Triad Guaranty, Inc.
UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C.
20549
Form 10-K
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(Mark One)
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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For the fiscal year ended
December 31, 2007
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or
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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For the transition period
from to
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Commission file number 0-22342
Triad Guaranty Inc.
(Exact name of registrant as
specified in its charter)
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DELAWARE
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56-1838519
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(State or other jurisdiction
of
incorporation or organization)
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(I.R.S. Employer
Identification No.)
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101 South Stratford Road,
Winston-Salem, North Carolina
(Address of principal
executive offices)
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27104
(Zip Code)
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Registrants telephone number, including area code:
(336) 723-1282
Securities registered pursuant to Section 12(b) of the
Act:
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Title of Each Class
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Name of Each Exchange on Which Registered
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Common Stock, par value $0.01 per share
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The NASDAQ Stock Markets LLC
(NASDAQ Global Select Market)
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Securities registered pursuant to Section 12(g) of the
Act:
None
Indicate by check mark if the registrant is a well-known
seasoned issuer, as defined in Rule 405 of the Securities
Act. Yes o No þ
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the
Act. Yes o No þ
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 þ No o
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K
is not contained herein, and will not be contained, to the best
of registrants knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K
or any amendment to this
Form 10-K. þ
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated
filer, or a smaller reporting company. See the definitions of
large accelerated filer, accelerated
filer and smaller reporting company in
Rule 12b-2
of the Exchange Act. (Check one):
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Large accelerated
filer o
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Accelerated
filer þ
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Non-accelerated
filer o
(Do not check if a smaller
reporting company)
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Smaller reporting
company o
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Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the Act)
Yes o No þ
State the aggregate market value of the voting and non-voting
common equity held by non-affiliates of the registrant, computed
by reference to the price at which the common equity was last
sold, or the average bid and asked price of such common equity,
as of the last business day of the registrants most
recently completed second fiscal quarter: $434,676,184 as of
June 30, 2007, which amount excludes the value of all
shares beneficially owned (as defined in
Rule 13d-3
under the Securities Exchange Act of 1934) by executive
officers, directors and 10% or greater stockholders of the
registrant (however, this does not constitute a representation
or acknowledgment that any such individual or entity is an
affiliate of the registrant, or that there are not other persons
who may be deemed to be our affiliates).
The number of shares of the registrants common stock, par
value $0.01 per share, outstanding as of February 29, 2008,
was 15,087,102.
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Portions of the following document are incorporated
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Part of this
Form 10-K
into which the portions of the
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by reference into this
Form 10-K:
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document are incorporated by reference
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Triad Guaranty Inc.
Proxy Statement for 2008 Annual Meeting
of Stockholders
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Part III
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PART I
Overview
of Triad and Industry
Triad Guaranty Inc. is a holding company that provides private
mortgage insurance (MI) coverage in the United
States through its wholly-owned subsidiary, Triad Guaranty
Insurance Corporation (Triad). This allows buyers to
achieve home ownership with a reduced down payment, facilitates
the sale of mortgage loans in the secondary market and protects
lenders from credit default-related expenses. Triad Guaranty
Inc. and its subsidiaries are collectively referred to as the
Company.
Triad was formed in 1987 and was acquired by Collateral
Mortgage, Ltd., now called Collateral Holdings, Ltd.
(CHL), a mortgage banking and real estate lending
firm, in 1989. As of December 31, 2007, CHL owns 17.2% of
the outstanding common stock of the Company.
MI is issued in many home purchase and refinance transactions
involving conventional residential first mortgage loans to
borrowers with equity of less than 20%. If the homeowner
defaults on the mortgage, MI reduces, and in some instances
eliminates, any loss to the insured lender. MI also facilitates
the sale of low down payment mortgage loans in the secondary
mortgage market, with the largest percentage of sales being made
to the Federal National Mortgage Association (Fannie
Mae) and the Federal Home Loan Mortgage Corporation
(Freddie Mac), which are collectively referred to as
GSEs. Investors and lenders also purchase MI to
obtain additional default protection or capital relief on loans
with equity of greater than 20%. Under risk-based capital
regulations applicable to most financial institutions, MI
reduces the capital requirement for such lenders on residential
mortgage loans retained in the lenders portfolio.
Currently, Triad is licensed to do business in all fifty
U.S. states and the District of Columbia. In May 2007, the
registrants Canadian subsidiary, Triad Guaranty Insurance
Corporation Canada (TGICC) received its Order to
Commence and Carry on Business from Canadas Office of the
Superintendent of Financial Institutions (OSFI).
However, we made the decision to suspend our operations in
Canada and in January 2008 repatriated $38.8 million of the
original $45.0 million contributed. Presently, we are
considering several options for our remaining Canadian
interests, which could include the sale or liquidation of TGICC.
TGICC has not written any mortgage insurance policies.
Our success is dependent both on internal factors, such as
underwriting, adequacy of our pricing and operating efficiency,
and external factors, such as the state of the housing,
mortgage, and capital markets, interest rates and the regulatory
environment. For a detailed description of the components of our
revenue and expenses as well as the drivers of our
profitability, please refer to the Managements
Discussion and Analysis of Financial Condition and Results of
Operations section of this annual report on
Form 10-K.
A detailed description of the insurance regulations that we are
subject to is discussed further in this Item 1.
Our principal executive offices are located at 101 South
Stratford Road, Winston-Salem, North Carolina 27104 in
properties that are leased. We do not require a significant
amount of fixed assets for our operations and property and
equipment consisting primarily of computer equipment and
software are the extent of the long-lived assets. Our telephone
number is
(336) 723-1282.
Our web site is www.triadguaranty.com. Information
contained on, or that can be accessed through, our web site does
not constitute part of this annual report. We have included our
website address as a factual reference and do not intend it as
an active link to our web site. We make available on our web
site our annual report on
Form 10-K,
quarterly reports on
Form 10-Q,
current reports on
Form 8-K,
and any amendments to those reports. This information is made
available free of charge and as soon as reasonably practicable
after such material is electronically filed with or furnished to
the Securities and Exchange Commission (SEC).
1
Overview
of Market Conditions
The profitability and growth of the mortgage insurance industry
is subject to conditions in the residential mortgage market
which, over the long-term, has experienced a substantial amount
of growth and profitability. However, during the past
30 years, the residential mortgage market has experienced
regional recessions the last being in the early
1990s in Southern California. Because Triad was incorporated in
1987 and grew slowly and conservatively throughout the 1990s, it
was not significantly affected by the prior regional market
recessions.
The residential mortgage market was particularly strong between
2001 and 2006. This period of time was marked generally by
strong home price appreciation, the introduction of many new
mortgage products, significant mortgage refinancing activity, a
favorable interest rate environment, strong demand for mortgage
securitizations in the secondary market, and favorable
employment rates. However, we believe these conditions,
particularly the strong demand for mortgage securitizations in
the secondary market and the introduction of new mortgage
products, gradually led to deterioration in underwriting
practices over that five-year period.
The mortgage insurance industry also experienced strong growth
and profitability during the 2001 through 2006 period. The
ability to refinance with relative ease coupled with strong home
price appreciation contributed to a lower default rate and
facilitated loss mitigation efforts, particularly in fast growth
states such as California and Florida. The emergence of
securitizations in the secondary market that are insured through
the structured bulk channel, in which Triad began participating
in 2001, also contributed to growth and added a new channel to
acquire business.
Beginning in early 2007, the residential mortgage market began
slowing due to severe home price declines in certain regions,
which has since expanded geographically and in severity.
Declining home prices and the subsequent significant increase in
the number of defaults, coupled with the liquidity crisis
beginning in the summer of 2007, had a significant impact on the
valuation of mortgage-backed securities. Large financial
institutions world-wide have written down billions of dollars
worth of residential mortgage assets and derivatives. Financial
guarantors that insure the cash flow of mortgage-backed
securities have been under increased pressure and a number of
mortgage lenders have filed for bankruptcy protection. An
oversupply in the housing marketplace now exists, brought on by
declining house prices and a significant increase in
foreclosures. The demand for mortgages has declined
substantially and underwriting guidelines have been tightened
across the industry. While the job market has been generally
strong during this period, recent economic reports suggest that
there are fewer employment opportunities.
During 2007, defaults and foreclosures increased across the
country. In addition, we have identified four states,
California, Florida, Arizona and Nevada, as distressed markets.
Prior to 2007 these distressed markets experienced some of the
largest increases in home prices. Over the past six to nine
months, however, these distressed markets have experienced
substantial growth in default rates and also have significantly
higher average loan amounts. As a result, our average reserve
and claim size on defaulted loans is significantly greater in
these distressed markets than with respect to our overall
portfolio.
These market conditions have resulted in credit losses being
reported by a number of financial institutions, including all
major mortgage insurers. Our loss ratio has increased from 44.7%
for all of 2006, to 148.2% for the third quarter of 2007, to
262.1% for the fourth quarter of 2007 and 133.7% for all of
2007. We reported a net loss in the third quarter of 2007 for
the first time since our inception and we also reported a net
loss for all of 2007.
Triad and others in the industry have responded to these
conditions by tightening underwriting guidelines on a number of
products and, in some cases, by implementing more restrictive
guidelines in certain market regions, such as California,
Nevada, Arizona, and Florida. Fannie Mae and Freddie Mac have
recently also taken steps to tighten their underwriting
guidelines, which has served to reduce the risk associated with
the loans they generally will accept. The impact of these
tightened guidelines is to further reduce the availability of
mortgage financing which in turn has contributed to a decline in
home prices.
The Economic Stimulus Act of 2008, signed into law on
February 13, 2008, establishes temporary increases to
Fannie Mae and Freddie Macs conventional loan limits for
first lien mortgages loans in high-cost areas, as defined by the
U.S. Department of Housing and Urban Development
(HUD). The new legislation is intended to bring
stability, liquidity and affordability to an important part of
the housing finance system. The new loan limits are applicable
only to high-cost areas and will be calculated based on the
subject property as follows: 125 percent of the
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area median home price in high-cost areas, not to exceed
$729,750 except in Alaska, Hawaii, Guam and the U.S. Virgin
Islands. The Federal Housing Administration (FHA)
will adopt these new loan limits as well. As of now, the new
loan limits are in effect until December 31, 2008 but may
be extended beyond that date. The effect of the Act may result
in an increase of jumbo conforming loans originated
for sale to the GSEs, thereby possibly increasing the average
loan size insured by MIs. Subject to GSE and MI guidelines, in
many cases private MI would be required on these loans. In
addition, there may be an increase in FHA-originated loans that
would not require private MI.
Current
Developments
Our risk-to-capital ratio has risen dramatically over the past
year, driven primarily by significant increases in our
risk-in-force
during the past 12 months and operating losses we incurred
in the last two quarters of 2007. We believe the housing and
mortgage markets in 2008 will continue to be adversely affected
by a number of factors, including declining home prices, an
oversupply of homes offered for sale and increased foreclosures,
particularly in certain distressed markets. We expect we will
incur additional operating losses as new defaults are reported.
Based on our internal projections, we must significantly augment
our capital resources in the second quarter of 2008 in order to
preserve our ability to continue to write new insurance. Since
the fourth quarter of 2007, we have been working with a
prominent financial advisory firm to pursue alternatives for
enhancing our capital. We have not yet succeeded in obtaining
any commitments for an investment in our company, and there can
be no assurance that we will be able to obtain any such
commitments in the future.
The proposals that have been considered involve structures under
which Triad would implement a run-off plan and a
newly formed mortgage insurer would acquire certain of
Triads employees, infrastructure, sales force and
insurance underwriting operations. In addition, we would cease
writing new business. These proposals do not involve a direct
investment in Triad. Completing any such transaction would be
subject to numerous conditions, including obtaining necessary
consents and approvals from our stockholders, the Illinois
Department of Insurance and other state insurance regulatory
authorities, the GSEs, rating agencies and other third parties.
No assurance can be given that such consents and approvals could
be obtained or that we can complete any such transaction. In
addition, no assurance can be given that we would have any
ownership interest in any new mortgage insurer formed to acquire
assets of Triad or have any opportunity to share in the
potential financial returns available from insurance written by
such an insurer.
Mortgage
Insurance Products
We offer principally two products, Primary and Modified Pool
mortgage insurance, which are described below. Risk-sharing
products are a component of Primary insurance and serve to
reduce our ultimate risk, which we insure through the payment of
premiums to captive reinsurers. Revenues from Primary insurance
represented approximately 76%, 73% and 82% of our total earned
premiums for the three years ended December 31, 2007, 2006
and 2005, respectively. Modified Pool revenues represented
approximately 24%, 27% and 18% of the total earned premium for
the three years ended December 31, 2007, 2006 and 2005,
respectively.
Primary
Insurance
Primary insurance provides mortgage default protection to
lenders on individual loans and covers a percentage of unpaid
loan principal, delinquent interest and certain expenses
associated with the default and subsequent foreclosure
(collectively, the insured amount or claim
amount). Our obligation to an insured lender with respect
to a claim is determined by applying the appropriate coverage
percentage to the claim amount. The insured lender selects the
coverage percentage, which generally ranges from 12% to 37% and
is typically based on their investors requirements to
reduce investor loss exposure on loans they purchase. Under our
master policies, we have the option of paying the entire claim
amount and taking title to the mortgaged property or paying the
coverage percentage on the claim amount in full satisfaction of
our obligations. We classify a policy as Primary insurance when
we are in the first loss position and the loan-to-value
(LTV) ratio is 80% or greater when the loan is first
insured. Primary insurance comprised approximately 68% and 60%
of our total direct insurance in force at December 31, 2007
and 2006, respectively. Primary insurance written comprised
approximately 85% and 49% of total insurance written during 2007
and 2006, respectively. Primary insurance may be written through
the flow channel or the structured
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bulk channel (see Distribution Channel below).
During 2007 and 2006, Primary insurance written through the flow
channel comprised approximately 81% and 91% of total Primary
insurance written, respectively. Primary insurance written
through the structured bulk channel comprised the remainder. We
did not write any Primary insurance through the structured bulk
channel in the fourth quarter of 2007 and do not anticipate any
significant production through this channel in 2008.
Fannie Mae and Freddie Mac are the ultimate purchasers of a
large percentage of the loans we insure. Generally, they require
a coverage percentage that will reduce their loss exposure on
loans they purchase to 75% or less of the propertys value
at the time the loan is originated. Since 1999, Fannie Mae and
Freddie Mac have accepted lower coverage percentages for certain
categories of mortgages when the loan is approved by their
automated underwriting services. The reduced coverage
percentages limit loss exposure to 80% or less of the
propertys value at the time the loan is originated.
Our premium rates vary depending upon various factors including
the LTV ratio, loan type, mortgage term, coverage amount,
documentation required, credit score and use of property, all of
which may affect the risk of default on the insured mortgage
loan. Usually, premium rates cannot be changed after issuance of
coverage. We generally utilize a nationally based, rather than a
regionally or locally based, premium rate structure for those
loans originated by lenders and submitted to us on a
loan-by-loan
basis. However, special risk rates are often utilized as well.
Premiums on Primary insurance generally are paid either directly
by the borrower (borrower-paid) or by the lender
(lender-paid). Under our lender-paid plans, mortgage
insurance premiums are charged to the mortgage lender or loan
servicer that pays the premium to us. The lender may recover the
premium through an increase in the borrowers interest
rate. Approximately 53% and 57% of Primary insurance was written
under our borrower-paid plans during 2007 and 2006,
respectively. The remainder was written under our lender-paid
plans. Our lender-paid volume is concentrated among larger
mortgage lender customers.
Premiums may be remitted monthly, annually or in one single
payment with the majority being remitted on a monthly basis.
Monthly premium plans represented approximately 89% and 91% of
Primary insurance written in 2007 and 2006, respectively.
Modified
Pool Insurance
Modified Pool insurance is written only on structured bulk
transactions through the structured bulk channel. Structured
bulk transactions involve underwriting and insuring a group of
loans with individual coverage for each loan. Structured bulk
transactions are typically initiated by underwriters of
mortgage-backed securities, mortgage lenders and mortgage
investors such as Fannie Mae and Freddie Mac, who seek
additional default protection (typically on secondary coverage
or on loans for which the individual borrower has greater than
20% equity), capital relief, and credit enhancement on groups of
loans that are sold in the secondary market. Coverage on
structured bulk transactions is determined at the individual
loan level, sufficient to reduce the insureds exposure on
any loan in the transaction down to a stated percentage of the
loan balance (down-to coverage), which is typically
between 50% and 65%. We are provided loan-level information on
the group of loans and, based on the risk characteristics of the
entire group of loans, the requirements of the secondary
mortgage market participant and any associated stop loss level
or deductible amount, we submit a price for insuring the entire
group of loans through a bid process. The majority of premiums
for our Modified Pool insurance are remitted monthly. We compete
primarily against other forms of credit enhancement provided by
the capital markets for these transactions as well as other
mortgage insurers.
Structured bulk transactions frequently include an aggregate
stop-loss limit applied to the entire group of insured loans.
Additionally, some of the structured bulk transactions we enter
into include deductibles under which we pay no claims until the
losses exceed the deductible amount. Modified Pool insurance
comprised approximately 32% and 40% of our total direct
insurance in force at December 31, 2007 and 2006,
respectively. Modified Pool insurance written comprised
approximately 15% and 51% of total insurance written during 2007
and 2006, respectively. We have not written any Modified Pool
insurance since the quarter ended June 30, 2007 and do not
currently expect any material production of Modified Pool
insurance in 2008.
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Traditional
Pool Insurance
Traditional pool insurance generally has been offered by private
mortgage insurers to lenders as an additional credit enhancement
for certain mortgage-backed securities and provides coverage for
the full amount of the net loss on each individual loan included
in the pool, subject to an aggregate stop loss limit
and/or a
deductible. We have not offered traditional pool insurance.
Risk-sharing
Products
We offer mortgage insurance structures designed to allow lenders
to share in the risks of mortgage insurance. One such
arrangement is our captive reinsurance program. Under the
captive reinsurance program, a reinsurance company, generally an
affiliate of the lender, assumes a portion of the risk
associated with the lenders insured book of business in
exchange for a percentage of the premiums. Typically, the
reinsurance program is an excess-of-loss arrangement with
defined aggregate layers of coverage and a maximum exposure
limit for the captive reinsurance company. Captive reinsurance
programs may also take the form of a quota share arrangement,
although we had no quota share arrangements in force under
captive reinsurance programs as of December 31, 2007. Under
our excess-of-loss programs, with respect to a given book year
of business, Triad retains the first loss position on the first
aggregate layer of risk and reinsures a second defined aggregate
layer with the reinsurer. Triad generally retains the remaining
risk above the layer reinsured. Of the reinsurance agreements in
place at December 31, 2007, the first layer retained by
Triad ranged from the first 3.0% to 6.5% of risk originated and
the second layer ceded to reinsurers ranged from the next 4.0%
to 10.0%. Ceded premiums, net of ceded commissions, under these
arrangements ranged from 20.0% to 40.0% of premiums.
We require the counterparties to all of Triads captive
reinsurance agreements to establish trust accounts to support
the reinsurers obligations under the reinsurance
agreements. The captive reinsurer is the grantor of the trust
and Triad is the beneficiary of the trust. The trust agreement
includes covenants regarding minimum and ongoing capitalization,
required reserves, authorized investments and withdrawal of
assets and is funded by ceded premiums and investment earnings
on trust assets as well as capital contributions by the
reinsurer.
Reinsurance contracts do not relieve Triad from its obligations
to policyholders. The ultimate trust funds may be inadequate to
cover total ceded losses and the captives parent may be
unwilling or unable to fund the shortage. Failure of the
reinsurer to honor its obligation could result in losses to
Triad; consequently, allowances are established for amounts
deemed uncollectible from reinsurers.
On February 14, 2008, Freddie Mac announced that they were
temporarily changing their private mortgage insurer eligibility
requirements. One of the changes provides that approved mortgage
insurers may not cede new risk if the premium ceded to captive
reinsurers is greater than 25%. This temporary change is
effective for any new risk ceded on or after June 1, 2008.
This change does not apply to insurance in force that is
currently subject to captive reinsurance treaties where the
premium cede rate is greater than 25%. During 2007, Triads
percentage of insurance written subject to captive reinsurance
where the cede rate was greater than 25% was 19.7%. This change
may result in a decrease to the percentage of insurance written
in 2008 subject to captive reinsurance and may result in a
decline in our total insurance written during 2008.
On February 26, 2008, Fannie Mae announced an identical
position to Freddie Macs position regarding mortgage
insurer eligibility and captive reinsurance cede rates greater
than 25%.
The ultimate impact on our financial performance of an
excess-of-loss captive reinsurance structure is primarily
dependent on the total level of losses and the persistency rates
during the life of the business. We define persistency as the
percentage of insurance in force remaining from twelve months
prior. We believe that our excess-of-loss captive reinsurance
programs provide valuable reinsurance protection by limiting the
aggregate level of losses and, under normal operating
environments, potentially reduce the degree of volatility in our
results of operations from the development of such losses over
time. At December 31, 2007 and 2006, approximately 59% and
61% of our Primary flow insurance in force was subject to
captive reinsurance programs. Through December 31, 2007, we
had not used captive mortgage reinsurance or other risk-sharing
arrangements with Modified Pool insurance or Primary bulk
insurance.
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Distribution
Channels
We sell mortgage insurance through two distribution channels.
Our flow channel consists of loans originated by lenders and
submitted to us on a
loan-by-loan
basis. All insurance delivered through the flow channel is
classified as Primary insurance.
Through the structured bulk channel, we participate in bids for
structured bulk transactions that meet our loan quality and
pricing criteria. Modified Pool insurance is only written
through the structured bulk channel, and some Primary insurance
is written through the structured bulk channel. We are currently
not active in the structured bulk channel and do not expect any
material production in 2008.
Cancellation
of Insurance
We generally cannot cancel mortgage insurance coverage except
for nonpayment of premiums, misrepresentation or fraud on the
loan application or certain material violations of the master
policy. Coverage generally remains renewable at the option of
the insured lender. In most cases, mortgage insurance is
renewable at a rate determined when the insurance on the loan
was initially issued.
Insured lenders may cancel insurance acquired through the flow
channel at any time at their option. Pursuant to the Homeowners
Protection Act, lenders are required to automatically cancel the
borrower paid MI on most loans made on or after July 29,
1999, when the outstanding loan amount is 78% or less of the
propertys original purchase price and certain other
conditions are met. A borrower may request that a loan servicer
cancel borrower-paid mortgage insurance on a mortgage loan when
the loan balance is less than 80% of the propertys current
value, but loan servicers are generally restricted in their
ability to grant those requests by secondary market requirements
and by certain other regulatory restrictions.
Mortgage insurance coverage can also be cancelled when an
insured loan is refinanced. If we provide insurance on the
refinanced mortgage, the policy on the refinanced home loan is
considered new insurance written (NIW). Therefore,
continuation of coverage from one of our refinanced loans to a
new loan results in both a cancellation of insurance and new
insurance written. During periods of high refinance activity,
our earnings and risk profiles are more subject to fluctuations.
Our cancellation rate, defined as the percentage of insurance in
force from twelve months prior that was cancelled during the
preceding twelve-month period, was approximately 18% and 23% for
2007 and 2006, respectively.
Renewal premiums are a major source of revenue and are dependent
on our insurance policies remaining in force. An increase in the
cancellation rate or, alternatively, a decrease in the
persistency rate, all else being equal, typically reduces the
amount of our insurance in force and our renewal premiums.
Customers
Residential mortgage lenders such as mortgage bankers, mortgage
brokers, commercial banks and savings institutions are the
principal originators of our insurance written through the flow
channel. To obtain insurance through our flow channel, a
mortgage lender must first apply for and receive a master policy
from us. The master policy sets forth the terms and conditions
of our mortgage insurance coverage. The master policy does not
obligate the lender to obtain insurance from us, nor does it
obligate us to issue insurance on a particular loan.
Competition within the mortgage insurance industry continues to
increase as many large mortgage lenders have limited the number
of mortgage insurers with whom they do business. At the same
time, consolidation among national lenders has increased the
share of the mortgage origination market controlled by the
largest lenders and that has led to further concentrations of
business with a relatively small number of lenders. Many of the
national lenders allocate Primary business to several different
mortgage insurers. These allocations can vary over time. Our
strategy is to continue our focus on national lenders while
maintaining the productive relationships that we have built with
regional lenders.
During 2007, troubles within the mortgage industry affected a
number of our customers. American Home Mortgage Corp.
(AHM) was our largest customer for the first six
months of 2007 in terms of new insurance written. AHM and
certain of its affiliates filed for protection under
Chapter 11 of the U.S. Bankruptcy Code during
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the third quarter and, as a result, we received extremely
limited production from AHM during the remainder of 2007 and
anticipate no further business from AHM. In January of 2008,
Bank of America announced that it had agreed to purchase
Countrywide Credit Industries, Inc., our third largest customer
during 2007 in terms of new insurance written. Bank of America
is also one of our current customers.
In 2007, our ten largest customers were responsible for
approximately 73% of our NIW through the flow channel compared
to approximately 80% in 2006. The loss of, or considerable
reduction in, business from one or more of our ten largest
customers, without a corresponding increase from other lenders,
would have an adverse effect on our business. AHM, which has
already filed for bankruptcy protection, represented
approximately 21% of 2007 flow NIW while Countrywide represented
approximately 12% of our 2007 flow NIW. We believe that the loss
of AHM as a customer, combined with a tightening of our
underwriting guidelines and other industry factors, will
significantly reduce our flow production in 2008. It is unclear
what impact, if any, the acquisition of Countrywide by Bank of
America will have on our flow production or our competitive
position in the future.
Those customers whose revenue comprised more than 10% of our
consolidated revenue are listed below:
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Percent of
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Revenues for
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the Year
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Ended
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December 31,
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Customer
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2007
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2006
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American Home Mortgage
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22
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%
|
|
|
11
|
%
|
Wells Fargo Home Mortgage, Inc.
|
|
|
13
|
%
|
|
|
17
|
%
|
Federal National Mortgage Association
|
|
|
10
|
%
|
|
|
less than 10
|
%
|
Countrywide Credit Industries, Inc
|
|
|
less than 10
|
%
|
|
|
11
|
%
|
Sales
We currently market our insurance products through a dedicated
sales group of approximately 33 employees, including sales
management. We are licensed to do business in all 50 states
and the District of Columbia. During 2007 we terminated an
exclusive sales agreement with a general agency that served a
specific geographic market, with responsibility for that market
being assigned to existing sales representatives. During 2007,
new insurance written attributed to this general agency
comprised less than 1% of our total flow new insurance written
for the year.
Contract
Underwriting
We provide fee-based contract underwriting services that enable
customers to improve the efficiency of their operations by
outsourcing all or part of their mortgage loan underwriting. The
fee charged is intended to cover the cost of providing the
services. Contract underwriting involves examining a prospective
borrowers information contained in a lenders
mortgage application file and making a determination whether the
borrower is approved for a mortgage loan subject to the
lenders underwriting guidelines. In addition, we offer
Fannie Maes Desktop
Originator®
and Desktop
Underwriter®
and Freddie Macs Loan
Prospector®
as a service to our contract underwriting customers. These
products, which are designed to streamline and reduce costs in
the mortgage origination process, supply our customers with fast
and accurate information regarding compliance with underwriting
standards and Fannie Maes or Freddie Macs decision
for loan purchase or securitization. We provide contract
underwriting services through our own employees as well as
independent contractors, and these services are provided for
loans that require mortgage insurance as well as loans that do
not require mortgage insurance. In the event that Triad fails to
properly underwrite a loan subject to the lenders
underwriting guidelines, Triad may be required to provide
monetary or other remedies to the lender customer.
Competition
and Market Share
We and other private mortgage insurers compete directly with
federal and state governmental and quasi-governmental agencies,
principally FHA. In addition to competition from federal
agencies, we and other private mortgage insurers face
competition from state-supported mortgage insurance funds, some
of which are either independent agencies or affiliates of state
housing agencies. Indirectly, we also compete with mortgage
lenders that
7
forego MI to self-insure against the risk of loss from defaults
on all or a portion of their low down payment mortgage loans,
and we compete with products designed to avoid mortgage
insurance such as simultaneous seconds or piggyback
mortgage products (a combination of loans, usually issued by the
same lender, that allows the balance of each individual loan to
be at or below 80% of the propertys current value).
Fannie Mae and Freddie Mac are the beneficiaries of the largest
percentage of our mortgage insurance policies, so their business
practices have a significant influence on us. Changes in their
practices could reduce the number of loans they purchase that
are insured by us and consequently reduce our revenues. Some of
the programs put into place by Fannie Mae and Freddie Mac
require less insurance coverage than they historically have
required, and they have the ability to further reduce coverage
requirements, which could reduce demand for mortgage insurance
or reduce the level of coverage that we provide, both of which
could have a material adverse effect on our business, financial
condition and operating results.
Fannie Mae and Freddie Mac also have the ability to implement
new eligibility requirements for mortgage insurers and to alter
or liberalize underwriting standards on low-down-payment
mortgages they purchase. We cannot predict the extent to which
any new requirements may be enacted or how they may affect the
operations of our mortgage insurance business, our capital
requirements or our products. If for any reason we are unable to
meet the eligibility requirements for providing mortgage
insurance for loans purchased by Fannie Mae and Freddie Mac, our
business, financial condition and operating results would be
adversely affected. See Financial Strength Rating
below for further discussion.
Various proposals have been periodically discussed by Congress
and certain federal agencies to reform or modify the charters
under which Fannie Mae and Freddie Mac do business. We are
unable to predict whether any such proposals will be enacted
into law, and if enacted, their scope and content and what
effect they may have on us.
The MI industry consists of seven major mortgage insurance
companies, including Triad, Mortgage Guaranty Insurance
Corporation, Radian Guaranty Inc., PMI Mortgage Insurance Co.,
United Guaranty Corporation, Genworth Financial, Inc. and
Republic Mortgage Insurance Company. Triad is the smallest
private mortgage insurer based on 2007 market share and,
according to estimated industry data, had a 6.4% share of total
net new insurance written in 2007 compared to 9.1% in 2006.
We have historically competed in competitive bid transactions in
the structured bulk market with both the other private mortgage
insurers and providers of other forms of credit enhancements. We
currently are not active in the structured bulk market.
Underwriting
Practices
We consider effective risk management to be critical to our
long-term financial stability. Market analysis, product
analysis, prudent underwriting, the use of automated risk
evaluation models, sophisticated risk modeling, auditing and
knowledge of our customers are all important elements of our
risk management process.
During the fourth quarter of 2007 and first quarter of 2008, we
announced and began to implement adjustments in our underwriting
guidelines specific to our flow business. These adjustments
placed limitations on maximum LTVs, minimum Fair, Isaac and Co.,
Inc. (FICO) credit scores and acceptable
documentation, among other items. Furthermore, these limitations
are more restrictive in certain geographic markets that have
depressed housing markets and high default rates. We expect that
these adjustments will lead to significant reductions in the
level of new insurance written in 2008 from the level written in
2007.
Risk
Management Approach
We evaluate risk based on historical performance of risk factors
and utilize automated underwriting systems in the risk selection
process to assist the underwriter with decision-making. This
process evaluates the following categories of risk:
Mortgage Lender. We review each lenders
financial statements and management experience before issuing a
master policy. We also track the historical risk performance,
including loan level risk characteristics, of all significant
customers that hold a master policy. This information is
factored into determining the loan programs we
8
approve for various lenders. We assign delegated underwriting
authority only to lenders with substantial financial resources
and established records of originating loans that meet our
underwriting guidelines.
Purpose and Type of Loan. We analyze various
general characteristics of a loan to evaluate its level of risk
including, among others: (i) LTV ratio; (ii) type of
loan instrument and the amortization schedule;
(iii) purpose of the loan; (iv) level of
documentation; (v) type of property; and
(vi) occupancy.
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We believe that an important determinant of claim incidence is
the relative amount of borrowers equity in the home. For
the industry as a whole, historical evidence indicates that, in
general, claim incidence on loans with a higher LTV ratio is
greater than a loan with a lower LTV ratio, all else being
equal. Loans with an LTV ratio greater than 95% are offered
primarily to low and moderate-income borrowers. These loans have
often attracted borrowers with weaker credit histories,
generally resulting in higher loss ratios. The State of Illinois
Division of Insurance, as well as the insurance departments of
several other states, permits mortgage insurers to write
coverage on loans with LTV ratios in excess of 97% and, in
certain instances, up to 103%.
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Another risk factor we monitor is whether the mortgage loan has
a fixed or adjustable interest rate and the amortization
schedule of the mortgage loan. We write policies on adjustable
rate mortgages (ARMs) that are positively
amortizing. Payments on these loans are adjusted periodically
with interest rate movements. Many of the ARMs have a fixed rate
for a stated period of time (some of which are significantly
below then-existing market rates and are sometimes referred to
as teaser rates), and most of those included in our recent
production have not yet had interest rate-related payment
adjustments. These ARMs that are still in the fixed rate term of
their contract may have a heightened propensity to default
because of possible payment shocks due to interest
rate increases, especially in a period of increasing interest
rates and declining housing prices. We also insure a small
percentage of interest-only mortgages, a variation of an ARM,
where the borrower pays only the interest due on a mortgage for
a specified period of time, usually five to ten years, after
which the loan payment increases to include principal payments.
These interest-only loans may also be subject to a larger
percentage of future defaults than fixed rate loans because of
the same payment shocks due to the expiration of the initial
period of interest-only payments, especially in a period of
increasing interest rates and declining housing prices. We have
accepted ARMs with potential negative amortization
under certain conditions from approved lenders. ARMs with
potential negative amortization include pay option
ARMs, which we define as those that provide a fixed period of
time for which the borrower has the option to pay monthly
payments that are less than the interest accrued for those
months. If the borrower elects this option, the LTV increases on
the loan. Because the LTV can increase on a pay option ARM,
these types of loans may present more risk to a mortgage insurer
than traditional positive amortizing loans. We classify all
loans with adjustable interest rates as ARMs, including those
for which the interest rate is fixed for a certain period of
time. We do not believe that we have sufficient default and
claim data under distressed economic conditions to give
assurances of the future performance of ARM products. These
types of loans, which do not have sufficient historical data,
are charged a higher premium.
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We believe that
15-year
mortgages present a lower level of risk than
30-year
mortgages, primarily as a result of the faster amortization and
the more rapid accumulation of borrower equity in the property.
Accordingly, we charge lower premium rates on these loans than
on comparable
30-year
mortgages.
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We believe that the claim incidence for refinance loans is
higher than that of purchase loans. Refinance loans may either
be a rate-term refinance, in which case the loan is refinanced
in order to receive a different interest rate or amortization
term, or a cash-out refinance, in which case the loan is
refinanced so that the borrower may withdraw equity. We believe
a cash-out refinance has a higher claims incidence than a
rate-term refinance.
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We believe that loans with less than full underwriting
documentation have a higher claims incidence than those with
full underwriting documentation. We accept loan applications
with less than full documentation. Underwriting documentation
includes documents to verify a borrowers income, assets
and/or
employment. We classify loans that have been underwritten with
reduced or no documentation and where the borrower has a FICO
score greater than 619 as Alt-A loans. We also have a small
amount of loans underwritten with reduced or no documentation
and where the borrower has a FICO score less than 619.
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9
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|
|
|
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We believe that the type of property securing the insured loan
also affects the risk of claim. In our opinion, loans on
single-family detached housing are subject to less risk of claim
incidence than loans on other types of properties. We believe
that attached housing types, particularly condominiums and
cooperatives, are a higher risk because, in most areas,
condominiums and cooperatives tend to be more susceptible to
downward fluctuations in value than single-family detached
dwellings in the same market.
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We believe that loans on non-owner occupied properties represent
a substantially higher risk of claim incidence and are subject
to greater value declines than loans on primary homes. We insure
loans on properties not occupied by the owner (generally second
homes or rental homes) as a normal part of our business from our
existing customers.
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Historical evidence indicates that higher-priced properties
experience wider fluctuations in value than moderately priced
residences. These fluctuations exist primarily because there is
a smaller pool of qualified buyers for higher-priced homes,
which, in turn reduces the likelihood of achieving a quick sale
at fair market value when necessary to avoid a default.
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Individual Loan and Borrower. Individual
insurance applications are evaluated based on analysis of the
borrowers ability and willingness to repay the mortgage
loan and the characteristics and value of the mortgaged
property. The analysis of the borrower includes reviewing the
borrowers housing and total debt ratios as well as the
borrowers FICO credit score, as reported by credit rating
agencies. We believe, all else being equal, that claim incidence
increases for loans made to borrowers with a lower credit score.
However, there is limited historical evidence of the
predictability of credit scores in stressed housing environments
and there can be no assurance that this relationship will hold
true in such an environment. In addition to the borrowers
willingness and ability to repay the loan, we believe that
mortgage default risk is affected by a variety of other factors,
including the borrowers employment status. We believe
insured mortgage loans made to self-employed borrowers have a
higher risk of claim, all other factors being equal, than loans
to borrowers employed by third parties.
Geographic Selection of Risk. We place
emphasis on the condition of the regional housing markets in
determining marketing and underwriting policies. Using both
internal and external data, our risk management department
continually monitors the economic conditions in our active and
potential markets.
Underwriting
Process for Our Flow Distribution Channel
We generally utilize nationwide underwriting guidelines to
evaluate the potential risk of default on mortgage loans
submitted for insurance coverage. These guidelines have evolved
over time and take into account the loss experience of the
entire MI industry. They also are largely influenced by the
underwriting guidelines of Fannie Mae and Freddie Mac. Specific
underwriting guidelines applicable to a given local, state or
regional market are utilized to address concerns resulting from
our review of regional economies and housing patterns.
Subject to our underwriting guidelines and exception approval
procedures, we expect our internal underwriters and contract
underwriters to utilize their experience and business judgment
in evaluating each loan on its own merits. Accordingly, our
underwriting staff has discretionary authority to insure loans
that deviate in certain minor respects from our underwriting
guidelines. More significant exceptions are subject to
management approval. In all such cases, other compensating
factors must be identified. The predominant deviations involve
instances where the borrowers debt-to-income ratio exceeds
our guidelines. To compensate for exceptions, our underwriters
give favorable consideration to factors such as excellent
borrower credit history, the LTV, the availability of
satisfactory cash reserves after closing and borrower employment
stability.
We accept applications for insurance under three basic programs:
a fully-documented program; a credit-score driven reduced
documentation program; and a delegated underwriting program that
allows a lenders underwriters to commit insurance to a
loan based on strict,
agreed-upon
underwriting guidelines. We also accept loans approved through
Freddie Macs or Fannie Maes automated underwriting
systems.
We allow lenders to submit insurance applications with reduced
documentation through automated and non-automated underwriting
programs. Under the automated underwriting program, Triad issues
a commitment of insurance based on the borrowers FICO
credit score or the approval of the loan through either Fannie
Maes or Freddie Macs automated underwriting system.
We issue a commitment of insurance without the standard
10
underwriting process if certain program parameters are met and
the borrower has a credit score above established thresholds. We
audit lenders files on loans submitted under the automated
underwriting program randomly and through specific
identification of selected risk factors. Documentation
submission requirements for non-automated underwritten loans
vary depending on the borrowers credit score.
We utilize a delegated underwriting program to serve many of the
larger, well-established mortgage originators. Under this
program, standards for type of loan, property type and credit
history of the borrower are established consistent with our risk
strategy, and the lenders underwriters are able to commit
insurance to a loan based on these standards. Re-underwriting,
re-appraisal, and similar procedures are utilized following
issuance of the policy to ensure quality control. Our delegated
underwriting program accounted for approximately 56% of
applications received through the flow distribution channel in
2007 compared to approximately 63% in 2006. The use of Fannie
Maes or Freddie Macs automated underwriting programs
or our delegated underwriting programs with selected lenders
could lead to loss development patterns different than those
experienced when we control the entire underwriting process.
Underwriting
Process for Our Structured Bulk Distribution
Channel
Our pricing for structured bulk transactions is intended to be
commensurate with our evaluation of the transactions
overall risk profile based upon its individual
loan-by-loan
analysis as well as any associated stop loss level or deductible
amount. We analyze structured bulk transactions during the bid
process to evaluate the risk factors of the individual loans
contained within the transaction and then determine whether we
want to bid on the transaction. The risk factors that we
evaluate include the mortgage lender, purpose and type of loan,
individual borrower, geography, and our risk dispersion as
discussed under Risk Management Approach above. The
pertinent risk characteristics of each loan are evaluated to
determine the impact on the entire transactions
persistency and frequency as well as severity of loss. We may
utilize an outside due diligence firm in this process as well as
mortgage risk analysis models such as Standard &
Poors
LEVELS®
or LoanPerformance. We may request to remove certain loans from
the transaction as a result of the risk review before we submit
a competitive bid.
We did not write any Primary insurance through the structured
bulk channel in the fourth quarter of 2007 and have not written
any Modified Pool insurance since the second quarter of 2007. We
do not anticipate any significant production from the structured
bulk distribution channel in 2008.
Other
Risk Management
We employ a comprehensive quality assurance audit plan to
determine whether underwriting decisions being made are
consistent with the policies, procedures and expectations for
quality set forth by management. All areas of business activity
that involve an underwriting decision are examined, with
emphasis on new products, new procedures, contract underwritten
loans, delegated loans, new employees, new master policyholders
and new branches of an existing master policyholder. The process
used to identify categories of loans selected for audit begins
with identification and evaluation of certain defined and
verifiable risk elements. Specialized selection procedures are
applied to contract underwriters, delegated loans and early
payment defaults. Each loan is then tested against these
elements to identify loans that fail to meet prescribed policies
or an identified norm. The procedure allows management to
identify concerns that may exist within individual loans as well
as concerns that may exist within a given category of business
and take appropriate action.
Financial
Strength Rating
Credit ratings generally are considered an important element in
a mortgage insurers ability to compete for new business,
indicating the insurers present financial strength and
capacity to pay future claims. Certain national mortgage lenders
and a large segment of the mortgage securitization market,
including Fannie Mae and Freddie Mac, generally will not
purchase high LTV mortgages or mortgage-backed securities
containing high LTV mortgages unless the insurer issuing MI
coverage has a financial strength rating of at least
AA- by either Standard & Poors
Ratings Services (S&P) or Fitch Ratings
(Fitch) or a rating of at least Aa3 from
Moodys Investors Service (Moodys).
Fannie Mae and Freddie Mac have different classifications for
approved mortgage insurers. Fannie Maes classifications
are Type 1 and Type 2, with Type 1 being the preferred rating.
Freddie Macs
11
classifications are Type I and Type II, with Type I being the
preferred rating. These classifications depend on, among other
things, a mortgage insurers financial strength rating as
determined by the rating agencies. In general, to be a Freddie
Mac Type I insurer, a mortgage insurer must be rated by at least
two of the three approved rating agencies (Standard &
Poors, Moodys and Fitch) and no rating can be less
than AA-. In general, to be a Fannie Mae Type 1
insurer, a mortgage insurer must be rated by at least two of the
three approved rating agencies (Standard &
Poors, Moodys and Fitch) and at least two ratings
must be above A+. Triad is currently rated
AA- by Fitch Ratings and by Standard and Poors
and Aa3 by Moodys Investors Service. All of
Triads ratings are currently on credit watch
with a negative outlook or implications. If Triad were to be
downgraded below AA- or Aa3 by any
rating agency, this could limit our ability to write new
business, jeopardize our status as a Type 1 or Type I mortgage
insurer with the GSEs, and potentially allow for the transfer of
existing insurance in force to other mortgage insurers by the
GSEs or other investors.
On February 14, 2008, in conjunction with modifying its
private mortgage insurer eligibility requirements, Freddie Mac
also announced that it had suspended the Type II insurer
requirements for mortgage insurers receiving a downgrade below
the required approved rating agency ratings, provided that any
downgraded mortgage insurer submits a complete remediation plan
within 90 days of the downgrade for review and approval by
Freddie Mac. In such case, Freddie Mac will determine in its
sole discretion whether to impose the additional Type II
requirements.
On February 26, 2008, in conjunction with modifying its
private mortgage insurer eligibility requirements, Fannie Mae
also affirmed that in the event of a mortgage insurer credit
downgrade by a rating agency below the agencys eligibility
thresholds, a current Type 1 insurer will not automatically be
reclassified as a Type 2 insurer, provided that the mortgage
insurer is in good standing with the agencys requirements
and submits a written remediation plan, together with supporting
documentation, within 30 days from the adverse action. In
such case, Fannie Mae will determine, in its sole discretion,
whether to accept any written response, corrective action or
plan for corrective action.
Our financial strength rating is also an element of the cost of
our line of credit. In general, all fees associated with the
line of credit, including the interest rate on the funds
outstanding, increase as a result of a decrease in our financial
strength rating.
When assigning a financial strength rating, S&P, Fitch and
Moodys generally consider: (i) the specific risks
associated with the mortgage insurance industry, such as
regulatory climate, housing price trends, market demand, growth,
and competition; (ii) management depth, corporate strategy,
risk management, and effectiveness of operations;
(iii) historical operating results and expectations of
current and future performance of the insurers specific
portfolio; and (iv) long-term capital structure, the ratio
of debt to equity, the ratio of risk to capital, near-term
liquidity and cash flow levels, as well as any reinsurance
relationships and the financial strength ratings of such
reinsurers. Ratings are based on factors relevant to
policyholders, including the sufficiency of capital to cover
future claims. Such ratings are not directed to the protection
of shareholders and do not apply to any securities issued by us.
Some rating agencies issue financial strength ratings based, in
part, upon a companys performance sensitivity to various
economic depression scenarios. In determining capital levels
required to maintain a companys rating, the rating
agencies may allow the use of different forms of capital
including statutory capital, reinsurance and debt.
S&P, Fitch and Moodys will periodically review
Triads rating as they do with all rated insurers. Ratings
can be withdrawn or changed at any time by a rating agency.
During 2007, Fitch reduced its financial strength rating for
Triad from AA to AA- based upon
revisions implemented in its proprietary capital model for
U.S. mortgage insurers. Also during 2007, S&P reduced
its financial strength rating for Triad from AA to
AA- because of challenges confronting the
U.S. mortgage and housing sectors and Triads lower
capitalization as compared to the rest of the industry. Triad is
rated Aa3 by Moodys. All of our ratings
currently are on credit watch with a negative
outlook or implications. Private mortgage insurers are not rated
by any other independent nationally-recognized insurance
industry rating organization or agency (such as the
A.M. Best Company). A reduction in our rating by S&P,
Fitch or Moodys could limit our ability to write new
business, jeopardize our status as a Type 1 or Type I mortgage
insurer with the GSEs, and potentially allow for the transfer of
existing insurance in force to other mortgage insurers by the
GSEs or other investors.
12
Reinsurance
Triads product offerings include captive mortgage
reinsurance programs whereby an affiliate of a lender reinsures
a portion of the insured risk on loans originated or purchased
by the lender. These programs are designed to allow the lenders
to share in the risk of the business. For a further discussion
of these programs, see Risk-sharing Products above.
Pursuant to deeper coverage requirements imposed by Fannie Mae
and Freddie Mac, certain loans eligible for sale to the GSEs
with an LTV ratio over 90% require insurance with a coverage
percentage of 30% or more. Certain states limit the amount of
risk a mortgage insurer may retain with respect to coverage of a
loan to 25% of the insured amount and, as a result, the deeper
coverage portion of such insurance must be reinsured. To
minimize reliance on third-party reinsurers and to permit it to
retain the premiums and related risk on deeper coverage
business, Triad reinsures this deeper coverage business with its
wholly-owned subsidiary, Triad Guaranty Assurance Corporation
(TGAC). As of December 31, 2007 and 2006, TGAC
assumed approximately $213 million and $127 million in
risk from Triad, respectively.
During 2007, we maintained excess-of-loss reinsurance with a
stated value of $100 million. This reinsurance is provided
by non-affiliated reinsurers that had financial strength ratings
of AA or better from Standard &
Poors. Effective January 1, 2008, one of the
reinsurers elected to not to renew its $5 million coverage
under the excess-of-loss reinsurance. The current reinsurance
treaty expires on December 31, 2010.
The excess of loss reinsurance was obtained primarily to provide
a source of capital in the rating agencies capital models
and, as such, it was designed to limit our exposure in the event
of a significant level of losses. This reinsurance arrangement
contains a quota share feature that the reinsurer may choose to
elect, at the reinsurers option, upon certain conditions
being met regarding Triads financial performance and
capitalization. We expect that those conditions will be met at
March 31, 2008. Under the quota share arrangement, the
reinsurer may elect to reinsure remaining books of business to
reduce Triads risk in order to maintain a risk to capital
ratio of 23 to 1. The terms on the quota share include payment
of a ceding commission to Triad, along with a profit
participation by Triad in the business reinsured.
The use of reinsurance as a source of capital and as a risk
management tool is well established within the mortgage
insurance industry. Reinsurance does not legally discharge an
insurer from its primary liability for the full amount of the
risk it insures, although it does make the reinsurer liable to
the primary insurer. There can be no assurance that our
reinsurers will be able to meet their obligations under their
reinsurance agreements with Triad.
Defaults
and Claims
Defaults
The claim process on MI begins with the lenders
notification to the insurer of a default on an insureds
loan. We define a default as an insured loan that is reported to
be in excess of two payments in arrears at the reporting date
and all reported delinquencies that were previously in excess of
two payments in arrears and have not been brought current. The
master policies require lenders to notify us of default on a
mortgage payment within 10 days of either (i) the date
on which the borrower becomes four months in default or
(ii) the date on which any legal proceeding affecting the
loan commences, whichever occurs first. Notification is required
within 45 days of default if it occurs when the first
payment is due.
The incidence of default is affected by a variety of factors
including, but not limited to, declining value in the underlying
property, changes in borrower income, unemployment, divorce,
illness and the level of interest rates. The level of
delinquencies has historically followed a seasonal pattern, in
which delinquencies will generally decrease during the first
part of the year and will generally increase during the latter
part of the year. However, given the current state of the
housing and mortgage market as well as the general state of the
economy, this general decrease in the first part of the year may
not materialize. In addition, the MI industry has little
historical experience in projecting defaults in a market
environment characterized by widespread declining houses prices.
Such declines may cause otherwise financially capable borrowers
to stop making mortgage payments and allow their mortgages to go
into default if the LTV ratios on their homes exceed 100%. See
Risk Factors below.
13
Borrowers may cure defaults by making all delinquent loan
payments or by selling the property and satisfying all amounts
due under the mortgage. Defaults that are not cured generally
result in submission of a claim to us. See
Managements Discussion and Analysis of Financial
Condition and Results of Operations below for a summary of
Triads default statistics at December 31, 2006 and
2007.
Claims
Claims result from defaults that are not cured. During the
default period, we work with the insured as well as the borrower
in an effort to reduce losses through the loss mitigation
efforts described below. The frequency of claims may not
directly correlate to the frequency of defaults due, in part, to
our loss mitigation efforts and the borrowers ability to
overcome temporary financial setbacks. The likelihood that a
claim will result from a default, and the amount of such claim,
principally depend on the borrowers equity at the time of
default and the borrowers (or the lenders) ability
to sell the home for an amount sufficient to satisfy all amounts
due under the mortgage, as well as the effectiveness of loss
mitigation efforts. The time frame from when we first receive a
notice of default until the ultimate claim is paid generally
ranges from six to eighteen months. Changes in various
macroeconomic conditions such as house price
appreciation/depreciation, employment, and other market
conditions over that time frame also positively or negatively
impact the amount of the ultimate claim paid.
Historically, the payment of claims is not evenly spread
throughout the insurance coverage period. For Primary insurance,
relatively few claims generally are paid during the first year
following loan origination. A period of rising claim payments
normally follows, which, based on industry experience, has
historically reached its highest level in the second through
fifth years after loan origination. Thereafter, the number of
claim payments made has historically declined at a gradual rate,
although the rate of decline can be affected by local economic
conditions. For Modified Pool insurance, the claim pattern
generally peaks somewhat earlier, with the highest claim payment
levels reached in the second through fourth years. We are
currently experiencing increased early default and claim
activity on loans originated in 2006 and 2007 that differs
significantly from historical levels. We believe this is
primarily the result of a deterioration in the housing market
marked by a decline in home prices as well as poor underwriting
by the originators. It is difficult to project the claim pattern
peak of these books of business given the early accelerations,
the risk composition of the underlying loans and the general
conditions in the housing market. Accordingly, we cannot predict
when, if ever, the historical pattern of claims will return in
the future.
Generally, our master policies provide that we are not liable to
pay a claim for loss if the application for insurance for the
loan in question contains fraudulent information, material
omissions or misrepresentations that increase the risk
characteristics of the loan. Where we find that these provisions
of our master policies have been violated, we may rescind, or
cancel, coverage on the loan retrospective to the date of
insurance. Experience has shown that an early payment default,
which is defined as a default that is reported within the first
12 months of insurance, has a higher probability of
violating these provisions of the master policies. During 2007,
we experienced a notable increase in the number of early payment
defaults. Early payment defaults are reviewed by the Quality
Assurance department to ensure the provisions of our master
policies were complied with. During 2007, we reviewed
approximately 3,300 early payment defaults and rescinded
coverage on approximately 11% of these policies. This activity
was concentrated in the latter part of the year and to policies
originated during 2006 and 2007. We also experienced a higher
rescission rate with policies originated through the structured
bulk channel. We currently expect that this higher level of
rescission activity will continue in 2008.
Our master policies also exclude any cost or expense related to
the repair or remedy of any physical damage (other than
normal wear and tear) to the property
collateralizing an insured mortgage loan. Such physical damage
may be caused by accident, natural occurrence or other
conditions.
Under the terms of the master policies, the lender is required
to file a claim with us no later than 60 days after it has
acquired the borrowers title to the underlying property
through foreclosure, a negotiated short sale or a
deed-in-lieu
of foreclosure. A primary insurance claim amount includes
(i) the amount of unpaid principal due under the loan;
(ii) the amount of accumulated delinquent interest due on
the loan (excluding late charges) to the date of claim filing;
(iii) expenses advanced by the insured under the terms of
the master policies, such as hazard insurance premiums, property
maintenance expenses and property taxes prorated to the date of
claim filing; and (iv) certain foreclosure and other
expenses, including attorneys fees. Such claim amounts are
subject to review and
14
possible adjustment by us. Our experience indicates that the
claim amount on a policy generally ranges from 110% to 115% of
the unpaid principal amount of a foreclosed loan.
Within 60 days after the claim has been filed, we have the
option of either (i) paying the coverage percentage of the
claim as specified on the certificate of insurance (generally
12% to 37% of the claim), with the insured retaining title to
the underlying property and receiving all proceeds from the
eventual sale of the property, or (ii) paying the full
claim amount in exchange for the lenders conveyance of
good and marketable title to the property to us, and selling the
property for our own account. We choose the claim settlement
option believed to cost the least. In most cases, we settle
claims by paying the coverage percentage of the claim amount;
however, we continue to use the option to purchase properties in
settlement of claims. At December 31, 2007, we held 57
properties with a combined net realizable value of approximately
$10.9 million that were acquired by electing to pay the
full claim amount compared to 68 properties with a combined net
realizable value of approximately $10.2 million held at
December 31, 2006. We record the estimated loss amount on
properties purchased in settlement of claims at the time of
acquisition and refine this estimate when appropriate until the
property is sold. Where we choose to purchase the property in
settlement of claims, our risk of loss may increase. However, in
general, the claims severity has historically been lower on
properties acquired than on those for which we paid the
settlement option, although the number of claims paid under the
settlement option is far greater than those utilizing the
property acquisition option. There can be no assurance that our
current inventory of purchased properties can be disposed of for
the current net realizable value nor can there be any assurance
that the purchase option method will be a viable option for
settling claims in 2008.
Loss
Mitigation
Once a default notice is received, we attempt to mitigate our
loss. Through proactive intervention with insured lenders and
borrowers, we have been successful in reducing the number and
severity of our claims for loss, although mitigation efforts
were much less successful in 2007. Loss mitigation techniques
include pre-foreclosure sales, property sales after foreclosure,
advances to assist distressed borrowers who have suffered a
temporary economic setback and the use of repayment schedules,
refinances, loan modifications, forbearance agreements and
deeds-in-lieu
of foreclosure. Such mitigation efforts typically result in
reduced losses from the coverage percentage stated in the
certificate of insurance. As a result of loss mitigation
efforts, we paid out approximately 81% and approximately 77% of
potential exposure on all claims in 2007 and 2006, respectively.
We believe this increase is primarily the result of declining
prices in the housing market and an increase in paid claims from
the most recent vintage years.
Loss
Reserves
We calculate our best estimate of the reserve for losses to
provide for the estimated costs of settling claims on loans
reported in default, and loans in default that are in the
process of being reported to us, as of the date of our financial
statements. Our reserving process incorporates various
components in a model that gives effect to current economic
conditions and segment defaults by a variety of criteria. The
criteria include, among others, policy year, lender, geography
and the number of months and number of times the policy has been
in default, as well as whether the defaults were underwritten as
flow business or as part of a structured bulk transaction. See
the Critical Accounting Policies section of
Managements Discussion and Analysis of Financial
Condition and Results of Operations for a more detailed
discussion of our loss reserving process. Detailed analysis of
our activity in loss reserves is provided in the Losses
and Expenses section of Managements Discussion
and Analysis of Financial Condition and Results of
Operations and Note 4 to the Consolidated Financial
Statements.
Direct
Risk in Force
We analyze our portfolio in a number of ways to identify any
concentrations of risk or imbalances in risk dispersion. We
believe that the quality of our insurance portfolio is affected
predominantly by (i) trends in property values;
(ii) the quality of loan originations (including the credit
quality of the borrower and the marketability of the property);
(iii) the attributes of loans insured (including LTV ratio,
purpose of the loan, type of loan instrument (for example fixed
or positively or negatively amortizing ARM) and type of
underlying property securing the loan); (iv) the seasoning
of the loans insured; (v) the geographic dispersion of the
underlying properties subject to
15
mortgage insurance; and (vi) the quality, integrity and
past performance of lenders from which we receive loans to
insure.
We had $12.9 billion of direct risk in force as of
December 31, 2007 compared to $9.4 billion as of
December 31, 2006. Direct risk in force includes risk from
both Primary and Modified Pool insurance, adjusted for
applicable stop loss limits and deductibles.
Geographic
Dispersion
The following tables reflect the percentage of direct risk in
force on our book of business for the top ten states and the top
ten metropolitan statistical areas (MSAs) by
location of property as of December 31, 2007.
|
|
|
|
|
|
|
|
|
|
|
Top Ten States
|
|
|
|
Top Ten MSAs
|
|
|
|
California
|
|
|
14.5
|
%
|
|
Phoenix/Mesa, AZ
|
|
|
4.1
|
%
|
Florida
|
|
|
11.4
|
%
|
|
Chicago, IL
|
|
|
3.6
|
%
|
Texas
|
|
|
6.4
|
%
|
|
Riverside/San Bernardino, CA
|
|
|
2.5
|
%
|
Arizona
|
|
|
5.3
|
%
|
|
Los Angeles/Long Beach, CA
|
|
|
2.5
|
%
|
Illinois
|
|
|
4.0
|
%
|
|
Las Vegas, NV
|
|
|
2.4
|
%
|
North Carolina
|
|
|
3.8
|
%
|
|
Atlanta, GA
|
|
|
2.4
|
%
|
Georgia
|
|
|
3.5
|
%
|
|
Denver, CO
|
|
|
1.7
|
%
|
Virginia
|
|
|
3.3
|
%
|
|
Houston, TX
|
|
|
1.7
|
%
|
Colorado
|
|
|
3.3
|
%
|
|
Orlando, FL
|
|
|
1.6
|
%
|
New Jersey
|
|
|
3.0
|
%
|
|
Arlington/Fredericksburg, VA
|
|
|
1.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
58.5
|
%
|
|
Total
|
|
|
24.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
While we continue to diversify our risk in force geographically,
a prolonged regional recession, particularly in high
concentration areas, or a prolonged national economic recession
could significantly increase loss development.
See the Production and In Force section of
Managements Discussion and Analysis of Financial
Condition and Results of Operations for further detailed
discussion on the characteristics of our direct risk in force.
Investment
Portfolio
For a discussion of investments in our portfolio, see the
Investment Portfolio section of
Managements Discussion and Analysis of Financial
Condition and Results of Operations.
Regulation
Direct
Regulation
Our insurance subsidiaries are subject to comprehensive,
detailed regulation, principally for the protection of
policyholders rather than for the benefit of stockholders, by
the insurance departments of the various states in which each
insurer is licensed to transact business. Although their scope
varies, state insurance laws, in general, grant broad powers to
supervisory agencies or officials to examine companies and to
enforce rules or exercise discretion over almost every
significant aspect of the insurance business. These include the
licensing of companies to transact business and varying degrees
of control over claims handling practices, reinsurance
requirements, premium rates, the forms and policies offered to
customers, financial statements, periodic financial reporting,
permissible investments and adherence to financial standards
relating to statutory surplus, dividends and other criteria of
solvency intended to assure the satisfaction of obligations to
policyholders.
All states have enacted legislation that requires each insurance
company in a holding company system to register with the
insurance regulatory authority of its state of domicile and
furnish to the regulator financial and other information
concerning the operations of companies within the holding
company system that may materially affect the operations,
management or financial condition of the insurers within the
system. Generally, all
16
transactions within a holding company system between an insurer
and its affiliates must be fair and reasonable and the
insurers statutory policyholders surplus following
any transaction with an affiliate must be both reasonable in
relation to its outstanding liabilities and adequate for its
needs. Most states also regulate transactions between insurance
companies and their parents
and/or
affiliates. There can be no assurance that state regulatory
requirements will not become more stringent in the future and
have an adverse effect on us.
Because the parent company is an insurance holding company and
Triad is an Illinois domiciled insurance company, the Illinois
insurance laws regulate, among other things, certain
transactions in the parent companys common stock and
certain transactions between Triad and the Company or
affiliates. Specifically, no person may, directly or indirectly,
offer to acquire or acquire beneficial ownership of more than
10% of any class of outstanding securities of the Company or its
subsidiaries unless such person files a statement and other
documents with the Illinois Director of Insurance and obtains
the Directors prior approval. These restrictions generally
apply to all persons controlling or under common control with
the insurance companies. Control is presumed to
exist if 10% or more of Triads voting securities is owned
or controlled, directly or indirectly, by a person, although the
Illinois Director may find that control, in fact,
does or does not exist where a person owns or controls either a
lesser or greater amount of securities. Other states in addition
to Illinois may regulate affiliated transactions and the
acquisition of control of the Company or its insurance
subsidiaries.
Triad is required by Illinois insurance laws to provide for a
contingency reserve in an amount equal to at least 50% of earned
premiums in its statutory financial statements. Such reserves
must be maintained for a period of 10 years except in
circumstances where prescribed levels of losses exceed
regulatory thresholds. During 2007, Triad experienced a loss
ratio in excess of 35%, which allowed it to release
approximately $275 million of previously established
contingency reserves to surplus. The contingency reserve,
designed to provide a cushion against the effect of adverse
economic cycles, has the effect of reducing statutory surplus
and restricting dividends and other distributions by Triad. At
December 31, 2007, Triad had statutory policyholders
surplus of $197.7 million and a statutory contingency
reserve of $387.4 million. At December 31, 2006, Triad
had statutory policyholders surplus of $168.4 million
and a statutory contingency reserve of $521.8 million.
Triads statutory earned surplus was $114.0 million at
December 31, 2007, and $84.7 million at
December 31, 2006, reflecting a statutory net loss for 2007
and the release of the statutory contingency reserve to surplus.
The insurance laws of Illinois provide that Triad may pay
dividends only out of statutory earned surplus and further
establish standards limiting the maximum amount of dividends
that may be paid without prior approval by the Illinois
Director. Under such standards, Triad may pay dividends during
any 12-month
period equal to the greater of (i) 10% of the preceding
year-end statutory policyholders surplus or (ii) the
preceding years net income. In addition, insurance
regulatory authorities have broad discretion to limit the
payment of dividends by insurance companies. On April 13,
2007, Triad paid a dividend of $30 million to its parent,
Triad Guaranty Inc. As of December 31, 2007, there are no
specific restrictions or requirements for capital support
arrangements between the parent company and Triad or its
subsidiaries.
Although not subject to a rating law in Illinois, premium rates
for mortgage insurance are subject to regulation in most states
to protect policyholders against the adverse effects of
excessive, inadequate or unfairly discriminatory rates and to
encourage competition in the insurance marketplace. Any increase
in premium rates must be justified, generally on the basis of
the insurers loss experience, expenses and future trend
analysis. The general mortgage default experience also may be
considered.
TGAC, organized as a subsidiary of Triad under the insurance
laws of the state of Illinois in December 1994, is subject to
all Illinois insurance regulatory requirements applicable to
Triad.
Triad Re, organized as a subsidiary of Triad under the insurance
laws of the state of Vermont in November 1999, is subject to all
Vermont insurance regulatory requirements.
Triad, TGAC and Triad Re are each subject to examination of
their affairs by the insurance departments of every state in
which they are licensed to transact business. The Illinois
Insurance Director and Vermont Insurance Commissioner
periodically conduct financial condition examinations of
insurance companies domiciled in their states. The most recent
examinations of Triad and TGAC were issued by the Illinois
Insurance Division on June 27, 2005, and covered the period
January 1, 1999, through December 31, 2003. No
adjustments or material
17
recommendations were made as a result of these examinations. The
most recent examination of Triad Re was issued by the Insurance
Division of the State of Vermont on September 29, 2005, and
covered the period of November 16, 1999 through
December 31, 2003. No adjustments or material
recommendations were made as a result of the examination.
On March 3, 2008, the Illinois Department of Insurance
began examinations of Triad and TGAC for the fiscal years 2004
through 2007. We expect these examinations to take between six
and nine months. The results of the examinations are reports on
the condition of the companies, which are certified by the
Illinois Department of Insurance and filed with all state
insurance departments.
A number of states generally limit the amount of insurance risk
that may be written by a private mortgage insurer to 25 times
the insurers total policyholders surplus. This
restriction is commonly known as the risk-to-capital
requirement. At December 31, 2007 Triads
risk-to-capital ratio was 20.5-to-1. The Illinois Department of
Insurance has additional restrictions on the amount of risk that
may be written. These restrictions apply different capital
requirements to different types of insurance products and also
consider LTV and covered percentage of the insured mortgage. As
of December 31, 2007, Triads statutory capital was
approximately 101% of the minimum capital required by the
Illinois Department of Insurance and TGACs statutory
capital was approximately 258% of the minimum required capital.
State insurance laws and regulations generally restrict mortgage
insurers to writing residential mortgage guaranty insurance
business only. This restriction generally prohibits Triad from
using its capital resources in support of other types of
insurance and restricts its noninsurance business. However,
noninsurance businesses of the Company would not be subject to
regulation under state insurance laws.
Regulation of reinsurance varies by state. Except for Illinois,
Wisconsin, New York, Ohio, and California, most states have no
special restrictions on reinsurance that would apply to private
mortgage insurers other than standard reinsurance requirements
generally applicable to property and casualty insurance
companies. Certain restrictions, including reinsurance trust
fund or letter of credit requirements, apply under Illinois law
to domestic companies and under the laws of several other states
to any licensed company ceding business to unlicensed
reinsurers. If a reinsurer is not admitted or approved, the
company doing business with the reinsurer cannot take credit in
its statutory financial statements for the risk ceded to such
reinsurer absent compliance with the reinsurance security
requirements. In addition, some states in which Triad does
business have limited private mortgage insurers to a maximum
policy coverage limit of 25% of the insureds claim amount
and require coverages in excess of 25% to be reinsured through
another licensed mortgage insurer.
The National Association of Insurance Commissioners
(NAIC) adopted a risk-based capital
(RBC) formula designed to help regulators identify
property and casualty insurers in need of additional capital.
The RBC formula establishes minimum capital needs based upon
risks applicable to individual insurers, including asset risks,
off-balance sheet risks (such as guarantees for affiliates and
contingent liabilities) and credit risks (such as reinsurance
ceded and receivables). The NAIC and the Illinois Insurance
Division currently do not require mortgage guaranty insurers to
file an RBC analysis in their annual statements.
As significant purchasers and sellers of conventional mortgage
loans and beneficiaries of private mortgage guaranty insurance,
Fannie Mae and Freddie Mac impose eligibility requirements on
private mortgage insurers in order for such insurers to acquire
business from them. These requirements include limitations on
the types of risk insured, standards for geographic and customer
diversification of risk, procedures for claims handling and
acceptable underwriting practices. These requirements generally
mirror the financial requirements of statutory insurance
regulations and are subject to change from time to time.
While Triad is an approved mortgage insurer for both Fannie Mae
and Freddie Mac and meets all existing eligibility requirements,
there can be no assurance that such requirements or the
interpretation of the requirements will not change, that the
temporary suspension of Type II insurers announced by
Freddie Mac and Type 2 insurers announced by Fannie Mae will not
be lifted, or that Triad will continue to meet such
requirements. In addition, to the extent Fannie Mae or Freddie
Mac assumes default risk for itself that would otherwise be
insured, changes current guaranty fee arrangements, allows
alternative credit enhancements, alters or liberalizes
underwriting guidelines on low down payment mortgages it
purchases, or otherwise changes its business practices or
processes with respect to
18
such mortgages, private mortgage insurers may be affected. Triad
could be adversely affected if changes in eligibility
requirements regarding deep cede captive arrangements, such as
those announced by Freddie Mac on February 14, 2008 and by
Fannie Mae on February 26, 2008, were to impede
Triads ability to offer this form of captive reinsurance.
Fannie Mae and Freddie Mac both accept reduced mortgage
insurance coverage from lenders that deliver loans approved by
their automated underwriting services. Generally, Fannie
Maes and Freddie Macs reduced mortgage insurance
coverage options provide for (i) across-the-board
reductions in required MI coverage on
30-year
fixed-rate loans recommended for approval by their automated
underwriting services to the levels in effect in 1994;
(ii) a reduction in required MI coverage for loans with
only a 5% down payment (a 95% LTV loan) from 30% to 25% of the
mortgage loan covered by MI; and (iii) a reduction in
required MI coverage for loans with a 10% down payment (a 90%
LTV loan) from 25% to 17% of the mortgage loan covered by MI. In
addition, Fannie Mae and Freddie Mac have implemented other
programs that further reduce MI coverage upon the payment of an
additional fee by the lender. Under this option, a 95% LTV loan
will require 18% of the mortgage loan to have mortgage insurance
coverage. Similarly, a 90% LTV loan will require 12% of the
mortgage loan to have mortgage insurance coverage. In order for
the homebuyer to have MI at these levels, such loans would
require a payment at closing or a higher note rate.
Certain national mortgage lenders and a large segment of the
mortgage securitization market, including Fannie Mae and Freddie
Mac, generally will not purchase mortgages or mortgage-backed
securities unless the MI on the mortgages has been issued by an
insurer with a financial strength rating of at least
AA- from S&P or Fitch or a rating of at least
Aa3 from Moodys. See Financial Strength
Rating above for a discussion of the impact of financial
strength ratings on mortgage insurers.
The Real Estate Settlement and Procedures Act of 1974
(RESPA) applies to most residential mortgages
insured by Triad, and related regulations provide that the
provision of services involving mortgage insurance is a
settlement service for purposes of loans subject to
RESPA. Subject to limited exceptions, RESPA prohibits persons
from accepting anything of value for referring real estate
settlement services to any provider of such services. Although
many states prohibit mortgage insurers from giving rebates,
RESPA has been interpreted to cover many non-fee services as
well.
Most originators of mortgage loans are required to collect and
report data relating to a mortgage loan applicants race,
nationality, gender, marital status and census tract to HUD or
the Federal Reserve under the Home Mortgage Disclosure Act of
1975 (HMDA). The purpose of HMDA is to detect
possible discrimination in home lending and, through disclosure,
to discourage such discrimination. Mortgage insurers are not
required pursuant to any law or regulation to report HMDA data,
although under the laws of several states, mortgage insurers are
currently prohibited from discriminating on the basis of certain
classifications. All but one of the active mortgage insurers
(including Triad), through their trade association, the Mortgage
Insurance Companies of America (MICA), have entered
into an agreement with the Federal Financial Institutions
Examinations Council (FFIEC) to report the same data
on loans submitted for insurance as is required for most
mortgage lenders under HMDA.
Indirect
Regulation
The Company, Triad, and Triads subsidiaries are also
indirectly, but significantly, impacted by regulations affecting
purchasers of mortgage loans, such as Fannie Mae and Freddie
Mac, and regulations affecting governmental insurers, such as
the FHA and the Department of Veterans Affairs (VA),
as well as regulations affecting lenders. Private mortgage
insurers, including Triad, are highly dependent upon federal
housing legislation and other laws and regulations that affect
the demand for MI and the housing market. FHA loan limits are
adjusted in response to changes in the Freddie Mac/Fannie Mae
conforming loan limits. Currently, the maximum single-family
home mortgage that the FHA can insure is $362,790. However,
recent legislation would increase the maximum loan amount that
the FHA can insure to $729,750. This legislative change and any
future legislation that increase the number of persons eligible
for FHA or VA mortgages could have an adverse effect on
Triads ability to compete with the FHA or VA.
Pursuant to the Financial Institutions Reform, Recovery, and
Enforcement Act of 1989 (FIRREA), the Office of
Thrift Supervision (OTS) issued risk-based capital
rules for savings institutions. These rules establish a lower
capital requirement for a low down payment loan that is insured
with MI, as opposed to an uninsured loan.
19
Furthermore, the guidelines for real estate lending policies
applicable to savings institutions and commercial banks provide
that such institutions should require appropriate credit
enhancement in the form of either mortgage insurance or readily
marketable collateral for any high LTV mortgage. Future changes,
if any, to FIRREAs risk-based capital rules or the
guidelines for real estate lending policies applicable to
savings institutions and commercial banks could affect demand
for MI products.
In the first quarter of 2002, the Office of Federal Housing
Enterprise Oversight (OFHEO) released its risk-based
capital rules for Fannie Mae and Freddie Mac. 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 and a more preferential capital credit for insurance
from a AA rated private mortgage insurer than for
insurance from a A rated private mortgage insurer.
The phase-in period for the new rule is ten years. We do not
believe the new rules had an adverse impact on us when issued.
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 credit rating, our financial
condition could be significantly harmed.
Fannie Mae and Freddie Mac each provide their own automated
underwriting system to be used by mortgage originators selling
mortgages to them. These systems, which are provided by Triad as
a service to the Companys contract underwriting customers,
streamline the mortgage process and reduce costs. The increased
acceptance of these products is driving the automation of the
process by which mortgage originators sell loans to Fannie Mae
and Freddie Mac, a trend that is expected to continue. As a
result, Fannie Mae and Freddie Mac could develop the capability
to become the decision maker regarding selection of a private
mortgage insurer for loans sold to them, a decision
traditionally made by the mortgage originator. We, however, are
not aware of any plans to do so. The concentration of purchasing
power that would be attained if such development, in fact,
occurred could adversely affect, from our perspective, the terms
on which mortgage insurance is written on loans sold to Fannie
Mae and Freddie Mac.
Additionally, proposals have been advanced which would allow
Fannie Mae and Freddie Mac additional flexibility in determining
the amount and nature of alternative recourse arrangements or
other credit enhancements that could be utilized as substitutes
for MI. We cannot predict if or when any of the foregoing
legislation or proposals will be adopted, but if adopted, and
depending upon the nature and extent of revisions made, demand
for MI may be adversely affected. There can be no assurance that
other federal laws affecting such institutions and entities will
not change, or that new legislation or regulation will not be
adopted.
In March, 2008 OFHEO announced that it was reducing the existing
30 percent OFHEO-directed
capital requirement to a 20 percent level, and that it will
consider further reductions in the future. The effect is to
provide immediate liquidity to the mortgage-backed securities
market. According to OFHEO, this should allow the GSEs to
purchase or guarantee about $2 trillion in mortgages in 2008.
The result of this change may assist the mortgage markets in
regaining stability.
In 1996, the Office of the Comptroller of the Currency
(OCC) granted permission to national banks to have a
reinsurance company as a wholly-owned operating subsidiary for
the purpose of reinsuring mortgage insurance written on loans
originated, purchased, or serviced by such banks. Several
subsequent applications by banks to offer reinsurance have been
approved by the OCC including at least one request to engage in
quota share reinsurance. The OTS, which regulates thrifts and
savings institutions, has approved applications for such captive
arrangements as well. The reinsurance subsidiaries of national
banks or savings institutions could become significant
competitors of ours in the future.
In November 1999, the Gramm-Leach-Bliley Act, also known as the
Financial Services Modernization Act of 1999, became effective
and allows holding companies of banks also to own a company that
underwrites insurance. As a result of this Act, banking
organizations that previously were not allowed to be affiliated
with insurance companies may now do so. This legislation has had
very little impact on us to date. However, the evolution of
federal law making it easier for banks to engage in the mortgage
guaranty business through affiliates may subject mortgage
guaranty insurers to more intense competition and risk-sharing
with bank lender customers in the future.
20
Available
Information
Through our web site we make available, free of charge, our
Annual Report on
Form 10-K,
quarterly reports on
Form 10-Q,
current reports on
Form 8-K,
and amendments to those reports as soon as reasonably
practicable after this material is electronically filed with or
furnished to the SEC. This material may be accessed by visiting
the Investors/Financials/SEC Filings section of our web site at
www.triadguaranty.com. These filings are also accessible
on the SECs website, www.sec.gov. You may read and
copy any materials the Company files with the SEC at the
SECs Public Reference Room at 100 F Street, NE,
Washington, DC 20549. You may obtain information on the
operation of the Public Reference Room by calling the SEC at
(800) 732-0330.
Employees
As of February 29, 2008, we employed approximately
270 persons. Employees are not covered by any collective
bargaining agreement. We consider our employee relations to be
satisfactory.
Executive
Officers
Our executive officers are as follows:
|
|
|
|
|
|
|
Name
|
|
Position
|
|
Age
|
|
Mark K. Tonnesen
|
|
President, Chief Executive Officer, and Director of the Company
and Triad
|
|
|
56
|
|
Gregory J. McKenzie, Jr.
|
|
President and Chief Executive Officer of Triad Guaranty
Insurance Corporation Canada
|
|
|
52
|
|
Kenneth C. Foster
|
|
Executive Vice President, Structured Transactions and Business
Development
|
|
|
59
|
|
R. Bruce Van Fleet, III
|
|
Executive Vice President, Sales and Marketing
|
|
|
56
|
|
Steven J. Haferman
|
|
Senior Vice President, Risk Management and Information
Technology and Director of Triad
|
|
|
46
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Kenneth W. Jones
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Senior Vice President and Chief Financial Officer of the Company
and Triad and Director of Triad
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Earl F. Wall
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Senior Vice President, Secretary, and General Counsel of the
Company and Triad and Director of Triad
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Mark K. Tonnesen has been employed as our President,
Chief Executive Officer, and a Director since September 2005.
Previously, Mr. Tonnesen was employed by the Royal Bank of
Canada, Toronto from April 1997 to September 2005, where he held
a number of positions, including Vice Chairman and Chief
Financial Officer, RBC Insurance and Executive Vice President,
Card Services and Point of Sale. From 1987 to 1997, he was
associated with Banc One Corporation, where he served in a
variety of senior positions, including Chief Development Officer
and President, Banc One Credit Card Services Company.
Gregory J. McKenzie has been employed as the President
and Chief Executive Officer of our Canadian Subsidiary, Triad
Guaranty Insurance Corporation Canada, since January 2007.
Previously, Mr. McKenzie was the President of Post Linx, a
subsidiary of Pitney Bowes Mail Services, Toronto, Canada from
January 2004 to January 2007. Prior to that, Mr. McKenzie
was the president of G. J. McKenzie and Associates, Toronto,
Canada from September 2002 to December 2003 and was President
and Chief Operating Officer of Metaca Corporation, Toronto,
Canada, from February 1997 to August 2002.
Kenneth C. Foster has been employed as our Executive Vice
President, Structured Transactions and Business Development of
Triad since September 2006. Prior to his current position,
Mr. Foster was the Senior Vice President, Structured
Transactions and Business Development from August 2006 to
September 2006 and the Senior Vice President, Risk Management
from June 2002 to July 2006. Prior to joining Triad,
Mr. Foster was a principal of Applied Mortgage Solutions
from 1994 to 2001. Previously Mr. Foster was employed by
Mortgage Guaranty Insurance Company from 1980 to 1994, most
recently as Vice President of Business/Information Development.
Mr. Foster has been associated with Triad for seven years
and in the insurance/mortgage industry for over 30 years.
21
R. Bruce Van Fleet has been employed as our
Executive Vice President, Sales and Marketing since March 2007.
Previously, Mr. Van Fleet was employed by Radian Guaranty,
Inc. from December 1995 to February 2007, where he held a number
of senior management positions, including most recently serving
as Executive Vice President, Chief Sales Officer since July
2006. Prior to July 2006, Mr. Van Fleet also served Radian
Guaranty in various capacities in the sales function as the
Executive Vice President, Strategic Accounts Channel and
National Sales, and Senior Vice President, National Sales.
Previously, Mr. Van Fleet was employed by Strategic
Mortgage Services from August 1993 to November 1995 as the
Senior Vice President, Corporate Sales.
Stephen J. Haferman has been employed as our Senior Vice
President, Risk Management and Information Technology since
March 2006. Mr. Haferman was previously with Cheryl and
Company, Columbus, Ohio from February 2003 to March 2006, where
he served as Senior Vice President, Chief Operating Officer.
From June 2001 to January 2003, Mr. Haferman was employed
by American Electric Power as Vice President, Marketing
Information Management. From 1992 to 2001, he worked for Bank
One Corporation in a number of divisions and a variety of senior
management positions, including Senior Vice President, Direct
Marketing for Bank One Retail; Senior Vice President, Technology
Program Manager, Bank One Retail; and Vice President, Risk
Department Manager. From 1988 to 1992, he worked for National
City Bank where he was Risk Manager.
Kenneth W. Jones has been employed as our Senior Vice
President and Chief Financial Officer since April 2006.
Mr. Jones has over 25 years of experience in the
financial management of companies. Prior to joining Triad, he
was employed by RBC Liberty Insurance Corporation, where he
served as Senior Vice President, Chief Financial Officer, from
November 2000 to December 2005. Previously, Mr. Jones was
associated with The Liberty Corporation, where he held a number
of management positions, most recently Vice President,
Controller and Acting Chief Financial Officer. Before joining
The Liberty Corporation, Mr. Jones was with
Ernst & Young LLP for 14 years.
Earl F. Wall has been Senior Vice President of Triad
since November 1999, General Counsel of Triad since January
1996, and Secretary since June 1996. Mr. Wall was Vice
President of Triad from 1996 until 1999. From 1982 to 1995,
Mr. Wall was employed by Integon in a number of capacities
including Vice President, Associate General Counsel, and
Director of Integon Life Insurance Corporation and Georgia
International Life Insurance Corporation, Vice President and
General Counsel of Integon Mortgage Guaranty Insurance
Corporation, and Vice President, General Counsel, and Director
of Marketing One, Inc.
Officers of the Company serve at the discretion of the Board of
Directors of the Company.
Item 1A. Risk
Factors
Our results could be affected by the risk factors discussed
below. These factors may also cause our actual results to differ
materially from the results contemplated by forward-looking
statements made by us in Managements Discussion and
Analysis of Financial Condition and Results of Operations
or elsewhere. Investors should consider these factors carefully
in reading this annual report on
Form 10-K.
Risks
Related to Capital, Rating Agencies and Regulatory
Concerns
We believe our level of capital is inadequate to support our
current ratings and to continue to satisfy applicable regulatory
requirements. If our current ratings are downgraded or we
violate regulatory requirements, absent the receipt of waivers
from the GSEs and insurance regulators, we would not be able to
write new insurance and would be limited to servicing our
remaining book of business.
Our risk-to-capital ratio has risen dramatically over the past
year, driven primarily by significant increases in our
risk-in-force
during the past 12 months and operating losses we incurred
in the last two quarters of 2007. We believe the housing and
mortgage markets in 2008 will continue to be adversely affected
by a number of factors, including declining home prices, an
oversupply of homes offered for sale and increased foreclosures,
particularly in certain distressed markets. We expect we will
incur additional operating losses as new defaults are reported.
Based on our internal projections, we must significantly augment
our capital resources in the second quarter of 2008 in order to
preserve our ability to continue to write new insurance. Since
the fourth quarter of 2007, we have been working with a
prominent financial advisory firm to pursue alternatives for
enhancing our capital. We have not yet
22
succeeded in obtaining any commitments for an investment in our
company, and there can be no assurance that we will be able to
obtain any such commitments in the future.
If we are unable to raise capital sufficient to address rating
agency and regulatory requirements, we may suffer the following
effects:
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One or more rating agencies would likely downgrade our ratings,
which could limit or eliminate our ability to conduct business
with lenders, including those who sell their mortgages to the
GSEs. Moreover, if we are downgraded, the GSEs would have the
right to require lenders to cancel our remaining insurance
in-force on a selective basis and substitute the cancelled
policies with new policies written by another mortgage insurer.
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Our risk-to-capital ratio would exceed applicable insurance
regulatory limits, which could cause the Illinois Department of
Insurance or other state insurance regulatory authorities to
suspend or limit our ability to write new mortgage insurance
policies.
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If we were unable to continue writing new business, we would
seek to implement a plan to run-off Triad. Under
this plan, we would continue to collect premiums on our
remaining policies, service these policies and settle claims
under them. We would not write new policies. In addition, we
would, to the extent of available funds, pay amounts owed to our
creditors. Only funds remaining after satisfaction of these
obligations, if any, would be available for distribution to our
stockholders.
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The proposals that have been considered involve structures under
which Triad would implement a run-off plan and a
newly formed mortgage insurer would acquire certain of
Triads employees, infrastructure, sales force and
insurance underwriting operations. In addition, we would cease
writing new business. These proposals do not involve a direct
investment in Triad. Completing any such transaction would be
subject to numerous conditions, including obtaining necessary
consents and approvals from our stockholders, the Illinois
Department of Insurance and other state insurance regulatory
authorities, the GSEs, rating agencies and other third parties.
No assurance can be given that such consents and approvals could
be obtained or that we can complete any such transaction. In
addition, no assurance can be given that we would have any
ownership interest in any new mortgage insurer formed to acquire
assets of Triad or have any opportunity to share in the
potential financial returns available from insurance written by
such an insurer.
If we implement a run-off plan and our business is limited to
servicing our remaining book of in-force insurance, we face
additional regulatory and operating risks that could reduce or
eliminate the market value of our common stock.
If our business is limited to running-off our remaining book of
in-force insurance, we will be subject to numerous additional
risks, including the following:
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Any liquidation or run-off plan would be subject to approval by
the Illinois Department of Insurance and other state insurance
regulatory authorities, whose focus would be on the protection
of policyholders and not our stockholders. These authorities
could impose significant restrictions on our operations,
including more stringent financial reporting obligations and
restrictions on the movement of funds from Triad to the holding
company. Restrictions on the movement of funds to the holding
company could adversely affect our ability to pay operating
expenses and service our debt obligations.
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In run-off, we would likely be unable to pay dividends to our
stockholders until all claims of policyholders and other
creditors have been satisfied or there are adequate funds, in
the view of applicable insurance regulatory authorities, to make
appropriate provisions for the satisfaction of such obligations.
It could take many years before it would be possible to
determine whether there are any funds available for distribution
to stockholders and no assurance can be given that any such
funds will be available.
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If our actual claims and losses suggested that Triad were, or
would become, insolvent, Triad would likely be placed in
delinquency proceedings by the Illinois Department of Insurance.
If Triad were placed in delinquency proceedings, it is unlikely
that any funds would ever be available for distribution to
stockholders.
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If Triad were placed in delinquency proceedings by the Illinois
Department of Insurance or if we were unable to pay our
indebtedness or other obligations when due, we could be forced
to seek protection from creditors under Chapter 11 of the
United States Bankruptcy Code.
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During run-off, the GSEs and our lender customers could have
rights to transfer our remaining insurance in-force to other
mortgage insurers on a selective basis, which could have a
material adverse effect on our financial condition and results
of operations.
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During run-off, we would need to substantially reduce our
general and administrative and operating expenses by, among
other things, substantially reducing our employee headcount in
order to conserve our financial resources. In addition, we might
have difficulty retaining certain essential employees. The loss
of certain employees could have an adverse effect on our ability
to implement a successful run-off plan, increasing the
possibility that we would ultimately be placed in delinquency
proceedings.
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If, as a result of a sustained low valuation in the market price
for our common stock, we failed to satisfy applicable NASDAQ
listing requirements, our common stock would be delisted. In
that case, trading would be available only in over-the-counter
markets and the liquidity of our shares would be adversely
affected.
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If further negative rating agency actions result in our
inability to qualify as a Type 1 insurer under existing and
proposed Fannie Mae guidelines, or as a Type I insurer under
existing and proposed Freddie Mac guidelines, effectively we
would be unable to write new business.
Fannie Mae and Freddie Mac have published guidelines that
prescribe the requirements for a mortgage insurer to qualify as
a Type 1 or Type I insurer, respectively (the highest levels
recognized that enable the mortgage insurer to participate in
all levels of activities). These guidelines provide that the
mortgage insurer must be rated no lower than AA- by
Fitch and S&P and Aa3 by Moodys. At
December 31, 2007 Triad was rated AA- by both
Fitch and S&P and Aa3 by Moodys, the
lowest rating level allowed under published guidelines.
On February 14, 2008 Freddie Mac announced that it was
suspending its Type II Insurer classifications, which are
otherwise automatically applicable to mortgage insurers that are
downgraded below AA- or Aa3 by the
rating agencies, provided the mortgage insurer commits to
submitting a complete remediation plan within 90 days of
the downgrade.
On February 26, 2008, Fannie Mae announced that in the
event of a mortgage insurer credit downgrade by a rating agency
below its eligibility thresholds, a current Type 1 insurer will
not automatically be reclassified as a Type 2 insurer in the
event of such a credit downgrade, provided that the mortgage
insurer is in good standing with the agencys requirements
and submits a written remediation plan, together with supporting
documentation, within 30 days of the adverse action.
Once a downgraded mortgage insurer submits a remediation plan,
both Freddie Mac and Fannie Mae retain the right to determine,
in their sole discretion, whether to accept such plan. If Triad
were to be downgraded below
AA-
or Aa3 by a rating agency, no assurance can be given
that it would be in a position to take necessary corrective
action or furnish an acceptable remediation plan, that the GSEs
would approve any plan submitted or that Triad would maintain
its status as a Type 1 or I insurer. As a result, lenders may
limit the amount of mortgage insurance that they would place
with Triad, which would significantly impair Triads
ability to write new business and adversely affect its business
and financial condition.
If our risk-to-capital ratio continues to increase, we could
face adverse regulatory and rating agency action and be in
violation of covenants in our credit agreements, which would
adversely impact our ability to write new business.
At December 31, 2006, Triads risk-to-capital ratio
was approximately 12.5-to-1. As a result of the growth in our
risk in force coupled with our net loss in 2007, our
risk-to-capital ratio grew to 20.5-to-1 at December 31,
2007. Most of the states that regulate us have general
provisions that limit the risk-to-capital ratio to 25-to-1;
however, some states have specific requirements depending on LTV
and coverage percentages that may impose an even lower
risk-to-capital ratio. Rating agencies generally utilize a
risk-adjusted capital ratio that takes into consideration
various portfolio characteristics; however, they monitor the
overall risk-to-capital ratio as a general component of their
overall ratings process. During the fourth quarter of 2007, the
holding company contributed $50 million to
24
Triad, in part to ensure that the risk-to-capital ratio
requirement of the holding companys credit facility would
be met. If we were to experience net losses for an extended
period of time without an additional infusion of capital or a
reduction in risk in force at the insurance company level, we
could face negative regulatory and rating agency action that
could limit or prevent Triad from writing new business.
If we fail to meet the various minimum required levels or
maintain designated financial ratios detailed in the regulations
of the states in which we write business, we could be declared
to be in a hazardous financial condition, which could ultimately
lead to restricting future business in those states.
Many states have separate safety and soundness regulations in
addition to the risk-to-capital ratio. Some of these include
minimum surplus levels, loss ratio and annual loss-to-surplus
ratio, among others. Several states apply standard property and
casualty benchmarks to our results that neglect to factor in the
statutory contingency reserve, which is a part of our statutory
capital. As a result of the September 30, 2007 statutory
filings of Triad in which we had not yet released the
contingency reserve back into surplus, several states sent
inquiries to us requesting additional information and indicated
that we could be placed in a hazardous condition status. This
status designation means that our ability to write new business
in those states may in the future be restricted or prohibited.
If we are restricted or prohibited from writing future business
in one or more states, lenders may not wish to continue to write
business with us and our business, financial condition and
results of operations may be adversely affected.
Changes in the business practices or legislation relating to
Fannie Mae and Freddie Mac could significantly impact our
business.
Fannie Mae and Freddie Mac are the beneficiaries of the majority
of our policies, so their business practices have a significant
influence on us. Changes in their practices could reduce the
number of policies they purchase that are insured by us and,
consequently, reduce our revenues. Some of Fannie Mae and
Freddie Macs programs require less insurance coverage than
they historically have required, and they have the ability to
further reduce or eliminate coverage requirements, which would
reduce demand for mortgage insurance and have a material adverse
effect on our business, financial condition and operating
results.
Fannie Mae and Freddie Mac also have the ability to implement
new eligibility requirements for mortgage insurers and to alter
or liberalize underwriting standards on low-down-payment
mortgages they purchase, which thereby affect the quality of the
risk and the availability of mortgage loans. Additionally,
Fannie Mae and Freddie Mac can alter the terms on which mortgage
insurance coverage can be canceled before reaching the
cancellation thresholds established by law, and the
circumstances in which mortgage servicers must perform
activities intended to avoid or mitigate loss on insured
mortgages that are delinquent.
Fannie Mae and Freddie Mac have both recently announced
temporary changes to permitted captive reinsurance cede rates
and their mortgage insurer requirements. Recent legislation has
temporarily increased the maximum GSE loan limits up to $729,750
in certain markets. The Office of Federal Housing Oversight
recently announced that it was removing portfolio growth caps on
the GSEs retained mortgage portfolios. We cannot predict
the extent to which these or any new requirements that may be
enacted will affect the operations of our mortgage insurance
business, our capital requirements and our products.
Legislation and regulatory changes, including changes
impacting the GSEs, could significantly affect our business and
could reduce demand for private mortgage insurance.
Mortgage origination transactions are subject to compliance with
various federal and state consumer protection laws, including
the Real Estate Settlement Procedures Act of 1974, or RESPA, the
Equal Credit Opportunity Act, the Fair Housing Act, the
Homeowners Protection Act, the Fair Credit Reporting Act, the
Fair Debt Collection Practices Act and others. Among other
things, these laws prohibit payments for referrals of settlement
service business, require fairness and non-discrimination in
granting or facilitating the granting of credit, require
cancellation of insurance and refunding of unearned premiums
under certain circumstances, govern the circumstances under
which companies may obtain and use consumer credit information,
and define the manner in which companies may pursue collection
activities. Changes in these laws or regulations could adversely
affect our operations and profitability.
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Congress is currently considering proposed legislation relating
to the regulatory oversight of the GSEs, their affordable
housing initiatives, the GSEs products and marketing
activities, the GSEs minimum capital standards, and their
risk-based capital requirements. If adopted in its present form,
OFHEO would be replaced by a new federal agency, the Federal
Housing Enterprise Regulatory Agency, and its director would be
given significant authority over the GSEs including, among other
things, oversight of the operations of the GSEs and their
capital adequacy and internal controls and new program approval.
The proposed legislation encompasses substantially all of the
operations of the GSEs and is intended to be a comprehensive
overhaul of the existing regulatory structure. The proposed
legislation could limit the growth of the GSEs, which could
result in a reduction in the size of the mortgage insurance
market. We do not know what form any such legislation will take
if it is enacted or its impact, if any, on our financial
condition and results of operations.
Fannie Mae and Freddie Mac are subject to having their charters
temporarily or permanently changed by their regulators. The
recent housing turmoil has prompted a number of actions by the
federal government to support the housing market in general as
well as specifically supporting distressed borrowers. However,
we have yet to see any meaningful impact on our operations
resulting from federal government actions or proposals. However,
we have yet to see any meaningful impact on our operations
resulting from federal government actions or proposals.
In addition, recent increases in the maximum loan amount or
other features of the FHA mortgage insurance program can reduce
the demand for private mortgage insurance and we have already
seen evidence that the FHA mortgage insurance program is much
more competitive with private mortgage insurance. Future
legislative and regulatory actions could decrease the demand for
private mortgage insurance, which could harm our financial
condition and results of operations.
Risks
Related to Economic Conditions
If deteriorating economic conditions alter the frequency and
severity patterns utilized in our estimates for reserves for
losses, we may be required to take additional charges to results
of operations.
We calculate our best estimate of the reserve for losses to
provide for the estimated costs of settling claims on loans
reported in default, and loans in default that are in the
process of being reported to us, as of the date of our financial
statements. Our reserving process incorporates various
components in a model that gives effect to current economic
conditions and segment defaults by a variety of criteria. The
criteria include, among others, policy year, lender, geography
and the number of months and number of times the policy has been
in default, as well as whether the defaults were underwritten as
flow business or as part of a Primary or structured bulk
transaction.
Frequency and severity are the two most significant assumptions
in the establishment of our loss reserves. Frequency is used to
estimate the ultimate number of paid claims associated with the
current defaulted loans. The frequency estimate assumes that
historical experience, taking into consideration criteria such
as those described in the preceding paragraph, and adjusted for
current economic conditions that we believe will significantly
impact the long-term loss development, provides a reasonable
basis for forecasting the number of claims that will be paid. An
important consideration in determining the frequency factor is
the cure rate. In general, the cure rate is the percentage of
reported defaults that ultimately are brought current
(1) through payments of all past due payments or
(2) by disposing of the property securing the mortgage
before foreclosure with no claim ever filed because the proceeds
of the sale satisfied the mortgage. During 2007, our cure rate
declined from historical levels as home prices declined and the
ability to dispose of the property through a sale before
foreclosure diminished. If our assumptions regarding anticipated
cure rates as well as other considerations used in the frequency
factor vary from those actually experienced in the future,
actual paid claims on the existing delinquent loans may exceed
the reserves that we have established and require an additional
charge to results of operations.
Severity is the estimate of the dollar amount per claim that
will be paid. The severity factors are estimates of the
percentage of the risk in default that will ultimately be paid.
The severity factors used in setting loss reserves are based on
an analysis of the severity rates of recently paid claims,
applied to the risk in force of the loans currently in default.
An important component in the establishment of the severity
factor is the expected value of the underlying home for loans in
default compared to the outstanding mortgage loan amount. If our
assumptions regarding anticipated house price depreciation as
well as other considerations used in the severity factor vary
from those
26
actually experienced in the future, actual paid claims on the
existing delinquent loans may exceed the reserves that we have
established and require an additional charge to results of
operations.
The frequency and severity factors are updated quarterly to
respond to the most recent data. The estimation of loss reserves
requires assumptions as to future events, and there are inherent
risks and uncertainties involved in making these assumptions.
Economic conditions that have affected the development of loss
reserves in the past may not necessarily affect development
patterns in the future in either a similar manner or degree. To
the extent that possible future adverse economic conditions such
as declining cure rates or declining housing prices alter those
historical frequency and severity patterns, actual paid claims
on the existing delinquent loans may be greater than the
reserves that we have provided and require a charge to results
of operations.
Consistent with industry practice, we provide reserves only
for loans in default that have been reported to us rather than
on our estimate of the ultimate loss. As such, our results of
operations in certain periods could be disproportionately
affected by the timing of reported defaults.
Reserves are provided for the estimated ultimate costs of
settling claims on both loans reported in default and loans in
default that are in the process of being reported to us.
Generally accepted accounting principles preclude us from
establishing loss reserves for future claims on insured loans
that are not currently in default. We generally do not establish
reserves until we are notified that a borrower has failed to
make at least two payments when due. During 2007, the loans in
default for which we provide reserves grew 91% to 12,749 at
December 31, 2007. A prolonged deterioration of general
economic conditions such as increasing unemployment rates or
declining housing prices could adversely alter the historical
delinquency patterns, resulting in an even larger percentage
increase in the level of loans in default than experienced in
2007. An increase in the number of loans in default would
require additional reserves and a charge to results of
operations as they are reported to us.
During 2007 the United States housing market experienced a
significant amount of home price depreciation, which had a
direct negative impact on our loss reserves and paid claims
during 2007. If home prices continue to decline on a more
significant and larger geographic basis than experienced in
2007, we may incur a higher level of losses from paid claims and
also be required to increase our loss reserves.
A component of our mitigation efforts on mortgage insurance
claims is our option of paying the coverage percentage in full
satisfaction of our obligations under the policy (full payment
option) or paying off the entire loan amount and taking title to
the mortgaged property underlying a defaulted loan (purchase
option). The critical assumption behind the purchase option is
that the property has appreciated in value since the loan was
originated and that we will be able to recover some portion of
amount at risk, through the acquisition and subsequent sale of
the property. The purchase option proved successful during most
of 2006 in mitigating losses, but was less successful in 2007.
The
S&P/Case-Shiller©
Home Price Index for the 20-City Composite as of December
2007 indicated an annual 9.1% decline in home prices from one
year ago, the largest annual decline since the index was first
published. There were declines in every city comprising the
index during the last several months of 2007, indicating that
home price depreciation is not limited to several areas or
locations in the United States. The assumptions utilized in our
reserve methodology have factored in a certain amount of loss
mitigation resulting from the utilization of the purchase
option. If housing values fail to appreciate or decline on a
more significant and larger geographic basis, the frequency of
loans going into default and eventually to a paid claim could
increase and our ability to mitigate our losses on defaulted
mortgages may be further reduced, which could have a material
adverse effect on our business, financial condition and
operating results.
Because a significant portion of our business is sensitive to
interest rates, a large increase in rates would cause higher
monthly mortgage payments for borrowers that could potentially
lead to a greater number of defaults, which would adversely
impact our business.
At December 31, 2007, approximately 35% of our Primary risk
in force and approximately 74% of our Modified Pool risk in
force was comprised of adjustable-rate mortgage loans or ARMs.
Monthly payments on these loans are altered periodically through
an adjustment of the interest rate. Many ARMs have a fixed
interest rate for a stated period of time, and accordingly, have
not yet been subject to an interest rate adjustment. In periods
of rising interest rates, a borrowers monthly payment will
increase. A large increase in interest rates over a short period
of time could lead to payment shocks for borrowers
that could potentially lead to more reported defaults.
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At December 31, 2007, approximately 13% of both our Primary
risk in force and our Modified Pool risk in force is comprised
of pay option ARMs with the potential for negative amortization
on the loan. These loans provide borrowers the option, for a
stated period of time, to make monthly payments that do not
cover the interest due on the loan. If the borrower chooses this
payment option, the unpaid interest is added to the outstanding
loan amount, which creates negative amortization. These pay
option ARM loans may have a heightened propensity to default
because of possible payment shocks after the initial
low-payment period expires and because the borrower does not
automatically build equity through loan amortization as payments
are made. We already have experienced a higher default rate on
pay option ARMs than the remainder of our portfolio, even before
many of these loans are scheduled to shift to amortizing
payments. The risk of default may be further increased if the
interest rate paid during the payment option period is
significantly below current market rates. Additionally, the lack
of long-term historical performance data associated with pay
option ARMs across all market conditions makes it difficult to
project performance and could increase the volatility of the
estimates used in our reserve models. If interest rates increase
and cause payment shocks to borrowers with ARMs, our
default rate could increase, which could have a material adverse
impact on our business, financial condition and operating
results.
Geographic concentration of our risk in force in certain
distressed markets has resulted in increased defaults and higher
risk in default from the significantly larger loans in these
states. Ongoing house price depreciation in these distressed
markets could lead to further increases in reserves and paid
claims ,which could further significantly impact negatively our
financial performance.
At December 31, 2007, our risk in force for California,
Florida, Arizona and Nevada, which we classify as
distressed markets, represented approximately 32% of
our total risk in force on a per policy basis. These distressed
markets have experienced some of the most rapid home price
depreciation in 2007 and disruption in the housing markets when
compared to the rest of the country. These distressed markets
represent 32% of our total risk in force at December 31,
2007. Moreover, they represented 47% of both our risk in default
and our loss reserves. The default rate at December 31,
2007 in these distressed markets amounted to 5.7% compared to
3.5% for the remainder of our portfolio. If the housing markets
continue to decline at a steep rate or for an extended period of
time in these distressed markets, we could experience additional
adverse effects on our operating results and financial condition
due to the large concentration of our business in these
distressed markets.
We experienced a significant increase in reported defaults
and paid claims during 2007. If the pace of declining home
prices and ongoing credit problems in the mortgage marketplace
continues or remains unsettled, we anticipate an increased
number of defaults and paid claims, which would have a negative
impact on our results of operations.
Beginning in 2006 and accelerating in 2007, home prices in most
geographic areas declined. Additionally, after several years of
relaxed credit standards, lenders have generally tightened their
credit guidelines. Many borrowers that had qualified for
mortgages under less restrictive credit standards have found it
difficult to meet their ongoing mortgage payments. Faced with
declining home values and a tight market for credit, these
borrowers often are unable to refinance or sell their homes.
Resulting borrower defaults have contributed to our 91% increase
in defaults during 2007. The default rates on the 2006 and early
2007 vintage years, which contain increased risk factors such as
Alt-A and pay option ARMs, especially in the distressed market
states of California, Florida, Arizona and Nevada, have been
particularly high. These factors contributed significantly to
the substantial increase in our reserves during the year and, if
they continue, are expected to result in additional and
significant increases in our reserves in the future.
The inability of borrowers to sell their homes or refinance
their mortgages in the current environment has resulted in a
greater percentage of defaulted loans becoming claims by lenders
against mortgage insurers. As a result, we have lowered our
assumptions regarding the cure rates for the purpose of our
reserve models, which in turn has increased our frequency
factor. The increase in the frequency factor was a significant
reason for the increase in our reserves during the third
quarter. If the factors described above continue, we expect
further increases in actual defaults, further increases in our
frequency factor and corresponding increases in our reserves
that would significantly and adversely affect our results of
operations.
If the facts and estimates underlying the assumptions that we
utilized at December 31, 2007, to determine both if a
premium deficiency reserve is necessary or to ensure that the
DAC is recoverable against future
28
profits change, we will need to adjust those assumptions in
the future, which could result in the impairment of part or all
of the DAC asset and require the establishment of a premium
deficiency reserve, which would have a significant immediate
adverse impact on results of operations.
The methodology used to assess whether a premium deficiency
reserve is necessary or whether DAC is recoverable against
future profits is essentially the same. We use a model that
projects anticipated premiums, paid losses, and maintenance
costs over the expected remaining life of the existing insurance
in force portfolio to estimate the remaining net cash flow from
the portfolio. To the extent the net cash flows plus recorded
net reserves are positive there is no need for a premium
deficiency reserve. Our assessment is performed on the entire in
force portfolio as a whole based upon the homogenous performance
of the various components of the portfolio to date. At
December 31, 2007, our assessment indicated that no premium
deficiency reserve was necessary and that DAC was recoverable
against future profits.
The most significant assumptions that we make in this assessment
are the persistency of the premium stream and the timing and
severity of the paid losses. Each quarter, we will assess the
need for a premium deficiency reserve on the remaining insurance
in force. We will monitor the development of premiums, losses
and expenses compared to our previous estimates and consider any
variance from our prior estimates in making assumptions as to
future results. Changes to any of these assumptions could have
an effect on the determination of whether DAC is recoverable or
a premium deficiency reserve needs to be recorded.
If the existing in force portfolio exhibits a significant amount
of performance differentiation among the various products, we
may need to segment the adversely performing product(s) in
future periods for our assessment if a premium deficiency
reserve is required. The breakout of adversely performing
product(s) of the existing insurance in force would likely
result in the need for a premium deficiency reserve on those
product(s), which could have a significant immediate adverse
impact on results of operations.
If we have an extended period of low mortgage interest rates,
it could lead to increased refinancings that would have a
negative impact on persistency, which could lead to reduced
insurance in force and ultimately to reduced revenues.
Interest rates have been falling over the past several months
and are widely expected to continue to fall and borrowers may
take the opportunity to refinance their existing mortgages to
receive a lower interest rate. Additionally, an extended period
of low interest rates presents borrowers with an ARM product the
opportunity to refinance to a fixed rate product. When borrowers
refinance, our coverage terminates and we may or may not provide
coverage on the refinanced loan, depending on many factors. An
extended period of low mortgage interest rates could lead to
increased refinancings, which would have a negative impact on
persistency and could result in decreased revenues due to a
reduction of insurance in force.
Risks
Related to Products
The premiums we charge for mortgage insurance on non-prime
loans, pay option ARMs and Alt-A loans may not be adequate to
compensate for future losses from these products, especially
under distressed conditions.
Over the past several years, the percentage of non-prime loans,
pay option ARMs and Alt-A loans in our portfolio has grown
significantly. On these non-prime loans, pay option ARMs and
Alt-A loans, we charge an increased premium over prime, fixed
rate and fully documented loans. The credit quality, loss
development and persistency on these loans can vary
significantly from our traditional prime loan business. For
example, at December 31, 2007, the delinquency rate on the
pay option ARMs was 6.4% compared to the entire portfolio
(excluding pay option ARMs) of 3.8%. Additionally, the Alt-A
loan portfolio at year end had a 7.2% delinquency rate compared
to 3.1% for the remainder of our portfolio. We expect that we
will continue to experience higher default rates for non-prime
loans, Alt-A loans and pay option ARMs than for our prime fixed
rate loans. Long-term historical performance data associated
with non-prime loans, pay option ARMs and Alt-A loans across all
market conditions, especially in the distressed markets, does
not exist. We cannot be sure that the increased premiums that we
apply to non-prime, pay option ARMs and Alt-A loans will
adequately offset the associated risk, increased defaults and
potentially larger amounts of claims, which could adversely
impact our operating results.
29
A growing portion of our insurance in force consists of loans
with high loan-to-value ratios, which could result in a greater
number of defaults and larger claims than loans with lower
loan-to-value ratios during periods of declining home prices.
At December 31, 2007, approximately 17% of our mortgage
insurance in force consisted of insurance on mortgage loans with
LTVs at origination greater than 95%. In periods of declining
home prices, these loans have a greater propensity to default
due to the limited equity investment of the borrower. Loans with
greater than 95% LTV at origination have experienced a
significantly greater default rate than lower LTVs as of
December 31, 2007. Many of the high LTV loans also contain
other risk factors such as geographic location in distressed
markets and were originated with reduced documentation. Faced
with mortgages that are greater than the value of the home, a
number of borrowers are simply abandoning the property and
walking away from the mortgage, without regard to their ability
to pay. This limits the ability of the servicer to work with the
borrowers to avoid defaults and foreclosure and increases the
imbalance of the housing inventory for sale, which in turn
further depresses home prices. If we are required to pay a claim
on a high LTV loan, our loss mitigation opportunities are
limited during periods of declining home prices and we generally
are required to pay the full option payment, which is the
highest amount that we could pay under our contracts with
lenders. If we experience an increased default rate and paid
claims on high LTV loans, our results of operations could be
adversely affected.
Risks
Related to Operations
Although we were successful in reducing our concentrations
during 2007, our business remains concentrated among relatively
few major lenders and our operating results could decline if we
lose a significant customer.
Our mortgage originations continue to be concentrated within the
Top 10 originators, which accounted for approximately 73% of our
total originations during 2007 compared to approximately 80% in
2006. Our business remains dependent on a relatively small
number of customers. Additionally, our top three lenders were
responsible for approximately 54% of our Primary flow new
insurance written during 2007 compared to approximately 65% in
2006. Further, one of the top three lenders representing over
20% of our flow NIW in 2007 filed for bankruptcy protection and
is not currently originating any new loans. This concentration
of business could increase as a result of announced
consolidation in the lending industry or other factors. The loss
of business from one or more of our major lenders in addition to
the pending bankruptcy of a significant customer could have an
adverse effect on our business, financial condition and
operating results.
Our revenues and profits could decline if we lose market
share as a result of industry competition or if our competitive
position suffers as a result of our inability to introduce and
successfully market new products and programs.
There are seven main mortgage insurance providers, of which we
are the smallest. The mortgage insurance industry is highly
dynamic and intensely competitive. The other private mortgage
insurance providers are Mortgage Guaranty Insurance Corporation,
Radian Guaranty Inc., PMI Mortgage Insurance Company, Genworth
Financial Mortgage Insurance Company, United Guaranty
Residential Insurance Company, and Republic Mortgage Insurance
Company. All of these competitors are better capitalized than
Triad and have lower risk-to-capital ratios. Two of these are
subsidiaries of well-capitalized companies with stronger
insurance financial strength ratings and greater access to
capital than we have.
If we are unable to compete successfully against other private
mortgage insurers, or if we experience delays in introducing
competitive new products and programs or if these products or
programs are less profitable than our existing products and
programs, our production will suffer, which could ultimately
lead to reduced revenue.
Because we generally cannot cancel mortgage insurance
policies or adjust renewal premiums due to changing economic
conditions, unanticipated defaults and claims could cause our
financial performance to suffer significantly.
We generally cannot cancel the mortgage insurance coverage that
we provide or adjust renewal premiums during the life of a
mortgage insurance policy, even as economic factors change. As a
result, the impact of unanticipated changes, such as the
dramatic decline in home prices resulting in increased defaults
and claims like those experienced in 2007, generally cannot be
offset by premium increases on policies in force or cancellation
of
30
insurance coverage. The premiums we charge may not be adequate
to compensate us for the risks and costs associated with the
insurance coverage provided to our customers, especially in
distressed financial markets. An increase in the number or size
of unanticipated defaults and claims could adversely affect our
financial condition and operating results because we could not
cancel existing policies or increase renewal premiums.
Our loss experience is likely to increase as our policies
continue to age.
Historically, we expect the majority of claims on insured loans
in our current portfolio to occur during the second through the
fifth years after loan origination. However, during 2007 we
experienced an earlier default and claim pattern, with 60% of
our risk in default at December 31, 2007 coming from the
2006 and 2007 vintage years. While we have experienced an
earlier default rate among our most recent vintages, we are
still experiencing the normal seasoning on our older vintage
years that are now in the peak default and claim paying period.
Total insurance written from the period of January 1, 2003
through December 31, 2006 (vintage years within the
historical highest default and claim paying period) represented
62% of our risk in force as of December 31, 2007.
Accordingly, a significant majority of our portfolio is in, or
approaching, its peak claim years. We believe our loss
experience is likely to increase as our policies age. If the
claim frequency on our risk in force significantly exceeds the
claim frequency that was assumed in setting our premium rates,
our financial condition and results of operations could be
adversely affected.
Our revenues and DAC amortization depend on the renewal of
policies that may terminate or fail to renew with Triad.
The large majority of our premiums each month are derived from
the monthly renewal of policies that we previously have written.
Factors that could cause an increase in non-renewals of our
policies include falling mortgage interest rates (which tend to
lead to increased refinancings and associated cancellations of
mortgage insurance), appreciating home values, which can lead to
more refinances and mortgage insurance cancellations, and
changes in the mortgage insurance cancellation requirements
applicable to mortgage lenders and homeowners. During 2007,
persistency increased to near record levels as home prices
declined and borrowers found it increasingly difficult to
refinance or sell their existing homes due to the illiquidity in
the marketplace, which had a positive impact on earned premiums.
In addition to the impact on earned premiums, the amount of DAC
amortization expense would be adversely impacted if policies
terminate at a rate faster than was originally estimated in our
DAC models. A decrease in the length of time that our mortgage
insurance policies remain in force reduces our revenues and
could have an adverse effect on our business, financial
condition and operating results.
Our delegated underwriting program may subject our mortgage
insurance business to unanticipated claims.
A significant percentage of our new insurance written is
underwritten pursuant to a delegated underwriting program. These
programs permit certain mortgage lenders to determine whether
mortgage loans meet our program guidelines and enable these
lenders to commit us to issue mortgage insurance. We may expand
the availability of delegated underwriting to additional
customers. If an approved lender commits us to insure a mortgage
loan, we may refuse to insure, or we may rescind coverage on
that loan if the lender fails to follow our delegated
underwriting guidelines. Even if we terminate a lenders
underwriting authority, we generally remain at risk for any
loans previously insured on our behalf by the lender before that
termination, absent fraud or other similar circumstances. The
performance of loans insured through programs of delegated
underwriting has not been tested over a period of extended
adverse economic conditions, meaning that the program could lead
to greater losses than we anticipate. If losses are
significantly greater than anticipated, our delegated
underwriting program could have a material adverse effect on our
business, financial condition and operating results.
If we fail to properly underwrite mortgage loans when we
provide contract underwriting services, we may be required to
provide monetary and other remedies to the customer.
Under the terms of our contract underwriting agreements with
certain lenders, we agree to indemnify the lender against losses
incurred in the event that we make material errors in
determining whether loans processed by our contract underwriters
meet specified underwriting or purchase criteria, subject to
contractual limitations on liability. As a part of the contract
underwriting services, we provide monetary and other remedies to
our customers in the event that we fail to properly underwrite a
mortgage loan. As a result, we assume credit and interest rate
risk in connection with our contract underwriting services.
Worsening economic conditions, a deterioration in the quality
31
of our underwriting services or other factors could cause our
contract underwriting liabilities to increase and have an
adverse effect on our financial condition and results of
operations. Although we have established a reserve to provide
for potential claims in connection with our contract
underwriting services, we have limited historical experience
that we can use to establish reserves for these potential
liabilities, and these reserves may not be adequate to cover
liabilities that may arise.
If the operating subsidiary, Triad, is prohibited from making
interest payments on its $25 million surplus note to the
holding company, then the holding company could be unable to
make the required interest payments on its $35 million
long-term debt outstanding.
Terms of the $25 million surplus note at Triad, the main
operating subsidiary, restrict the accrual or payment of
interest if the statutory surplus immediately before the
scheduled interest payment is due falls below the level of the
statutory surplus at origination of this loan. Statutory surplus
is increased when the statutory contingency reserve is released
under applicable regulations. In our September 30, 2007
statutory filings, we had not yet released the contingency
reserve allowed to us due to the significant increase in our
loss ratio. We released the contingency reserve in the
December 31, 2007 statutory filings, which resulted in
sufficient surplus that allowed for the accrual and payment of
the interest on the $25 million surplus note. In addition
to exceeding the required level of surplus, we must obtain
approval to pay interest from our primary regulator, the
Department of Insurance for the State of Illinois. If we are
unable to obtain the approval from our primary regulator for the
payment of interest on the surplus note or if we are unable to
meet the required statutory surplus levels, then the holding
company would only be able to meet its debt service requirements
from its existing capital for a limited period of time and this
could cause it to default on its existing long-term debt.
If many of our lender partners for which we have entered into
risk-sharing agreements, such as captive reinsurance treaties,
continue under financial stress for an extended period of time,
then the ability of these lenders to meet their financial
obligations under the captive reinsurance treaties may be
limited to the trust balances maintained within the reinsurance
structures, which could have an adverse impact on future results
of operations.
Two of the 22 lenders for which we had established captive
reinsurance programs are in bankruptcy, while several others are
under financial duress. An integral component of the reinsurance
treaties include trust balances, which remain under our control,
to support a portion of the risk assumed by the reinsurer. As
defaults increase and we reach the point where the attachment
point is exceeded for individual vintage years, we cede reserves
to the captive. When reserves are initially ceded to the
captive, the requirement for additional trust balances generally
increases. When the need for additional trust balances cannot be
met through ceded reinsurance premiums, then additional capital
contributions would be required by the lender. The ability of
the lenders that are currently under financial duress to meet
their future financial obligations under the captive reinsurance
agreements beyond the trust balances may be limited, which could
have an adverse impact on future results of operations. If for
any reason a lender is unable to fund its reinsurance
obligations, Triad would remain obligated to pay the claims,
which would increase our losses.
If we are unsuccessful in our litigation with a bankrupt
former lender over our ability to rescind or deny coverage for
certain loans due to program violations or fraud, this could
have an adverse impact on future results of operations.
We have been sued related to our rescission of or denial of
coverage for loans originated by a bankrupt lender. The
plaintiffs are debtors and debtors in possession in
Chapter 11 cases pending in the U.S. Bankruptcy Court.
The lawsuit is an action for breach of contract and declaratory
judgment. The basis for the complaints breach of contract
action is the cancellation by us of our certification of the
bankrupt lenders coverage on 14 loans due to
irregularities that we uncovered following the submission of
claims for payment and that existed when the bankrupt lender
originated the loans. The complaint alleges that our actions
caused the bankrupt lender to suffer a combined net loss of not
less than approximately $1.1 million and seeks monetary
damages and a declaratory judgment. We have identified
additional program violations or instances of suspected fraud;
however, we have not rescinded or denied coverage for additional
loans since the lawsuit was filed as we attempt to research and
clarify all of the facts. We expect to rescind or deny coverage
for additional loans originated by the bankrupt lender and we
intend to contest
32
the lawsuit vigorously. If we are unsuccessful in our litigation
and we are prohibited from rescinding or denying coverage due to
program violations or fraud, it could have a significant adverse
impact on our future results.
If the financial strength ratings of the financial guarantors
that enhance a significant portion of our investment portfolio
are lowered, that could limit the ability to sell affected bonds
and could be indicative of a permanent impairment, which could
have an adverse impact on our future results of operations.
At December 31, 2007, approximately 77% of our municipal
bond portfolio contained credit enhancements through financial
guaranty companies resulting in an overall AAA rated
portfolio. Most of the financial guaranty companies have
recently come under significant financial pressure. A downgrade
of the financial guaranty company would have the impact of
lowering the rating of the individual municipal bonds in our
portfolio. These lower rated bonds may be less attractive in the
marketplace and their market value could be materially
diminished. Additionally, our ability to sell the lower rated
bonds, if necessary, at a price that recoups our cost could also
be lessened. Further, if we determine that the bond has been
other than temporarily impaired, we will be required to write it
down and charge our results of operations.
If the lenders are unwilling or unable to continue our
relationship going forward due to recent guideline changes and
limitations imposed by us during the fourth quarter of 2007,
then our future production could suffer and it could have a
negative impact on future revenue and results of operations.
As part of our new underwriting guidelines instituted in the
fourth quarter of 2007, we have limited the production of
certain lenders from both a geographic and product standpoint.
In some cases, our guidelines could no longer support all of the
products offered by various lenders. Many lenders utilize
allocation percentages to different mortgage insurers to avoid
concentrations and adjust these allocations from time to time.
If we are unable to support specific products offered by the
lender, then we are at risk that our allocation could be lowered
or eliminated completely. If the lenders are unwilling or unable
to continue our relationship going forward, then our production
and future operating results could suffer.
If we cannot reduce operating costs to meet the anticipated
reduced production and in force amounts, then we may be unable
to compete effectively with other mortgage insurers.
Our underwriting guideline changes reduced production in the
fourth quarter of 2007 and early 2008. Although persistency
remained near all-time high levels during 2007, a prolonged
decline in production would eventually result in a lower
insurance in force. The cost structure in place for the Company
at December 31, 2007 was established with expectations of
ongoing growth and increased production. Since year-end, we have
reduced our sales staff as well as closed most of our
underwriting offices. If we are unable to match our reductions
in operating costs in a manner that would result in an expense
ratio at or below that experienced in 2007, then we may not be
competitive with other mortgage insurers.
Loan servicers have recently experienced a significant
increase in their workload due to the rapid growth in defaults
and foreclosures. If the loan servicer fails to act proactively
with delinquent borrowers in an effort to avoid foreclosure,
then the number of delinquent loans eventually going to claim
status could increase.
The loan servicer maintains the primary contact with the
borrowers throughout the life of the loan and we can become
involved with any potential loss mitigation only with permission
from the servicer. During periods of declining home prices and
increased delinquencies, such as that currently being
experienced in the mortgage business, it is important to us that
the servicer be proactive in dealing with borrowers rather than
simply allowing the loan to go to foreclosure. Historically,
when a servicer becomes involved at an earlier stage of
delinquency with workout programs and credit counseling, there
is a greater likelihood that the loan will not go to foreclosure
and we will not be forced to pay a claim. During periods of
increased delinquencies, it becomes extremely important that the
servicer be properly staffed and trained to assist borrowers to
avoid foreclosure. From our perspective, it is also extremely
important to involve us as part of the loss mitigation effort as
early as possible. If some of the loan servicers do not properly
staff and train their personnel or enlist our assistance in loss
mitigation efforts, then the number of loans going to
foreclosure may increase, resulting in a greater number of
claims
and/or a
larger amount that we are required to pay, which will have an
adverse impact on our future operating results.
33
If we fail to obtain additional capital resources or if
losses continue for an extended period of time and the outlook
for mortgage insurers remains uncertain, then we may be unable
to retain key personnel from moving to other industries that may
appear to offer a more promising outlook.
We have taken actions to reduce underwriting offices and
personnel in response to the turbulent state of the current
mortgage marketplace and our significant operating losses during
2007. Recent capital enhancement efforts have introduced some
level of uncertainty among employees. Additionally, the outlook
for mortgage insurers remains uncertain, and we may be unable to
retain key personnel from moving to other industries that may
offer better short-term opportunities and a more promising
outlook. The loss of any key personnel could limit our ability
to execute key strategic plans, including enhancement of our
capital resources.
|
|
Item 1B.
|
Unresolved
Staff Comments
|
None.
The Companys principal executive offices are located at
101 South Stratford Road, Winston-Salem, NC 27104. This
five-story office building totals 79,254 square feet and
the Company currently leases approximately 66,200 square
feet under a lease that will expire in 2012. A majority of staff
functions are located within this office complex.
The Company leases office space for its eight underwriting
offices located throughout the country under leases expiring
between 2008 and 2009, as well as office space in Toronto,
Canada for its Canadian operations under a lease expiring in
2009. In the fourth quarter of 2007, the Company suspended its
expansion efforts in Canada and in the first quarter of 2008,
the Company took steps to close four of its underwriting
offices, with corresponding reductions to its sales staff. The
Company is seeking a purchaser for its Canadian operations and
is pursuing subleases for all underwriting offices that were
closed.
With respect to all remaining facilities, the Company either has
renewal options or believes it will be able to obtain lease
renewals on satisfactory terms. The Company believes its
remaining existing properties are well utilized and are suitable
and adequate for its present circumstances.
The Company maintains mid-range and micro-computer systems from
its corporate data center located in its headquarters building
to support its data processing requirements for accounting,
policy administration, claims, marketing, risk management, and
underwriting. The Company has in place
back-up
procedures in the event of emergency situations.
|
|
Item 3.
|
Legal
Proceedings
|
The Company is involved in litigation in the ordinary course of
business including the named case below. No pending litigation
is expected to have a material adverse affect on the financial
position of the Company.
On November 5, 2007, American Home Mortgage Investment
Corp. and American Home Mortgage Servicing, Inc. filed a
complaint against Triad Guaranty Insurance Corp. in the
U.S. Bankruptcy Court for the District of Delaware. The
plaintiffs are debtors and debtors in possession in
Chapter 11 cases pending in the U.S. Bankruptcy Court.
The lawsuit is an action for breach of contract and declaratory
judgment. The basis for the complaints breach of contract
action is the cancellation by us of our certification of
American Home Mortgages coverage on 14 loans due to
irregularities that we uncovered following the submission of
claims for payment and that existed when American Home Mortgage
originated the loans. The complaint alleges that our actions
caused American Home Mortgage to suffer a combined net loss of
not less than $1,132,105.51 and seeks monetary damages and a
declaratory judgment. We expect to rescind or deny coverage for
additional loans originated by American Home Mortgage and we
intend to contest the lawsuit vigorously.
|
|
Item 4.
|
Submission
of Matters to a Vote of Security Holders
|
None.
34
PART II
Item 5. Market
for Registrants Common Stock, Related Stockholder Matters
and Issuer Purchases of Equity Securities
Market information
The Companys common stock trades on The NASDAQ Global
Select
Market®
under the symbol TGIC. At December 31, 2007,
14,920,243 shares were issued and outstanding. The
following table sets forth the high and low sales prices of the
Companys common stock as reported by NASDAQ during the
periods indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
2006
|
|
|
High
|
|
Low
|
|
High
|
|
Low
|
|
First Quarter
|
|
$
|
58.62
|
|
|
$
|
39.31
|
|
|
$
|
47.25
|
|
|
$
|
41.50
|
|
Second Quarter
|
|
$
|
47.35
|
|
|
$
|
38.45
|
|
|
$
|
57.87
|
|
|
$
|
45.50
|
|
Third Quarter
|
|
$
|
41.05
|
|
|
$
|
14.84
|
|
|
$
|
53.43
|
|
|
$
|
45.20
|
|
Fourth Quarter
|
|
$
|
20.63
|
|
|
$
|
5.50
|
|
|
$
|
57.66
|
|
|
$
|
48.91
|
|
Holders
As of February 29, 2008, the number of stockholders of
record of the Companys common stock was approximately 313.
In addition, there were an estimated 5,700 beneficial owners of
shares held by brokers and fiduciaries.
Dividends
Payments of future dividends are subject to declaration by the
Companys Board of Directors. The dividend policy is
dependent on the ability of Triad to pay dividends to the parent
company and is also restricted by covenants contained in the
credit agreement. Currently, there are no intentions to pay
dividends. See Liquidity and Capital Resources in
Item 7, Managements Discussion and Analysis of
Financial Condition and Results of Operations for a more
detailed discussion of dividend payment restrictions.
Issuer purchases of equity securities and unregistered sales
of equity securities
None.
35
|
|
Item 6.
|
Selected
Financial Data
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(Dollars in thousands, except per share data)
|
|
|
Income Statement Data (for period ended):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Premiums written:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct
|
|
$
|
339,007
|
|
|
$
|
256,706
|
|
|
$
|
207,260
|
|
|
$
|
176,696
|
|
|
$
|
154,046
|
|
Ceded
|
|
|
(55,784
|
)
|
|
|
(46,140
|
)
|
|
|
(40,644
|
)
|
|
|
(35,365
|
)
|
|
|
(27,310
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
283,223
|
|
|
$
|
210,566
|
|
|
$
|
166,616
|
|
|
$
|
141,331
|
|
|
$
|
126,736
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums
|
|
$
|
278,900
|
|
|
$
|
210,856
|
|
|
$
|
168,997
|
|
|
$
|
140,992
|
|
|
$
|
119,732
|
|
Net investment income
|
|
|
32,936
|
|
|
|
26,696
|
|
|
|
22,998
|
|
|
|
19,754
|
|
|
|
17,082
|
|
Net realized gains (losses)
|
|
|
(3,049
|
)
|
|
|
1,584
|
|
|
|
36
|
|
|
|
504
|
|
|
|
3,029
|
|
Other income
|
|
|
8
|
|
|
|
8
|
|
|
|
15
|
|
|
|
16
|
|
|
|
24
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues
|
|
|
308,795
|
|
|
|
239,144
|
|
|
|
192,046
|
|
|
|
161,266
|
|
|
|
139,867
|
|
Net losses and loss adjustment expenses
|
|
|
372,939
|
|
|
|
94,227
|
|
|
|
66,855
|
|
|
|
35,864
|
|
|
|
23,833
|
|
Interest expense on debt
|
|
|
4,375
|
|
|
|
2,774
|
|
|
|
2,773
|
|
|
|
2,772
|
|
|
|
2,772
|
|
Amortization of deferred acquisition cost
|
|
|
18,497
|
|
|
|
16,268
|
|
|
|
14,902
|
|
|
|
14,256
|
|
|
|
18,112
|
|
Other operating expenses (net of acquisition cost deferred)
|
|
|
43,628
|
|
|
|
35,556
|
|
|
|
29,610
|
|
|
|
26,483
|
|
|
|
22,776
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes (benefit)
|
|
|
(130,644
|
)
|
|
|
90,319
|
|
|
|
77,906
|
|
|
|
81,891
|
|
|
|
72,374
|
|
Income taxes (benefit)
|
|
|
(53,186
|
)
|
|
|
24,684
|
|
|
|
21,093
|
|
|
|
23,474
|
|
|
|
21,283
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(77,458
|
)
|
|
$
|
65,635
|
|
|
$
|
56,813
|
|
|
$
|
58,417
|
|
|
$
|
51,091
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic (loss) earnings per share
|
|
$
|
(5.22
|
)
|
|
$
|
4.44
|
|
|
$
|
3.87
|
|
|
$
|
4.04
|
|
|
$
|
3.57
|
|
Diluted (loss) earnings per share
|
|
$
|
(5.22
|
)
|
|
$
|
4.40
|
|
|
$
|
3.84
|
|
|
$
|
3.98
|
|
|
$
|
3.52
|
|
Weighted average common and common share equivalents outstanding
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
14,829,205
|
|
|
|
14,769,859
|
|
|
|
14,691,478
|
|
|
|
14,458,453
|
|
|
|
14,322,216
|
|
Diluted
|
|
|
14,829,205
|
|
|
|
14,912,519
|
|
|
|
14,808,387
|
|
|
|
14,681,228
|
|
|
|
14,509,538
|
|
Balance Sheet Data (at year end):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
1,132,853
|
|
|
$
|
895,631
|
|
|
$
|
767,503
|
|
|
$
|
672,035
|
|
|
$
|
575,579
|
|
Total invested assets
|
|
$
|
784,539
|
|
|
$
|
607,312
|
|
|
$
|
547,019
|
|
|
$
|
476,913
|
|
|
$
|
399,571
|
|
Reserve for losses and loss adjustment expenses
|
|
$
|
359,939
|
|
|
$
|
84,352
|
|
|
$
|
51,074
|
|
|
$
|
34,042
|
|
|
$
|
27,186
|
|
Unearned premiums
|
|
$
|
17,793
|
|
|
$
|
13,193
|
|
|
$
|
13,494
|
|
|
$
|
15,942
|
|
|
$
|
15,630
|
|
Revolving line of credit
|
|
$
|
80,000
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Long-term debt
|
|
$
|
34,519
|
|
|
$
|
34,510
|
|
|
$
|
34,501
|
|
|
$
|
34,493
|
|
|
$
|
34,486
|
|
Stockholders equity
|
|
$
|
498,851
|
|
|
$
|
570,224
|
|
|
$
|
499,191
|
|
|
$
|
437,343
|
|
|
$
|
369,930
|
|
Statutory Ratios (1):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss ratio
|
|
|
133.9
|
%
|
|
|
44.7
|
%
|
|
|
39.6
|
%
|
|
|
25.4
|
%
|
|
|
19.9
|
%
|
Expense ratio
|
|
|
19.7
|
%
|
|
|
23.4
|
%
|
|
|
25.2
|
%
|
|
|
29.4
|
%
|
|
|
33.0
|
%
|
Combined ratio
|
|
|
153.6
|
%
|
|
|
68.1
|
%
|
|
|
64.8
|
%
|
|
|
54.8
|
%
|
|
|
52.9
|
%
|
GAAP Ratios:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss ratio
|
|
|
133.7
|
%
|
|
|
44.7
|
%
|
|
|
39.6
|
%
|
|
|
25.4
|
%
|
|
|
19.9
|
%
|
Expense ratio
|
|
|
21.9
|
%
|
|
|
24.6
|
%
|
|
|
26.7
|
%
|
|
|
28.8
|
%
|
|
|
32.3
|
%
|
Combined ratio
|
|
|
155.6
|
%
|
|
|
69.3
|
%
|
|
|
66.3
|
%
|
|
|
54.2
|
%
|
|
|
52.2
|
%
|
Other Statutory Data (dollars in millions)(1):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct insurance in force
|
|
$
|
68,228
|
|
|
$
|
56,828
|
|
|
$
|
44,407
|
|
|
$
|
36,827
|
|
|
$
|
31,748
|
|
Direct risk in force (gross)
|
|
$
|
12,937
|
|
|
$
|
9,441
|
|
|
$
|
8,016
|
|
|
$
|
7,627
|
|
|
$
|
7,024
|
|
Risk-to-capital
|
|
|
20.5:1
|
|
|
|
12.5:1
|
|
|
|
12.6:1
|
|
|
|
14.0:1
|
|
|
|
15.3:1
|
|
|
|
|
(1) |
|
Based on statutory accounting practices and derived from
combined statutory financial statements of Triad. |
36
|
|
Item 7.
|
Managements
Discussion and Analysis of Financial Condition and Results of
Operations
|
The following discussion is intended to provide information that
the Company believes is relevant to an assessment and
understanding of the Companys consolidated financial
position, results of operations and cash flows and should be
read in conjunction with the Consolidated Financial Statements
and Notes contained herein. In addition, the current negative
market conditions in the home mortgage and residential housing
markets are unprecedented from an historical standpoint and have
subjected our business, financial condition and results of
operations to substantial risks, many of which are summarized
under Risk Factors above, which should be read in
conjunction with the following discussion.
Certain of the statements contained herein, other than
statements of historical fact, are forward-looking statements.
These statements are made pursuant to the safe harbor provisions
of the Private Securities Litigation Reform Act of 1995 and
include estimates and assumptions related to economic,
competitive and legislative developments. These forward-looking
statements are subject to change and uncertainty, which are, in
many instances, beyond our control and have been made based upon
our expectations and beliefs concerning future developments and
their potential effect on us. Actual developments and their
results could differ materially from those expected by us,
depending on the outcome of certain factors, including the
possibility of general economic and business conditions that are
different than anticipated, legislative developments, changes in
interest rates or the stock markets, stronger than anticipated
competitive activity, as well as the factors described in the
Safe Harbor Statement under the Private Securities
Litigation Reform Act of 1995 section below with respect
to forward-looking statements contained herein.
Overview
Through our U.S. subsidiaries, we provide Primary and
Modified Pool mortgage guaranty insurance coverage to
residential mortgage lenders and investors as a
credit-enhancement vehicle. We classify insurance as Primary
when we are in the first loss position and the LTV is 80% or
greater when the loan is first insured. We classify all other
insurance as Modified Pool. The majority of our Primary
insurance is delivered through the flow channel, which is
defined as loans originated by lenders and submitted to us on a
loan-by-loan
basis. We have also historically provided mortgage insurance to
lenders and investors who seek additional default protection
(typically secondary coverage or on loans for which the
individual borrower has greater than 20% equity), capital
relief, and credit-enhancement on groups of loans that are sold
in the secondary market. These transactions are referred to as
our structured bulk channel business. Those individual loans in
the structured bulk channel in which we are in the first loss
position and the LTV ratio is greater than 80% are classified as
Primary. All of our Modified Pool insurance is delivered through
the structured bulk channel. We do not expect any significant
production of Modified Pool or Primary bulk business from the
structured bulk channel in 2008. Our Canadian subsidiary was
formed in 2007 for the express purpose of exploring the
opportunities of providing mortgage insurance in Canada, but did
not write any business and only had start up expenses in 2007.
We suspended our Canadian expansion efforts in the fourth
quarter of 2007 and we do not expect to write any business
through our Canadian subsidiary.
Our revenues principally consist of (a) initial and renewal
earned premiums from flow business (net of reinsurance premiums
ceded as part of our risk management strategies),
(b) initial and renewal earned premiums from structured
bulk transactions, and c) investment income on invested
assets. We also realize investment gains, net of investment
losses, periodically as a source of revenue when the opportunity
presents itself within the context of our overall investment
strategy.
Our expenses essentially consist of (a) amounts paid on
claims submitted, (b) changes in reserves for estimated
future claim payments on loans that are currently in default,
(c) general and administrative costs of acquiring new
business and servicing existing policies, (d) other general
business expenses, (e) interest expense on long-term debt
and line of credit, and (f) income taxes.
Our profitability depends largely on (a) the volume of
business insured combined with the adequacy of our product
pricing and underwriting discipline relative to the risks
insured, (b) the conditions of the housing, mortgage and
capital markets that have a direct impact on mitigation efforts,
cure rates and ultimately the amount of claims paid,
(c) the overall general state of the economy and job
market, (d) persistency levels, (e) operating
efficiencies, and (f) the level of investment yield,
including realized gains and losses, on our investment portfolio.
37
Persistency is an important metric in understanding our premium
revenue. The longer a policy remains on our books, or
persists, the greater the amount of revenue that we
will derive from the policy from renewal premiums. We define
persistency as the amount of insurance in force at the
12-month end
of a financial reporting period as a percentage of the amount of
insurance in force at the beginning of the period. Cancellations
of policies originated during the past twelve months are not
considered in our calculation of persistency. This method of
calculating persistency may vary from that of other mortgage
insurers. We believe that our calculation presents an accurate
measure of the percentage of insurance in force remaining at the
end of the
12-month
measurement period. Cancellations result primarily from the
borrower refinancing or selling insured mortgaged residential
properties and, to a lesser degree, from the borrower achieving
prescribed equity levels, at which point the lender no longer
requires mortgage guaranty insurance.
Consolidated
Results of Operations
Following is selected financial information for the last three
years:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
%Change
|
|
%Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands, except per share data)
|
|
Earned premiums
|
|
$
|
278,900
|
|
|
$
|
210,856
|
|
|
$
|
168,997
|
|
|
|
32.3
|
%
|
|
|
24.8
|
%
|
Net losses and loss adjustment expenses
|
|
|
372,939
|
|
|
|
94,227
|
|
|
|
66,855
|
|
|
|
295.8
|
|
|
|
40.9
|
|
Other operating expenses
|
|
|
43,628
|
|
|
|
35,556
|
|
|
|
29,610
|
|
|
|
22.7
|
|
|
|
20.1
|
|
Net (loss) income
|
|
|
(77,458
|
)
|
|
|
65,635
|
|
|
|
56,813
|
|
|
|
(218.0
|
)
|
|
|
15.5
|
|
Diluted (loss) earnings per share
|
|
$
|
(5.22
|
)
|
|
$
|
4.40
|
|
|
$
|
3.84
|
|
|
|
(218.7
|
)%
|
|
|
14.6
|
%
|
A substantial increase in the reserve for losses and LAE in 2007
was primarily responsible for our net loss for 2007. The
increase in the reserves was directly related to the growth in
the number of reported loans in default as well as an increase
in the frequency and severity factors utilized in the reserve
model. Additionally, the changing characteristics of the loans
entering the default pool, with new defaults having
substantially higher average risk per loan than a year ago, has
contributed to the increase in reserves. These factors have been
especially evident in (i) distressed markets (California,
Florida, Arizona and Nevada), (ii) the development of the
2006 and 2007 books of business, (iii) our Primary bulk
business written in 2007, which is showing a significant amount
of early payment defaults and has a significant amount of high
LTV loans, and (iv) our recent Modified Pool business,
which also has exhibited a significant amount of early payment
defaults. At December 31, 2007 distressed markets accounted
for 32% of the total risk in force but represented 47% of both
the risk in default and reserves. At December 31, 2006,
distressed markets accounted for 31% of the total risk in force,
but represented only 18% of the risk in default and 14% of
reserves. These distressed markets contributed
$156 million, or 57%, of the total reserve increase
experienced in 2007, compared to $8 million, or 24%, of the
total reserve increase experienced in 2006.
Net losses and LAE for the year ended December 31, 2007
increased $278.7 million compared to the year ended
December 31, 2006. Loss and LAE reserves increased by
$276 million during the year, driven by a 91% increase in
the number of loans in default for which we provide a reserve
and a 48% increase in the average risk in default on those
loans. In addition to the substantial increase in reserves,
there was also strong growth of paid losses in both total
dollars and the average paid loss severity. Paid losses of
$100.6 million for 2007 were up $41.6 million, or 70%,
as compared to 2006. Average paid loss severity was $44,800 as
of December 31, 2007, compared to $27,900 as of
December 31, 2006. The increase in average paid severity is
primarily the result of a higher percentage of claims from the
more recent vintage years, which reflect larger loan balances,
and a decline in our ability to mitigate losses.
Earned premiums for 2007 grew significantly when compared to
2006, principally due to growth in Primary insurance in force.
Total insurance in force grew by $11.4 billion, or 20.1%,
as a result of total NIW of $2.7 billion and a total annual
persistency rate of 81.9%.
38
Other operating expenses for 2007 increased over 2006 due to
organizational changes and staff additions to support our growth
and strategic initiatives, including expenses associated with
entering the Canadian market. We incurred approximately
$3.3 million of expenses in 2007 relating to our
start-up
operations in Canada.
The change in diluted (loss) earnings per share for 2007 from
2006 was consistent with the change in our operating results.
The denominator used in calculating diluted loss per share for
2007 shown above excludes exercise of options and unvested
restricted stock, which is required when a loss from operations
is being reported or the result would otherwise be antidilutive.
Realized investment gains (losses), net of taxes, decreased
diluted loss per share in 2007 by $0.13, increased diluted
earnings per share in 2006 by $0.07 and had no impact on diluted
earnings per share in 2005. Diluted realized gains and losses
per share is a non-GAAP measure. We believe this is relevant and
useful information to investors because, except for write-downs
on other-than-temporarily impaired securities, it shows the
effect that our discretionary sales of investments had on
results of operations.
We describe our results of operations in greater detail in the
discussion that follows. The information is presented in four
categories: Production; Insurance and Risk In Force; Revenues;
and Losses and Expenses.
Production
Below is a summary of new production:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
%Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in millions)
|
|
Primary insurance written:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Flow
|
|
$
|
15,861
|
|
|
$
|
10,962
|
|
|
$
|
10,456
|
|
|
|
44.7
|
%
|
|
|
4.8
|
%
|
Structured bulk
|
|
|
3,723
|
|
|
|
1,126
|
|
|
|
32
|
|
|
|
230.6
|
|
|
|
3,418.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Primary insurance written
|
|
$
|
19,584
|
|
|
$
|
12,088
|
|
|
$
|
10,488
|
|
|
|
62.0
|
|
|
|
15.3
|
|
Modified Pool insurance written
|
|
|
3,331
|
|
|
|
12,672
|
|
|
|
10,681
|
|
|
|
(73.7
|
)
|
|
|
18.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total insurance written
|
|
$
|
22,915
|
|
|
$
|
24,760
|
|
|
$
|
21,169
|
|
|
|
(7.5
|
)%
|
|
|
17.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total NIW decreased slightly during 2007, however, 69% of total
NIW that was written in 2007 was written in the first two
quarters, with 19% and 12%, respectively, coming in the third
and fourth quarters of 2007. Primary flow NIW increased
$4.9 billion for 2007 compared to 2006, however 60% of the
increase for 2007 was written in the first half of the year and,
similar to total NIW, declined in the third and fourth quarters
of 2007. We believe it is likely that Primary flow NIW will
continue to decline into 2008 for a variety of reasons including
those described below:
|
|
|
|
|
American Home Mortgage Corp. (AHM) was our second
largest customer for 2007, contributing $3.2 billion, or
21% of our total Primary flow NIW. AHM filed for protection
under Chapter 11 of the U.S. Bankruptcy Code during
the third quarter of 2007 and, as a result, provided extremely
limited production during the second half of 2007. We do not
anticipate any further production from AHM. The AHM bankruptcy,
coupled with contractions in personnel and a reduction in
production by two of our other large lender customers due to the
unsettled nature of the mortgage marketplace, negatively
impacted production for the second half of 2007. We expect that
we will see further reductions in production in 2008.
|
|
|
|
At December 31, 2007, our risk to capital ratio was
20.5-to-1 compared to 12.5-to-1 at December 31, 2006. The
maximum risk to capital ratio permitted by most states is
generally 25.0-to-1. In addition, we are subject to a maximum
risk to capital ratio of 22.1-to-1 under our $80 million
credit facility. Our risk to capital ratio has been increasing
over the last several quarters, partially as the result of
operating losses during the third and fourth quarters of 2007.
In order to manage our risk to capital ratio in this
environment, we are carefully monitoring the writing of new
business and allocating our capital against what we believe to
be the most promising opportunities. This allocation of capital
is expected to further limit the amount of future production.
|
|
|
|
We discontinued a special lender-paid program at the end of the
second quarter that had been responsible for approximately
$600 million of NIW per quarter for each of the first two
quarters of 2007 and the last quarter of 2006.
|
39
|
|
|
|
|
For the twelve months ended December 31, 2007, our exposure
to loans with LTVs of greater than 95% represented 32.6% of
Primary NIW. As noted above, we are reducing the risk in our
portfolio through tightened underwriting guidelines and are
limiting our exposure to loans with LTVs of greater than 95%.
Our focus on quality through tightened underwriting guidelines
has resulted, and we expect will continue to result, in the
elimination of certain mortgage lenders with which we had
historically done business and a reduction in volume from other
lenders with which we continue to do business.
|
Bulk insurance is a term that describes Primary and Modified
Pool mortgage insurance written for a group of loans that is
generally securitized in the secondary market. Mortgage
insurance provides loss protection to the issuer and thus
increases the credit rating and pricing of the securitization.
In the Primary bulk channel, we recorded $3.7 billion of
NIW in 2007, much of which was attributable to a forward
commitment created in the fourth quarter of 2006. A large
percentage of the loans contained in this single transaction had
loan amounts in excess of $500,000 with LTVs greater than 95%.
We do not expect any further production in the Primary bulk
channel for the foreseeable future.
Structured bulk transactions, which include both Primary and
Modified Pool, are likely to vary significantly from period to
period due to (a) the limited number of transactions
occurring in this market, (b) the larger size of such
transactions compared with Primary insurance, (c) the level
of competition from other mortgage insurers, (d) the
relative attractiveness in the marketplace of mortgage insurance
versus other forms of credit enhancement, and (e) the
changing loan composition and underwriting criteria of the
market. During the second half of 2007, we viewed the structured
bulk market as unsettled, with a wide variety of products that
did not meet our criteria and a lack of clear direction in
spreads and pricing. In this environment, we chose to decrease
our participation in structured bulk transactions and we do not
expect any further production of Modified Pool NIW in 2008.
The following table provides estimates of our national market
share of NIW, using MICA definitions, through our flow and
structured bulk channels based on information available from
MICA and other public sources for the years ended
December 31, 2007, 2006, and 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
Market Share by Channel
|
|
2007
|
|
2006
|
|
2005
|
|
Flow channel
|
|
|
5.6
|
%
|
|
|
6.3
|
%
|
|
|
5.7
|
%
|
Structured bulk channel
|
|
|
9.7
|
%
|
|
|
14.5
|
%
|
|
|
11.5
|
%
|
Total
|
|
|
6.4
|
%
|
|
|
9.1
|
%
|
|
|
7.5
|
%
|
Our total market share declined in 2007 due primarily to our
decision to exit the structured bulk market during the second
quarter. In addition, our flow market share declined in 2007
primarily due to the termination of two lender paid programs and
the termination of production from AHM in the third quarter of
2007.
According to estimates published by Fannie Mae, the overall
mortgage loan origination market for 2007 declined approximately
14%, and is estimated to decline another 21% in 2008. The
housing market continued to slow throughout 2007, as evidenced
by reduced sales of new and existing homes, near record high
levels of unsold inventories in many markets and a general
decline in home prices. Fannie Mae predicts total home sales to
decline by 15% in 2007, and another 13% in 2008. A significant
contributor to the decline in mortgage originations in the
second half of 2007 was the liquidity crisis that developed in
the secondary markets, which prevented many mortgage originators
from selling their loans in the secondary markets. This
development contributed to the failure of a number of large
national lenders and has negatively altered the outlook for
mortgage originations for the foreseeable future.
Many lenders have significantly reduced their emphasis on
simultaneous seconds or piggyback mortgage products,
which has created an opportunity for increased penetration of
mortgage insurance in loan originations. However, these
piggyback mortgage products have been replaced by products with
greater than 95% LTV, which contains a higher amount of risk.
These products present a higher level of risk as home values
have declined, especially in the soft market areas where home
values have declined at a more rapid pace. Evidence exists that
important positive changes in the market are emerging, including
the development of a more stringent and pragmatic underwriting
environment.
In addition, we have further tightened our underwriting
guidelines to help limit our exposure to high LTV loans,
especially in the distressed markets that have experienced the
greatest decline in home prices. We have limited the
40
amount of reduced documentation loans that we are willing to
underwrite. We are also reducing our dependence on certain
significant customers and are expanding existing relationships
with customers that we believe share our focus on quality. Our
enhanced quality standards will cause us to forgo some volume
opportunities.
As part of our overall risk management, we monitor various risk
characteristics in both our Primary and Modified Pool NIW. The
following three tables detail certain risk
characteristics credit quality, loan type and
LTV of our Primary NIW during the respective periods.
One of the risk characteristics that we pay particular attention
to is credit quality. We have defined Alt-A as individual loans
having FICO scores greater than 619 and that have been
underwritten with reduced or no documentation. A-Minus is
defined as loans having FICO scores greater than 574, but less
than 620. We have defined sub prime loans as those with credit
scores less than 575. The following table summarizes the credit
quality characteristics of our Primary NIW production during
each of the last three years:
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit Quality of Primary NIW
|
|
2007
|
|
2006
|
|
2005
|
|
Prime
|
|
|
67.5
|
%
|
|
|
68.4
|
%
|
|
|
76.1
|
%
|
Alt-A
|
|
|
29.2
|
%
|
|
|
29.2
|
%
|
|
|
18.3
|
%
|
A-Minus
|
|
|
2.9
|
%
|
|
|
2.1
|
%
|
|
|
4.3
|
%
|
Sub Prime
|
|
|
0.4
|
%
|
|
|
0.3
|
%
|
|
|
1.3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table summarizes the loan type characteristics of
our Primary NIW production for the past three years. The
increase in loans with fixed rates in 2007 reflects the
conversion of ARM products to more predictable fixed-rate loan
products. Most of the potentially negative amortization loan
types were the result of production in the first two quarters of
2007. Production from this type of product had declined to less
than 3% by the fourth quarter of 2007.
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan Type of Primary NIW
|
|
2007
|
|
2006
|
|
2005
|
|
Fixed
|
|
|
64.8
|
%
|
|
|
58.1
|
%
|
|
|
62.9
|
%
|
ARM (positive amortization)
|
|
|
19.4
|
%
|
|
|
14.3
|
%
|
|
|
25.0
|
%
|
ARM (potential negative amortization)
|
|
|
15.8
|
%
|
|
|
27.6
|
%
|
|
|
12.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Adjustable rate mortgages that include a feature allowing for a
potential negative amortization (PNAMs) declined
significantly in 2007. An inherent risk in a PNAM loan is the
scheduled milestone in which the borrower must begin making
amortizing payments. These payments can be substantially greater
than the minimum payments required before the milestone is met.
While most of these PNAMs have interest rates that will reset on
an annual basis, these loans do not have scheduled payment
increases until later years, so the borrower has not been
required to make an increased payment or to refinance, adding
uncertainty and potential risk to this product. We limited our
exposure to PNAMs by reducing the number of PNAMs for which we
provide insurance in the third quarter of 2007. We also
announced guideline changes to eliminate mortgage insurance
eligibility on PNAMs in the fourth quarter of 2007. PNAM loans
have experienced a higher delinquency rate than that of the
remaining portfolio.
Another risk characteristic that we consider in our underwriting
guidelines is the LTV of the loan. The following table
summarizes the percentage of our Primary production by LTV for
2007, 2006 and 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan to Value of Primary NIW
|
|
2007
|
|
2006
|
|
2005
|
|
Greater than 95%
|
|
|
32.6
|
%
|
|
|
15.5
|
%
|
|
|
12.4
|
%
|
90.01% to 95.00%
|
|
|
23.8
|
%
|
|
|
23.9
|
%
|
|
|
35.5
|
%
|
90.00% and below
|
|
|
43.6
|
%
|
|
|
60.6
|
%
|
|
|
52.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The above table indicates a significant increase in the Primary
production of NIW on loans with LTV greater than 95%. These
loans are coming from both the flow and bulk channels. We
believe many of the greater than 95% loans are
41
the result of lenders turning away from piggyback or
simultaneous second mortgages in favor of a loan product that
has a higher LTV ratio. The majority of Primary bulk
transactions that were included in 2007 NIW consisted of loans
that were greater than 95% LTV, which impacted the overall
Primary stratifications by LTV as shown above.
Almost all of the Modified Pool NIW over the last three years
has been in the Alt-A credit quality classification. The risk
associated with our Modified Pool NIW certificates differs from
Primary NIW in that Modified Pool structures in which we
participate generally include either loans that have Primary
coverage by other insurers in front of our risk or loans that
are originally written with an LTV lower than 80%, some of which
may have a simultaneous second mortgage precipitating the lower
LTV. The 2006 and 2007 structured bulk transactions that are
classified as Modified Pool, while similar in many risk
characteristics when compared to earlier years, have exhibited
an earlier and greater default pattern in the early stages of
development.
Insurance
and Risk in Force
The following table provides detail on our direct insurance in
force at December 31, 2007, 2006, and 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in millions)
|
|
Primary insurance:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Flow primary insurance
|
|
$
|
41,840
|
|
|
$
|
32,779
|
|
|
$
|
29,364
|
|
|
|
27.6
|
%
|
|
|
11.6
|
%
|
Structured bulk insurance
|
|
|
4,525
|
|
|
|
1,330
|
|
|
|
428
|
|
|
|
240.2
|
|
|
|
210.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Primary insurance
|
|
|
46,365
|
|
|
|
34,109
|
|
|
|
29,792
|
|
|
|
35.9
|
|
|
|
14.5
|
|
Modified pool insurance
|
|
|
21,863
|
|
|
|
22,719
|
|
|
|
14,615
|
|
|
|
(3.8
|
)
|
|
|
55.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total insurance
|
|
$
|
68,228
|
|
|
$
|
56,828
|
|
|
$
|
44,407
|
|
|
|
20.1
|
%
|
|
|
28.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our Primary insurance in force grew in 2007 and in 2006 as a
result of significant production during those years and improved
persistency rates. Primary insurance annual persistency improved
to 81.4% at December 31, 2007 compared to 76.6% at
December 31, 2006 and 70.0% at December 31, 2005. We
anticipate that persistency rates will be maintained near
current levels for 2008 based upon the slowdown of the existing
housing and mortgage markets. However, persistency could be
adversely affected if interest rates decline significantly and
the housing and mortgage markets begin to improve. Furthermore,
if persistency were to decline, the decline may be concentrated
in areas experiencing economic expansion and home price
appreciation but may not decrease or may not decrease to the
same degree in areas experiencing economic contraction and
declining home prices. As a result, our remaining insurance in
force would be more heavily concentrated in higher risk areas,
areas experiencing economic contraction and declining home
prices.
The following tables provide information on selected risk
characteristics of our business based on risk in force at
December 31, 2007, 2006 and 2005. Risk in force is the
total amount of coverage for which we are at risk under our
certificates of insurance. The following is a list of what we
believe are important indicators of increased risk that are
present in our risk in force as of December 31, 2007:
|
|
|
|
|
A decline in the percentage of business defined as prime credit
quality;
|
|
|
|
An increase in the percentage of Alt-A business;
|
|
|
|
An increase in Primary LTV greater than 95%;
|
|
|
|
An increase in PNAM loan types;
|
|
|
|
An increase in condominium property types;
|
|
|
|
A decline in Primary residence occupancy status;
|
|
|
|
A growing percentage of loans in excess of $250,000;
|
|
|
|
A greater concentration of risk in distressed market
states; and
|
|
|
|
The presence of multiple risk factors on a single insured loan.
|
42
Risk in
Force(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary
|
|
|
Modified Pool
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in millions)
|
|
|
Direct Risk in Force
|
|
$
|
12,136
|
|
|
$
|
8,652
|
|
|
$
|
7,471
|
|
|
$
|
913
|
|
|
$
|
890
|
|
|
$
|
616
|
|
Net Risk In Force
|
|
|
11,166
|
|
|
|
7,824
|
|
|
|
6,767
|
|
|
|
801
|
|
|
|
789
|
|
|
|
545
|
|
Credit Quality:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Prime
|
|
|
74.4
|
%
|
|
|
80.2
|
%
|
|
|
84.2
|
%
|
|
|
27.9
|
%
|
|
|
30.5
|
%
|
|
|
32.8
|
%
|
Alt-A
|
|
|
21.9
|
|
|
|
15.7
|
|
|
|
10.8
|
|
|
|
71.3
|
|
|
|
68.5
|
|
|
|
65.9
|
|
A-Minus
|
|
|
3.2
|
|
|
|
3.5
|
|
|
|
4.2
|
|
|
|
0.7
|
|
|
|
0.8
|
|
|
|
1.1
|
|
Sub Prime
|
|
|
0.5
|
|
|
|
0.6
|
|
|
|
0.8
|
|
|
|
0.1
|
|
|
|
0.2
|
|
|
|
0.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LTV:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Greater than 95%
|
|
|
25.7
|
%
|
|
|
16.6
|
%
|
|
|
14.3
|
%
|
|
|
|
%
|
|
|
|
%
|
|
|
|
%
|
90.01% to 95.00%
|
|
|
32.5
|
|
|
|
37.1
|
|
|
|
41.9
|
|
|
|
0.3
|
|
|
|
0.3
|
|
|
|
0.5
|
|
90.00% and below
|
|
|
41.8
|
|
|
|
46.3
|
|
|
|
43.8
|
|
|
|
99.7
|
|
|
|
99.7
|
|
|
|
99.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan Type:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed
|
|
|
64.7
|
%
|
|
|
68.9
|
%
|
|
|
73.3
|
%
|
|
|
26.2
|
%
|
|
|
30.8
|
%
|
|
|
39.9
|
%
|
Interest Only
|
|
|
10.7
|
|
|
|
5.9
|
|
|
|
3.0
|
|
|
|
23.3
|
|
|
|
24.5
|
|
|
|
26.7
|
|
ARM (amortizing) fixed period 5 years or greater
|
|
|
9.4
|
|
|
|
9.4
|
|
|
|
11.9
|
|
|
|
31.4
|
|
|
|
27.2
|
|
|
|
25.3
|
|
ARM (amortizing) fixed period less than 5 years
|
|
|
2.4
|
|
|
|
4.5
|
|
|
|
7.8
|
|
|
|
6.1
|
|
|
|
4.5
|
|
|
|
8.1
|
|
ARM (potential negative amortization)
|
|
|
12.8
|
|
|
|
11.3
|
|
|
|
4.0
|
|
|
|
13.0
|
|
|
|
13.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Property Type:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Condominium
|
|
|
10.4
|
%
|
|
|
9.6
|
%
|
|
|
7.8
|
%
|
|
|
9.4
|
%
|
|
|
8.0
|
%
|
|
|
5.9
|
%
|
Other (principally single-family detached)
|
|
|
89.6
|
|
|
|
90.4
|
|
|
|
92.2
|
|
|
|
90.6
|
|
|
|
92.0
|
|
|
|
94.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Occupancy Status:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary residence
|
|
|
87.7
|
%
|
|
|
89.4
|
%
|
|
|
91.9
|
%
|
|
|
73.5
|
%
|
|
|
73.7
|
%
|
|
|
74.2
|
%
|
Secondary home
|
|
|
7.9
|
|
|
|
7.4
|
|
|
|
4.6
|
|
|
|
6.2
|
|
|
|
6.2
|
|
|
|
5.7
|
|
Non-owner occupied
|
|
|
4.4
|
|
|
|
3.2
|
|
|
|
3.5
|
|
|
|
20.3
|
|
|
|
20.1
|
|
|
|
20.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mortgage Amount:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$0 $50,000
|
|
|
0.9
|
%
|
|
|
1.2
|
%
|
|
|
1.5
|
%
|
|
|
0.5
|
%
|
|
|
0.6
|
%
|
|
|
0.8
|
%
|
$51,000 $100,000
|
|
|
9.7
|
|
|
|
13.2
|
|
|
|
16.1
|
|
|
|
5.4
|
|
|
|
6.0
|
|
|
|
8.1
|
|
$100,001 -$250,000
|
|
|
52.0
|
|
|
|
57.1
|
|
|
|
63.0
|
|
|
|
45.6
|
|
|
|
47.4
|
|
|
|
54.9
|
|
$250,001 -$500,000
|
|
|
31.5
|
|
|
|
24.2
|
|
|
|
18.3
|
|
|
|
42.1
|
|
|
|
39.9
|
|
|
|
35.6
|
|
Over $500,000
|
|
|
5.9
|
|
|
|
4.3
|
|
|
|
1.1
|
|
|
|
6.4
|
|
|
|
6.1
|
|
|
|
0.6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Market Status:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Distressed market states (AZ, CA, FL, NV)
|
|
|
27.0
|
%
|
|
|
16.3
|
%
|
|
|
11.6
|
%
|
|
|
47.9
|
%
|
|
|
46.5
|
%
|
|
|
27.3
|
%
|
Non-distressed market states
|
|
|
73.0
|
|
|
|
83.7
|
|
|
|
88.4
|
|
|
|
52.1
|
|
|
|
53.5
|
|
|
|
72.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Percentages represent distribution of direct risk in force on a
per policy basis and do not account for applicable stop-loss
amounts or deductibles on Modified Pool. |
43
The above table reflects that certain indicators of increased
risk continue to grow as a percentage of our risk in force,
consistent with a general shift to these products and risk
characteristics in the overall mortgage industry. While we have
limited our exposure to certain sectors in the marketplace such
as sub prime and second mortgages, our portfolio contains an
increased exposure to Alt-A loans as well as PNAMs. As discussed
earlier in this report, PNAMs contain an additional future risk
when scheduled positive amortization is required in later years.
As a group, the Alt-A loans and the PNAM loans have performed
worse than the remaining prime fixed rate loans through
December 31, 2007. We also have experienced a significant
increase in the size of the mortgages for which we are providing
coverage. As noted above, loans greater than $250,000 make up an
increasing percentage of our risk in force. Loans greater than
$250,000 totaled 37.4% of total Primary risk in force at
December 31, 2007 compared to 28.5% at December 31,
2006 and 19.4% at December 31, 2005. Loans greater than
$250,000 also totaled 48.5% of total Modified Pool risk in force
at December 31, 2007 compared to 46.0% at December 31,
2006 and 36.2% at December 31, 2005. In addition, the
increase in loans with LTVs greater than 95%, which historically
produced higher default rates, has increased our risk.
Due to the recent significant growth in our production and the
amount of refinancing that took place in 2002 through 2005, our
insurance portfolio is relatively unseasoned, having a weighted
average life of 2.5 years at December 31, 2007
compared to 2.3 years at December 31, 2006 and
2.4 years at December 31, 2005. The following table
shows direct risk in force as of December 31, 2007, 2006,
and 2005 by year of loan origination.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
Primary
|
|
|
Modified Pool *
|
|
|
Primary
|
|
|
Modified Pool *
|
|
|
Primary
|
|
|
Modified Pool *
|
|
|
|
Direct
|
|
|
|
|
|
Direct
|
|
|
|
|
|
Direct
|
|
|
|
|
|
Direct
|
|
|
|
|
|
Direct
|
|
|
|
|
|
Direct
|
|
|
|
|
|
|
Risk in
|
|
|
|
|
|
Risk in
|
|
|
|
|
|
Risk in
|
|
|
|
|
|
Risk in
|
|
|
|
|
|
Risk in
|
|
|
|
|
|
Risk in
|
|
|
|
|
|
|
Force
|
|
|
Percent
|
|
|
Force
|
|
|
Percent
|
|
|
Force
|
|
|
Percent
|
|
|
Force
|
|
|
Percent
|
|
|
Force
|
|
|
Percent
|
|
|
Force
|
|
|
Percent
|
|
|
|
(Dollars in millions)
|
|
|
2002 and before
|
|
$
|
667.5
|
|
|
|
5.5
|
%
|
|
$
|
41.7
|
|
|
|
5.2
|
%
|
|
$
|
856.5
|
|
|
|
9.9
|
%
|
|
$
|
53.6
|
|
|
|
6.8
|
%
|
|
$
|
1,158.0
|
|
|
|
15.5
|
%
|
|
$
|
76.9
|
|
|
|
14.1
|
%
|
2003
|
|
|
1,165.1
|
|
|
|
9.6
|
|
|
|
112.1
|
|
|
|
14.0
|
|
|
|
1,479.5
|
|
|
|
17.1
|
|
|
|
121.5
|
|
|
|
15.4
|
|
|
|
1,987.3
|
|
|
|
26.6
|
|
|
|
123.2
|
|
|
|
22.6
|
|
2004
|
|
|
1,116.5
|
|
|
|
9.2
|
|
|
|
130.6
|
|
|
|
16.3
|
|
|
|
1,453.5
|
|
|
|
16.8
|
|
|
|
131.0
|
|
|
|
16.6
|
|
|
|
1,949.9
|
|
|
|
26.1
|
|
|
|
131.3
|
|
|
|
24.1
|
|
2005
|
|
|
1,638.4
|
|
|
|
13.5
|
|
|
|
239.5
|
|
|
|
29.9
|
|
|
|
2,024.6
|
|
|
|
23.4
|
|
|
|
239.9
|
|
|
|
30.4
|
|
|
|
2,375.8
|
|
|
|
31.8
|
|
|
|
213.6
|
|
|
|
39.2
|
|
2006
|
|
|
2,718.5
|
|
|
|
22.4
|
|
|
|
247.5
|
|
|
|
30.9
|
|
|
|
2,837.9
|
|
|
|
32.8
|
|
|
|
243.0
|
|
|
|
30.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
4,830.1
|
|
|
|
39.8
|
|
|
|
29.6
|
|
|
|
3.7
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
12,136.0
|
|
|
|
100.0
|
%
|
|
$
|
801.0
|
|
|
|
100.0
|
%
|
|
$
|
8,652.0
|
|
|
|
100.0
|
%
|
|
$
|
789.0
|
|
|
|
100.0
|
%
|
|
$
|
7,471.0
|
|
|
|
100.0
|
%
|
|
$
|
545.0
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* |
|
For Modified Pool, the Direct Risk in Force is calculated
utilizing the particular stop-loss limits and deductibles within
each specific structure. |
As noted above, approximately 62% of the Primary and 35% of the
Modified Pool risk in force at December 31, 2007 has been
generated in 2006 and 2007. This is the result of increased
production in the number of certificates and an increase in the
size of the loans during these periods. The 2006 and 2007
vintage years have so far exhibited higher default rates at this
stage of development than we have historically experienced from
preceding vintage years. For additional information regarding
these vintage years, see Losses and Expenses, below.
We also offer mortgage insurance structures designed to allow
lenders to share in the risks of such insurance. One such
structure is our captive reinsurance program under which
reinsurance companies that are affiliates of the lenders assume
a portion of the risk associated with the lenders insured
book of business in exchange for a percentage of the premium.
Under the captive reinsurance program, the risk held by the
captive is supported by assets held in trust with Triad as the
beneficiary. At December 31, 2007, we had $202 million
in captive reinsurance trust balances supporting the risk
transferred to captives, helping to limit our loss exposure.
Approximately 59% of our Primary flow insurance in force at
December 31, 2007 was subject to these captive arrangements
compared to approximately 61% at December 31, 2006 and 59%
at December 31, 2005. The decline of the Primary flow
insurance in force that was subject to captive reinsurance
arrangements at December 31, 2007 compared to
December 31, 2006 resulted from two of our larger lender
customers moving to a lender-paid product that does not qualify
for captive participation.
During 2007, 19.7% of our NIW subject to captive reinsurance had
a premium cede rate greater than 25%. In February 2008, Freddie
Mac and Fannie Mae each separately announced that it was
temporarily changing its private
44
mortgage insurer eligibility requirements so that approved
mortgage insurers may not cede new risk if the premium ceded to
captive reinsurers is greater than 25%. This temporary change is
effective on or after June 1, 2008. This change may affect
the percentage of flow NIW in 2008 subject to captive
reinsurance and may affect the total amount of flow NIW in 2008
if lenders choose other forms of credit enhancement over
mortgage insurance. We remain committed to structuring captive
reinsurance arrangements on a
lender-by-lender
basis depending on a number of considerations, including
competition, market share and lender quality.
Revenues
A summary of the individual components of our revenue for the
past three years follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands)
|
|
Direct premium written
|
|
$
|
339,007
|
|
|
$
|
256,706
|
|
|
$
|
207,260
|
|
|
|
32.1
|
%
|
|
|
23.9
|
%
|
Ceded premium written
|
|
|
(55,784
|
)
|
|
|
(46,140
|
)
|
|
|
(40,644
|
)
|
|
|
20.9
|
|
|
|
13.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net premium written
|
|
|
283,223
|
|
|
|
210,566
|
|
|
|
166,616
|
|
|
|
34.5
|
|
|
|
26.4
|
|
Change in unearned premiums
|
|
|
(4,323
|
)
|
|
|
290
|
|
|
|
2,381
|
|
|
|
n/a
|
|
|
|
(87.8
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums
|
|
$
|
278,900
|
|
|
$
|
210,856
|
|
|
$
|
168,997
|
|
|
|
32.3
|
%
|
|
|
24.8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income
|
|
$
|
32,936
|
|
|
$
|
26,696
|
|
|
$
|
22,998
|
|
|
|
23.4
|
%
|
|
|
16.1
|
%
|
Total revenues
|
|
$
|
308,795
|
|
|
$
|
239,144
|
|
|
$
|
192,046
|
|
|
|
29.1
|
%
|
|
|
24.5
|
%
|
We experienced strong growth in earned premiums in both 2007 and
2006 due to growth in direct premiums written in both years.
Direct premium written is comprised of premiums written for both
Primary and Modified Pool business. Our direct premium written
for 2007 and 2006 grew substantially as a result of increases in
both insurance in force and the average basis points, which is
attributable to an increase in risk characteristics in the
portfolio. Primary insurance in force at December 31, 2007
increased 36% compared to December 31, 2006 while Modified
Pool insurance in force decreased 4% for the same period.
Overall annual persistency was 81.9% at December 31, 2007
compared to 76.8% at December 31, 2006. Increased
persistency has a positive effect on insurance in force.
Ceded premium written is comprised of premiums written under
excess of loss reinsurance treaties with captive as well as
non-captive reinsurance companies. The growth in ceded premium
written in 2007 and 2006 was not as large as the increase in
direct premium written because a larger percentage of direct
premiums written were not subject to captive reinsurance
arrangements.
The difference between net written premiums and earned premiums
is the change in the unearned premium reserve, which is
established primarily on premiums received on annual and single
payment plans. Our unearned premium liability increased
$4.3 million during 2007 compared to declines of
$0.3 million and $2.4 million, respectively, in 2006
and 2005 primarily due to the introduction of a single premium
product in 2007.
Net investment income grew in 2007 and in 2006 primarily due to
the growth in average invested assets in both years, partially
offset by declines in portfolio yields. In 2007, the increase in
investment income was also enhanced by the investment of the
entire $80 million that we drew down from our credit
facility during the third quarter of 2007. Average invested
assets at cost or amortized cost grew by 21.4% in 2007 and 13.4%
in 2006 as a result of the investment of positive cash flows
from operations. Our investment portfolio tax-equivalent yield
was 6.45%, 6.71%, and 6.77% at December 31, 2007, 2006, and
2005, respectively. We anticipate a continuing decline in the
overall portfolio tax-equivalent yield as current interest rates
remain below our average portfolio rate. For a further
discussion, see Investment Portfolio.
Net realized investment gains (losses), except for write-downs
on other-than-temporarily impaired securities, are the result of
our discretionary dispositions of investment securities in the
context of our overall portfolio management strategies and are
likely to vary significantly from period to period. We wrote
down other-than-temporarily impaired investments by
approximately $5.3 million in 2007 compared to
$0.4 million in 2006 and $0.2 million in 2005. See
Realized Losses and Impairments below.
45
Losses
and Expenses
A summary of the significant individual components of losses and
expenses and the year-to-year percentage changes follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands)
|
|
Net losses and loss adjustment expenses
|
|
$
|
372,939
|
|
|
$
|
94,227
|
|
|
$
|
66,855
|
|
|
|
295.8
|
%
|
|
|
40.9
|
%
|
Amortization of deferred policy acquisition costs
|
|
$
|
18,497
|
|
|
$
|
16,268
|
|
|
$
|
14,902
|
|
|
|
13.7
|
%
|
|
|
9.2
|
%
|
Other operating expenses (net of acquisition costs deferred)
|
|
$
|
43,628
|
|
|
$
|
35,556
|
|
|
$
|
29,610
|
|
|
|
22.7
|
%
|
|
|
20.1
|
%
|
Loss ratio
|
|
|
133.7
|
%
|
|
|
44.7
|
%
|
|
|
39.6
|
%
|
|
|
|
|
|
|
|
|
Expense ratio
|
|
|
21.9
|
%
|
|
|
24.6
|
%
|
|
|
26.7
|
%
|
|
|
|
|
|
|
|
|
Combined ratio
|
|
|
155.6
|
%
|
|
|
69.3
|
%
|
|
|
66.3
|
%
|
|
|
|
|
|
|
|
|
Net losses and LAE are comprised of both paid losses and the
increase in the loss and LAE reserve during the period. Net
losses and LAE for 2007 increased over both 2006 and 2005
primarily due to significant increases in the reserve. The
reserve increase reflects both an increase in the number of
loans in default and an increase in the average risk per loan on
the loans that were in default at December 31, 2007. We
increased the frequency and severity factors utilized in the
calculation of the reserve during 2007, which also impacted the
size of the reserve increase. During the third and fourth
quarters of 2007, we identified four specific states
(California, Florida, Arizona and Nevada) that were experiencing
declining home prices and increasing default rates at a faster
pace than other states. We collectively refer to these four
states as distressed markets. These distressed markets
contributed $156 million, or 57%, of our total reserve
increase in 2007.
We experienced a significant increase in the amount of paid
claims during 2007 as both the number of claims and the average
severity of the paid claims increased. The increases in the
amortization of deferred policy acquisition costs in 2007 and
2006 are consistent with the growth in that asset balance. Other
operating expenses increased in 2007 over 2006, reflecting the
growth of our insurance in force as well as several key
initiatives that have taken place in 2007. The discussion below
provides more detail on both losses and expenses.
The following table provides details on both the amount and the
number of paid claims of both Primary and Modified Pool
insurance for the years ended December 31, 2007, 2006, and
2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands)
|
|
Paid claims :
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary insurance
|
|
$
|
83,204
|
|
|
$
|
54,923
|
|
|
$
|
44,369
|
|
|
|
51.5
|
%
|
|
|
23.8
|
%
|
Modified Pool insurance
|
|
|
17,408
|
|
|
|
4,104
|
|
|
|
4,457
|
|
|
|
324.2
|
|
|
|
(7.9
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
100,612
|
|
|
$
|
59,027
|
|
|
$
|
48,826
|
|
|
|
70.5
|
%
|
|
|
20.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of claims paid:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary insurance
|
|
|
2,341
|
|
|
|
2,073
|
|
|
|
1,671
|
|
|
|
12.9
|
%
|
|
|
24.1
|
%
|
Modified Pool insurance
|
|
|
398
|
|
|
|
204
|
|
|
|
217
|
|
|
|
95.1
|
|
|
|
(6.0
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
2,739
|
|
|
|
2,277
|
|
|
|
1,888
|
|
|
|
20.3
|
%
|
|
|
20.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The amount of paid claims increased 70.5% in 2007 compared to
2006 while the number of claims paid increased 20.3% over the
same time period. The difference in the growth rates is due to a
42% increase in the average severity on claims paid from $25,900
in 2006 to $36,700 in 2007. The increase in the average severity
is reflective of: the development of the more recent vintage
years, specifically the 2005 and 2006 vintage years, which have
significantly higher average loan sizes; increase in paid claims
relating to loans originated in the distressed markets, which
have significantly higher average loan sizes; and a reduced
ability to mitigate claims. For 2006, both
46
the amount of paid losses and the actual number of paid losses
increased by approximately 21%, which resulted in average
severity remaining constant for 2006 as compared to 2005.
The following table shows the average loan size and risk in
force per policy by vintage year. As each of the more recent
vintage years season and enter the period of peak defaults, the
amount of risk per default and, ultimately, the amount of paid
claims as well as the average paid claim is expected to increase.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary
|
|
|
|
Modified Pool
|
|
|
Average
|
|
Average
|
|
Average
|
|
Average
|
Vintage Year
|
|
Loan Size
|
|
Insured Risk
|
|
Loan Size
|
|
Insured Risk
|
|
2002 and Prior
|
|
$
|
106,003
|
|
|
$
|
26,809
|
|
|
|
|
|
|
$
|
80,387
|
|
|
$
|
26,105
|
|
|
|
|
|
2003
|
|
|
119,668
|
|
|
|
28,709
|
|
|
|
|
|
|
|
145,348
|
|
|
|
42,856
|
|
|
|
|
|
2004
|
|
|
132,591
|
|
|
|
35,042
|
|
|
|
|
|
|
|
150,444
|
|
|
|
44,610
|
|
|
|
|
|
2005
|
|
|
156,975
|
|
|
|
40,821
|
|
|
|
|
|
|
|
178,946
|
|
|
|
58,198
|
|
|
|
|
|
2006
|
|
|
207,324
|
|
|
|
53,534
|
|
|
|
|
|
|
|
259,678
|
|
|
|
69,286
|
|
|
|
|
|
2007
|
|
|
208,429
|
|
|
|
56,509
|
|
|
|
|
|
|
|
270,932
|
|
|
|
79,163
|
|
|
|
|
|
Overall Average
|
|
$
|
169,340
|
|
|
$
|
44,324
|
|
|
|
|
|
|
$
|
208,004
|
|
|
$
|
60,875
|
|
|
|
|
|
The table below shows the average severity of paid claims during
the past three years. Average severity on paid claims was
relatively flat between 2006 and 2005, but increased
significantly in 2007, primarily due to growth in the average
amount of risk in force on paid claims.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands)
|
|
Average Severity:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Primary insurance
|
|
$
|
35,500
|
|
|
$
|
26,500
|
|
|
$
|
26,600
|
|
|
|
34.0
|
%
|
|
|
(0.4
|
)%
|
Modified Pool insurance
|
|
$
|
43,700
|
|
|
$
|
20,100
|
|
|
$
|
20,500
|
|
|
|
117.4
|
%
|
|
|
(2.0
|
)%
|
Total
|
|
$
|
36,700
|
|
|
$
|
25,900
|
|
|
$
|
25,900
|
|
|
|
41.7
|
%
|
|
|
|
%
|
Beginning in late 2006, we experienced a significant reduction
in our ability to mitigate claims through our traditional
processes, which we believe was related to weakness in the
housing market. In some cases, properties for which loans have
defaulted are sold during the foreclosure process, which
generally reduces our loss. When the property does not sell
prior to foreclosure, or sells after foreclosure but prior to
when the claim is paid, we often pay the full amount of our
coverage, which we call a full option settlement. Full option
settlements as a percentage of our paid claims have generally
increased since the fourth quarter of 2006. During the second
half of 2007, the rapid decline in home prices in certain
markets coupled with the overall uncertainty in the housing
markets on a national basis had a significant negative impact on
our ability to mitigate claims and negatively impacted the
average severity.
As shown under Insurance and Risk in Force, we are
insuring a larger percentage of mortgages in excess of $250,000.
Claim payments on larger mortgages are greater even if coverage
percentages remain constant. Claim payments on these larger
mortgages are reflected by the increase in average severity
during 2007. We expect severity will continue to trend upward as
the average loan amounts in our portfolio continue to rise.
Continued deterioration in the housing market could further
reduce our loss mitigation opportunities and also contribute to
increased severity in 2008.
47
The table below provides the cumulative paid loss ratios by
certificate year (calculated as direct losses paid divided by
direct premiums received, in each case for a particular policy
year) that have developed through December 31, 2007, 2006,
and 2005. The data below excludes the effects of reinsurance.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cumulative Paid Loss Ratios as of December 31
|
Certificate Year
|
|
2007
|
|
2006
|
|
2005
|
|
1996
|
|
|
14.5
|
%
|
|
|
14.5
|
%
|
|
|
13.9
|
%
|
1997
|
|
|
10.2
|
|
|
|
10.0
|
|
|
|
9.9
|
|
1998
|
|
|
6.8
|
|
|
|
6.5
|
|
|
|
6.4
|
|
1999
|
|
|
9.9
|
|
|
|
9.7
|
|
|
|
9.0
|
|
2000
|
|
|
35.4
|
|
|
|
34.7
|
|
|
|
32.0
|
|
2001
|
|
|
31.0
|
|
|
|
29.0
|
|
|
|
23.7
|
|
2002
|
|
|
31.9
|
|
|
|
29.2
|
|
|
|
22.4
|
|
2003
|
|
|
16.7
|
|
|
|
13.0
|
|
|
|
7.8
|
|
2004
|
|
|
17.5
|
|
|
|
10.2
|
|
|
|
2.0
|
|
2005
|
|
|
21.6
|
|
|
|
4.2
|
|
|
|
|
|
2006
|
|
|
11.7
|
|
|
|
0.1
|
|
|
|
|
|
2007
|
|
|
0.1
|
|
|
|
|
|
|
|
|
|
The table above reflects relatively higher cumulative ratios of
losses paid to premium received for the 2000 through 2002 policy
years at this stage of development. This is due, in part, to a
large portion of this business being refinanced in subsequent
years and the resulting lower aggregate level of premiums
received for these policy years. As discussed in
Business Claims, we anticipate making
higher claim payments in the second through the fifth years
after the loan is originated.
Net losses and LAE also include the change in reserves for
losses and LAE. The following table provides further information
about our loss reserves at December 31, 2007, 2006, and
2005 and the related changes for the years then ended:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands)
|
|
Primary insurance:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserves for reported defaults
|
|
$
|
251,316
|
|
|
$
|
65,417
|
|
|
$
|
44,198
|
|
|
|
284.2
|
%
|
|
|
48.0
|
%
|
Reserves for defaults incurred but not reported
|
|
|
40,691
|
|
|
|
5,676
|
|
|
|
4,536
|
|
|
|
616.9
|
|
|
|
25.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Primary insurance
|
|
|
292,007
|
|
|
|
71,093
|
|
|
|
48,734
|
|
|
|
310.7
|
%
|
|
|
45.9
|
%
|
Modified Pool insurance:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserves for reported defaults
|
|
|
54,876
|
|
|
|
11,477
|
|
|
|
1,836
|
|
|
|
378.1
|
%
|
|
|
525.1
|
%
|
Reserves for defaults incurred but not reported
|
|
|
8,340
|
|
|
|
773
|
|
|
|
403
|
|
|
|
978.9
|
|
|
|
91.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Modified Pool insurance
|
|
|
63,216
|
|
|
|
12,250
|
|
|
|
2,239
|
|
|
|
416.0
|
%
|
|
|
447.1
|
%
|
Reserve for loss adjustment expenses
|
|
|
4,716
|
|
|
|
1,009
|
|
|
|
101
|
|
|
|
367.4
|
%
|
|
|
899.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total reserves for losses and loss adjustment expenses
|
|
$
|
359,939
|
|
|
$
|
84,352
|
|
|
$
|
51,074
|
|
|
|
326.7
|
%
|
|
|
65.2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table shows the change in reserves for losses and
LAE:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
% Change
|
|
% Change
|
|
|
2007
|
|
2006
|
|
2005
|
|
2007 vs. 2006
|
|
2006 vs. 2005
|
|
|
(Dollars in thousands)
|
|
Net increase in reserve for losses and loss adjustment expenses
|
|
$
|
275,587
|
|
|
$
|
33,278
|
|
|
$
|
17,032
|
|
|
|
728.1
|
%
|
|
|
95.4
|
%
|
48
Reacting to the rapidly changing housing markets and the
shifting mix in the composition of our defaults, such as the
changes in geographic location, size and policy year, we
substantially increased reserves in 2007. The increase in
reserves reflects a growing number of loans in default and an
increase in the average risk in default, as well as increases in
the frequency and severity factors utilized in our determination
of the reserves. Our reserving model incorporates
managements judgments and assumptions regarding the impact
of the current housing and economic environment on the estimate
of the ultimate claims we will pay on loans currently in
default. In addition, we noted a continued decline in our cure
rates on reported defaults during the fourth quarter of 2007.
Accordingly, we increased the frequency factor utilized in our
model by approximately 44% in 2007 to reflect these most recent
changes. However, future economic conditions surrounding the
housing or mortgage markets could significantly impact the
ultimate amount of claims paid.
Average loan size and vintage year of the loans entering the
default pool in 2007 are notably different compared to one year
earlier. Although defaults increased across the board
geographically, defaults in the distressed market
states California, Florida, Arizona and
Nevada increased 380.2% in 2007, compared to a 63.9%
increase in defaults for the remaining states during 2007.
Additionally, the higher average loan balance in these
distressed market states has resulted in significantly higher
reserve per default, all else being equal, compared to the rest
of the portfolio. As of December 31, 2007, the reserve per
default for distressed market states was $33,769, compared to
the reserve per default of $18,680 for the remaining states. As
of December 31, 2006, the reserve per default was $14,977
and $11,128, respectively, for distressed market states and all
remaining states.
The following table indicates the growth in both the risk in
default in these four distressed market states and reserves
attributable to these states at December 31, 2007, 2006 and
2005. The reserves related to the distressed market states were
46.5% of total reserves at December 31, 2007, compared to
13.6% at December 31, 2006 and 6.7% at December 31,
2005 despite the fact that risk in force in distressed market
states as a percentage of the total risk in force has increased
only moderately over those same periods. At December 31,
2007, all of these states except Arizona had default rates in
excess of the total portfolio rate of 4.44%. As recently as
June 30, 2007, none of these four states had default rates
that were in excess of the total of 2.65% at June 30, 2007,
indicating the rapid increase in default rates in these states
during the third and fourth quarters of 2007. Additionally, at
December 31, 2007, these four states had average loan
balances of $249,000 compared to $160,000 for the remainder of
the portfolio, which increases the potential negative impact
that further defaults in these distressed markets may have on
future growth in risk in default and reserves.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Risk In Force:
|
|
|
|
|
|
|
|
|
|
|
|
|
California
|
|
$
|
1,962,700
|
|
|
$
|
1,469,876
|
|
|
$
|
769,469
|
|
Florida
|
|
|
1,688,314
|
|
|
|
1,300,897
|
|
|
|
869,799
|
|
Arizona
|
|
|
764,685
|
|
|
|
577,950
|
|
|
|
439,476
|
|
Nevada
|
|
|
408,752
|
|
|
|
299,130
|
|
|
|
200,154
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Distressed Market States
|
|
$
|
4,824,451
|
|
|
$
|
3,647,853
|
|
|
$
|
2,278,898
|
|
Total Risk in Force
|
|
$
|
15,030,500
|
|
|
$
|
11,890,841
|
|
|
$
|
9,556,343
|
|
% of Distressed Market States
|
|
|
32.1
|
%
|
|
|
30.7
|
%
|
|
|
23.8
|
%
|
Risk in Default:
|
|
|
|
|
|
|
|
|
|
|
|
|
California
|
|
$
|
130,321
|
|
|
$
|
17,975
|
|
|
$
|
4,620
|
|
Florida
|
|
|
149,841
|
|
|
|
17,097
|
|
|
|
7,256
|
|
Arizona
|
|
|
39,095
|
|
|
|
6,213
|
|
|
|
2,191
|
|
Nevada
|
|
|
27,411
|
|
|
|
5,573
|
|
|
|
1,308
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Distressed Market States
|
|
$
|
346,668
|
|
|
$
|
46,858
|
|
|
$
|
15,375
|
|
Total Risk in Default
|
|
$
|
732,087
|
|
|
$
|
258,422
|
|
|
$
|
202,675
|
|
% of Distressed Market States
|
|
|
47.4
|
%
|
|
|
18.1
|
%
|
|
|
7.6
|
%
|
Reserves:
|
|
|
|
|
|
|
|
|
|
|
|
|
California
|
|
$
|
62,516
|
|
|
$
|
4,379
|
|
|
$
|
915
|
|
Florida
|
|
|
73,055
|
|
|
|
4,218
|
|
|
|
1,743
|
|
Arizona
|
|
|
18,517
|
|
|
|
1,363
|
|
|
|
461
|
|
Nevada
|
|
|
13,334
|
|
|
|
1,509
|
|
|
|
317
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Distressed Market States
|
|
$
|
167,422
|
|
|
$
|
11,469
|
|
|
$
|
3,436
|
|
Total Reserves
|
|
$
|
359,939
|
|
|
$
|
84,352
|
|
|
$
|
51,074
|
|
% of Distressed Market States
|
|
|
46.5
|
%
|
|
|
13.6
|
%
|
|
|
6.7
|
%
|
49
Our default inventory has shifted and certificates originated
during 2006 and 2007 comprise 45% of our loans in default, but
60% of the risk in default at December 31, 2007. The
difference in percentages of loan default and risk in default
reflects the higher loan amounts and a changing mix of our
business. To illustrate the impact of the changes in the
frequency and severity factors utilized in the reserve model,
the following table details the amount of risk in default and
the reserve balance as a percentage of risk at December 31,
2007 and 2006.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
December 31,
|
|
December 31,
|
|
|
2007
|
|
2006
|
|
2005
|
|
|
(Dollars in thousands)
|
|
Risk on loans in default excluding loans subject to deductibles
|
|
$
|
732,087
|
|
|
$
|
258,422
|
|
|
$
|
220,030
|
|
Reserves as a percentage of risk in default
|
|
|
49.2
|
%
|
|
|
32.6
|
%
|
|
|
23.2
|
%
|
The number of loans in default includes all reported
delinquencies that are in excess of two payments in arrears at
the reporting date and all reported delinquencies that were
previously in excess of two payments in arrears and have not
been brought current.
The following table shows default statistics as of
December 31, 2007, 2006 and 2005:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
December 31,
|
|
December 31,
|
|
|
2007
|
|
2006
|
|
2005
|
|
|
(Dollars in thousands)
|
|
Total business:
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of insured loans in force
|
|
|
378,907
|
|
|
|
338,086
|
|
|
|
302,488
|
|
With deductibles
|
|
|
59,592
|
|
|
|
61,483
|
|
|
|
49,260
|
|
Without deductibles
|
|
|
319,315
|
|
|
|
276,603
|
|
|
|
253,228
|
|
Number of loans in default
|
|
|
16,821
|
|
|
|
8,566
|
|
|
|
7,753
|
|
With deductibles
|
|
|
4,072
|
|
|
|
1,898
|
|
|
|
1,389
|
|
Without deductibles
|
|
|
12,749
|
|
|
|
6,668
|
|
|
|
6,364
|
|
Percentage of loans in default (default rate)
|
|
|
4.44
|
%
|
|
|
2.53
|
%
|
|
|
2.56
|
%
|
Percentage of loans in default excluding deductibles
|
|
|
3.99
|
%
|
|
|
2.41
|
%
|
|
|
2.51
|
%
|
Primary insurance:
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of insured loans in force
|
|
|
273,798
|
|
|
|
225,531
|
|
|
|
217,397
|
|
Number of loans in default
|
|
|
10,419
|
|
|
|
5,565
|
|
|
|
5,617
|
|
Percentage of loans in default
|
|
|
3.81
|
%
|
|
|
2.47
|
%
|
|
|
2.58
|
%
|
Modified Pool insurance:
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of insured loans in force
|
|
|
105,109
|
|
|
|
112,555
|
|
|
|
85,091
|
|
With deductibles
|
|
|
59,569
|
|
|
|
61,456
|
|
|
|
49,233
|
|
Without deductibles
|
|
|
45,540
|
|
|
|
51,099
|
|
|
|
35,858
|
|
Number of loans in default
|
|
|
6,402
|
|
|
|
3,001
|
|
|
|
2,136
|
|
With deductibles
|
|
|
4,072
|
|
|
|
1,897
|
|
|
|
1,389
|
|
Without deductibles
|
|
|
2,330
|
|
|
|
1,104
|
|
|
|
747
|
|
Percentage of loans in default
|
|
|
6.09
|
%
|
|
|
2.67
|
%
|
|
|
2.51
|
%
|
Percentage of loans in default excluding deductibles
|
|
|
5.12
|
%
|
|
|
2.16
|
%
|
|
|
2.08
|
%
|
Primary Alt-A business (included in above):
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of insured loans in force
|
|
|
35,980
|
|
|
|
22,385
|
|
|
|
16,378
|
|
Number of loans in default
|
|
|
3,102
|
|
|
|
814
|
|
|
|
590
|
|
Percentage of loans in default
|
|
|
8.62
|
%
|
|
|
3.64
|
%
|
|
|
3.60
|
%
|
We do not provide reserves on Modified Pool defaults with
deductibles until the incurred losses for that transaction reach
the deductible threshold. At December 31, 2007, three
structured bulk transactions with deductibles as part of the
structure had incurred losses that had exceeded these individual
deductible amounts.
50
The reserves recognized in the fourth quarter for these three
contracts added $5.5 million to reserves at
December 31, 2007. Based upon rapid growth in the reported
defaults during 2007 and the significant amount of early payment
defaults in some of our 2006 vintage year structured bulk
transactions, we believe that we will be providing additional
reserves on certain structured bulk transactions with
deductibles in 2008.
Given the growth of our insurance in force and the current state
of the mortgage and housing market, we anticipate that our
number of loans in default for both Primary and Modified Pool
insurance will continue to increase as the largest percentage of
our insurance in force reaches its peak claim paying period. We
experienced an increase in the number of defaults as of
December 31, 2007 of approximately 96% as compared to
December 31, 2006. Accordingly, we expect reserves to
continue to increase as our business continues to age. We also
expect default rates to increase for business that has increased
risk characteristics such as Alt-A loans, higher LTV loans and
PNAM ARMs. We expect the overall default rate to increase as the
business with increased risk characteristics becomes a larger
percentage of our insurance in force and as the recent vintage
years reach their peak default period. The default rate is also
affected by the number of policies in force, which is the
denominator in the default rate calculation. The anticipated
lower production in 2008 is also expected to result in an
increase in the default rate compared to the rate that would
result if our 2008 production were consistent with 2007 levels.
As discussed earlier in this report, we have experienced a
faster and more severe increase in both defaults and claims on
our 2006 and early 2007 vintage years. As discussed under
Business Defaults and Claims, generally
our master policies provide that we are not liable to pay a
claim for loss if the application for insurance regarding the
loan in question contains fraudulent information, material
omissions or misrepresentations that would increase the risk
characteristics of the loan. We are currently reviewing the
majority of the claims for losses and early defaults occurring
soon after origination, especially with respect to the 2006 and
early 2007 vintage years, to determine whether the limitations
on our liability contained in our master policies are
applicable. Our ability to rescind or deny coverage as described
above with respect to certain loans originated by American Home
Mortgage, formerly one of our largest customers, is limited, and
is the subject of a lawsuit that American Home Mortgage filed
against us on November 5, 2007. See Item 3,
Legal Proceedings in Part I of this report. We
expect rescissions or denials of coverage for additional loans
originated by American Home Mortgage for similar reasons, which
may be the subject of further litigation. Management currently
does not expect the American Home Mortgage rescission or denial
of coverage litigation to have a material adverse impact on our
results of operations or financial condition.
As part of our overall risk management strategy, we have entered
into excess of loss captive reinsurance agreements with several
of our lender customers. As detailed under
Business Risk Sharing Products in
Part I, Item 1 of this report, we retain the first
loss position on the first aggregate layer of risk and reinsure
the second finite layer with the captive reinsurer with each
separate policy year standing on its own. During 2007, for the
first time since the establishment of these captives, certain
captives exceeded their first loss layer in incurred losses,
which resulted in the ceding of reserves of $7.3 million as
of December 31, 2007 related to specific book years.
However, we deemed $383,000 of this as potentially uncollectible
as the reserves ceded to one reinsurer exceeded the current
amount in the captives trust balance. At December 31,
2007, actual paid losses have not exceeded the first layer of
any captive reinsurer. If the current default and paid claim
trends continue, we expect other vintage year layers and other
captives to reach the attachment points on both incurred losses
and paid claims, especially the 2006 and 2007 vintage years that
have experienced a higher default rate at a faster pace than we
have seen historically.
Amortization of DAC for 2007 increased moderately over 2006,
reflecting growth in the asset balance and, in some part, a
reduction in our persistency assumption for policy years 2006
and thereafter from seven to five years. A more complete
discussion of the impact of persistency on DAC amortization is
included under Deferred Policy Acquisition Costs
below.
Other operating expenses increased in 2007 due to expenses
incurred in connection with organizational changes, growth of
the operations and costs associated with our proposed expansion
into Canada. Direct expenses relating to the Canadian expansion
amounted to approximately $3.3 million for 2007, including
$1.4 million in the fourth quarter, compared to none in
2006. In the first quarter of 2008, we made the decision to
suspend expansion efforts in Canada and repatriate capital
previously committed to Canada back to the U.S. market.
Although we are currently exploring options for the Canadian
subsidiary, we expect our expenses related to the Canadian
operations to diminish in 2008. During the fourth quarter of
2007, operating expenses in the amount of $2.0 million
related to
51
the Companys Quality Assurance group were reclassified to
LAE because the function of that department changed to matters
of loss mitigation. Because the growth in net premiums written
was greater than the growth in expenses, the expense ratio
(ratio of the amortization of DAC and other operating expenses
to net premiums written) for 2007 improved to 21.9%, compared to
24.6% and 26.7%, respectively, for 2006 and 2005.
Our effective tax rate was 40.7% for 2007 compared to 27.3% and
27.1%, respectively, for 2006 and 2005. The change in the
effective tax rate was due primarily to reporting an operating
loss in 2007 versus operating income in 2006 and 2005, as well
as an increase in tax-exempt interest resulting from growth of
investments in tax-preferred municipal securities.
Significant
Customers
Our objective is controlled, profitable growth in both Primary
and Modified Pool business while adhering to our risk management
strategies. Our strategy is to continue our focus on national
lenders while maintaining the productive relationships that we
have built with regional lenders. Competition within the
mortgage insurance industry remains intense as many large
mortgage lenders have limited the number of mortgage insurers
with which they do business. In addition, consolidation among
national lenders has increased the share of the mortgage
origination market controlled by the largest lenders, and that
has led to further concentration of business with a relatively
small number of lenders. Many of the national lenders allocate
Primary business to several different mortgage insurers or
accept competitive bids on certain lender-paid products. These
lender allocations and our success in the bidding process for
lender-paid products can vary over time, even quarter to quarter.
Our ten largest customers were responsible for approximately
73%, 80%, and 77% of insurance written through the flow channel
during 2007, 2006, and 2005, respectively. In 2007, we had three
customers that individually were each responsible for more than
10% of insurance written through the flow channel. In the
aggregate, these customers were responsible for approximately
55% of insurance written through the flow channel. In 2006,
these same three customers were responsible for approximately
65% of insurance written through the flow channel. In 2005, we
had two customers that individually were each responsible for
more than 10% of insurance written through the flow channel. In
the aggregate, these two customers were responsible for
approximately 58% of insurance written through the flow channel
in 2005.
In recent years, a significant portion of our business has been
concentrated in our top two or three lender customers. One of
these customers, AHM, stopped accepting new business and
ultimately filed for bankruptcy during the third quarter of
2007. For the first six months of 2007, AHM was our single
largest customer, contributing 26% of Primary NIW and 15% of
Modified Pool NIW. Another of our top customers, Countrywide
Credit Industries, Inc., agreed in January 2008 to be acquired
by Bank of America. Bank of America is also a customer of the
Company, and it is unclear how this acquisition will affect our
NIW or competitive position going forward. Other lenders have
announced contractions in personnel and have lowered their
estimated production due to the unsettled nature of the mortgage
marketplace. These actions impacted production for the second
half of 2007, and we expect that we will see further reductions
in production into 2008. We plan to closely monitor the AHM
bankruptcy process in order to assess whether it will adversely
affect other aspects of our business, although we currently
cannot predict the nature or materiality of any such effects.
During the fourth quarter of 2007 and first quarter of 2008, we
announced adjustments to our underwriting guidelines. These
adjustments place limitations on maximum LTVs, minimum FICO
scores, acceptable documentation and various other factors.
These limitations are more restrictive in certain geographic
markets. We expect that these adjustments will result in a
reduced level of NIW in 2008 and the reduction in the number of
lenders with which we have historically done business.
Financial
Position
Total assets increased 26% to $1.1 billion at
December 31, 2007 over December 31, 2006, primarily
due to positive cash flows from operations and growth in
invested assets. The increase in invested assets was due in part
to the investment of the $80 million that we drew down from
our credit facility during the second half of 2007. Total
liabilities increased to $634 million at December 31,
2007, from $325 million at December 31, 2006, due to
an increase of $276 million in reserves for losses and the
$80 million short-term borrowings on our revolving line of
52
credit, offset by a decrease in deferred income taxes. This
section identifies several items on our balance sheet that are
important to the overall understanding of our financial
position. These items include DAC, prepaid federal income tax
and related deferred income taxes. The majority of our assets
are contained in our investment portfolio. A separate
Investment Portfolio section follows this
Financial Position section and reviews our
investment portfolio, key portfolio management strategies and
methodologies by which we manage credit risk.
Deferred
Policy Acquisition Costs
Costs expended to acquire new business are capitalized as DAC
and recognized as expense over the anticipated premium paying
life of the policy in a manner that approximates the estimated
premium. We employ a dynamic model that calculates amortization
of DAC separately for each year of policy origination. The model
relies on assumptions that we make based upon historical
industry experience and our own unique experience regarding the
annual persistency development of each year of policy
origination. The base persistency assumption is the most
important factor utilized in determining the timing of reported
amortization expense reflected in the income statement and the
carrying value of DAC on the balance sheet. A change in the
assumed base persistency will impact the current and future
amortization expense as well as the carrying value on the
balance sheet. During 2006, based upon a study performed on the
entire mortgage industry and specifically on our own experience,
we altered our base persistency assumption on that origination
year and for all future years going forward to recognize a
shorter expected life due to the amount of refinancing over the
past several years. Our model accelerates DAC amortization
through a dynamic adjustment when actual persistency for a
particular year of policy origination is lower than the
estimated base persistency utilized in the model. This dynamic
adjustment is capped at the levels assumed in the models, and we
do not decrease DAC amortization below the levels assumed in the
model when persistency increases above those levels. Due to the
increase in actual persistency over the past two years, the
dynamic adjustment has not been as significant a factor in the
quarterly DAC amortization as it was during periods of high
refinancing and low persistency.
The following table shows our DAC asset for the previous three
years and the effect of persistency on amortization:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Balance beginning of period
|
|
$
|
35,143
|
|
|
$
|
33,684
|
|
|
$
|
32,453
|
|
Costs capitalized
|
|
|
19,597
|
|
|
|
17,727
|
|
|
|
16,133
|
|
Amortization normal
|
|
|
(18,140
|
)
|
|
|
(15,990
|
)
|
|
|
(13,191
|
)
|
Amortization dynamic adjustment
|
|
|
(357
|
)
|
|
|
(278
|
)
|
|
|
(1,711
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total amortization
|
|
$
|
(18,497
|
)
|
|
$
|
(16,268
|
)
|
|
$
|
(14,902
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance end of period
|
|
$
|
36,243
|
|
|
$
|
35,143
|
|
|
$
|
33,684
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Annual Persistency
|
|
|
81.9
|
%
|
|
|
76.8
|
%
|
|
|
68.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The growth in the normal DAC amortization is due to the growth
in the DAC asset and a decrease in the base assumption of the
expected life of the flow and bulk portfolios. Assuming no
significant declines in interest rates, we expect persistency to
remain at the current rates or improve slightly in 2008. For
further information on the accounting for DAC, see
Critical Accounting Policies and Estimates under
Item 7 and in Note 1 in the Notes to Consolidated
Financial Statements.
Prepaid
Federal Income Taxes and Deferred Income Taxes
We purchase ten-year non-interest bearing United States Mortgage
Guaranty Tax and Loss Bonds (Tax and Loss Bonds) to
take advantage of a special contingency reserve deduction that
mortgage guaranty companies are allowed for tax purposes. We
record these bonds on our balance sheet as prepaid federal
income taxes. Purchases of Tax and Loss Bonds are essentially a
prepayment of federal income taxes that are scheduled to become
current in ten years, when the contingency reserve is scheduled
to be released, and the Tax and Loss Bonds are scheduled to
mature. The scheduled proceeds from the maturity of the Tax and
Loss Bonds are used to fund the income tax payments that would
be due in the same year as a result of the scheduled reversal of
the contingency reserve for tax purposes.
53
Deferred income taxes are provided for the differences in
reporting taxable income in the financial statements and on the
tax return. These cumulative differences are enumerated in
Note 6 in the Notes to Consolidated Financial Statements.
The largest cumulative difference is the special contingency
reserve deduction for mortgage insurers mentioned above. During
2007, the deferred income taxes declined by $53 million,
primarily the result of the reversal of the contingency reserve
mentioned above. The remainder of the deferred tax liability has
primarily arisen from book and tax reporting differences related
to DAC and unrealized investment gains (losses).
In years when the taxable income of a mortgage insurer shows a
loss before the application of the special contingency reserve,
the prior contingency reserve that was established can be
reversed earlier than originally scheduled to offset the loss.
When the special contingency reserve for tax purposes is
reversed earlier than the scheduled years to offset a current
year operating loss, the Tax and Loss Bonds purchased when the
contingency reserve was established are redeemed earlier than
originally scheduled. During 2007, we reversed $113 million
of contingency reserves for tax purposes earlier than originally
scheduled and redeemed $51 million of Tax and Loss Bonds
related to that reversal.
Investment
Portfolio
Portfolio
Description
Our strategy for managing our investment portfolio is to
optimize investment returns while preserving capital and
liquidity and adhering to regulatory and rating agency
requirements. We invest for the long term, and most of our
investments are held until they mature. Our investment portfolio
includes primarily fixed income securities, and the majority of
these are tax-preferred state and municipal bonds. We have
established a formal investment policy that describes our
overall quality and diversification objectives and limits. Our
investment policy and strategies are subject to change depending
upon regulatory, economic and market conditions as well as our
existing financial condition and operating requirements,
including our tax position. Although we invest for the long
term, we classify our debt and equity securities with readily
determinable market values as available for sale. This
classification allows us the flexibility to dispose of
securities in order to pursue our investment strategy and meet
our operating requirements. Investments classified as available
for sale are carried on our balance sheet at fair value.
Investments without readily determinable market values are
classified as other investments and are also carried at fair
value.
The following table shows the growth and diversification of our
investment portfolio:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
December 31, 2006
|
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U. S. government obligations
|
|
$
|
11,762
|
|
|
|
1.5
|
%
|
|
$
|
11,842
|
|
|
|
2.0
|
%
|
State and municipal bonds
|
|
|
673,264
|
|
|
|
85.8
|
%
|
|
|
558,131
|
|
|
|
91.9
|
%
|
Corporate bonds
|
|
|
40,605
|
|
|
|
5.2
|
%
|
|
|
16,572
|
|
|
|
2.7
|
%
|
Mortgage-backed bonds
|
|
|
|
|
|
|
0.0
|
%
|
|
|
49
|
|
|
|
0.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturities
|
|
|
725,631
|
|
|
|
92.5
|
%
|
|
|
586,594
|
|
|
|
96.6
|
%
|
Equity securities
|
|
|
2,162
|
|
|
|
0.3
|
%
|
|
|
10,417
|
|
|
|
1.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
available-for-sale
securities
|
|
|
727,793
|
|
|
|
92.8
|
%
|
|
|
597,011
|
|
|
|
98.3
|
%
|
Other investments
|
|
|
|
|
|
|
0.0
|
%
|
|
|
5,000
|
|
|
|
0.8
|
%
|
Short-term investments
|
|
|
56,746
|
|
|
|
7.2
|
%
|
|
|
5,301
|
|
|
|
0.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
784,539
|
|
|
|
100.0
|
%
|
|
$
|
607,312
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We seek to provide liquidity in our investment portfolio through
cash equivalent investments and through diversification and
investment in publicly traded securities. We attempt to maintain
a level of liquidity and duration in our investment portfolio
consistent with our business outlook and the expected timing,
direction and degree of changes in interest rates and cash needs
for claim payments. See Note 2 in Notes to Consolidated
Financial Statements for a description of the scheduled maturity
of our fixed maturity investments. The increase of short-term
54
investments at December 31, 2007 primarily reflects the
initial investment of funds associated with the capitalization
of our Canada affiliate as well as proceeds of the draw down of
the credit facility in August, 2007.
We also manage risk and liquidity by limiting our exposure on
individual securities. As shown below, no investment in the
securities of any single issuer exceeded 1% of our investment
portfolio at December 31, 2007. The following table shows
the ten largest exposures to an individual creditor, or issuer
in the case of equity securities, in our investment portfolio as
of December 31, 2007:
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
Carrying
|
|
% of Total
|
|
|
Value
|
|
Invested Assets
|
|
|
(Dollars in thousands)
|
|
Name of Creditor/Issuer
|
|
|
|
|
|
|
|
|
City of New York, New York
|
|
$
|
7,000
|
|
|
|
0.89
|
%
|
Atlanta, Georgia Airport
|
|
|
6,637
|
|
|
|
0.85
|
%
|
State of New York
|
|
|
6,500
|
|
|
|
0.83
|
%
|
State of Massachusetts
|
|
|
6,472
|
|
|
|
0.82
|
%
|
State of Connecticut
|
|
|
6,407
|
|
|
|
0.82
|
%
|
State of Pennsylvania
|
|
|
6,033
|
|
|
|
0.77
|
%
|
Clark County, South Dakota
|
|
|
5,430
|
|
|
|
0.69
|
%
|
State of Hawaii
|
|
|
5,333
|
|
|
|
0.68
|
%
|
State of Indiana
|
|
|
5,211
|
|
|
|
0.66
|
%
|
University of New Mexico
|
|
|
5,078
|
|
|
|
0.65
|
%
|
The following table shows the results of our investment
portfolio for the last three years:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
2006
|
|
2005
|
|
|
(Dollars in thousands)
|
|
Average investments at cost or amortized cost
|
|
$
|
682,006
|
|
|
$
|
559,378
|
|
|
$
|
493,256
|
|
Pre-tax net investment income
|
|
$
|
32,936
|
|
|
$
|
26,696
|
|
|
$
|
22,998
|
|
Pre-tax yield
|
|
|
4.8
|
%
|
|
|
4.8
|
%
|
|
|
4.7
|
%
|
Tax-equivalent
yield-to-maturity
|
|
|
6.5
|
%
|
|
|
6.7
|
%
|
|
|
6.8
|
|
Pre-tax realized investment (losses) gains
|
|
$
|
(3,049
|
)
|
|
$
|
1,584
|
|
|
$
|
36
|
|
The drop in the tax-equivalent
yield-to-maturity
shown above reflects the investment of our cash flows from
operations and reinvestment of proceeds from the maturity or
call of higher yielding investments at new money rates, which
were and are projected to continue to be lower than that of our
overall portfolio yield.
Unrealized
Gains and Losses
The following table summarizes by category our unrealized gains
and losses in our securities portfolio at December 31, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost or
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Fair
|
|
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Value
|
|
|
|
(dollars in thousands)
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U. S. government obligations
|
|
$
|
11,644
|
|
|
$
|
144
|
|
|
$
|
(26
|
)
|
|
$
|
11,762
|
|
State and municipal bonds
|
|
|
659,178
|
|
|
|
15,552
|
|
|
|
(1,466
|
)
|
|
|
673,264
|
|
Corporate bonds
|
|
|
40,102
|
|
|
|
672
|
|
|
|
(169
|
)
|
|
|
40,605
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal, fixed maturities
|
|
|
710,924
|
|
|
|
16,368
|
|
|
|
(1,661
|
)
|
|
|
725,631
|
|
Equity securities
|
|
|
2,520
|
|
|
|
|
|
|
|
(358
|
)
|
|
|
2,162
|
|
Short term investments
|
|
|
56,746
|
|
|
|
|
|
|
|
|
|
|
|
56,746
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total securities
|
|
$
|
770,190
|
|
|
$
|
16,368
|
|
|
$
|
(2,019
|
)
|
|
$
|
784,539
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
55
These unrealized gains and losses do not necessarily represent
future gains or losses that we will realize. Changing conditions
related to specific securities, overall market interest rates,
overall market conditions or credit spreads, as well as our
decisions concerning the timing of a sale, may impact values we
ultimately realize. We monitor unrealized losses through further
analysis according to maturity date, credit quality, individual
creditor exposure and the length of time the individual security
has continuously been in an unrealized loss position. Of the
gross unrealized losses on fixed maturity securities shown
above, approximately $1,380,000 related to bonds with a maturity
date in excess of ten years. The largest individual unrealized
loss on any one security at December 31, 2007 was
approximately $190,000 on a bond issued by a
Government-Sponsored Enterprise with an amortized cost of
$935,000. Gross unrealized gains and losses at December 31,
2006 were $19.4 million and $(0.9) million,
respectively. Unrealized losses are not considered to be
other-than-temporarily
impaired, as we believe we have the ability to hold investments
until they recover in value or maturity.
Credit
Risk
Credit risk is inherent in an investment portfolio. We manage
this risk through a structured approach to internal investment
quality guidelines and diversification while assessing the
effects of the changing economic landscape. One way we attempt
to limit the inherent credit risk in our portfolio is to
maintain investments with high ratings. The following table
shows our investment portfolio by credit ratings.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
December 31, 2006
|
|
|
|
Amount
|
|
|
Percent
|
|
|
Amount
|
|
|
Percent
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed Maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. treasury and agency bonds
|
|
$
|
11,762
|
|
|
|
1.6
|
%
|
|
$
|
11,842
|
|
|
|
2.0
|
%
|
AAA
|
|
|
518,769
|
|
|
|
71.5
|
|
|
|
464,042
|
|
|
|
79.1
|
|
AA
|
|
|
150,820
|
|
|
|
20.8
|
|
|
|
72,051
|
|
|
|
12.3
|
|
A
|
|
|
25,774
|
|
|
|
3.6
|
|
|
|
25,054
|
|
|
|
4.3
|
|
BBB
|
|
|
8,738
|
|
|
|
1.2
|
|
|
|
10,782
|
|
|
|
1.9
|
|
BB
|
|
|
1,072
|
|
|
|
0.1
|
|
|
|
50
|
|
|
|
0.0
|
|
CCC
|
|
|
5,591
|
|
|
|
0.8
|
|
|
|
|
|
|
|
|
|
CC and lower
|
|
|
2
|
|
|
|
0.0
|
|
|
|
279
|
|
|
|
0.0
|
|
Not rated
|
|
|
3,103
|
|
|
|
0.4
|
|
|
|
2,494
|
|
|
|
0.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturities
|
|
$
|
725,631
|
|
|
|
100.0
|
%
|
|
$
|
586,594
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Preferred stocks:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
AA
|
|
$
|
745
|
|
|
|
34.5
|
%
|
|
$
|
1,708
|
|
|
|
16.4
|
%
|
A
|
|
|
883
|
|
|
|
40.8
|
|
|
|
2,035
|
|
|
|
19.5
|
|
BBB
|
|
|
534
|
|
|
|
24.7
|
|
|
|
1,132
|
|
|
|
10.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,162
|
|
|
|
100.0
|
|
|
|
4,875
|
|
|
|
46.8
|
|
Common stocks
|
|
|
|
|
|
|
|
|
|
|
5,542
|
|
|
|
53.2
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total equities
|
|
$
|
2,162
|
|
|
|
100.0
|
%
|
|
$
|
10,417
|
|
|
|
100.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Most of the fixed maturity bonds that have credit ratings of
AAA above are the result of credit enhancements from
financial guaranty insurers. At December 31, 2007, many of
the financial guarantors had experienced substantially weaker
financial results and, as a result, their own AAA
ratings are under significant pressure which, if lowered, could
impact the credit rating of our portfolio.
56
We regularly review our entire investment portfolio to identify
securities that may have suffered impairments in value that will
not be recovered, termed potentially distressed securities. In
identifying potentially distressed securities, we screen all
securities held with a particular emphasis on those that have a
fair value to cost or amortized cost ratio of less than 80%.
Additionally, as part of this identification process, we utilize
the following information:
|
|
|
|
|
Length of time the fair value was below amortized cost;
|
|
|
|
Industry factors or conditions related to a geographic area
negatively affecting the security;
|
|
|
|
Downgrades by a rating agency;
|
|
|
|
Past due interest or principal payments or other violation of
covenants; and
|
|
|
|
Deterioration of the overall financial condition of the specific
issuer.
|
In analyzing our potentially distressed securities list for
other-than-temporary
impairments, we pay special attention to securities that have
been on the list continually for a period greater than six
months. Our ability and intent to retain the investment for a
sufficient time to recover its value is also considered. We
assume that, absent reliable contradictory evidence, a security
that is potentially distressed for a continuous period greater
than nine months has incurred an
other-than-temporary
impairment. Such reliable contradictory evidence might include,
among other factors, a liquidation analysis performed by our
investment advisors, improving financial performance of the
issuer, or valuation of underlying assets specifically pledged
to support the credit.
When we conclude that a decline is other than temporary, the
security is written down to fair value through a charge to
realized investment gains and losses. We adjust the amortized
cost for securities that have experienced
other-than-temporary
impairments to reflect fair value at the time of the impairment.
We consider factors that lead to an
other-than-temporary
impairment of a particular security in order to determine
whether these conditions have impacted other similar securities.
Of the approximate $2.0 million of gross unrealized losses
at December 31, 2007, securities with a fair value to cost
or amortized cost ratio of less than 90% had a combined
unrealized loss of approximately $257,950.
Information about unrealized gains and losses is subject to
changing conditions. The values of securities with unrealized
gains and losses will fluctuate, as will the values of
securities that we identify as potentially distressed. Our
current evaluation of
other-than-temporary
impairments reflects our intent to hold securities for a
reasonable period of time sufficient for a forecasted recovery
of fair value. However, our intent to hold certain of these
securities may change in future periods as a result of facts and
circumstances impacting a specific security. If our intent to
hold a security with an unrealized loss changes, and we do not
expect the security to fully recover prior to the expected time
of disposition, we will write down the security to its fair
value in the period that our intent to hold the security changes.
Realized
Losses and Impairments
Realized losses include both write-downs of securities with
other-than-temporary
impairments and losses from the sales of securities. We wrote
down securities, including other investments, by a total of
approximately $5.3 million, $375,000 and $170,000 during
2007, 2006, and 2005, respectively, due to
other-than-temporary
declines in fair value. During 2007, we wrote down the entire
carrying value of Structured Credit Holdings, a
$5.0 million equity investment that was previously carried
as other investments.
Liquidity
and Capital Resources
Generally, our sources of operating funds consist of premiums
written and investment income. Operating cash flow is generally
applied to the payment of claims, interest, expenses and prepaid
federal income taxes in the form of Tax and Loss Bond purchases.
During 2007, the early redemption of Tax and Loss Bonds due to
the significant increase in loss reserves provided a source of
funds (See Prepaid Federal Income Taxes and Deferred
Income Taxes for information on the Tax and Loss
Bonds).
We generated positive cash flow from operating activities of
$191.1 million in 2007 compared to $88.4 million for
2006 and $70.8 million for 2005. The increase in cash flow
from operating activities reflects the strong growth in
57
premiums and investment income received, partially offset by
increases in paid losses and operating expenses. A significant
factor impacting the 2007 increase was the early redemption of
$50.9 million of previously purchased Tax and Loss Bonds,
which served as a source of cash in the current year. During
2006 and 2005, we purchased Tax and Loss Bonds which had the
effect of reducing operating cash flow by $27.4 million and
$20.3 million, respectively. We anticipate the early
redemption of Tax and Loss Bonds to continue to be a source of
cash in 2008 and 2009.
In 2007, we experienced significant operating losses, primarily
the result of an increase in loss reserves of
$275.6 million, which did not immediately impact our cash
flow. Generally, there is about a 12 to 18 month delay from
when reserves are initially established on a default to when a
claim is ultimately paid. In 2007, paid losses amounted to
$100.6 million; however, we expect paid losses to increase
significantly in 2008. We anticipate that the majority of this
cash outflow requirement related to the payment of claims in
2008 will be met by premiums and investment income; however, the
liquidation of some short-term investments may be required to
meet the expected paid loss requirements.
Positive operating cash flows are invested pending future
payments of claims and expenses. We attempt to match the
maturities of our invested assets to the anticipated timing of
the payments of claims and expenses. Maturities within our fixed
income investment portfolio have been structured to provide
options to reinvest those funds or have such funds available to
meet operating cash needs, such as the payment of claims. At
December 31, 2007, maturities scheduled within the next
twelve months within our fixed income portfolio amount to
$91.4 million. An operating cash flow shortfall, if any,
could be funded through sales of short-term investments and
other investment portfolio securities. Our business does not
routinely require significant capital expenditures other than
for enhancements to our computer systems and technological
capabilities.
On June 28, 2007, the Company entered into a three-year,
$80.0 million unsecured revolving credit facility with
three domestic banks to provide short-term liquidity for
insurance operations and general corporate purposes. On
August 22, 2007, we drew down $80 million under the
credit facility and it continued to remain outstanding through
year end. In December 2007, we utilized a portion of the funds
provided through the credit facility to provide a
$50 million capital contribution to Triad in anticipation
of funds being repatriated from our Canadian subsidiary. In
January 2008, we repatriated $39 million of the original
$45 million originally invested in our Canadian subsidiary.
Under the credit agreement, the Company must maintain a minimum
adjusted consolidated net worth level of $409.9 million at
December 31, 2007, and must not exceed a statutory
risk-to-capital
ratio threshold of 22-to-1. The agreement also contains
covenants restricting the Companys ability to incur liens,
merge or consolidate with another entity and dispose of all or
substantially all of its assets. In addition, the parent company
is restricted from the payment of dividends if the Company is in
default or if the payment of dividends places the Company in
default. At December 31, 2007, the Company was in
compliance with all such covenants. If the Company were to
violate any of the covenants requiring the repayment of the
$80 million drawn down under the credit facility, there
remains adequate funds (including the $39 million
repatriated from our Canadian subsidiary in January
2008) at the parent level to repay the debt.
Our risk-to-capital ratio has risen dramatically over the past
year, driven primarily by significant increases in our
risk-in-force
during the past 12 months and operating losses we incurred
in the last two quarters of 2007. We believe the housing and
mortgage markets in 2008 will continue to be adversely affected
by a number of factors, including declining home prices, an
oversupply of homes offered for sale and increased foreclosures,
particularly in certain distressed markets. We expect we will
incur additional operating losses as new defaults are reported.
Based on our internal projections, we must significantly augment
our capital resources in the second quarter of 2008 in order to
preserve our ability to continue to write new insurance. Since
the fourth quarter of 2007, we have been working with a
prominent financial advisory firm to pursue alternatives for
enhancing our capital. We have not yet succeeded in obtaining
any commitments for an investment in our company, and there can
be no assurance that we will be able to obtain any such
commitments in the future.
The proposals that have been considered involve structures under
which Triad would implement a run-off plan and a
newly formed mortgage insurer would acquire certain of
Triads employees, infrastructure, sales force and
insurance underwriting operations. In addition, we would cease
writing new business. These proposals do not
58
involve a direct investment in Triad. Completing any such
transaction would be subject to numerous conditions, including
obtaining necessary consents and approvals from our
stockholders, the Illinois Department of Insurance and other
state insurance regulatory authorities, the GSEs, rating
agencies and other third parties. No assurance can be given that
such consents and approvals could be obtained or that we can
complete any such transaction. In addition, no assurance can be
given that we would have any ownership interest in any new
mortgage insurer formed to acquire assets of Triad or have any
opportunity to share in the potential financial returns
available from insurance written by such an insurer.
The insurance laws of the State of Illinois impose certain
restrictions on dividends that an insurance subsidiary can pay
its parent company. These restrictions, based on statutory
accounting practices, 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 Department of Insurance. In addition to these
statutory limitations on dividends, Illinois regulations provide
that a mortgage guaranty insurer may not declare any dividends
except from undivided profits remaining on hand over and above
the amount of its policyholder reserve. In the second quarter of
2007, Triad declared and paid a dividend of $30 million to
its parent company to partially fund the initial capital
required to commence business in Canada. In the fourth quarter
of 2007, the parent company made an additional capital
contribution of $50 million to Triad that was recorded as
additional paid in capital on the books of Triad.
Included in policyholders surplus of the
U.S. insurance subsidiary, Triad, is a surplus
note of $25 million payable to the registrant, its
parent. The surplus note is included as statutory capital for
the purpose of the calculation of all regulatory ratio analyses.
The accrual of and payment of the interest on the surplus note
must be approved by the Illinois Department of Insurance.
Additionally, specific covenants of Triads surplus note
prohibit the accrual of or payment of interest on the note if
the most recently reported policyholders surplus is below
the level at the time the note was originated. At year end,
based upon the most recent statutory filings with the Illinois
Department of Insurance (September 30, 2007), reported
total policyholders surplus was below the level at the
time the note was originated. Therefore, Triad did not request
approval to accrue the interest on the surplus note at year end
nor did we request approval to pay the interest on the scheduled
due date of January 10, 2008. The statutory filings at
December 31, 2007 included a release of the contingency
reserve that resulted in policyholders surplus at a level
greater than that when the surplus note was originated. We have
requested the approval from the Illinois Department of Insurance
to accrue and pay the interest on the $25 million surplus
note, but as of this date, we have not received its approval.
Debt service on the $35 million long-term debt amounts to
$2.8 million per year. The primary source of the cash flow
for the debt service comes from the interest on the
$25 million surplus note at Triad, which provides
$2.2 million on an annual basis. If Triad is unable to pay
the scheduled debt service on the $25 million surplus note
to its parent for an extended period of time, the holding
company may be unable to continue to meet its debt service
obligations on the $35 million long-term debt.
As of December 31, 2007 there are no specific restrictions
or requirements for capital support arrangements between the
parent company and Triad or its subsidiaries. An agreement
between the parent company and Triad, which was approved by our
primary regulator, exists that allows for the reimbursement of
expenses by Triad to the parent company for expenses.
We cede business to captive reinsurance affiliates of certain
mortgage lenders, primarily under excess of loss reinsurance
agreements. Generally, reinsurance recoverables on loss reserves
and unearned premiums ceded to these captives are backed by
trust accounts where we are the sole beneficiary. When ceded
loss reserves exceed the trust balances, we address the
counter-party credit risk of the reinsurance recoverable on a
case-by-case
basis and provide for a provision for uncollectible accounts
where appropriate.
Total stockholders equity declined to $498.9 million
at December 31, 2007, from $570.2 million at
December 31, 2006. This decrease resulted primarily from
our 2007 net loss of $77.5 million, offset by an
increase in additional
paid-in-capital
of $4.7 million resulting from activity related to
share-based compensation and the associated tax benefit.
59
Statutory capital, for the purpose of computing the net risk in
force to statutory capital ratio, includes both
policyholders surplus and the contingency reserve. The
following table provides information regarding our statutory
capital position at December 31, 2007 and 2006:
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(Dollars in millions)
|
|
|
Statutory policyholders surplus
|
|
$
|
197.7
|
|
|
$
|
168.4
|
|
Statutory contingency reserve
|
|
|
387.4
|
|
|
|
521.8
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
585.1
|
|
|
$
|
690.3
|
|
|
|
|
|
|
|
|
|
|
The primary differences between statutory policyholders
surplus and equity computed under generally accepted accounting
principles are the statutory contingency reserve, DAC and
deferred income taxes. Generally, mortgage insurance companies
are required to add to the statutory contingency reserve through
a charge to surplus an amount equal to 50% of calendar year
earned premiums and retain the contingency reserve in the
statutory statements for a period of ten years. The contingency
reserve can be released earlier than the scheduled ten years if
the loss ratio exceeds 35%. The loss ratio substantially
exceeded 35% in 2007 and marginally exceeded 35% in 2006.
Accordingly, we released approximately $275.0 million and
$19.7 million of contingency reserve surplus in 2007 and
2006, respectively.
Triads ability to write insurance depends on the
maintenance of its financial strength ratings. Generally, states
limit Triads statutory
risk-to-capital
ratio to 25-to-1. As of December 31, 2007, Triads
risk-to-capital
ratio was 20.5-to-1 as compared to 12.5-to-1 at
December 31, 2006. The growth in the
risk-to-capital
ratio in 2007 was the result of significant increases in
production in the first half of the year and operating losses in
the last two quarters. The
risk-to-capital
ratio is calculated using net risk in force as the numerator and
statutory capital as the denominator. Net risk in force accounts
for risk ceded under reinsurance arrangements, including captive
risk-sharing arrangements, as well as any applicable stop-loss
limits and deductible amounts on structured transactions.
Several states, including Triads domiciliary state,
Illinois, require detailed calculations of
risk-to-capital
that differentiate risk between LTVs, coverage percentage, and
type of product. As of December 31, 2007, Triads
statutory capital was approximately 101% of the minimum capital
required by the Illinois Department of Insurance and TGACs
statutory capital was approximately 258% of the minimum required
capital.
At December 31, 2007, Triad was rated AA- by
both Standard & Poors Ratings Services and Fitch
Ratings and Aa3 by Moodys Investors Service.
On February 13, 2008, S&P placed its ratings of Triad
on credit watch with negative outlook or
implications indicating that ratings on Triad could be lowered
multiple notches or affirmed with a negative outlook. On
January 31, 2008, Moodys placed its ratings of Triad
on review for possible downgrade. On October 25, 2007,
Fitch placed Triad on Rating Watch Negative as it
addresses the revisions implemented in its proprietary capital
model for U.S. mortgage insurers and related performance of
the more recent vintage years. All three rating agencies are in
the process of reviewing their ratings outlook for the
U.S. private mortgage insurance industry. A further
reduction in Triads ratings or a significant deterioration
in the ratings outlook could impact our ability to write new
business and jeopardize our GSE rating as a Type 1 or
Type I mortgage insurer. See Part I,
Item 1A, Risk Factors in this report for
further discussion relating to potential ratings downgrades.
Fannie Mae and Freddie Mac both have approval requirements for
mortgage insurers and differentiate between services and the
amount of insurance allowed depending upon the tier the mortgage
insurer qualifies for under their requirements. If our ratings
fall below the equivalent of AA- and if either
Fannie Mae or Freddie Mac or both determine that we would not
qualify as a Type 1 or Type I mortgage insurer, respectively,
lenders may limit the amount of mortgage insurance that they
would place with us, which would significantly impair our
competitive position in the MI industry and adversely affect our
business and financial condition. Additionally, both Fannie Mae
and Freddie Mac as well as other investors have the ability to
redirect renewal premiums to other mortgage insurers that meet
the Type 1 or Type I requirements, respectively, if they
determine a lower tier mortgage insurer is a risk for the
payment of claims. If Triad were to fail to meet the
requirements to qualify as a Type 1 or Type I mortgage insurer,
respectively, and Fannie Mae or Freddie Mac or both redirected
renewal premiums to higher rated mortgage insurers, then it
would have a significant negative impact on future results of
operations. See Part I, Item 1,
60
Financial Strength Rating and Part I,
Item 1A, Risk Factors in this report for
further discussion on the qualification standards of Fannie Mae
and Freddie Mac.
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 OFHEOs risk-based capital rules is ten years.
At present, no private mortgage insurer is rated higher than
AA and based upon the overall negative outlook for
mortgage insurers presently, we do not believe these rules will
have a significant adverse impact on our financial condition or
operations in the future. However, if the risk-based capital
rules 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, our operations and financial condition
could be significantly impacted.
Off
Balance Sheet Arrangements and Aggregate Contractual
Obligations
We had no material off-balance sheet arrangements at
December 31, 2007.
We lease office facilities, automobiles, and office equipment
under operating leases with minimum lease commitments that range
from one to ten years. We had no capitalized leases or material
purchase commitments at December 31, 2007.
Our long-term debt has a single maturity date of 2028. The
following table represents our aggregate contractual obligations
as of December 31, 2007:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due By Period
|
|
|
|
|
|
|
Less Than
|
|
|
|
|
|
|
|
|
More Than
|
|
Contractual Obligations:
|
|
Total
|
|
|
1 Year
|
|
|
1-3 Years
|
|
|
3-5 Years
|
|
|
5 Years
|
|
|
|
(Dollars in thousands)
|
|
|
Long-term debt
|
|
$
|
35,000
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
35,000
|
|
Operating leases
|
|
|
8,567
|
|
|
|
2,358
|
|
|
|
3,331
|
|
|
|
2,878
|
|
|
|
|
|
Loss reserves
|
|
|
359,939
|
|
|
|
269,954
|
|
|
|
89,985
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
403,506
|
|
|
$
|
272,312
|
|
|
$
|
93,316
|
|
|
$
|
2,878
|
|
|
$
|
35,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The other long-term liabilities reflected on our balance sheet
under the GAAP category above is comprised of our reserve for
losses and LAE. For the purpose of this table, we estimated that
75% of the existing reserves will result in claim payments in
the next year and the remaining 25% will be paid in the
following two years in equal amounts based upon historical claim
payment trends. The establishment of loss reserves is subject to
inherent uncertainty and requires significant judgment by
management.
Market
Risk Exposure
Fixed maturity securities represented approximately 92% of our
invested assets at December 31, 2007 based on amortized
cost. While the fair value of these fixed rate securities
generally bears an inverse relationship to changes in prevailing
market interest rates, a change in market interest rates would
not immediately impact results of operations because we have the
ability and intent to hold these securities until maturity.
However, a decrease in market interest rates generally will have
the effect of initiating an early call provision of those
securities possessing such provisions. The proceeds relating to
the early called securities in a decreasing interest rate
environment generally are invested in lower yielding investments
that would ultimately decrease results of operations. Our
long-term debt matures in 2028 with no early call or put
provisions and bears interest at a fixed rate of 7.9% per annum.
The fair value of this debt is sensitive to changes in
prevailing interest rates; however, a change in rates would not
impact results of operations. We believe that a 20% increase or
decrease in market interest rates is reasonable for the upcoming
year. A 20% relative increase or decrease in market interest
rates that affect our financial instruments would not have a
material impact on results of operations during 2008.
61
Critical
Accounting Policies and Estimates
Accounting estimates and assumptions discussed in this section
are those that we consider to be the most critical to an
understanding of our financial statements because they
inherently involve significant judgments and uncertainties. In
developing these estimates, we make subjective and complex
judgments that are inherently uncertain and subject to material
change as facts and circumstances develop. Although variability
is inherent in these estimates, we believe the amounts provided
are appropriate based on the facts available upon compilation of
the financial statements. Also, see Note 1 to the
Consolidated Financial Statements, Summary of Significant
Accounting Policies for a complete discussion of our significant
accounting policies.
Reserve
for Losses and Loss Adjustment Expenses
(LAE)
We calculate our best estimate of the reserve for losses to
provide for the estimated costs of settling claims on loans
reported in default, as of the date of our financial statements.
Additionally, we provide a reserve for loans in default that are
in the process of being reported to us (incurred but not
reported) using an estimate based on the percentage of actual
reported defaults. Our reserving process incorporates various
components in a model that gives effect to current economic
conditions and segments defaults by a variety of criteria. The
criteria include, among others, policy year, lender, geography
and the number of months and number of times the policy has been
in default, as well as whether the defaults were underwritten as
flow business or as part of a structured bulk transaction.
Frequency and severity are the two most significant assumptions
in the establishment of our loss reserves. Frequency is used to
estimate the ultimate number of paid claims associated with the
current defaulted loans. The frequency estimate assumes that
long-term historical experience, taking into consideration
criteria such as those described in the preceding paragraph, and
adjusted for current economic conditions that we believe will
significantly impact the long-term loss development, provides a
reasonable basis for forecasting the number of claims that will
be paid. Severity is the estimate of the dollar amount per claim
that will be paid. The severity factors are estimates of the
percentage of the risk in force that will be paid. The severity
factors used are based on an analysis of the severity rates of
recently paid claims, applied to the risk in force of the loans
currently in default. The frequency and severity factors are
updated quarterly. Economic conditions and other data upon which
these factors are based may change more frequently than once a
quarter. Therefore, significant changes in reserve requirements
may become evident three or more months following the underlying
events that would necessitate the change.
The estimation of loss reserves requires assumptions as to
future events, and there are inherent risks and uncertainties
involved in making these assumptions. Economic conditions that
have affected the development of loss reserves in the past may
not necessarily affect development patterns in the future in
either a similar manner or degree. To provide a measure of the
sensitivity on pretax income and loss reserves carried on the
balance sheet, we have provided the following table that
quantifies the impact of percentage increases and decreases in
both the average frequency and severity as of December 31,
2007:
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|
|
|
|
|
|
|
|
|
|
Sensitivity Analysis
|
|
|
Effect on Pretax Income from
|
|
|
Changes in Assumptions
|
|
|
Decrease in Factors
|
|
Increase in Factors
|
|
|
Resulting in an
|
|
Resulting in a
|
|
|
Increase in Pretax
|
|
(Decrease) in Pretax
|
|
|
Income
|
|
Income
|
|
|
(Dollars in thousands)
|
|
20% Increase (Decrease) in the Frequency Factors
|
|
|
|
|
|
|
|
|
Utilized in the Loss Reserve Model
|
|
$
|
63,178
|
|
|
$
|
(63,179
|
)
|
20% Increase (Decrease) in the Severity Factors
|
|
|
|
|
|
|
|
|
Utilized in the Loss Reserve Model
|
|
$
|
71,970
|
|
|
$
|
(69,388
|
)
|
20% Increase (Decrease) in Both the Frequency and
|
|
|
|
|
|
|
|
|
Severity Factors Utilized in the Loss Reserve Model
|
|
$
|
123,561
|
|
|
$
|
(146,449
|
)
|
The impact on loss reserves on the balance sheet would be to
decrease reserves for favorable developments and to increase
reserves for unfavorable developments. There would be no impact
on liquidity resulting from the change in reserves. However,
there would be a change in cash or invested assets equal to the
increase or decrease in the
62
ultimate paid claims related to the change in reserves. We
believe that a 20% increase or decrease in frequency or severity
is reasonably likely based on potential changes in future
economic conditions and past experience, although we believe
there is a greater propensity during 2008 for an increase in the
frequency and severity factors given the current conditions of
the housing market. Economic conditions that could give rise to
an increase in the frequency rate could be a sudden increase or
a prolonged period of increase in the unemployment rate or a
continued downward trend in home prices while, conversely, an
improved housing market, a sudden drop in interest rates or a
sustained period of economic and job growth could decrease the
frequency rate. Any factor that would affect our ability to sell
a home of a borrower in default prior to foreclosure would
affect our severity. The most prominent of these would be the
value of the underlying home.
Because the estimate for loss reserves is sensitive to the
estimates of claims frequency and severity, we perform analyses
to test the reasonableness of the best estimate generated by our
loss reserve process. Our loss reserve estimation process and
our analyses support the reasonableness of the best estimate of
loss reserves recorded in our financial statements. See
Losses and Expenses above for a more detailed
discussion of the reserves for losses and LAE.
Investments
Valuing our investment portfolio involves a variety of
assumptions and estimates, particularly for investments that are
not actively traded. We rely on external pricing sources for
highly liquid, publicly traded securities and use an internal
pricing matrix developed by our outside investment advisors for
privately placed securities. This matrix relies on our judgment
concerning (a) the discount rate we use in calculating
expected future cash flows, (b) credit quality and
(c) expected maturity.
Much of our fixed maturity municipal bond portfolio contains
credit enhancements that guarantee the payments of principal and
interest. This guarantee is generally provided by
AAA rated financial guaranty companies and has
resulted in most of these securities being at the highest credit
rating. Many of the financial guaranty companies that provide
the credit enhancement on our municipal bond portfolio are
currently in jeopardy of being downgraded below AAA
by the rating agencies or already have been downgraded below
AAA. As a result, the ratings of the bonds they
insure will generally be downgraded as well. As a result, we
have examined the underlying credit on the individual securities
to determine if an
other-than-temporary
impairment has taken place.
We regularly monitor our investment portfolio to ensure that
investments that may be
other-than-temporarily
impaired are identified in a timely fashion, properly valued,
and any
other-than-temporary
impairments are charged against results of operations in the
proper period. The timely identification and valuation of
potentially impaired securities involves many judgments. The
most significant judgments that we make relate to the estimated
future cash flows on potentially impaired securities and our
intent and ability to hold a security to anticipated recovery of
value. Inherently, there are risks and uncertainties involved in
making these judgments. For a further discussion of the
valuation of our investment portfolio and the methodology we use
to identify potential impairments, see Investment
Portfolio above.
Deferred
Policy Acquisition Costs
The costs of acquiring new business, principally sales
compensation and certain policy underwriting and issue costs
that are primarily related to the production of new business,
are capitalized as deferred policy acquisition costs
(DAC). Amortization of DAC is charged to expense in
proportion to premiums recognized over the estimated policy
life. We make judgments in the determination of estimated policy
life utilized in the amortization assumptions. The most
significant judgment that we make related to DAC is the
estimated life of the asset.
We review the persistency of policies in force and make
appropriate adjustments to the amortization of deferred policy
acquisition costs to reflect actual policy cancellations. We
also prepare an analysis to determine that the DAC on our
balance sheet is recoverable against the future profits of our
existing book of business. The critical assumptions that we
utilize in assessing the recoverability of the DAC is the
persistency of the premium stream and the amount and timing of
paid losses. We make our best estimate of the persistency and
claim patterns based upon the information available at the time.
Because these estimates of persistency and amount of and timing
of claims are
63
sensitive to future economic events, these estimates may change
in the future. For a further discussion of DAC, see
Financial Position above.
Safe
Harbor Statement under the Private Securities Litigation Reform
Act of 1995
Managements Discussion and Analysis of Financial Condition
and Results of Operations and other portions of 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:
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|
|
|
|
if our current ratings are downgraded or we violate regulatory
requirements, absent the receipt of waivers from the GSEs and
insurance regulators, we would not be able to write new
insurance and would be limited to servicing our remaining book
of business;
|
|
|
|
if we implement a run-off plan and our business is limited to
servicing our remaining book of in-force insurance, we face
additional regulatory and operating risks that could reduce or
eliminate the market value of our common stock;
|
|
|
|
interest rates may increase or decrease from their current
levels;
|
|
|
|
housing prices may increase or decrease from their current
levels;
|
|
|
|
ongoing credit problems in the mortgage marketplace may continue
and cause an increased number of defaults and paid claims;
|
|
|
|
housing transactions requiring mortgage insurance may decrease
for many reasons, including changes in interest rates or
economic conditions or alternative credit enhancement products;
|
|
|
|
our market share may change as a result of changes in
underwriting criteria or competitive products or rates;
|
|
|
|
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 the GSEs, Freddie Mac and Fannie Mae;
|
|
|
|
our financial condition and competitive position could be
affected by legislation or regulation impacting the mortgage
guaranty industry or the GSEs, specifically, and the financial
services industry in general;
|
|
|
|
rating agencies may revise methodologies for determining our
financial strength ratings and may further revise, downgrade or
withdraw the assigned ratings at any time;
|
|
|
|
decreases in persistency, which are affected by loan
refinancings in periods of low interest rates, may have an
adverse effect on results of operations;
|
|
|
|
the amount of insurance written and the growth in insurance in
force or risk in force, as well as our performance, may be
adversely impacted by the competitive environment in the private
mortgage insurance industry, including the type, structure, mix
and pricing of our products and services and our competitors;
|
|
|
|
if we fail to properly underwrite mortgage loans under contract
underwriting service agreements, we may be required to assume
the costs of repurchasing those loans;
|
|
|
|
with consolidation occurring among mortgage lenders and our
concentration of insurance in force generated through
relationships with significant lender customers, our margins may
be compressed and the loss of a significant customer or a change
in their business practices affecting mortgage insurance may
have an adverse effect on our results of operations;
|
|
|
|
our performance may be impacted by changes in the performance of
the financial markets and general economic conditions;
|
|
|
|
economic downturns in regions where our risk is more
concentrated, such as the distressed markets, could have a
particularly adverse effect on our financial condition and loss
development;
|
64
|
|
|
|
|
revisions in risk-based capital rules by the Office of Federal
Housing Enterprise Oversight for the GSEs could severely limit
our ability to compete against various types of credit and our
risk-to-capital
ratio may continue to grow, which could cause us to face adverse
regulatory action, rating agency action or both;
|
|
|
|
further changes in the eligibility guidelines of the GSEs could
have an adverse effect on results of operations and our ability
to conduct our business;
|
|
|
|
proposed regulation by the Department of Housing 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
our results of operations; and
|
|
|
|
our financial and competitive position could be affected by
regulatory activity requiring changes to mortgage industry
business practices, such as captive reinsurance.
|
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 that we file from time
to time with the SEC.
|
|
Item 7A.
|
Quantitative
and Qualitative Disclosures about Market Risk
|
See information in this report under the heading
Managements Discussion and Analysis of Financial
Condition and Results of Operations Market Risk
Exposures, which is incorporated herein by reference.
|
|
Item 8.
|
Financial
Statements and Supplementary Data
|
The Financial Statements and Supplementary Data are presented in
a separate section of this report and are incorporated herein by
reference.
|
|
Item 9.
|
Changes
in and Disagreements with Accountants on Accounting and
Financial Disclosure
|
None.
|
|
Item 9A.
|
Controls
and Procedures
|
Conclusions
Regarding the Effectiveness of Disclosure Controls and
Procedures
Triad Guaranty Inc. maintains disclosure controls and procedures
that are designed to ensure that information required to be
disclosed in its periodic reports to the SEC is recorded,
processed, summarized and reported within the time periods
specified in the SECs rules and forms, and that such
information is accumulated and communicated to Triad Guaranty
Inc.s management, including its Chief Executive Officer
and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure based upon the
definition of disclosure controls and procedures as
defined under
Rules 13a-15(e)
and
15d-15(e) of
the Securities Exchange Act of 1934. In designing and evaluating
the disclosure controls and procedures, management recognized
that any controls and procedures, no matter how well designed
and operated, can provide only reasonable assurance of achieving
the desired control objectives, and management necessarily was
required to apply its judgment to the cost-benefit relationship
of possible controls and procedures.
As of December 31, 2007, an evaluation was performed under
the supervision and with the participation of management,
including the Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the
Companys disclosure controls and procedures. Based upon
that evaluation, management has concluded that disclosure
controls and procedures as of December 31, 2007 were
effective in ensuring that material information required to be
disclosed in this
Form 10-K
was recorded, processed, summarized, and reported on a timely
basis.
65
Changes
in Internal Control over Financial Reporting
There have been no significant changes in Triad Guaranty
Inc.s internal control over financial reporting during the
quarter ended December 31, 2007 that materially affected,
or are reasonably likely to materially affect, the
Companys internal control over financial reporting.
Managements
Annual Report on Internal Control over Financial
Reporting
Management of Triad Guaranty Inc. is responsible for
establishing and maintaining adequate internal control over
financial reporting as defined in
Rules 13a-15(f)
and
15d-15(f)
under the Securities and Exchange Act of 1934. Triad Guaranty
Inc.s internal control over financial reporting is a
process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
accounting principles generally accepted in the United States.
Internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of Triad
Guaranty Inc.; (2) provide reasonable assurance that the
transactions are recorded as necessary to permit preparation of
financial statements in accordance with accounting principles
generally accepted in the United States; (3) provide
reasonable assurance that receipts and expenditures of Triad
Guaranty Inc. are being made in accordance with authorization of
management and directors of Triad Guaranty Inc; and
(4) provide reasonable assurance regarding the prevention
of or timely detection of unauthorized acquisition, use or
disposition of assets that could have a material effect on the
consolidated financial statements. Internal control over
financial reporting includes the controls themselves, monitoring
(including internal auditing practices) and actions taken to
correct deficiencies as identified.
Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
Management assessed the effectiveness of Triad Guaranty
Inc.s internal control over financial reporting as of
December 31, 2007. Management based this assessment on
criteria for effective internal control over financial reporting
described in Internal Control Integrated
Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Based upon this
assessment, management determined that, as of December 31,
2007, Triad Guaranty Inc. maintained effective internal control
over financial reporting. Ernst & Young LLP, the
Companys independent registered public accounting firm,
has audited the Companys internal control over financial
reporting as of December 31, 2007, as stated in their
report which appears below.
66
Report of
Independent Registered Public Accounting Firm on Internal
Control
over Financial Reporting
The Board of Directors and Stockholders of Triad Guaranty
Inc.
We have audited Triad Guaranty Inc.s internal control over
financial reporting as of December 31, 2007, based on
criteria established in Internal Control Integrated
Framework issued by the Committee of Sponsoring Organizations of
the Treadway Commission (the COSO criteria). Triad Guaranty
Inc.s management is responsible for maintaining effective
internal control over financial reporting, and for its
assessment of the effectiveness of internal control over
financial reporting included in the accompanying
Managements Annual Report on Internal Control over
Financial Reporting. Our responsibility is to express an opinion
on the companys internal control over financial reporting
based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control
over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of
internal control over financial reporting, assessing the risk
that a material weakness exists, testing and evaluating the
design and operating effectiveness of internal control based on
the assessed risk, and performing such other procedures as we
considered necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinion.
A companys internal control over financial reporting is a
process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles. A companys
internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions
are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company
are being made only in accordance with authorizations of
management and directors of the company; and (3) provide
reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use, or disposition of the
companys assets that could have a material effect on the
financial statements.
Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
In our opinion, Triad Guaranty Inc. maintained, in all material
respects, effective internal control over financial reporting as
of December 31, 2007, based on the COSO criteria.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
consolidated balance sheets of Triad Guaranty Inc. as of
December 31, 2007 and 2006, and the related consolidated
statements of operations, changes in stockholders equity,
and cash flows for each of the three years in the period ended
December 31, 2007 of Triad Guaranty Inc. and our report
dated March 12, 2008 expressed an unqualified opinion
thereon.
Raleigh, North Carolina
March 12, 2008
67
|
|
Item 9B.
|
Other
Information
|
On March 28, 2008, we and our subsidiaries and affiliates
entered into a new employment agreement with Kenneth C. Foster
(the New Foster Agreement) that amended, restated
and replaced in its entirety that certain Employment Agreement
between Triad Guaranty Insurance Corporation and
Mr. Foster, dated as of June 14, 2002. The New Foster
Agreement, among other things, (i) provides for the
resignation of Mr. Foster as an officer of us and our
subsidiaries effective June 30, 2008, (ii) provides
that Mr. Fosters full-time employment with us and our
subsidiaries will cease effective as of June 30, 2008,
(iii) provides for the employment of Mr. Foster as a
permanent part-time employee for a period beginning on
July 1, 2008 and terminating on June 30, 2010 (the
Employment Period), unless terminated earlier
pursuant to cause as such term is defined in the New
Foster Agreement, (iv) requires that Mr. Foster be
available for up to 10 days per month for work that is of a
comparable nature to work that has been, or is currently being,
performed by Mr. Foster for us or our subsidiaries, for
which he will receive the sum of $20,000 per month during the
Employment Period, (v) provides for subsidized COBRA
premiums for 18 months beginning July 1, 2008 and for
Mr. Fosters continued participation in our
tax-qualified 401(k) plan, (vi) provides for continued
vesting of unvested equity until the expiration of the
Employment Period, and (vii) provides for certain
confidentiality, non-solicitation, non-competition and
non-disparagement covenants.
Our Employment Agreement, dated September 5, 2005, as
amended, with Mark K. Tonnesen, our President and Chief
Executive Officer, provides for automatic renewals of the
Agreement for successive six-month terms, unless notice of
non-renewal is given at least one year prior to the beginning of
the next successive six-month term. Under this provision, the
term of the Agreement currently expires on March 31, 2009.
On March 28, 2008, we gave notice to Mr. Tonnesen that
the Employment Agreement will not automatically renew for any
six-month term beyond March 31, 2009, the current
expiration date. We are currently engaged in negotiations with
Mr. Tonnesen regarding amendments to his Employment
Agreement.
PART III
|
|
Item 10.
|
Directors,
Executive Officers and Corporate Governance
|
Certain information called for by this Item is included in our
Proxy Statement for the 2008 Annual Meeting of Stockholders
under the headings Election of Directors,
Principal Holders of Common Stock and
Corporate Governance, and is hereby incorporated by
reference.
For information regarding our executive officers, reference is
made to the section entitled Executive Officers in
Part I, Item 1 of this Report.
Code of Ethics
The Board of Directors has adopted a Code of Ethics for the
Companys principal executive and senior financial
officers. This Code supplements the Companys Code of
Conduct applicable to all employees and directors and is
intended to promote honest and ethical conduct, full and
accurate reporting, and compliance with laws as well as other
matters. Both of these documents can be found on the
Companys website at
http://www.triadguaranty.com
on the Corporate Governance page or will be provided free of
charge upon written request.
|
|
Item 11.
|
Executive
Compensation
|
Information called for by this Item is included in our Proxy
Statement for the 2008 Annual Meeting of Stockholders under the
headings Executive Compensation, Director
Compensation and Corporate Governance, and is
hereby incorporated by reference.
|
|
Item 12.
|
Security
Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
|
Information called for by this Item is included in our Proxy
Statement for the 2008 Annual Meeting of Stockholders under the
headings Equity Compensation Plan Information and
Principal Holders of Common Stock, and is hereby
incorporated by reference.
68
|
|
Item 13.
|
Certain
Relationships and Related Transactions, and Director
Independence
|
Information called for by this Item is included in our Proxy
Statement for the 2008 Annual Meeting of Stockholders under the
headings Certain Transactions and Corporate
Governance, and is hereby incorporated by reference.
|
|
Item 14.
|
Principal
Accounting Fees and Services
|
Information called for by this Item is included in our Proxy
Statement for the 2008 Annual Meeting of Stockholders under the
heading Relationships with Independent Public
Accountants, and is hereby incorporated by reference.
PART IV
|
|
Item 15.
|
Exhibits,
Financial Statement Schedules
|
(a) (1) and (2) The response to this portion of
Item 15 is submitted as a separate section of this report
and is incorporated herein by reference.
(a) (3) Listing of Exhibits The response
to this portion of Item 15 is submitted as the
Exhibit Index of this report and is
incorporated herein by reference.
(b) Exhibits Please see Exhibit Index.
(c) Financial Statement Schedules The response
to this portion of Item 15 is submitted as a separate
section of this report and is incorporated herein by reference.
69
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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 on the
1st day
of April, 2008.
Mark K. Tonnesen
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of
1934, this report has been signed below on the
1st day
of April, 2008 by the following persons on behalf of the
registrant and in the capacities indicated.
|
|
|
|
|
Signature
|
|
Title
|
|
|
|
|
/s/ William
T. Ratliff, III
William
T. Ratliff, III
|
|
Chairman of the Board
|
|
|
|
/s/ Mark
K. Tonnesen
Mark
K. Tonnesen
|
|
President, Chief Executive Officer, and Director
(Principal Executive Officer)
|
|
|
|
/s/ Kenneth
W. Jones
Kenneth
W. Jones
|
|
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
|
|
|
|
/s/ Kenneth
S. Dwyer
Kenneth
S. Dwyer
|
|
Vice President and Chief Accounting Officer
(Principal Accounting Officer)
|
|
|
|
/s/ Glenn
T. Austin, Jr.
Glenn
T. Austin, Jr.
|
|
Director
|
|
|
|
/s/ Robert
T. David
Robert
T. David
|
|
Director
|
|
|
|
/s/ H.
Lee Durham, Jr.
H.
Lee Durham, Jr.
|
|
Director
|
|
|
|
/s/ Richard
S. Swanson
Richard
S. Swanson
|
|
Director
|
|
|
|
/s/ David
W. Whitehurst
David
W. Whitehurst
|
|
Director
|
|
|
|
/s/ Henry
G. Williamson, Jr.
Henry
G. Williamson, Jr.
|
|
Director
|
70
ANNUAL
REPORT ON
FORM 10-K
ITEM 8,
ITEM 15(a)(1) and (2), (3), (b), and (c)
INDEX TO
CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
INDEX TO
EXHIBITS
CONSOLIDATED
FINANCIAL STATEMENTS
FINANCIAL
STATEMENT SCHEDULES
CERTAIN
EXHIBITS
YEAR
ENDED DECEMBER 31, 2007
TRIAD
GUARANTY INC.
WINSTON-SALEM,
NORTH CAROLINA
71
INDEX TO
CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULES
(Item 15(a)
(1) and (2))
|
|
|
|
|
|
|
Page
|
|
Consolidated Financial Statements
|
|
|
|
|
|
|
|
73
|
|
|
|
|
74
|
|
|
|
|
75
|
|
|
|
|
76
|
|
|
|
|
77
|
|
|
|
|
78
|
|
Financial Statement Schedules
|
|
|
|
|
Schedules at and for each of the three years in the period ended
December 31, 2007
|
|
|
|
|
|
|
|
94
|
|
|
|
|
95
|
|
|
|
|
100
|
|
All other schedules are omitted since the required information
is not present or is not present in amounts sufficient to
require submission of the schedules, or because the information
required is included in the consolidated financial statements
and notes thereto.
72
Report of
Independent Registered Public Accounting Firm
The Board of Directors and Stockholders of Triad Guaranty
Inc.
We have audited the accompanying consolidated balance sheets of
Triad Guaranty Inc. as of December 31, 2007 and 2006, and
the related consolidated statements of operations, changes in
stockholders equity, and cash flows for each of the three
years in the period ended December 31, 2007. Our audits
also included the financial statement schedules listed in the
Index at item 15(a). These financial statements and
schedules are the responsibility of the Companys
management. Our responsibility is to express an opinion on these
financial statements and schedules based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above
present fairly, in all material respects, the consolidated
financial position of Triad Guaranty Inc. at December 31,
2007 and 2006, and the consolidated results of its operations
and its cash flows for each of the three years in the period
ended December 31, 2007 in conformity with
U.S. generally accepted accounting principles. Also, in our
opinion, the related financial statement schedules, when
considered in relation to the basic financial statements taken
as a whole, present fairly in all material respects the
information set forth therein.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), Triad
Guaranty Inc.s internal control over financial reporting
as of December 31, 2007, based on criteria established in
Internal Control Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission
and our report dated March 12, 2008 expressed an
unqualified opinion thereon.
Raleigh, North Carolina
March 12, 2008
73
TRIAD
GUARANTY INC.
CONSOLIDATED
BALANCE SHEETS
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(Dollars in thousands, except per share data)
|
|
|
ASSETS
|
Invested assets:
|
|
|
|
|
|
|
|
|
Securities
available-for-sale,
at fair value:
|
|
|
|
|
|
|
|
|
Fixed maturities (amortized cost: $710,924 and $568,992)
|
|
$
|
725,631
|
|
|
$
|
586,594
|
|
Equity securities (cost: $2,520 and $9,530)
|
|
|
2,162
|
|
|
|
10,417
|
|
Other investments
|
|
|
|
|
|
|
5,000
|
|
Short-term investments
|
|
|
56,746
|
|
|
|
5,301
|
|
|
|
|
|
|
|
|
|
|
Total invested assets
|
|
|
784,539
|
|
|
|
607,312
|
|
Cash and cash equivalents
|
|
|
124,811
|
|
|
|
38,609
|
|
Real estate acquired in claim settlement
|
|
|
10,860
|
|
|
|
10,170
|
|
Accrued investment income
|
|
|
10,246
|
|
|
|
8,054
|
|
Deferred policy acquisition costs
|
|
|
36,243
|
|
|
|
35,143
|
|
Prepaid federal income taxes
|
|
|
116,008
|
|
|
|
166,908
|
|
Property and equipment, at cost less accumulated depreciation
(2007 $23,458; 2006 $21,160)
|
|
|
11,421
|
|
|
|
7,678
|
|
Reinsurance recoverable, net
|
|
|
5,815
|
|
|
|
841
|
|
Other assets
|
|
|
32,910
|
|
|
|
20,916
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
1,132,853
|
|
|
$
|
895,631
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY
|
Liabilities:
|
|
|
|
|
|
|
|
|
Losses and loss adjustment expenses
|
|
$
|
359,939
|
|
|
$
|
84,352
|
|
Unearned premiums
|
|
|
17,793
|
|
|
|
13,193
|
|
Amounts payable to reinsurers
|
|
|
6,525
|
|
|
|
5,909
|
|
Deferred income taxes
|
|
|
123,297
|
|
|
|
176,483
|
|
Revolving line of credit
|
|
|
80,000
|
|
|
|
|
|
Long-term debt
|
|
|
34,519
|
|
|
|
34,510
|
|
Accrued interest on debt
|
|
|
1,355
|
|
|
|
1,275
|
|
Accrued expenses and other liabilities
|
|
|
10,574
|
|
|
|
9,685
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
|
|
634,002
|
|
|
|
325,407
|
|
Commitments and contingencies Notes 5 and 15
|
|
|
|
|
|
|
|
|
Stockholders equity:
|
|
|
|
|
|
|
|
|
Preferred stock, par value $0.01 per share
authorized 1,000,000
|
|
|
|
|
|
|
|
|
shares; no shares issued and outstanding
|
|
|
|
|
|
|
|
|
Common stock, par value $0.01 per share authorized
32,000,000
|
|
|
|
|
|
|
|
|
shares; issued and outstanding 14,920,243 shares at
December 31,
|
|
|
|
|
|
|
|
|
2007 and 14,856,401 shares at December 31, 2006
|
|
|
149
|
|
|
|
149
|
|
Additional paid-in capital
|
|
|
109,679
|
|
|
|
104,981
|
|
Accumulated other comprehensive income, net of income tax
liability
|
|
|
|
|
|
|
|
|
of $6,475 at December 31, 2007 and $6,471 at
December 31, 2006
|
|
|
13,405
|
|
|
|
12,018
|
|
Retained earnings
|
|
|
375,618
|
|
|
|
453,076
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity
|
|
|
498,851
|
|
|
|
570,224
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders equity
|
|
$
|
1,132,853
|
|
|
$
|
895,631
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes.
74
TRIAD
GUARANTY INC.
CONSOLIDATED
STATEMENTS OF OPERATIONS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands, except per share data)
|
|
|
Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
Premiums written:
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct
|
|
$
|
339,007
|
|
|
$
|
256,706
|
|
|
$
|
207,260
|
|
Ceded
|
|
|
(55,784
|
)
|
|
|
(46,140
|
)
|
|
|
(40,644
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net premiums written
|
|
|
283,223
|
|
|
|
210,566
|
|
|
|
166,616
|
|
Change in unearned premiums
|
|
|
(4,323
|
)
|
|
|
290
|
|
|
|
2,381
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums
|
|
|
278,900
|
|
|
|
210,856
|
|
|
|
168,997
|
|
Net investment income
|
|
|
32,936
|
|
|
|
26,696
|
|
|
|
22,998
|
|
Net realized investment gains (losses)
|
|
|
(3,049
|
)
|
|
|
1,584
|
|
|
|
36
|
|
Other income
|
|
|
8
|
|
|
|
8
|
|
|
|
15
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
308,795
|
|
|
|
239,144
|
|
|
|
192,046
|
|
Losses and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net losses and loss adjustment expenses
|
|
|
372,939
|
|
|
|
94,227
|
|
|
|
66,855
|
|
Interest expense on debt
|
|
|
4,375
|
|
|
|
2,774
|
|
|
|
2,773
|
|
Amortization of deferred policy acquisition costs
|
|
|
18,497
|
|
|
|
16,268
|
|
|
|
14,902
|
|
Other operating expenses (net of acquisition costs deferred)
|
|
|
43,628
|
|
|
|
35,556
|
|
|
|
29,610
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
439,439
|
|
|
|
148,825
|
|
|
|
114,140
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes (benefit)
|
|
|
(130,644
|
)
|
|
|
90,319
|
|
|
|
77,906
|
|
Income taxes (benefit):
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
(5
|
)
|
|
|
4,078
|
|
|
|
2,805
|
|
Deferred
|
|
|
(53,181
|
)
|
|
|
20,606
|
|
|
|
18,288
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(53,186
|
)
|
|
|
24,684
|
|
|
|
21,093
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(77,458
|
)
|
|
$
|
65,635
|
|
|
$
|
56,813
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) earnings per common and common equivalent share:
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
(5.22
|
)
|
|
$
|
4.44
|
|
|
$
|
3.87
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
|
|
$
|
(5.22
|
)
|
|
$
|
4.40
|
|
|
$
|
3.84
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in computing (loss) earnings per common and
common equivalent share:
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
14,829,205
|
|
|
|
14,769,859
|
|
|
|
14,691,478
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
|
|
|
14,829,205
|
|
|
|
14,912,519
|
|
|
|
14,808,387
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes.
75
TRIAD
GUARANTY INC.
CONSOLIDATED
STATEMENTS OF CHANGES IN STOCKHOLDERS EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
Other
|
|
|
|
|
|
|
|
|
|
|
|
|
Common
|
|
|
Paid-In
|
|
|
Comprehensive
|
|
|
Deferred
|
|
|
Retained
|
|
|
|
|
|
|
Stock
|
|
|
Capital
|
|
|
Income
|
|
|
Compensation
|
|
|
Earnings
|
|
|
Total
|
|
|
|
(Dollars in thousands, except per share data)
|
|
|
Balance at January 1, 2005
|
|
$
|
146
|
|
|
$
|
94,852
|
|
|
$
|
13,218
|
|
|
$
|
(1,501
|
)
|
|
$
|
330,628
|
|
|
$
|
437,343
|
|
Net Income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
56,813
|
|
|
|
56,813
|
|
Other comprehensive income net of tax:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in unrealized gains on investments
|
|
|
|
|
|
|
|
|
|
|
(2,112
|
)
|
|
|
|
|
|
|
|
|
|
|
(2,112
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,112
|
)
|
Comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
54,701
|
|
Tax effect of exercise of non-qualified stock options and
vesting of restricted stock
|
|
|
|
|
|
|
2,090
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,090
|
|
Net issuance of restricted stock under stock incentive plan
|
|
|
|
|
|
|
3,448
|
|
|
|
|
|
|
|
(3,448
|
)
|
|
|
|
|
|
|
|
|
Issuance of common stock under stock incentive plan
|
|
|
2
|
|
|
|
3,267
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,269
|
|
Amortization of deferred compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,788
|
|
|
|
|
|
|
|
1,788
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2005
|
|
|
148
|
|
|
|
103,657
|
|
|
|
11,106
|
|
|
|
(3,161
|
)
|
|
|
387,441
|
|
|
|
499,191
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
65,635
|
|
|
|
65,635
|
|
Other comprehensive
income-net
of tax Change in unrealized gains on investments
|
|
|
|
|
|
|
|
|
|
|
912
|
|
|
|
|
|
|
|
|
|
|
|
912
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
912
|
|
Comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
66,547
|
|
Adoption of FAS 123(R)
|
|
|
|
|
|
|
(3,161
|
)
|
|
|
|
|
|
|
3,161
|
|
|
|
|
|
|
|
|
|
Share-based compensation
|
|
|
|
|
|
|
3,476
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,476
|
|
Tax effect of exercise of non-qualified stock options and
vesting of restricted stock
|
|
|
|
|
|
|
263
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
263
|
|
Net issuance of restricted stock under stock incentive plan
|
|
|
1
|
|
|
|
(1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of common stock under stock incentive plan
|
|
|
|
|
|
|
747
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
747
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2006
|
|
|
149
|
|
|
|
104,981
|
|
|
|
12,018
|
|
|
|
|
|
|
|
453,076
|
|
|
|
570,224
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(77,458
|
)
|
|
|
(77,458
|
)
|
Other comprehensive
income-net
of tax
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in unrealized gains on investments
|
|
|
|
|
|
|
|
|
|
|
(2,691
|
)
|
|
|
|
|
|
|
|
|
|
|
(2,691
|
)
|
Foreign currency translation adjustment
|
|
|
|
|
|
|
|
|
|
|
4,078
|
|
|
|
|
|
|
|
|
|
|
|
4,078
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,387
|
|
Comprehensive loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(76,071
|
)
|
Share-based compensation
|
|
|
|
|
|
|
3,918
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,918
|
|
Tax effect of exercise of non-qualified stock options and
vesting of restricted stock
|
|
|
|
|
|
|
164
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
164
|
|
Issuance of common stock under stock incentive plan
|
|
|
|
|
|
|
616
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
616
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2007
|
|
$
|
149
|
|
|
$
|
109,679
|
|
|
$
|
13,405
|
|
|
$
|
|
|
|
$
|
375,618
|
|
|
$
|
498,851
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes.
76
TRIAD
GUARANTY INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Operating activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(77,458
|
)
|
|
$
|
65,635
|
|
|
$
|
56,813
|
|
Adjustments to reconcile net income to net cash provided by
operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Losses, loss adjustment expenses and unearned premium reserves
|
|
|
280,187
|
|
|
|
32,977
|
|
|
|
14,584
|
|
Accrued expenses and other liabilities
|
|
|
889
|
|
|
|
1,716
|
|
|
|
1,421
|
|
Amounts payable to reinsurer
|
|
|
616
|
|
|
|
1,099
|
|
|
|
343
|
|
Accrued investment income
|
|
|
(2,192
|
)
|
|
|
(817
|
)
|
|
|
(1,008
|
)
|
Policy acquisition costs deferred
|
|
|
(19,597
|
)
|
|
|
(17,727
|
)
|
|
|
(16,133
|
)
|
Amortization of deferred policy acquisition costs
|
|
|
18,497
|
|
|
|
16,268
|
|
|
|
14,902
|
|
Net realized investment losses (gains)
|
|
|
3,049
|
|
|
|
(1,584
|
)
|
|
|
(36
|
)
|
Provision for depreciation
|
|
|
2,309
|
|
|
|
2,531
|
|
|
|
3,456
|
|
Accretion of discount on investments
|
|
|
680
|
|
|
|
130
|
|
|
|
(118
|
)
|
Deferred income taxes
|
|
|
(53,181
|
)
|
|
|
20,606
|
|
|
|
18,288
|
|
Prepaid federal income taxes
|
|
|
50,900
|
|
|
|
(27,443
|
)
|
|
|
(20,333
|
)
|
Real estate acquired in claim settlement, net of write-downs
|
|
|
(690
|
)
|
|
|
(4,449
|
)
|
|
|
(5,510
|
)
|
Accrued interest on debt
|
|
|
80
|
|
|
|
|
|
|
|
|
|
Other assets
|
|
|
(16,968
|
)
|
|
|
(4,141
|
)
|
|
|
96
|
|
Other operating activities
|
|
|
3,955
|
|
|
|
3,645
|
|
|
|
4,082
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
|
191,076
|
|
|
|
88,446
|
|
|
|
70,847
|
|
Investing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchases fixed maturities
|
|
|
(298,992
|
)
|
|
|
(172,782
|
)
|
|
|
(130,475
|
)
|
Sales fixed maturities
|
|
|
155,295
|
|
|
|
116,101
|
|
|
|
35,900
|
|
Maturities fixed maturities
|
|
|
1,715
|
|
|
|
6,386
|
|
|
|
11,715
|
|
Purchases equities
|
|
|
(55
|
)
|
|
|
(4,805
|
)
|
|
|
|
|
Sales equities
|
|
|
8,338
|
|
|
|
3,183
|
|
|
|
1,853
|
|
Purchases of other investments
|
|
|
|
|
|
|
(5,000
|
)
|
|
|
|
|
Net change in short-term investments
|
|
|
(51,445
|
)
|
|
|
(505
|
)
|
|
|
7,724
|
|
Purchases of property and equipment
|
|
|
(6,052
|
)
|
|
|
(2,382
|
)
|
|
|
(2,339
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in investing activities
|
|
|
(191,196
|
)
|
|
|
(59,804
|
)
|
|
|
(75,622
|
)
|
Financing activities
|
|
|
|
|
|
|
|
|
|
|
|
|
Borrowings under revolving credit facility
|
|
|
80,000
|
|
|
|
|
|
|
|
|
|
Excess tax benefits from share-based compensation
|
|
|
175
|
|
|
|
286
|
|
|
|
|
|
Proceeds from exercise of stock options
|
|
|
616
|
|
|
|
747
|
|
|
|
3,269
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities
|
|
|
80,791
|
|
|
|
1,033
|
|
|
|
3,269
|
|
Foreign currency translation adjustment on cash and cash
equivalents
|
|
|
5,531
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents
|
|
|
86,202
|
|
|
|
29,675
|
|
|
|
(1,506
|
)
|
Cash and cash equivalents at beginning of period
|
|
|
38,609
|
|
|
|
8,934
|
|
|
|
10,440
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period
|
|
$
|
124,811
|
|
|
$
|
38,609
|
|
|
$
|
8,934
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental schedule of cash flow information
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash (received) paid during the period for:
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes and United States Mortgage Guaranty Tax and Loss
Bonds
|
|
$
|
(45,614
|
)
|
|
$
|
34,454
|
|
|
$
|
24,733
|
|
Interest
|
|
$
|
4,286
|
|
|
$
|
2,765
|
|
|
$
|
2,765
|
|
See accompanying notes.
77
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2007
Nature
of Business
Triad Guaranty Inc. is a holding company which, through its
wholly-owned subsidiary, Triad Guaranty Insurance Corporation
(Triad), provides mortgage insurance coverage in the
United States. This allows buyers to achieve homeownership with
a reduced down payment, facilitates the sale of mortgage loans
in the secondary market and protects lenders from credit
default-related expenses. Another wholly owned subsidiary, Triad
Guaranty Insurance Corporation Canada (TGICC), was formed
in 2007 for the purpose of exploring opportunities for providing
mortgage insurance in Canada. TGICC did not write any business
and only had
start-up
expenses in 2007. See Note 16 Subsequent Event regarding
TGICC. Triad Guaranty Inc. and its subsidiaries are collectively
referred to as the Company.
Basis
of Presentation
The accompanying consolidated financial statements have been
prepared in conformity with United States generally accepted
accounting principles (GAAP), which vary in some respects from
statutory accounting practices which are prescribed or permitted
by the various state insurance departments in the United States
or GAAP in Canada.
Consolidation
The consolidated financial statements include the amounts of
Triad Guaranty Inc. and its wholly owned subsidiaries, TGICC and
Triad, including Triads wholly-owned subsidiaries, Triad
Guaranty Assurance Corporation (TGAC) and Triad Re
Insurance Corporation (Triad Re). All significant
intercompany accounts and transactions have been eliminated.
Use of
Estimates
The preparation of the consolidated financial statements in
conformity with GAAP requires management to make estimates and
assumptions that affect the amounts reported in the consolidated
financial statements and accompanying notes. Actual results
could differ from those estimates.
Investments
All fixed maturity and equity securities are classified as
available-for-sale and are carried at fair value.
Unrealized gains and losses on available-for-sale securities,
net of tax, are reported as a separate component of accumulated
other comprehensive income. Fair value generally represents
quoted market value prices for securities traded in the public
market or prices analytically determined using bid or closing
prices for securities not traded in the public marketplace.
Realized investment gains or losses are determined on a specific
identification basis. The Company evaluates its investments
regularly to determine whether there are declines in value that
are other than temporary. When the Company determines that a
security has experienced an other-than-temporary impairment, the
impairment loss is recognized in the period as a realized
investment loss.
Other investments in the prior year represented an investment in
an equity security for which there was no readily determinable
market value and was stated at fair value. During 2007, we
determined that the entire other investment category was
other-than-temporarily impaired and wrote off the entire balance.
Short-term investments are defined as short-term, highly liquid
investments both readily convertible to known amounts of cash
and having maturities of twelve months or less upon acquisition
by the Company and are not used to fund operational cash flows
of the Company.
78
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Cash
and Cash Equivalents
The Company considers cash equivalents to be short-term, highly
liquid investments with original maturities of three months or
less that are used to fund operational cash flow needs.
Real
Estate Acquired in Claim Settlement
Real estate is sometimes acquired in the settlement of claims as
part of the Companys effort to mitigate losses. The real
estate is carried at the lower of cost or net realizable value.
Gains or losses from the holding or disposition of real estate
acquired in claim settlement are recorded in net losses and LAE.
At December 31, 2007 and 2006, the Company held 57 and 68
properties, respectively, that it acquired in settlement of
claims.
Deferred
Policy Acquisition Costs
The costs of acquiring new business, principally sales
compensation and certain policy underwriting and issue costs,
that are primarily related to the production of new business,
are capitalized as deferred policy acquisition costs.
Amortization of such policy acquisition costs is charged to
expense in proportion to premiums recognized over the estimated
policy life. The most significant judgment that the Company
makes related to deferred policy acquisition costs is the
estimated life of the asset.
The Company reviews the persistency of policies in force and
makes appropriate adjustments to the amortization of deferred
policy acquisition costs to reflect actual policy cancellations.
The Company prepares an analysis to determine if the deferred
policy acquisition costs on our balance sheet are recoverable
against the future profits of the existing book of business. The
critical assumptions utilized by the Company in this process is
the persistency of future premium stream and the amount and
timing of paid losses. The Company makes its best estimate of
the persistency and future claim pattern based upon the
information available at the time. Because these estimates of
persistency and the amount and timing of claims paid are
sensitive to future economic events, these estimates may change
in the future.
Property
and Equipment
Property and equipment is recorded at cost and is depreciated
principally on a straight-line basis over the estimated useful
lives, generally three to five years, of the depreciable assets.
Property and equipment primarily consists of computer hardware,
software, furniture, and equipment.
Loss
and Loss Adjustment Expense Reserves
Reserves are provided for the estimated costs of settling claims
on loans reported in default and loans in default that are in
the process of being reported to the Company. Consistent with
industry accounting practices, the Company does not establish
loss reserves for future claims on insured loans that are not
currently in default. Amounts for salvage recoverable are
considered in the determination of the reserve estimates. Loss
reserves are established by management using a process that
incorporates various components in a model that gives effect to
current economic conditions and segments defaults by a variety
of criteria. The criteria, include, among others, policy year,
lender, geography and the number of months and number of times
the policy has been in default, as well as whether the defaulted
loan was underwritten through our flow distribution channel or
as part of a structured bulk transaction.
Frequency and severity are the two most significant assumptions
in the establishment of the Companys loss reserves.
Frequency is used to estimate the ultimate number of paid claims
associated with the current defaulted loans. The frequency
estimate assumes that long-term historical experience, taking
into consideration criteria such as those described in the
preceding paragraph, and adjusted for current economic
conditions that the Company believes will significantly impact
the long-term loss development, provides a reasonable basis for
forecasting the number of claims that will be paid. Severity is
the estimate of the dollar amount per claim that will be paid.
The
79
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
severity factors are estimates of the percent of the risk in
force that will be paid. The severity factors used are based on
an analysis of the severity rates of recently paid claims,
applied to the risk in force of the loans currently in default.
The frequency and severity factors are updated quarterly.
The estimation of loss reserves requires assumptions as to
future events, and there are inherent risks and uncertainties
involved in making these assumptions. Economic conditions that
have affected the development of loss reserves in the past may
not necessarily affect development patterns in the future in
either a similar manner or degree. As adjustments to these
liabilities become necessary, such adjustments are reflected in
current operations.
Reinsurance
Certain premiums and losses are assumed from and ceded to other
insurance companies under various reinsurance agreements.
Reinsurance premiums, loss reimbursement, and reserves related
to reinsurance business are accounted for on a basis consistent
with that used in accounting for the original policies issued
and the terms of the reinsurance contracts. The Company may
receive a ceding commission in connection with ceded
reinsurance. If so, the ceding commission is earned on a monthly
pro rata basis in the same manner as the premium and is recorded
as a reduction of other operating expenses.
Income
Taxes
The Company uses the asset and liability method of accounting
for income taxes. Under the asset and liability method, deferred
tax assets and deferred tax liabilities are recognized for the
future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets
and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect
on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the
enactment date.
Federal tax law permits mortgage guaranty insurance companies to
deduct from taxable income, subject to certain limitations, the
amounts added to contingency loss reserves. Generally, the
amounts so deducted must be included in taxable income in the
tenth subsequent year. This deduction is allowed only to the
extent that non-interest bearing United States Mortgage Guaranty
Tax and Loss Bonds are purchased and held in an amount equal to
the tax benefit attributable to such deduction. The Company
accounts for these purchases as a prepayment of federal income
taxes. Current income tax expense in the prior years is
primarily associated with the addition to taxable income of the
contingency reserve deduction from ten years prior. As a result
of operating losses for 2007, the previously established
contingency reserve was released earlier than the scheduled ten
years in an amount that offset the operating loss. Accordingly,
the previously purchased Tax and Loss Bonds associated with the
contingency reserve release were redeemed early.
In July 2006, the FASB issued FASB Interpretation No. 48,
Accounting for Uncertainty in Income Taxes an
interpretation of FASB Statement No. 109
(FIN 48), which clarifies the accounting and
disclosure for uncertainty in tax positions. FIN 48 seeks
to reduce the diversity in practice associated with certain
aspects of the recognition and measurement related to accounting
for income taxes. The Company was subject to the provisions of
FIN 48 as of January 1, 2007, and has analyzed tax
positions in its filed income tax returns. The only periods
subject to examination for the Companys federal returns
are the 2003 through 2006 tax years. In January 2007, the
Company received a final notice from the Internal Revenue
Service stating that the examination of its 2004 tax return was
completed and no changes were made to the Companys
reported tax. The Company believes that its income and deduction
filing positions in the remaining open tax years would be
sustained if subject to audit and does not anticipate any
adjustments that will result in a material change in its
financial position. Therefore, no reserves for uncertain income
tax positions have been recorded pursuant to FIN 48. In
addition, the Company did not record a cumulative effect
adjustment related to the adoption of FIN 48.
80
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The Companys policy for recording interest and penalties,
if any, associated with audits is to record such items as a
component of income before taxes. Penalties would be recorded in
other operating expenses and interest paid or
received would be recorded as interest expense or interest
income, respectively, in the statement of income.
Income
Recognition
The Company writes policies that are guaranteed renewable
contracts at the policyholders option on single premium,
annual premium, and monthly premium bases. The Company does not
have the option to re-underwrite these contracts. Premiums
written on a monthly basis are earned in the month coverage is
provided. Premiums written on annual policies are earned on a
monthly pro rata basis. Single premium policies covering more
than one year are amortized over the estimated policy life in
accordance with the expiration of risk.
Cancellation of a policy generally results in the unearned
portion of the premium paid being refunded to the policyholder.
However, many of the annual paying policies are paid by the
lender and are non-refundable. The cancellation of one of these
policies would impact earned premium through the release of the
unearned premium reserve at the time of the cancellation. The
amounts earned through the cancellation of annual paying
policies are not significant to earned premium.
Significant
Customers
During 2007, three customers individually accounted for greater
than 10% of total revenues. These three customers accounted for
approximately 22%, 13% and 10%, respectively, of the
Companys total 2007 revenue. In 2006, two of these same
customers accounted for approximately 17% and 11% of total 2006
revenue.
Share-Based
Compensation
On January 1, 2006, the Company adopted the provisions of
SFAS 123(R), Share-Based Payment
(SFAS 123(R)). SFAS 123(R) sets accounting
requirements for share-based compensation to
employees and non-employee directors, including employee stock
purchase plans, and requires companies to recognize in the
statement of operations the grant-date fair value of stock
options and other equity-based compensation.
The Company chose the modified-prospective transition
alternative in adopting SFAS 123(R). Under this transition
method, compensation cost is recognized in financial statements
issued subsequent to the date of adoption for all stock-based
payments granted, modified or settled after the date of
adoption, as well as for any unvested awards that were granted
prior to the date of adoption.
Foreign
Currency Translation
Assets denominated in
non-U.S. dollar
currencies are translated into U.S. dollar equivalents
using exchange rates at December 31. Revenues and expenses
are translated at weighted-average exchange rates for the period
in which they occurred. Gains and losses on currency
re-measurement represent the revaluation of assets and
liabilities denominated in non-functional currency to the
functional currency, the U.S. dollar and are recorded in
net realized investment gains (losses).
(Loss) Earnings
Per Share (EPS)
Basic and diluted EPS are based on the weighted-average daily
number of shares outstanding. For the year ended
December 31, 2007, the basic and diluted EPS denominator
are the same weighted-average daily number of shares
outstanding. In computing diluted EPS, only potential common
shares that are dilutive those that reduce EPS or
increase loss per share are included. Exercise of
options and unvested restricted stock are not assumed if the
result would be antidilutive, such as when a loss from
operations is reported. For the years ended December 31,
2006 and 2005, the denominator includes the dilutive effect of
stock options and unvested restricted stock on the
weighted-average shares outstanding. The numerator used in basic
EPS and diluted EPS is the same for all periods
81
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
presented. At December 31, 2006 and 2005, options to
purchase approximately 35,000 and 107,000, respectively, of the
Companys stock were excluded from the calculation of EPS
because they were antidilutive.
Comprehensive
(Loss) Income
Comprehensive (loss) income consists of net (loss) income and
other comprehensive (loss) income. For the Company, other
comprehensive (loss) income is composed of unrealized gains or
losses on available-for-sale securities, net of income tax, and
the unrealized gains or losses on the change in foreign currency
translation, net of income taxes. The components of
comprehensive (loss) income are displayed in the following
table, along with the related tax effects:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Unrealized gains (losses) arising during the period, before taxes
|
|
$
|
(7,189
|
)
|
|
$
|
2,988
|
|
|
$
|
(3,213
|
)
|
Income tax (expense) benefit
|
|
|
2,516
|
|
|
|
(1,046
|
)
|
|
|
1,124
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized gains (losses) arising during the period, net of taxes
|
|
|
(4,673
|
)
|
|
|
1,942
|
|
|
|
(2,089
|
)
|
Less reclassification adjustment:
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) Gains realized in net income
|
|
|
(3,049
|
)
|
|
|
1,584
|
|
|
|
36
|
|
Income tax (expense) benefit
|
|
|
1,067
|
|
|
|
(554
|
)
|
|
|
(13
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reclassification adjustment for gains realized in net income
|
|
|
(1,982
|
)
|
|
|
1,030
|
|
|
|
23
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in unrealized gains (losses) on investments
|
|
|
(2,691
|
)
|
|
|
912
|
|
|
|
(2,112
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustment, before taxes
|
|
|
5,531
|
|
|
|
|
|
|
|
|
|
Income tax (expense) benefit
|
|
|
(1,453
|
)(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustment, after taxes
|
|
|
4,078
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income (loss)
|
|
$
|
1,387
|
|
|
$
|
912
|
|
|
$
|
(2,112
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Tax effect calculated from unrealized gain on subsidiary of
$4,151,000. |
Recent
Accounting Pronouncements
In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements (SFAS 157),
which defines fair value, establishes a framework for measuring
fair value in generally accepted accounting principles, and
expands disclosures about fair value measurements. SFAS 157
is effective for the Company beginning January 1, 2008 and
is not expected to have a material impact on the Companys
financial position or results of operations.
In February 2007, the FASB issued SFAS No. 159, The
Fair Value Option for Financial Assets and Financial
Liabilities Including an Amendment of FASB Statement
No. 115. (SFAS 159), which allows
companies to choose to measure certain financial assets and
liabilities at fair value that are not currently required to be
measured at fair value. SFAS 159 also establishes
presentation and disclosure requirements designed to facilitate
comparisons between entities that choose different measurement
attributes for similar types of assets and liabilities.
SFAS 159 is effective for the Company beginning
January 1, 2008. The Company has evaluated the potential
impact of adopting SFAS 159 and has chosen not to designate
any assets or liabilities to be recorded at fair value under
this standard.
In December 2007, the FASB issued SFAS 160,
Noncontrolling Interests in Consolidated Financial
Statements an amendment of ARB No. 51
(SFAS 160). This statement establishes
accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a
subsidiary. This statement is effective prospectively, except
for certain retrospective disclosure requirements, for fiscal
years beginning after December 15, 2008. This statement
will be effective for the Company beginning January 1,
2009. The Company does not anticipate SFAS 160 will have a
material impact on the Companys financial position or
results of operations.
82
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
In December 2007, the FASB issued SFAS 141(R), Business
Combinations a replacement of FASB Statement
No. 141 (SFAS 141(R)), which
significantly changes the principles and requirements for how
the acquirer of a business recognizes and measures in its
financial statements the identifiable assets acquired, the
liabilities assumed, and any noncontrolling interest in the
acquiree. The statement also provides guidance for recognizing
and measuring the goodwill acquired in the business combination
and determines what information to disclose to enable users of
the financial statements to evaluate the nature and financial
effects of the business combination. This statement is effective
prospectively, except for certain retrospective adjustments to
deferred tax balances, for fiscal years beginning after
December 15, 2008. This statement will be effective for the
Company beginning January 1, 2009. The Company is currently
evaluating the potential impact of adoption of SFAS 141(R).
Reclassifications
During 2007, the Company reclassified income taxes recoverable
in the consolidated balance sheets to other assets. Accordingly,
$51,000 as of December 31, 2006 was reclassified to other
assets to conform to the current year presentation, with
conforming reclassifications in the statement of cash flows.
The cost or amortized cost, gross unrealized gains and losses,
and the fair value of investments at December 31, 2007 and
2006 are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
|
Cost or
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
|
|
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Fair Value
|
|
|
|
(Dollars in thousands)
|
|
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government
|
|
$
|
11,644
|
|
|
$
|
144
|
|
|
$
|
(25
|
)
|
|
$
|
11,763
|
|
State and municipal
|
|
|
659,178
|
|
|
|
15,552
|
|
|
|
(1,467
|
)
|
|
|
673,263
|
|
Corporate
|
|
|
40,102
|
|
|
|
672
|
|
|
|
(169
|
)
|
|
|
40,605
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturity securities
|
|
|
710,924
|
|
|
|
16,368
|
|
|
|
(1,661
|
)
|
|
|
725,631
|
|
Equity securities
|
|
|
2,520
|
|
|
|
|
|
|
|
(358
|
)
|
|
|
2,162
|
|
Short-term investments
|
|
|
56,746
|
|
|
|
|
|
|
|
|
|
|
|
56,746
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
770,190
|
|
|
$
|
16,368
|
|
|
$
|
(2,019
|
)
|
|
$
|
784,539
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2006
|
|
|
|
Cost or
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
|
|
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Fair Value
|
|
|
|
(Dollars in thousands)
|
|
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government
|
|
$
|
12,119
|
|
|
$
|
4
|
|
|
$
|
(281
|
)
|
|
$
|
11,842
|
|
State and municipal
|
|
|
541,389
|
|
|
|
17,306
|
|
|
|
(564
|
)
|
|
|
558,131
|
|
Corporate
|
|
|
15,438
|
|
|
|
1,138
|
|
|
|
(4
|
)
|
|
|
16,572
|
|
Mortgage-backed
|
|
|
46
|
|
|
|
3
|
|
|
|
|
|
|
|
49
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total fixed maturity securities
|
|
|
568,992
|
|
|
|
18,451
|
|
|
|
(849
|
)
|
|
|
586,594
|
|
Equity securities
|
|
|
9,530
|
|
|
|
954
|
|
|
|
(67
|
)
|
|
|
10,417
|
|
Other investments
|
|
|
5,000
|
|
|
|
|
|
|
|
|
|
|
|
5,000
|
|
Short-term investments
|
|
|
5,301
|
|
|
|
|
|
|
|
|
|
|
|
5,301
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
588,823
|
|
|
$
|
19,405
|
|
|
$
|
(916
|
)
|
|
$
|
607,312
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
83
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
At December 31, 2007 and 2006, the Company had 82 and 174
securities with gross unrealized losses, respectively. The
following tables show the gross unrealized losses and fair
value, aggregated by investment category and length of time that
individual securities have been in a continuous unrealized loss
position at December 31, 2007 and 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2007
|
|
|
|
Less Than 12 Months
|
|
|
12 Months or More
|
|
|
Total
|
|
|
|
Fair
|
|
|
Unrealized
|
|
|
Fair
|
|
|
Unrealized
|
|
|
Fair
|
|
|
Unrealized
|
|
|
|
Value
|
|
|
Losses
|
|
|
Value
|
|
|
Losses
|
|
|
Value
|
|
|
Losses
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government
|
|
$
|
391
|
|
|
$
|
(4
|
)
|
|
$
|
2,729
|
|
|
$
|
(21
|
)
|
|
$
|
3,120
|
|
|
$
|
(25
|
)
|
State and municipal
|
|
|
84,437
|
|
|
|
(1,243
|
)
|
|
|
23,586
|
|
|
|
(224
|
)
|
|
|
108,023
|
|
|
|
(1,467
|
)
|
Corporate
|
|
|
20,670
|
|
|
|
(169
|
)
|
|
|
|
|
|
|
|
|
|
|
20,670
|
|
|
|
(169
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal
|
|
|
105,498
|
|
|
|
(1,416
|
)
|
|
|
26,315
|
|
|
|
(245
|
)
|
|
|
131,813
|
|
|
|
(1,661
|
)
|
Equity securities
|
|
|
2,162
|
|
|
|
(358
|
)
|
|
|
|
|
|
|
|
|
|
|
2,162
|
|
|
|
(358
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total temporarily impaired securities
|
|
$
|
107,660
|
|
|
$
|
(1,774
|
)
|
|
$
|
26,315
|
|
|
$
|
(245
|
)
|
|
$
|
133,975
|
|
|
$
|
(2,019
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2006
|
|
|
|
Less Than 12 Months
|
|
|
12 Months or More
|
|
|
Total
|
|
|
|
Fair
|
|
|
Unrealized
|
|
|
Fair
|
|
|
Unrealized
|
|
|
Fair
|
|
|
Unrealized
|
|
|
|
Value
|
|
|
Losses
|
|
|
Value
|
|
|
Losses
|
|
|
Value
|
|
|
Losses
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government
|
|
$
|
|
|
|
$
|
|
|
|
$
|
10,968
|
|
|
$
|
(281
|
)
|
|
$
|
10,968
|
|
|
$
|
(281
|
)
|
State and municipal
|
|
|
31,094
|
|
|
|
(159
|
)
|
|
|
20,632
|
|
|
|
(405
|
)
|
|
|
51,726
|
|
|
|
(564
|
)
|
Corporate
|
|
|
392
|
|
|
|
(4
|
)
|
|
|
|
|
|
|
|
|
|
|
392
|
|
|
|
(4
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal
|
|
|
31,486
|
|
|
|
(163
|
)
|
|
|
31,600
|
|
|
|
(686
|
)
|
|
|
63,086
|
|
|
|
(849
|
)
|
Equity securities
|
|
|
658
|
|
|
|
(56
|
)
|
|
|
205
|
|
|
|
(11
|
)
|
|
|
863
|
|
|
|
(67
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total temporarily impaired securities
|
|
$
|
32,144
|
|
|
$
|
(219
|
)
|
|
$
|
31,805
|
|
|
$
|
(697
|
)
|
|
$
|
63,949
|
|
|
$
|
(916
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Company reviews its investments quarterly to identify and
evaluate whether any investments have indications of possible
impairment and whether any impairments are other than temporary.
Factors considered in determining whether a loss is other than
temporary include the length of time and extent to which fair
value has been less than the cost basis, the financial condition
and near- term prospects of the issuer, and the Companys
intent and ability to hold the investment for a period of time
sufficient to allow for recovery in market value. The Company
believes at this point in time that the positive evidence
outweighs the negative evidence and all of the unrealized losses
shown above are temporary. Those gross unrealized losses at
December 31, 2007 related to fixed maturities that have
been in a continuous loss position for 12 months or more
are primarily the result of changes in interest rates. None of
the fixed maturity securities with unrealized losses have ever
missed or been delinquent on a scheduled principal or interest
payment. During 2007 and 2006, the Company wrote down securities
including other investments by $5,309,000 and $375,000,
respectively, to reflect other-than-temporary declines in fair
value.
84
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The amortized cost and estimated fair value of investments in
fixed maturity securities, at December 31, 2007, are
summarized by stated maturity as follows:
|
|
|
|
|
|
|
|
|
|
|
Available-for-Sale
|
|
|
|
Amortized
|
|
|
Fair
|
|
|
|
Cost
|
|
|
Value
|
|
|
|
(Dollars in thousands)
|
|
|
Maturity:
|
|
|
|
|
|
|
|
|
One year or less
|
|
$
|
62,631
|
|
|
$
|
63,368
|
|
After one year through five years
|
|
|
196,195
|
|
|
|
202,403
|
|
After five years through ten years
|
|
|
273,470
|
|
|
|
279,487
|
|
After ten years
|
|
|
178,628
|
|
|
|
180,373
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
710,924
|
|
|
$
|
725,631
|
|
|
|
|
|
|
|
|
|
|
The details of net realized investment gains (losses) including
other-than-temporary impairments are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Securities available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross realized gains
|
|
$
|
912
|
|
|
$
|
913
|
|
|
$
|
25
|
|
Gross realized losses
|
|
|
(281
|
)
|
|
|
(222
|
)
|
|
|
(305
|
)
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross realized gains
|
|
|
1,328
|
|
|
|
1,113
|
|
|
|
396
|
|
Gross realized losses
|
|
|
(56
|
)
|
|
|
(207
|
)
|
|
|
(80
|
)
|
Foreign currency gross realized gains (losses)
|
|
|
50
|
|
|
|
(13
|
)
|
|
|
|
|
Other investment losses
|
|
|
(5,002
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net realized (losses) gains
|
|
$
|
(3,049
|
)
|
|
$
|
1,584
|
|
|
$
|
36
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net unrealized gains (losses) on fixed maturity securities
increased (decreased) by $(2,895,000), $1,675,000 and
$(2,762,000) in 2007, 2006, and 2005, respectively; the
corresponding amounts for equity securities were $(1,245,000),
$(271,000), and $(488,000).
Major categories of the Companys net investment income are
summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturities
|
|
$
|
29,599
|
|
|
$
|
26,061
|
|
|
$
|
22,956
|
|
Preferred stocks
|
|
|
258
|
|
|
|
313
|
|
|
|
334
|
|
Common stocks
|
|
|
57
|
|
|
|
98
|
|
|
|
173
|
|
Cash, cash equivalents and short-term investments
|
|
|
3,931
|
|
|
|
1,013
|
|
|
|
422
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
33,845
|
|
|
|
27,485
|
|
|
|
23,885
|
|
Expenses
|
|
|
(909
|
)
|
|
|
(789
|
)
|
|
|
(887
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income
|
|
$
|
32,936
|
|
|
$
|
26,696
|
|
|
$
|
22,998
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
85
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
At December 31, 2007 and 2006, investments with an
amortized cost of $6,902,000 and $6,631,000, respectively, were
on deposit with various state insurance departments to satisfy
regulatory requirements.
|
|
3.
|
Deferred
Policy Acquisition Costs
|
An analysis of deferred policy acquisition costs is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Balance beginning of period
|
|
$
|
35,143
|
|
|
$
|
33,684
|
|
|
$
|
32,453
|
|
Acquisition costs deferred:
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales compensation
|
|
|
8,207
|
|
|
|
7,072
|
|
|
|
6,296
|
|
Underwriting and issue expenses
|
|
|
11,390
|
|
|
|
10,655
|
|
|
|
9,837
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
19,597
|
|
|
|
17,727
|
|
|
|
16,133
|
|
Amortization of acquisition expenses
|
|
|
18,497
|
|
|
|
16,268
|
|
|
|
14,902
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net increase
|
|
|
1,100
|
|
|
|
1,459
|
|
|
|
1,231
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance end of period
|
|
$
|
36,243
|
|
|
$
|
35,143
|
|
|
$
|
33,684
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4.
|
Reserve
for Losses and LAE
|
Activity for the reserve for losses and LAE for 2007, 2006, and
2005 is summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Balance at January 1,
|
|
$
|
84,352
|
|
|
$
|
51,074
|
|
|
$
|
34,041
|
|
Less: reinsurance recoverables
|
|
|
(1
|
)
|
|
|
(1
|
)
|
|
|
(1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
84,351
|
|
|
|
51,073
|
|
|
|
34,040
|
|
Incurred losses and loss adjustment expenses net of reinsurance
recoveries (principally in respect of default notices received
in):
|
|
|
|
|
|
|
|
|
|
|
|
|
Current year
|
|
|
332,210
|
|
|
|
70,141
|
|
|
|
43,215
|
|
Deficiency on prior years
|
|
|
40,729
|
|
|
|
24,086
|
|
|
|
23,640
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total incurred losses and loss adjustment expenses
|
|
|
372,939
|
|
|
|
94,227
|
|
|
|
66,855
|
|
Loss and loss adjustment expense payments net of reinsurance
recoveries (principally in respect of default notices received
in):
|
|
|
|
|
|
|
|
|
|
|
|
|
Current year
|
|
|
22,725
|
|
|
|
7,865
|
|
|
|
3,734
|
|
Prior years
|
|
|
81,934
|
|
|
|
53,084
|
|
|
|
46,088
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loss and loss adjustment expense payments
|
|
|
104,659
|
|
|
|
60,949
|
|
|
|
49,822
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net ending balance at December 31,
|
|
|
352,631
|
|
|
|
84,351
|
|
|
|
51,073
|
|
Reinsurance recoverables
|
|
|
7,308
|
|
|
|
1
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31,
|
|
$
|
359,939
|
|
|
$
|
84,352
|
|
|
$
|
51,074
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The foregoing reconciliation shows deficiencies in the reserve
for losses and LAE at December 31, 2007, 2006 and 2005. The
deficiencies recognized in 2007 and 2006 were due to increased
frequency and severity factors due to the decline in the housing
markets. The deficiency in 2005 was due to increases in the
frequency factor driven by changes in the composition of the
default inventory, including more pending claims than originally
assumed in the reserving model.
86
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
We provided reserves on reported defaults using assumptions that
estimate the projected frequency (percentage of
defaults that will ultimately be paid as claims) and
severity (percentage of our exposure on each
individual default that will ultimately be paid as a claim). Our
estimates utilized in the reserve process for frequency and
severity are impacted by historical trends adjusted for changing
market conditions. Declines in home prices at a faster rate than
anticipated, the impact of a higher unemployment rate than
anticipated or an unanticipated slowdown of the overall economy
can impact the actual frequency and severity realized during the
year compared to those utilized in the reserve assumptions at
the beginning of the year. Changes in the frequency and severity
factors are accounted for as a change in accounting estimate and
are reported as an expense in the year in which external factors
caused the change in our assumptions. Due to the rapid decline
in home prices and changes in the mortgage markets that reduced
borrowers ability to refinance loans, we adjusted our
assumptions regarding both frequency and severity during 2007.
The adjustments that we made to our frequency factor had the
biggest impact because a larger percentage of loans that
initially defaulted are now expected to result in a paid claim.
The lack of mitigation opportunities due to declining house
prices, further reduced by an excess of housing inventory, also
impacted the severity factor. This same type of movement, albeit
to a lesser extent, occurred in 2006 as we began to see the
slowdown in home price appreciation, which in turn increased the
severity factor.
The Company leases certain office facilities, autos, and
equipment under operating leases. Rental expense for all leases
was $2,384,000, $2,102,000, and $2,058,000, for 2007, 2006 and
2005, respectively. Future minimum payments under noncancellable
operating leases at December 31, 2007, are as follows (in
thousands):
|
|
|
|
|
|
|
December 31, 2007
|
|
|
|
(Dollars in thousands)
|
|
|
2008
|
|
$
|
2,358
|
|
2009
|
|
|
1,755
|
|
2010
|
|
|
1,576
|
|
2011
|
|
|
1,501
|
|
2012
|
|
|
1,377
|
|
|
|
|
|
|
|
|
$
|
8,567
|
|
|
|
|
|
|
The Company leases facilities for its corporate headquarters
under an operating lease that is scheduled to expire in 2012.
The Company has options to renew this lease for up to ten
additional years at the fair market rental rate at the time of
the renewal.
Income tax (benefit) expense differed from the amounts computed
by applying the Federal statutory income tax rate to income
before taxes as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Income tax (benefit) expense computed at statutory rate
|
|
$
|
(45,726
|
)
|
|
$
|
31,612
|
|
|
$
|
27,267
|
|
(Decrease) increase in taxes resulting from:
|
|
|
|
|
|
|
|
|
|
|
|
|
Tax-exempt interest
|
|
|
(9,380
|
)
|
|
|
(8,330
|
)
|
|
|
(7,199
|
)
|
Other
|
|
|
1,920
|
|
|
|
1,402
|
|
|
|
1,025
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax (benefit) expense
|
|
$
|
(53,186
|
)
|
|
$
|
24,684
|
|
|
$
|
21,093
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
87
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The tax effects of temporary differences that give rise to
significant portions of deferred tax assets and deferred tax
liabilities at December 31, 2007 and 2006, are presented
below:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(Dollars in thousands)
|
|
|
Deferred tax liabilities
|
|
|
|
|
|
|
|
|
Contingency loss reserve deduction
|
|
$
|
112,801
|
|
|
$
|
160,103
|
|
Deferred policy acquisition costs
|
|
|
12,685
|
|
|
|
12,300
|
|
Unrealized investment gains
|
|
|
6,475
|
|
|
|
6,471
|
|
Other
|
|
|
3,870
|
|
|
|
2,646
|
|
|
|
|
|
|
|
|
|
|
Total deferred tax liabilities
|
|
|
135,831
|
|
|
|
181,520
|
|
Deferred tax assets
|
|
|
|
|
|
|
|
|
Unearned premiums
|
|
|
3,872
|
|
|
|
2,835
|
|
Losses and loss adjustment expenses
|
|
|
6,346
|
|
|
|
1,640
|
|
Other
|
|
|
2,316
|
|
|
|
562
|
|
|
|
|
|
|
|
|
|
|
Total deferred tax assets
|
|
|
12,534
|
|
|
|
5,037
|
|
|
|
|
|
|
|
|
|
|
Net deferred tax liability
|
|
$
|
123,297
|
|
|
$
|
176,483
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2007, Triad purchased $718,000 of Tax and
Loss Bonds in excess of its current obligations.
|
|
7.
|
Insurance
in Force, Dividend Restriction, and Statutory Results
|
At December 31, 2007, approximately 58% of Triads
direct risk in force was concentrated in 10 states, with
approximately 14% in California, 11% in Florida, 7% in Texas, 5%
in Arizona, 4% each in Illinois, North Carolina and Georgia, and
3% each in Colorado, Virginia, and New Jersey. California,
Florida and Arizona, which collectively represent 30% of direct
risk in force, have been especially hard hit with home price
depreciation at a rate greater than the rest of the country.
Nevada, which has also seen significant home price depreciation,
represented 3% of direct risk in force at December 31,
2007. As a result, we saw substantially increased default rates
in these four states during 2007. A prolonged economic downturn
with continued house price depreciation in areas where we have
large concentrations would result in higher incurred losses.
Insurance regulations generally limit the writing of mortgage
guaranty insurance to an aggregate amount of insured risk no
greater than twenty-five times the total of statutory capital,
which is defined as statutory surplus and the statutory
contingency reserve. The amount of net risk for insurance in
force at December 31, 2007 and 2006 as presented below, was
computed by applying the various percentage settlement options
to the insurance in force amounts, adjusted by risk ceded under
reinsurance agreements, any applicable aggregate stop-loss
limits and deductibles. Triads ratio is as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(Dollars in thousands)
|
|
|
Net risk
|
|
$
|
11,967,179
|
|
|
$
|
8,612,912
|
|
Statutory surplus
|
|
$
|
197,713
|
|
|
$
|
168,439
|
|
Statutory contingency reserve
|
|
|
387,365
|
|
|
|
521,836
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
585,078
|
|
|
$
|
690,275
|
|
|
|
|
|
|
|
|
|
|
Risk-to-capital ratio
|
|
|
20.5 to 1
|
|
|
|
12.5 to 1
|
|
|
|
|
|
|
|
|
|
|
The Illinois Department of Insurance has additional restrictions
on the amount of risk that may be written. These restrictions
apply different capital requirements to different types of
insurance products and also considers the LTV and coverage
percentage of the insured mortgage. As of December 31,
2007, Triads statutory capital was approximately 101% of
the minimum capital required by the Illinois Department of
Insurance and TGACs statutory capital was approximately
258% of the minimum required capital.
88
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Triad and its wholly-owned U.S. subsidiaries, TGAC and
Triad Re, are each required under their respective domiciliary
states insurance code to maintain a minimum level of
statutory capital and surplus. Triad, an Illinois domiciled
insurer, is required under the Illinois Insurance Code (the
Code) to maintain minimum capital and surplus of
$5,000,000. Canadian regulations require that TGICC maintain a
minimum of CAD $50 million to be licensed as a Canadian
Mortgage Insurer.
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 market 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. As determined in accordance with
statutory accounting practices, Triad compiled a net loss of
$121,284,000 for the year ended December 31, 2007, and net
income of $88,303,000 and $77,083,000, respectively, for the
years ended December 31, 2006 and 2005. In addition to
these statutory limitations on dividends, Illinois regulations
provide that a mortgage guaranty insurer may not declare any
dividends except from undivided profits remaining on hand over
and above the amount of its policyholder reserve. At
December 31, 2007, the total amount of the Companys
equity that can be paid out in dividends to the stockholders is
$5,470,000.
|
|
8.
|
Related
Party Transactions
|
The Company pays companies affiliated through common ownership
for expenses incurred on behalf of Triad. The total expense
incurred for such items was $69,300, $78,000, and $307,000 in
2007, 2006, and 2005, respectively. The decline in the expense
incurred in 2007 and 2006 from 2005 represents the outsourcing
of a significant amount of the investment services to a third
party.
Most of the Companys employees are eligible to participate
in its 401(k) Profit Sharing Plan. Under the plan, employees
elect to defer a portion of their wages, with the Company
matching deferrals at the rate of 50% of the first 8% of the
employees salary deferred. The Companys expense
associated with the plan totaled $688,000, $529,000, and
$476,000 for the years ended December 31, 2007, 2006, and
2005, respectively.
Certain premiums and losses are assumed from and ceded to other
insurance companies under various reinsurance agreements. The
ceding agreements principally provide Triad with increased
capacity to write business and achieve a more favorable
geographic dispersion of risk.
The effects of reinsurance for the years ended December 31,
2007, 2006 and 2005 are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Earned premiums:
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct
|
|
$
|
334,406
|
|
|
$
|
257,006
|
|
|
$
|
209,708
|
|
Assumed
|
|
|
1
|
|
|
|
1
|
|
|
|
1
|
|
Ceded
|
|
|
(55,507
|
)
|
|
|
(46,151
|
)
|
|
|
(40,712
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net earned premiums
|
|
$
|
278,900
|
|
|
$
|
210,856
|
|
|
$
|
168,997
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Losses and loss adjustment expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct
|
|
$
|
380,244
|
|
|
$
|
94,229
|
|
|
$
|
66,852
|
|
Assumed
|
|
|
(1
|
)
|
|
|
(3
|
)
|
|
|
4
|
|
Ceded
|
|
|
(7,304
|
)
|
|
|
1
|
|
|
|
(1
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net losses and loss adjustment expenses
|
|
$
|
372,939
|
|
|
$
|
94,227
|
|
|
$
|
66,855
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
89
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The Company cedes business to captive reinsurance subsidiaries
or affiliates of certain mortgage lenders (captives)
primarily under excess of loss reinsurance agreements.
Reinsurance recoverables on loss reserves and unearned premiums
ceded to these captives are backed by trust funds or letters of
credit.
At December 31, 2007, the Company had $100 million of
excess of loss reinsurance through non-affiliated reinsurers.
The excess of loss reinsurance agreements are designed to
protect the Company and its customers in the event of a
catastrophic level of losses. The excess of loss coverage was
reduced to $95 million effective January 1, 2008.
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 deemed uncollectible.
Triad evaluates the financial condition of its reinsurers and
monitors credit risk arising from similar geographic regions,
activities, or economic characteristics of its reinsurers to
minimize its exposure to significant losses from reinsurer
insolvency.
|
|
11.
|
Long-Term
Stock Incentive Plan
|
In May 2006, the Companys stockholders approved the 2006
Long-Term Stock Incentive Plan (the Plan). Under the
Plan, certain directors, officers, and key employees are
eligible to receive various share-based compensation awards.
Stock options, restricted stock, phantom stock rights and other
equity awards may be awarded under the Plan for a fixed number
of shares with a requirement for stock options granted to have
an exercise price equal to or greater than the fair value of the
shares at the date of grant. Generally, most awards vest over
three years. Options granted under the Plan expire no later than
ten years following the date of grant. As of December 31,
2007, 1,585,795 shares were reserved and
940,598 shares were available for issuance under the Plan.
Gross compensation expense of approximately $3.9 million
along with the related tax benefit of approximately
$1.4 million was recognized in the financial statements for
the year ended December 31, 2007, as compared to gross
compensation expense of approximately $3.5 million and the
related tax benefit of approximately $1.2 million for the
year ended December 31, 2006. For the years ended
December 31, 2007 and 2006, approximately $709,000 and
$566,000, respectively, of share-based compensation was
capitalized as part of deferred acquisition costs.
A summary of option activity under the Plan for the year ended
December 31, 2007 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
Weighted-
|
|
Aggregate
|
|
Remaining
|
|
|
Number of
|
|
Average
|
|
Intrinsic
|
|
Contractual
|
|
|
Shares
|
|
Exercise Price
|
|
Value
|
|
Term
|
|
|
(Dollars in thousands)
|
|
Outstanding, January 1, 2007
|
|
|
564,712
|
|
|
$
|
38.36
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
107,190
|
|
|
|
43.56
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
22,937
|
|
|
|
26.87
|
|
|
|
|
|
|
|
|
|
Cancelled
|
|
|
3,768
|
|
|
|
45.06
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding, December 31, 2007
|
|
|
645,197
|
|
|
|
39.60
|
|
|
$
|
|
|
|
|
4.6 years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable, December 31, 2007
|
|
|
493,495
|
|
|
|
38.60
|
|
|
$
|
|
|
|
|
3.3 years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
90
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The fair value of stock options is estimated on the date of
grant using a Black-Scholes pricing model. The weighted-average
assumptions used for options granted during the years ended
December 31, 2007, 2006 and 2005 are noted in the following
table. The expected volatilities are based on volatility of the
Companys stock over the most recent historical period
corresponding to the expected term of the options. The Company
also uses historical data to estimate option exercise and
employee terminations within the model. Separate groups of
employees with similar historical exercise and termination
histories are considered separately for valuation purposes. The
risk-free rates for the periods corresponding to the expected
terms of the options are based on U.S. Treasury rates in
effect on the dates of grant.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
2006
|
|
2005
|
|
Expected volatility
|
|
|
31.7
|
%
|
|
|
33.7
|
%
|
|
|
34.0
|
%
|
Expected dividend yield
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
|
|
0.0
|
%
|
Expected term
|
|
|
5.0 years
|
|
|
|
5.0 years
|
|
|
|
7.7 years
|
|
Risk-free rate
|
|
|
4.5
|
%
|
|
|
4.5
|
%
|
|
|
4.1
|
%
|
The weighted-average grant-date fair value of options granted
during the years ended December 31, 2007, 2006 and 2005 was
$15.74, $16.81 and $19.79, respectively. The total intrinsic
value of options exercised during the years ended
December 31, 2007, 2006 and 2005 was approximately
$0.5 million, $0.9 million and $5.0 million,
respectively.
A summary of nonvested restricted stock and phantom stock rights
activity under the Plan for the year ended December 31,
2007 is presented below:
|
|
|
|
|
|
|
|
|
|
|
Number of
|
|
Weighted-Average
|
|
|
Shares
|
|
Grant-Date Fair Value
|
|
Nonvested, January 1, 2007
|
|
|
113,941
|
|
|
$
|
46.41
|
|
Granted
|
|
|
49,202
|
|
|
|
43.72
|
|
Vested
|
|
|
37,318
|
|
|
|
50.34
|
|
Cancelled
|
|
|
8,297
|
|
|
|
47.33
|
|
|
|
|
|
|
|
|
|
|
Nonvested, December 31, 2007
|
|
|
117,528
|
|
|
|
43.97
|
|
|
|
|
|
|
|
|
|
|
The fair value of restricted stock and phantom stock rights are
determined based on the closing price of the Companys
shares on the grant date. The weighted-average grant-date fair
value of restricted stock and phantom stock rights granted
during the years ended December 31, 2007, 2006 and 2005 was
$43.72, $45.74 and $47.45, respectively.
As of December 31, 2007, there was $4.1 million of
unrecognized compensation expense related to nonvested stock
options, restricted stock, and phantom stock rights granted
under the Plan. That expense is expected to be recognized over a
weighted-average period of 1.5 years. The total fair value
of stock options, restricted stock and phantom stock rights
vested during the years ended December 31, 2007, 2006 and
2005 was $4.4 million, $2.0 million and
$2.2 million, respectively.
The Company issues new shares upon exercise of stock options and
phantom stock rights.
On June 28, 2007, the Company entered into a three-year,
$80.0 million revolving unsecured credit facility with
three domestic banks to provide short-term liquidity for
insurance operations and general corporate purposes. Under the
credit agreement, the Company must maintain a minimum adjusted
consolidated net worth level of $410.0 million at
December 31, 2007, and must not exceed a statutory
risk-to-capital ratio threshold of 22-to-1 at the Triad level.
The minimum adjusted consolidated net worth level is calculated
as 70% of stockholders equity less unrealized gains at
March 30, 2007 plus an amount equal to 50% of the positive
consolidated net income in each
91
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
subsequent quarter. In addition, the agreement contains
covenants restricting the Companys ability to incur liens,
merge or consolidate with another entity and dispose of all or
substantially all of its assets. At December 31, 2007, the
Company was in compliance with all such covenants and had drawn
down $80 million under the facility, all of which remained
outstanding. The credit facility provides for a commitment fee
and a utilization fee based upon the most recent financial
strength rating. At December 31, 2007, the interest rate
was 5.17%, which was equal to One-Month LIBOR plus a margin
which is also based upon the most recent financial strength
rating.
In 1998, the Company completed a $35.0 million private
offering of notes due January 15, 2028. Proceeds from the
offering, net of debt issue costs, totaled $34.5 million.
The notes, which represent unsecured obligations of the Company,
bear interest at a rate of 7.9% per annum and are non-callable.
|
|
14.
|
Fair
Value of Financial Instruments
|
The carrying values and fair values of financial instruments as
of December 31, 2007 and 2006 are summarized below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
2006
|
|
|
Carrying
|
|
Fair
|
|
Carrying
|
|
Fair
|
|
|
Value
|
|
Value
|
|
Value
|
|
Value
|
|
|
(Dollars in thousands)
|
|
Financial Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturity securities available-for-sale
|
|
$
|
725,631
|
|
|
$
|
725,631
|
|
|
$
|
586,594
|
|
|
$
|
586,594
|
|
Equity securities available-for-sale
|
|
|
2,162
|
|
|
|
2,162
|
|
|
|
10,417
|
|
|
|
10,417
|
|
Other investments
|
|
|
|
|
|
|
|
|
|
|
5,000
|
|
|
|
5,000
|
|
Financial Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term debt
|
|
|
34,519
|
|
|
|
40,662
|
|
|
|
34,510
|
|
|
|
39,231
|
|
Credit facility
|
|
|
80,000
|
|
|
|
80,000
|
|
|
|
|
|
|
|
|
|
The fair values of cash, cash equivalents and short-term
investments approximate their carrying values due to their
short-term maturity or availability.
The fair values of fixed maturity securities and equity
securities have been determined using quoted market prices for
securities traded in the public market or prices using bid or
closing prices for securities not traded in the public
marketplace.
Other investments represent investments in equity securities for
which there is no readily determinable market value. The fair
values of other investments approximate their cost.
The fair value of the Companys long-term debt is estimated
using discounted cash flow analysis based on the Companys
current incremental borrowing rates for similar types of
borrowing arrangements.
The fair value of the credit facility is equal to the total
revolving loan amount since this short-term debt is outstanding
for only one month.
On November 5, 2007, American Home Mortgage Investment
Corp. and American Home Mortgage Servicing, Inc. filed a
complaint against Triad Guaranty Insurance Corp. in the
U.S. Bankruptcy Court for the District of Delaware. The
plaintiffs are debtors and debtors in possession in
Chapter 11 cases pending in the U.S. Bankruptcy Court.
The lawsuit is an action for breach of contract and declaratory
judgment. The basis for the complaints breach of contract
action is the cancellation by us of our certification of
American Home Mortgages coverage on 14 loans due to
irregularities that we uncovered following the submission of
claims for payment and that existed when
92
TRIAD
GUARANTY INC.
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
American Home Mortgage originated the loans. The complaint
alleges that our actions caused American Home Mortgage to suffer
a combined net loss of not less than $1,132,105.51 and seeks
monetary damages and a declaratory judgment. We expect to
rescind or deny coverage for additional loans originated by
American Home Mortgage and we intend to contest the lawsuit
vigorously.
During 2007, the Canadian Subsidiary, TGICC, was in start up
mode with the focus on acquiring all necessary regulatory
approvals to operate throughout Canada, building the appropriate
infrastructure for underwriting, accounting and operations, and
establishing contacts within the mortgage origination
marketplace. At December 31, 2007, the Company had obtained
licenses in all provinces with the exception of Quebec.
Subsequent to December 31, 2007, TGICC requested permission
from its primary regulator to withdraw 80% of the initial
$45 million of capital invested, with sufficient capital
remaining to maintain its licenses in Canada. In January 2008,
$39 million was repatriated back to the Company, which
included a $3 million realized gain on foreign currency.
With the withdrawal of the 80% of the invested capital through
the redemption of shares, TGICC currently does not have
sufficient capital to write business in Canada. Currently, the
Company is investigating strategic alternatives for TGICC which
could include additional external capital infusion, a sale of
the entire company, or a liquidation of TGICC.
|
|
17.
|
Unaudited
Quarterly Financial Data
|
The following is a summary of the unaudited quarterly results of
operations for the years ended December 31, 2007 and 2006.
The sum of the quarterly basic EPS may not equal the amount for
the year as the basis for calculating average outstanding number
of shares differs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007 Quarter
|
|
|
|
First
|
|
|
Second
|
|
|
Third
|
|
|
Fourth
|
|
|
Year
|
|
|
|
(Dollars in thousands, except per share data)
|
|
|
Net premiums written
|
|
$
|
65,707
|
|
|
$
|
70,165
|
|
|
$
|
72,554
|
|
|
$
|
74,797
|
|
|
$
|
283,223
|
|
Change in unearned premiums
|
|
|
(1,758
|
)
|
|
|
(433
|
)
|
|
|
(465
|
)
|
|
|
(1,667
|
)
|
|
|
(4,323
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums
|
|
|
63,949
|
|
|
|
69,732
|
|
|
|
72,089
|
|
|
|
73,130
|
|
|
|
278,900
|
|
Net investment income
|
|
|
7,349
|
|
|
|
7,673
|
|
|
|
8,371
|
|
|
|
9,543
|
|
|
|
32,936
|
|
Net losses incurred
|
|
|
32,581
|
|
|
|
41,893
|
|
|
|
106,813
|
|
|
|
191,652
|
|
|
|
372,939
|
|
Underwriting and other expenses
|
|
|
15,648
|
|
|
|
16,081
|
|
|
|
17,414
|
|
|
|
17,357
|
|
|
|
66,500
|
|
Net (loss) income
|
|
|
17,322
|
|
|
|
12,027
|
|
|
|
(31,850
|
)
|
|
|
(74,957
|
)
|
|
|
(77,458
|
)
|
Basic (loss) earnings per share
|
|
|
1.17
|
|
|
|
0.81
|
|
|
|
(2.15
|
)
|
|
|
(5.05
|
)
|
|
|
(5.22
|
)
|
Diluted (loss) earnings per share
|
|
|
1.16
|
|
|
|
0.80
|
|
|
|
(2.15
|
)
|
|
|
(5.05
|
)
|
|
|
(5.22
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2006 Quarter
|
|
|
|
First
|
|
|
Second
|
|
|
Third
|
|
|
Fourth
|
|
|
Year
|
|
|
|
(Dollars in thousands, except per share data)
|
|
|
Net premiums written
|
|
$
|
48,342
|
|
|
$
|
49,358
|
|
|
$
|
53,903
|
|
|
$
|
58,963
|
|
|
$
|
210,566
|
|
Change in unearned premiums
|
|
|
(452
|
)
|
|
|
1,309
|
|
|
|
174
|
|
|
|
(741
|
)
|
|
|
290
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earned premiums
|
|
|
47,890
|
|
|
|
50,667
|
|
|
|
54,077
|
|
|
|
58,222
|
|
|
|
210,856
|
|
Net investment income
|
|
|
6,222
|
|
|
|
6,535
|
|
|
|
6,761
|
|
|
|
7,178
|
|
|
|
26,696
|
|
Net losses incurred
|
|
|
16,351
|
|
|
|
17,271
|
|
|
|
19,305
|
|
|
|
41,300
|
|
|
|
94,227
|
|
Underwriting and other expenses
|
|
|
13,068
|
|
|
|
13,308
|
|
|
|
14,081
|
|
|
|
14,141
|
|
|
|
54,598
|
|
Net income
|
|
|
18,553
|
|
|
|
19,587
|
|
|
|
19,392
|
|
|
|
8,103
|
|
|
|
65,635
|
|
Basic earnings per share
|
|
|
1.26
|
|
|
|
1.33
|
|
|
|
1.31
|
|
|
|
0.55
|
|
|
|
4.44
|
|
Diluted earnings per share
|
|
|
1.25
|
|
|
|
1.31
|
|
|
|
1.30
|
|
|
|
0.54
|
|
|
|
4.40
|
|
93
SCHEDULE I
TRIAD GUARANTY INC.
December 31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount at
|
|
|
|
Cost or
|
|
|
|
|
|
Which Shown
|
|
|
|
Amortized
|
|
|
Fair
|
|
|
in Balance
|
|
|
|
Cost
|
|
|
Value
|
|
|
Sheet
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed maturity securities, available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
Bonds:
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government obligations
|
|
$
|
11,644
|
|
|
$
|
11,762
|
|
|
$
|
11,762
|
|
State and municipal bonds
|
|
|
659,178
|
|
|
|
673,264
|
|
|
|
673,264
|
|
Corporate bonds
|
|
|
40,102
|
|
|
|
40,605
|
|
|
|
40,605
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
710,924
|
|
|
|
725,631
|
|
|
|
725,631
|
|
Equity securities, available-for-sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
Preferred stock
|
|
|
2,520
|
|
|
|
2,162
|
|
|
|
2,162
|
|
Short-term investments
|
|
|
56,746
|
|
|
|
56,746
|
|
|
|
56,746
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investments other than investments in related parties
|
|
$
|
770,190
|
|
|
$
|
784,539
|
|
|
$
|
784,539
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
94
SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED BALANCE SHEETS
TRIAD GUARANTY INC.
(Parent Company)
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
(Dollars in thousands)
|
|
|
ASSETS
|
Fixed maturities, available-for-sale
|
|
$
|
42,438
|
|
|
$
|
30,021
|
|
Equity securities, available-for-sale
|
|
|
216
|
|
|
|
251
|
|
Notes receivable from subsidiary
|
|
|
25,000
|
|
|
|
25,000
|
|
Investment in subsidiaries
|
|
|
544,184
|
|
|
|
547,220
|
|
Short-term investments
|
|
|
3,969
|
|
|
|
213
|
|
Other invested assets
|
|
|
|
|
|
|
5,000
|
|
Cash
|
|
|
1,999
|
|
|
|
1,880
|
|
Accrued investment income
|
|
|
1,513
|
|
|
|
1,513
|
|
Income taxes recoverable
|
|
|
129
|
|
|
|
37
|
|
Other assets
|
|
|
365
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
619,813
|
|
|
$
|
611,135
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY
|
Liabilities:
|
|
|
|
|
|
|
|
|
Revolving line of credit
|
|
$
|
80,000
|
|
|
$
|
|
|
Long-term debt
|
|
|
34,520
|
|
|
|
34,510
|
|
Accrued interest
|
|
|
1,355
|
|
|
|
1,275
|
|
Deferred income taxes
|
|
|
4,113
|
|
|
|
5,102
|
|
Accrued expenses and other liabilities
|
|
|
974
|
|
|
|
24
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
|
|
120,962
|
|
|
|
40,911
|
|
Stockholders equity:
|
|
|
|
|
|
|
|
|
Common stock
|
|
|
149
|
|
|
|
149
|
|
Additional paid-in capital
|
|
|
109,679
|
|
|
|
104,981
|
|
Accumulated other comprehensive income
|
|
|
13,405
|
|
|
|
12,018
|
|
Retained earnings
|
|
|
375,618
|
|
|
|
453,076
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity
|
|
|
498,851
|
|
|
|
570,224
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders equity
|
|
$
|
619,813
|
|
|
$
|
611,135
|
|
|
|
|
|
|
|
|
|
|
See supplementary notes to condensed financial statements.
95
SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED STATEMENTS OF OPERATIONS
TRIAD GUARANTY INC.
(Parent Company)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends from subsidiary (Triad)
|
|
$
|
30,000
|
|
|
$
|
|
|
|
$
|
|
|
Interest income
|
|
|
4,779
|
|
|
|
3,712
|
|
|
|
3,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income
|
|
|
34,779
|
|
|
|
3,712
|
|
|
|
3,510
|
|
Realized investment losses
|
|
|
(4,231
|
)
|
|
|
(185
|
)
|
|
|
(87
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
30,548
|
|
|
|
3,527
|
|
|
|
3,423
|
|
Expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
4,376
|
|
|
|
2,774
|
|
|
|
2,772
|
|
Operating expenses
|
|
|
4,278
|
|
|
|
3,489
|
|
|
|
1,783
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8,654
|
|
|
|
6,263
|
|
|
|
4,555
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before federal income taxes and equity in
undistributed income (loss) of subsidiaries
|
|
|
21,894
|
|
|
|
(2,736
|
)
|
|
|
(1,132
|
)
|
Income tax expense (benefit):
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
|
|
|
|
176
|
|
|
|
|
|
Deferred
|
|
|
(2,296
|
)
|
|
|
(676
|
)
|
|
|
(505
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,296
|
)
|
|
|
(500
|
)
|
|
|
(505
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before equity in undistributed income (loss) of
subsidiaries
|
|
|
24,190
|
|
|
|
(2,236
|
)
|
|
|
(627
|
)
|
Equity in undistributed (loss) income of subsidiaries
|
|
|
(101,648
|
)
|
|
|
67,871
|
|
|
|
57,440
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(77,458
|
)
|
|
$
|
65,635
|
|
|
$
|
56,813
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See supplementary notes to condensed financial statements.
96
SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
CONDENSED STATEMENTS OF CASH FLOWS
TRIAD GUARANTY INC.
(Parent Company)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Operating Activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(77,458
|
)
|
|
$
|
65,635
|
|
|
$
|
56,813
|
|
Adjustments to reconcile net income to net cash provided by
operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity in undistributed income of subsidiaries
|
|
|
101,648
|
|
|
|
(67,871
|
)
|
|
|
(57,440
|
)
|
Accrued investment income
|
|
|
|
|
|
|
19
|
|
|
|
(50
|
)
|
Other assets
|
|
|
(365
|
)
|
|
|
95
|
|
|
|
1,156
|
|
Deferred income taxes
|
|
|
(2,296
|
)
|
|
|
(676
|
)
|
|
|
(505
|
)
|
Income taxes recoverable
|
|
|
(92
|
)
|
|
|
139
|
|
|
|
963
|
|
Accretion of discount on investments
|
|
|
(16
|
)
|
|
|
3
|
|
|
|
2
|
|
Amortization of deferred compensation
|
|
|
3,918
|
|
|
|
3,476
|
|
|
|
1,788
|
|
Amortization of debt issue costs
|
|
|
10
|
|
|
|
9
|
|
|
|
8
|
|
Accrued interest
|
|
|
80
|
|
|
|
|
|
|
|
|
|
Realized investment losses on securities
|
|
|
4,231
|
|
|
|
185
|
|
|
|
87
|
|
Other liabilities
|
|
|
950
|
|
|
|
4
|
|
|
|
(50
|
)
|
Other operating activities
|
|
|
15
|
|
|
|
16
|
|
|
|
2,049
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
|
30,625
|
|
|
|
1,034
|
|
|
|
4,821
|
|
Investing Activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchases
|
|
|
(87,786
|
)
|
|
|
(9,079
|
)
|
|
|
(8,795
|
)
|
Sales and maturities
|
|
|
75,290
|
|
|
|
11,428
|
|
|
|
641
|
|
Cash contributed to subsidiaries:
|
|
|
|
|
|
|
|
|
|
|
|
|
Triad
|
|
|
(50,000
|
)
|
|
|
|
|
|
|
|
|
TGICC
|
|
|
(45,045
|
)
|
|
|
|
|
|
|
|
|
Equity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
|
|
|
|
|
|
|
|
|
163
|
|
Purchases of other assets
|
|
|
|
|
|
|
(5,000
|
)
|
|
|
|
|
Change in short-term investments
|
|
|
(3,756
|
)
|
|
|
468
|
|
|
|
161
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash used in investing activities
|
|
|
(111,297
|
)
|
|
|
(2,183
|
)
|
|
|
(7,830
|
)
|
Financing Activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from revolving credit facility
|
|
|
80,000
|
|
|
|
|
|
|
|
|
|
Excess tax benefits related to share based payments
|
|
|
175
|
|
|
|
286
|
|
|
|
|
|
Proceeds from exercise of stock options
|
|
|
616
|
|
|
|
747
|
|
|
|
3,269
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities
|
|
|
80,791
|
|
|
|
1,033
|
|
|
|
3,269
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase in cash
|
|
|
119
|
|
|
|
(116
|
)
|
|
|
260
|
|
Cash at beginning of year
|
|
|
1,880
|
|
|
|
1,996
|
|
|
|
1,736
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash at end of year
|
|
$
|
1,999
|
|
|
$
|
1,880
|
|
|
$
|
1,996
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See supplementary notes to condensed financial statements.
97
SCHEDULE II
CONDENSED FINANCIAL INFORMATION OF REGISTRANT
TRIAD GUARANTY INC.
(Parent Company)
SUPPLEMENTARY NOTES
|
|
1.
|
Basis of
Presentation and Significant Accounting Policies
|
In the parent company financial statements, the Companys
investment in its subsidiaries is stated at cost plus equity in
undistributed earnings of the subsidiaries. Dividends received
from the subsidiaries are shown as investment income. The
Companys share of net income of its subsidiaries is
included in income using the equity method. The accompanying
Parent Company financial statements should be read in
conjunction with the Consolidated Financial Statements and Notes
to Consolidated Financial Statements included as part of this
Form 10-K.
Triad Guaranty Inc. (the Company) is a holding
company which, through one of its wholly-owned subsidiaries,
Triad Guaranty Insurance Corporation (Triad),
provides private mortgage insurance coverage in the United
States to mortgage lenders to protect the lender against loss
from defaults on mortgage loans. Triad Guaranty Insurance
Corporation Canada (TGICC) was incorporated as a
Canadian company in April 2007 and is a wholly owned subsidiary
that has been licensed as a mortgage insurer in Canada. During
2007, TGICC operated as a
start-up
company and did not write any policies. Subsequent to year-end,
TGICC repatriated $39 million of the original
$45 million capital contribution, which included a realized
gain of $3 million on foreign currency exchange.
The cost or amortized cost and the fair value of investments,
other than the investment in the subsidiaries held by the parent
company, is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost or
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Fair
|
|
At December 31, 2007
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Value
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate
|
|
$
|
27,925
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
27,925
|
|
Municipal
|
|
|
14,106
|
|
|
|
575
|
|
|
|
(168
|
)
|
|
|
14,513
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
42,031
|
|
|
|
575
|
|
|
|
(168
|
)
|
|
|
42,438
|
|
Equity securities
|
|
|
250
|
|
|
|
|
|
|
|
(34
|
)
|
|
|
216
|
|
Short-term investments
|
|
|
3,969
|
|
|
|
|
|
|
|
|
|
|
|
3,969
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
46,250
|
|
|
|
575
|
|
|
|
(202
|
)
|
|
|
46,623
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost or
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Fair
|
|
At December 31, 2006
|
|
Cost
|
|
|
Gains
|
|
|
Losses
|
|
|
Value
|
|
|
|
(Dollars in thousands)
|
|
|
Fixed maturity securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate
|
|
$
|
500
|
|
|
$
|
11
|
|
|
$
|
|
|
|
$
|
511
|
|
Municipal
|
|
|
28,286
|
|
|
|
1,232
|
|
|
|
(8
|
)
|
|
|
29,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
28,786
|
|
|
|
1,243
|
|
|
|
(8
|
)
|
|
|
30,021
|
|
Equity securities
|
|
|
250
|
|
|
|
1
|
|
|
|
|
|
|
|
251
|
|
Other investments
|
|
|
5,000
|
|
|
|
|
|
|
|
|
|
|
|
5,000
|
|
Short-term investments
|
|
|
213
|
|
|
|
|
|
|
|
|
|
|
|
213
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
34,249
|
|
|
|
1,244
|
|
|
|
(8
|
)
|
|
|
35,485
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
98
Major categories of the parent companys investment income
are summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
(Dollars in thousands)
|
|
|
Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed maturities
|
|
$
|
1,779
|
|
|
$
|
1,396
|
|
|
$
|
1,309
|
|
Equity securities
|
|
|
18
|
|
|
|
18
|
|
|
|
32
|
|
Dividends received from subsidiary (Triad)
|
|
|
30,000
|
|
|
|
|
|
|
|
|
|
Cash and short-term investments
|
|
|
790
|
|
|
|
82
|
|
|
|
36
|
|
Note receivable from subsidiary
|
|
|
2,225
|
|
|
|
2,240
|
|
|
|
2,231
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
34,812
|
|
|
|
3,736
|
|
|
|
3,608
|
|
Expenses
|
|
|
33
|
|
|
|
24
|
|
|
|
98
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net investment income
|
|
|
34,779
|
|
|
|
3,712
|
|
|
|
3,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In 1998, the Company completed a $35,000,000 private offering of
notes due January 15, 2028. Proceeds from the offering, net
of debt issue costs, totaled $34,453,000. The notes, which
represent unsecured obligations of the Company, bear interest at
a rate of 7.9% per annum and are non-callable.
On June 28, 2007, the Company entered into a three-year,
$80.0 million revolving unsecured credit facility with
three domestic banks to provide short-term liquidity for
insurance operations and general corporate purposes. Under the
credit agreement, the Company must maintain a minimum adjusted
consolidated net worth level of $410.0 million at
December 31, 2007, and must not exceed a statutory
risk-to-capital ratio threshold of 22-to-1 at the Triad level.
In addition, the agreement contains covenants restricting the
Companys ability to incur liens, merge or consolidate with
another entity and dispose of all or substantially all of its
assets. At December 31, 2007, the Company was in compliance
with all such covenants and had drawn down $80 million
under the facility, all of which remained outstanding. If the
Company were to violate any of the covenants requiring the
repayment of the $80 million drawn down under the credit
facility, there remains adequate funds (including the
$39 million repatriated from the registrants Canadian
subsidiary in January 2008) at the parent level to repay
the debt. The credit facility provides for a commitment fee and
a utilization fee based upon the most recent financial strength
rating. At December 31, 2007, the interest rate was 5.17%,
which was equal to One-Month LIBOR plus a margin which is also
based upon the most recent financial strength rating.
99
SCHEDULE IV
REINSURANCE
TRIAD GUARANTY INC.
MORTGAGE INSURANCE PREMIUM EARNED
Years Ended December 31, 2007, 2006 and 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ceded To
|
|
Assumed
|
|
|
|
Percentage of
|
|
|
Gross
|
|
Other
|
|
From Other
|
|
Net
|
|
Amount Assumed
|
|
|
Amount
|
|
Companies
|
|
Companies
|
|
Amount
|
|
to Net
|
|
|
(Dollars in thousands)
|
|
2007
|
|
$
|
334,406
|
|
|
$
|
55,507
|
|
|
$
|
1
|
|
|
$
|
278,900
|
|
|
|
0.0
|
%
|
2006
|
|
$
|
257,006
|
|
|
$
|
46,151
|
|
|
$
|
1
|
|
|
$
|
210,856
|
|
|
|
0.0
|
%
|
2005
|
|
$
|
209,708
|
|
|
$
|
40,712
|
|
|
$
|
1
|
|
|
$
|
168,997
|
|
|
|
0.0
|
%
|
100
EXHIBIT INDEX
Form 10-K
for Fiscal Year Ended December 31, 2007
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
3
|
.1
|
|
Certificate of Incorporation of the Registrant, as amended
May 23, 1997; previously filed as Exhibit 3.1 to the
Registrants Quarterly Report on
Form 10-Q
for the quarterly period ending June 30, 1997, filed
August 12, 1997, and herein incorporated by reference.
|
|
3
|
.2
|
|
Certificate of Amendment of Certificate of Incorporation of the
Registrant, effective as of May 20, 1998.
|
|
3
|
.3
|
|
Bylaws of the Registrant, as amended on March 21, 2003;
previously filed as Exhibit 3.2 to the Registrants
Annual Report on
Form 10-K
for the fiscal year ended December 31, 2002, filed
March 27, 2003, and herein incorporated by reference.
|
|
4
|
.1
|
|
Form of common stock certificate; previously filed as
Exhibit 4 to the Registrants Registration Statement
on
Form S-1,
filed October 22, 1993.
|
|
4
|
.2
|
|
Indenture, dated as of January 15, 1998, between the
Registrant and Bankers Trust Company; previously filed as
Exhibit 4.2 to the Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 1997, filed
March 26, 1998, and herein incorporated by reference.
|
|
10
|
.6
|
|
Registration Agreement among the Registrant, Collateral
Investment Corp. and Collateral Mortgage, Ltd.; previously filed
as Exhibit 10.6 to the Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 1993, filed
March 28, 1994, and herein incorporated by reference.
|
|
10
|
.16
|
|
Economic Value Added Incentive Bonus Program (Senior
Management); previously filed as Exhibit 10.16 to the
Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 1996, filed
March 27, 1997, and herein incorporated by reference.
|
|
10
|
.21
|
|
Excess of Loss Reinsurance Agreement, effective as of
December 31, 1999, between Triad Guaranty Insurance
Corporation, Capital Mortgage Reinsurance Company and Federal
Insurance Company; previously filed as Exhibit 10.21 to the
Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 1999, filed
March 29, 2000, and herein incorporated by reference.
|
|
10
|
.22
|
|
Excess of Loss Reinsurance Agreement, effective as of
January 1, 2001, between Triad Guaranty Insurance
Corporation and Ace Capital Mortgage Reinsurance Company;
previously filed as Exhibit 10.22 to the Registrants
Annual Report on
Form 10-K
for the fiscal year ended December 31, 2000, filed
March 30, 2001, and herein incorporated by reference.
|
|
10
|
.23
|
|
Employment Agreement, dated May 1, 2002, between the
Registrant and Earl F. Wall; previously filed as
Exhibit 10.23 to the Registrants Quarterly Report on
Form 10-Q
for the quarter ending June 30, 2002, filed August 14,
2002, and herein incorporated by reference.*
|
|
10
|
.26
|
|
Employment Agreement, dated June 14, 2002, between the
Registrant and Kenneth C. Foster; previously filed as
Exhibit 10.26 to the Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 2002, filed
March 27, 2003, and herein incorporated by reference.*
|
|
10
|
.27
|
|
Consulting Agreement, dated December 9, 2004, by and
between the Registrant, Triad Guaranty Insurance Corporation,
Triad Guaranty Assurance Company and Collateral Mortgage, Ltd.;
previously filed as Exhibit 10.27 to the Registrants
Annual Report on
Form 10-K
for the fiscal year ended December 31, 2004, filed
March 14, 2005, and herein incorporated by reference.
|
|
10
|
.28
|
|
Agreement for Administrative Services, effective January 1,
2005, between and among Collateral Mortgage, Ltd., Collat, Inc.,
New South Federal Savings Bank, the Registrant and Triad
Guaranty Insurance Corporation; previously filed as
Exhibit 10.28 to the Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 2004, filed
March 14, 2005, and herein incorporated by reference.
|
|
10
|
.30
|
|
Exchange Agreement, dated as of May 18, 2005, by and among
the Registrant, Collateral Investment Corp. and the Shareholders
of Collateral Investment Corp. listed on the signature pages
thereto; previously filed as Exhibit 10.30 to the
Registrants Quarterly Report on
Form 10-Q
for the quarterly period ending June 30, 2005, filed
August 8, 2005, and herein incorporated by reference.
|
|
10
|
.32
|
|
Employment Agreement and Related Letter of Agreement, dated
September 9, 2005, between the Registrant and Mark K.
Tonnesen; previously filed as Exhibit 10.32 to the
Registrants Current Report on
Form 8-K,
filed September 16, 2005, and herein incorporated by
reference.*
|
101
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
10
|
.33
|
|
Employment Agreement, dated January 6, 2006, by and between
Ronnie D. Kessinger and the Registrant; previously filed as
Exhibit 10.33 to the Registrants Current Report on
Form 8-K,
filed January 11, 2006, and herein incorporated by
reference.*
|
|
10
|
.34
|
|
Summary of Director Compensation Plan, effective as of
January 1, 2006.*
|
|
10
|
.35
|
|
Form of Triad Guaranty Inc. 2006 Long-Term Stock Incentive Plan;
previously filed as Exhibit 10.35 to the Registrants
Current Report on
Form 8-K,
filed May 23, 2006, and herein incorporated by reference.*
|
|
10
|
.36
|
|
Amendment to Employment Agreement, dated July 15, 2006,
between Ronnie D. Kessinger and the Registrant; previously filed
as Exhibit 10.36 to the Registrants Current Report on
Form 8-K,
filed July 17, 2006, and herein incorporated by reference.*
|
|
10
|
.37
|
|
Agreement, dated March 30, 2006, entered into between the
Registrant and Kenneth W. Jones; previously filed as
Exhibit 10.1 to the Registrants Current Report on
Form 8-K,
filed April 5, 2006, and herein incorporated by reference.*
|
|
10
|
.38
|
|
Resignation and Release Agreement, dated March 20, 2006,
entered into by and between the Registrant and Eric B. Dana;
previously filed as Exhibit 10.2 to the Registrants
Current Report on
Form 8-K,
filed April 5, 2006, and herein incorporated by reference.*
|
|
10
|
.39
|
|
Employment Agreement, dated August 15, 2006, between the
Registrant and Kenneth N. Lard; previously filed as
Exhibit 10.37 to the Registrants Current Report on
Form 8-K,
filed August 21, 2006, and herein incorporated by
reference.*
|
|
10
|
.40
|
|
Amendment to Letter Agreement, dated December 26, 2006,
between Mark K. Tonnesen and the Registrant; previously filed as
Exhibit 10.40 to the Registrants Current Report on
Form 8-K,
filed December 28, 2006, and herein incorporated by
reference.*
|
|
10
|
.41
|
|
Executive/Key Employee Phantom Stock Award Agreement between the
Registrant and Mark K. Tonnesen, dated December 26, 2006;
previously filed as Exhibit 10.41 to the Registrants
Current Report on
Form 8-K,
filed December 28, 2006, and herein incorporated by
reference.*
|
|
10
|
.42
|
|
Second Amendment to Employment Agreement, dated January 18,
2007, between Ronnie D. Kessinger and the Registrant; previously
filed as Exhibit 10.42 to the Registrants Current
Report on
Form 8-K;
filed January 19, 2007, and herein incorporated by
reference.*
|
|
10
|
.43
|
|
Form of Executive/Key Employee Restricted Stock Agreement under
Triad Guaranty Inc. 2006 Long-Term Stock Incentive Plan;
previously filed as Exhibit 10.43 to the Registrants
Annual Report on
Form 10-K
for the fiscal year ended December 31, 2006, filed
March 16, 2007, and herein incorporated by reference.*
|
|
10
|
.44
|
|
Form of Executive Stock Option Agreement under Triad Guaranty
Inc. 2006 Long-Term Stock Incentive Plan; previously filed as
Exhibit 10.44 to the Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 2006, filed
March 16, 2007, and herein incorporated by reference.*
|
|
10
|
.45
|
|
Form of Outside Director Restricted Stock Agreement under Triad
Guaranty Inc. 2006 Long-Term Stock Incentive Plan; previously
filed as Exhibit 10.45 to the Registrants Annual
Report on
Form 10-K
for the fiscal year ended December 31, 2006, filed
March 16, 2007, and herein incorporated by reference.*
|
|
10
|
.46
|
|
Form of Outside Director Stock Option Agreement under Triad
Guaranty Inc. 2006 Long-Term Stock Incentive Plan; previously
filed as Exhibit 10.46 to the Registrants Annual
Report on
Form 10-K
for the fiscal year ended December 31, 2006, filed
March 16, 2007, and herein incorporated by reference.*
|
|
10
|
.47
|
|
Summary of Director Compensation Plan, effective as of
May 17, 2007.*
|
|
10
|
.49
|
|
Credit Agreement, dated as of June 28, 2007, among the
Registrant, Bank of America, N.A., the other lenders party
thereto; previously filed as Exhibit 10.47 to the
Registrants Quarterly Report on
Form 10-Q
for the quarterly period ending June 30, 2007, filed
August 9, 2007, and herein incorporated by reference.*
|
|
10
|
.50
|
|
Employment Agreement, dated March 28, 2008, between the
Registrant and Kenneth C. Foster.*
|
|
21
|
.1
|
|
Subsidiaries of the Registrant.
|
|
23
|
.1
|
|
Consent of Independent Registered Public Accounting Firm.
|
|
31
|
.1
|
|
Certification of the Chief Executive Officer pursuant to
Rule 13a-14(a)
or 15d-14(a) of the Securities Exchange Act of 1934, as amended,
as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
|
102
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
31
|
.2
|
|
Certification of the Chief Financial Officer pursuant to
Rule 13a-14(a)
or 15d-14(a) of the Securities Exchange Act of 1934, as amended,
as adopted pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002.
|
|
32
|
.1
|
|
Certification of the Chief Executive Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.**
|
|
32
|
.2
|
|
Certification of the Chief Financial Officer pursuant to
18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.**
|
|
|
|
|
Our SEC file number reference for documents filed with the SEC
pursuant to the Securities Exchange Act of 1934, as amended, is
000-22342.
|
|
|
|
* |
|
Management contract or compensatory plan or arrangement. |
|
** |
|
The following exhibits shall not be deemed filed for
purposes of Section 18 of the Securities Exchange Act of
1934, or otherwise subject to the liability of that Section. In
addition, Exhibit No. 32.1 and Exhibit No. 32.2
shall not be deemed incorporated into any filing under the
Securities Act of 1933 or the Securities Exchange Act of 1934. |
103