10-Q 1 mv8-13_10q.txt SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 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 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 1-7411 ALLCITY INSURANCE COMPANY ------------------------------------------------------ (Exact name of registrant as specified in its charter) New York 13-2530665 ------------------------------- ------------------ (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 45 Main Street, Brooklyn, N.Y. 11201-3731 ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (718)422-4000 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 by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act). Yes [ ] No [X] On August 11, 2003 there were 7,078,625 shares of Common Stock outstanding. ALLCITY INSURANCE COMPANY INDEX

i PART 1 - FINANCIAL INFORMATION ------ --------------------- ITEM 1. INTERIM CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) ALLCITY INSURANCE COMPANY AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS June 30, 2003 and December 31, 2002 (In thousands, except share and per share amounts) JUNE 30, DECEMBER 31, 2003 2002 ---- ---- (Unaudited) ASSETS Investments: Fixed maturities Available for sale (amortized cost of $37,311 in 2003 and $43,125 in 2002) $ 37,662 $ 43,790 Held to maturity (fair value of $274 in 2003) 272 - Short-term 24,917 31,474 Other invested assets 6,674 6,429 ------- ------- TOTAL INVESTMENTS 69,525 81,693 Cash 51 47 Agents' balances, less allowance for doubtful accounts ($33 in 2003 and $182 in 2002) 122 1,002 Accrued investment income 386 405 Reinsurance balances receivable 109,800 118,510 Prepaid reinsurance premiums 272 493 Due from Empire 6,734 5,234 Other assets 573 1,081 ------- ------- TOTAL ASSETS $187,463 $208,465 ======= ======= LIABILITIES Unpaid losses $135,103 $151,706 Unpaid loss adjustment expenses 22,421 23,882 Unearned premiums 850 1,393 Reinsurance balances payable 297 780 Other liabilities 3,610 3,737 Surplus note 7,398 7,249 ------- ------- TOTAL LIABILITIES 169,679 188,747 ------- ------- SHAREHOLDERS' EQUITY Common stock, $1 par value: 7,368,420 shares authorized; 7,078,625 shares issued and outstanding in 2003 and 2002 7,079 7,079 Additional paid-in capital 9,331 9,331 Accumulated other comprehensive income 351 665 Retained earnings 1,023 2,643 ------- ------- TOTAL SHAREHOLDERS' EQUITY 17,784 19,718 ------- ------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $187,463 $208,465 ======= ======= See Notes to Interim Consolidated Financial Statements. 1 ALLCITY INSURANCE COMPANY AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) For the six months ended June 30, 2003 and 2002 (In thousands, except share and per share amounts) SIX MONTHS ENDED JUNE 30, -------- 2003 2002 ---- ---- REVENUES Premiums earned $ 335 $ 3,054 Net investment income 971 1,736 Net securities gains 200 47 Other income 28 24 ------ ------ 1,534 4,861 LOSSES AND EXPENSES (Decrease) increase in provision for losses (630) 1,761 Loss adjustment expenses 1,965 2,621 Other underwriting expenses, less deferrals of $0 in 2003 and 2002 1,670 2,292 Interest on surplus note 149 166 ------ ------ 3,154 6,840 LOSS BEFORE FEDERAL INCOME TAXES (1,620) (1,979) ------ ------ FEDERAL INCOME TAXES Current expense/(benefit) - - Deferred expense/(benefit) - - ------ ------ - - ------ ------ NET LOSS $(1,620) $(1,979) ====== ====== Per share data, based on 7,078,625 average shares outstanding in 2003 and 2002 BASIC AND DILUTED LOSS PER SHARE $ (0.23) $ (0.28) ====== ====== See Notes to Interim Consolidated Financial Statements. 2 ALLCITY INSURANCE COMPANY AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) For the three months ended June 30, 2003 and 2002 (In thousands, except share and per share amounts) THREE MONTHS ENDED JUNE 30, -------- 2003 2002 ---- ---- REVENUES Premiums earned $ 323 $ 1,147 Net investment income 380 829 Net securities gains 4 - Other income 14 10 ------ ------ 721 1,986 LOSSES AND EXPENSES Increase in provision for losses 256 275 Loss adjustment expenses 335 1,460 Other underwriting expenses, less deferrals of $0 in 2003 and 2002 797 876 Interest on surplus note 75 83 ------ ------ 1,463 2,694 LOSS BEFORE FEDERAL INCOME TAXES (742) (708) ------ ------ FEDERAL INCOME TAXES Current expense/(benefit) - - Deferred expense/(benefit) - - ------ ------ - - ------ ------ NET LOSS $ (742) $ (708) ====== ====== Per share data, based on 7,078,625 average shares outstanding in 2003 and 2002 BASIC AND DILUTED LOSS PER SHARE $ (0.11) $ (0.10) ====== ====== See Notes to Interim Consolidated Financial Statements. 3 ALLCITY INSURANCE COMPANY AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) For the six months ended June 30, 2003 and 2002 (In thousands) SIX MONTHS ENDED JUNE 30, -------- 2003 2002 ---- ---- NET CASH FLOWS FROM OPERATING ACTIVITIES Net loss $(1,620) $(1,979) Adjustments to reconcile net loss to net cash used for operating activities: Decrease to allowance for doubtful accounts (149) - Net securities gains (200) (47) Net change in: Agents' balances 1,029 425 Reinsurance balances receivable 8,710 30,868 Prepaid reinsurance premiums 221 2,999 Unpaid losses and loss adjustment expenses (18,064) (44,485) Unearned premiums (543) (5,194) Due from(to) Empire (1,500) (985) Reinsurance balances payable (483) 250 Other, net 795 (996) ------ ------ NET CASH USED FOR OPERATING ACTIVITIES (11,804) (19,144) ------ ------ NET CASH FLOWS FROM INVESTING ACTIVITIES Acquisition of fixed maturities (5,132) (13,717) Net change in other invested assets (245) (94) Proceeds from sale of fixed maturities 8,540 3,135 Proceeds from maturities of fixed maturities 2,070 2,591 Net change in short-term investments 6,575 27,233 ------ ------ NET CASH PROVIDED BY INVESTING ACTIVITIES 11,808 19,148 ------ ------ NET INCREASE IN CASH 4 4 Cash at beginning of period 47 36 ----- ----- Cash at the end of period $ 51 $ 40 ===== ===== See Notes to Interim Consolidated Financial Statements. 4 ALLCITY INSURANCE COMPANY AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (UNAUDITED) For the six months ended June 30, 2003 and 2002 (In thousands, except par value)

See Notes to Interim Consolidated Financial Statements. 5 ALLCITY INSURANCE COMPANY AND SUBSIDIARY NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS 1. The unaudited interim consolidated financial statements, which reflect all adjustments (consisting only of normal recurring items) that management believes necessary to fairly present interim consolidated results of operations, should be read in conjunction with the Notes to Consolidated Financial Statements (including the Summary of Significant Accounting Policies) included in the Company's audited consolidated financial statements for the year ended December 31, 2002 which are included in the Company's Annual Report filed on Form 10-K for such year (the "2002 10-K"). Consolidated results of operations for interim periods are not necessarily indicative of annual results of operations. The consolidated balance sheet at December 31, 2002 was extracted from the audited annual financial statements and does not include all disclosures required by generally accepted accounting principles for annual financial statements. 2. Pursuant to a tender offer by Leucadia National Corporation ("Leucadia") commenced in April 2003 for all of the outstanding shares of common stock of the Company not already owned by Leucadia and its affiliates, in June 2003 Leucadia accepted and purchased 312,611 shares of the Company's common stock at a price of $2.75 per share. After giving effect to the purchase of the tendered shares, Leucadia beneficially owns approximately 95.7% of the outstanding common stock of the Company. Subject to the prior approval of the New York Insurance Department (the "Department"), Leucadia, directly or indirectly through one of its subsidiaries, intends to acquire all of the remaining shares of the Company's common stock pursuant to a plan for the acquisition of minority interests (the "Plan of Acquisition") in accordance with Section 7118 of the New York Insurance Law (the "NYSIL"). If the Plan of Acquisition is consummated, the Company will cease to be a public company. Leucadia intends to seek the Department's approval to merge the Company with Empire Insurance Company ("Empire"), the Company's parent (collectively referred to as the "Group"), following implementation of the Plan of Acquisition, whereby Empire would be the surviving insurer. If the Department's approval for the Plan of Acquisition is not obtained, shares of the Company not beneficially owned by Leucadia will remain outstanding. In that event, the Company would continue as a public company unless it has fewer than 300 registered shareholders, in which case, Leucadia would cause the Company to deregister the common stock under the Securities Exchange Act of 1934, as amended, and, accordingly, there may be no public market for the common stock of the Company. 3. In December 2001, the Company and Empire announced that it had determined that it was in the best interest of its shareholders and policyholders to commence an orderly voluntary liquidation of all of the Group's operations. The Group will only accept business that it is obligated to accept by contract or New York insurance law; it does not engage in any other business activities except for its claims runoff operations. By the end of 2005, the Company expects that its voluntary liquidation will be substantially complete, premium revenue will be immaterial, infrastructure and overhead costs will be substantially reduced, and all that it expects to remain will be the administration and settlement of claims with long tail settlement characteristics, principally workers' compensation and certain liability claims. Given the Group's and the Company's current financial condition, the expected costs to be incurred during the claims runoff period, and the inherent uncertainty over ultimate claim settlement values, no assurance can be given that the Company's shareholders will be able to receive any value at the conclusion of the voluntary liquidation of its operations. 6 As of June 30, 2003, the Company's reinsurance recoverable from Empire was $80,380,000, representing 43% of the Company's total assets. Empire's stand alone statutory surplus was approximately $11,472,000 as of June 30, 2003, after giving effect to the limitations imposed under Section 1408 of the NYSIL on Empire's ability to record the value of its investment in the Company on Empire's statutory financial statements. This amount is approximately $8,172,000 above the minimum required under New York insurance regulations and an improvement of approximately $7,000,000 when compared to Empire's stand alone statutory surplus as of March 31, 2003. This improvement resulted from a release that Empire obtained in May 2003 from the New York City Industrial Development Agency concerning contingent obligations related to its former headquarters building. Empire's management continues to investigate transactions that could increase its stand alone surplus level in order to remain above minimum requirements. However, no assurance can be given that Empire will be successful in any other transaction to increase its stand alone statutory surplus. If the merger of Empire and the Company is consummated, the effect on Empire's stand alone surplus of the limitation imposed under Section 1408 of the NYSIL will be eliminated. The exact amount of the increase in Empire's stand alone statutory surplus cannot be currently determined, however, if the merger were consummated as of June 30, 2003, the increase would have been $5,597,000. The Company currently believes that its reinsurance recoverable from Empire is fully collectible; however, further reductions in Empire's statutory surplus, resulting from operating results, the contingencies discussed in Notes 4 and 5 or other matters, could impair Empire's ability to pay the full amount due to the Company. Further, any adverse regulatory action taken against Empire in the future could also impair the Company's ability to fully collect its reinsurance recoverable and could result in adverse regulatory action against the Company. No assurance can be given that adverse regulatory action will not be taken against Empire or the Company. 4. The New York State Department of Taxation and Finance (the "Department of Taxation and Finance") is in the process of auditing the Group's New York Franchise tax returns for the years 1992 through 1996 and has asserted that the Company and Empire should have filed their returns on a combined basis, rather than on a separate company basis. If the Company and Empire were required to file on a combined basis, the Group would be required to pay an additional franchise tax and related surcharge tax of approximately $5,700,000, plus interest, for the periods in question. The Group has informed the Department of Taxation and Finance that it does not agree with its position on this matter, and is in the process of submitting additional information to support its position. The Company does not believe it is probable that it will sustain a loss as a result of this assertion and therefore has not made any loss provision in its financial statements. If the Group does not prevail in this matter, the Company's share of this additional tax would be approximately $1,700,000, plus interest pursuant to the terms of the pooling agreement. 5. Empire and the Company have a financial dispute with a company that previously acted as a third party claims administrator for the Group ("Former Claims Administrator"). In 2002, the Group received a $1,736,000 claim for unpaid services from the Former Claims Administrator that the Group believes it is not obligated to pay because the services provided by the Former Claims Administrator were deficient and resulted in damages to the Group in excess of their claim. In May 2003, the Former Claims Administrator acknowledged that it owed the Group $1,131,000 and reduced its claim against the Group to $605,000. The Group is currently evaluating its options to resolve this dispute, including possibly litigating the matter. The Group does not believe it is probable that it will have to pay the $605,000 to the Former Claims Administrator, however, if the Group does not prevail in this matter, the Company's share of this payment, which has not been accrued, would be $181,500 pursuant to the terms of the pooling agreement. 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND INTERIM CONSOLIDATED RESULTS OF OPERATIONS The following should be read in conjunction with the Management's Discussion and Analysis of Financial Condition and Results of Operations included in the 2002 10-K. VOLUNTARY LIQUIDATION (RUN-OFF OF COMPANY'S OPERATIONS) In December 2001, the Group announced that it had determined that it was in the best interest of its shareholders and policyholders to commence an orderly voluntary liquidation of all of its operations. The Group will only accept business that it is obligated to accept by contract or New York insurance law; it does not engage in any other business activities except for its claims runoff operations. The voluntary liquidation of its operations is expected to be substantially complete by 2005. Given the Group's and the Company's current financial condition, the expected costs to be incurred during the claims runoff period, and the inherent uncertainty over ultimate claim settlement values, no assurance can be given that the Company's shareholders will be able to receive any value at the conclusion of the voluntary liquidation of its operations. As of June 30, 2003, the Company's reinsurance recoverable from Empire was $80,380,000, representing 43% of the Company's total assets. Empire's stand alone statutory surplus was approximately $11,472,000 as of June 30, 2003, after giving effect to the limitations imposed under Section 1408 of the NYSIL on Empire's ability to record the value of its investment in the Company on Empire's statutory financial statements. This amount is approximately $8,172,000 above the minimum required under New York insurance regulations and an improvement of approximately $7,000,000 when compared to Empire's stand alone statutory surplus as of March 31, 2003. This improvement resulted from a release that Empire obtained in May 2003 from the New York City Industrial Development Agency concerning contingent obligations related to its former headquarters building. Empire's management continues to investigate transactions that could increase its stand alone surplus level, in order to remain above minimum requirements. However, no assurance can be given that Empire will be successful in any other transaction to increase its stand alone statutory surplus. The Company currently believes that its reinsurance recoverable from Empire is fully collectible; however, further reductions in Empire's statutory surplus, resulting from operating results, the contingencies discussed in Notes 4 and 5 to these interim financial statements or other matters, could impair Empire's ability to pay the full amount due to the Company. Further, any adverse regulatory action taken against Empire in the future could also impair the Company's ability to fully collect its reinsurance recoverable and could result in adverse regulatory action against the Company. No assurance can be given that adverse regulatory action will not be taken against Empire or the Company. LIQUIDITY AND CAPITAL RESOURCES For the six month periods ended June 30, 2003 and 2002, net cash was used for operations principally as a result of a decrease in premiums written and the payment of claims and operating expenses. As a result of its decision to conduct an orderly voluntary liquidation of all of its operations, the Company expects to report a net use of cash from operations resulting primarily from the payment of claims and other expenses in excess of revenues generated for the foreseeable future. 8 At June 30, 2003 and 2002, the yield of the Company's fixed maturities portfolio was 1.3% and 2.2%, respectively, with an average maturity of 0.9 years and 0.4 years, respectively. Additionally, the Company's investment portfolio is principally comprised of U.S. Treasury securities and obligations of U.S. government agencies. Approximately 90% of the investment portfolio is rated "investment grade" by established bond rating agencies or issued or guaranteed by the U.S. Treasury or by governmental agencies. During the six months ended June 30, 2003 and 2002, the Company sold certain securities to meet short-term cash flow needs and realized capital gains of $200,000 and $47,000 in the 2003 and 2002 periods, respectively. The Company will continue to use the cash flow generated from its investment portfolio, including investment income and proceeds generated from the maturity and sale of investments, and from collection of its reinsurance receivables, a substantial portion of which is due from its parent, Empire, to settle its loss and loss adjustment expense ("LAE") reserves. At June 30, 2003, these assets totaled $179,762,000 (of which $80,380,000 is receivable from Empire) as compared to the Company's loss and LAE reserves of $157,524,000. The Company has not experienced any material default in the payment of reinsurance claims due from its reinsurance providers. A substantial portion of the Company's reserves are for worker's compensation and other liability reserves with long term settlement characteristics. Based on its historical settlement patterns for these reserves, the Company projects that it will still have a significant amount of the reserves remaining unsettled at the end of this decade. The New York State Department of Taxation and Finance (the "Department of Taxation and Finance") is in the process of auditing the Group's New York Franchise tax returns for the years 1992 through 1996 and has asserted that the Company and Empire should have filed their returns on a combined basis, rather than on a separate company basis. If the Company and Empire were required to file on a combined basis, the Group would be required to pay an additional franchise tax and related surcharge tax of approximately $5,700,000, plus interest, for the periods in question. The Group has informed the Department of Taxation and Finance that it does not agree with its position on this matter, and is in the process of submitting additional information to support its position. The Company does not believe it is probable that it will sustain a loss as a result of this assertion and therefore has not made any loss provision in its financial statements. If the Group does not prevail in this matter, the Company's share of this additional tax would be approximately $1,700,000, plus interest pursuant to the terms of the pooling agreement. Empire and the Company have a financial dispute with a company that previously acted as a third party claims administrator for the Group ("Former Claims Administrator"). In 2002, the Group received a $1,736,000 claim for unpaid services from the Former Claims Administrator that the Group believes it is not obligated to pay because the services provided by the Former Claims Administrator were deficient and resulted in damages to the Group in excess of their claim. In May 2003, the Former Claims Administrator acknowledged that it owed the Group $1,131,000 and reduced its claim against the Group to $605,000. The Group is currently evaluating its options to resolve this dispute, including possibly litigating the matter. The Group does not believe it is probable that it will have to pay the $605,000 to the Former Claims Administrator, however, if the Group does not prevail in this matter, the Company's share of this payment, which has not been accrued, would be $181,500 pursuant to the terms of the pooling agreement. 9 Empire is obligated to pay certain severance and retention benefits to its employees, and has fully accrued for its obligation as of June 30, 2003. Pursuant to the pooling agreement, the Company has accrued its 30% share of such benefits. In January 2003, to enhance its ability to retain employees during its voluntary liquidation, Empire established a trust for the benefit of certain of its employees and transferred $3,727,000 of its cash to the trust, representing the accrued obligation as of December 31, 2002. These funds in the trust may be used to pay Empire's severance and retention obligations to those employees, if not paid by Empire when due. Empire retains the residual interest in the trust after satisfaction or release of the employees' severance and retention benefit claims, and the establishment of the trust does not in any way eliminate Empire's obligations. Under the pooling agreement, the Company will pay Empire its share of the benefits when they are paid by either Empire or the trust. INTERIM RESULTS OF OPERATIONS-SIX AND THREE MONTHS ENDED JUNE 30, 2003 COMPARED TO THE SIX AND THREE MONTHS ENDED JUNE 30, 2002. Net earned premium revenues of the Company were $335,000 and $3,054,000 for the six month periods ended June 30, 2003 and 2002, respectively and $323,000 and $1,147,000 for the three month periods ended June 30, 2003 and 2002, respectively. The Company's premium revenues reflect the various actions taken by the Group since 2000 to exit the insurance business, all of which have been previously disclosed in the Company's 2002 10-K, and the recognition of retrospective reinsurance premiums discussed below. The Group will continue to be responsible for the claims incurred during the remaining term of its existing policies (consisting of approximately 1,860 private passenger automobile policies whose in force premium totaled $3,895,000 at June 30, 2003) and all claims incurred on previously issued policies. These in force policies will continue to decline as the Group exercises its non-renewal or cancellation rights under New York insurance law or policyholders choose to cancel or not to renew their policies. During the period between 1984 and 1995, the Company entered into certain retrospectively rated reinsurance contracts covering substantially all lines of business, except workers' compensation. In addition, the Company entered into certain retrospectively rated reinsurance contracts covering workers' compensation for certain periods prior to 1991. Under these contracts, the Company paid the reinsurers provisional premiums that are subject to adjustment based on subsequent loss development. Ceded premiums accrued under these contracts reduce both net written and earned premiums during the period the retrospective reinsurance premiums are accrued. If additional unfavorable loss development emerges in future periods, the Company may be required to accrue additional retrospective reinsurance premiums. Based on the Company's current evaluation and estimation of losses covered under these contracts, the Company reduced premiums and pre-tax profits by $415,000 and $228,000 for the six month periods ended June 30, 2003 and 2002, respectively, and $0 and $0 for the three month periods ended June 30, 2003 and 2002, respectively, to recognize reinsurance premiums due under retrospectively rated reinsurance contracts. Pre-tax losses for the Company were $1,620,000 and $1,979,000 for the six month periods ended June 30, 2003 and 2002, respectively, and $742,000 and $708,000 for the three month periods ended June 30, 2003 and 2002, respectively. The pre-tax losses include increases for loss and LAE for prior accident years of $616,000 and $700,000 for the six month periods ended June 30, 2003 and 2002, respectively, and $242,000 and $250,000 for the three month periods ended June 30, 2003 and 2002, respectively. 10 During the six month period ended June 30, 2003, the increase in estimated losses and LAE for claims occurring in prior years was comprised of an increase in estimated LAE of $1,766,000 and a net decrease in estimated losses of $1,150,000. The increase in LAE was primarily based on the Company's re-estimation of the internal overhead costs allocated to claims expected to be paid during the voluntary run-off of the Company's operations and an increase in the average LAE cost per claim. The net decrease in estimated losses was primarily due to favorable reported loss experience during the first quarter of 2003 in the automobile lines for accident years 1996 through 2002. The Company believes the favorable loss development is due to improved claims handling, which resulted in reduced severity. During the six month period ended June 30, 2002, the increase in estimated losses and LAE for claims occurring in prior years was comprised of a net increase in estimated losses of $1,800,000, an increase in estimated LAE of $1,400,000 and a reduction of $2,500,000 of an accrual for workers' compensation fund assessments. The increase in estimated losses consisted of an increase to the Company's loss estimates in the workers' compensation line of $3,500,000, primarily for accident years 1999 and prior which reflected the Company's then current analysis of its and the industry's experience. Partially offsetting this was a decrease in the Company's loss estimates in the automobile lines of business for the 1998 through 2001 accident years of $2,600,000, primarily relating to personal injury protection coverage. The Company also increased its loss estimates for older accident years by approximately $900,000 principally in the general liability and property lines of businesses which reflected the Company's then current claim experience. The increase in estimated LAE of $1,400,000 referred to above was primarily the result of a higher than expected level of payment activity during the period, principally related to outside attorneys handling third party liability claims and the payment of internal overhead costs allocated to claims handling. During the three months ended June 30, 2002, the Company reduced its accrual for certain New York workers' compensation fund assessments. As a result of a legislative change, these workers' compensation fund assessments are currently determined based on workers' compensation premiums writings, rather than on the basis of loss payments as had previously been the case. Due to a reduction in workers' compensation premium volume, the Company was able to reduce its accrual for these fund assessments by approximately $3,000,000, of which $2,500,000 was recorded as a reduction in loss reserves and $500,000 was recorded as a reduction in other liabilities. In management's judgment, information currently available has been appropriately considered in estimating the Company's loss reserves. However, the reserving process relies on the basic assumption that past experience is an appropriate basis for predicting future events. The Company will continue to evaluate the adequacy of its loss reserves on a quarterly basis, incorporating any future changes in trends and actual loss experience, and record adjustments to its loss reserves as appropriate. Net investment income for the six and three month period ended June 30, 2003 was lower than the comparable 2002 periods due to a reduction in invested assets as a result of a decrease in premiums written and the payment of claims and operating expenses, as well as a reduction in investment yields resulting from lower interest rates. Other underwriting expenses for the six and three month period ended June 30, 2003 were lower than the comparable periods in 2002 primarily due to a reduction in operating expenses resulting from reduced business. 11 The Company had no current federal tax expense or benefit for the six and three month periods ended June 30, 2003 and 2002. In addition, due to the Company's uncertainty of having future taxable income necessary for realization of the deferred tax assets, a valuation allowance has been provided for all periods shown for the total amount of the deferred tax asset. CAUTIONARY STATEMENT FOR FORWARD-LOOKING INFORMATION Statements included in this Management's Discussion and Analysis of Financial Condition and Results of Interim Operations may contain forward-looking statements pursuant to the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements may relate, but are not limited, to projections of revenues, income or loss, capital expenditures, fluctuations in insurance reserves, plans for growth and future operations, competition and regulation as well as assumptions relating to the foregoing. Forward-looking statements are inherently subject to risks and uncertainties, many of which cannot be predicted or quantified. When used in this Management's Discussion and Analysis of Financial Condition and Results of Interim Operations, the words "estimates", "expects", "anticipates", "believes", "plans", "intends" and variations of such words and similar expressions are intended to identify forward-looking statements that involve risks and uncertainties. Future events and actual results could differ materially from those set forth in, contemplated by or underlying the forward-looking statements. The factors that could cause actual results to differ materially from those suggested by any such statements include, but are not limited to, those discussed or identified from time to time in the Company's public filings, including: o general economic and market conditions or prevailing interest rate levels; o changes in domestic laws, regulations and taxes; o changes in competition and pricing environments; o regional or general changes in asset valuation; o the occurrence of significant natural disasters; o the adequacy of loss and LAE reserves; o prevailing interest rate levels; o weather related conditions that may affect the Company's operations; o the ability to attract and retain key personnel; o adverse selection through renewals or cancellations of the Group's policies; o adverse regulatory action against the Company and/or Empire; o Empire's surplus falling below the minimum statutory surplus requirement; o developments in claims handling, including adverse litigation developments with respect to environmental claims, including lead poisoning, and other liability claims that could adversely affect the voluntary liquidation plan of the Group; o the Group's ability to manage the claims runoff; o increased loss adjustment expenses resulting from an extended claims run-off period; o changes in composition of the Company's assets and liabilities through acquisitions or divestitures; o Regulatory restrictions on rate increases for the Group's policies; o an adverse determination by the New York State Department of Taxation and Finance on its audit of the Group's New York State franchise tax returns for the years 1992 through 1996; 12 o An adverse resolution of the financial dispute with a former third party claims administrator; and o Consummation of the Plan of Acquisition for the Company's common shares and of the potential merger of the Company and Empire. Undue reliance should not be placed on these forward-looking statements, which are applicable only as of the date hereof. The Company undertakes no obligation to revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this Management's Discussion and Analysis of Financial Condition and Results of Interim Operations or to reflect the occurrence of unanticipated events. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Information required under this Item is contained in Item 7A of the Company's Annual Report on Form 10-K for the year ended December 31, 2002, and is incorporated by reference herein. ITEM 4. CONTROLS AND PROCEDURES (a) The Company's management evaluated, with the participation of the Company's principal executive and principal financial officers, the effectiveness of the Company's disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")), as of June 30, 2003. Based on their evaluation, the Company's principal executive and principal financial officers concluded that the Company's disclosure controls and procedures were effective as of June 30, 2003. (b) There has been no change in the Company's internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the Company's fiscal quarter ended June 30, 2003, that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 13 PART II - OTHER INFORMATION ------- ---------------- ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a) Exhibits 31.1 Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. b) Report on Form 8-K The Company filed a current report on Form 8-K dated April 9, 2003, which sets forth information under Item 5. Other Events and Item 7. Financial Statements and Exhibits. 14 SIGNATURE 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. ALLCITY INSURANCE COMPANY Registrant Date: August 14, 2003 By: /s/ Douglas M. Whitenack --------------- ----------------------------- Douglas M. Whitenack, Chief Financial Officer 15 EXHIBIT INDEX Exhibit Number Description ------ ----------- 31.1 Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

ALLCITY INSURANCE CO /NY/ 10-Q