDEPENDENT AUDITORS' REPORT
To the Board of Directors
Enhance Financial Services Group Inc.
We have audited the accompanying consolidated balance sheets of Enhance
Financial Services Group Inc. and Subsidiaries as of December 31, 2000 and 1999
and the related consolidated statements of operations, shareholders' equity and
cash flows for each of the three years in the period ended December 31, 2000.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Enhance Financial Services
Group Inc. and Subsidiaries as of December 31, 2000 and 1999 and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2000 in conformity with accounting principles generally
accepted in the United States of America.
/s/ DELOITTE & TOUCHE LLP
April 12, 2001
New York, New York
F-44
148
ENHANCE FINANCIAL SERVICES GROUP INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS EXCEPT SHARE AMOUNTS)
DECEMBER 31, DECEMBER 31,
2000 1999
------------ ------------
ASSETS
Investments:
Fixed maturities, held to maturity, at amortized cost
(market value $158,847 and $181,474).................. $ 154,390 $ 177,607
Fixed maturities available for sale, at market
(amortized cost $833,556 and $778,751)................ 859,819 745,963
Other invested assets.................................. 8,644 10,935
Common stock -- at market (cost $498).................. 931 839
Short-term investments................................. 94,673 34,657
---------- ----------
Total Investments................................. 1,118,457 970,001
Investment in affiliates.................................. 139,384 108,001
Cash and cash equivalents................................. 3,072 2,558
Federal income taxes recoverable.......................... 10,356 7,859
Premiums and other receivables............................ 12,139 22,959
Accrued interest and dividends receivable................. 14,242 14,366
Deferred policy acquisition costs......................... 125,197 119,213
Furniture, fixtures and equipment......................... 7,444 10,206
Prepaid reinsurance premiums.............................. 5,717 8,772
Reinsurance recoverable on unpaid losses.................. 182 2,286
Receivable from affiliates................................ 69 1,170
Prepaid federal income tax................................ 17,264 24,797
Deferred income taxes -- net.............................. 60,126 68,587
Goodwill.................................................. -- 24,196
Other assets.............................................. 65,350 68,961
---------- ----------
Total Assets...................................... $1,578,999 $1,453,932
========== ==========
LIABILITIES, DEFERRED CREDIT AND SHAREHOLDERS' EQUITY
Liabilities
Losses and loss adjustment expenses.................... $ 70,193 $ 51,970
Reinsurance payable on paid losses and loss adjustment
expenses.............................................. 7,930 8,997
Deferred premium revenue............................... 357,340 346,088
Long-term debt......................................... 75,000 75,000
Short-term debt........................................ 173,724 113,941
Payable for securities................................. 9,135 --
Payable to affiliates.................................. 2,041 --
Accrued expenses and other liabilities................. 46,414 43,632
---------- ----------
Total Liabilities................................. 741,777 639,628
---------- ----------
Deferred credit........................................... 131,530 138,000
---------- ----------
Shareholders' Equity
Common stock -- $.10 par value
Authorized -- 100,000,000 shares
Issued -- 40,161,494 and 40,007,404 shares........... 4,016 4,001
Additional paid-in capital............................. 253,215 253,109
Retained earnings...................................... 461,435 477,715
Accumulated other comprehensive income (loss).......... 15,542 (25,935)
Treasury stock......................................... (28,516) (32,586)
---------- ----------
Total Shareholders' Equity........................ 705,692 676,304
---------- ----------
Total Liabilities, Deferred Credit and
Shareholders' Equity............................ $1,578,999 $1,453,932
========== ==========
See notes to consolidated financial statements
F-45
149
ENHANCE FINANCIAL SERVICES GROUP INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
YEARS ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
-------- -------- --------
REVENUES
Net premiums written..................................... $124,559 $132,953 $129,299
Increase in net deferred premium revenue................. (14,307) (29,102) (26,962)
-------- -------- --------
Premiums earned....................................... 110,252 103,851 102,337
Net investment income.................................... 62,961 58,053 53,423
Net realized gains (losses) on sale of investments....... 370 (3,039) 2,434
Assignment income........................................ 2,654 30,723 45,376
Other income............................................. 804 7,996 3,914
-------- -------- --------
Total revenues................................... 177,041 197,584 207,484
-------- -------- --------
EXPENSES
Losses and loss adjustment expenses...................... 34,706 26,156 10,324
Policy acquisition costs................................. 42,757 39,959 35,007
Other operating expenses -- insurance.................... 21,385 18,821 14,756
-- non-insurance.............. 85,294 52,320 39,873
-------- -------- --------
Total expenses................................... 184,142 137,256 99,960
-------- -------- --------
(Loss) income from operations............................ (7,101) 60,328 107,524
Equity in income of affiliates........................... 13,117 19,708 14,066
Minority interest........................................ 252 429 --
Foreign currency loss.................................... (225) (32) (283)
Interest expense......................................... (16,896) (10,989) (8,500)
-------- -------- --------
(Loss) income before income taxes..................... (10,853) 69,444 112,807
Income tax (benefit) expense............................. (1,444) 820 30,350
-------- -------- --------
Net (loss) income..................................... $ (9,409) $ 68,624 $ 82,457
======== ======== ========
Earnings per share -- Basic................................ $ (0.25) $ 1.81 $ 2.20
-------- -------- --------
-- Diluted............................. $ (0.24) $ 1.76 $ 2.10
-------- -------- --------
Weighted average shares outstanding -- Basic............... 38,179 38,000 37,520
-------- -------- --------
-- Diluted......... 38,645 39,024 39,275
-------- -------- --------
See notes to consolidated financial statements
F-46
150
ENHANCE FINANCIAL SERVICES GROUP INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
(IN THOUSANDS EXCEPT SHARE AMOUNTS)
COMMON STOCK TREASURY STOCK
------------------- --------------------
ADDITIONAL
SHARES AMOUNT SHARES AMOUNT PAID-IN CAPITAL
---------- ------ --------- -------- ---------------
Balance, December 31, 1997........ 38,671,870 $3,867 1,284,400 $(14,779) $228,507
---------- ------ --------- -------- --------
Comprehensive income:
Net income for the period...... -- -- -- -- --
Unearned compensation
adjustment (net of tax of
$202)......................... -- -- -- -- --
Unrealized foreign currency
translation adjustment (net of
tax of $159).................. -- -- -- -- --
Unrealized gains during the
period (net of tax of
$2,183)....................... -- -- -- -- --
Reclassification adjustment for
gains included in net income
(net of tax of $718).......... -- -- -- -- --
Total comprehensive income:...... -- -- -- -- --
Dividends paid ($0.23 per
share)......................... -- -- -- -- --
Exercise of stock options........ 665,674 66 -- -- 9,854
Issuance of common stock......... 475,393 48 -- -- 11,490
Purchase of treasury stock....... -- -- 666,394 (17,807) --
---------- ------ --------- -------- --------
Balance, December 31, 1998........ 39,812,937 3,981 1,950,794 (32,586) 249,851
---------- ------ --------- -------- --------
Comprehensive income:
Net income for the period...... -- -- -- -- --
Unrealized foreign currency
translation adjustment (net of
tax of $1,573)................ -- -- -- -- --
Unrealized losses during the
period (net of tax of
$25,582)...................... -- -- -- -- --
Reclassification adjustment for
losses included in net income
(net of tax of $1,075)........ -- -- -- -- --
Total comprehensive income:...... -- -- -- -- --
Dividends paid ($0.24 per
share)......................... -- -- -- -- --
Exercise of stock options........ 192,349 19 -- -- 3,233
Issuance of common stock......... 2,118 1 -- -- 25
---------- ------ --------- -------- --------
Balance, December 31, 1999........ 40,007,404 4,001 1,950,794 (32,586) 253,109
---------- ------ --------- -------- --------
Comprehensive income:
Net loss for the period........ -- -- -- -- --
Unearned compensation
adjustment (net of tax of
$265)......................... -- -- -- -- --
Unrealized foreign currency
translation adjustment (net of
tax of $173).................. -- -- -- -- --
Unrealized gains during the
period (net of tax of
$18,739)...................... -- -- -- -- --
Reclassification adjustment for
gains included in net loss
(net of tax of $129).......... -- -- -- -- --
Total comprehensive income:...... -- -- -- -- --
Dividends paid ($0.18 per
share)......................... -- -- -- -- --
Exercise of stock options........ 149,670 15 (243,682) 4,070 58
Issuance of common stock......... 4,420 -- -- -- 48
---------- ------ --------- -------- --------
Balance, December 31, 2000........ 40,161,494 $4,016 1,707,112 $(28,516) $253,215
---------- ------ --------- -------- --------
ACCUMULATED
OTHER COMPREHENSIVE INCOME
------------------------------------------
FOREIGN
CURRENCY UNREALIZED
UNEARNED TRANSLATION HOLDING GAINS RETAINED
COMPENSATION ADJUSTMENT (LOSSES) EARNINGS TOTAL
------------ ----------- ------------- -------- --------
Balance, December 31, 1997........ -$- $-- $ 19,396 $344,402 $581,393
---- ------- -------- -------- --------
Comprehensive income:
Net income for the period...... -- -- -- 82,457 --
Unearned compensation
adjustment (net of tax of
$202)......................... (493) -- -- --
Unrealized foreign currency
translation adjustment (net of
tax of $159).................. -- 714 -- -- --
Unrealized gains during the
period (net of tax of
$2,183)....................... -- -- 5,318 -- --
Reclassification adjustment for
gains included in net income
(net of tax of $718).......... -- -- (1,749) -- --
Total comprehensive income:...... -- -- -- -- 86,247
Dividends paid ($0.23 per
share)......................... -- -- -- (8,645) (8,645)
Exercise of stock options........ -- -- -- -- 9,920
Issuance of common stock......... -- -- -- -- 11,538
Purchase of treasury stock....... -- -- -- -- (17,807)
---- ------- -------- -------- --------
Balance, December 31, 1998........ (493) 714 22,965 418,214 662,646
---- ------- -------- -------- --------
Comprehensive income:
Net income for the period...... -- -- -- 68,624 --
Unrealized foreign currency
translation adjustment (net of
tax of $1,573)................ -- (2,942) -- -- --
Unrealized losses during the
period (net of tax of
$25,582)...................... -- -- (48,175) -- --
Reclassification adjustment for
losses included in net income
(net of tax of $1,075)........ -- 21 1,975 -- --
Total comprehensive income:...... -- -- -- -- 19,503
Dividends paid ($0.24 per
share)......................... -- -- -- (9,123) (9,123)
Exercise of stock options........ -- -- -- -- 3,252
Issuance of common stock......... -- -- -- -- 26
---- ------- -------- -------- --------
Balance, December 31, 1999........ (493) (2,207) (23,235) 477,715 676,304
---- ------- -------- -------- --------
Comprehensive income:
Net loss for the period........ -- -- -- (9,409) --
Unearned compensation
adjustment (net of tax of
$265)......................... 493 -- -- -- --
Unrealized foreign currency
translation adjustment (net of
tax of $173).................. -- 321 -- -- --
Unrealized gains during the
period (net of tax of
$18,739)...................... -- -- 40,904 -- --
Reclassification adjustment for
gains included in net loss
(net of tax of $129).......... -- -- (241) -- --
Total comprehensive income:...... -- -- -- -- 32,068
Dividends paid ($0.18 per
share)......................... -- -- -- (6,871) (6,871)
Exercise of stock options........ -- -- -- -- 4,143
Issuance of common stock......... -- -- -- -- 48
---- ------- -------- -------- --------
Balance, December 31, 2000........ -- $(1,886) $ 17,428 $461,435 $705,692
---- ------- -------- -------- --------
See note to consolidated financial statements
F-47
151
ENHANCE FINANCIAL SERVICES GROUP INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
YEARS ENDED DECEMBER 31,
-----------------------------------
2000 1999 1998
--------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income......................................... $ (9,409) $ 68,624 $ 82,457
Adjustments to reconcile net (loss) income to net cash
provided by operating activities:
Depreciation and amortization, net...................... (5,011) (6,272) (7,696)
Write-off of goodwill................................... 22,738 -- --
(Gain) loss on sale of investments, net................. (370) 3,039 (2,434)
Equity in income of affiliates.......................... (13,117) (19,708) (14,066)
Income taxes, net....................................... (20,223) (10,440) 6,281
Change in assets and liabilities
Premiums receivable................................... 10,820 12,991 (5,992)
Accrued interest and dividends receivable............. 124 875 (2,282)
Accrued expenses and other liabilities................ 2,782 16,278 7,442
Deferred policy acquisition costs..................... (5,984) (15,419) (8,149)
Deferred premium revenue, net......................... 14,307 29,101 26,961
Losses and loss adjustment expenses,net............... 19,260 18,948 5,267
Payable to (receivable from) affiliates............... 3,142 (28,013) 29,466
Payable (receivable) for securities................... 9,135 (1,967) (2,649)
Other, net............................................ 10,973 (33,425) (18,932)
--------- --------- ---------
Net cash provided by operating activities................. 39,167 34,612 95,674
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment........................ (938) (7,287) (2,616)
Proceeds from sales and maturities of investments......... 370,186 362,863 309,582
Purchase of investments................................... (384,829) (459,900) (364,674)
Purchase of other invested assets......................... -- (9,531) --
Proceeds from sales of other invested assets.............. 2,573 -- --
(Purchases) sales of short-term investments, net.......... (60,016) 16,137 33
Investment in affiliates.................................. (25,263) -- (32,401)
Distributions from affiliates............................. 2,531 6,317 --
--------- --------- ---------
Net cash used in investing activities..................... (95,756) (91,401) (90,076)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Capital stock............................................. 4,191 3,277 9,920
Short-term debt........................................... 59,783 59,651 10,790
Dividends paid............................................ (6,871) (9,123) (8,645)
Purchase of treasury stock................................ -- -- (17,807)
--------- --------- ---------
Net cash provided by (used in) financing activities......... 57,103 53,805 (5,742)
--------- --------- ---------
Net change in cash and cash equivalents..................... 514 (2,984) (144)
Cash and cash equivalents, beginning of year................ 2,558 5,542 5,686
--------- --------- ---------
Cash and cash equivalents, end of year...................... $ 3,072 $ 2,558 $ 5,542
========= ========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for income taxes................ $ 18,779 $ 14,114 $ 3,000
========= ========= =========
Cash paid during the year for interest.................... $ 16,037 $ 8,817 $ 8,591
========= ========= =========
See notes to consolidated financial statements
F-48
152
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
NOTE 1 -- ORGANIZATION
Enhance Financial Services Group Inc. ("Enhance Financial," and together
with its consolidated subsidiaries, the "Company") is a holding company which
was incorporated in the State of New York in December 1985 and commenced
operations in November 1986. The Company principally engages, through its
wholly-owned, New York-domiciled insurance subsidiaries Enhance Reinsurance
Company ("Enhance Re") and Asset Guaranty Insurance Company ("Asset Guaranty")
(together, the "Insurance Subsidiaries"), in the reinsurance of financial
guaranties of municipal and asset backed debt obligations issued by monoline
financial guaranty insurers. Until March 2000, the Insurance subsidiaries were
owned by a wholly-owned subsidiary of Enhance Financial, Enhance Investment
Corporation ("EIC"). EIC was dissolved in March 2000 and its assets, which
primarily consisted of the capital stock of the Insurance Subsidiaries, were
transferred to Enhance Financial. In addition, the Company is engaged in other
insurance, reinsurance and non-insurance businesses that utilize the Company's
expertise in performing sophisticated analyses of complex, credit-based risks.
The Company's other insurance businesses involve the issuance of direct
financial guaranties of smaller municipal debt obligations, trade credit
reinsurance, financial responsibility bonds and excess-SIPC/excess-ICS and
related type bonds. These other insurance businesses are conducted by the
Insurance Subsidiaries, Van-American Companies, Inc. and subsidiaries ("Van-Am",
See Note 14), and Enhance Reinsurance (Bermuda) Limited ("EnRe Bermuda"), a
Bermuda domiciled insurer.
The Company, through its consolidated subsidiaries, Singer Asset Finance
Company, L.L.C. ("Singer") and Enhance Life Benefits LLC ("ELB") and
non-consolidated affiliates (See Note 5), Credit-Based Asset Servicing and
Securitization LLC ("C-BASS"), Sherman Financial Group LLC ("Sherman") and
Credit2B.com Inc. ("Credit2B"), has also engaged in the origination, purchase,
servicing and/or securitization of special assets, including lottery awards,
structured settlement payments, viatical settlements, sub-
performing/non-performing residential mortgages and unsecured delinquent
consumer assets including credit cards receivables and the development of
business to business exchanges for business trade credit.
On February 28, 2001, Radian Group Inc. ("Radian") acquired Enhance
Financial (the "Acquisition"). Shareholders of Enhance Financial received .22
shares of Radian's common stock in return for each share of Enhance Financial
common stock. The Acquisition will be accounted for as a purchase.
Radian provides private mortgage insurance coverage in the United States on
residential mortgage loans.
The Acquisition was the result of the Company's efforts, commenced in
February 2000, to identify and review strategic options to increase shareholder
value. These efforts were, in turn, partly an outgrowth of a decision by Moody's
Investor Service, Inc. ("Moody's) in August 1999 to downgrade the senior long
term debt rating of Enhance Financial from Aa3 to A2 and the insurance financial
strength rating of Enhance Financial's largest insurance subsidiary, Enhance
Reinsurance Company ("Enhance Re"), from Aaa to Aa2. In February 2000, Moody's
placed such debt and insurance financial strength ratings under review for
possible further downgrade. As a result of the acquisition, Moody's removed the
company from credit watch and affirmed its ratings.
NOTE 2 -- SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP"), which, for the Insurance Subsidiaries, differ in certain
material respects from the accounting practices prescribed or permitted by
regulatory authorities (see Note 3). The preparation of the financial statements
in conformity with GAAP requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the
F-49
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
reported amounts of revenues and expenses during the reporting periods. Actual
results could differ from those estimates. The significant accounting policies
of Enhance Financial and its subsidiaries are as follows:
Consolidation
The accompanying financial statements include the accounts of Enhance
Financial, Enhance Investment Corporation, the Insurance Subsidiaries, Singer,
ELB, Van-Am and EnRe Bermuda (collectively the "Company"). Investments in which
the Company owns from 20% to 50% of those companies and where the Company has a
majority voting interest, but where the minority shareholders have substantive
participating rights or where the Company has the intent and ability to divest
its investment in the short term, are accounted for in accordance with the
equity method of accounting (See Note 5). All significant intercompany accounts
and transactions, and intercompany profits and losses, including those
transactions with equity method investee companies, have been eliminated.
Investments
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
115 "Accounting for Certain Investments in Debt and Equity Securities,"
management classifies all securities at the time of purchase as "held to
maturity" or "available for sale." Fixed maturity securities held to maturity
are those securities for which the Company has the intent and has the ability to
hold until maturity and are carried at amortized cost. There were no sales of or
transfers of securities classified as held-to-maturity for the years ended
December 31, 2000, 1999 and 1998. All other fixed maturity securities are
classified as available for sale and carried at fair value. Unrealized gains and
losses, net of taxes, on the available for sale portfolio are charged or
credited to accumulated other comprehensive income.
Common stocks are carried at fair value. Short-term investments are carried
at amortized cost, which approximates market. Unrealized gains and losses, net
of taxes, on common stocks are reflected in accumulated other comprehensive
income. Realized gains or losses on sales of investments are determined on the
basis of specific identification.
Other invested assets consist of residential mortgage-backed securities
(See Note 6), which are classified as trading securities and are carried at fair
value, with changes in fair value recognized in income currently. At December
31, 2000 and 1999, the carrying value approximates cost.
Derivatives
The Company uses interest rate swaps and forward treasury lock agreements
to hedge interest rate risk associated with unsecuritized assets held and
anticipated acquisitions of assets by Singer. Gains and losses on such
instruments that qualify as accounting hedges are deferred until the underlying
hedged asset is sold, at which time the gain or loss on the related hedge is
recognized in income.
The counterparties to the Company's derivative agreements are substantial
and creditworthy multinational commercial banks or other financial institutions
which are recognized market makers.
Cash and Cash Equivalents
For purposes of the statements of cash flows, the Company considers all
highly liquid short-term investments with an original maturity of three months
or less to be cash equivalents.
Deferred Policy Acquisition Costs
Deferred policy acquisition costs comprise those expenses that vary with
and are primarily related to the production of insurance premiums, including:
commissions paid on reinsurance assumed, salaries and related costs of
underwriting and marketing personnel, rating agency fees, premium taxes and
certain other underwriting expenses, offset by ceding commission income on
premiums ceded to reinsurers. Acquisition costs are deferred and amortized over
the period in which the related premiums are earned. Deferred policy
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
acquisition costs are reviewed periodically to determine that they do not exceed
or be less than recoverable amounts, after considering investment income.
Furniture, Fixtures and Equipment
Furniture, fixtures and equipment are carried at depreciated cost.
Depreciation is provided using the straight-line method over the estimated
economic lives of the assets, which range from 3 to 7 years. Leasehold
improvements are amortized over the lesser of the lease term or the useful life
of the improvement.
Goodwill
Goodwill represented the excess of cost of acquisitions over the tangible
net assets acquired. Goodwill, which was attributable substantially to the
acquisition of Singer, was amortized by the straight-line method over 20 years.
Premium Revenue Recognition
Premiums are earned in proportion to the level amortization of insured
principal over the contract period. Deferred premium revenue represents that
portion of premiums which will be earned over the remainder of the contract
period, based upon information reported by primary insurers and management's
estimates of amortization of insured principal in those instances where
information has not been reported to the Company. When insured issues are
refunded or called, the remaining deferred premium revenue is generally earned
at that time, since the risk to the Company is considered to have been
eliminated.
Reinsurance
In the normal course of business, the Insurance Subsidiaries reinsure
portions of their direct and assumed exposures with other insurance companies
through contracts designed to limit losses from certain risks and to protect
capital and surplus.
The following summarizes the effect of reinsurance on premiums written and
earned (in 000s):
YEARS ENDED DECEMBER 31,
--------------------------------------------------------------------
2000 1999 1998
-------------------- -------------------- --------------------
WRITTEN EARNED WRITTEN EARNED WRITTEN EARNED
-------- -------- -------- -------- -------- --------
Direct................... $ 41,735 $ 31,386 $ 53,999 $ 23,710 $ 30,484 $ 19,704
Assumed.................. 86,261 86,510 85,001 83,228 99,922 84,248
Ceded.................... (3,437) (7,644) (6,047) (3,087) (1,107) (1,615)
-------- -------- -------- -------- -------- --------
Net premiums............. $124,559 $110,252 $132,953 $103,851 $129,299 $102,337
======== ======== ======== ======== ======== ========
The effect of reinsurance on losses and loss adjustments expenses for the
years ended December 31, 2000, 1999 and 1998 was a decrease of $196,000,
$1,369,000 and $1,230,000, respectively.
In the event that any or all of the reinsurers were unable to meet their
obligations, the Insurance Subsidiaries would be liable for such defaulted
amounts.
The percentage of assumed premiums written as a part of net premiums
written for the years ended December 31, 2000, 1999 and 1998 was 69.3%, 63.9%,
and 77.3% respectively.
Losses and Loss Adjustment Expenses ("LAE")
Reserves for losses and LAE in the financial guaranty business are
established based on the Company's best estimate of specific and non-specific
losses, including expenses associated with settlement of such losses on its
insured and reinsured obligations. The Company's estimation of total reserves
considers known defaults, reports and individual loss estimates reported by
primary insurers and annual increases in the total net par amount outstanding of
the Company's insured obligations ($55.4 billion as of December 31, 2000). The
Company records a specific provision for losses and related LAE when reported by
primary insurers or when,
F-51
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
in the Company's opinion, an insured risk is in default or a default is probable
and the amount of the loss is reasonably estimable. In the case of obligations
with fixed periodic payments, the provision for losses and LAE represents the
present value of the Company's ultimate expected losses, adjusted for estimated
recoveries under salvage or subrogation rights. The non-specific reserves
represent the Company's best estimate of total reserves, less provisions for
specific reserves. Generally, when a case basis reserve is established or
adjusted, a corresponding adjustment is made to the non-specific reserve. The
Company discounts certain financial guaranty liabilities at annual rates, which
correspond to the Insurance Subsidiaries' investment yields ranging from 5.95%
to 6.18%. These discounted liabilities at December 31, 2000 and 1999 were $11.1
million and $14.9 million respectively, net of discounts of $9.9 million and
$12.0 million, respectively.
Reserves for losses and LAE for the Company's other lines of business,
primarily trade credit reinsurance, are based on reports and individual loss
estimates received from ceding companies, net of anticipated estimated
recoveries under salvage and subrogation rights. In addition, a liability is
included for losses and LAE incurred but not reported.
The Company periodically evaluates its estimates for losses and LAE and may
adjust such reserves based on the Company's actual loss experience, mix of
business and economic conditions. Changes in total estimates for losses and LAE
are reflected in current earnings. The Company believes that its total reserves
for losses and LAE are adequate to cover the ultimate cost of all claims net of
reinsurance recoveries. However, the reserves are based on estimates of losses
and LAE, and there can be no assurance that the ultimate liability of the
Company will not exceed such estimates.
Assignment Operations
The Company acquires financial assets from individuals, including the
rights to receive lottery awards and structured settlement payments, and
securitizes these payment streams. The Company recognizes revenue from
assignment sales and accounts for its residual interest in securitized assets in
accordance with SFAS No. 125 (see Note 10).
Federal Income Taxes
In accordance with SFAS No. 109, "Accounting for Income Taxes," deferred
federal income taxes are provided for temporary differences between the tax and
financial reporting basis of assets and liabilities that will result in
deductible or taxable amounts in future years when the reported amount of the
asset or liability is recovered or settled. In the case of the Company, such
temporary differences relate principally to premium revenue recognition and
deferred acquisition costs. See Note 6 for discussion relating to acquired
deferred tax asset.
The Internal Revenue Code permits municipal bond insurance companies to
deduct from taxable income, subject to certain limitations, the amounts added to
the statutory mandatory contingency reserve during the year. The deduction taken
is allowed only to the extent that U.S. Treasury non-interest-bearing tax and
loss bonds are purchased at their par value prior to the original due date of
the Company's consolidated federal tax return and held in an amount equal to the
tax benefit attributable to such deductions. The amounts deducted must be
included in taxable income when the contingency reserve is released, at which
time the Company may redeem the tax and loss bonds to satisfy the additional tax
liability. The purchases of tax and loss bonds are recorded as prepayments of
federal income taxes and are not reflected in the Company's current tax
provision.
Post-Retirement and Post-Employment Benefits
The Company provides various post-retirement and post-employment benefits,
including pension, health and life insurance benefits covering substantially all
employees who meet certain age and service criteria. The Company accounts for
these benefits under the accrual method of accounting. Amounts related to
anticipated obligations under the defined benefit pension plan and
post-retirement benefits are recorded based on actuarial determinations.
F-52
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Stock Compensation Plans
The Company has in effect a stock option program for key employees and a
directors' stock option program for the benefit of directors who are not
employees of the Company. In March 1998, the board of directors adopted the
Director Stock Ownership Plan pursuant to which directors are entitled to elect
to receive all or a portion of their directors fees in the form of Enhance
Financial common stock. Under these programs, awards are granted to eligible
employees and directors of the Company in the form of Incentive Stock Options,
where they qualify under the Internal Revenue Code, or Non-Qualified Stock
Options. The Company follows the intrinsic value based method of accounting for
stock based compensation as prescribed by APB Opinion No. 25, "Accounting for
Stock Issued to Employees" ("APB 25"). In accordance with SFAS No. 123,
"Accounting for Stock-Based Compensation", the Company has provided pro forma
disclosures of net income and earnings per share as if the fair value based
method of accounting had been applied.
Stock Split
All references to number of common shares and per-share information reflect
the two-for-one stock split which was effective on June 26, 1998.
Earnings Per Share
In accordance with SFAS No. 128, "Earnings per Share," the Company reports
"basic" and "diluted" earnings per share ("EPS"). Basic EPS is determined by
dividing net income by the weighted average number of common shares outstanding
for the period. Diluted EPS reflects the potential dilution that would occur if
securities such as employee stock options were exercised. Diluted EPS is
computed using the treasury stock method to determine the weighted average
number of common stock equivalents outstanding during each year. For all periods
presented common stock equivalents comprise outstanding options pursuant to the
Company's stock option programs.
Following is a reconciliation of weighted average common shares outstanding
to weighted average common and common equivalent shares outstanding for the
years ended December 31, 2000, 1999 and 1998 (in 000s).
2000 1999 1998
------ ------ ------
Weighted average common shares outstanding............... 38,179 38,000 37,520
Dilutive effect of common stock options.................. 466 1,024 1,755
------ ------ ------
Weighted average common and common equivalent shares
outstanding............................................ 38,645 39,024 39,275
====== ====== ======
Reclassifications
Certain of the prior years' amounts have been reclassified to conform to
the current year presentation.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 133, "Accounting for Derivatives Instruments and Hedging Activities" and
subsequently amended that statement with SFAS No. 137 and No. 138 in June 1999
and June 2000, respectively. This statement, as amended, establishes accounting
and reporting standards for derivative instruments and is effective for fiscal
years beginning after June 15, 2000. SFAS No. 133 requires that all derivative
instruments be recorded on the balance sheet at their fair value. Changes in the
fair value of derivatives will be recorded each period in current earnings or
other comprehensive income depending on whether a derivative is designated as
part of a hedge transaction, and if it
F-53
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
is the type of hedge transaction. The Company adopted the new statements as
amended on January 1, 2001. The adoption of the new statements did not have a
material effect on the Company's financial statements.
In September 2000, the FASB issued SFAS No. 140 "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities" which
replaces, in its entirety, SFAS No. 125. Although SFAS No. 140 has changed many
of the rules regarding securitizations, it continues to require an entity to
recognize the financial and servicing assets it controls and the liabilities it
has incurred and derecognize financial assets when control has been surrendered
in accordance with the criteria provided in the statement. The Company has
adopted the provisions of SFAS No. 140 that relate to applicable disclosures of
securitization transactions, and will adopt the remaining provisions of the new
statement as required beginning in the second quarter of 2001. The adoption of
the new statement is not expected to have a material effect on the Company's
financial statements.
In March 1998, the National Association of Insurance Commissioners adopted
the Codification of Statutory Accounting Principles (the "Codification"). The
Codification is intended to standardize regulatory accounting and reporting for
the insurance industry and is effective January 1, 2001. Statutory accounting
principles will continue to be established by individual state laws and
permitted practices. The Company believes the quantified effects of Codification
and the New York State related laws on its statutory financial statements are
immaterial.
NOTE 3 -- INSURANCE REGULATORY MATTERS
The consolidated financial statements are prepared on the basis of GAAP
which, for the Insurance Subsidiaries, differ in certain material respects from
accounting practices prescribed or permitted by insurance regulatory
authorities. The significant differences result from statutory accounting
practices which treat premiums earned, policy acquisition costs, deferred income
taxes, investments in fixed maturities and loss reserves differently.
The statutory basis policyholders' surplus of Enhance Re and Asset
Guaranty, as reported to insurance regulatory authorities, was $188.6 million
and $105.8 million, respectively, at December 31, 2000 and $214.8 million and
$90.6 million, respectively, at December 31, 1999. Statutory net income of
Enhance Re and Asset Guaranty was $49.0 million and $9.3 million, respectively,
for the year ended December 31, 2000. Statutory net income of Enhance Re and
Asset Guaranty was $38.7 million and $8.4 million, respectively, for the year
ended December 31, 1999, and $51.7 million and $11.0 million, respectively, for
the year ended December 31, 1998.
The New York Insurance Law requires financial guaranty insurers to maintain
minimum policyholders' surplus of $65 million. When added to the minimum
policyholders' surplus of $3.4 million separately required for the other lines
of insurance which it is licensed to write, each of the Insurance Subsidiaries
is required to have an aggregate minimum policyholders' surplus of $68.4
million.
Under the New York Insurance Law, the Insurance Subsidiaries may declare or
distribute dividends only out of earned surplus. The maximum amount of
dividends, which may be paid by the Insurance Subsidiaries to Enhance Financial
without prior approval of the Superintendent of Insurance, is subject to
restrictions relating to statutory surplus and net investment income as defined
by statute. Enhance Re declared and paid dividends of $20.0 million and Asset
Guaranty declared and paid dividends of $4.0 million to Enhance Financial for
the year ended December 31, 2000. At December 31, 2000, the Insurance
Subsidiaries had an additional $6.5 million available for dividend distribution.
However, in conjunction with the Acquisition, the Insurance Subsidiaries are
prohibited from paying dividends for a period of two years from the date of
acquisition without prior written consent of the Insurance Department.
The New York Insurance Law establishes single-risk limits applicable to all
obligations issued by a single entity and backed by a single revenue source.
Under the limit applicable to municipal bonds, the insured
F-54
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
average annual debt service for a single risk, net of reinsurance and
collateral, may not exceed 10% of the sum of the insurer's policyholders'
surplus and contingency reserves. In addition, insured principal of municipal
bonds attributable to any single risk, net of reinsurance and collateral, is
limited to 75% of the insurer's policyholders' surplus and contingency reserves.
Additional single risk limits, which generally are more restrictive than the
municipal bond single risk limit, are also specified for several other
categories of insured obligations.
NOTE 4 -- INVESTMENTS
The following is a summary of the Company's investments in fixed maturities
at December 31, 2000 and 1999 (in 000s):
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
2000 COST GAINS LOSSES FAIR VALUE
---- --------- ---------- ---------- ----------
HELD TO MATURITY
Private placements............................ $ 85,198 $ -- $ -- $ 85,198
Municipal obligations......................... 61,630 4,040 -- 65,670
Corporate securities.......................... 1,492 144 -- 1,636
U.S. Government obligations................... 6,070 273 -- 6,343
-------- ------- ------ --------
Total held to maturity.......................... $154,390 $ 4,457 $ -- $158,847
======== ======= ====== ========
AVAILABLE FOR SALE
Municipal obligations......................... $575,225 $27,825 $ 837 $602,213
Mortgage-backed securities.................... 164,208 3,061 516 166,753
Corporate securities.......................... 51,935 854 510 52,279
Asset-backed securities....................... 21,123 4 3,763 17,364
U.S. Government obligations................... 21,065 180 35 21,210
-------- ------- ------ --------
Total available for sale........................ $833,556 $31,924 $5,661 $859,819
======== ======= ====== ========
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
1999 COSTS GAINS LOSSES FAIR VALUE
---- --------- ---------- ---------- ----------
HELD TO MATURITY
Private placements............................ $ 90,711 $ -- $ -- $ 90,711
Municipal obligations......................... 77,231 3,767 -- 80,998
Corporate securities.......................... 3,593 102 -- 3,695
U.S. Government obligations................... 6,072 81 83 6,070
-------- ------ ------- --------
Total held to maturity.......................... $177,607 $3,950 $ 83 $181,474
======== ====== ======= ========
AVAILABLE FOR SALE
Municipal obligations......................... $564,899 $3,259 $28,381 $539,777
Mortgage-backed securities.................... 121,327 65 3,878 117,514
Corporate securities.......................... 56,213 82 1,490 54,805
Foreign securities............................ 21,689 216 2,377 19,528
U.S. Government obligations................... 14,623 -- 284 14,339
-------- ------ ------- --------
Total available for sale.............. $778,751 $3,622 $36,410 $745,963
======== ====== ======= ========
The amortized cost and estimated fair value of fixed maturities at December
31, 2000 by contractual maturity are shown below (in 000s). Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
F-55
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
AMORTIZED COST FAIR VALUE
-------------- ----------
FIXED MATURITIES, HELD TO MATURITY
Due in one year or less.................................... $ 11,338 $ 11,430
Due after one year through five years...................... 52,904 55,021
Due after five years through ten years..................... 46,055 47,210
Due after ten years........................................ 44,093 45,186
-------- --------
$154,390 $158,847
======== ========
AMORTIZED COST FAIR VALUE
-------------- ----------
FIXED MATURITIES, AVAILABLE FOR SALE
Due in one year or less.................................... $ 15,595 $ 15,594
Due after one year through five years...................... 60,574 62,336
Due after five years through ten years..................... 75,135 75,225
Due after ten years........................................ 682,252 706,664
-------- --------
$833,556 $859,819
======== ========
Proceeds from sales of available for sale investments in fixed maturities
during 2000, 1999, and 1998 were approximately $341 million, $348 million and
$301 million, respectively. Gross gains of $3.6 million and gross losses of $3.2
million were realized in 2000. Gross gains of $5.5 million and gross losses of
$3.3 million were realized in 1999. A write-down of book values for fixed income
securities, in the amount of $5.3 million, resulted in a net realized loss on
the sale of investments of $3.0 million in 1999. Gross gains of $5.0 million and
gross losses of $2.6 million were realized on those sales in 1998.
Sources of the Company's consolidated net investment income are as follows
(in 000s):
YEARS ENDED DECEMBER 31,
-----------------------------
2000 1999 1998
------- ------- -------
Fixed maturities...................................... $64,079 $56,909 $53,312
Short-term investments and cash equivalents........... 440 1,658 2,148
Other invested assets................................. 282 1,405 --
Other................................................. 59 436 416
------- ------- -------
Total investment income..................... 64,860 60,408 55,876
Less investment expenses.............................. 1,899 2,355 2,453
------- ------- -------
Net investment income................................. $62,961 $58,053 $53,423
======= ======= =======
The net unrealized appreciation (depreciation) of investments included as a
component of accumulated other comprehensive income at December 31, 2000 and
1999 is as follows (in 000s):
2000 1999
------- --------
Difference between market value and amortized cost of
available for sale portfolio
Fixed maturities.......................................... $26,393 $(32,788)
Equity securities......................................... 433 341
------- --------
26,826 (32,447)
Deferred tax (liability) asset.............................. (9,398) 9,212
------- --------
Net unrealized appreciation (depreciation) of investments... $17,428 $(23,235)
======= ========
F-56
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Unrealized appreciation of investments in equity securities at December 31,
2000 and 1999 includes gross unrealized gains of $433,000 and $341,000,
respectively.
Under agreements with its primary insurers and in accordance with statutory
requirements, the Insurance Subsidiaries maintain funds (fixed maturities and
cash equivalents) in trust accounts principally for the benefit of reinsured
companies and for the protection of policyholders in states in which the
Insurance Subsidiaries are not licensed. The Company maintains full control over
the management of assets held in trust accounts. The carrying amount of such
restricted balances amounted to approximately $548 million and $437 million at
December 31, 2000 and December 31, 1999, respectively.
See Note 6 for information relating to Other Invested Assets.
NOTE 5 -- INVESTMENT IN AFFILIATES
The Company owns 360,000 shares of EIC Corporation Ltd. ("Exporters"), an
insurance holding company which, through its wholly-owned insurance subsidiary
licensed in Bermuda, insures foreign trade receivables. The Company's investment
represented an equity interest of approximately 41% at the date of acquisition
and approximately 36.5% (which represents 54% voting interest) at December 31,
2000. The Company accounts for its investment in Exporters in accordance with
the equity method of accounting as the control of Exporters does not rest with
the Company and since the minority shareholders have substantial participating
rights.
C-BASS evaluates, purchases, services and securitizes sub-performing,
non-performing, and seller financed residential mortgages and real estate and
subordinated residential mortgage-backed securities. At December 31, 1999 the
Company owned approximately a 48% interest in C-BASS, which is being accounted
for on the equity basis of accounting. Effective January 1, 2000, the Company
owns approximately a 46% interest in C-BASS. At December 31, 2000, the Company
had contributed $55.5 million of capital to C-BASS. C-BASS distributed $2.5
million to the Company in 2000. The following table sets forth C-BASS financial
data as of the date indicated and for the periods then ended (in millions):
DECEMBER 31,
----------------------------
2000 1999 1998
-------- ------ ------
Mortgage-related assets................................. $ 866.6 $773.0 $550.1
Other assets............................................ 144.6 161.5 73.4
-------- ------ ------
Total assets............................................ $1,011.2 $934.5 $623.5
======== ====== ======
Funding arrangements.................................... $ 693.7 $617.2 $360.8
Other liabilities....................................... 77.0 127.6 107.6
-------- ------ ------
Total liabilities....................................... $ 770.7 $744.8 $468.4
======== ====== ======
FOR THE YEAR ENDED DECEMBER 31,
-------------------------------
2000 1999 1998
--------- ------- -------
Total revenues.......................................... $ 154.2 $114.1 $ 69.7
Total expenses.......................................... 97.9 73.7 43.7
-------- ------ ------
Net income.............................................. $ 56.3 $ 40.4 $ 26.0
======== ====== ======
Enhance Financial owns a 45% equity interest in SBF Participa oes Ltda
("SBF"), a Brazilian insurance holding company, which is the parent holding
company of UBF Garantias & Seguros SA, one of Brazil's largest credit insurance
and surety insurance companies ("UBF"). The remainder of SBF is owned by UBF's
management and private Brazilian investors. The Company anticipates that the
business of UBF will expand in the Latin American insurance and other
credit-related markets and opportunities. The Company's
F-57
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
investment in SBF as of December 31, 2000 and 1999 was approximately $2.5
million and $3.4 million, respectively, and is being accounted for on the equity
method of accounting.
In November 1998, the Company acquired through merger all of the
outstanding shares of Alegis Group, Inc. ("Alegis"), the parent holding company
of a Houston-based servicer and collector of delinquent consumer assets,
purchase price was approximately $11.7 million which approximated the fair
market value of Alegis. In December 1999, the Company contributed substantially
all of the assets of Alegis to Sherman.
In December 1998, the Company and MGIC Investment Corporation formed a
joint venture, Sherman, with members of management thereof, to provide analytic
and due diligence services to purchasers of unsecured delinquent consumer
assets; purchases, services and securitizes unsecured delinquent consumer
assets. The Company owns a 45.5% interest in Sherman, which is being accounted
for on the equity basis of accounting. In December 1999 as part of its initial
capital commitment, the Company contributed substantially all the assets of
Alegis and the capital stock of other subsidiaries to Sherman. At December 31,
1999, the Company reconfirmed its commitment to contribute an aggregate $20.0
million to the capital of Sherman, all of which had been contributed as of
December 31, 2000.
In April 2000 Enhance Financial acquired convertible preferred stock
representing a majority equity interest in Credit2B.com Inc. ("Credit2B"), a
newly formed corporation, in return for cash and future capital commitments
aggregating $14.0 million. Through December 31, 2000, Enhance Financial has
funded $9.9 million of the $14.0 million commitment. Through March 2001, Enhance
Financial had funded the total $14.0 million. In March 2001, Credit2B ceased
operations and is in the process of closing down its business. Credit2B and
Enhance Financial have entered into employment agreements with several of
Credit2B's officers (including its President and Chief Executive Officer and its
Chief Operating Officer), which provide base and incentive compensation of
approximately $3.3 million per annum ($1.7 million of which is attributable to
the aforementioned two officers). Each such agreement is terminable upon 30 days
notice by either party. In March 2001, in connection with closing down the
business of Credit2B, Enhance Financial and Credit2B provided notice to all
parties to such employment agreements of the termination of their respective
employment agreements. Enhance Financial estimates that their obligation for
severance payments and other post termination benefits to such officers is
approximately $2.3 million.
The Company has accounted for its investment in Credit2B on the equity
method of accounting as it has the intent and ability to dispose of its
investment in 2001. At December 31, 2000, Enhance Financial wrote off its
investment of $14.0 million in Credit2B (included in equity in income of
affiliates in the consolidated statements of operations).
Total assets of the Company's unconsolidated subsidiaries and affiliates
accounted for by the equity method of accounting at December 31, 2000 and 1999
were $1,280.4 and $1,275.5 million, respectively. Total liabilities at December
31, 2000 and 1999 were $929.7 and $868.4 million, respectively. Total net income
for the years' ended December 31, 2000, 1999 and 1998 was $54.4 million, $40.3
million and $30.5 million, respectively.
NOTE 6 -- INCOME TAXES
The Company files a consolidated federal income tax return with its
includable subsidiaries. Subject to the provisions of a tax sharing agreement,
income tax allocation is based upon separate return calculations.
On April 8, 1999, the Company completed a $13.7 million purchase of a
portfolio of approximately 500 residential mortgage-backed securities consisting
of residual interests in real estate mortgage investment conduits ("REMICs")
(classified as Investments -- Other Invested Assets). Post-closing adjustments
subsequently reduced the net purchase price to $9.4 million. The transaction was
structured by C-BASS, which will also manage and service the portfolio for the
Company. The purchase price was financed by a short-
F-58
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
term credit facility with an initial principal balance of $10.3 million. As of
December 31, 2000, this credit facility was paid off.
The transaction is expected to produce pre-tax economic profits over the
life of the acquired portfolio, which is anticipated to be eight to ten years
and to provide tax benefits that are expected to lower the Company's effective
tax rate in 1999 and beyond. However, the amount of pre-tax economic profits and
tax benefits recognized from year to year may vary significantly depending on a
variety of factors relating to the portfolio, some of which are outside the
control of the Company. At December 31, 2000, the Company expected that it would
continue to receive tax benefits from the portfolio at a level comparable to the
current year at least through 2001 and would receive some additional tax
benefits over a period of six to eight years thereafter.
One of the prior owners of the REMICs was audited by the Internal Revenue
Service ("IRS") for taxable years during which such owner owned the REMICs. Upon
completion of that audit, the IRS determined that certain tax strategies adopted
by the prior owner with respect to the REMICs were improper and should be
disallowed. The prior owner disputed the IRS's determination and filed suit in
the United State Tax Court to overturn the IRS's audit adjustments relating to
the REMICs. In August 2000, the prior owner and the IRS reached a settlement in
their Tax Court litigation and the Tax Court entered a series of stipulated
decisions regarding the settlement. The stipulated decisions appear to be a
concession by the IRS of the incorrectness of its audit determination that
certain tax strategies adopted by the prior owner with respect to the REMICs
were improper and should be disallowed. After reviewing the stipulated
decisions, the Company's counsel has advised the Company that, at the present
time, it is not appropriate to conclude that the settlement or any potential
future IRS action will affect the Company's ability to realize the expected tax
benefits associated with the REMICs. Nonetheless, given the private nature of
the settlement, the lack of clarity regarding the basis for the settlement, and
the uncertainties regarding the IRS's potential future action, there can be no
complete assurance that the settlement or any potential future IRS action will
not have a material adverse effect on the tax benefits that the Company expects
to realize from the REMICs.
With respect to the acquired tax benefits, as of December 31, 2000, the
Company has recorded a $131.5 million deferred tax asset and a related deferred
credit. The deferred tax asset is reduced and the deferred credit is amortized
to income (as a reduction of current tax expense) as the tax benefits are
realized (approximately $6.5 million and $14.4 million for the years ended
December 31, 2000 and 1999, respectively). In addition, during the years ended
December 31, 2000 and 1999, the Company realized investment income of $0 and
$1.3 million, respectively, from the portfolio. The tax benefits result from the
fact that, under the Internal Revenue Code (the "IRC"), the uniform yield to
maturity method of recognizing interest income and expense on debt instruments
generally causes a REMIC to recognize interest income with respect to its assets
more rapidly than it recognizes interest expense with respect to its regular
interests. This mismatching of interest income and expense generally results in
the REMIC producing significant taxable income for the holder of the residual
interest in its early years, followed by a corresponding amount of tax losses
(which are deductible by the holder of the residual interest) in later years.
The Company's tax benefits from the portfolio consists of the tax losses
generated by the REMICs, which offset taxable income of the REMICs which was
previously allocated to a prior owner of the portfolio.
At December 31, 2000, the Company did not record a deferred federal income
tax liability of $20.9 million for tax losses of $59.9 million associated with
the portfolio because the tax law provides a means, through the use of a
particular tax strategy which the Company, as of December 31, 2000, intended to
use, by which income tax benefits associated with this portfolio would not
result in future tax obligations. The tax strategy involves numerous assumptions
and requires that certain steps occur in a specific order. Although the Company
believes that the assumptions are reasonable and that the Company can cause the
required steps to occur in the proper order, certain of the assumptions and
steps are outside the control of the Company and therefore there is no assurance
that all the assumptions will be satisfied or all of the steps will occur in the
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
proper order. In addition, this tax strategy is based on current law and there
is no assurance that new laws, regulations or court decisions will not be
enacted or occur that render the tax strategy ineffective. If (i) the Company
were to dispose of the portfolio other than in accordance with its currently
anticipated tax strategy, (ii) the Company were to determine that the Company
would be unable or it would be unadvisable to utilize the tax strategy, (iii)
current tax law were to change (see below), or (iv) there were an unfavorable
determination by the IRS regarding the Company's tax strategy, the Company may
be required to record a deferred federal income tax liability for and/or
recapture all or a significant portion of the tax losses associated with the
portfolio that the Company previously recognized ($20.9 million as of December
31, 2000).
During January 2001, tax law legislation was enacted which adversely
impacted the Company's ability to utilize the tax strategy discussed above. In
consideration of such new tax law legislation, advice from the Company's counsel
and the Acquisition, the Company determined that it is unlikely that the income
tax benefits associated with this portfolio will not result in future taxable
obligations. Accordingly, additional income tax expense of approximately $20.9
million will be recognized in the Company's financial statements subsequent to
December 31, 2000.
The investment in the portfolio ($8.6 million and $10.9 million at December
31, 2000 and 1999, respectively) is carried at estimated market value (which
approximates cost) and is classified on the consolidated balance sheet as
Investment -- Other Invested Assets.
The components of the Company's consolidated provision for income taxes are
as follows (in 000s):
YEAR ENDED DECEMBER 31,
-------------------------------
2000 1999 1998
-------- -------- -------
Current income tax.................................. $ 16,380 $ 14,569 $10,815
Deferred income tax................................. (17,824) (13,749) 19,535
-------- -------- -------
Income tax (benefit) expense...................... $ (1,444) $ 820 $30,350
======== ======== =======
A reconciliation from the tax provision calculated at the federal statutory
rate of 35% to the actual tax is as follows (in 000s):
YEAR ENDED DECEMBER 31,
-------------------------------
2000 1999 1998
-------- -------- -------
Tax provision at statutory rate..................... $ (3,798) $ 24,305 $39,482
Tax exempt interest and dividends................... (10,736) (10,283) (9,796)
Residential mortgage backed securities.............. (6,469) (14,406) --
Goodwill............................................ 7,718 -- --
Change in estimate of tax liability................. 4,788 (1,396) --
Assignment income................................... 4,683 560 739
Other, net.......................................... 2,370 2,040 (75)
-------- -------- -------
Actual tax (benefit) expense...................... $ (1,444) $ 820 $30,350
======== ======== =======
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The components of the net deferred income tax asset and liability as of
December 31, 2000 and 1999 are as follows (in 000s):
DECEMBER 31, 2000 DECEMBER 31, 1999
----------------------- -----------------------
ASSETS LIABILITIES ASSETS LIABILITIES
-------- ----------- -------- -----------
Deferred policy acquisition costs....... $ -- $43,819 $ -- $ 41,816
Deferred premium revenue................ -- 16,582 -- 13,693
Contingency reserves.................... -- 12,542 -- 34,242
Unrealized capital gains................ -- 9,398 -- --
Unrealized capital losses............... -- -- 9,212 --
Assignment income....................... -- 6,211 -- 26,536
Losses and LAE reserves................. 7,198 -- 7,306 --
Accrued expenses........................ 4,895 -- 4,686 --
Net operating loss...................... 3,365 -- 22,689 --
Impairment of investment asset.......... 1,823 -- 1,855 --
Other................................... 5,841 5,974 5,281 4,155
Residential mortgage-backed securities
acquired tax benefits................. 131,530 -- 138,000 --
-------- ------- -------- --------
$154,652 $94,526 $189,029 $120,442
======== ======= ======== ========
Prepaid federal income taxes include Tax and Loss Bonds of $17.3 million
and $24.8 million as of December 31, 2000 and 1999, respectively.
At December 31, 2000, the Company has net operating loss carryforwards of
$9.6 million, which expire in 2020.
NOTE 7 -- LONG-TERM DEBT AND CREDIT FACILITY
The carrying value of the Company's indebtedness is as follows (in 000s):
DECEMBER 31,
--------------------
2000 1999
-------- --------
Debentures, due 2003........................................ $ 75,000 $ 75,000
Short term debt............................................. 173,724 113,941
-------- --------
Total............................................. $248,724 $188,941
======== ========
The debentures were issued at par and bear interest at 6.75% payable in
March and September each year. The debentures are non-callable obligations of
Enhance Financial.
Enhance Financial maintains an unsecured credit facility through a credit
agreement (the "Credit Agreement") with major commercial banks providing for
borrowing by Enhance Financial of up to $173.7 million due May 29, 2001, to be
used for general corporate purposes. Advances under the Credit Agreement bear
interest at variable LIBOR-based rates. The average interest rate paid on such
advances in 2000 was 7.7%. The Credit Agreement prohibits the Company from
incurring additional indebtedness to the extent the resulting total would exceed
30% of the Company's total capitalization as defined or 50% of the sum of the
Insurance Subsidiaries' combined statutory surplus and contingency reserves, and
includes certain covenants, one of which would have precluded the Company from
paying a dividend during the fourth quarter 2000. The total outstanding under
the Credit Agreement at December 31, 2000 was $173.7 million.
F-61
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In 1995, the Company entered into a reverse interest-rate swap transaction
based on a notional amount of $50 million over the term equal to the remaining
term of Enhance Financial's 6.75% Debentures. On June 1, 1995, the Company
terminated the swap and realized a gain on termination in the amount of $4.6
million. The gain ($1.3 million at December 31, 2000) has been deferred and is
being amortized over the original term of the swap.
See Note 6 for credit facility relating to Other Invested Assets.
NOTE 8 -- SHAREHOLDERS' EQUITY AND DIVIDENDS
In December 1996, the board of directors terminated the then existing
repurchase program and authorized the repurchase of up to 1,500,000 shares of
its common stock from that date. Enhance Financial purchased 666,394 shares of
its common stock at an average price of $26.72 per share in 1998. No shares were
repurchased in 1999 and 2000.
In connection with the repurchase program, Enhance Financial entered into a
forward purchase agreement during 1997 regarding 256,394 shares of its common
stock at a forward purchase price of $21.25 per share. The agreement settles
quarterly on a net basis in shares of Enhance Financial stock or in cash at
Enhance Financial's election. To the extent that the market price of Enhance
Financial common stock on a settlement date was higher (lower) than the forward
purchase price, the net differential was received (paid) by Enhance Financial.
During 1998, settlements resulted in Enhance Financial receiving 106,394 shares,
which were recorded as treasury shares. The agreement terminated in June 1998
after Enhance Financial repurchased the full amount under the program.
During 1998, Enhance Financial issued 454,473 shares of common stock in
connection with its acquisition of Alegis Group Inc. (See Note 5).
NOTE 9 -- FAIR VALUES OF FINANCIAL INSTRUMENTS
The following estimated fair value amounts have been determined by the
Company using available market information and appropriate valuation
methodologies. However, considerable judgment is necessarily required to
interpret market data to develop the estimates of fair value. Accordingly, the
estimates presented herein are not necessarily indicative of the amount the
Company could realize in a current market exchange. The use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair value amounts.
Fixed Maturity Securities -- The fair values of fixed maturity securities
are based on quoted market prices or dealer quotes. For private placements, fair
value approximates amortized cost.
Short-Term Investments -- Fair values of short-term investments are assumed
to equal cost.
Other Invested Assets -- The fair value of the residential mortgage-backed
securities is based on the present value of the estimated net future cash flows,
including annual distributions and net cash proceeds from the exercise of call
rights, using relevant market information.
Deferred Premium Revenue -- The fair value of the Company's deferred
premium revenue, net of prepaid reinsurance premium, is based on the estimated
cost of entering into a cession of the entire portfolio with third-party
reinsurers under market conditions. This figure was determined by using the
statutory basis unearned premiums adjusted for ceding commission based on
current market rates.
Loss And Loss Adjustment Reserves -- The carrying amount, net of
reinsurance recoverable on unpaid losses, is composed of the present value of
the expected cash flows for specifically identified claims combined with a
general estimate for non-specific reserves. Therefore, the carrying amount is a
reasonable estimate of the fair value of the reserve.
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Long-Term Debt -- The fair value is estimated based on the quoted market
prices for the same or similar issue or on the current rates offered to the
Company for debt of the same remaining maturities.
Short-Term Debt -- The fair value of short-term debt, which bears interest
at variable rates, is assumed to equal the carrying value of the debt.
Derivative Instruments -- The fair values of foreign currency contracts are
based on the estimated termination values as of the balance sheet date. The fair
values of interest rate swaps (notional amounts of $10 million and $65 million
at December 31, 2000 and 1999, respectively) and forward treasury lock
agreements (notional amount of $15 million at December 31, 1999) are determined
by the Company using relevant market information and appropriate valuation
methodologies.
The carrying amounts and estimated fair values of these financial
instruments are as follows (in 000s):
DECEMBER 31, 2000 DECEMBER 31, 1999
------------------------ ----------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
---------- ---------- -------- ----------
ASSETS:
Fixed maturity securities.................... $1,014,209 $1,018,666 $923,570 $927,437
Common stock................................. 931 931 839 839
Short-term investments....................... 94,673 94,673 34,657 34,657
Other invested assets........................ 8,644 8,644 10,935 10,935
LIABILITIES:
Deferred premium
Revenue (net).............................. 351,623 307,279 337,316 294,667
Loss and loss adjustment expense reserve
(net)...................................... 70,011 70,011 49,684 49,684
Long-term debt............................... 75,000 75,465 75,000 74,010
Short-term debt.............................. 173,724 173,724 113,941 113,941
DERIVATIVE INSTRUMENTS:
Forward treasury lock agreements............. -- -- 77 77
Interest rate swap agreements................ (468) (468) 536 536
NOTE 10 -- ASSIGNMENT OPERATIONS
The Company, primarily through Singer, acquires financial assets from
individuals, including the rights to receive lottery awards and structured
settlement payments due in future years, and generally securitizes a significant
portion (80%-90%) of these payment streams. Singer has incorporated various
wholly-owned, qualifying special purpose subsidiaries ("QSPEs") for the specific
purpose of purchasing financial assets from Singer. Pursuant to the requirements
of SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities" and Emerging Issues Task Force Issue ("EITF")
No. 96-20, "Impact of SFAS No. 125 on Consolidation of Special Purpose
Entities", the QSPEs, which engage in qualified purchases of financial assets
with affiliated companies, are accounted for on an unconsolidated basis.
Singer has purchased (or borrowed against), pooled and securitized: (i)
structured settlement payment rights, i.e. installment amounts payable to an
individual in settlement of his or her personal injury claim where highly-rated
insurance companies are the obligors, and (ii) state-operated lottery prize
payment rights, where government or quasi-governmental entities are the
obligors. Through the securitization process, Singer transfers control over such
financial assets. Sales (assignment income) from Singer to the QSPEs occur on a
periodic basis and are recorded based on the relative fair value of the
financial assets sold. Singer recognizes income to the extent that net sale
proceeds upon such transfer of control exceeds the allocated historical cost of
the pool for amounts paid to individuals, after deducting commissions and other
fees paid to third parties.
F-63
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The residual interests held by Singer, are classified as trading securities
under SFAS 115 "Accounting for Certain Investments in Debt and Equity
Securities" and are carried at estimated fair value with changes in fair value
recognized currently as a component of assignment income. Fair value is
estimated using discounted cash flows at an interest rate, which the Company
believes a purchaser, would require as a rate of return. The Company's
assumptions are based on experience with its portfolio, available market data,
estimated defaults (net of recoveries), estimated discount rates and the cost of
servicing. There is generally not an active public market for such investments
and market quotations are not readily available. Additionally, the valuation of
the residual interests is subject to credit and interest rate risks on the
transferred financial assets. Given the nature of these investments and its
market, the values estimated by management may not necessarily represent the
amounts that would be received by the Company if it sold all or a portion of its
investments. The Company's aggregate residual interests at December 31, 2000 and
1999 are approximately $47.4 million and $49.8 million, respectively, and are
included in Other Assets on the consolidated balance sheet.
In estimating the fair value of the residual interests at December 31,
2000, the Company has generally discounted expected future cash flows at rates
of 7% to 8% for lottery awards and rates of 10% to 11% for structured
settlements. Additionally, the Company has assumed annual credit losses of 0%
for lottery awards and 4% for structured settlements. The sensitivity of the
current fair value of residual interests to immediate 10% and 20% adverse
changes in those assumptions are as follows (in millions):
LOTTERY STRUCTURED
AWARDS SETTLEMENTS
------- -----------
Fair Value of Residual Interests............................ $22.5 $23.0
Residual cash flows discount rate
Impact on fair value of 10% adverse change................ $ 2.3 $ 2.6
Impact on fair value of 20% adverse change................ $ 4.5 $ 4.9
Credit loss rate
Impact on fair value of 10% adverse....................... $ -- $ 0.8
Impact on fair value of 20% adverse....................... $ -- $ 1.5
These sensitivities are hypothetical and should be used with caution. As
the figures indicate, changes in fair value based on a 10 percent variation in
assumptions generally cannot be extrapolated because the relationship of the
change in assumption to the change in fair value may not be linear. Also, in
this table, the effect of a variation in a particular assumption on the fair
value of the retained interest is calculated without changing any other
assumption; in reality, changes in one factor may result in changes in another,
which might magnify or counteract the sensitivities.
During the year ended December 31, 2000, Singer received proceeds of
approximately $126.6 million from new securitizations, realizing gains
(assignment income) of approximately $21.7 million on such securitizations.
Additionally, Singer received other cash flows on residual interests of
approximately $6.7 million during the year ended December 31, 2000.
In the securitization transactions, Singer has retained servicing
responsibilities and receive annual servicing fees ranging from .20 percent to
.65 percent for structured settlements and .00 percent to .20 percent for
lottery awards, based upon the respective outstanding balances. During the year
ended December 31, 2000, Singer received servicing fees of approximately $1.3
million.
Wind Down of Assignment Operations
As part of its review of strategic alternatives during the first six months
of 2000, the Company assessed the continuing value or impairment of goodwill
attributable to its wholly owned subsidiaries, Singer and ELB (approximately
$22.1 million at June 30, 2000). The strategic analysis established that there
was negligible investor interest in purchasing these subsidiaries and that it
was unlikely that the Company would recover at
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
minimum its recorded goodwill. In conjunction with this assessment, the Company
also completed a long-term cash flow analysis. Additionally, Singer and ELB
continued to incur losses and generate negative cash flows during the first six
months of 2000. Accordingly, the Company determined (as of June 30, 2000) that
the entire recorded value of goodwill was impaired and should be charged off;
such charge has been included in non-insurance operating expenses.
During September 2000, the Board of Directors of the Company approved a
plan to wind down, sell or otherwise dispose of Singer's operations. A provision
of $8.1 million has been recorded in 2000 to reflect severance, termination and
other related wind down costs; such charge is included in non-insurance
operating expenses.
During December 2000, the Company entered into a management agreement with
certain of Singer's former employees (the "Purchasers") and additionally sold to
them various intangible assets relating to Singer's lottery and structured
settlement business, including historical customer lists, related data bases,
limited use of the Company's name and rights under various agreements. The
purchase price is contingent and will be based upon a stipulated excess, as
adjusted. Such excess will be calculated based on a third party transaction that
occurs the earlier of one year from the date of the agreement or the settlement
for the account of Singer of specific lottery and structured assets (in which
the Purchasers participate in the net revenue of these assets).
Under the terms of the management agreement, the Purchasers are obligated
to perform various management and advisory type services for a period of two
years at a rate of approximately $900,000 for the initial year and $750,000 for
the second year.
Additionally in October 2000, the Company sold certain assets and
intangibles of ELB and has recognized a loss of $1.4 million, which also is
included in non-insurance operating expenses.
In connection with a number of Singer's and ELB's securitizations, Enhance
Financial has provided performance guarantees (in some cases with a direct
performance obligation) to the respective lenders on behalf of Singer and ELB.
The guarantees relate to Singer's and ELB's roles as originators and/or
servicers of the securitized assets. Additionally, Enhance Financial has
provided other forms of programmatic support, including the down-stream funding
of tax credits related to the securitization of assignable state lottery awards.
In addition, Enhance Financial has agreed to indemnify many of Singer's and
ELB's lenders against non-credit-related losses resulting from a breach of
Singer's or ELB's respective representations, warranties or covenants.
Enhance Financial is obligated to fund federal and state tax credits
related to lottery payments, which Enhance Financial either utilizes in
connection with its tax obligations or for which Enhance Financial applies for
refunds, through 2016 as follows (in millions):
YEAR TAX CREDITS
---- -----------
2001........................................................ $ 25.2
2002........................................................ 24.5
2003........................................................ 23.0
2004........................................................ 21.7
2005........................................................ 20.4
Thereafter.................................................. 118.4
Enhance Financial will be responsible for servicing, in some cases for 15
years or longer, permanently financed securitized assets originated by Singer
and ELB having an aggregate value of approximately $587.9 million and an
additional $134.5 million currently placed in warehouse lines maturing before
the end of 2001. In connection with Singer's lottery servicing obligations,
related cash liquidity reserves totaling $7.4 million at
F-65
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
December 31, 2000, which, while not pledged as credit support with respect to
the assets, are at risk in the event of an uncured default by Singer or Enhance
Financial.
At December 31, 2000, Singer has approximately $134.5 million of debt,
financed through two off-balance sheet warehouse lines of credit and secured by
assets held by non-consolidated entities. In December 2000, both of the
warehouse lines of credit matured. One of the warehouse lines of credit ($82.9
million at December 31, 2000) was extended for one year and Singer agreed to
apply all future cash collections to reduce the debt outstanding. The second
warehouse line of credit ($51.6 million at December 31, 2000) extends for an
additional year pursuant to the original debt agreement; however, Singer is
unable to borrow any additional amounts under this line of credit. In the event
of default, Singer is exposed to potential loss of its equity (approximately
$21.5 million at December 31, 2000) to the extent that proceeds from the
disposition of assets are insufficient to satisfy the obligations of the
non-consolidated entities.
NOTE 11 -- EMPLOYEE BENEFITS
The Company maintains non-contributory defined benefit pension plans,
including a non-qualified restoration pension plan effective July 1, 1999, for
the benefit of all eligible employees. Employer contributions are based upon a
fixed percentage of employee salaries determined at the discretion of the
Company. Plan assets consist of domestic equity and high quality fixed income
securities.
The actuarially computed net pension cost for 2000, 1999 and 1998, using
the projected unit credit actuarial method of attribution includes the following
components (in 000s):
YEAR ENDED DECEMBER 31,
--------------------------
2000 1999 1998
------ ------ ------
Service cost............................................. $2,384 $1,707 $1,022
Interest cost............................................ 953 726 485
Expected return on plan assets........................... (291) (394) (415)
Amortization of transition obligation.................... 2 1 2
Amortization of prior service cost....................... 438 246 53
Recognized net actuarial gain............................ (114) (139) (129)
------ ------ ------
Net periodic benefits cost............................... $3,372 $2,147 $1,018
====== ====== ======
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth the funding status of the plans and the
accrued pension cost recognized in the Company's consolidated balance sheets at
December 31, 2000 and 1999 (in 000s):
DECEMBER 31,
------------------
2000 1999
------- -------
CHANGE IN BENEFIT OBLIGATION
Benefit obligation at beginning of year..................... $11,362 $13,241
Service cost................................................ 2,384 1,707
Interest cost............................................... 953 726
Actuarial losses (gains).................................... 1,161 (2,018)
Benefits paid............................................... (1,429) (2,294)
------- -------
Benefit obligation at year end.............................. 14,431 11,362
------- -------
CHANGE IN PLAN ASSETS
Fair value of plan assets at beginning of year.............. 2,971 4,637
Actual return on plan assets................................ 410 628
Employer contribution....................................... 1,228 --
Benefits paid............................................... (1,058) (2,294)
------- -------
Fair value of plan assets at end of year.................... 3,551 2,971
------- -------
Funded Status............................................... (10,880) (8,391)
Unrecognized transition obligation.......................... 9 11
Unrecognized prior service cost............................. 6,381 6,820
Unrecognized net actuarial gain............................. (2,901) (4,057)
------- -------
Accrued benefit cost........................................ $(7,391) $(5,617)
======= =======
Actuarial assumptions utilized to determine the projected benefit
obligation and estimated unrecognized net actuarial gain were as follows:
YEAR ENDED DECEMBER 31,
-----------------------
2000 1999 1998
----- ----- -----
Discount rate.............................................. 7.75% 8.00% 7.00%
Expected return on plan assets............................. 8.50% 8.50% 8.50%
Rate of compensation increase.............................. 6.00% 6.00% 6.00%
In addition to pension benefits, the Company provides certain health care
benefits for retired employees. Substantially all employees of Enhance Financial
and the Insurance Subsidiaries may become eligible for these benefits if they
reach retirement age while working for the Company.
The net post-retirement benefit cost for 2000, 1999 and 1998, was $245,000,
$180,000, and $140,000, respectively, and includes service cost, interest cost
and amortization of the transition obligation and prior service cost.
At December 31, 2000, and 1999 the accumulated post-retirement benefit
obligation was $1,150,000 and $896,000, respectively, and was not funded. At
December 31, 2000, the discount rate used in determining the accumulated
post-retirement benefit obligation was 7.75% and the health care trend was 10%,
graded down to 5.5% after 9 years; at December 31, 1999, the discount rate used
in determining the accumulated post-retirement benefit obligation was 8.00% and
the health care trend was 10.50%, graded to 5.50% over 12 years.
F-67
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ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A one-percentage point change in assumed healthcare cost trend rates would have
the following effects (In thousands):
1-PERCENTAGE 1-PERCENTAGE
POINT INCREASE POINT DECREASE
-------------- --------------
Effect on total of service and interest cost
components............................................. $ 49 $ (38)
Effect on post-retirement benefit obligation............. 204 (163)
In January 1996, the Company implemented a 401(k)-retirement savings plan
covering substantially all employees of the Company. Under this plan, the
Company provides a matching contribution of 50% on contributions up to 6% of
base salary made to the plan by eligible employees. The Company's matching
contributions were $293,000, $275,000 and $120,000, in 2000, 1999 and 1998,
respectively.
NOTE 12 -- STOCK OPTION PROGRAMS
The Company maintains a stock option program for its key employees.
Substantially all options issued under the program vest in four equal annual
installments commencing one year after the date of grant. The Company also
maintains a directors' option program pursuant to which directors of Enhance
Financial and the Insurance Subsidiaries who are not employees of the Company
are granted non-qualified stock options. Options under this program vest in two
equal annual installments commencing on December 31 next following the date of
grant. As a result of the Acquisition on February 28, 2001, all outstanding and
unexercised Enhance Financial stock options were converted into options to
purchase shares of Radian stock. The Enhance Financial stock options converted
to .22 Radian stock options for each Enhance Financial stock option.
In March 1998, the board of directors adopted the Director Stock Ownership
Plan, which as amended, allows each outside director to elect to receive up to
100% of his or her director fees in the form of shares of common stock valued at
the closing price of the common stock on the New York Stock Exchange on that
date. Each eligible director is entitled to make a new election annually for
that coming year's fee.
All options are exercisable at the option price, being the fair value of
the stock at the date of grant. The board of directors has authorized a maximum
of 11,631,050 shares of common stock to be awarded as options, of which
8,428,934 options for shares (net of expirations and cancellations) had been
awarded as of December 31, 2000. Information regarding activity in the option
programs follows:
NUMBER OF OPTION PRICE WEIGHTED AVERAGE
2000 OPTIONS SHARES PER SHARE EXERCISE PRICE
------------ ---------- ----------------- ----------------
Outstanding at beginning of year............. 7,196,497 $ 7.25 - $34.281 $17.50
Granted -- Employees......................... 228,500 $ 14.00 - $14.125 14.01
-- Directors........................ 70,000 $ 15.4375 15.44
Exercised.................................... (394,300) $ 7.25 - $11.938 8.75
Expired or canceled.......................... (1,042,004) $16.438 - $34.281 22.50
----------
Outstanding at year-end...................... 6,058,693 $ 8.00 - $32.25 17.05
----------
Exercisable at year-end -- Employees......... 4,280,518 $ 8.00 - $32.25 16.06
-- Directors........ 461,666 $ 8.563 - $29.75 19.34
F-68
172
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NUMBER OF OPTION PRICE WEIGHTED AVERAGE
1999 OPTIONS SHARES PER SHARE EXERCISE PRICE
------------ --------- ----------------- ----------------
Outstanding at beginning of year.............. 6,055,604 $ 7.25 - $34.281 $17.38
Granted -- Employees.......................... 1,404,768 $16.438 - $29.375 17.82
-- Directors......................... 70,000 $ 16.25 16.25
Exercised..................................... (192,349) $ 7.25 - $ 28.81 11.10
Expired or canceled........................... (141,526) $11.938 - $ 32.25 25.79
---------
Outstanding at year-end....................... 7,196,497 $ 7.25 - $34.281 17.50
---------
Exercisable at year-end -- Employees.......... 3,969,601 $ 7.25 - $34.281 14.56
-- Directors......... 381,166 $ 8.563 - $ 29.75 18.35
NUMBER OF OPTION PRICE WEIGHTED AVERAGE
1998 OPTIONS SHARES PER SHARE EXERCISE PRICE
------------ --------- ----------------- ----------------
Outstanding at beginning of year.............. 5,635,108 $ 7.25 - $ 29.75 $14.81
Granted -- Employees.......................... 1,168,980 $24.937 - $34.281 25.49
-- Directors......................... 91,000 $ 30.00 30.00
Exercised..................................... (666,374) $ 7.25 - $ 20.75 9.89
Expired or canceled........................... (173,110) $ 8.00 - $28.813 24.07
---------
Outstanding at year-end....................... 6,055,604 $ 7.25 - $34.281 17.38
---------
Exercisable at year-end -- Employees.......... 3,234,202 $ 7.25 - $28.844 12.21
-- Directors......... 306,166 $ 8.563 - $ 29.75 14.46
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------- --------------------------
NUMBER WEIGHTED WEIGHTED NUMBER WEIGHTED
OUTSTANDING AT AVERAGE AVERAGE EXERCISABLE AT AVERAGE
RANGE OF DECEMBER 31, REMAINING EXERCISE DECEMBER 31, EXERCISE
EXERCISE PRICES 2000 CONTRACT LIFE PRICE 2000 PRICE
--------------- -------------- ------------- -------- -------------- --------
$ 8.00 - $10.99 1,674,290 2.8 $ 9.21 1,674,290 $ 9.21
$11.00 - $19.99 2,486,723 7.3 15.20 1,679,764 14.89
$20.00 - $32.25 1,897,680 7.5 26.39 1,388,130 26.81
--------- ---------
6,058,693 4,742,184
========= =========
The Company applies the provisions of APB Opinion No. 25 "Accounting for
Stock Issued to Employees" in accounting for its stock option program.
Accordingly, no compensation expense has been recognized for options granted
under its stock option program, and the Company has adopted the disclosure-only
provisions of SFAS No. 123, "Accounting for Stock-Based Compensation." Had
compensation cost for the Company's current and past stock option programs been
determined based upon the fair value at the grant date for awards under these
plans consistent with the methodology prescribed under SFAS No. 123, the
Company's net income and earnings per share would have been reduced to the pro
forma amounts indicated below:
2000 1999 1998
-------- ------- -------
Net (loss) income -- as reported..................... $ (9,409) $68,624 $82,457
-- pro forma..................... $(12,475) $66,168 $80,906
Basic earnings per share -- as reported.............. $ (0.25) $ 1.81 $ 2.20
-- pro forma............... $ (0.33) $ 1.74 $ 2.16
Diluted earnings per share -- as reported............ $ (0.24) $ 1.76 $ 2.10
-- pro forma............. $ (0.32) $ 1.70 $ 2.06
F-69
173
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model. The weighted average grant date fair
value of option grants were $8.37, $6.78 and $16.62 in 2000, 1999 and 1998,
respectively. The following assumptions were used for option grants awarded in
2000, 1999 and 1998:
OPTIONS GRANTED
--------------------------------------------------
2000 1999 1998
-------------- -------------- --------------
Dividend yield..................... 0.0% 0.8% to 1.5% 0.6% to 1.0%
Volatility......................... 46.5% to 46.8% 43.7% to 54.3% 24.1% to 75.1%
Risk-free interest rate............ 4.9% to 6.1% 4.7% to 6.3% 4.3% to 5.8%
Assumed annual forfeiture rate..... 3.0% 3.0% 3.0%
Expected life...................... 10 years 10 years 10 years
NOTE 13 -- LOSSES AND LOSS ADJUSTMENT EXPENSES
Activity in the liability for losses and loss adjustment expenses ("LAE")
is summarized as follows (in 000s):
YEAR ENDED DECEMBER 31,
In thousands -----------------------------
2000 1999 1998
------- ------- -------
Balance at January 1,................................. $51,970 $36,239 $33,675
Less reinsurance recoverables....................... 2,286 2,500 2,688
------- ------- -------
Net balance at January 1,............................. 49,684 33,739 30,987
------- ------- -------
Net incurred related to:
Current year........................................ 18,989 23,845 10,548
Prior years......................................... 15,717 2,311 (224)
------- ------- -------
Net incurred.......................................... 34,706 26,156 10,324
------- ------- -------
Net paid related to:
Current year........................................ 1,269 1,512 352
Prior years......................................... 13,110 8,699 7,220
------- ------- -------
Net paid.............................................. 14,379 10,211 7,572
------- ------- -------
Net balance at December 31,........................... 70,011 49,684 33,739
Plus reinsurance recoverables....................... 182 2,286 2,500
------- ------- -------
Balance at December 31,............................... $70,193 $51,970 $36,239
======= ======= =======
During the year ended December 31, 2000, the Company incurred losses and
LAE relating to prior years of $15.7 million. This adverse development is
primarily strengthening of loss reserves related to financial responsibility
business associated with Van-Am and higher than expected development on specific
trade credit case reserves.
F-70
174
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 14 -- COMMITMENTS, CONTINGENCIES AND OTHER MATTERS
Lease Commitments
The Company has committed to lease office space under non-cancelable leases
which expire at various dates through August 2015. The leases provided for
escalations resulting from increased assessments for taxes, utilities and
maintenance. Future minimum rental payments on all leases, are as follows (in
000s):
YEAR ENDED DECEMBER 31, LEASE PAYMENTS SUBLEASE INCOME NET
----------------------- -------------- --------------- -------
2001......................................... $ 5,200 $ (2,600) $ 2,600
2002......................................... 5,900 (3,700) 2,200
2003......................................... 6,100 (3,700) 2,400
2004......................................... 6,000 (3,600) 2,400
2005......................................... 6,100 (3,500) 2,600
Thereafter................................... 61,700 (36,500) 25,200
------- -------- -------
$91,000 $(53,600) $37,400
======= ======== =======
Rent expense, net of sublease income, was $4,452,000, $3,228,000 and
$1,528,000 for the years ended December 31, 2000, 1999 and 1998 respectively.
Reinsurance Agreements
The Company is a party to facultative agreements with all, and a party to
treaty agreements with all except one of, the four largest primary financial
guaranty insurance companies. The Company's facultative and treaty agreements
are generally subject to termination (i) upon written notice (ranging from 90 to
120 days) prior to the specified deadline for renewal, (ii) at the option of the
primary insurer if the Company fails to maintain certain financial, regulatory
and rating agency criteria which are equivalent to or more stringent than those
the Company is otherwise required to maintain for its own compliance with the
New York Insurance Law and to maintain a specified claims-paying ability or
financial strength rating for the particular Insurance Subsidiary or (iii) upon
certain changes of control of the Company. Upon termination under the conditions
set forth in (ii) and (iii) above, the Company may be required (under some of
its reinsurance agreements) to return to the primary insurer all unearned
premiums, less ceding commissions, attributable to reinsurance ceded pursuant to
such agreements. Upon the occurrence of the conditions set forth in (ii) above,
whether or not an agreement is terminated, the Company may be required to obtain
a letter of credit or alternative form of security to collateralize its
obligation to perform under such agreement.
Litigation
Creditrust and its president filed a complaint against Enhance Financial
and its wholly owned subsidiary, Asset Guaranty Insurance Company ("Asset
Guaranty") on April 4, 2000 in the United States District Court for the District
of Maryland alleging that a senior employee of Enhance Financial had posted
messages on an internet message board containing derogatory, false, misleading,
and/or confidential information regarding Creditrust, in violation of various
state and federal common law and statutory duties. This alleged misconduct would
have been unauthorized and contrary to Company policy. The employee identified
in the lawsuit is no longer employed by the Company. Nonetheless, the complaint
alleged that the message board activity was undertaken on behalf of the Company
to further its competitive interests.
In February 2001, a settlement of disputes among the parties, including
without limitation a dismissal of the compliant with prejudice, was finalized
with no payments required to be made by Enhance Financial, Asset Guaranty or any
of their affiliates.
F-71
175
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Van-Am
The Company owns a controlling equity interest in the outstanding stock of
Van-Am and accounts for its investment on a consolidated basis. Due to intense
pricing competition in Van-Am's core business and a poor strategic fit with the
Company's other operations, the Company decided in 1998 to exit the financial
responsibility bond line of business. The Company sold a portion of Van-Am
business in 1999 and will either sell its remaining interest in Van-Am or
wind-down Van-Am's operations, thereby exiting this line of business. A
wind-down of Van-Am's operation may take ten or more years. An estimated $4.5
million of expenses associated with this action were recognized in 1999.
Other Non-Recurring Charges
As a result of the Company's efforts to identify and review strategic
options to increase shareholder value, which commenced in February 2000, the
Company ceased operations in certain divisions and implemented cost control
initiatives. As a result of these actions the Company incurred a charge in 2000
of $6.1 million.
NOTE 15 -- INSURANCE IN FORCE
The Company principally insures and reinsures financial guaranties issued
to support public and private borrowing arrangements, including commercial
paper, bond financings, and similar transactions. Financial guaranties are
conditional commitments which guaranty the performance of a customer to a third
party.
The Company's potential liability in the event of nonperformance by the
issuer of the insured obligation is represented by its proportionate share of
the aggregate outstanding principal and interest payable ("insurance in force")
on such insured obligation. At December 31, 2000, the Company's aggregate
insurance in force was $92.7 billion. The Company's insured portfolio as of
December 31, 2000 was broadly diversified by geographic and bond market sector
with no single credit representing more than 0.9% of the Company's net insurance
in force.
The composition of the Company's insurance in force by type of issue and by
state of issue was as follows (in billions):
DECEMBER 31,
--------------
TYPE OF ISSUE 2000 1999
------------- ----- -----
General obligation and other tax backed..................... $26.8 $22.9
Non-municipal............................................... 6.8 12.2
Utilities................................................... 18.1 16.8
Health care................................................. 14.1 8.0
Airport/Transportation...................................... 10.5 9.2
Housing..................................................... 2.4 1.5
Other municipal............................................. 8.8 5.3
Other insurance businesses.................................. 5.2 9.7
----- -----
Total............................................. $92.7 $85.6
===== =====
F-72
176
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DECEMBER 31,
--------------
STATE OF ISSUE 2000 1999
-------------- ----- -----
California.................................................. $ 9.9 $ 9.4
New York.................................................... 8.4 9.7
Florida..................................................... 6.0 5.4
Texas....................................................... 4.8 5.0
Pennsylvania................................................ 4.8 4.2
Illinois.................................................... 4.0 3.5
Other (each less than 4.0% for 2000 and 3.5% for 1999)...... 54.8 48.4
----- -----
Total............................................. $92.7 $85.6
===== =====
The Company manages its exposure to credit risk through a structured
underwriting process which includes detailed credit analysis, review of
primaries' underwriting guidelines, surveillance policies and procedures, and
the use of reinsurance.
NOTE 16 -- MAJOR CUSTOMERS
The Company derives a substantial portion of its premium writings from a
small number of primary insurers. The following table states the percentage of
gross premiums written for the years ended December 31, 2000, 1999 and 1998 for
the Company's four most significant primary insurers:
FOR YEAR ENDED
DECEMBER 31, INSURER #1 INSURER #2 INSURER #3 INSURER #4
-------------- ---------- ---------- ---------- ----------
2000.................................... 17% 15% 9% 2%
1999.................................... 20% 14% 9% 2%
1998.................................... 19% 19% 19% 5%
This customer concentration results from the small number of primary
insurance companies, which are licensed to write financial guaranty insurance.
Prior years' data has been restated to give retroactive effect to mergers
between our primary insurers.
NOTE 17 -- SEGMENT REPORTING
The Company has two reportable segments: insurance and asset-based
businesses. The insurance segment provides credit-related insurance coverage to
meet the needs of customers in a wide variety of domestic and international
markets. The Company's largest insurance business is the provision of
reinsurance to the monoline primary financial guaranty insurers for both
municipal bonds and non-municipal obligations. The Company also provides trade
credit reinsurance, financial responsibility bonds, excess-SIPC insurance and
direct financial guaranty insurance. The asset-based businesses segment deals
primarily with credit-based servicing and securitization of assets in
underserved markets, in particular, the origination, purchase, servicing and
securitization of special assets, including lottery awards, viatical
settlements, structured settlement payments, sub-performing/non-performing and
seller financed residential mortgages and delinquent consumer assets. The
Company's reportable segments are strategic business units, which are managed
separately, as each business requires different marketing and sales expertise.
F-73
177
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The accounting policies of the segments are the same as those described in
the summary of significant accounting policies. The Company evaluates
performance based on net income (loss). Summarized financial information
concerning the Company's operating segments is presented in the following tables
(in 000s):
2000
---------------------------------------
INSURANCE ASSET-BASED TOTALS
---------- ----------- ----------
Revenues from external customers............... $ 110,252 $ 3,458 $ 113,710
Net investment income.......................... 62,679 282 62,961
Interest expense............................... 13,243 3,653 16,896
Equity in income of affiliates................. 553 12,564 13,117
Income tax expense (benefit)................... (1,964) 520 (1,444)
Net income (loss).............................. 71,889 (81,298) (9,409)
Investments in affiliates...................... 7,991 131,393 139,384
Deferred policy acquisition cost............... 125,197 -- 125,197
Identifiable assets............................ 1,211,005 367,994 1,578,999
1999
---------------------------------------
INSURANCE ASSET-BASED TOTALS
---------- ----------- ----------
Revenues from external customers............... $ 103,557 $ 39,013 $ 142,570
Net investment income.......................... 56,648 1,405 58,053
Interest expense............................... 9,229 1,760 10,989
Equity in income of affiliates................. 2,103 17,605 19,708
Income tax expense............................. 10,417 (9,597) 820
Net income..................................... 64,417 4,207 68,624
Investments in affiliates...................... 8,029 99,972 108,001
Deferred policy acquisition cost............... 119,213 -- 119,213
Identifiable assets............................ 1,091,154 362,778 1,453,932
1998
---------------------------------------
INSURANCE ASSET-BASED TOTALS
---------- ----------- ----------
Revenues from external customers............... $ 104,820 $ 46,807 $ 151,627
Net investment income.......................... 53,423 -- 53,423
Interest expense............................... 7,223 1,277 8,500
Equity in income of affiliates................. 2,054 12,012 14,066
Income tax expense............................. 23,558 6,792 30,350
Net income..................................... 79,497 2,960 82,457
Investments in affiliates...................... 8,201 88,666 96,867
Deferred policy acquisition cost............... 103,794 -- 103,794
Identifiable assets............................ 1,143,293 197,391 1,340,684
F-74
178
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following are reconciliations of reportable segment revenues to Enhance
Financial's consolidated totals (in 000s):
2000 1999 1998
-------- -------- --------
REVENUES
Total revenues from external customers for
reportable segments.............................. $113,710 $142,570 $151,627
Total interest revenue for reportable segments..... 62,961 58,053 53,423
Realized gains (losses)............................ 370 (3,039) 2,434
-------- -------- --------
Total consolidated revenues.............. $177,041 $197,584 $207,484
======== ======== ========
The Company's revenues from external customers, by product line, are as follows
(in 000s):
2000 1999 1998
-------- -------- --------
INSURANCE:
Financial guaranty reinsurance..................... $ 63,266 $ 60,250 $ 66,264
Financial guaranty direct.......................... 14,353 11,629 10,246
Trade credit reinsurance........................... 20,865 20,234 15,973
Other.............................................. 11,768 11,444 12,337
ASSET-BASED........................................ 3,458 39,013 46,807
-------- -------- --------
TOTAL REVENUES FROM EXTERNAL CUSTOMERS............. $113,710 $142,570 $151,627
======== ======== ========
F-75
179
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 18 -- QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
In millions except per share amounts
1ST QTR. 2ND QTR. 3RD QTR. 4TH QTR. YEAR
-------- -------- -------- -------- ------
2000
Net premiums written.......................... $34.1 $ 36.1 $22.5 $ 31.9 $124.6
Premiums earned............................... 26.3 29.0 26.0 29.0 110.3
Investment and other income................... 16.6 16.1 15.8 15.6 64.1
Assignment income............................. 11.2 (1.3) (0.8) (6.4) 2.7
Losses and loss adjustment expenses........... 5.3 15.3 2.1 12.0 34.7
Equity in income of affiliates................ 7.8 11.6 1.7 (8.0) 13.1
Income (loss) before income taxes............. 22.2 (27.9) 4.7 (9.9) (10.9)
Net income (loss)............................. 20.3 (26.0) 15.5 (19.2) (9.4)
Earnings per share -- Basic................... $0.53 $(0.68) $0.41 $(0.50) $(0.25)
----- ------ ----- ------ ------
-- Diluted................ $0.53 $(0.68) $0.40 $(0.50) $(0.24)
----- ------ ----- ------ ------
1999
Net premiums written.......................... $29.5 $ 34.9 $28.9 $ 39.7 $133.0
Premiums earned............................... 24.3 26.1 24.9 28.6 103.9
Investment and other income................... 11.9 17.5 13.9 19.7 63.0
Assignment income............................. 8.3 8.0 12.2 2.2 30.7
Losses and loss adjustment expenses........... 2.8 2.6 3.8 17.0 26.2
Equity in income of affiliates................ 4.7 7.9 4.5 2.6 19.7
Income before income taxes.................... 19.6 25.4 20.6 3.8 69.4
Net income.................................... 18.2 23.5 22.4 4.5 68.6
Earnings per share -- Basic................... $0.48 $ 0.62 $0.59 $ 0.12 $ 1.81
----- ------ ----- ------ ------
-- Diluted................ $0.46 $ 0.61 $0.57 $ 0.12 $ 1.76
----- ------ ----- ------ ------
NOTE 19 -- PARENT COMPANY FINANCIAL INFORMATION
The following are the condensed balance sheets of Enhance Financial as of
December 31, 2000 and 1999 and its condensed statements of operations and cash
flows for the years ended December 31, 2000, 1999 and 1998 (in 000s).
F-76
180
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CONDENSED BALANCE SHEETS
DECEMBER 31,
--------------------
2000 1999
-------- --------
ASSETS
Cash........................................................ $ -- $ 56
Investments................................................. 18,029 19,497
Investment in affiliated companies.......................... 868,813 807,848
Other assets................................................ 90,145 59,025
-------- --------
$976,987 $886,426
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Long-term debt.............................................. $ 75,000 $ 75,000
Other liabilities........................................... 196,295 135,122
Shareholders' equity........................................ 705,692 676,304
-------- --------
$976,987 $886,426
======== ========
CONDENSED STATEMENTS OF INCOME
YEAR ENDED DECEMBER 31,
--------------------------------
2000 1999 1998
-------- -------- --------
Total revenues............................................. $ 1,309 $ 690 $ 812
Total expenses............................................. 34,977 21,545 17,514
-------- -------- --------
(33,668) (20,855) (16,702)
Equity in income of affiliates............................. 24,525 79,571 102,459
Minority interest.......................................... 253 306 --
-------- -------- --------
(Loss) income before income taxes.......................... (8,890) 59,022 85,757
Income tax (expense) benefit............................... (519) 9,602 (3,300)
-------- -------- --------
Net (loss) income.......................................... $ (9,409) $ 68,624 $ 82,457
======== ======== ========
F-77
181
ENHANCE FINANCIAL SERVICES GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CONDENSED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
---------------------------------
2000 1999 1998
-------- -------- ---------
Cash flows from operating activities:
Net (loss) income....................................... $ (9,409) $ 68,624 $ 82,457
Adjustments to reconcile net (loss) income to net cash
from operating activities:
Equity in income of affiliates.......................... (24,525) (79,571) (102,459)
Other................................................... (6,923) (40,273) 55,239
-------- -------- ---------
Net cash (used in) provided by operating activities....... (40,857) (51,220) 35,237
-------- -------- ---------
Cash flows from investing activities:
Investment in affiliates net of dividends received...... (18,841) 6,317 (32,401)
Investments activities.................................. 4,975 (14,852) 741
Short-term investments, net............................. (2,436) 2,460 4,880
-------- -------- ---------
Net cash used in investing activities................ (16,302) (6,075) (26,780)
-------- -------- ---------
Cash flows from financing activities:
Capital stock........................................... 121 3,277 9,920
Short-term debt......................................... 59,783 60,482 10,790
Dividends paid.......................................... (6,871) (9,123) (8,645)
Reissuance of treasury stock............................ 4,070 -- --
Purchase of treasury stock.............................. -- -- (17,807)
-------- -------- ---------
Net cash provided by (used in) financing activities..... 57,103 54,636 (5,742)
-------- -------- ---------
Net (decrease) increase in cash........................... (56) (2,659) 2,715
Cash, beginning of year................................... 56 2,715 --
-------- -------- ---------
Cash, end of year......................................... $ -- $ 56 $ 2,715
======== ======== =========
F-78
182
------------------------------------------------------
------------------------------------------------------
No person has been authorized to give any information or make any
representations other than those contained in this prospectus and, if given or
made, such information or representation must not be relied upon as having been
authorized. This prospectus does not constitute an offer to sell or the
solicitation or an offer to buy any securities other than the securities to
which it relates or an offer to sell or the solicitation of an offer to buy such
securities by any person in any circumstances in which such offer or
solicitation is unlawful. Neither the delivery of this prospectus nor any sale
made hereunder shall, under any circumstances, create any implication that there
has been no change in our affairs since the date hereof or that the information
herein is correct as of any time subsequent to its date.
---------------------
TABLE OF CONTENTS
PAGE
----
Where You Can Find More Information... 2
Note to Readers....................... 2
Summary............................... 3
Risk Factors.......................... 10
Cautionary Note Regarding Forward-
Looking Statements.................. 16
Use of Proceeds....................... 16
Ratio of Earnings to Fixed Charges.... 16
Capitalization........................ 18
Unaudited Pro Forma Condensed Combined
Financial Information............... 19
Management's Discussion and Analysis
of Financial Condition and Results
of Operations....................... 23
Radian Group Inc. .................... 37
Security Ownership of Management and
Certain Beneficial Owners........... 69
Management............................ 71
Certain Transactions.................. 80
The Exchange Offer.................... 81
Description of the New Debentures..... 90
Summary of United States Federal Tax
Consequences........................ 98
Plan of Distribution.................. 101
Validity of the New Debentures........ 101
Experts............................... 101
Index to Financial Statements......... F-1
------------------------------------------------------
------------------------------------------------------
------------------------------------------------------
------------------------------------------------------
RADIAN GROUP INC.
Offer To Exchange Up To
$250,000,000 7.75% Debentures
Due 2011
For
$250,000,000 7.75% Debentures
Due 2011 That Have Been
Registered Under
The Securities Act of 1933
------------------------------
PROSPECTUS
------------------------------
------------------------------------------------------
------------------------------------------------------
183
PART II
INFORMATION NOT REQUIRED IN THE PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 102 of the Delaware General Corporation Law allows a corporation to
eliminate the personal liability of directors of a corporation to the
corporation or its stockholders for monetary damages for a breach of fiduciary
duty as a director, except where the director breached his duty of loyalty,
failed to act in good faith, engaged in intentional misconduct or knowingly
violated a law, authorized the payment of a dividend or approved a stock
repurchase in violation of Delaware corporate law or obtained an improper
personal benefit. We included such a provision in our restated certificate of
incorporation.
Section 145 of the Delaware General Corporation Law provides that a
corporation has the power to indemnify a director, officer, employee or agent of
the corporation and certain other persons serving at the request of the
corporation in related capacities against amounts paid and expenses incurred in
connection with an action or proceeding to which he is or is threatened to be
made a party by reason of such position, if such person shall have acted in good
faith and in a manner he reasonably believed to be in or not opposed to the best
interests of the corporation, and, in any criminal proceeding, if such person
had no reasonable cause to believe his conduct was unlawful; provided that, in
the case of actions brought by or in the right of the corporation, no
indemnification shall be made with respect to any matter as to which such person
shall have been adjudged to be liable to the corporation unless and only to the
extent that the adjudicating court determines that such indemnification is
proper under the circumstances.
Our bylaws provides that the we shall indemnify each person who is or was
an officer or director of ours to the fullest extent permitted by Section 145 of
the Delaware General Corporation Law.
We have purchased directors' and officers' liability insurance which would
indemnify our directors and officers against damages arising out of certain
kinds of claims which might be made against them based on their negligent acts
or omissions while acting in their capacity as such.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
Below are the exhibits which are included.
EXHIBIT
NUMBER
-------
2.1 Agreement and Plan of Merger dated as of November 22, 1998
between Registrant and Amerin Corporation.(6)(8) (Exhibit
2.1)
2.2 Stock Purchase Agreement dated as of October 27, 2000 by an
among Registrant, ExpressClose.com, Inc. and The Founding
Stockholders of ExpressClose.com, Inc.(11) (Exhibit 2.2)
2.3 Agreement and Plan of Merger dated as of November 13, 2000
by an among Registrant, GOLD Acquisition Corporation, and
Enhance Financial Services Group Inc.(7)(16) (Exhibit 2.1)
2.4 Shareholders Support Agreement by and among Registrant and
Daniel Gross, dated as of November 18, 2000.(10) (Exhibit
2.2)
2.5 Shareholders Support Agreement by and among Registrant and
Wallace O. Sellers, dated as of November 18, 2000.(10)
(Exhibit 2.3)
2.6 Shareholder Support Agreement by and among Registrant and
Allan R. Tessler, dated as of November 18, 2000.(10)
(Exhibit 2.4)
3.1 Second Amended and Restated Certificate of Incorporation of
the Registrant.(9) (Appendix II)
3.2 Amended and restated by-laws of the Registrant.(8) (Exhibit
3.2)
II-1
184
EXHIBIT
NUMBER
-------
4.1* Indenture dated May 29, 2001 between Registrant and First
Union National Bank.
4.2* Form of 7.75% Debentures Due 2011. (contained within Exhibit
4.1)
4.3 Form of Indenture dated as of February , 1993 (the
"Indenture") between the Enhance Financial Services Group
Inc. and Chase, as Trustee.(12) (Exhibit 4.1)
4.4 Form of Enhance Financial Services Group Inc. %
Debentures due 2003.(12) (Exhibit 4.3.3)
5.1* Opinion of Reed Smith LLP as to legality of the new
debentures.
10.1 Tax Allocation Agreement dated as of April 1, 1992, among
Reliance Insurance Company and certain of its subsidiaries,
including Commonwealth Mortgage Assurance Company.(1)
(Exhibit 10.4)
10.2 Change of Control Agreement dated March 12, 1999, between
the Registrant and Roy J. Kasmar.(4)(8) (Exhibit 10.40)
10.3 Form of Change of Control Agreement between the Registrant
and each of Frank P. Filipps, Paul F. Fisches, C. Robert
Quint, Howard S. Yaruss, Scott Stevens, Andrew Luczakowsky
and Bruce Van Fleet.(4)(11)
10.4 Employment Agreement dated March 12, 1999, between the
Registrant and Roy J. Kasmar.(4)(8) (Exhibit 10.39)
10.5 CMAC Investment Corporation Pension Plan.(5) (Exhibit 10.8)
10.6 CMAC Investment Corporation Savings Incentive Plan, as
amended and restated through January 1, 1994.(5) (Exhibit
10.9)
10.7 CMAC Investment Corporation 1992 Stock Option Plan as
amended as of January 1, 1995.(5) (Exhibit 10.10)
10.8 Amended and restated CMAC Investment Corporation Equity
Compensation Plan.(4)(9) (Appendix V)
10.9 Radian Deferred Compensation Plan.(4)(2) (Exhibit 10.13)
10.10* Purchase Agreement dated October 29, 1992 between the
Registrant and Commonwealth Land Title Insurance Company
regarding $4.125 Preferred Stock.
10.11* Registration Rights Agreement dated October 27, 1992 between
the Registrant and Commonwealth Land Title Insurance
Company.
10.12 Form of Commonwealth Mortgage Assurance Company Master
Policy.(1) (Exhibit 10.16)
10.13* Risk-to-Capital Ratio Maintenance Agreement between the
Registrant and Commonwealth Mortgage Assurance Company
regarding matters relating to Moody's financial strength
rating as amended through October 22, 1993.
10.14 Reserve Account Agreement dated August 14, 1992, between the
Registrant and Commonwealth Mortgage Assurance Company
regarding $4.125 Preferred Stock.(1) (Exhibit 10.18)
10.15 First Layer Binder of Reinsurance, effective March 1, 1992,
among Commonwealth Mortgage Assurance Company, Commonwealth
Mortgage Assurance Company of Arizona, and AXA Reinsurance
SA.(1) (Exhibit 10.19)
10.16* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1994, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.17* Capital Reinsurance Agreement, effective January 1, 1994,
between Commonwealth Mortgage Assurance Company and Capital
Reinsurance Company.
10.18* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1995, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
II-2
185
EXHIBIT
NUMBER
-------
10.19* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1996, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.20* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1997, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.21* Amended form of Commonwealth Mortgage Assurance Company
Master Policy, effective June 1, 1995.
10.22 CMAC Investment Corporation 1997 Employee Stock Purchase
Plan.(3)
10.23 Amended and Restated Amerin Corporation 1992 Long-Term
Incentive Plan.(8) (Exhibit 10.33)
10.24 Enhance Reinsurance Company Supplemental Pension
Plan.(4)(13) (Exhibit 10.4)
11.1* Statement re Computation of Per Share Earnings.
12.1* Statements re Computation of Ratios.
21.1 Subsidiaries of the Registrant.(11) (Exhibit 21.1)
23.1** Consent of Deloitte & Touche LLP.
23.2** Consent of Deloitte & Touche LLP
23.3** Consent of Ernst & Young LLP.
23.4* Consent of Reed Smith LLP (included in Exhibit 5.1)
24.1* Power of Attorney. See page II-5
25.1* Statement of Eligibility of Trustee.
99.1 Report of Ernst & Young LLP.(11) (Exhibit 99.1)
99.2** Form of Letter of Transmittal.
99.3** Form of Notice of Guaranteed Delivery.
99.4** Form of Letter to Clients.
99.5** Form of Letter to Registered Holders.
99.6** Form of Instruction to Registered Holder from Owner.
---------------
* Filed with Form S-4 (Reg. No. 333-65440) filed July 19, 2001.
** Filed herewith.
(1) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Registration Statement on Form S-1 filed
August 24, 1992 and amendments thereto (File No. 33-51188).
(2) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1999, and any amendments thereto.
(3) Incorporated by reference filed in the Registrant's Registration Statement
on Form S-8 filed November 19, 1997 (File No. 333-40623).
(4) Management contract or compensatory plan or arrangement required to be
filed pursuant to Item 14(c) of Form 10-K.
(5) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Report on Form 8-K filed May 1, 1998.
(6) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Report on Form 8-K filed November 25,
1998.
(7) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Report on Form 8-K filed November 14,
2000.
II-3
186
(8) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Registration Statement on Form S-4 filed
May 6, 1999 (File No. 333-77957).
(9) Incorporated by reference to the appendix in parentheses, filed as an
appendix to the DEF 14A filed May 11, 1999.
(10) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Registration Statement on Form S-4 filed
December 27, 2000, and any amendment thereto (File No. 333-52762).
(11) Incorporated by reference to the exhibit identified in parenthesis, filed
as an exhibit to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 2000.
(12) Incorporated by reference to the exhibit identified in parenthesis, filed
as an exhibit to Enhance Financial Services Group Inc.'s Registration
Statement on Form S-1 filed December 18, 1992, and any amendment thereto
(File No. 33-55958).
(13) Incorporated by reference to the exhibit identified in parenthesis, filed
as an exhibit to Enhance Financial Services Group Inc.'s Annual Report on
Form 10-K for the year ended December 31, 1999.
ITEM 22. UNDERTAKINGS
(a) The undersigned Registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in the registration statement. Notwithstanding the foregoing, any
increase or decrease in volume of securities offered (if the total
dollar value of securities offered would not exceed that which was
registered) and any deviation from the low or high end of the estimated
maximum offering range may be reflected in the form of prospectus filed
with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than 20 percent change in
the maximum aggregate offering price set forth in the "Calculation of
Registration Fee" table in the effective registration statement.
(iii) To include any material information with respect to the plan
of distribution not previously disclosed in the registration statement
or any material change to such information in the registration
statement;
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed
to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed
to be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the
termination of the offering.
(h) Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Commission such
indemnification is against public policy as expressed in the Securities Act of
1933 and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
Registrant of expenses incurred or paid by a director, officer or controlling
person of the Registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Registrant will, unless in
the opinion of its counsel the matter has been settled by controlling
II-4
187
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act of 1933 and will be governed by the final adjudication of such
issue.
[Remainder of page intentionally left blank]
II-5
188
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form S-4 and has duly caused this registration
statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Philadelphia, Commonwealth of Pennsylvania, on this
11th day of October, 2001.
RADIAN GROUP INC.
By: /s/ FRANK P. FILIPPS
------------------------------------------
Frank P. Filipps
Chief Executive Officer
(Principal Executive Officer)
Each of the undersigned directors and officers of Radian Group Inc. hereby
severally constitutes and appoints Howard S. Yaruss and Frank P. Filipps, and
each of them, as attorneys-in-fact for the undersigned, in any and all
capacities, with full power of substitution, to sign any amendments to this
registration statement (including post-effective amendments) and any subsequent
registration statement filed by Radian Group Inc. pursuant to Rule 462(b) of the
Securities Act of 1933, and to file the same with exhibits thereto and other
documents in connection therewith with the Securities and Exchange Commission,
granting unto said attorneys-in-fact, and each of them, full power and authority
to do and perform each and every act and thing requisite and necessary to be
done in and about the premises, as fully to all intents and purposes as he might
or could do in person, hereby ratifying and confirming all that each said
attorney-in-fact, or any of them, may lawfully do or cause to be done by virtue
hereof.
Pursuant to the requirements of the Securities Act of 1933, as amended,
this registration statement has been signed by the following persons in the
capacities indicated and on the dates indicated.
/s/ FRANK P. FILIPPS October 11, 2001
-----------------------------------------------------
Frank P. Filipps
Chief Executive Officer
(Principal Executive Officer)
/s/ C. ROBERT QUINT October 11, 2001
-----------------------------------------------------
C. Robert Quint
Executive Vice President,
Chief Financial Officer
(Principal Financial and Accounting Officer)
* October 11, 2001
-----------------------------------------------------
David C. Carney
Director
* October 11, 2001
-----------------------------------------------------
James W. Jennings
Director
* October 11, 2001
-----------------------------------------------------
Ronald W. Moore
Director
* October 11, 2001
-----------------------------------------------------
Anthony W. Schweiger
Director
II-6
189
/s/ * October 11, 2001
-----------------------------------------------------
Howard B. Culang
Director
/s/ * October 11, 2001
-----------------------------------------------------
Stephen T. Hopkins
Director
* By his signature set forth below, the undersigned, pursuant to duly
authorized powers of attorney filed with the Securities and Exchange Commission,
has signed this Amendment No. 1 to the Registration Statement on behalf of the
persons indicated.
/s/ HOWARD S. YARUSS October 11, 2001
---------------------------------------------
Howard S. Yaruss
Attorney-in-fact
II-7
190
EXHIBIT INDEX
Below are the exhibits which are included in this registration statement.
EXHIBIT
NUMBER
-------
2.1 Agreement and Plan of Merger dated as of November 22, 1998
between Registrant and Amerin Corporation.(6)(8) (Exhibit
2.1)
2.2 Stock Purchase Agreement dated as of October 27, 2000 by an
among Registrant, ExpressClose.com, Inc. and The Founding
Stockholders of ExpressClose.com, Inc.(11) (Exhibit 2.2)
2.3 Agreement and Plan of Merger dated as of November 13, 2000
by an among Registrant, GOLD Acquisition Corporation, and
Enhance Financial Services Group Inc.(7)(10) (Exhibit 2.1)
2.4 Shareholders Support Agreement by and among Registrant and
Daniel Gross, dated as of November 18, 2000.(10) (Exhibit
2.2)
2.5 Shareholders Support Agreement by and among Registrant and
Wallace O. Sellers, dated as of November 18, 2000.(10)
(Exhibit 2.3)
2.6 Shareholder Support Agreement by and among Registrant and
Allan R. Tessler, dated as of November 18, 2000.(10)
(Exhibit 2.4)
3.1 Second Amended and Restated Certificate of Incorporation of
the Registrant.(9) (Appendix II)
3.2 Amended and restated by-laws of the Registrant.(8) (Exhibit
3.2)
4.1* Indenture dated May 29, 2001 between Registrant and First
Union National Bank.
4.2* Form of 7.75% Debentures Due 2011 (contained in Exhibit 4.1)
4.3 Form of Indenture dated as of February , 1993 (the
"Indenture") between the Enhance Financial Services Group
Inc. and Chase, as Trustee.(12) (Exhibit 4.1)
4.4 Form of Enhance Financial Services Group Inc. %
Debentures due 2003.(12) (Exhibit 4.3.3)
5.1* Opinion of Reed Smith LLP as to legality of the new
debentures.
10.1 Tax Allocation Agreement dated as of April 1, 1992, among
Reliance Insurance Company and certain of its subsidiaries,
including Commonwealth Mortgage Assurance Company.(1)
(Exhibit 10.4)
10.2 Change of Control Agreement dated March 12, 1999, between
the Company and Roy J. Kasmar.(4)(8) (Exhibit 10.40)
10.3 Form of Change of Control Agreement dated July 19, 2000,
between the Company and each of Frank P. Filipps, Paul F.
Fisches, C. Robert Quint, Howard S. Yaruss, Scott Stevens,
Andrew Luczakowsky and Bruce Van Fleet.(4)(11)
10.4 Employment Agreement dated March 12, 1999, between the
Company and Roy J. Kasmar.(4)(8) (Exhibit 10.39)
10.5 CMAC Investment Corporation Pension Plan.(5) (Exhibit 10.8)
10.6 CMAC Investment Corporation Savings Incentive Plan, as
amended and restated through January 1, 1994.(5) (Exhibit
10.9)
10.7 CMAC Investment Corporation 1992 Stock Option Plan as
amended as of January 1, 1995.(5) (Exhibit 10.10)
10.8 Amended and restated CMAC Investment Corporation Equity
Compensation Plan.(4) (9) (Appendix V)
10.9 Radian Deferred Compensation Plan.(4)(2) (Exhibit 10.13)
10.10* Purchase Agreement dated October 29, 1992 between the
Company and Commonwealth Land Title Insurance Company
regarding $4.125 Preferred Stock.
II-8
191
EXHIBIT
NUMBER
-------
10.11* Registration Rights Agreement dated October 27, 1992 between
the Company and Commonwealth Land Title Insurance Company.
10.12 Form of Commonwealth Mortgage Assurance Company Master
Policy.(1) (Exhibit 10.16)
10.13* Risk-to-Capital Ratio Maintenance Agreement between the
Company and Commonwealth Mortgage Assurance Company
regarding matters relating to Moody's financial strength
rating as amended through October 22, 1993.
10.14 Reserve Account Agreement dated August 14, 1992, between the
Company and Commonwealth Mortgage Assurance Company
regarding $4.125 Preferred Stock.(1) (Exhibit 10.18)
10.15 First Layer Binder of Reinsurance, effective March 1, 1992,
among Commonwealth Mortgage Assurance Company, Commonwealth
Mortgage Assurance Company of Arizona, and AXA Reinsurance
SA.(1) (Exhibit 10.19)
10.16* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1994, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.17* Capital Reinsurance Agreement, effective January 1, 1994,
between Commonwealth Mortgage Assurance Company and Capital
Reinsurance Company.
10.18* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1995, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.19* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1996, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.20* Capital Mortgage Reinsurance Company Variable Quota Share
Reinsurance Agreement, effective January 1, 1997, between
Commonwealth Mortgage Assurance Company and its affiliates
and Capital Mortgage Reinsurance Company.
10.21* Amended form of Commonwealth Mortgage Assurance Company
Master Policy, effective June 1, 1995.
10.22 CMAC Investment Corporation 1997 Employee Stock Purchase
Plan.(3)
10.23 Amended and Restated Amerin Corporation 1992 Long-Term
Incentive Plan.(8) (Exhibit 10.33)
10.24 Enhance Reinsurance Company Supplemental Pension
Plan.(4)(13) (Exhibit 10.4)
11.1* Statement re Computation of Per Share Earnings.
12.1* Statements re Computation of Ratios.
21.1 Subsidiaries of the Company.(11) (Exhibit 21.1)
23.1** Consent of Deloitte & Touche LLP.
23.2** Consent of Deloitte & Touche LLP
23.3** Consent of Ernst & Young LLP.
II-9
192
EXHIBIT
NUMBER
-------
23.4* Consent of Reed Smith LLP (included in Exhibit 5.1)
24.1* Power of Attorney. See page II-5
25.1* Statement of Eligibility of Trustee.
99.1 Report of Ernst & Young LLP.(11) (Exhibit 99.1)
99.2** Form of Letter of Transmittal.
99.3** Form of Notice of Guaranteed Delivery.
99.4** Form of Letter to Clients.
99.5** Form of Letter to Registered Holders.
99.6** Form of Instruction to Registered Holder from Owner.
---------------
* Filed with Form S-4 (Reg. No. 333-65440) filed on July 19, 2001.
** Filed herewith.
(1) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Registration Statement on Form S-1 filed
August 24, 1992 and amendments thereto (File No. 33-51188).
(2) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1999, and any amendments thereto.
(3) Incorporated by reference filed in the Registrant's Registration Statement
on Form S-8 filed November 19, 1997 (File No. 333-40623).
(4) Management contract or compensatory plan or arrangement required to be
filed pursuant to Item 14(c) of Form 10-K.
(5) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Report on Form 8-K filed May 1, 1998.
(6) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Report on Form 8-K filed November 25,
1998.
(7) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Report on Form 8-K filed November 14,
2000.
(8) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Registration Statement on Form S-4 filed
May 6, 1999 (File No. 333-77957).
(9) Incorporated by reference to the appendix in parentheses, filed as an
appendix to the DEF 14A filed May 11, 1999.
(10) Incorporated by reference to the exhibit identified in parentheses, filed
as an exhibit in the Registrant's Registration Statement on Form S-4 filed
December 27, 2000, and any amendment thereto (File No. 333-52762).
(11) Incorporated by reference to the exhibit identified in parenthesis, filed
as an exhibit to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 2000.
(12) Incorporated by reference to the exhibit identified in parenthesis, filed
as an exhibit to Enhance Financial Services Group Inc.'s Registration
Statement on Form S-1 filed December 18, 1992, and any amendment thereto
(File No. 33-55958).
(13) Incorporated by reference to the exhibit identified in parenthesis, filed
as an exhibit to Enhance Financial Services Group Inc.'s Annual Report on
Form 10-K for the year ended December 31, 1999.
II-10