UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 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 NO. 001-14953
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UICI
(Exact name of registrant as specified in its charter)
Delaware 75-2044750
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4001 McEwen, Suite 200, Dallas, Texas 75244
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(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code (972) 392-6700
Not Applicable
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Former name, former address and former fiscal year,
if changed since last report.
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 ___.
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date. Common Stock, $.01
Par Value, 47,630,422 shares as of November 5, 2001.
INDEX
UICI AND SUBSIDIARIES
PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated condensed balance sheets-September 30, 2001 (unaudited) and
December 31, 2000.............................................................. 3
Consolidated condensed statements of income (unaudited) - Three
months ended September 30, 2001 and 2000 and nine months ended
September 30, 2001 and 2000.................................................... 4
Consolidated statements of comprehensive income (unaudited) - Three
months ended September 30, 2001 and 2000 and nine months ended
September 30, 2001 and 2000 ................................................... 5
Consolidated condensed statements of cash flows (unaudited) - Nine months
ended September 30, 2001 and 2000.............................................. 6
Notes to consolidated condensed financial statements (unaudited) - September
30, 2001....................................................................... 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations..................................................................... 23
Item 3. Quantitative and Qualitative Disclosures about Market Risk..................... 32
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.............................................................. 33
Item 5. Market for Registrant's Common Stock and Related Matters....................... 33
Item 6. Exhibits and Reports on Form 8-K............................................... 33
SIGNATURES 34
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
UICI AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- ------------
(UNAUDITED)
ASSETS
Investments
Securities available for sale --
Fixed maturities, at fair value (cost:
2001--$910,571; 2000-- $827,905) ............. $ 927,400 $ 814,433
Equity securities, at fair value (cost:
2001--$37,294; 2000-- $18,926) ............... 74,272 16,916
Mortgage and collateral loans ................... 5,026 5,368
Policy loans .................................... 20,553 20,171
Investment in Healthaxis, Inc. .................. 9,638 18,442
Investment in other equity investees ............ 5,744 43,196
Short-term investments .......................... 122,203 149,525
------------ ------------
Total Investments ........................ 1,164,836 1,068,051
Cash .............................................. 43,605 83,058
Student loans ..................................... 1,306,373 1,156,072
Restricted cash ................................... 372,350 222,660
Reinsurance receivables ........................... 92,551 120,723
Due premiums, other receivables and assets ........ 63,216 52,766
Investment income due and accrued ................. 63,031 62,014
Deferred acquisition costs ........................ 70,898 68,515
Goodwill .......................................... 89,353 92,120
Deferred income tax ............................... 12,647 46,927
Property and equipment, net ....................... 75,080 75,128
------------ ------------
$ 3,353,940 $ 3,048,034
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Policy liabilities
Future policy and contract benefits ............. $ 418,746 $ 429,167
Claims .......................................... 376,614 358,108
Unearned premiums ............................... 96,331 98,491
Other policy liabilities ........................ 17,535 17,927
Other liabilities ................................. 150,362 156,953
Collections payable ............................... 222,771 111,787
Note payable to related party ..................... -- 18,954
Debt .............................................. 24,104 47,828
Student loan credit facilities .................... 1,512,750 1,358,056
------------ ------------
2,819,213 2,597,271
Commitments and Contingencies
Stockholders' Equity
Preferred stock, par value $0.01 per share ...... -- --
Common stock, par value $0.01 per share ......... 488 483
Additional paid-in capital ...................... 197,052 186,820
Accumulated other comprehensive income (loss) ... 34,972 (10,068)
Retained earnings ............................... 310,871 274,277
Treasury stock, at cost ......................... (8,656) (749)
------------ ------------
534,727 450,763
------------ ------------
$ 3,353,940 $ 3,048,034
============ ============
NOTE: The balance sheet data as of December 31, 2000 have been derived from the
audited financial statements at that date.
See Notes to Consolidated Condensed Financial Statements.
3
UICI AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF INCOME (UNAUDITED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------- -----------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
REVENUE
Premiums:
Health (includes amounts received from related parties of
$1,563 and $1,252 for the three months ended
September 30, 2001 and 2000, respectively, and
$4,723 and $2,425 for the nine months ended September 30,
2001 and 2000, respectively) ........................................ $ 197,513 $ 166,225 $ 582,128 $ 497,027
Life premiums and other considerations .................................. 10,079 9,979 29,058 31,164
---------- ---------- ---------- ----------
207,592 176,204 611,186 528,191
Investment income .......................................................... 23,785 23,394 66,011 69,205
Interest income (includes amounts received from related parties
of $8 and $331 for the three months ended September 30, 2001
and 2000, respectively, and $18 and $342 for the nine months
ended September 30, 2001 and 2000, respectively) .................... 17,701 27,946 70,316 87,886
Other fee income (includes amounts received from related parties
of $1,508 and $936 for the three months ended September 30,
2001 and 2000, respectively, and $5,331 and $2,488 for the
nine months ended September 30, 2001 and 2000, respectively) ........ 23,070 25,615 73,703 87,972
Other income ............................................................... 806 710 2,892 2,852
Gain on sale of HealthAxis.com shares ...................................... -- -- -- 26,300
Gains on sales of other investments ........................................ 3,214 1,372 5,800 14
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276,168 255,241 829,908 802,420
BENEFITS AND EXPENSES
Benefits, claims, and settlement expenses .................................. 129,597 113,060 397,335 344,504
Underwriting, acquisition, and insurance expenses (includes
amounts paid to related parties of $7,255 and $7,676 for the
three months ended September 30, 2001 and 2000, respectively,
and $22,415 and $24,613 for the nine months ended September 30,
2001 and 2000, respectively) ............................................ 78,255 63,302 213,839 184,103
Other expenses (includes amounts paid to related parties of
$2,553 and $2,705 for the three months ended September 30, 2001
and 2000, respectively, and $7,863 and $5,760 for the nine months
ended September 30, 2001 and 2000, respectively) ........................ 28,535 29,136 80,371 93,793
Depreciation (includes expense on assets purchased from related parties
of $20 and $0 for the three months ended September 30, 2001 and 2000,
respectively, and $42 and $0 for the nine months ended September 30,
2001 and 2000, respectively) ............................................ 4,049 3,340 11,248 9,905
Interest expense (includes expenses incurred with related parties of $0
and $1,705 for the three months ended September 30, 2001 and 2000,
respectively, and $98 and $3,607 for the nine months ended
September 30, 2001 and 2000, respectively) .............................. 577 3,701 4,469 10,229
Interest expense--student loan credit facilities ........................... 15,518 23,768 57,737 73,626
Equity in losses of Healthaxis, Inc. investment ............................ 1,272 1,115 9,237 16,269
Goodwill amortization ...................................................... 1,172 1,333 3,517 4,570
---------- ---------- ---------- ----------
258,975 238,755 777,753 736,999
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INCOME FROM CONTINUING OPERATIONS BEFORE
FEDERAL INCOME TAXES ...................................................... 17,193 16,486 52,155 65,421
Federal income taxes ......................................................... 5,318 7,470 15,561 30,194
---------- ---------- ---------- ----------
INCOME FROM CONTINUING OPERATIONS ............................................ 11,875 9,016 36,594 35,227
DISCONTINUED OPERATIONS
(net of income tax benefit of $0 and $0, for the three months
ended September 30, 2001 and 2000, respectively, and $0 and
$12,600, respectively, for the nine months ended September 30,
2001 and 2000) .......................................................... -- -- -- (23,400)
---------- ---------- ---------- ----------
NET INCOME ................................................................... $ 11,875 $ 9,016 $ 36,594 $ 11,827
========== ========== ========== ==========
Earnings (loss) per share:
Basic earnings (loss)
Income from continuing operations ....................................... $ 0.25 $ 0.19 $ 0.78 $ 0.76
Loss from discontinued operations ....................................... 0.00 0.00 0.00 (0.50)
---------- ---------- ---------- ----------
Net income .............................................................. $ 0.25 $ 0.19 $ 0.78 $ 0.26
========== ========== ========== ==========
Diluted earnings (loss)
Income from continuing operations ....................................... $ 0.25 $ 0.19 $ 0.77 $ 0.74
Loss from discontinued operations ....................................... 0.00 0.00 0.00 (0.49)
---------- ---------- ---------- ----------
Net income .............................................................. $ 0.25 $ 0.19 $ 0.77 $ 0.25
========== ========== ========== ==========
See Notes to Consolidated Condensed Financial Statements.
4
UICI AND SUBSIDIARIES CONSOLIDATED
STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED) (DOLLARS IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
Net income .................................................. $ 11,875 $ 9,016 $ 36,594 $ 11,827
Other comprehensive income before tax:
Unrealized gains on securities:
Unrealized holding gains arising during period ......... 19,451 13,030 66,616 13,889
Reclassification adjustment for gains (losses)
included in net income ............................... 1,687 (238) 2,673 (1,428)
---------- ---------- ---------- ----------
Other comprehensive income, before tax ........... 21,138 12,792 69,289 12,461
Income tax provision related to items of
other comprehensive income ........................... (7,399) (4,475) (24,249) (4,346)
---------- ---------- ---------- ----------
Other comprehensive income, net of tax benefits .. 13,739 8,317 45,040 8,115
---------- ---------- ---------- ----------
Comprehensive income ........................................ $ 25,614 $ 17,333 $ 81,634 $ 19,942
========== ========== ========== ==========
See Notes to Consolidated Condensed Financial Statements.
5
UICI AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (UNAUDITED)
(DOLLARS IN THOUSANDS)
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
2001 2000
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OPERATING ACTIVITIES
Net income ....................................................... $ 36,594 $ 11,827
Adjustments to reconcile net income to
cash provided by (used in) operating activities:
Increase in policy liabilities ................................. 19,507 13,210
Decrease in other liabilities .................................. (4,440) (1,500)
Increase in income taxes ....................................... 9,937 38,298
(Increase) decrease in deferred acquisition costs .............. (2,383) 2,510
Increase in accrued investment income .......................... (1,017) (16,635)
(Increase) decrease in reinsurance and other receivables ....... 21,994 (53,708)
Depreciation and amortization .................................. 14,765 14,475
Increase in collections payable ................................ 110,984 19,104
Equity in losses of Healthaxis, Inc. ........................... 9,237 16,269
Net gains on sale of investments ............................... (5,800) (26,314)
Amounts contributed to discontinued operations ................. -- (150,300)
Other items, net ............................................... (2,119) 1,498
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Cash Provided by (Used in) Operating Activities ............ 207,259 (131,266)
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INVESTING ACTIVITIES
(Increase) decrease in student loans ............................. (150,301) 159,448
(Increase) decrease in other investments ......................... (32,104) 66,240
Proceeds from sale of HealthAxis.com shares ...................... -- 30,000
(Increase) decrease in restricted cash ........................... (149,690) 201,604
Increase in agents' receivables .................................. (1,212) (4,516)
Book value of subsidiaries sold net of cash disposal of $8,319 ... -- 36,854
Purchase of subsidiary ........................................... -- (4,481)
Increase in property and equipment ............................... (11,200) (11,227)
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Cash Provided by (Used in) Investing Activities ............ (344,507) 473,922
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FINANCING ACTIVITIES
Deposits from investment products ................................ 11,125 12,264
Withdrawals from investment products ............................. (25,099) (34,815)
Proceeds from student loan borrowings ............................ 614,461 556,315
Repayment of student loan borrowings ............................. (459,768) (929,944)
Proceeds from issuance of debt ................................... -- 34,000
Proceeds from note payable to related party ...................... -- 146,000
Repayment of debt ................................................ (23,724) (104,605)
Repayment of note payable to related party ....................... (18,954) (77,400)
Purchase of treasury shares ...................................... (8,946) --
Issuance of treasury shares ...................................... 1,039 --
Other items, net ................................................. 7,661 11,597
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Cash Provided by (Used in) Financing Activities ............ 97,795 (386,588)
---------- ----------
Net Decrease in Cash ....................................... (39,453) (43,932)
Cash at Beginning of Period ................................ 83,058 74,091
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Cash at End of Period ...................................... $ 43,605 $ 30,159
========== ==========
See Notes to Consolidated Condensed Financial Statements.
6
UICI AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
September 30, 2001
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited consolidated condensed financial statements
for UICI and its subsidiaries (the "Company" or "UICI") have been prepared in
accordance with generally accepted accounting principles ("GAAP") for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, such financial statements do not include all of the
information and notes required by GAAP for complete financial statements. In the
opinion of management, all adjustments considered necessary for a fair
presentation have been included. All such adjustments, except as otherwise
described herein, consist of normal recurring accruals. Operating results for
the nine-month period ended September 30, 2001 are not necessarily indicative of
the results that may be expected for the year ended December 31, 2001. For
further information, refer to the consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-K for the year ended
December 31, 2000. Certain amounts in the 2000 financial statements have been
reclassified to conform to the 2001 financial statement presentation.
Recently Issued Accounting Pronouncements
In June 2000, FAS No. 133, Accounting for Derivative Instruments and
Hedging Activities, was issued, and as amended, is required to be adopted in
years beginning after June 15, 2000. This Statement requires all derivatives to
be recorded on the balance sheet at fair value. Changes in fair values of
derivatives not meeting the Statement's hedge criteria are included in income.
Because of the Company's minimal use of derivatives, the adoption of the new
Statement does not have a significant effect on the Company's results of
operations or financial position.
In September 2000, the FASB issued Statement No. 140, Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,
replacing Statement No. 125. Statement No. 140, which is effective for transfers
occurring after March 31, 2001, changes certain provisions of Statement No. 125.
The adoption of the new Statement does not have a significant effect on the
Company's results of operations or financial position.
In June 2001, the Financial Accounting Standards Board issued
Statements of Financial Accounting Standards No. 141, Business Combinations, and
No. 142, Goodwill and Other Intangible Assets, effective for fiscal years
beginning after December 15, 2001. Under the new rules, goodwill (and intangible
assets deemed to have indefinite lives) will no longer be amortized but will be
subject to annual impairment tests in accordance with the Statements. Other
intangible assets will continue to be amortized over their useful lives.
The Company will apply the new rules on accounting for goodwill and
other intangible assets beginning in the first quarter of 2002. During 2002, the
Company will perform the first of the required impairment tests of goodwill and
indefinite lived intangible assets as of January 1, 2002 and has not yet
determined what the effect of these tests will be on the earnings and financial
position of the Company.
NOTE B - LIQUIDITY
UICI is a holding company, the principal assets of which are its
investments in its separate operating subsidiaries, including its regulated
insurance subsidiaries. The holding company's ability to fund its cash
requirements is largely dependent upon its ability to access cash, by means of
dividends or other means, from its subsidiaries. The laws governing the
Company's insurance subsidiaries restrict dividends paid by the Company's
domestic insurance subsidiaries in any year. Inability to access cash from its
subsidiaries could have a material adverse effect upon the Company's liquidity
and capital resources.
At September 30, 2001, UICI at the holding company level held cash and
cash equivalents in the amount of $13.2 million and had short and long-term
indebtedness outstanding in the amount of $6.3 million and $17.7 million,
respectively. In October 2001, UICI's two principal domestic insurance
subsidiaries declared regular dividends in the aggregate amount of $40.0 million
to be paid to the holding company prior to December 31, 2001.
7
Giving effect to the payment through October 31, 2001 of $22.0 million of such
dividends, at November 1, 2001 UICI at the holding company level held cash and
cash equivalents in the amount of $37.6 million.
The Company currently estimates that, through December 31, 2001, the
holding company will have operating cash requirements in the amount of
approximately $25.4 million. The Company currently anticipates that these cash
requirements at the holding company level will be funded by cash on hand, cash
received from interest income, the balance of dividends to be paid from domestic
and offshore insurance companies and tax sharing reimbursements from
subsidiaries (which will be partially offset by holding company operating
expenses).
NOTE C - INVESTMENT IN HEALTHAXIS, INC. (FORMERLY HEALTHAXIS.COM, INC.)
At September 30, 2001, the Company held 25,214,556 shares of common
stock of Healthaxis, Inc. (HAXS: Nasdaq) ("HAI") (including 354,844 shares
acquired on May 23, 2001 from a former employee of HAI for a purchase price of
$400,000), representing approximately 47.6% of the issued and outstanding shares
of HAI. Of such 25,214,556 shares held by the Company, 8,581,714 shares
(representing 16.2% of HAI's total issued and outstanding shares) were through
November 7, 2001 subject to the terms of a Voting Trust Agreement, pursuant to
which trustees unaffiliated with the Company have the right to vote such shares.
In addition, the Company holds (a) a warrant to purchase 12,291 shares of HAI
common stock at an exercise price of $3.01 per HAI share; (b) a warrant to
purchase 200,100 shares of HAI common stock at an exercise price of $4.40 per
HAI share; (c) a warrant to purchase 10,005 shares of HAI common stock at an
exercise price of $12.00 per share; and (d) $1.67 million aggregate principal
amount of HAI 2% convertible debentures, which are convertible into an aggregate
of 185,185 shares of HAI common stock.
Effective November 7, 2001, (a) Gregory T. Mutz and Patrick J.
McLaughlin (the President and a director of UICI, respectively) resigned from
the Board of Directors of HAI; (b) the Voting Trust Agreement was terminated;
and (c) for the sole purpose of electing directors to the board of directors of
HAI, UICI appointed as its proxies the board of directors of HAI, with power to
vote 33-1/3% of the number of HAI shares held of record from time to time by
UICI, with such proxies to vote such in favor of the nominees that a majority of
the directors of HAI shall have recommended stand for election. The authority
granted to such proxies will terminate at the earlier to occur of (i) November
7, 2011, (ii) such date as UICI beneficially holds less than 25% of the
outstanding shares of common stock of HAI on a fully diluted basis, (iii) such
date as any person or persons acting as a "group" beneficially holds a greater
percentage of the outstanding shares of HAI common stock on a fully diluted
basis than the percentage beneficially owned by UICI, or (iv) the filing by HAI
of a voluntary petition in bankruptcy or the filing by a third party of an
involuntary petition in bankruptcy with respect to HAI.
The Company accounts for its investment in HAI utilizing the equity
method and, accordingly, recognizes its ratable share of HAI income and loss
(computed prior to amortization of goodwill recorded by HealthAxis.com in
connection with the January 7, 2000 merger of Insurdata Incorporated (formerly a
wholly-owned subsidiary of UICI) with and into HealthAxis.com). At September 30,
2001, the Company's carrying value of its investment in HAI was $9.6 million.
The Company's equity in the loss of HAI in the three and nine months ended
September 30, 2001 was $(1.3) million and $(9.2) million, respectively, compared
to $(1.1) million and $(16.3) million, respectively for the three and nine
months ended September 30, 2000.
8
Set forth below is summary condensed balance sheet and income statement
data for HAI as of and for the three and nine-month periods ended September 30,
2001. This financial information has been adjusted to exclude the effects of
push-down accounting for the January 7, 2000 merger of Insurdata Incorporated
with and into HealthAxis.com.
SEPTEMBER 30,
2001
--------------
(IN THOUSANDS)
Assets
Cash and current assets .............................. $ 17,937
Property and equipment ............................... 7,855
Other assets ......................................... 6,203
--------------
Total assets ................................. $ 31,995
==============
Liabilities
Accounts payable and accrued expenses ................ $ 4,180
Debt ................................................. 27,194
Other liabilities .................................... 3,554
--------------
Total liabilities .................................... 34,928
Stockholders' equity (deficit) ....................... (2,933)
--------------
Total liabilities and stockholders' equity (deficit) ... $ 31,995
==============
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, 2001 SEPTEMBER 30, 2001
------------------ ------------------
(IN THOUSANDS) (IN THOUSANDS)
Revenue .................................................... $ 11,218 $ 33,552
Expenses ................................................... (13,023) (52,941)
-------------- --------------
Net loss ......................................... $ (1,805) $ (19,389)
============== ==============
Pursuant to the terms of an information technology services agreement,
amended and restated as of January 3, 2000 (the "Services Agreement"), HAI
provides information systems and software development services (including
administration of the Company's computer data center) to the Company and its
insurance company affiliates. The Services Agreement has an initial five-year
term ending on January 3, 2005, which is subject to extension by the Company.
The Services Agreement is non-exclusive and terminable by the Company or HAI at
any time upon not less than 180 days' notice to the other party.
Pursuant to the terms of the Services Agreement, UICI paid to HAI $7.0
million and $23.7 million, respectively in the three and nine months ended
September 30, 2001, compared to $6.9 million and $20.4 million, respectively, in
the comparable 2000 periods. HAI generated revenues of $11.2 million and $33.6
million in the three and nine months ended September 30, 2001, respectively, of
which 62.1% and 70.7%, respectively, were derived from information systems and
software development services provided to UICI and its affiliates.
NOTE D - LONG TERM DEBT
Effective July 27, 2000, the Company and a limited liability company
controlled by the Company's Chairman ("Lender LLC") completed a restructuring of
the terms of a $70.0 million loan originally to a newly-formed subsidiary of the
Company in March 2000 (the "Lender LLC Loan"). As part of the restructuring, the
Company paid to Lender LLC principal owing on the Lender LLC Loan in the amount
of $6.0 million and amended the terms of the Lender LLC Loan to provide that the
aggregate principal amount of $70.0 million then owing by the Company would
consist of a $32.0 million unsecured tranche and a $38.0 million tranche secured
by a pledge of 100% of the capital stock of Mid-West National Life Insurance
Company of Tennessee ("Mid-West") (the "Amended Lender LLC Loan"). The Amended
Lender LLC Loan (a) matured on January 1, 2002, (b) continued to bear interest
at the prevailing prime rate from time to time, with interest accruing but not
payable until the earlier to occur of full prepayment of the Lender LLC Loan or
January 1, 2002, and (c) was mandatorily prepayable monthly to the extent of 1%
of the original outstanding principal balance of the Amended Lender LLC Loan.
The security interest in all remaining collateral previously pledged to secure
payment of the Lender LLC Loan and indebtedness outstanding under the bank
credit facility (including all investment securities and shares of the Company's
National Motor Club unit) was released in full.
In addition to scheduled principal payments totaling $3.5 million made
during the course of 2000, on October 20, 2000, the Company prepaid the
unsecured tranche of the Amended Lender LLC Loan in the amount of $12.5 million.
In addition, on November 2, 2000, the Company prepaid an additional $17.4
million of the unsecured
9
tranche and $17.6 million of the secured tranche. Accordingly, at December 31,
2000, the Company had no indebtedness outstanding under the unsecured tranche
and $19.0 million outstanding under the secured tranche of the Amended Lender
LLC Loan.
On January 30, 2001, the Company prepaid in full all principal and
accrued interest on the secured tranche of the Amended Lender LLC Loan in the
amount of $21.1 million, utilizing a portion of the proceeds received in the
liquidation of United Credit National Bank ("UCNB"). Lender LLC's security
interest in 100% of the capital stock of Mid-West National was released in full.
On July 19, 2000, the Company's offshore-domiciled insurance companies
incurred indebtedness with an institutional lender in the amount of $24.0
million. The indebtedness bore interest at the per annum rate of 11.0%, was
scheduled to mature on August 1, 2001, was secured by a pledge of all of the
assets of the offshore companies, and was guaranteed by the Company. The
proceeds of the borrowing were advanced to the holding company to fulfill the
liquidity needs at the holding company. On May 3, 2001, all then-outstanding
principal and accrued interest on the loan in the amount of $6.1 million was
paid in full.
On June 28, 2001, Academic Management Services Corp. ("AMS") paid off
its remaining senior indebtedness in the amount of $14.3 million, the proceeds
of which were utilized in 1999 to fund a portion of the purchase price for AMS'
tuition installment business. At December 31, 2000, this senior indebtedness
amounted to $21.3 million and was included in student loan credit facilities on
the Company's consolidated balance sheet. During the nine months ended September
30, 2001, AMS incurred $675,000 of interest expense under this facility.
On June 30, 2001, the Company made its scheduled principal payment of
$4.0 million on its 8.75% Senior Notes. At September 30, 2001, the Company had
$11.9 million principal amount of Senior Notes outstanding.
On April 27, 2001, the Company completed a $100.0 million
securitization of alternative (i.e., non-federally guaranteed) student loans
originated by the Company's College Fund Life Division. The securitization
consisted of two $50.0 million series of Student Loan Asset Backed Notes issued
by a bankruptcy-remote special purpose corporation (the "SPC"). Interest rates
on the notes reset monthly in a Dutch auction process, with the initial rate set
at 4.75% for each of the Series A and Series B notes. At September 30, 2001, the
interest rates on the notes were 3.70% and 2.95% for Series A and Series B,
respectively. The notes are secured by a pledge of alternative student loans,
are rated Aaa by Moody's Investor Service and AAA by Fitch, Inc. and are insured
by MBIA. As part of the transaction, the SPC acquired a $70.1 million portfolio
of alternative student loans from various affiliates of the Company, including
$11.0 million of loans previously held by UICI Funding Corp. 2, $29.1 million of
loans held by AMS, $24.0 million of loans held by The MEGA Life and Health
Insurance Company and $6.0 million of loans held by Mid-West. As part of the
securitization, a loan acquisition fund was established to acquire in the future
up to an additional $19.1 million of student loans originated by the Company's
College Fund Life Division. On a consolidated basis, the Company continues to
carry on its balance sheet the alternative student loans and the associated
$100.0 million of indebtedness (which is included on the Company's consolidated
balance sheet as student loan credit facilities) arising from the transaction.
NOTE E - INCOME TAXES
The Company's effective tax rate on operations for the three and
nine-month period ended September 30, 2001 was approximately 31% and 30%,
respectively, compared to 45% and 46%, respectively, for the same period in
2000. The decrease in effective tax rate for the 2001 periods was primarily due
to the fact that the Company has not provided a tax expense for AMS' 2001
earnings or a tax benefit on AMS' 2000 losses. Prior to August 3, 2001, AMS was
75%-owned by the Company and filed a separate federal income tax return. On
August 3, 2001, the Company acquired the remaining 25% common stock interest in
AMS that the Company did not already own. For periods commencing subsequent to
the effective date upon which the Company became the 100% owner of AMS, AMS will
be included in the Company's consolidated return. The significant operating tax
loss carryover of AMS (approximately $39.5 million at December 31, 2000) arising
before the acquisition of the remaining 25% ownership is not eligible for
utilization in the Company's consolidated income tax return except to the extent
of AMS' taxable income included therein. Therefore, no tax effect will be
provided on AMS' operations until the operating tax loss carryover expires or is
utilized to offset taxable income at AMS.
10
NOTE F - EARNINGS (LOSS) PER SHARE
The following table sets forth the computation of basic and diluted
earnings (loss) per share:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------- -----------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Income (loss) available to common shareholders:
Income from continuing operations available
to Common shareholders ....................... $ 11,875 $ 9,016 $ 36,594 $ 35,227
Loss from discontinued operations ............... -- -- -- (23,400)
---------- ---------- ---------- ----------
Net income ...................................... $ 11,875 $ 9,016 $ 36,594 $ 11,827
========== ========== ========== ==========
Weighted average shares outstanding
-- basic earnings (loss) per share .............. 46,255 46,626 46,628 46,491
Effect of dilutive securities:
Employee stock options and other shares ........... 940 1,161 1,173 1,185
---------- ---------- ---------- ----------
Weighted average shares outstanding -- dilutive
Earnings (loss) per share ....................... 47,195 47,787 47,801 47,676
========== ========== ========== ==========
Basic earnings (loss) per share
From continuing operations ...................... $ 0.25 $ 0.19 $ 0.78 $ 0.76
From discontinued operations .................... 0.00 0.00 0.00 (0.50)
---------- ---------- ---------- ----------
Net income ...................................... $ 0.25 $ 0.19 $ 0.78 $ 0.26
========== ========== ========== ==========
Diluted earnings (loss) per share
From continuing operations ...................... $ 0.25 $ 0.19 $ 0.77 $ 0.74
From discontinued operations .................... 0.00 0.00 0.00 (0.49)
---------- ---------- ---------- ----------
Net income ...................................... $ 0.25 $ 0.19 $ 0.77 $ 0.25
========== ========== ========== ==========
NOTE G - LEGAL PROCEEDINGS
The Company is a party to the following material legal proceedings:
Securities Class Action Litigation
As previously disclosed, in December 1999 and February 2000, the
Company and certain of its executive officers were named as defendants in three
securities class action lawsuits alleging, among other things, that the
Company's periodic filings with the SEC contained untrue statements of material
facts and/or failed to disclose all material facts relating to the condition of
the Company's credit card business, in violation of Section 10(b) of the
Securities Exchange Act of 1934 and Rule 10b-5 thereunder. The three cases have
been subsequently consolidated as Herbert R. Silver, et al. v. UICI et al, which
is pending in U.S. District Court for the Northern District of Texas. Plaintiffs
purport to represent a class of persons who purchased UICI common stock from
February 10,1999 through December 9, 1999. On June 12, 2000, plaintiffs filed a
consolidated amended class action complaint, amending, consolidating and
supplementing the allegations made in the original cases.
On October 10, 2001, the Court denied defendants' motion to dismiss the
case, and UICI is required to file an answer to the allegations in the complaint
on or before November 25, 2001. UICI expects the discovery phase of the
litigation to commence shortly.
The Company believes that the allegations in the complaint are wholly
without merit and intends to continue to vigorously contest the allegations in
the case.
Sun Communications Litigation
As previously disclosed, UICI and Ronald L. Jensen (the Company's
Chairman) are involved in litigation (Sun Communications, Inc. v. SunTech
Processing Systems, LLC, UICI, Ronald L. Jensen, et al) (the "Sun Litigation")
with a third party concerning the distribution of the cash proceeds from the
sale and liquidation of SunTech Processing Systems, LLC ("STP") assets in
February 1998. The Dallas County, Texas District Court ruled in December 1998
that, as a matter of law, a March 1997 agreement governing the distribution of
such cash proceeds should be read in the manner urged by Sun Communications,
Inc. ("Sun") and consistent with a court-appointed liquidator's previous ruling.
The District Court entered a judgment directing distribution of the sales
proceeds in the manner urged by Sun. The District Court also entered a finding
that UICI had violated Texas securities disclosure
11
laws and breached a fiduciary duty owed to Sun, and the District Court awarded
the plaintiff $1.7 million in attorneys' fees, which amount could be increased
to $2.1 million under certain circumstances.
On August 1, 2000, the Court of Appeals for the Fifth District of Texas
at Dallas reversed the trial court's judgment as to UICI's liability for
attorneys' fees and its finding that UICI breached a fiduciary duty. The Appeals
Court also reversed the trial court's judgment that directed distribution of the
STP sales proceeds in the manner urged by Sun. On December 8, 2000, the Appeals
Court affirmed its earlier decision, further reversed the trial court's finding
that the Company had violated the Texas Securities Act and denied the Company's,
Mr. Jensen's and Sun's respective motions for rehearing. On May 10, 2001, the
Texas Supreme Court denied Sun's petition to review of the Court of Appeals
opinion, and the case has now been remanded to the District Court for trial on
the issues concerning the interpretation of the March 1997 agreement and the
alleged breach of fiduciary duty claim. No trial date has been set.
In the brief filed in his appeal of the District Court's December 1998
finding, Mr. Jensen reasserted that the March 1997 agreement requires that,
before STP can make a distribution to UICI and Sun, it must advance
approximately $10.0 million to Mr. Jensen in satisfaction of certain creditor
and preferred equity claims. If and to the extent that Mr. Jensen's
interpretation of the March 1997 agreement is ultimately adopted in the Sun
Litigation after all rights to appeal have been exhausted, the amount of such
proceeds that UICI may ultimately receive directly from STP may be reduced.
However, in such event and in accordance with an agreement reached with the
Company in June 1998 (the "Assurance Agreement"), Mr. Jensen has agreed that, if
UICI receives less than $15.1 million in the lawsuit, then Mr. Jensen will
advance funds to UICI sufficient to increase UICI's recovery to $15.1 million.
The Assurance Agreement also restricts the manner in which UICI can seek funds
in satisfaction of Mr. Jensen's previously unconditional agreement (the "Jensen
1996 Guaranty") to indemnify the Company for any loss or reduction in value of
the Company's Class A investment in Cash Delivery Systems, LLC.
By letter dated July 7, 2000, Mr. Jensen submitted a formal proposal to
purchase the Company's 80% interest in STP for $15.6 million ("Proposal A") or,
alternatively, to purchase for $15.1 million the Company's rights and claim of
rights to receive funds held in the registry of the Court in the Sun Litigation
("Proposal B"). As part of either proposal, the Company would agree to terminate
and release Mr. Jensen from any and all obligations arising under the Jensen
1996 Guaranty and the Assurance Agreement. As part of Mr. Jensen's proposals,
Mr. Jensen has offered to indemnify and hold the Company harmless from and
against, among other things, (a) the breach of fiduciary duty claim asserted by
Sun against the Company and Sun's related claim for attorneys' fees, (b) Sun's
claim for attorneys' fees arising out of the distribution issue in the Sun
Litigation, and (c) any and all other claims of any nature asserted by Sun
against the Company in the Sun Litigation arising out of or relating directly to
the March 1997 agreement governing the distribution of cash proceeds from the
sale and liquidation of STP.
The Company solicited the consent of Sun to the transfer so that it
might accept Proposal A, but Sun was unwilling to grant such consent and also
objected to Proposal B, claiming that Sun's consent is required to consummate
either Proposal. Following approval of the disinterested outside directors of
UICI in accordance with the related party transactions policies and procedures
adopted by the UICI Board, on July 21, 2000, the Company formally accepted
Proposal A and, in the alternative, Proposal B. On November 22, 2000, the Court
in the Company's pending Shareholder Derivative Litigation (see discussion
below) approved the alternative settlements between Mr. Jensen and the Company,
subject to any alleged right on the part of Sun to consent to Proposal A and/or
Proposal B.
The Company subsequently sued Sun separately (UICI v. Sun
Communications, Inc., pending in 134th Judicial District Court of Dallas County,
Texas, Cause No. 009353), seeking to resolve the consent issue. Sun's motion to
abate the separate suit pending disposition of the Sun case was denied by the
Court at a hearing held on August 2, 2001. On October 16, 2001, the Court
granted UICI's motion for partial summary judgment and ordered, among other
things, that (a) Sun's consent to Proposal B is not required, (b) no injunction
or order previously issued by the Court precludes or otherwise limits UICI from
completing Proposal A and (c) Sun waived and is estopped to assert any right to
prevent UICI's assignment of its interest in STP as contemplated by Proposal A.
The Company cannot at this time predict how, when or in what fashion
the Sun Litigation will ultimately be resolved. However, for financial reporting
purposes, any cash ultimately received by the Company from Mr. Jensen pursuant
to the Assurance Agreement may be treated as a capital contribution to the
Company, and the pre-tax gain recognized by UICI in 1998 from the STP sale would
be reduced by a corresponding amount. In such case,
12
however, the Company's consolidated stockholders' equity would not be adversely
affected. In 1998, the Company's results of operations reflected a pre-tax gain
from the STP sale of $9.7 million ($6.7 million after tax, or $0.15 per share).
Shareholder Derivative Litigation
As previously disclosed, on June 1, 1999, the Company was named as a
nominal defendant in a shareholder derivative action captioned Richard Schappel
v. UICI, Ronald Jensen, Richard Estell, Vernon Woelke, J. Michael Jaynes, Gary
Friedman, John Allen, Charles T. Prater, Richard Mockler and Robert B. Vlach,
which was filed in the District Court of Dallas County, Texas (the "Shareholder
Derivative Litigation"). The plaintiff asserted on behalf of UICI various
derivative claims brought against the individual defendants, alleging, among
other things, breach of fiduciary duty, conversion, usurpation of corporate
opportunity, waste of corporate assets, constructive fraud, negligent
misrepresentation, conspiracy and breach of contract. Plaintiff sought (a) to
recover for UICI's benefit all damages caused by such alleged breach of the
officers' and directors' duties to UICI, (b) to compel UICI to conduct a
complete accounting and audit relating to all related party transactions and to
fully and completely restate, report and disclose such transactions, and (c)
injunctions against the Company prohibiting, among other things, any existing or
future transactions between UICI and any and all entities related to Ronald L.
Jensen, unless each such transaction was fully and fairly disclosed to UICI
shareholders, and requiring the Company to, among other things, freeze, review
and where appropriate rescind all related party transactions. The plaintiff in
the Shareholder Derivative Litigation is also the president of Sun (the
plaintiff in the Sun Litigation), and substantially all of the initial claims
made in the Shareholder Derivative Litigation arose out of the same transactions
that serve as the factual underpinning to the Sun Communications Litigation
referred to above.
At the regular quarterly meeting of the Company's Board of Directors
held on August 4, 1999, George Lane III and Stuart D. Bilton (non-employee
directors of the Company) were appointed, in accordance with Texas and Delaware
law, to serve as a special committee (the "Special Litigation Committee") to
investigate and assess on behalf of the Company the underlying claims made in
the Shareholder Derivative Litigation.
In a series of reports delivered in March 2000, September 2000 and
January 2001, the Special Litigation Committee rendered to the Board of
Directors of UICI its findings with respect to the allegations in the suit.
Based on its review and assessment of the allegations, the Special Litigation
Committee recommended, among other things, that the Company (a) seek the release
to UICI of approximately $7.6 million of uncontested proceeds from the STP sale
held in the District Court's registry; (b) seek from Mr. Jensen and/or former
management certain legal fees incurred by UICI in connection with the Sun
Litigation that it believes were incurred without appropriate board approval
(which fees were reimbursed by Mr. Jensen in July 2000); (c) seek reimbursement
of certain legal fees awarded to Sun if and only if certain ongoing appeals
prove unsuccessful; (d) implement certain heightened related-party transaction
controls; (e) seek dismissal of the derivative claims related to nine specific
transactions reviewed by the Special Litigation Committee; (f) make certain
supplemental disclosures with respect to certain of the related party
transactions that were the subject of the complaints, and (g), with respect to
one of the nine related party transactions reviewed by the Special Litigation
Committee, seek reimbursement of a portion of compensation paid to an employee
of the Company during the period 1995-1996 (which compensation was recovered by
the Company in December 2000). In each case, the Company's Board of Directors
affirmed the Special Litigation Committee's findings and recommendations and
directed management to implement the specific recommendations as promptly as
practicable.
In its final report delivered on January 25, 2001, the Special
Litigation Committee found that it "has uncovered absolutely no evidence of any
pattern of behavior that would suggest any motive to disadvantage the Company on
the part of any of UICI's present or former officers or directors," and
concluded that, in its opinion and except with respect to the compensation
previously recovered from the employee and the legal fees previously recovered
from Mr. Jensen (see discussion above), the "related party transactions that
were undertaken accrued to the significant benefit of UICI." Finally, the
Special Litigation Committee recommended dismissal of plaintiff's lawsuit in its
entirety. At a meeting held on February 28, 2001, the UICI Board of Directors
accepted the final recommendations and conclusions of the Special Litigation
Committee.
On June 20, 2001, the Court granted UICI's motion to dismiss the case
in its entirety, reserving the issue of attorneys' fees and expenses, which may
be awarded under Texas law. Plaintiff subsequently filed an application for
attorneys' fees and reimbursement of expenses, alleging that he was entitled to
approximately $2.7 million in legal
13
fees and approximately $34,000 in expenses. Alleging that the case was brought
for an improper purpose, the Company also filed an application for its
attorneys' fees and reimbursement of expenses in the aggregate amount of
approximately $2.3 million.
Following a three-day trial held in September and October 2001 on the
issue of attorneys' fees, on October 14, 2001 the Court entered a final judgment
in the case. In its final order, the Court (a) found that plaintiff through the
derivative proceeding had conferred a "substantial benefit" upon UICI and, as a
result, the Court ordered UICI to pay attorneys' fees to plaintiff in the amount
of $540,000; (b) found that, as to the individual defendants (other than Mr.
Jensen), plaintiffs had commenced and maintained the litigation for an "improper
purpose" under Texas law and, as a result, the Court ordered the plaintiff to
pay to UICI the amount of $167,000, representing attorneys' fees expended by
UICI on behalf of such individual defendants in the case; and (c) awarded to
UICI the amount of $14,000, representing fees incurred by UICI in defense of a
specific motion made by plaintiff in the litigation not warranted by existing
law or a good faith argument for the extension, modification or reversal of
existing law. Finally, the Court found that certain statements made by plaintiff
in the pleadings in the case were "groundless, false and brought for the purpose
of harassment and with the intent to cause harm to or injure" Mr. Jensen and
UICI, for which the plaintiff was ordered to pay to Mr. Jensen $5,000 as a
judicial sanction in accordance with Texas law. The final judgment is appealable
by all of the parties to the litigation, though UICI has not yet determined
whether or not it intends to appeal the decision.
ACE and AFCA Litigation
As previously disclosed, the Company is a party to a lawsuit (American
Credit Educators, LLC and American Fair Credit Association, Inc. v. UICI and
United Credit National Bank, pending in the United States District Court for the
District of Colorado), which was initially filed as separate lawsuits in
February 2000 by American Credit Educators, LLC ("ACE") and American Fair Credit
Association, Inc. ("AFCA"), organizations through which United CreditServ
formerly marketed its credit card programs. In the suit, plaintiffs initially
alleged, among other things, that UCNB breached its agreements with ACE and
AFCA, sought injunctive relief and a declaratory judgment and claimed money
damages in an indeterminate amount. ACE and AFCA are each controlled by Phillip
A. Gray, the former head of UICI's credit card operations.
On June 11, 2001, UICI and UCNB filed a motion for a preliminary and
permanent injunction against ACE to prevent ACE from further collection
activities with respect to certain UCNB cardholder accounts and to require ACE
to remove all negative credit bureau reports related to such collection
activities. A hearing on the injunction motion was held on November 2, 2001.
On July 26, 2001, the Court issued an order granting UICI's motion to
substitute UICI for UCNB as a party defendant and dismissing a significant
number of plaintiffs' claims. UICI's motion to dismiss was denied by the Court
as to AFCA's claims for breach of contract, declaratory judgment and
interference with contractual relations and ACE's claims for breach of contract
and for an accounting.
In its answer filed on August 15, 2001, the Company asserted numerous
defenses to the plaintiffs' remaining claims. UICI and United CreditServ also
asserted numerous counterclaims against ACE and AFCA, including, among other
things, breach of contract, breach of fiduciary duty, fraud and civil
conspiracy, and UICI and UCS have claimed damages in an indeterminate amount.
ACE and AFCA have filed a partial motion to dismiss the counterclaims, and
UICI's and United CreditServ's response to that motion was filed on October 29,
2001.
The Company intends to vigorously defend and pursue its counterclaims
in the litigation.
In a separate suit filed on March 26, 2001 (UICI, United Marketing
Membership Group, Inc., and UMMG-Colorado, LLC f/k/a United Membership Marketing
Group Ltd. Liability Co. v. Philip A. Gray and PAG Family Partners, LLC.,
pending in the District Court of Dallas County, Texas), the Company sued Philip
A. Gray individually ("Gray") and a related limited liability company, alleging,
among other things, fraud, negligent misrepresentation, and breach of fiduciary
duty in connection with the Company's sub prime credit card business.
On April 30, 2001, Gray answered and removed the case to the United
States District Court for the Northern District of Texas. The Company
subsequently moved to remand the case back to Texas state court, which motion is
pending before the court.
14
Mitchell Litigation
As previously disclosed, the Company is one of three named defendants
in a class action suit filed in 1997 (Dadra Mitchell v. American Fair Credit
Association, United Membership Marketing Group, LLC and UICI) pending in
California state court (the "Mitchell case"), in which plaintiffs have alleged
that defendants violated California law regarding unfair and deceptive trade
practices by making misleading representations about, and falsely advertising
the nature and quality of, the benefits of membership in American Fair Credit
Association ("AFCA"). Plaintiffs also filed a companion case in federal district
court in San Francisco captioned Dadra Mitchell v. BankFirst, N.A., which
alleges violations of the federal Truth in Lending Act and Regulation Z. on the
theory that the 90-day notice period required for termination of AFCA membership
was not properly disclosed. The sole defendant in the federal case (the
"BankFirst case") is BankFirst, N.A., a bank that issued a VISA credit card made
available through the AFCA program.
On May 4, 2000, the court in the BankFirst case granted BankFirst's
motion for summary judgment and entered a judgment terminating the case in favor
of BankFirst and against plaintiff Mitchell. Plaintiff Mitchell subsequently
filed a notice of appeal to the United States Court of Appeals for the Ninth
Circuit. Oral argument on the appeal was held on November 6, 2001.
In October 2000, the state court in the Mitchell case granted, in part,
and denied, in part the joint motions of UICI, AFCA and UMMG to compel
arbitration and to narrow the scope of the plaintiff class. The court severed
from the class action the claims for recovery of money by way of damages or
restitution of class members who joined AFCA after January 1, 1998 and who
executed signed arbitration agreements. However, the state court denied UICI's
motion to compel arbitration with respect to these class members' claims for
injunctive relief and, as a result, their claims for injunctive relief remain
part of the class action. With respect to class members who were existing
members of AFCA in January of 1998 and who received through the mail an
amendment adding arbitration of disputes to their AFCA membership agreement, the
state court denied UICI's motion to compel arbitration unless the member also
signed a separate arbitration agreement. In addition, the state court clarified
that its prior April 12, 1999 order certified a class with respect to all claims
pleaded in the complaint, not solely claims under the California Credit Services
Act of 1984.
On October 12, 2000, UICI, jointly with defendants AFCA and UMMG, filed
a Notice of Appeal from the state court's October 2000 orders and from its
original class certification order dated April 12, 1999. By letter dated October
12, 2000, defendants notified plaintiffs of the filing of their Notice of Appeal
and, consequently, all trial court proceedings in the Mitchell case were stayed.
As of September 17, 2001, UICI's appeal in the California Court of Appeals was
fully briefed and awaiting further proceedings.
UICI has not received notice from plaintiff Mitchell of a motion for
any relief from the stay, and there have been no further proceedings in the
state court. Accordingly, at this time, it is unclear whether or not plaintiffs
will move for relief from the stay of proceedings, and, if so, what relief from
the stay, if any, will be granted to plaintiffs pending the outcome of UICI's
appeal.
Reinsurance Litigation
As previously disclosed, on November 3, 2000, The MEGA Life and Health
Insurance Company (a wholly-owned subsidiary of the Company) ("MEGA") was named
as a party defendant in a suit filed by General & Cologne Life Re of America
("Cologne Re") (General & Cologne Life Re of America vs. The MEGA Life and
Health Insurance Company), which is currently pending in the High Court of
Justice, Queen's Bench Division, Commercial Court, Royal Courts of Justice, in
London, England. Plaintiff has alleged that it is due the sum of Pound
Sterling1,592,358.54 (approximately US $2.3 million as of September 30, 2001)
for losses incurred in a health insurance program in the United Kingdom in which
Cologne Re was a cedent of reinsurance and MEGA was Cologne Re's
retrocessionaire.
The dispute centers on alleged disclosures and non-disclosures
concerning the program and the financial condition of the third party
administrator. A defense has been filed by MEGA, and Cologne Re recently
submitted a reply pleading, which is presently under review by counsel. English
law provides for extensive document discovery, which is being undertaken by both
parties.
15
The Company believes that MEGA has meritorious defenses and
counterclaims against Cologne Re, which it intends to pursue vigorously.
Gottstein Litigation
As previously disclosed, UICI, Ronald L. Jensen, and UGA, Inc. are
party defendants in a purported class action lawsuit filed in November 1998
(Gottstein, et al. v. The National Association for the Self-Employed, et al.,
pending in the United States District Court for the District of Kansas). The
class representatives have alleged fraud, conspiracy to commit fraud, breach of
fiduciary duty, violation of the Kansas Consumer Protection Act, conspiracy to
commit RICO violations, and violation of RICO, all arising out of the concurrent
sales of individual health insurance policies underwritten and marketed by PFL
Life Insurance Company ("PFL") and memberships in The National Association for
the Self-Employed. On February 1, 2001, the court approved a settlement
including all potential class members in all states, including Kansas. Under the
terms of a cost sharing agreement with a unit of AEGON USA, UICI and/or MEGA
will be obligated to reimburse the AEGON USA unit for 50% of the cash cost of
the settlement.
Disposition of the case under the current terms of the settlement will
not have a material adverse effect upon the Company.
State of Connecticut Investigation
As previously disclosed, on April 19, 2000, the Connecticut Attorney
General's Office served upon UCNB a Civil Investigative Demand, seeking
information regarding UCNB's credit card fees, disclosures, marketing practices,
affinity relationships and the handling of payments from consumers to UCNB. On
May 26, 2000, UCNB submitted a timely response to the information request.
Comptroller of the Currency Consent Order
As previously disclosed, the Company is subject to a Consent Order,
initially issued by the United States Office of the Comptroller of the Currency
(the "OCC") on June 29, 2000 and as modified on January 29, 2001, confirming the
obligations of the Company to assume all obligations of UCNB. Until January 29,
2001, UCNB was a special purpose national bank headquartered in Sioux Falls,
South Dakota, and an indirect wholly owned (except for directors' qualifying
shares) subsidiary of the Company. On January 29, 2001, the Company completed
the voluntary liquidation of UCNB, in accordance with the terms of a plan of
voluntary liquidation approved by the OCC.
In the event that UICI fails to comply with the terms of the Consent
Order, as modified, such failure could result in sanctions brought against the
Company and its officers and directors, including the assessment of civil money
penalties and enforcement of the Consent Order in Federal District Court.
Roe Litigation
As previously disclosed, on March 8, 2001, UICI and UCNB were named as
defendants in a case (Timothy M. Roe v. Phillip A. Gray, American Fair Credit
Association, Inc., UICI, UCNB, et al) filed in the U.S. District Court for the
District of Colorado. On his own behalf and on behalf of a purported class of
similarly situated individuals, plaintiff in connection with the AFCA credit
card program has alleged breach of contract and violations of the federal Credit
Repair Organizations Act and the Truth-In-Lending Act and seeks certain
declaratory relief.
On October 10, 2001, the Court granted the motion of UICI, UCNB and
each of the other named defendants to stay the litigation (the "Colorado
action") pending arbitration pursuant to the Federal Arbitration Act.
Accordingly, the court in the Colorado action entered an order administratively
retiring the Colorado action from its docket subject to reactivation for good
cause shown. The defendants had previously filed a petition to compel
arbitration against the individual named plaintiff in the United States District
Court for the Eastern District of North Carolina, the judicial district wherein
the named plaintiff resides. The petitions to compel arbitration are pending.
The Company intends to pursue arbitration in North Carolina of the
individual plaintiff's claims (as set forth in the complaint in the Colorado
action.) The Company believes that it has meritorious defenses to these
allegations and intends to vigorously contest these allegations in the proper
forum.
16
New Mexico Class Action Litigation
As previously disclosed, on June 1, 2001, UICI and MEGA were served as
parties defendant in a purported class action (Frances C. Chandler, Individually
and as a Representative of a Class of Similarly Situated Persons, vs. PFL Life
Insurance Company, UICI, The MEGA Life and Health Insurance Company, et al.)
initially filed on January 12, 2001 and pending in United States District Court
for the District of New Mexico (Albuquerque). On her own behalf and on behalf of
an alleged class of similarly situated individuals, plaintiff has alleged that
sales materials associated with a group hospital benefit health insurance plan
sponsored, marketed, underwritten, reinsured and/or administered by defendants
contained incomplete, inaccurate, misleading and/or false statements, and that
benefits and treatment were denied plaintiffs with attendant credit damage, pain
and suffering and loss of enjoyment. Plaintiffs have alleged, among other
things, breach of contract, misrepresentation, breach of fiduciary duties,
unjust enrichment, and the violation of the duty of good faith and fair dealing.
Plaintiffs initially brought the case in New Mexico state court, and
the case was subsequently removed to federal court on the basis of diversity and
amount in controversy. Defendants filed an answer denying all claims on July 6,
2001, and plaintiffs subsequently filed a motion to remand the case to state
court, which motion is pending. Since this class action suit is in a preliminary
stage, no discovery has been conducted and the Company is unable at this time to
assess its ultimate exposure, if any, in the case.
United Credit National Bank Shareholder Derivative Litigation
As previously disclosed, various former directors and officers of
United Credit National Bank have been named as defendants in a shareholder
derivative action (William K. Lester, on behalf of United Credit National Bank,
v. Ronald L. Jensen, Gregory T. Mutz, et al), which was filed on June 29, 2001
and is pending in the District Court of Harris County, Texas. The plaintiff has
asserted on behalf of UCNB various derivative claims brought against the
individual defendants, alleging, among other things, negligence in connection
with the operations of UCNB. In December 2000, plaintiff made a demand on the
Board of Directors of United Credit National Bank to investigate and assess
certain alleged derivative claims. The Board of Directors constituted a special
committee to investigate and assess the asserted derivative claims, and the
special committee determined that the claims were wholly without merit.
A number of defendants have filed special appearances challenging the
Court's personal jurisdiction, and the remaining defendants who have been served
in the case have filed a motion to transfer the case to Texas state court in
Dallas. Several individual defendants have not yet been personally served in the
case. The Court has set a June 17, 2002 trial date.
UICI has agreed to advance the expenses of the individual defendants
incurred in connection with the defense of the case, subject to the defendants'
undertaking to repay such advances unless it is ultimately determined that they
are or would have been entitled to indemnification by UICI under the terms of
the Company's bylaws.
Academic Management Services Corp. Class Action Litigation
As previously disclosed, Academic Management Services Corp. (formerly
Education Finance Group, Inc.) has been named as a party defendant in a
purported class action suit (Timothy A. McCulloch, et al. v. Educational Finance
Group Inc. et al) filed on June 20, 2001 in the United States District Court for
the Southern District of Florida (Miami). On his own behalf and on behalf of an
alleged class of similarly situated individuals, plaintiff has alleged, among
other things, that, in connection with the marketing and origination of
federally-insured Parent Plus student loans, AMS and other defendants violated
certain provisions of the federal Higher Education Act, were negligent,
committed mail and wire fraud, breached a fiduciary duty owed to plaintiffs and
made negligent misrepresentations.
On October 19, 2001, the Court granted defendants' motion to dismiss
the case in its entirety, dismissing with prejudice plaintiffs' claims under the
Higher Education Act and dismissing without prejudice plaintiffs' state law
claims. Plaintiff's motion to reconsider the motion to dismiss is currently
pending before the Court.
17
The Company believes that the claims are wholly without merit, and AMS
intends to vigorously contest the case.
Other Matters
The Company and its subsidiaries are parties to various other pending
legal proceedings arising in the ordinary course of business, including some
asserting significant damages arising from claims under insurance policies,
disputes with agents and other matters. Based in part upon the opinion of
counsel as to the ultimate disposition of such lawsuits and claims, management
believes that the liability, if any, resulting from the disposition of such
proceedings will not be material to the Company's financial condition or results
of operations.
NOTE H - SEGMENT INFORMATION
The Company's operating segments included in operations are: (i)
Insurance, which includes the businesses of the Self Employed Agency Division,
the Student Insurance Division, the OKC Division, the Special Risk Division, the
Senior Markets Division, and the National Motor Club Division (which the Company
sold on July 27, 2000); (ii) Financial Services, which includes the businesses
of Academic Management Services Corp. ("AMS"), the Company's investment in
Healthaxis, Inc. (formerly HealthAxis.com, Inc.) and Third Party Administration
(formerly UICI Administrators), and (iii) Other Key Factors.
Other Key Factors includes (a) investment income not allocated to other
business segments, (b) interest on non-student loan indebtedness, (c) general
expenses relating to corporate operations, (d) realized gains or losses on sale
of investments (e) the operations of the Company's AMLI Realty Co. subsidiary
(including AMLI Realty Co.'s 20% equity interest in AMLI Commercial Properties
Trust, a private real estate investment trust), (f) minority interest, (g)
variable stock compensation and (h) amortization of goodwill. Allocations of
investment income and certain general expenses are based on a number of
assumptions and estimates, and the business segments reported operating results
would change if different methods were applied. Certain assets are not
individually identifiable by segment and, accordingly, have been allocated by
formulas. Segment revenues include premiums and other policy charges and
considerations, net investment income, fees and other income. Operations that do
not constitute reportable operating segments have been combined with Other Key
Factors. Depreciation expense and capital expenditures are not considered
material. Management does not allocate income taxes to segments. Transactions
between reportable operating segments are accounted for under respective
agreements, which provide for such transactions generally at cost.
18
Revenues, income from continuing operations before federal income
taxes, and assets by operating segment are set forth in the tables below:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
(IN THOUSANDS)
Revenues
Insurance:
Self Employed Agency .................... $ 179,342 $ 141,043 $ 503,399 $ 416,545
Student Insurance ....................... 23,163 19,050 81,477 74,754
OKC Division ............................ 25,826 23,175 74,165 69,756
Special Risk ............................ 3,952 13,774 22,596 34,006
Senior Markets .......................... 2 -- 2 --
National Motor Club ..................... -- 3,340 -- 21,697
---------- ---------- ---------- ----------
232,285 200,382 681,639 616,758
Financial Services:
Academic Management Services ............ 28,475 40,408 106,161 121,396
Third Party Administration .............. 6,091 5,347 18,669 14,704
Gain on sale of HealthAxis.com shares ... -- -- -- 26,300
---------- ---------- ---------- ----------
34,566 45,755 124,830 162,400
Other Key Factors ......................... 9,908 10,183 25,946 26,866
Intersegment Eliminations ................. (591) (1,079) (2,507) (3,604)
---------- ---------- ---------- ----------
Total revenues ............................... $ 276,168 $ 255,241 $ 829,908 $ 802,420
========== ========== ========== ==========
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
(IN THOUSANDS)
Income (loss) from continuing operations before federal income taxes:
Insurance:
Self Employed Agency ............................................... $ 19,220 $ 17,536 $ 55,421 $ 53,353
Student Insurance .................................................. 1,235 (979) 2,549 (888)
OKC Division ....................................................... 3,025 3,700 6,585 10,105
Special Risk ....................................................... (2,699) (135) (3,104) 408
Senior Markets ..................................................... (537) -- (1,321) --
National Motor Club ................................................ -- 63 -- 2,471
---------- ---------- ---------- ----------
20,244 20,185 60,130 65,449
Financial Services:
Academic Management Services ....................................... (852) (3,022) 4,657 (12,274)
Third Party Administration ......................................... (375) (600) (1,434) (740)
Gain on sale of HealthAxis.com shares .............................. -- -- -- 26,300
Equity in Healthaxis, Inc. operating loss .......................... (1,272) (1,115) (9,237) (16,269)
---------- ---------- ---------- ----------
(2,499) (4,737) (6,014) (2,983)
Other Key Factors:
General corporate expenses and other (including
interest on non-student loan indebtedness) ....................... 3,510 2,881 6,266 8,035
Variable stock compensation ........................................ (2,890) (510) (4,710) (510)
Goodwill amortization .............................................. (1,172) (1,333) (3,517) (4,570)
---------- ---------- ---------- ----------
(552) 1,038 (1,961) 2,955
Total income from continuing operations before federal income taxes ..... $ 17,193 $ 16,486 $ 52,155 $ 65,421
========== ========== ========== ==========
19
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- ------------
(IN THOUSANDS)
Assets
Insurance:
Self Employed Agency ............. $ 549,024 $ 446,106
Student Insurance ................ 77,852 78,197
OKC Division ..................... 792,597 666,552
Special Risk ..................... 98,409 97,647
------------ ------------
1,517,882 1,288,502
Financial Services:
Academic Management Services ..... 1,644,053 1,479,217
Third Party Administration ....... 5,642 6,392
Investment in Healthaxis, Inc. ... 9,638 18,442
------------ ------------
1,659,333 1,504,051
Other Key Factors:
General corporate and other ...... 87,372 163,361
Goodwill ......................... 89,353 92,120
------------ ------------
176,725 255,481
Total assets ........................... $ 3,353,940 $ 3,048,034
============ ============
NOTE I - RELATED PARTY TRANSACTIONS
Historically, the Company and its subsidiaries have engaged from time
to time in transactions and joint investments with executive officers and
entities controlled by executive officers, particularly Ronald L. Jensen (the
Company's Chairman) and entities in which Mr. Jensen and his adult children have
an interest.
Sale of Interest in SunTech Processing LLC
As previously disclosed, by letter dated July 7, 2000, Mr. Jensen
submitted a formal proposal to purchase the Company's 80% interest in SunTech
Processing LLC ("STP") for $15.6 million ("Proposal A") or, alternatively, to
purchase for $15.1 million the Company's rights and claim of rights to receive
funds held in the registry of the Court in the Sun Litigation ("Proposal B").
See Note G of Notes to Consolidated Condensed Financial Statements.
The Company solicited the consent of Sun Communications Inc. ("Sun") to
the transfer so that the Company might accept Proposal A, but Sun was unwilling
to grant such consent and also objected to Proposal B, claiming that Sun's
consent is required to consummate either Proposal. Following approval of the
disinterested outside directors of UICI in accordance with the related party
transactions policies and procedures adopted by the UICI Board, on July 21,
2000, the Company formally accepted Proposal A and, in the alternative, Proposal
B. On November 22, 2000, the Court in the Company's pending Shareholder
Derivative Litigation (see Note G of Notes to Consolidated Condensed Financial
Statements) approved the alternative settlements between Mr. Jensen and the
Company, subject to any alleged right on the part of Sun to consent to Proposal
A and/or Proposal B.
The Company subsequently sued Sun separately (UICI v. Sun
Communications, Inc., pending in 134th Judicial District Court of Dallas County,
Texas, Cause No. 009353), seeking to resolve the consent issue. On October 16,
2001, the Court granted UICI's motion for partial summary judgment and ordered,
among other things, that (a) Sun's consent to Proposal B is not required, (b) no
injunction or order previously issued by the Court precludes or otherwise limits
UICI from completing Proposal A and (c) Sun waived and is estopped to assert any
right to prevent UICI's assignment of its interest in STP as contemplated by
Proposal A. The Company is in the process of preparing definitive documentation
to effect Proposal A.
Acquisition of AMS Minority Interest
On August 3, 2001, the Company completed the acquisition from AMS'
former chief executive officer of the remaining 25% common stock interest in AMS
it did not already own for a purchase price of $750,000. For additional
consideration, the former chief executive officer and certain former employees
of AMS agreed, for a three-year period ending in August 2004, not to engage in
any business competitive with AMS' tuition installment or student loan servicing
businesses. These former executives and their affiliates further agreed to pay
to AMS fees
20
in prescribed amounts in connection with the origination and consolidation of
certain student loans over a three-year period ending in August 2004.
NOTE J - EMPLOYEE AND AGENT STOCK ACCUMULATION PLANS
UICI Employee Stock Ownership and Savings Plan
The Company maintains for the benefit of its and its subsidiaries'
employees the UICI Employee Stock Ownership and Savings Plan (the "Employee
Plan"). The Employee Plan through its 401(k) feature enables eligible employees
to make pre-tax contributions to the Employee Plan in an amount not in excess of
15% of compensation (subject to overall limitations) and to direct the
investment of such contributions among several investment options, including
UICI common stock. A second feature of the Employee Plan constitutes an employee
stock ownership plan (the "ESOP"), contributions to which are invested primarily
in shares of UICI common stock. The ESOP feature allows participants to receive
from UICI and its subsidiaries discretionary matching contributions and to share
in certain supplemental contributions made by UICI and its subsidiaries.
Contributions by UICI and its subsidiaries to the Employee Plan under the ESOP
feature currently vest in prescribed increments over a seven-year period.
On August 11, 2000, the Company issued to the Employee Plan 1,610,000
shares of UICI common stock at a purchase price of $5.25 per share or $8.5
million in the aggregate. The purchase price for the shares was paid by delivery
to UICI of the Employee Plan's $8.5 million promissory note (the "Plan Note"),
which matures in three years and is secured by a pledge of the purchased shares.
The shares of UICI common stock purchased with the Plan Note (the "$5.25 ESOP
Shares") are held in a suspense account for allocation among participants as and
when the Company's matching and supplemental contributions to the ESOP are made.
It is expected that the Plan Note will be extinguished over a period of
approximately two years by crediting the Company's matching and supplemental
contribution obligations under the ESOP feature of the Employee Plan against
principal and interest due on the Plan Note.
During the nine months ended September 30, 2001, the Company recorded
compensation expense associated with contributions to the Employee Plan in the
amount of $5.1 million. Included in the $5.1 million expense is $2.3 of stock
appreciation, which is reflected in other expenses on the Company's consolidated
statement of income. The amount classified as stock appreciation expense
represents the incremental compensation expense associated with the allocation
during the nine months ended September 30, 2001 of 485,000 $5.25 ESOP Shares to
fund the Company's matching and supplemental contributions to the ESOP. As and
when the Company makes matching and supplemental contributions to the ESOP by
allocating to participants' accounts the $5.25 ESOP Shares held in the suspense
account, the Company will record additional compensation expense equal to the
excess, if any, between the fair value of the shares allocated and $5.25 per
share. Stock appreciation expense is non-cash and will accordingly have no
impact on the Company's cash flows or liquidity. The allocated $5.25 ESOP Shares
are considered outstanding for purposes of the computation of earnings per
share.
The Company currently estimates that approximately 620,000 $5.25 ESOP
Shares will be allocated to participants' ESOP accounts during 2001. The fair
value of the 770,000 unallocated $5.25 ESOP Shares totaled $10.5 million at
September 30, 2001.
Agent Stock Accumulation Plans
The Company sponsors a series of stock accumulation plans (the "Agent
Plans") established for the benefit of the independent insurance agents and
independent sales representatives associated with UGA - Association Field
Services, New United Agency, Cornerstone Marketing of America and CFLD
Association Field Services.
The Agent Plans generally combine an agent-contribution feature and a
Company-match feature. The agent-contribution feature generally provides that
eligible participants are permitted to allocate a portion (subject to prescribed
limits) of their commissions or other compensation earned on a monthly basis to
purchase shares of UICI common stock at the fair market value of such shares at
the time of purchase. Under the Company-match feature of the Agent Plans,
participants are eligible to have posted to their respective Agent Plan accounts
book credits in the form of equivalent shares based on the number of shares of
UICI common stock purchased by the participant under the agent-contribution
feature of the Agent Plans. The "matching credits" vest over time (generally in
prescribed
21
increments over a ten-year period, commencing the plan year following the plan
year during which contributions are first made under the agent-contribution
feature), and vested matching credits in a participant's plan account in January
of each year are converted from book credits to an equivalent number of shares
of UICI common stock. Matching credits forfeited by participants no longer
eligible to participate in the Agent Plans are reallocated each year among
eligible participants and credited to eligible participants' Agent Plan
accounts.
The Agent Plans do not constitute qualified plans under Section 401(a)
of the Internal Revenue Code of 1986 or employee benefit plans under the
Employee Retirement Income Security Act of 1974 ("ERISA"), and the Agent Plans
are not subject to the vesting, funding, nondiscrimination and other
requirements imposed on such plans by the Internal Revenue Code and ERISA.
Prior to July 1, 2000, the Company granted matching credits in an
amount equal to the number of shares of UICI common stock purchased by the
participant under the agent-contribution feature of the Agent Plans. Effective
July 1, 2000, the Company modified the formula for calculating the number of
matching credits to be posted to participants' accounts. During the period
beginning July 1, 2000 and ending on the earlier of June 30, 2002 or the date
that an aggregate of 2,175,000 share equivalents have been granted under this
revised formula, the number of matching credits issued to an individual
participant will be the greater of (a) the number of matching credits determined
each month by dividing the dollar amount of the participant's contribution for
that month by $5.25, or (b) the actual number of shares acquired, at
then-current fair market value, by the participant's contribution amount.
Prior to July 1, 2000, the Company purchased UICI shares in the open
market from time to time to satisfy its commitment to issue its shares upon
vesting of matching credits under the Agent Plans. During the period beginning
July 1, 2000 and ending June 30, 2002, the Company will utilize up to 2,175,000
newly-issued shares to satisfy its commitment to deliver shares that will vest
under the Company-match feature of the Agent Plans. Under the arrangement
effective July 1, 2000, the Company's subsidiaries will transfer to the Company
$5.25 per share for any newly issued shares utilized to fund vested matching
credits under the Plans.
For financial reporting purposes, the Company accounts for the
Company-match feature of its Agent Plans under EITF 96-18 "Accounting for Equity
Instruments that are issued to Other Than Employees for Acquiring or in
Connection with Selling Goods and Services," by recognizing commission expense
over the vesting period in an amount equal to the fair market value of vested
shares at the date of their vesting and distribution to the participants. At
each quarter-end, the Company estimates its current liability for unvested
matching credits by reference to the number of unvested credits, the current
market price of the Company's common stock, and the Company's estimate of the
percentage of the vesting period that has elapsed up to the current quarter end.
Changes in the liability from one quarter to the next are accounted for as an
increase in, or decrease to, commission expense, as the case may be. Upon
vesting, the Company releases the accrued liability (equal to the market value
of the vested shares at date of vesting) with a corresponding increase to
paid-in capital. Unvested matching credits are considered share equivalents
outstanding for purposes of the computation of earnings per share.
For the nine months ended September 30, 2001 and 2000, the Company
recorded commission expense associated with the Agent Plans in the amount of
$4.3 million and $2.2 million, respectively.
At September 30, 2001, the Company had recorded approximately 1.5
million unvested matching credits associated with the Agent Plans, of which the
Company estimates 434,000 will vest at January 1, 2002.
The accounting treatment of the Company's Agent Plans will result in
unpredictable stock-based commission expense charges, dependent upon
fluctuations in the quoted price of UICI common stock. These unpredictable
fluctuations in stock based commission charges may result in material non-cash
fluctuations in the Company's results of operations. In periods of general
decline in the quoted price of UICI common stock, if any, the Company will
recognize less stock based commission expense than in periods of general
appreciation in the quoted price of UICI common stock. In addition, in
circumstances where increases in the quoted price of UICI common stock are
followed by declines in the quoted price of UICI common stock, negative
commission expense may result as the Company adjusts the cumulative liability
for unvested stock-based commission expense.
22
ITEM 2 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
The Company's business segments included in operations are: (i)
Insurance, which includes the businesses of the Self Employed Agency Division,
the Student Insurance Division, the OKC Division, the Special Risk Division, the
Senior Markets Division and the National Motor Club Division (which the Company
sold July 27, 2000); (ii) Financial Services, which includes the businesses of
Academic Management Services Corp., the Company's investment in Healthaxis,
Inc., (formerly Insurdata Incorporated), and Third Party Administration
(formerly UICI Administrators) and (iii) Other Key Factors, which includes (a)
investment income not allocated to other business segments, (b) interest on
non-student loan indebtedness, (c) general expenses relating to corporate
operations, (d) realized gains or losses on sale of investments (e) the
operations of the Company's AMLI Realty Co. subsidiary (including AMLI Realty
Co.'s 20% equity interest in AMLI Commercial Properties Trust, a private real
estate investment trust), (f) minority interest, (g) variable stock compensation
and (h) amortization of goodwill. Allocation of investment income is based on a
number of assumptions and estimates and the business segments reported operating
results would change if different methods were applied. Segment revenues include
premiums and other policy charges and considerations, net investment income,
fees and other income.
The Company continues to monitor the long term effects of the September
11, 2001 terrorist attacks in New York City and Washington, D.C. on its
underlying insurance businesses. The Company's primary business is the sale and
distribution of health insurance, primarily to the self-employed market, through
dedicated agency field forces. UICI does not distribute its health insurance
products in the State of New York, and UICI's insurance subsidiaries do not
issue property and casualty or business interruption insurance. While UICI
temporarily suspended prospect lead generation efforts immediately following the
tragedy, those efforts were promptly reinstated and sales efforts continued.
While the long-term macro effects of the tragedy on the economy as a whole are
at this time impossible to predict, UICI does not currently believe that the
tragic events of September 11 will have a direct and material adverse impact on
its primary businesses.
Revenues and income from continuing operations before federal income
taxes ("operating income") by business segment are summarized in the tables
below:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- ----------------------------
2001 2000 2001 2000
------------ ------------ ------------ ------------
(IN THOUSANDS)
Revenues
Insurance:
Self Employed Agency .................... $ 179,342 $ 141,043 $ 503,399 $ 416,545
Student Insurance ....................... 23,163 19,050 81,477 74,754
OKC Division ............................ 25,826 23,175 74,165 69,756
Special Risk ............................ 3,952 13,774 22,596 34,006
Senior Markets .......................... 2 -- 2 --
National Motor Club ..................... -- 3,340 -- 21,697
------------ ------------ ------------ ------------
232,285 200,382 681,639 616,758
Financial Services:
Academic Management Services ............ 28,475 40,408 106,161 121,396
Third Party Administration .............. 6,091 5,347 18,669 14,704
Gain on sale of HealthAxis.com shares ... -- -- -- 26,300
------------ ------------ ------------ ------------
34,566 45,755 124,830 162,400
Other Key Factors ......................... 9,908 10,183 25,946 26,866
Intersegment Eliminations ................. (591) (1,079) (2,507) (3,604)
------------ ------------ ------------ ------------
Total revenues ............................... $ 276,168 $ 255,241 $ 829,908 $ 802,420
============ ============ ============ ============
23
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2001 2000 2001 2000
---------- ---------- ---------- ----------
(IN THOUSANDS)
Income (loss) from continuing operations before federal income taxes:
Insurance:
Self Employed Agency ............................................... $ 19,220 $ 17,536 $ 55,421 $ 53,353
Student Insurance .................................................. 1,235 (979) 2,549 (888)
OKC Division ....................................................... 3,025 3,700 6,585 10,105
Special Risk ....................................................... (2,699) (135) (3,104) 408
Senior Markets ..................................................... (537) -- (1,321) --
National Motor Club ................................................ -- 63 -- 2,471
---------- ---------- ---------- ----------
20,244 20,185 60,130 65,449
Financial Services:
Academic Management Services ....................................... (852) (3,022) 4,657 (12,274)
Third Party Administration ......................................... (375) (600) (1,434) (740)
Gain on sale of HealthAxis.com shares .............................. -- -- -- 26,300
Equity in Healthaxis, Inc. operating loss .......................... (1,272) (1,115) (9,237) (16,269)
---------- ---------- ---------- ----------
(2,499) (4,737) (6,014) (2,983)
Other Key Factors:
General corporate expenses and other (including
interest on non-student loan indebtedness) ....................... 3,510 2,881 6,266 8,035
Variable stock compensation ........................................ (2,890) (510) (4,710) (510)
Goodwill amortization .............................................. (1,172) (1,333) (3,517) (4,570)
---------- ---------- ---------- ----------
(552) 1,038 (1,961) 2,955
Total income from continuing operations before federal income taxes ..... $ 17,193 $ 16,486 $ 52,155 $ 65,421
========== ========== ========== ==========
Three and Nine Months ended September 30, 2001 compared to Three and Nine Months
ended September 30, 2000
For the three months ended September 30, 2001, the Company generated
revenues and net income of $276.2 million and $11.9 million ($0.25 per diluted
share), respectively, compared to revenues and net income of $255.2 million and
$9.0 million ($0.19 per diluted share), respectively, for the three months ended
September 30, 2000. For the nine months ended September 30, 2001, the Company
generated revenues and net income of $829.9 million and $36.6 million ($0.77 per
diluted share), respectively, compared to revenues and net income of $802.4
million and $11.8 million ($0.29 per diluted share), respectively, for the nine
months ended September 30, 2000.
Self-Employed Agency ("SEA") Division
Operating income for the SEA Division increased to $19.2 million and
$55.4 million for the three and nine months ended September 30, 2001, from $17.5
million and $53.4 million for the comparable three and nine-month periods ended
September 30, 2000. Revenues for the SEA Division increased to $179.3 million
and $503.4 million for the three and nine months ended September 30, 2001, from
$141.0 million and $416.5 million for the comparable periods in 2000. During the
nine months ended September 30, 2001, the SEA Division continued to experience
substantial growth in submitted annualized premium volume ($395.2 million for
the first nine months of 2001 compared to $248.6 million for the first nine
months of 2000), continued to successfully direct newer sales to the more
traditional, higher margin, indemnity products (sales of indemnity products
represented 86.2% of new production in the first nine months of 2001 compared to
63.1% of new production in the first nine months of 2000), and maintained loss
ratios consistent with its favorable experience during 2000 (59.9% for the first
nine months of 2001 compared to 60.0% for the nine months of 2000).
Student Insurance Division
The Student Insurance Division operating income increased to $1.2
million and $2.5 million for the three and nine months ended September 30, 2001,
from losses of $(979,000) and $(888,000) for the comparable 2000 periods,
respectively. The increase in operating income for the three and nine months
ended September 30, 2001 was attributable primarily to increases in earned
premium over earned premium in the corresponding 2000 periods and continued
improvement in administrative efficiencies. Revenue for the three and nine
months ended September 30, 2001 from the Student Insurance Division increased to
$23.2 million and $81.5 million, respectively, from $19.1 million and $74.8
million in the corresponding 2000 periods.
24
OKC Division
The Company's OKC Division reported operating income of $3.0 million
for the three months ended September 30, 2001, compared to operating income of
$3.7 million for the comparable period in 2000. For the nine months ended
September 30, 2001, the OKC Division reported operating income of $6.6 million
compared to operating income of $10.1 million for the comparable period in 2000.
Revenues for the three months ended September 30, 2001 for the OKC Division
increased to $25.8 million from $23.2 million in the comparable 2000 period and
for the nine months ended September 30, 2001 revenues increased to $74.2 million
from $69.8 million in the comparable period in 2000. The decrease in operating
income for the three months ended September 30, 2001 was due primarily to an
expected decline from closed life blocks of business and greater administrative
and development costs associated with efforts to increase sales of new life
insurance products. The decrease in operating income for the nine months ended
September 30, 2001 was primarily attributable to the discontinuation in May 2001
of the Company's workers compensation business, in connection with which the
Company incurred in the second quarter of 2001 a charge of $8.7 million
associated with a strengthening of reserves. This charge was partially offset by
a $5.2 million benefit resulting from an increase in the carrying value of
student loans generated by the College Fund Life Division. As part of a $100.0
million financing completed in April 2001, the Company transferred approximately
$63.1 million of such student loans at par to a special purpose corporation. See
Note D of Notes to Consolidated Condensed Financial Statements.
Special Risk Division
The Company's Special Risk unit reported an operating loss of $(2.7)
million for the three months ended September 30, 2001 compared to an operating
loss of $(135,000) for the comparable period in 2000. For the nine months ended
September 30, 2001, Special Risk reported an operating loss of $(3.1) million
compared to an operating income of $408,000 for the comparable period in 2000.
The increase in losses for the three and nine months ended September 30, 2001
resulted from a $2.8 million charge attributable to the strengthening of
reserves. Revenue for the nine-month period ended September 30, 2001 decreased
to $22.6 million from $34.0 million in the comparable period in 2000. The
decrease in revenue during 2001 is a result of the implementation of reinsurance
and specific retrocession agreements in 2000 that effectively permitted the
Company to transfer insurance revenue and the associated risk to a new insurance
carrier. This transfer was effective January 1, 2000, and will occur monthly as
the business renews over the life of the policies.
Senior Markets Division
For financial reporting purposes the Company has established a Senior
Markets Division to segregate the reporting of expenses incurred in connection
with the development of insurance products for the senior market (including long
term care and Medicare supplement products), and the development of distribution
channels for the products. Through September 30, 2001, the Company has realized
nominal revenues associated with this Division, and the Company has expensed all
expenditures as they have been incurred.
Academic Management Services Corp. ("AMS")
AMS reported an operating loss of $(852,000) for the three months ended
September 30, 2001 compared to an operating loss of $(3.0) million for the
comparable period in 2000. For the nine months ended September 30, 2001, AMS
reported operating income of $4.7 million compared to an operating loss of
$(12.3) million for the comparable period in 2000. AMS' revenues for the three
and nine months ended September 30, 2001 were $28.5 million and $106.2 million,
respectively, compared to revenues of $40.4 million and $121.4 million for the
comparable periods in the prior year. The significant improvement in operations
for the three and nine months ended September 30, 2001 compared to the three and
nine months ended September 30, 2000 resulted primarily from increased student
loan spread income (i.e., the difference between interest earned on outstanding
student loans and interest expense associated with indebtedness incurred to fund
such loans) attributable to a favorable interest rate environment, increased
gains on sales of loans and continued efforts to reduce operating expenses.
25
Declining market interest rates throughout the first nine months of
2001 resulted in an overall decrease in revenue (due to decreased interest
income on AMS' student loan portfolio and decreased investment income from funds
on deposit in AMS' tuition installment plan trust account) during the three and
nine months ended September 30, 2001 compared to the corresponding 2000 periods.
However, declining market interest rates throughout the first nine months of
2001 benefited AMS by significantly lowering its costs of borrowing, resulting
in improved spreads on AMS' student loan portfolio. Spread income was $3.2
million and $12.9 million for the three months and nine months ended September
30, 2001, respectively, compared to spread income of $949,000 and $6.0 million
for the comparable periods of the prior year.
AMS sold only a nominal amount of student loans in the three months
ended September 30, 2001, compared to sales of $230.3 million principal amount
of loans in the three months ended September 30, 2000, from which AMS realized
net gains in the amount of $1.5 million. For the nine months ended September 30,
2001, AMS sold $359.7 million principal amount of loans (from which it realized
net gains in the amount of $8.2 million), compared to sales of $656.0 million
principal amount of loans (from which it realized net gains of $6.1 million) in
the comparable nine-month period of the prior year.
Income from AMS' tuition payment programs in the three months ended
September 30, 2001 and 2000 remained stable ($5.3 million in each period).
Payment of approximately $300,000 of expected fee income was deferred until the
fourth quarter due to impact of the events of September 11, 2001 on various New
York City - area schools. In addition, in the three month period ended September
30, 2001, an increase in fees attributable to additional tuition payment
accounts was more than offset by a $768,000 decline in investment income from
tuition payment program funds held in trust (despite a 15.1% increase in the
average trust fund balance), which was attributable to significantly lower
prevailing interest rates. Income from tuition payment programs increased to
$12.6 million for the nine months ended September 30, 2001, compared to income
of $11.6 million for the comparable period of the prior year. The increase in
income from tuition payment programs in the nine-month 2001 period was due
primarily to an increase in tuition installment plan accounts and the imposition
of late fees on delinquent accounts.
AMS also reduced operating expenses by $1.2 million and $6.9 million in
the three and nine months ended September 30, 2001, respectively, compared in
each case to expenses in the comparable periods of the prior year. These
reductions in operating expenses were primarily attributable to the closing in
September 2000 of AMS' San Diego facility, reduced interest expense associated
with non-student loan indebtedness, and reduced administrative expenses. For the
three and nine months ended September 30, 2001, interest expense on non-student
loan indebtedness was $469,000 and $2.7 million, respectively, compared to
interest expense on non-student loans of $1.3 million and $4.4 million in the
comparable 2000 periods. On June 28, 2001, AMS paid off its remaining senior
indebtedness in the amount of $14.3 million, the proceeds of which were utilized
in 1999 to fund a portion of the purchase price for AMS' tuition installment
business.
During the first six months of 2001, AMS benefited significantly from a
favorable prescribed minimum rate earned on its student loan portfolio.
Effective July 1, 2001, the floor rate prescribed by Department of Education
regulations on AMS' student loan portfolio was decreased by approximately 220
basis points, which resulted in spread income decreasing from $6.3 million in
the three month period ended June 30, 2001 to $3.2 million in the three month
period ended September 30, 2001. However, the continued decline in prevailing
market interest rates over the three months ended September 30, 2001 has had the
effect of continuing to reduce AMS' overall borrowing costs. In addition, due to
rapidly declining market interest rates, shortly before September 30, 2001 the
rate that AMS will earn on its portfolio again fell to the statutorily
prescribed minimum rate, and, as a result, AMS currently expects spread income
in the fourth quarter of 2001 to exceed spread income in the third quarter. Fee
income on tuition payment programs at AMS will be negatively impacted in the
fourth quarter of 2001 by the seasonality of this business, which historically
has generated its highest levels of fee income (and operating profits) in the
second and third quarters of the calendar year and an operating loss in the
fourth quarter of the calendar year. Due to the inherent uncertainty surrounding
spread income and the seasonality of its tuition installment business, AMS may
in any given quarter continue to rely on gains from timely sales of student
loans to remain profitable for the quarter.
On August 3, 2001, the Company completed the acquisition from AMS'
former chief executive officer of the remaining 25% common stock interest in AMS
it did not already own for a purchase price of $750,000. For additional
consideration, the former chief executive officer and certain former employees
of AMS agreed, for a three-year period ending in August 2004, not to engage in
any business competitive with AMS' tuition installment or
26
student loan servicing businesses. These former executives and their affiliates
further agreed to pay to AMS fees in prescribed amounts in connection with the
origination and consolidation of certain student loans over a three-year period
ending in August 2004.
Third Party Administration Division (formerly UICI Administrators)
The Company has classified the operations of UICI Administrators, Inc.,
Insurdata Marketing Services, LLC, Healthcare Management Administrators, Inc.
and Barron Risk Management Services, Inc. (previously included in the OKC
Division) as its Third Party Administration ("TPA") Division. For the three
months ended September 30, 2000, the TPA Division incurred an operating loss of
$(375,000), compared to an operating loss of $(600,000) in the comparable 2000
period, and for the nine months ended September 30, 2001, the TPA Division
incurred an operating loss of $(1.4) million compared to an operating loss of
$(740,000) in the corresponding 2000 period. Revenues for the three months ended
September 30, 2001 increased to $6.1 million from $5.3 million in the
corresponding 2000 period, and for the nine months ended September 30, 2001,
revenue increased to $18.7 million from $14.7 million in the corresponding
period of the prior year.
Investment in Healthaxis, Inc. (formerly HealthAxis.com, Inc.)
At September 30, 2001, the Company held 25,214,556 shares of common
stock of Healthaxis, Inc. (HAXS: Nasdaq) ("HAI") (including 354,844 shares
acquired on May 23, 2001 from a former employee of Healthaxis, Inc. for a
purchase price of $400,000), representing approximately 47.6% of the issued and
outstanding shares of HAI. The Company accounts for its investment in HAI
utilizing the equity method and, accordingly, recognizes its ratable share of
HAI income and loss (computed prior to amortization of goodwill recorded by
HealthAxis.com in connection with the January 7, 2000 merger of Insurdata
Incorporated (formerly a wholly-owned subsidiary of UICI) with and into
HealthAxis.com). See Note C of Notes to Consolidated Condensed Financial
Statements.
During the three and nine months ended September 30, 2001, the
Company's share of HAI's operating losses (computed prior to amortization of
merger related goodwill) was $(1.3) million and $(9.2) million respectively,
compared to its reported share of operating losses of $(1.1) million and $(16.3)
million in the three and nine months ended September 30, 2000, respectively.
UICI's share of HAI's operating loss in the three and nine months ended
September 30, 2001 included $2.4 million in restructuring charges, consisting of
a write-off of capitalized software expenses, employee severance expenses and a
write-down of investments. UICI's share of HAI's operating loss also included a
one-time stock option expense in the amount of $2.2 million associated with
HAI's merger with HealthAxis.com (which was completed in the first quarter of
2001). At September 30, 2001, the Company's carrying value of its investment in
HAI was $9.6 million.
Other Key Factors
The Other Key Factors category includes investment income not allocated
to the other segments, interest expense on corporate debt, general expenses
relating to corporate operations, realized gains or losses on sale of
investments, minority interest expense, variable stock compensation, the
Company's share of income and loss from AMLI Residential Properties Trust and
amortization of goodwill. Operating losses for the three months ended September
30, 2001 attributable to this category were $(552,000) compared to operating
income of $1.0 million for the comparable period in 2000, and operating losses
for the nine months ended September 30, 2001 were $(2.0) million compared to
operating income of $3.0 million for the comparable period in 2000. The decrease
in operating income for the nine months ended September 30, 2001 was primarily
attributable to a $3.4 million increase in minority interest expense, a decrease
in the investment income of $5.8 million, an increase in variable stock
compensation of $4.2 million, an increase in other expenses of $3.7 million,
partially offset by an increase in realized gains of $5.8 million, a decrease in
interest expense of $5.4 million and a decrease in goodwill amortization of $1.1
million.
During the nine months ended September 2001, AMLI Commercial Properties
Trust (in which the Company holds a 20% equity interest) sold substantially all
of its assets for an aggregate sale price of approximately $226.0 million. In
connection with such sale, during the three and nine months ended September 30,
2001 the Company recognized a gain in the amount of $2.3 million and $5.3
million, respectively.
27
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company's primary sources of cash on a consolidated
basis have been premium revenues from policies issued, investment income, fees
and other income, and borrowings to fund student loans. The primary uses of cash
have been payments for benefits, claims and commissions under those policies,
operating expenses and the funding of student loans. In the nine-month period
ended September 30, 2001, net cash provided by operations totaled approximately
$207.3 million. In the nine-month period ended September 30, 2000, net cash used
in operations totaled approximately $131.3 million.
During the nine months ended September 30, 2001, the Company reduced
its consolidated short and long-term indebtedness (exclusive of indebtedness
incurred to fund student loans) from $66.8 million at December 31, 2000 to $24.1
million at September 30, 2001. In addition, the Company utilized approximately
$8.6 million to repurchase 964,800 shares of its common stock pursuant to its
previously announced stock repurchase program, which was reconfirmed by the
Board of Directors of the Company at its February 28, 2001 meeting.
UICI is a holding company, the principal assets of which are its
investments in its separate operating subsidiaries, including its regulated
insurance subsidiaries. The holding company's ability to fund its cash
requirements is largely dependent upon its ability to access cash, by means of
dividends or other means, from its subsidiaries. The laws governing the
Company's insurance subsidiaries restrict dividends paid by the Company's
domestic insurance subsidiaries in any year. Inability to access cash from its
subsidiaries could have a material adverse effect upon the Company's liquidity
and capital resources.
At September 30, 2001, UICI at the holding company level held cash and
cash equivalents in the amount of $13.2 million and had short and long-term
indebtedness outstanding in the amount of $6.3 million and $17.7 million,
respectively. In October 2001, UICI's two principal domestic insurance
subsidiaries declared regular dividends in the aggregate amount of $40.0 million
to be paid to the holding company prior to December 31, 2001. Giving effect to
the payment through October 31, 2001 of $22.0 million of such dividends, at
November 1, 2001 UICI at the holding company level held cash and cash
equivalents in the amount of $37.6 million.
The Company currently estimates that, through December 31, 2001, the
holding company will have operating cash requirements in the amount of
approximately $25.4 million. The Company currently anticipates that these cash
requirements at the holding company level will be funded by cash on hand, cash
received from interest income, the balance of dividends to be paid from domestic
and offshore insurance companies and tax sharing reimbursements from
subsidiaries (which will be partially offset by holding company operating
expenses).
On June 28, 2001, AMS paid off its remaining senior indebtedness in the
amount of $14.3 million, the proceeds of which were utilized in 1999 to fund a
portion of the purchase price for AMS' tuition installment business. At December
31, 2000 this senior indebtedness amounted to $21.3 million and was included in
student loan credit facilities on the Company's balance sheet.
Effective June 30, 2001, the Company changed its method for accounting
for its investment in AMLI Residential Properties Trust (a publicly-traded
(NYSE: AML) real estate investment trust) ("AMLI Residential") from the equity
method to the investment method. The effect of the accounting change was to
increase the carrying value of AMLI Residential on the consolidated balance
sheet of the Company at June 30, 2001 from $22.6 million to $62.8 million; the
accounting change had no effect on the Company's results of operations for the
three or nine months ended September 30, 2001, As a result of the accounting
change, in future periods the Company will mark-to-market its investment in AMLI
Residential and will no longer record its ratable share of AMLI Residential's
gains or losses. At September 30, 2001, AMLI Residential is reflected on the
Company's consolidated balance sheet at $60.2 million.
STATUTORY ACCOUNTING
The Company's insurance subsidiaries statutory-basis financial
statements are prepared in accordance with accounting practices prescribed or
permitted by the Oklahoma, Tennessee, or Texas Insurance Departments. Currently,
"prescribed" statutory accounting practices are interspersed throughout state
insurance laws and regulations, the NAIC's Accounting Practices and Procedures
Manual and a variety of other NAIC publications.
28
"Permitted" statutory accounting practices encompass all accounting practices
that are not prescribed; such practices may differ from state to state, may
differ from company to company within a state, and may change in the future.
The NAIC revised the Accounting Practices and Procedures Manual in a
process referred to as Codification. The revised manual became effective January
1, 2001. The domiciled states of the Company's insurance subsidiaries (Oklahoma,
Tennessee and Texas) have adopted the provisions of the revised manual. The
revised manual has changed, to some extent, prescribed statutory accounting
practices and will result in changes to the accounting practices that the
Company's insurance subsidiaries use to prepare its statutory-basis financial
statements. The cumulative effect of changes in accounting practices adopted to
conform to the revised Accounting Practices and Procedures Manual was reported
as an adjustment to surplus as of January 1, 2001 in the Company's statutory
statements. The impact of these changes resulted in an increase in the Company's
statutory-basis capital and surplus as of adoption mainly from the admissibility
of deferred income taxes.
UNITED CREDITSERV - DISCONTINUED OPERATIONS
In March 2000 the Board of Directors of UICI determined that, after a
thorough assessment of the unit's prospects, the Company would exit from its
United CreditServ sub-prime credit card business. Accordingly, the United
CreditServ unit was reflected as a discontinued operation for financial
reporting purposes.
The Company's exit from the credit card business is now complete. On
January 29, 2001, the Company completed the voluntary liquidation of United
Credit National Bank ("UCNB") (the Company's credit card issuing bank), in
accordance with the terms of a plan of voluntary liquidation approved by the
United States Office of the Comptroller of the Currency (the "OCC"). UCNB
surrendered to the OCC its national bank charter and distributed to a
wholly-owned subsidiary of UICI the residual assets of UCNB in the amount of
approximately $26.0 million, substantially all of which consisted of cash and
cash equivalents. The Company utilized a substantial portion of the proceeds of
the liquidation to prepay in full principal and accrued interest owing to Lender
LLC (see Note D of Notes to Consolidated Condensed Financial Statements) in the
amount of $21.1 million and other indebtedness in the amount of $5.0 million.
For financial reporting purposes, at December 31, 2000, the remaining
assets of the discontinued operations in the amount of $54.3 million (consisting
of cash and short-term investments in the amount of $27.8 million and other
assets in the amount of $26.5 million) were reclassified to cash and other
assets, respectively, on the Company's consolidated balance sheet, and the
remaining liabilities of the discontinued operations in the amount of $53.0
million (consisting of notes payable in the amount of $4.3 million and other
liabilities in the amount of $48.7 million) were reclassified to notes payable
and other liabilities, respectively, on the Company's consolidated balance
sheet.
STOCK REPURCHASE PLAN
In November 1998, the Company's board of directors authorized the
repurchase of up to 4,500,000 shares of the Company's Common Stock. The shares
were authorized to be purchased from time to time on the open market or in
private transactions. As of December 31, 2000, the Company had repurchased
198,000 shares pursuant to such authorization, all of which were purchased in
1999. At its regular meeting held on February 28, 2001, the Board of Directors
of the Company reconfirmed the Company's 1998 share repurchase program.
Following reconfirmation of the program, through November 1, 2001, the Company
had purchased an additional 964,800 shares pursuant to the program (with the
most recent purchase made on April 10, 2001). The timing and extent of
additional repurchases, if any, will depend on market conditions and the
Company's evaluation of its financial resources at the time of purchase.
ACCOUNTING FOR AGENT STOCK ACCUMULATION PLANS
The Company sponsors a series of stock accumulation plans (the "Agent
Plans") established for the benefit of the independent insurance agents and
independent sales representatives associated with UGA - Association Field
Services, New United Agency, Cornerstone Marketing of America and CFLD
Association Field Services. Under EITF 96-18 "Accounting for Equity Instruments
that are issued to Other Than Employees for Acquiring or in Connection with
Selling Goods and Services," the Company has established a liability for future
unvested benefits under the Agent Plans and adjusts the liability based on the
market value of the Company's Common Stock. The
29
accounting treatment of the Company's Agent Plans will result in unpredictable
stock-based commission charges, dependent upon fluctuations in the quoted price
of UICI common stock. These unpredictable fluctuations in stock based commission
charges may result in material non-cash fluctuations in the Company's results of
operations. See Note J of Notes to Consolidated Condensed Financial Statements.
PRIVACY INITIATIVES
Recently adopted legislation and regulations governing the use and
security of individuals' nonpublic personal data by financial institutions,
including insurance companies, may have a significant impact on the Company's
business and future results of operations.
Gramm-Leach-Bliley Act and State Insurance Laws and Regulations
The business of insurance is primarily regulated by the states and is
also affected by a range of legislative developments at the state and federal
levels. The recent Financial Services Modernization Act of 1999 (the so-called
Gramm-Leach-Bliley Act, or "GLBA") includes several privacy provisions and
introduces new controls over the transfer and use of individuals' nonpublic
personal data by financial institutions, including insurance companies,
insurance agents and brokers and certain other entities licensed by state
insurance regulatory authorities. Additional federal legislation aimed at
protecting the privacy of nonpublic personal financial and health information is
proposed and over 400 state privacy bills are pending. As required, the Company
has provided written notice of its privacy practices to all of the Company's
customers/insureds, the Company has given customers/insureds an opportunity to
state their preferences regarding the Company's use of their non-public personal
information, and the Company must honor those preferences.
GLBA provides that there is no federal preemption of a state's
insurance related privacy laws if the state law is more stringent than the
privacy rules imposed under GLBA. Accordingly, state insurance regulators or
state legislatures will likely adopt rules that will limit the ability of
insurance companies, insurance agents and brokers and certain other entities
licensed by state insurance regulatory authorities to disclose and use
non-public information about consumers to third parties. These limitations will
require the disclosure by these entities of their privacy policies to consumers
and, in some circumstances, will allow consumers to prevent the disclosure or
use of certain personal information to an unaffiliated third party. Pursuant to
the authority granted under GLBA to state insurance regulatory authorities to
regulate the privacy of nonpublic personal information provided to consumers and
customers of insurance companies, insurance agents and brokers and certain other
entities licensed by state insurance regulatory authorities, the National
Association of Insurance Commissioners promulgated a new model regulation called
Privacy of Consumer Financial and Health Information Regulation. Some states
issued this model regulation before July 1, 2001, while other states must pass
certain legislative reforms to implement new state privacy rules pursuant to
GLBA. In addition, GLBA requires state insurance regulators to establish
standards for administrative, technical and physical safeguards pertaining to
customer records and information to (a) ensure their security and
confidentiality, (b) protect against anticipated threats and hazards to their
security and integrity, and (c) protect against unauthorized access to and use
of these records and information. However, no state insurance regulators have
yet issued any final regulations in response to such security and
confidentiality requirements. The privacy and security provisions of GLBA will
significantly affect how a consumer's nonpublic personal information is
transmitted through and used by diversified financial services companies and
conveyed to and used by outside vendors and other unaffiliated third parties.
Due to the increasing popularity of the Internet, laws and regulations
may be passed dealing with issues such as user privacy, pricing, content and
quality of products and services, and those regulations could adversely affect
the growth of the online financial services industry. If Internet use does not
grow as a result of privacy or security concerns, increasing regulation or for
other reasons, the growth of the Company's Internet-based activities would be
hindered. It is not possible at this time to assess the impact of the privacy
provisions on the Company's financial condition or results of operations.
Health Insurance Portability and Accountability Act of 1996
The federal Health Insurance Portability and Accountability Act of 1996
("HIPAA") contains provisions requiring mandatory standardization of certain
communications between health plans (including health insurance companies),
electronic clearinghouses and health care providers who transmit certain health
information
30
electronically. HIPAA requires health plans to use specific data-content
standards, mandates the use of specific identifiers (e.g., national provider
identifiers and national employer identifiers) and requires specific privacy and
security procedures. HIPAA authorized the Secretary of the federal Department of
Health and Human Services ("HHS") to issue standards for the privacy and
security of medical records and other individually identifiable patient data.
In December 2000, HHS issued final regulations regarding the privacy of
individually identifiable health information. This final rule on privacy applies
to both electronic and paper records and imposes extensive requirements on the
way in which health care providers, health plan sponsors, health insurance
companies and their business associates use and disclose protected information.
Under the new HIPAA privacy rules, the Company will now be required to (a)
comply with a variety of requirements concerning its use and disclosure of
individuals' protected health information, (b) establish rigorous internal
procedures to protect health information and (c) enter into business associate
contracts with other companies that use similar privacy protection procedures.
The final rules do not provide for complete federal preemption of state laws,
but, rather, preempt all contrary state laws unless the state law is more
stringent. These rules must be complied with by April 14, 2003.
Sanctions for failing to comply with standards issued pursuant to HIPAA
include criminal penalties of up to $250,000 per violation and civil sanctions
of up to $25,000 per violation. Due to the complex and controversial nature of
the privacy regulations, they may be subject to court challenge, as well as
further legislative and regulatory actions that could alter their effect.
In August 2000, HHS published for comment proposed rules related to the
security of electronic health data, including individual health information and
medical records, for health plans, health care providers, and health care
clearinghouses that maintain or transmit health information electronically. The
proposed rules would require these businesses to establish and maintain
responsible and appropriate safeguards to ensure the integrity and
confidentiality of this information. The standards embraced by these rules
include the implementation of technical and organization policies, practices and
procedures for security and confidentiality of health information and protecting
its integrity, education and training programs, authentication of individuals
who access this information, system controls, physical security and disaster
recovery systems, protection of external communications and use of electronic
signatures. These proposed rules have not yet become final.
The Company is currently reviewing the potential impact of the HIPAA
privacy regulations on its operations, including its information technology and
security systems. The Company cannot at this time predict with specificity what
impact (a) the recently adopted final HIPAA rules governing the privacy of
individually-identifiable health information and (b) the proposed HIPAA rules
for ensuring the security of individually-identifiable health information may
have on the business or results of operations of the Company. However, these new
rules will likely increase the Company's burden of regulatory compliance with
respect to the Company's life and health insurance products and other
information-based products, and may reduce the amount of information the Company
may disclose and use if the Company's customers do not consent to such
disclosure and use. There can be no assurance that the restrictions and duties
imposed by the recently adopted final rules on the privacy of
individually-identifiable health information, or the proposed rule on security
of individually-identifiable health information, will not have a material
adverse effect on the Company's business and future results of operations.
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Certain statements set forth herein or incorporated by reference herein
from the Company's filings that are not historical facts are forward-looking
statements within the meaning of the Private Securities Litigation Reform Act.
Actual results may differ materially from those included in the forward-looking
statements. These forward-looking statements involve risks and uncertainties
including, but not limited to, the following: changes in general economic
conditions, including the performance of financial markets, and interest rates;
competitive, regulatory or tax changes that affect the cost of or demand for the
Company's products; health care reform; the ability to predict and effectively
manage claims related to health care costs; and reliance on key management and
adequacy of claim liabilities.
The Company's future results will depend in large part on accurately
predicting health care costs incurred on existing business and upon the
Company's ability to control future health care costs through product and
benefit design, underwriting criteria, utilization management and negotiation of
favorable provider contracts. Changes in
31
mandated benefits, utilization rates, demographic characteristics, health care
practices, provider consolidation, inflation, new pharmaceuticals/technologies,
clusters of high-cost cases, the regulatory environment and numerous other
factors are beyond the control of any health plan provider and may adversely
affect the Company's ability to predict and control health care costs and
claims, as well as the Company's financial condition, results of operations or
cash flows. Periodic renegotiations of hospital and other provider contracts
coupled with continued consolidation of physician, hospital and other provider
groups may result in increased health care costs and limit the Company's ability
to negotiate favorable rates. Recently, large physician practice management
companies have experienced extreme financial difficulties, including bankruptcy,
which may subject the Company to increased credit risk related to provider
groups and cause the Company to incur duplicative claims expense. In addition,
the Company faces competitive pressure to contain premium prices. Fiscal
concerns regarding the continued viability of government-sponsored programs such
as Medicare and Medicaid may cause decreasing reimbursement rates for these
programs. Any limitation on the Company's ability to increase or maintain its
premium levels, design products, and implement underwriting criteria or
negotiate competitive provider contracts may adversely affect the Company's
financial condition or results of operations.
The Company's Academic Management Services Corp. business could be
adversely affected by changes in the Higher Education Act or other relevant
federal or state laws, rules and regulations and the programs implemented
thereunder may adversely impact the education credit market. In addition,
existing legislation and future measures by the federal government may adversely
affect the amount and nature of federal financial assistance available with
respect to loans made through the U.S. Department of Education. Finally the
level of competition currently in existence in the secondary market for loans
made under the Federal Loan Programs could be reduced, resulting in fewer
potential buyers of the Federal Loans and lower prices available in the
secondary market for those loans.
ITEM 3--QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss arising from adverse changes in market
rates and prices, such as interest rates, foreign currency exchange rates, and
other relevant market rate or price changes. Market risk is directly influenced
by the volatility and liquidity in the markets in which the related underlying
assets are traded.
The primary market risk to the Company's investment portfolio is
interest rate risk associated with investments and the amount of interest that
policyholders expect to have credited to their policies. The interest rate risk
taken in the investment portfolio is managed relative to the duration of the
policy liabilities. The Company's investment portfolio consists mainly of high
quality, liquid securities that provide current investment returns. The Company
believes that the annuity and universal life-type policies are generally
competitive with those offered by other insurance companies of similar size. The
Company does not anticipate significant changes in the primary market risk
exposures or in how those exposures are managed in the future reporting periods
based upon what is known or expected to be in effect in future reporting
periods.
Profitability of the student loans is affected by the spreads between
the interest yield on the student loans and the cost of the funds borrowed under
the various credit facilities. Although the interest rates on the student loans
and the interest rate on the credit facilities are variable, the gross interest
earned by lenders on Stafford student loans uses the results of 91-day T-bill
auctions as the base rate, while the base rate on the credit facilities is
LIBOR. The effect of rising interest rates on earnings on Stafford loans is
generally small, as both revenues and costs adjust to new market levels. In
addition to Stafford loans, the Company holds PLUS loans on which the interest
rate yield is set annually beginning July 1 through June 30 by regulation at a
fixed rate. The Company had approximately $262.5 million principal amount of
PLUS loans outstanding at September 30, 2001. The fixed yield on PLUS loans was
7.72% and 8.99% for the twelve months ended June 30, 2000 and 2001 respectively,
and has been reset to 6.79% for the twelve months beginning July 1, 2001. These
loans are financed with borrowings whose rates are subject to reset, generally
monthly. During the twelve months beginning July 1, 2001, the cost of borrowings
to finance this portion of the student loan portfolio could rise or fall while
the rate earned on the student loans will remain fixed.
32
PART II. OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
The Company is a party to various material legal proceedings, all of
which are described in Note G of Notes to the Consolidated Condensed Financial
Statements included herein and in the Company's Annual Report on Form 10-K filed
for the year ended December 31, 2000 under the caption "Item 3 - Legal
Proceedings." The Company and its subsidiaries are parties to various other
pending legal proceedings arising in the ordinary course of business, including
some asserting significant damages arising from claims under insurance policies,
disputes with agents and other matters. Based in part upon the opinion of
counsel as to the ultimate disposition of such lawsuits and claims, management
believes that the liability, if any, resulting from the disposition of such
proceedings will not be material to the Company's financial condition or results
of operations.
ITEM 5 - MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED MATTERS
During the nine months ended September 30, 2001, the Company issued
106,250 shares of unregistered common stock pursuant to its 2001 Restricted
Stock Plan.
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
None.
(b) Reports on Form 8-K.
None.
33
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.
UICI
---------------------------------------
(Registrant)
Date: November 9, 2001 /s/ Gregory T. Mutz
---------------------------------------
Gregory T. Mutz, President,
Chief Executive Officer and Director
Date: November 9, 2001 /s/ Matthew R. Cassell
---------------------------------------
Matthew R. Cassell, Vice President and
Chief Financial Officer
34