FORM 10-Q
------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended June 30, 2003
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from ______ to _____
Commission File Number 0-22342
TRIAD GUARANTY INC.
(Exact name of registrant as specified in its charter)
DELAWARE 56-1838519
(State of Incorporation) (I.R.S. Employer Identification Number)
101 SOUTH STRATFORD ROAD
WINSTON-SALEM, NORTH CAROLINA 27104
(Address of principal executive offices)
(336) 723-1282
(Registrant's telephone number, including area code)
------------------------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes /X/ No / /
Number of shares of Common Stock, $.01 par value, outstanding as of August 1,
2003: 14,328,900 shares.
TRIAD GUARANTY INC.
INDEX
Page
Number
Part I. Financial Information:
Item 1. Financial Statements:
Consolidated Balance Sheets as of June 30, 2003 (Unaudited)
and December 31, 2002..................................... 3
Consolidated Income Statements for the Three and Six Months
Ended June 30, 2003 and 2002 (Unaudited)................. 4
Consolidated Statements of Cash Flows for the Six Months
Ended June 30, 2003 and 2002 (Unaudited)................. 5
Notes to Consolidated Financial Statements........................ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...................... 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk.... 23
Item 4. Controls and Procedures....................................... 23
Part II. Other Information:
Item 1. Legal Proceedings............................................ 24
Item 2. Changes in Securities and Use of Proceeds..................... 24
Item 3. Defaults Upon Senior Securities............................... 24
Item 4. Submission of Matters to a Vote of Security Holders........... 24
Item 5. Other Information............................................. 24
Item 6. Exhibits and Reports on Form 8-K.............................. 24
Signatures and Certifications of the Chief Executive Officer and Chief
Financial Officer of the Company........................ 25
2
TRIAD GUARANTY INC.
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
2003 2002
---------- -----------
(Unaudited)
(Dollars in thousands except per share information)
Assets
Invested assets:
Fixed maturities, available-for-sale, at fair value.............. $339,003 $298,470
Equity securities, available-for-sale, at fair value............. 10,911 10,808
Short-term investments........................................... 27,202 35,303
-------- --------
377,116 344,581
Cash ................................................................. 5,562 233
Real estate........................................................... 414 1,561
Accrued investment income............................................. 3,816 3,088
Deferred policy acquisition costs..................................... 30,239 28,997
Prepaid federal income taxes.......................................... 87,723 77,786
Property and equipment................................................ 9,150 9,533
Reinsurance recoverable............................................... 1,243 396
Other assets.......................................................... 18,772 16,711
-------- --------
Total assets.......................................................... $534,035 $482,886
======== ========
Liabilities and stockholders' equity
Liabilities:
Losses and loss adjustment expenses............................... $ 24,399 $ 21,360
Unearned premiums................................................. 11,681 8,539
Amounts payable to reinsurer...................................... 2,741 3,415
Current taxes payable............................................. 1,041 598
Deferred income taxes............................................. 106,453 94,241
Unearned ceding commission........................................ 1,028 1,386
Long-term debt.................................................... 34,482 34,479
Accrued interest on debt.......................................... 1,275 1,275
Accrued expenses and other liabilities............................ 8,653 8,186
-------- --------
Total liabilities..................................................... 191,753 173,479
Commitments and contingent liabilities - Note 4
Stockholders' equity:
Preferred stock, par value $.01 per share --- authorized
1,000,000 shares; no shares issued and outstanding............. --- ---
Common stock, par value $.01 per share --- authorized
32,000,000 shares; issued and outstanding 14,292,692 shares
at June 30, 2003 and 14,159,601 at December 31, 2002........... 143 142
Additional paid-in capital........................................ 83,277 80,169
Accumulated other comprehensive income, net of income
tax liability of $7,681 at June 30, 2003 and $4,646 at
December 31, 2002.............................................. 14,245 8,634
Deferred compensation............................................. (1,486) (658)
Retained earnings................................................. 246,103 221,120
-------- --------
Total stockholders' equity............................................ 342,282 309,407
-------- --------
Total liabilities and stockholders' equity............................ $534,035 $482,886
======== ========
See accompanying notes.
3
TRIAD GUARANTY INC.
CONSOLIDATED INCOME STATEMENTS
(Unaudited)
Three Months Ended Six Months Ended
June 30 June 30
------------------------- ----------------------
2003 2002 2003 2002
---- ---- ---- ----
(Dollars in thousands except per share information)
Revenue:
Premiums written:
Direct........................................... $ 37,878 $ 29,784 $ 71,904 $ 57,622
Assumed.......................................... - 1 1 2
Ceded............................................ (6,497) (4,494) (12,385) (7,842)
-------- -------- -------- --------
Net premiums written................................ 31,381 25,291 59,520 49,782
Change in unearned premiums......................... (3,115) 208 (3,123) 252
-------- -------- -------- --------
Earned premiums..................................... 28,266 25,499 56,397 50,034
Net investment income............................... 4,333 3,953 8,666 7,717
Realized investment gains (losses).................. 546 (729) 765 (2,228)
Other income........................................ 4 15 17 42
-------- -------- -------- --------
33,149 28,738 65,845 55,565
Losses and expenses:
Losses and loss adjustment expenses................. 5,378 2,875 10,647 5,396
Reinsurance recoveries.............................. 2 4 (2) (1)
-------- -------- -------- --------
Net losses and loss adjustment expenses............. 5,380 2,879 10,645 5,395
Interest expense on debt............................ 693 693 1,386 1,386
Amortization of deferred policy acquisition costs... 4,024 3,059 7,442 6,045
Other operating expenses (net)...................... 5,169 5,764 11,009 11,833
-------- -------- -------- --------
15,266 12,395 30,482 24,659
-------- -------- -------- --------
Income before income taxes ......................... 17,883 16,343 35,363 30,906
Income taxes:
Current.......................................... 182 172 353 332
Deferred......................................... 5,070 4,881 10,027 9,246
-------- -------- -------- --------
5,252 5,053 10,380 9,578
-------- -------- -------- --------
Net income.......................................... $ 12,631 $ 11,290 $ 24,983 $ 21,328
======== ========== ======== =======
Earnings per common and
common equivalent share:
Basic............................................ $ .88 $ .80 $ 1.75 $ 1.53
======== ======== ======== ========
Diluted.......................................... $ .87 $ .78 $ 1.73 $ 1.49
======== ======== ======== ========
Shares used in computing earnings
per common and common equivalent share:
Basic............................................ 14,278,727 14,115,220 14,250,145 13,976,165
========== ========== ========== ==========
Diluted.......................................... 14,451,403 14,390,101 14,425,274 14,295,372
========== ========== ========== ==========
See accompanying notes.
4
TRIAD GUARANTY INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months Ended
June 30
------------------------
2003 2002
---- ----
(Dollars in thousands)
Operating activities
Net income................................................. $24,983 $21,328
Adjustments to reconcile net income to net cash
provided by operating activities:
Loss adjustment expense and unearned premium reserves... 6,181 577
Accrued expenses and other liabilities.................. (2,740) 5,397)
Current taxes payable................................... 443 478
Amounts due to/from reinsurer........................... (1,540) (706)
Accrued investment income............................... (728) 35
Policy acquisition costs deferred....................... (8,684) (8,771)
Amortization of policy acquisition costs................ 7,442 6,045
Net realized investment (gains) losses.................. (765) 2,228
Provision for depreciation.............................. 1,402 1,424
Accretion of discount on investments.................... (2,098) (2,137)
Deferred income taxes................................... 10,027 9,246
Prepaid federal income tax.............................. (9,937) (6,806)
Unearned ceding commission.............................. (358) (463)
Real estate acquired in claim settlement................ 1,147 (343)
Other assets............................................ (2,042) (144)
Other operating activities.............................. 328 198
------- -------
Net cash provided by operating activities.................. 23,061 16,792
Investing activities
Securities available-for-sale:
Purchases - fixed maturities......................... (60,359) (46,879)
Sales - fixed maturities............................. 34,238 24,382
Purchases - equities................................. (547) (2,040)
Sales - equities..................................... 736 1,035
Net change in short-term investments.................... 8,101 1,710
Purchase of property and equipment...................... (1,019) (1,050)
------- -------
Net cash used in investing activities...................... (18,850) (22,842)
Financing activities
Proceeds from exercise of stock options.................... 1,118 5,268
------- -------
Net cash provided by financing activities.................. 1,118 5,268
------- -------
Net change in cash ........................................ 5,329 (782)
Cash at beginning of period................................ 233 853
------- -------
Cash at end of period...................................... $ 5,562 $ 71
======= =======
Supplemental schedule of cash flow information
Cash paid during the period for:
Income taxes and United States Mortgage
Guaranty Tax and Loss Bonds........................... $10,401 $ 7,306
Interest................................................ $ 1,383 $ 1,383
See accompanying notes.
5
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2003
(Unaudited)
NOTE 1 -- THE COMPANY
Triad Guaranty Inc. (the "Company") is a holding company which, through its
wholly-owned subsidiary, Triad Guaranty Insurance Corporation ("Triad"),
provides private mortgage insurance coverage in the United States to mortgage
lenders and investors to protect the lender or investor against loss from
defaults on low down payment residential mortgage loans.
NOTE 2 -- ACCOUNTING POLICIES AND BASIS OF PRESENTATION
BASIS OF PRESENTATION - The accompanying unaudited consolidated financial
statements have been prepared in accordance with accounting principles generally
accepted in the United States for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do
not include all of the information and footnotes required by accounting
principles generally accepted in the United States for complete financial
statements. In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Operating results for the three and six months ended June 30, 2003 are
not necessarily indicative of the results that may be expected for the year
ending December 31, 2003. For further information, refer to the consolidated
financial statements and footnotes thereto included in the Triad Guaranty Inc.
annual report on Form10-K for the year ended December 31, 2002.
STOCK OPTIONS - The Company grants stock options to employees and directors for
a fixed number of shares with an exercise price equal to or greater than the
fair value of the shares at the date of grant. The Company accounts for stock
option grants using the intrinsic value method prescribed in Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, and
accordingly, recognizes no compensation expense for the stock option grants.
6
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2003
(Unaudited)
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. Had compensation
expense for stock options been recognized using the fair value method on the
grant date, net income and earnings per share on a pro forma basis would have
been (in thousands, except for earnings per share information):
Three Months Ended Six Months Ended
June 30, June 30,
2003 2002 2003 2002
------------------------------------------
Net income - as reported $ 12,631 $ 11,290 $ 24,983 $ 21,328
Net income - pro forma $ 12,461 $ 11,079 $ 24,638 $ 20,906
Earnings per share - as reported:
Basic $ 0.88 $ 0.80 $ 1.75 $ 1.53
Diluted $ 0.87 $ 0.78 $ 1.73 $ 1.49
Earnings per share - pro forma:
Basic $ 0.87 $ 0.78 $ 1.73 $ 1.50
Diluted $ 0.86 $ 0.77 $ 1.71 $ 1.46
NOTE 3 -- CONSOLIDATION
The consolidated financial statements include Triad Guaranty Inc. and its
wholly-owned subsidiary, Triad Guaranty Insurance Corporation ("Triad"), and
Triad's wholly-owned subsidiaries, Triad Guaranty Assurance Corporation and
Triad Re Insurance Corporation (collectively referred to as "the Company"). All
significant intercompany accounts and transactions have been eliminated.
NOTE 4 -- COMMITMENTS AND CONTINGENT LIABILITIES
REINSURANCE - Triad assumes and cedes certain premiums and losses from/to
reinsurers under various reinsurance agreements. Reinsurance contracts do not
relieve Triad from its obligations to policyholders. Failure of the reinsurer to
honor its obligation could result in losses to Triad; consequently, allowances
are established for amounts when deemed uncollectible.
7
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2003
(Unaudited)
INSURANCE IN FORCE, DIVIDEND RESTRICTIONS, AND STATUTORY RESULTS - Insurance
regulations generally limit the writing of mortgage guaranty insurance to an
aggregate amount of insured risk no greater than 25 times the total of statutory
capital and surplus and the statutory contingency reserve. The amount of net
risk for insurance in force at June 30, 2003 and December 31, 2002, as presented
below, was computed by applying the various percentage settlement options and
applicable stop-loss parameters to the insurance in force amounts based on the
original insured amount of the loan. Triad's ratio is as follows:
June 30, December 31,
2003 2002
------------ -----------
(Dollars in thousands)
Net risk................................ $ 5,892,766 $ 5,534,420
=========== ===========
Statutory capital and surplus........... $ 120,578 $ 112,874
Statutory contingency reserve........... 273,566 245,006
----------- -----------
Total................................... $ 394,144 $ 357,880
=========== ===========
Risk-to-capital ratio................... 15.0-to-1 15.5-to-1
=========== ===========
Triad and its wholly-owned subsidiaries, Triad Guaranty Assurance
Corporation and Triad Re Insurance Corporation, are each required under their
respective domiciliary state's insurance code to maintain a minimum level of
statutory capital and surplus. Triad, an Illinois domiciled insurer, is required
under the Illinois Insurance Code (the "Code") to maintain minimum statutory
capital and surplus of $5 million. The Code permits dividends to be paid only
out of earned surplus and also requires prior approval of extraordinary
dividends. An extraordinary dividend is any dividend or distribution of cash or
other property, the fair value of which, together with that of other dividends
or distributions made within a period of twelve consecutive months, exceeds the
greater of (a) ten percent of statutory surplus as regards policyholders, or (b)
statutory net income for the calendar year preceding the date of the dividend.
Net income as determined in accordance with statutory accounting principles
was $33.2 million and $27.8 million for the six months ended June 30, 2003 and
2002, respectively, and $61.8 million for the year ended December 31, 2002.
At June 30, 2003 and December 31, 2002, the amount of Triad's equity that
could be paid out in dividends to stockholders was $36.9 million and $29.2
million, respectively, which was the earned surplus of Triad on a statutory
basis on those dates.
8
TRIAD GUARANTY INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2003
(Unaudited)
LOSS RESERVES - The Company establishes loss reserves to provide for the
estimated costs of settling claims with respect to loans reported to be in
default and loans in default which have not been reported to the Company.
Reserves are established by management using estimated claim rates (frequency)
and claim amounts (severity) to estimate ultimate losses. The reserving process
gives effect to current economic conditions and profiles delinquencies by such
factors as policy year, geography, chronic late payment characteristics and age.
Due to the inherent uncertainty in estimating reserves for losses and loss
adjustment expenses, there can be no assurance that the reserves will prove to
be adequate to cover ultimate loss development.
LITIGATION - A class action lawsuit has been filed against the Company in the
ordinary course of the Company's business alleging that contract underwriting
and captive reinsurance violate the Real Estate Settlement Procedures Act. In
the opinion of management, the ultimate resolution of this pending litigation
will not have a material adverse effect on the financial position or results of
operations of the Company.
NOTE 5 - - EARNINGS PER SHARE
Basic and diluted earnings per share are based on the weighted-average
daily number of shares outstanding. For diluted earnings per share, the
denominator includes the dilutive effect of stock options on the
weighted-average shares outstanding. There are no other reconciling items
between the denominator used in basic earnings per share and diluted earnings
per share. The numerator used in basic earnings per share and diluted earnings
per share is the same for all periods presented.
NOTE 6 - - COMPREHENSIVE INCOME
Comprehensive income consists of net income and other comprehensive income.
For the Company, other comprehensive income is composed of unrealized gains or
losses on available-for-sale securities, net of income tax. For the three months
ended June 30, 2003 and 2002, the Company's comprehensive income was $17.2
million and $15.1 million, respectively. For the six months ended June 30, 2003
and 2002, the Company's comprehensive income was $30.6 million and $24.3
million, respectively.
NOTE 7 - - INCOME TAXES
Income tax expense differs from the amounts computed by applying the
Federal statutory income tax rate to income before income taxes primarily due to
tax-exempt interest that the Company earns from its investments in municipal
bonds.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Net income for the first six months of 2003 increased 17.1% to $25.0
million or $1.73 per diluted share compared to $21.3 million or $1.49 per
diluted share in the first six months of 2002. Net income for the second quarter
of 2003 increased 11.9% to $12.6 million or $0.87 per diluted share from $11.3
million or $0.78 per diluted share in the second quarter of 2002. This
improvement in net income was led by a 12.7% (10.8% in the second quarter)
increase in earned premiums and a 12.3% (9.6% in the second quarter) increase in
net investment income. Net income for the first six months of 2003 includes
$765,000, or $0.03 per diluted share, of net realized investment gains, while
net income for the first six months of 2002 included $2.2 million, or $0.10 per
diluted share, of net realized investment losses. For the second quarter of 2003
and 2002, net income includes $546,000 or $0.02 per diluted share of net
realized investment gains and $729,000 or $0.04 per diluted share of net
realized investment losses, respectively.
Operating earnings for the first six months of 2003 increased 7.5% to $24.5
million from $22.8 million for the first six months of 2002. For the second
quarter of 2003, operating earnings increased 4.4% to $12.3 million from $11.8
million in the second quarter of 2002. Operating earnings per share on a diluted
basis were $1.70 for the first six months of 2003 compared to $1.59 per share
for the first six months of 2002, an increase of 6.5%. For the second quarter of
2003, operating earnings per share on a diluted basis were $0.85 compared to
$0.82 for the second quarter of 2002, an increase of 3.9%. Operating earnings
and operating earnings per diluted share are non-GAAP measures. The Company
defines operating earnings as net income excluding net realized investment gains
and losses, net of related taxes. Management believes operating earnings and
operating earnings per diluted share are relevant and useful information, and
they are primary measurements used by management in assessing the Company's
performance. Net realized investment gains and losses are dependent on market
conditions, and management believes that they are not strong indicators of
trends in operations. Operating earnings and operating earnings per diluted
share results should not be considered as a substitute for net income prepared
in accordance with GAAP and may not be comparable to similarly titled measures
reported by other companies.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
The following table shows a reconciliation of net income to operating
earnings, including per share data:
--------------------------------------------------------------------------------
Three months ended Six months ended
(In thousands, except per share data) June 30, June 30,
2003 2002 2003 2002
--------------------------------------------------------------------------------
Net income $12,631 $11,290 $24,983 $21,328
Net realized investment (gains)
losses, net of tax (355) 473 (497) 1,448
------- ------- ------- -------
Operating earnings $12,276 $11,763 $24,486 $22,776
======= ======= ======= =======
Diluted earnings per share $0.87 $0.78 $1.73 $1.49
Net realized investment (gains)
losses, net of tax, per share (0.02) 0.04 (0.03) 0.10
------- ------- ------- -------
Operating earnings per diluted share $0.85 $0.82 $1.70 $1.59
======= ======= ======= =======
--------------------------------------------------------------------------------
Total insurance written was $8.6 billion for the first six months of 2003
compared to $6.2 billion for the first six months of 2002, an increase of 38.6%.
For the second quarter of 2003, total insurance written was $4.9 billion
compared to $3.5 billion for the comparable period of 2002, an increase of
40.6%. Total insurance written includes insurance written attributable to
traditional flow production and insurance written attributable to structured
bulk transactions.
Traditional flow insurance written in the first half of 2003 increased
52.2% to $8.3 billion from $5.5 billion in the first half of 2002. For the
second quarter of 2003, traditional flow insurance written increased 73.9% to
$4.7 billion from $2.7 billion for the comparable period of 2002. This increase
was primarily the result of expanding relationships with national lenders,
strong demand for risk-sharing arrangements and other product offerings, and a
lower interest rate environment that contributed to a very strong refinance
market.
Insurance written in the first six months of 2003 attributable to
structured bulk transactions totaled $322 million ($186 million in the second
quarter) compared to $766 million (all in the second quarter) in the first half
of 2002. Structured bulk transactions are generally initiated by secondary
mortgage market participants who wish to use mortgage insurance as a credit
enhancement. The Company competes against other mortgage insurers as well as
other forms of credit enhancement provided by capital markets for these
transactions. Insurance written attributed to structured bulk transactions is
likely to vary significantly from period to period due to the relatively small
number of transactions that encompass this market (as opposed to the traditional
flow market), competitiveness with other mortgage insurers, the attractiveness
in the marketplace of mortgage insurance versus other forms of credit
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
enhancements, and the changing loan composition and underwriting criteria of the
market. Although terms vary, the bulk market can be broadly categorized into
three different segments or tiers depending on the risk characteristics of the
loans comprising a transaction. The loan characteristics of the three segments
are: 1) predominantly high credit quality, low LTV, fully underwritten loans
that may have niche characteristics such as non-conforming loan balances and
geographic concentrations; 2) loans that generally have high credit quality and
low to moderate LTVs that have been underwritten with reduced or streamlined
documentation; and, 3) generally fully underwritten loans with credit impaired
borrowers (FICO credit score less than 575). The Company has evaluated all
segments of the bulk market and, as of June 30, 2003, approximately 4% of the
Company's insurance in force attributable to structured bulk transactions is
categorized in segment 3.
The Company periodically enters structured transactions which have
effective dates of coverage within the current reporting period; however, due to
the timing of the submission of the detailed loan information, these
transactions are not reflected in the Company's inforce and related account
totals until loan level detail is reported to the Company. During the second
quarter of 2003, the Company wrote approximately $1.0 billion of insurance
written attributable to structured bulk transactions that has not been reflected
in reported insurance in force and related accounts for the quarter or
year-to-date due to the timing of the submission of the detailed loan
information. These amounts will be reported in insurance in force and related
accounts during the third quarter of 2003. The Company has, however, properly
included in premium written and premium earned the respective amounts due and
earned by the Company during the second quarter of 2003 related to this
insurance.
Consolidation within the mortgage origination industry and Triad's
continued focus on national lenders has resulted in a greater percentage of
production volume being concentrated among a smaller customer base. The
Company's ten largest customers were responsible for 75% of traditional flow
insurance written in the first six months of 2003 compared to 72% in the first
half of 2002 and 73% in all of 2002. The Company's two largest customers
generated 59% of traditional flow insurance written in the first six months of
2003 compared to 53% in the first half of 2002 and 53% in all of 2002. The loss
of one or more of these major customers could have a significant adverse effect
on the Company's business.
According to industry data, Triad's national market share of net new
primary insurance written, which includes insurance written on a traditional
flow basis as well as that attributed to structured bulk transactions, increased
to 4.3% for the first six months and 4.7% for the second quarter of 2003
compared to 3.4% and 3.2% for the respective periods of 2002. Triad's national
market share of net new primary insurance written on a traditional flow basis
was 5.4% for the second quarter and 5.1% for the first six months of 2003
compared to 4.1% for both respective periods of 2002. Net new primary insurance
written excludes insurance placed upon loans more than 12 months after loan
origination, insurance placed upon loans already covered by primary mortgage
insurance, and insurance placed upon loans where lender exposure is effectively
reduced below defined minimums.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
Total direct insurance in force reached $26.9 billion at June 30, 2003,
compared to $25.4 billion at December 31, 2002, and $23.8 billion at June 30,
2002. Significant refinance activity in 2002 and in the first half of 2003
resulted in a high level of policy cancellations that substantially offset the
impact that the high level of insurance written had on in force growth. As a
result, insurance in force increased by only $1.5 billion in the first half of
2003, even though insurance written during the first six months was $8.6
billion.
FICO credit scores are one of the factors used by the Company in
determining credit risk. The following table presents the FICO credit score
distribution of the Company's insurance in force at June 30, 2003 and December
31, 2002.
-------------------------------------------------------------------------------
Percent of Insurance In Force
June 30, 2003 December 31, 2002
------------- -----------------
Credit score less than 575 1.0% 0.9%
Credit score between 575 and 619 5.0% 4.8%
Credit score greater than 619 94.0% 94.3%
-------------------------------------------------------------------------------
As the table shows, the Company insures some loans that have FICO credit scores
below 575. The Company believes that these loans have a higher probability of
loss than a loan with a FICO credit score of 575 or greater. The Company does
not expect loans with FICO scores less than 575 to become a significant portion
of its insurance in force and currently only insures these loans with existing
lender customers.
Total direct premiums written were $71.9 million for the first six months
of 2003, an increase of 24.8% from $57.6 million for the comparable period of
2002. Direct premiums written for the second quarter of 2003 increased 27.2% to
$37.9 million from $29.8 million in the second quarter of 2002. Net premiums
written increased by 19.6% to $59.5 million in the first six months of 2003 from
$49.8 million for the comparable period of 2002. Net premiums written for the
second quarter of 2003 increased 24.1% to $31.4 million from $25.3 million in
the second quarter of 2002.
The difference between direct premiums written and net premiums written is
primarily attributable to ceded premium. Driven by an increase in insurance
subject to lender risk-sharing arrangements, ceded premiums written increased
57.9% to $12.4 million for the first six months of 2003 from $7.8 million for
the first six months of 2002. Ceded premiums written in the second quarter of
2003 were $6.5 million compared to $4.5 million for the same period of 2002, an
increase of 44.6%. The Company also continues to maintain $125 million of excess
of loss reinsurance coverage for which the payment is included in ceded premium
written. The Company's premium cede rate (the ratio of ceded premiums written to
total direct premiums written) was 17.2% in both the first half and in the
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
second quarter of 2003 compared to 13.6% in the first half of 2002 and 15.1% in
the second quarter of 2002. The Company's premium cede rate for captive
reinsurance (the ratio of ceded premiums written under captive reinsurance
arrangements to total direct premiums written) was 14.7% in the first six months
of 2003 (14.9% in the second quarter) compared to 11.6% in the first six months
of 2002 (12.2% in the second quarter). The average premium cede rate for direct
premiums written subject to the Company's captive reinsurance arrangements was
34.2% for the first six months of 2003 (35.4% in the second quarter) compared to
36.3% in the first six months of 2002 (36.1% in the second quarter).
Approximately 46% of flow insurance written (44% of total insurance written
including structured bulk transactions) during the first half of 2003 is subject
to risk-sharing arrangements compared to 50% of flow insurance written (44%
including structured bulk transactions) in the same period of 2002. Through June
30, 2003, insurance written attributable to structured bulk transactions has not
been subject to captive mortgage reinsurance or other risk-sharing arrangements.
Approximately 48% of direct insurance in force is subject to risk-sharing
arrangements at June 30, 2003, compared to 41% at June 30, 2002. This increase
in insurance in force subject to risk-sharing arrangements is due primarily to
the increased market penetration of the Company's risk-sharing arrangements and
the high level of refinance activity during the past twelve months, as policies
that were previously not subject to risk-sharing arrangements refinanced and new
policies issued were subject to risk-sharing arrangements. Management
anticipates ceded premiums will continue to increase as a result of the expected
increase in risk-sharing programs.
Under the Company's excess of loss lender risk-sharing arrangements,
the reinsurer may elect a risk band with a flexible entry and exit point. One of
the Company's competitors announced that effective April 1, 2003, it will not
participate in excess of loss risk-sharing arrangements where the net premium
cede rate is greater than 25% ("deep ceded"). The Company believes that its
risk-sharing arrangements provide valuable reinsurance protection and
potentially reduce the risk of volatility in the Company's earnings. The Company
plans to continue to participate in excess of loss risk-sharing arrangements,
including deep ceded arrangements. It is uncertain at this time what impact, if
any, the competitor's decision to not participate in deep ceded excess of loss
risk-sharing arrangements will have on the Company's direct insurance in force
subject to risk-sharing arrangements and the Company's market share.
Earned premiums increased 12.7% to $56.4 million for the first six months
of 2003 from $50.0 million for the comparable period of 2002. Earned premiums
for the second quarter of 2003 increased 10.8% to $28.3 million from $25.5
million in the second quarter of 2002. The variance between net written premiums
and earned premiums is due to the significant writings of the Company's annual
premium product for the quarter and the related increase to the unearned premium
reserve. The Company's unearned premium liability increased to $11.7 million at
June 30, 2003 from $8.6 million at March 31, 2003. Direct written premium from
the annual premium product represented 17.5% of direct premium written for the
second quarter of 2003 compared to 5.4% for the respective quarter of 2002. The
growth in written and earned premiums resulted from strong levels of new
insurance written offset by the impact of a declining persistency rate due to a
high level of mortgage refinancings and by the increase in ceded premiums.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
Reflecting the record low interest rate environment in place during the
first half of 2003, refinance activity increased to 56.3% of total insurance
written (56.0% excluding structured bulk transactions) in the first six months
of 2003 from 39.9% of total insurance written (40.1% excluding structured bulk
transactions) in the first six months of 2002. Refinance activity was 55.3% of
total insurance written (55.1% excluding structured bulk transactions) in the
second quarter of 2003 compared to 33.0% of total insurance written (31.4%
excluding structured bulk transactions) in the same period of 2002. Persistency,
or the percentage of insurance in force remaining from 12 months prior, was
54.6% at June 30, 2003 compared to 60.9% at December 31, 2002, and 62.4% at June
30, 2002. The high level of refinance activity and the resulting decrease in
persistency is reflective of the low interest rate environment that has been in
place during the past year. Low persistency results in an acceleration of the
amortization of deferred policy acquisition costs and a reduction in renewal
premiums. The annualized quarterly persistency run rate for the second quarter
of 2003 was 33.6% compared to 50.8% for the first quarter of 2003 and 65.5% for
the second quarter of 2002.
The Company defines persistency as the percentage of insurance in force
remaining from 12 months prior. Run off, defined as cancelled or terminated
policies, of production originated during the past 12 months is not considered
in the Company's calculation of persistency. The Company calculates persistency
by determining the run off over the prior 12 months of each individual policy
year (exclusive of current year production). This method of calculating
persistency may vary from that of other mortgage insurers. The Company believes
that its calculation presents an accurate measure of the percentage of insurance
in force remaining from 12 months prior. The Company's current method of
calculating persistency is consistent with the methodology used by the Company
in prior years.
Net investment income for the first six months of 2003 was $8.7 million, a
12.3% increase over $7.7 million in the first six months of 2002. Net investment
income for the second quarter of 2003 was $4.3 million compared to $4.0 million
in second quarter of 2002, an increase of 9.6%. This increase is the result of
growth in the average book value of invested assets by $57.0 million to $343.8
million at June 30, 2003 from $286.8 million at June 30, 2002, which is
attributable to the investment of normal operating cash flow. The pre-tax yield
on average invested assets, calculated on the basis of amortized cost, decreased
to 5.0% for the first six months of 2003 compared to 5.4% for the first six
months of 2002. The portfolio's tax-equivalent yield-to-maturity was 7.5% for
the first half of 2003 versus 7.9% for the first half of 2002. The decrease in
yields reflects the low interest rate environment for new money investments made
over the past several quarters and the disposal of a number of higher yielding
securities during the past twelve months to enhance the overall quality of the
portfolio. The portfolio's yield was also affected by a higher percentage of the
fixed income portfolio invested in municipal securities. Based on fair value,
approximately 83% and 77% of the Company's fixed maturity portfolio at June 30,
2003 and 2002, respectively, was composed of state and municipal tax-preferred
securities. Both at June 30, 2003 and June 30, 2002, approximately 95% of the
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
Company's fixed maturity portfolio, based on fair value, was either a U.S.
government or U.S. agency obligation or was rated investment grade by at least
one nationally recognized securities rating organization. U.S. government, U.S.
agency, and investment grade securities generally have a lower yield, in return
for less default risk, than securities rated below investment grade.
The Company reported $765,000 of net realized investment gains in the first
six months of 2003 and $2.2 million of net realized investment losses in the
same period of 2002. For the second quarter of 2003, the Company reported
$546,000 of net realized investment gains compared to $729,000 of reported net
realized investment losses in the second quarter of 2002. The Company actively
monitors investment securities considered to be at risk for impairment. When the
Company determines that a decline in the value of a security below its amortized
cost is other-than-temporary, an impairment loss has occurred. In the event of
impairment, the Company writes down the cost basis of the security to its fair
value and recognizes a realized loss for the amount of the writedown. Net
realized gains of $765,000 during the second half of 2003 included approximately
$600,000 of impairment writedowns. Net realized gains of $546,000 during the
second quarter of 2003 included an impairment writedown on a bond of
approximately $175,000.
Net losses and loss adjustment expenses (net of reinsurance recoveries)
increased by 97.3% in the first half of 2003 to $10.6 million from $5.4 million
for the same period of 2002. Net losses and loss adjustment expenses were $5.4
million in the second quarter of 2003 compared to $2.9 million in the second
quarter of 2002, an increase of 86.8%. This rise reflects an increase in paid
losses and delinquent loans as the Company's insurance in force grows and the
condition of the economy remains weak. Net paid losses and loss adjustment
expenses were $7.6 million in the first six months of 2003 compared to $4.6
million in the first six months of 2002. Net paid losses and loss adjustment
expenses were $4.0 million in the second quarter of 2003, up from $2.4 million
in the second quarter of 2002. Average severity (direct paid losses divided by
number of claims paid) for the first six months of 2003 was approximately
$22,000 compared with $22,500 for the respective period of 2002. The Company's
loss ratio (the ratio of incurred losses to earned premiums) was 18.9% for the
first half of 2003 compared to 10.8% for the first half of 2002 and 13.4% for
all of 2002. The loss ratio was 19.0% in the second quarter of 2003 and 11.3%
for the second quarter of 2002.
As of June 30, 2003, approximately 88% of the Company's insurance in force
was originated in the last 36 months compared to 78% at June 30, 2002.
Management believes, based upon its experience and industry data, that claims
incidence for traditional flow business is generally highest in the third
through sixth years after loan origination. Furthermore, management believes
that the period of highest claim incidence for business attributable to
structured bulk transactions is earlier than that for traditional flow business.
The Company expects its incurred losses to increase as a greater amount of its
insurance in force reaches its anticipated highest claim frequency years.
Furthermore, changes in the economic environment could accelerate paid and
incurred loss development. Due to the inherent uncertainty of future premium
levels, losses, economic conditions, and other factors that affect earnings, it
is difficult to predict with any degree of certainty the impact of such higher
claim frequencies on future earnings.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
Amortization of deferred policy acquisition costs increased by 23.1% to
$7.4 million in the first six months of 2003 from $6.0 million for the first six
months of 2002. These costs increased 31.5% in the second quarter of 2003 to
$4.0 million from $3.1 million in the second quarter of 2002. The increase in
amortization reflects growth in deferred policy acquisition costs related to the
expansion of the Company's insurance in force and accelerated amortization due
to higher cancellations from refinance activity in the first half of 2003. The
Company's model calculates the amortization of deferred policy acquisition costs
separately for each book year. The model accelerates the amortization of
deferred policy acquisition costs through a dynamic adjustment when persistency
for a book year is lower than a historical baseline level in order to match the
amortization expense with the life of the policies on which the acquisition
costs were originally deferred. Low persistency levels during the first six
months of 2003 and 2002 resulted in additional amortization of deferred policy
acquisition costs through dynamic adjustments totaling $1.2 million in the first
half of 2003 ($922,000 in the second quarter) and $431,000 in the first half of
2002 ($305,000 in the second quarter).
Other operating expenses decreased 7.0% to $11.0 million for the first half
of 2003 from $11.8 million for the same period of 2002. For the second quarter
of 2003, other operating expenses were $5.2 million compared to $5.8 million in
the second quarter of 2002, a decrease of 10.3%. The decline in other operating
expenses is primarily the result of operational efficiencies achieved through
the use of technology. The Company has made substantial investments in
technology that allows increased insurance writings without a proportional
increase in operating expenses. The expense ratio (ratio of the amortization of
deferred policy acquisition costs and other operating expenses to net premiums
written) for the first half of 2003 was 31.0% compared to 35.9% for the first
half of 2002 and 34.6% for all of 2002. The expense ratio for the second quarter
of 2003 was 29.3% compared to 34.9% in the second quarter of 2002. The
improvement in the expense ratios was impacted by both positive expense
development and the increase in net written premium which was affected by
increased production of the annual premium product.
The effective tax rate for the first six months of 2003 was 29.4% compared
to 31.0% for the first six months of 2002. The effective tax rate for the second
quarter of 2002 was 29.4% compared to 30.9% for the second quarter of 2002. The
decrease in the effective tax rate is due primarily to an increase in tax-exempt
interest resulting from a higher percentage of assets being invested in
tax-preferred securities. Management expects the Company's effective tax rate to
remain near current levels or decline slightly as long as yields from new funds
invested in tax-preferred securities remain favorable in relation to fully
taxable securities.
LIQUIDITY AND CAPITAL RESOURCES
The Company's sources of operating funds consist primarily of premiums
written and investment income. Operating cash flow is applied primarily to the
payment of claims, interest, operating expenses, and taxes.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
The Company generated positive cash flow from operating activities for the
first half of 2003 of $23.1 million compared to $16.8 million for the same
period of 2002. The increase in operating cash flow in the first half of 2003
reflects the growth in premiums and investment income and a decrease in
underwriting expenses paid offset partially by an increase in losses paid. The
Company's business does not routinely require significant capital expenditures
other than for enhancements to its computer systems and technological
capabilities. Positive cash flows are invested pending future payments of claims
and expenses. Cash flow shortfalls, if any, could be funded through sales of
short-term investments and other investment portfolio securities.
The parent company's cash flow is dependent on interest income and payments
from Triad including management fees and interest payments under surplus notes.
The Illinois Insurance Department permits expenses of the parent company to be
reimbursed by Triad in the form of management fees. Payment of dividends is also
permitted, although none have been paid to date.
The insurance laws of the State of Illinois impose certain restrictions on
dividends that Triad can pay the parent company. These restrictions, based on
statutory accounting principles, include requirements that dividends may be paid
only out of statutory earned surplus and that limit the amount of dividends that
may be paid without prior approval of the Illinois Insurance Department.
Consolidated invested assets were $377.1 million at June 30, 2003 compared
to $344.6 million at December 31, 2002. Fixed maturity securities and equity
securities classified as available-for-sale totaled $349.9 million at June 30,
2003 compared to $309.3 million at December 31, 2002. Contributing to this
increase in invested assets and securities classified as available-for-sale was
an increase in net unrealized investment gains on fixed maturity securities from
year-end levels and a net unrealized investment gain on equity securities at
June 30, 2003 compared to a net unrealized investment loss at year-end. Net
unrealized investment gains on fixed maturity securities were $21.3 million at
June 30, 2003 compared to $13.7 million at December 31, 2002. Net unrealized
investment gains on equity securities were $589,000 at June 30, 2003 compared to
a net unrealized investment loss of $458,000 at December 31, 2002. Based on fair
value, the fixed maturity portfolio consisted of approximately 83% municipal
securities, 14% corporate securities, and 3% U.S. government obligations at June
30, 2003 compared to a composition of 81% municipal securities, 15% corporate
securities, and 4% U.S. government obligations at December 31, 2002.
The Company's loss and loss adjustment expense reserves were $24.4 million
at June 30, 2003 compared to $21.4 million at December 31, 2002. Loss and loss
adjustment expense reserves are established for all insured loans reported as
delinquent to the Company by the loan servicer. Reserves also are established
for estimated losses incurred on notices of default not yet reported by the
servicer. Consistent with industry practices, the Company does not establish
loss reserves for future claims on insured loans that are not currently in
default. The growth in loss reserves is the result of the increase in reported
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
defaults. The Company expects loss reserves and the number of flow and bulk
loans in default to continue to grow, reflecting the growth and aging of its
insurance in force.
The following table shows default statistics as of June 30, 2003 and
December 31, 2002:
-------------------------------------------------------------------------------
Default Statistics
June 30 December 31
2003 2002
---- ----
Number of insured loans in force...................... 205,046 190,480
Number of loans in default............................ 3,351 2,379
Percentage of loans in default (default rate)......... 1.63% 1.25%
Number of insured loans in force excluding bulk loans. 189,161 171,723
Number of loans in default excluding bulk loans....... 2,510 2,120
Percentage of loans in default excluding bulk loans... 1.33% 1.23%
Number of bulk loans in force......................... 15,885 18,757
Number of bulk loans in default....................... 841 259
Percentage of bulk loans in default................... 5.29% 1.38%
-------------------------------------------------------------------------------
The number of loans in default includes all reported delinquencies that are
three or more payments in arrears at the reporting date and all reported
delinquencies that were previously three or more payments in arrears and have
not made payments to the current due date. While the default rate for
traditional flow business remained relatively flat between periods, the increase
in the default rate for bulk loans is partially due to a change in servicers for
certain bulk policies that resulted in a delay in the reporting of delinquencies
to the Company in the fourth quarter of 2002. The Company had established an
incurred but not reported reserve amount for this estimated exposure in the
fourth quarter of 2002. Also contributing to the increase in the default rate
for bulk loans is the decline in the number of bulk policies in force as a
result of significant refinance activity that was not accompanied by a
substantial amount of new writings as that experienced with traditional flow
business. The number of policies in force is the denominator in the default rate
calculation and, all else being equal, a decline in this number results in a
higher default rate. The default occurrence for both traditional flow business
and structured bulk business is consistent with management's expectation.
Reserves are established by management using estimated claim rates
(frequency) and claim amounts (severity) to estimate ultimate losses. The
reserving process incorporates numerous factors in a formula that gives effect
to current economic conditions and profiles delinquencies by such factors as
policy year, geography, chronic late payment characteristics, and the number of
months the policy has been in default. Because the estimate for loss reserves is
sensitive to the estimates of claims frequency and severity, management performs
sensitivity analyses to test the reasonableness of the best estimate generated
by the loss reserve process. These sensitivity analyses allow management to use
19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
alternative assumptions related to claims frequency and claims severity to
develop a range of reasonably possible loss reserve outcomes that can be used to
challenge the best estimate. The loss reserve estimation process and the
sensitivity analyses support the reasonableness of the best estimate of loss
reserves recorded as a liability in the financial statements. Management
periodically reviews the loss reserve process in order to improve its estimate
of ultimate losses on loans currently in default. Adjustments to reserve
estimates are reflected in the financial statements in the periods in which the
adjustments are made.
Triad cedes business to captive reinsurance subsidiaries and/or affiliates
of certain mortgage lenders ("captives") primarily under excess of loss
reinsurance agreements. Generally, reinsurance recoverables on loss reserves and
unearned premiums ceded to these captives are backed by trust funds or letters
of credit.
Total stockholders' equity increased to $342.3 million at June 30, 2003
from $309.4 million at December 31, 2002. This increase resulted primarily from
net income of $25.0 million for the first half of 2003 and from an increase in
unrealized gains on investments, net of tax, of $5.6 million.
Triad's total statutory policyholders' surplus increased to $120.6 million
at June 30, 2003 from $112.9 million at December 31, 2002. Triad's statutory
earned surplus increased to $36.9 million at June 30, 2003 from $29.2 million at
December 31, 2002. The increase in Triad's statutory policyholders' surplus and
statutory earned surplus resulted, primarily, from statutory net income of $33.2
million which exceeded the net increase in the statutory contingency reserve of
$28.6 million. The balance in the statutory contingency reserve was $273.6
million at June 30, 2003 compared to $245.0 million at December 31, 2002.
Triad's ability to write insurance depends on the maintenance of its
financial strength ratings and the adequacy of its capital in relation to risk
in force. A significant reduction of capital or a significant increase in risk
may impair Triad's ability to write additional insurance. A number of states
also generally limit Triad's risk-to-capital ratio to 25-to-1. As of June 30,
2003, Triad's risk-to-capital ratio was 15.0-to-1 compared to 15.5-to-1 at
December 31, 2002, and to 11.1-to-1 for the industry as a whole at December 31,
2001, the latest industry data available. The risk-to-capital ratio is
calculated using net risk in force, which takes into account risk ceded under
reinsurance arrangements including captive risk-sharing arrangements, as the
numerator and statutory capital, which includes statutory policyholders' surplus
and the balance in the contingency reserve, as the denominator. The decrease in
Triad's risk-to-capital ratio is due to a higher growth rate in statutory
capital than that in net risk in force.
Triad is rated "AA" by both Standard & Poor's Ratings Services and Fitch
Ratings and "Aa3" by Moody's Investors Service.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
Fannie Mae is in the process of revising its approval requirements for
mortgage insurers. The new requirements, which have not yet been finalized,
would require prior approval by Fannie Mae for many of Triad's activities and
new products, allow for other approved types of mortgage insurers rated less
than "AA," and give Fannie Mae increased rights to revise the eligibility
standards of mortgage insurers. The final form the eligibility guidelines will
take is unknown at this time, but new guidelines, if issued, could have an
adverse effect on the Company.
The Office of Federal Housing Enterprise Oversight (OFHEO) issued its
risk-based capital rules for Fannie Mae and Freddie Mac in the first quarter of
2002. The regulation provides capital guidelines for Fannie Mae and Freddie Mac
in connection with their use of various types of credit protection
counterparties including a more preferential capital credit for insurance from a
"AAA" rated private mortgage insurer than for insurance from a "AA" rated
private mortgage insurer. The phase-in period for the new rules is ten years.
The Company does not believe the new rules had an adverse impact on it in the
first half of 2003 nor that the new rules will have a significant adverse impact
on the Company in the future. However, if the new capital guidelines result in
future changes to the preferences of Fannie Mae and Freddie Mac regarding their
use of the various types of credit enhancements or their choice of mortgage
insurers based on their credit rating, the Company's financial condition could
be significantly harmed.
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Management's Discussion and Analysis and this Report contain
forward-looking statements relating to future plans, expectations, and
performance which involve various risks and uncertainties, including but not
limited to the following:
o interest rates may increase or decrease from their current levels;
o housing transactions requiring mortgage insurance may decrease for
many reasons including changes in interest rates or economic
conditions;
o the Company's market share may change as a result of changes in
underwriting criteria or competitive products or rates;
o the amount of insurance written could be adversely affected by changes
in federal housing legislation, including changes in the Federal
Housing Administration loan limits and coverage requirements of
Freddie Mac and Fannie Mae;
o the Company's financial condition and competitive position could be
affected by legislation impacting the mortgage guaranty industry
specifically and the financial services industry in general;
o rating agencies may revise methodologies for determining the Company's
financial strength ratings and may revise or withdraw the assigned
ratings at any time;
o decreases in persistency, which are affected by loan refinancings in
periods of low interest rates, may have an adverse effect on earnings;
21
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - - CONTINUED
o the amount of insurance written and the growth in insurance in force
or risk in force as well as the performance of the Company may be
adversely impacted by the competitive environment in the private
mortgage insurance industry, including the type, structure, and
pricing of products and services offered by the Company and its
competitors;
o if the Company fails to properly underwrite mortgage loans under
contract underwriting service agreements, the Company may be required
to assume the costs of repurchasing those loans;
o with consolidation occurring among mortgage lenders and the Company's
concentration of insurance in force generated through relationships
with significant lender customers, the loss of a significant customer
may have an adverse effect on earnings;
o the Company's performance may be impacted by changes in the
performance of the financial markets and general economic conditions;
o economic downturns in regions where Triad's risk is more concentrated
could have a particularly adverse effect on Triad's financial
condition and loss development;
o OFHEO risk-based capital rules could severely limit the Company's
ability to compete against various types of credit protection
counterparties, including "AAA" rated private mortgage insurers;
o changes in the eligibility guidelines of Fannie Mae or Freddie Mac
could have an adverse effect on the Company;
o proposed regulation by the Department ofHousing and Urban Development
to exclude packages of real estate settlement services, which may
include any required mortgage insurance premium paid at closing, from
the anti-referral provisions of the Real Estate Settlement Procedures
Act could adversely affect the Company's earnings.
Accordingly, actual results may differ from those set forth in the
forward-looking statements. Attention also is directed to other risk factors set
forth in documents filed by the Company with the Securities and Exchange
Commission.
22
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RIsk
The Company's market risk exposures at June 30, 2003 have not materially
changed from those identified at December 31, 2002.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the filing date of this report, the Company
evaluated the effectiveness of the design and operation of its disclosure
controls and procedures pursuant to the Exchange Act of 1934, Rule 13a-15. The
evaluation was conducted under the supervision and with the participation of
management, including the Chief Executive Officer (CEO) and Chief Financial
Officer (CFO). Based on that evaluation, management, including the CEO and CFO,
concluded that the Company's disclosure controls and procedures were effective.
Disclosure controls and procedures are designed to ensure that information
required to be disclosed in the Company's reports filed or submitted under the
Exchange Act is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission's rules and forms.
There have been no significant changes in the Company's internal controls
or in other factors that could significantly affect the Company's internal
controls subsequent to the date management carried out its evaluation.
23
PART II
ITEM 1. LEGAL PROCEEDINGS - None
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS - None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES - None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Stockholders was held on May 22, 2003. Shares
entitled to vote at the Annual Meeting totaled 14,272,494 of which 13,854,764
shares were represented at the meeting.
The following six directors were elected at the Annual Meeting. Also shown
are the number of shares cast for and authorization withheld for each nominee.
Name of Nominee Number of Votes for Authorization withheld
--------------- ------------------- -----------------------
Robert T. David 13,809,028 45,736
Michael A. F. Roberts 13,787,291 67,473
William T. Ratliff, III 13,581,615 273,149
Richard S. Swanson 13,788,791 65,973
Darryl W. Thompson 10,953,803 1,923,846
David W. Whitehurst 10,747,446 3,107,318
ITEM 5. OTHER INFORMATION - None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
99.1 Certification of Periodic Financial Report Pursuant to 18 U.S.C.
Section 1350
(b) REPORTS ON FORM 8-K
On July 23, 2003, the Company filed a current report on Items 7
and 9 of Form 8-K relating to the issuance of its results of
operations for the second quarter ended June 30, 2003 in an
earnings release.
24
Signatures and Certifications of the Chief Executive Officer and Chief Financial
Officer of the Company
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
TRIAD GUARANTY INC.
-------------------
Date: August 14, 2003
/s/ Michael R. Oswalt
---------------------
Michael R. Oswalt
Senior Vice President and Treasurer,
Principal Accounting Officer
25
Form 10-Q
CERTIFICATIONS
I, Darryl W. Thompson, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Triad Guaranty
Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors:
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
26
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
August 14, 2003
/s/ Darryl W. Thompson
-----------------------
Darryl W. Thompson
President, Chief Executive Officer
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Form 10-Q
CERTIFICATIONS
I, Ron D. Kessinger, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Triad Guaranty
Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors:
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
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6. The registrant's other certifying officer and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
August 14, 2003
/s/ Ron D. Kessinger
----------------------
Ron D. Kessinger
Executive Vice President and
Chief Financial Officer
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