FORM 10-Q
---------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended June 30, 2001
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _____ to _____
Commission File Number 0-22342
TRIAD GUARANTY INC.
(Exact name of registrant as specified in its charter)
DELAWARE 56-1838519
(State of Incorporation) (I.R.S. Employer Identification
Number)
101 SOUTH STRATFORD ROAD, SUITE 500
WINSTON-SALEM, NORTH CAROLINA 27104
(Address of principal executive offices)
(336) 723-1282
(Registrant's telephone number, including area code)
-----------------------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes /X/ No / /
Number of shares of Common Stock, $.01 par value, outstanding as of August 1,
2001: 13,684,872 shares.
TRIAD GUARANTY INC.
INDEX
Page
Number
Part I. Financial Information:
Item 1. Financial Statements:
Consolidated Balance Sheets as of June 30, 2001 (Unaudited)
and December 31, 2000.................................................3
Consolidated Income Statements for the Three and Six Month
Periods Ended June 30, 2001 and 2000 (Unaudited)......................4
Consolidated Statements of Cash Flow for the Six Month
Periods Ended June 30, 2001 and 2000 (Unaudited)......................5
Notes to Consolidated Financial Statements................................6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...................................9
Part II. Other Information:
Item 4. Submission of Matters to a Vote of Security Holders..............16
Item 6. Exhibits and Reports on Form 8-K.................................16
Signatures...............................................................17
2
TRIAD GUARANTY INC.
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
2001 2000
------------- --------------
Assets (Unaudited)
Invested assets:
Fixed maturities, available-for-sale, at fair value ... $ 234,547,759 $ 203,924,652
Equity securities, available-for-sale, at fair value... 11,198,747 11,088,525
Short-term investments................................. 8,986,177 17,012,080
------------- -------------
254,732,683 232,025,257
Cash................................................... 197,893 1,512,578
Real estate............................................ 98,410 99,482
Accrued investment income.............................. 3,136,853 2,896,977
Deferred policy acquisition costs...................... 24,879,562 22,815,422
Prepaid federal income taxes .......................... 56,421,666 49,374,666
Property and equipment................................. 10,749,015 9,234,757
Reinsurance recoverable................................ 387,469 5,587
Other assets........................................... 11,636,116 10,411,877
------------- -------------
Total assets........................................... $ 362,239,667 $ 328,376,603
============= =============
Liabilities and stockholders' equity
Liabilities:
Losses and loss adjustment expenses................. $ 16,508,974 $ 14,986,988
Unearned premiums................................... 6,722,137 6,933,259
Amounts payable to reinsurer........................ 741,156 1,288,712
Current taxes payable............................... 177,663 85,062
Deferred income taxes............................... 66,389,131 60,651,647
Unearned ceding commission.......................... 2,896,324 1,481,691
Long-term debt...................................... 34,470,103 34,467,285
Accrued interest on debt............................ 1,274,972 1,274,972
Accrued expenses and other liabilities.............. 6,682,444 7,375,503
------------- -------------
Total liabilities...................................... 135,862,904 128,545,119
Commitments and contingent liabilities - Note 4
Stockholders' equity:
Preferred stock, par value $.01 per share ---
authorized 1,000,000 shares; no shares
issued and outstanding............................. --- ---
Common stock, par value $.01 per share ---
authorized 32,000,000 shares; 13,684,872
shares issued and outstanding at June 30, 2001
and 13,351,694 at December 31, 2000................ 136,849 133,517
Additional paid-in capital........................... 68,921,619 62,723,667
Accumulated other comprehensive income, net of
income tax liability of $1,066,409 at June 30,
2001 and $1,262,863 at December 31, 2000........... 1,986,221 2,351,065
Deferred compensation................................ (176,354) (135,041)
Retained earnings.................................... 155,508,428 134,758,276
------------- -------------
Total stockholders' equity............................. 226,376,763 199,831,484
------------- -------------
Total liabilities and stockholders' equity............. $ 362,239,667 $ 328,376,603
============= =============
See accompanying notes.
3
TRIAD GUARANTY INC.
CONSOLIDATED INCOME STATEMENTS
(Unaudited)
Three Months Ended Six Months Ended
June 30 June 30
--------------------------- --------------------------
2001 2000 2001 2000
Revenue:
Premiums written:
Direct.......................................... $21,998,302 $18,828,514 $43,791,164 $36,836,354
Assumed......................................... 816 1,892 2,501 5,732
Ceded........................................... (2,222,327) (1,112,400) (4,205,132) (2,060,808)
----------- ----------- ----------- -----------
Net premiums written............................... 19,776,791 17,718,006 39,588,533 34,781,278
Change in unearned premiums........................ 365,923 117,697 237,088 198,873
----------- ----------- ----------- -----------
Earned premiums.................................... 20,142,714 17,835,703 39,825,621 34,980,151
Net investment income.............................. 3,657,140 3,067,447 7,133,806 5,993,440
Realized investment gains.......................... 162,129 35,803 613,896 813,684
Other income....................................... 15,487 5,625 1,882,487 11,365
----------- ----------- ----------- -----------
23,977,470 20,944,578 49,455,810 41,798,640
Losses and expenses:
Losses and loss adjustment expenses................ 2,135,087 2,052,470 4,334,537 3,623,251
Reinsurance recoveries............................. (798) 7,230 2,801 32,587
----------- ----------- ----------- -----------
Net losses and loss adjustment expenses............ 2,134,289 2,059,700 4,337,338 3,655,838
Interest expense on debt........................... 692,672 692,563 1,385,317 1,385,100
Amortization of deferred policy acquisition costs.. 2,674,234 2,027,741 5,008,511 4,027,889
Other operating expenses (net)..................... 4,292,969 4,002,720 8,644,472 8,113,902
----------- ----------- ----------- -----------
9,794,164 8,782,724 19,375,638 17,182,729
----------- ----------- ----------- -----------
Income before income taxes......................... 14,183,306 12,161,854 30,080,172 24,615,911
Income taxes:
Current.......................................... 92,631 208 92,659 208
Deferred......................................... 4,260,933 3,675,384 9,237,361
----------- ----------- ----------- -----------
4,353,564 3,675,592 9,330,020 7,478,132
----------- ----------- ----------- -----------
Net income......................................... $ 9,829,742 $ 8,486,262 $20,750,152 $17,137,779
=========== =========== =========== ===========
Earnings per common and
common equivalent share:
Basic........................................... $ .73 $ .64 $ 1.55 $ 1.29
=========== =========== =========== ===========
Diluted......................................... $ .71 $ .62 $ 1.49 $ 1.25
=========== =========== =========== ===========
Shares used in computing earnings per
common and common equivalent share:
Basic........................................... 13,444,388 13,313,293 13,399,891 13,311,647
=========== =========== =========== ===========
Diluted......................................... 13,939,338 13,674,441 13,885,145 13,665,191
=========== =========== =========== ===========
See accompanying notes.
4
TRIAD GUARANTY INC.
CONSOLIDATED STATEMENTS OF CASH FLOW
(Unaudited)
Six Months Ended
June 30
-----------------------------
2001 2000
Operating activities
Net income............................................... $ 20,750,152 $ 17,137,779
Adjustments to reconcile net income to net
cash provided by operating activities:
Loss and unearned premium reserves.................... 1,310,864 (346,174)
Accrued expenses and other liabilities................ (3,578,073) (2,098,623)
Current taxes payable................................. 92,601 ---
Amounts due to/from reinsurer......................... (955,405) 244,158
Accrued investment income............................. (239,876) (127,039)
Policy acquisition costs deferred..................... (7,072,651) (5,353,963)
Amortization of policy acquisition costs.............. 5,008,511 4,027,889
Net realized investment gains ........................ (613,896) (813,684)
Provision for depreciation............................ 1,078,835 364,009
Accretion of discount on investments.................. (1,305,253) (583,941)
Deferred income taxes................................. 9,237,361 7,477,924
Prepaid federal income tax............................ (7,047,000) (7,674,000)
Unearned ceding commission ........................... 1,414,633 1,388,529
Real estate acquired in claim settlement.............. 1,072 (4,855)
Other assets.......................................... (1,029,127) (599,759)
Other operating activities............................ 127,171 45,038
------------ ------------
Net cash provided by operating activities................ 17,179,919 13,083,288
Investing activities
Securities available-for-sale:
Purchases - fixed maturities......................... (42,926,889) (23,513,548)
Sales - fixed maturities............................. 15,842,616 5,811,889
Purchases - equities................................. (1,895,622) (1,089,501)
Sales - equities..................................... 2,255,121 1,327,630
Purchase of property and equipment.................... (2,593,093) (2,159,423)
------------ ------------
Net cash used in investing activities.................... (29,317,867) (19,622,953)
Financing activities
Proceeds from exercise of stock options.................. 2,797,360 75,876
------------ ------------
Net cash provided by financing activities................ 2,797,360 75,876
Net change in cash and short-term investments............ (9,340,588) (6,463,789)
Cash and short-term investments at beginning of period... 18,524,658 14,124,219
------------ ------------
Cash and short-term investments at end of period......... $ 9,184,070 $ 7,660,430
============ ============
Supplemental schedule of cash flow information
Cash paid during the period for:
Income taxes and United States Mortgage Guaranty
Tax and Loss Bonds.................................. $ 7,032,057 $ 7,674,208
Interest.............................................. $ 1,382,500 $ 1,382,500
See accompanying notes.
5
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2001
(Unaudited)
NOTE 1 -- THE COMPANY
Triad Guaranty Inc. (the "Company") is a holding company which, through its
wholly-owned subsidiary, Triad Guaranty Insurance Corporation ("Triad"),
provides private mortgage insurance coverage in the United States to mortgage
lenders to protect the lender against loss from defaults on low down payment
residential mortgage loans.
NOTE 2 -- BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three and six month periods ended June
30, 2001 are not necessarily indicative of the results that may be expected for
the year ending December 31, 2001. For further information, refer to the
consolidated financial statements and footnotes thereto included in the Triad
Guaranty Inc. annual report on form 10-K for the year ended December 31, 2000.
NOTE 3 -- CONSOLIDATION
The consolidated financial statements include Triad Guaranty Inc. and its
wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated.
NOTE 4 -- COMMITMENTS AND CONTINGENT LIABILITIES
REINSURANCE - Triad assumes and cedes certain premiums and losses from/to
reinsurers under various reinsurance agreements. Reinsurance contracts do not
relieve Triad from its obligations to policyholders. Failure of the reinsurer to
honor its obligation could result in losses to Triad; consequently, allowances
are established for amounts when deemed uncollectible.
6
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2001
(Unaudited)
INSURANCE IN FORCE, DIVIDEND RESTRICTIONS, AND STATUTORY RESULTS - Insurance
regulations limit the writing of mortgage guaranty insurance to an aggregate
amount of insured risk no greater than 25 times the total of statutory capital
and surplus and the statutory contingency reserve. The amount of net risk for
insurance in force at June 30, 2001 and December 31, 2000, as presented below,
was computed by applying the various percentage settlement options to the
insurance in force amounts based on the original insured amount of the loan.
Triad's ratio is as follows:
JUNE 30, DECEMBER 31,
2001 2000
Net risk............................ $ 3,946,265,333 $ 3,738,596,850
=============== ===============
Statutory capital and surplus....... $ 103,844,609 $ 101,045,355
Statutory contingency reserve....... 171,212,493 150,762,722
--------------- ---------------
Total............................... $ 275,057,102 $ 251,808,077
=============== ===============
Risk-to-capital ratio............... 14.3-to-1 14.8-to-1
=============== ===============
Triad and its wholly-owned subsidiaries, Triad Guaranty Assurance
Corporation and Triad Re Insurance Corporation, are each required under their
respective domiciliary states' insurance code to maintain a minimum level of
statutory capital and surplus. Triad, an Illinois domiciled insurer, is required
under the Illinois Insurance Code (the "Code") to maintain minimum statutory
capital and surplus of $5,000,000. The Code permits dividends to be paid only
out of earned surplus and also requires prior approval of extraordinary
dividends. An extraordinary dividend is any dividend or distribution of cash or
other property, the fair value of which, together with that of other dividends
or distributions made within a period of twelve consecutive months, exceeds the
greater of (a) ten percent of statutory surplus as regards policyholders, or (b)
statutory net income for the calendar year preceding the date of the dividend.
Net income as determined in accordance with statutory accounting practices
was $27,480,729 for the six months ended June 30, 2001 and $47,830,174 for the
year ended December 31, 2000.
At June 30, 2001 and December 31, 2000, the amount of Triad's equity that
could be paid out in dividends to stockholders was $20,128,681 and $17,329,427,
respectively, which was the earned surplus of Triad on a statutory basis on
those dates.
7
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2001
(Unaudited)
LOSS RESERVES - The Company establishes loss reserves to provide for the
estimated costs of settling claims with respect to loans reported to be in
default and loans in default which have not been reported to the Company. Due to
the inherent uncertainty in estimating reserves for losses and loss adjustment
expenses, there can be no assurance that the reserves will prove to be adequate
to cover ultimate loss development.
NOTE 5 - - EARNINGS PER SHARE
Basic and diluted earnings per share are based on the weighted average
daily number of shares outstanding. For diluted earnings per share, the
denominator includes the dilutive effect of stock options on the
weighted-average shares outstanding. There are no other reconciling items
between the denominator used in basic earnings per share and diluted earnings
per share, and the numerator used in basic earnings per share and diluted
earnings per share is the same for all periods presented.
NOTE 6 - - COMPREHENSIVE INCOME
Comprehensive income is divided into net income and other comprehensive
income. For the Company, other comprehensive income is composed of unrealized
gains or losses on available-for-sale securities, net of income tax. For the
three month periods ended June 30, 2001 and 2000, the Company's comprehensive
income was $8.7 million and $8.1 million, respectively. For the six month
periods ended June 30, 2001 and 2000, the Company's comprehensive income was
$20.4 million and $17.8 million, respectively.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION
RESULTS OF OPERATIONS
Net income for the first six months of 2001 increased 21.1% to $20.8
million compared to $17.1 million for the first six months of 2000. Net income
for the second quarter of 2001 increased 15.8% to $9.8 million compared to $8.5
million for the second quarter of 2000. This improvement is attributable
primarily to a 13.9% (12.9% in the second quarter) increase in earned premiums
and a 19.0% (19.2% in the second quarter) increase in net investment income. Net
income for the first six months of 2001 also included a nonrecurring payment of
approximately $1.9 million related to the voluntary cancellation of an excess of
loss reinsurance contract. The payment was reported as other income in the first
quarter of 2001.
Net income per share on a diluted basis increased 19.2% to $1.49 for the
first six months of 2001 compared to $1.25 per share for the first six months of
2000. Net income per share for the second quarter of 2001 was $0.71 on a diluted
basis compared to $0.62 per share for the same period of 2000, an increase of
13.6%. Operating earnings per share were $1.47 for the first half of 2001
compared to $1.22 for the first half of 2000, an increase of 20.6%. Operating
earnings per share for the second quarter of 2001 increased 12.7% to $0.70 per
share compared to $0.62 per share for the same period of 2000. Operating
earnings exclude net realized investment gains of approximately $614,000 and
$814,000 in the first half of 2001 and 2000, respectively. For the second
quarter of 2001 and 2000, operating earnings exclude net realized investment
gains of approximately $162,000 and $36,000, respectively.
Net new insurance written was $4.4 billion for the first six months of 2001
as compared to $1.9 billion for the first six months of 2000, an increase of
134.8%. For the second quarter, net new insurance written totaled $1.9 billion
in 2001 compared to $1.1 billion in 2000, an increase of 73.3%. Net new
insurance written for the first six months of 2001 included approximately $3.4
billion of traditional flow production and approximately $1.0 billion related to
a structured bulk transaction occurring in the first quarter. The Company also
produced approximately $183 million of new insurance written on seasoned loans
in the first six months of 2001 compared to approximately $31 million in the
same period of 2000. The increase in new insurance written from traditional flow
production was primarily driven by new and expanding relationships with national
lenders, strong demand for risk-sharing arrangements, and a lower interest rate
environment which increased refinance activity. According to industry data,
Triad's national market share of net new primary insurance written, which
excludes $1.0 billion in production associated with Triad's bulk transaction in
the first quarter of 2001, was 2.6% for the second quarter and 2.7% for the
first six months of 2001 as compared to 2.7% and 2.5% for the respective periods
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION - - CONTINUED
in 2000. Total direct insurance in force reached $17.3 billion at June 30, 2001,
compared to $14.0 billion at June 30, 2000, an increase of 23.5%.
Direct premiums written were $43.8 million for the first six months of
2001, an increase of 18.9% compared to $36.8 million for the first six months of
2000. Direct premiums written for the second quarter of 2001 increased 16.8% to
$22.0 million from $18.8 million in the second quarter of 2000. Net premiums
written were $39.6 million in the first six months of 2001, an increase of 13.8%
compared to $34.8 million for the same period of 2000. Net premiums written for
the second quarter of 2001 increased by 11.6% to $19.8 million compared to $17.7
million for the second quarter of 2000. Earned premiums increased 13.9% to $39.8
million for the first six months of 2001 from $35.0 million for the first six
months of 2000. Earned premiums for the second quarter of 2001 were $20.1
million compared to $17.8 million for the same period of 2000, an increase of
12.9%. The growth in written and earned premiums was impacted by record levels
of new insurance written and the growth in insurance in force offset by the
impact of a declining persistency rate due to a high level of mortgage
refinancings.
Growth in written premium was offset by the increase in ceded premium
written. Driven primarily by increases in risk-sharing arrangements and excess
of loss reinsurance, ceded premium written increased 104.1% to $4.2 million for
the first six months of 2001 compared to $2.1 million for the same period of
2000. Ceded premium written in the second quarter of 2001 was $2.2 million
compared to $1.1 million in the same period of 2000, an increase of 99.8%.
Approximately 41.8% of new insurance written (56.9% excluding the bulk
transaction) during 2001 is subject to captive mortgage reinsurance and other
risk-sharing arrangements compared to 41.1% of new insurance written in the
first six months of 2000. Management anticipates ceded premiums will continue to
increase as a result of the expected increase in risk-sharing programs.
Refinance activity was 30.6% of new insurance written (37.4% excluding the
bulk transaction) in the first half of 2001 compared to 12.8% of insurance
written in the first half of 2000. Refinance activity was 40.1% of new insurance
written for the second quarter of 2001 compared to 12.8% for the same period of
2000. Persistency, or the amount of insurance in force remaining from one year
prior, was 75.8% at June 30, 2001, compared to 83.2% at June 30, 2000, and 82.6%
at December 31, 2000. The increase in refinance activity and the decrease in
persistency both reflect the current favorable interest rate environment.
Net investment income for the first six months of 2001 was $7.1 million, a
19.0% increase over $6.0 million in the first six months of 2000. Net investment
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION - - CONTINUED
income for the second quarter of 2001 was $3.7 million, a 19.2% increase over
the second quarter of 2000. This increase in investment income is the result of
growth in the average book value of invested assets by $36.2 million to $240.1
million at June 30, 2001, from $203.9 million at June 30, 2000. The growth in
invested assets is attributable to normal operating cash flow. The pre-tax yield
on average invested assets was 5.9% for the first six months of both 2001 and
2000. The portfolio's tax-equivalent yield increased slightly to 8.0% for the
first half of 2001 versus 7.9% for the first half of 2000. Based on amortized
cost, approximately 70% of the Company's fixed maturity portfolio at June 30,
2001, and June 30, 2000, was composed of state and municipal tax-preferred
securities.
In the first quarter of 2001 the Company recognized a nonrecurring
incentive payment of approximately $1.9 million related to the voluntary
cancellation of an excess of loss reinsurance contract maintained by the Company
with a non-affiliated reinsurer. This payment was accounted for as other income
in the first quarter. Also in the first quarter of 2001 the Company entered into
a new agreement with a non-affiliated reinsurer to provide excess of loss
reinsurance coverage under terms similar to the cancelled agreement.
Net losses and loss adjustment expenses (net of reinsurance recoveries)
increased by 18.6% in the first six months of 2001 to $4.3 million compared to
$3.7 million for the same period of 2000. Net losses and loss adjustment
expenses were $2.1 million for both the second quarter of 2001 and 2000. This
year-to-date increase reflects the growing amount of the Company's insurance in
force and the resulting recognition of a greater amount of insurance in force
reaching its highest claim frequency years. The Company's loss ratio (the ratio
of incurred losses to earned premiums) was 10.9% for the first half of 2001 as
compared to 10.5% for the first half of 2000 and 10.6% for all of 2000. The loss
ratio was 10.6% for the second quarter of 2001 compared to 11.5% for the second
quarter of 2000.
As of June 30, 2001, approximately 72% of the Company's insurance in force
was originated in the last 36 months. Management believes, based upon its
experience and industry data, that claims incidence for it and other private
mortgage insurers is generally highest in the third through sixth years after
loan origination. Although the claims experience on new insurance written in
previous years has been quite favorable, the Company expects its incurred losses
to increase as a greater amount of its insurance in force reaches its
anticipated highest claim frequency years. Due to the inherent uncertainty of
future premium levels, losses, economic conditions, and other factors that
impact earnings, it is impossible to predict with any degree of certainty the
impact of such higher claim frequencies on future earnings.
Amortization of deferred policy acquisition costs increased by 24.3% to
$5.0 million in the first six months of 2001 compared to $4.0 million for the
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION - - CONTINUED
first six months of 2000. These costs were $2.7 million for the second quarter
of 2001 compared to $2.0 million for the second quarter of 2000, an increase of
31.9%. The increase in amortization reflects both a growing balance of deferred
policy acquisition costs to amortize as the Company builds its total insurance
in force and higher cancellations due to refinance activity in the first half of
2001.
Other operating expenses increased 6.5% to $8.6 million for the first six
months of 2001 compared to $8.1 million for the same period in 2000. For the
second quarter of 2001, other operating expenses increased 7.3% to $4.3 million
from $4.0 million in the second quarter of 2000. This increase in expenses is
primarily attributable to personnel, technology amortization, and equipment
costs required to support the Company's product development, system
enhancements, and geographic expansion. The expense ratio (ratio of underwriting
expenses to net premiums written) for the first half of 2001 was 34.5% compared
to 34.9% for the first half of 2000 and 33.7% for all of 2000. The expense ratio
for the second quarter of 2001 was 35.2% compared to 34.0% for the second
quarter of 2000.
The effective tax rates for the first six months of 2001 and for the second
quarter of 2001 were 31.0% and 30.7%, respectively, as compared to 30.4% and
30.2% for the respective periods of 2000. Management expects the Company's
effective tax rate to remain about the same as long as yields from new funds
invested in tax-preferred securities remain favorable in relation to fully
taxable securities.
LIQUIDITY AND CAPITAL RESOURCES
The Company's sources of operating funds consist primarily of premiums
written and investment income. Operating cash flow is applied primarily to the
payment of claims, interest, expenses, and taxes.
The Company generated positive cash flow from operating activities for the
first six months of 2001 of $17.2 million compared to $13.1 million for the same
period of 2000. The increase in Triad's operating cash flow reflects increases
in premiums and investment income, nonrecurring income related to the
cancellation of the excess of loss reinsurance contract, and a decrease in paid
losses that more than offset the increase in operating expenses.
The Company's business does not routinely require significant capital
expenditures other than for enhancements to its computer systems and
technological capabilities. Positive cash flows are invested pending future
payments of claims and expenses. Cash flow shortfalls, if any, could be funded
through sales of short-term investments and other investment portfolio
securities.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION - - CONTINUED
The parent company's cash flow is dependent on interest income and payments
from Triad including cash dividends, management fees, and interest payments
under surplus notes. The insurance laws of the State of Illinois impose certain
restrictions on dividends from Triad. These restrictions, based on statutory
accounting practices, include requirements that dividends may be paid only out
of statutory earned surplus and limit the amount of dividends that may be paid
without prior approval of the Illinois Insurance Department. The Illinois
Insurance Department permits expenses of the parent company to be reimbursed by
Triad in the form of management fees.
Consolidated invested assets were $254.7 million at June 30, 2001, compared
to $232.0 million at December 31, 2000. Fixed maturity securities and equity
securities classified as available-for-sale totaled $245.7 million at June 30,
2001. Net unrealized investment gains were $996,000 on equity securities and
$2.0 million on fixed maturity securities at June 30, 2001. The fixed maturity
portfolio consisted of approximately 71% municipal securities, 23% corporate
securities, 5% U.S. government obligations, and 1% mortgage-backed bonds at June
30, 2001.
The Company's loss reserves were $16.5 million at June 30, 2001, compared
to $15.0 million at December 31, 2000. Reserves are established for reported
insurance losses and loss adjustment expenses based on when notices of default
on insured mortgage loans are received. Reserves are also established for
estimated losses incurred on notices of default not yet reported by the lender.
Consistent with industry practices, the Company does not establish loss reserves
for future claims on insured loans which are not currently in default. Reserves
are established by management using estimated claims rates and claims amounts in
estimating the ultimate loss. These reserve factors are periodically reviewed by
management in order to provide a reasonable estimate of losses on loans
currently in default. Adjustments to reserve estimates are reflected in the
financial statements in the periods in which the adjustments are made. The
growth in loss reserves is the result of the increase in reported defaults and
the maturing of the Company's risk in force and also reflects adjustments to
estimated loss reserve factors. The Company's delinquency ratio, the ratio of
delinquent insured loans to total insured loans, was 0.70% at June 30, 2001,
compared to 0.60% at December 31, 2000.
Total stockholders' equity increased to $226.4 million at June 30, 2001,
from $199.8 million at December 31, 2000. This increase resulted primarily from
net income of $20.8 million for the first half of 2001 and from additional
paid-in capital of $6.2 million resulting from the exercise of employee stock
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION - - CONTINUED
options and the related tax benefit. These increases were offset somewhat by a
decline in the unrealized gains and losses on invested assets classified as
available-for-sale of $365,000.
Triad's total statutory policyholders' surplus increased to $103.8 million
at June 30, 2001, from $101.0 million at December 31, 2000. This increase
resulted primarily from statutory net income of $27.5 million offset by an
increase in the statutory contingency reserve of $20.4 million and by the
adoption of new statutory accounting principles that went into effect on January
1, 2001. Triad's statutory earned surplus was $20.1 million at June 30, 2001,
compared to $17.3 million at December 31, 2000, reflecting, primarily, growth in
statutory net income greater than the increase in the statutory contingency
reserve and the impact of the new statutory accounting principles. The balance
in the statutory contingency reserve was $171.2 million at June 30, 2001,
compared to $150.8 million at December 31, 2000.
Triad's ability to write insurance depends on the maintenance of its
claims-paying ability ratings and the adequacy of its capital in relation to
risk in force. A significant reduction of capital or a significant increase in
risk may impair Triad's ability to write additional insurance. A number of
states also generally limit Triad's risk-to-capital ratio to 25-to-1. As of June
30, 2001, Triad's risk-to-capital ratio was 14.3-to-1, as compared to 14.8-to-1
at December 31, 2000, and 11.2-to-1 for the industry as a whole at December 31,
2000, the latest industry data available.
Triad is rated "AA" by both Standard & Poor's Rating Services and Fitch,
Inc and, in the first quarter of 2001, Triad received its initial financial
strength rating of "Aa3" from Moody's Investors Service.
In July 2001, the Office of Federal Housing Enterprise Oversight (OFHEO)
released its risk-based capital rules for Fannie Mae and Freddie Mac. The
regulation contains a number of provisions that may impact the mortgage
insurance industry. In particular, the regulation provides a more preferential
capital credit for insurance from a "AAA" rated private mortgage insurer rather
than from a "AA" rated private mortgage insurer. As a result, Triad could be
adversely affected if the regulation were implemented as released. Modifications
to the regulation, if made, could potentially reduce or eliminate the
differential in treatment between a "AAA" and a "AA" rated insurer. Because the
final terms of the regulation are not known, Triad is evaluating various
business approaches and options available to address the capital differential
contained in the rule. What response, if any, Triad makes and the ultimate
impact of the regulation on Triad is unknown at this time.
14
TEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION - - CONTINUED
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Management's Discussion and Analysis and this Report contain
forward-looking statements relating to future plans, expectations, and
performance which involve various risks and uncertainties, including but not
limited to the following: interest rates may increase from their current levels;
housing transactions and mortgage issuance may decrease for many reasons
including changes in interest rates or economic conditions; the Company's market
share may change as a result of changes in underwriting criteria or competitive
products or rates; the amount of new insurance written could be affected by
changes in federal housing legislation, including changes in the Federal Housing
Administration loan limits and coverage requirements of Freddie Mac and Fannie
Mae; the Company's financial condition and competitive position could be
affected by legislation impacting the mortgage guaranty industry specifically
and the financial services industry in general; rating agencies may revise
methodologies for determining the Company's claims-paying ability ratings and
may revise or withdraw the assigned ratings at any time; decreases in
persistency, which are affected by loan refinancings in periods of low interest
rates, may have an adverse effect on earnings; the amount of new insurance
written and the growth of insurance in force or risk in force as well as the
performance of the Company may be adversely impacted by the competitive
environment in the private mortgage insurance industry, including the type,
structure, and pricing of products and services offered by the Company and its
competitors; the Company's performance may be impacted by changes in the
performance of the financial markets and general economic conditions. Economic
downturns in regions where Triad's risk is more concentrated could have a
particularly adverse effect on Triad's financial condition and loss development.
New OFHEO risk-based capital rules for Fannie Mae and Freddie Mac, if
implemented as released, could severely limit the ability of Triad to compete
with "AAA" rated private mortgage insurers. The new rules may be modified from
their current form prior to final implementation. The ultimate effect of the new
rules on Triad and the mortgage insurance industry in general is not known at
this time.
Accordingly, actual results may differ from those set forth in the forward-
looking statements. Attention is also directed to other risk factors set forth
in documents filed by the Company with the Securities and Exchange Commission.
15
PART II
ITEM 1. LEGAL PROCEEDINGS - None
ITEM 2. CHANGES IN SECURITIES - None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES - None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Stockholders was held on May 10, 2001. Shares
entitled to vote at the Annual Meeting totaled 13,356,610 of which 12,013,226
shares were represented at the meeting.
At the Annual Meeting, the following five directors were elected. Also
shown are the number of shares cast for and authorization withheld for each
nominee.
Name of Nominee Number of Votes for Authorization withheld
--------------- ------------------- ----------------------
Robert T. David 11,790,976 222,250
Raymond H. Elliott 11,790,976 222,250
William T. Ratliff, III 11,790,976 222,250
Darryl W. Thompson 11,790,976 222,250
David W. Whitehurst 11,790,976 222,250
Additionally, at the Annual Meeting stockholders approved a resolution to
amend the Company's 1993 Long-Term Stock Incentive Plan, increasing the number
of shares of the Company's Common Stock, par value $.01 per share, reserved for
issuance under the plan from 2,100,000 shares to 2,600,000 shares.
ITEM 5. OTHER INFORMATION - None
ITEM 6. A. EXHIBITS - None
16
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
TRIAD GUARANTY INC.
Date: August 14, 2001
/s/ Michael R. Oswalt
-------------------------------
Michael R. Oswalt
Senior Vice President and Controller,
Principal Accounting Officer
17