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Proc-Type: 2001,MIC-CLEAR
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<SEC-DOCUMENT>0000950130-01-500354.txt : 20010329
<SEC-HEADER>0000950130-01-500354.hdr.sgml : 20010329
ACCESSION NUMBER: 0000950130-01-500354
CONFORMED SUBMISSION TYPE: 10-K405
PUBLIC DOCUMENT COUNT: 15
CONFORMED PERIOD OF REPORT: 20001231
FILED AS OF DATE: 20010328
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: AMBAC FINANCIAL GROUP INC
CENTRAL INDEX KEY: 0000874501
STANDARD INDUSTRIAL CLASSIFICATION: SURETY INSURANCE [6351]
IRS NUMBER: 133621676
STATE OF INCORPORATION: DE
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: 10-K405
SEC ACT:
SEC FILE NUMBER: 001-10777
FILM NUMBER: 1581583
BUSINESS ADDRESS:
STREET 1: ONE STATE ST PLZ
CITY: NEW YORK
STATE: NY
ZIP: 10004
BUSINESS PHONE: 2126680340
MAIL ADDRESS:
STREET 1: ONE STATE ST PLZ
CITY: NEW YORK
STATE: NY
ZIP: 10004
FORMER COMPANY:
FORMER CONFORMED NAME: AMBAC INC /DE/
DATE OF NAME CHANGE: 19930328
</SEC-HEADER>
<DOCUMENT>
<TYPE>10-K405
<SEQUENCE>1
<FILENAME>d10k405.txt
<DESCRIPTION>FORM 10-K FOR PERIOD ENDING 12/31/2000
<TEXT>
<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended Commission File Number
December 31, 2000 1-10777
Ambac Financial Group, Inc.
(Exact name of Registrant as specified in its charter)
Delaware 13-3621676
(State of incorporation) (I.R.S. employer identification no.)
One State Street Plaza
New York, New York 10004
(Address of principal executive offices) (Zip code)
(212) 668-0340
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
Common Stock, $0.01 per share and
Preferred Stock Purchase Rights New York Stock Exchange, Inc.
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No ___
---
Indicate by check mark 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 Registrant's 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. [X]
The aggregate market value of voting stock held by non-affiliates of the
Registrant as of March 14, 2001 was $5,948,811,002 (based upon the closing price
of the Registrant's shares of the New York Stock Exchange on March 14, 2001,
which was $57.14). For purposes of this information, the outstanding shares of
Common Stock which were owned by all directors and executive officers of the
Registrant were deemed to be shares of Common Stock held by affiliates.
As of March 14, 2001, 105,652,028 shares of Common Stock, par value $0.01
per share, (net of 368,509 treasury shares) were outstanding.
Documents Incorporated By Reference
Portions of the Registrant's Annual Report to Stockholders for the year
ended December 31, 2000 are incorporated by reference into Parts II and IV
hereof. Portions of the Registrant's Proxy Statement dated March 28, 2001 in
connection with the Annual Meeting of Stockholders to be held on May 1, 2001 are
incorporated by reference into Part III hereof.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
PART I
Item 1. Business..................................................................... 1
Item 2. Properties................................................................... 27
Item 3. Legal Proceedings............................................................ 27
Item 4. Submission of Matters to a
Vote of Security Holders..................................................... 27
PART II
Item 5. Market for Registrant's Common
Equity and Related Stockholder Matters....................................... 27
Item 6. Selected Financial Data...................................................... 27
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations.......................................... 28
Item 7A. Quantitative and Qualitative Disclosures 28
About Market Risk............................................................
Item 8. Financial Statements and Supplementary Data.................................. 28
Item 9. Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure.......................................... 28
PART III
Item 10. Directors and Executive Officers
of the Registrant............................................................ 28
Item 11. Executive Compensation....................................................... 28
Item 12. Security Ownership of Certain
Beneficial Owners and Management............................................. 28
Item 13. Certain Relationships and
Related Transactions......................................................... 29
PART IV
Item 14. Exhibits, Financial Statement
Schedules, and Reports on Form 8-K........................................... 29
SIGNATURES ............................................................................. 35
FINANCIAL STATEMENT SCHEDULES............................................................ S-1
</TABLE>
<PAGE>
Part I
Item 1. Business.
GENERAL
Ambac Financial Group, Inc. (the "Company"), headquartered in New York
City, is a holding company whose subsidiaries provide financial guarantee
products and other financial services to clients in both the public and private
sectors around the world. The Company was incorporated on April 29, 1991. The
Company provides financial guarantees for municipal and structured finance
obligations through its principal operating subsidiary, Ambac Assurance
Corporation ("Ambac Assurance"). Through its financial services subsidiaries,
the Company provides financial and investment products including investment
agreements, interest rate swaps, funding conduits, investment advisory and cash
management services, principally to its financial guarantee clients which
include municipalities and their authorities, school districts, health care
organizations and asset-backed issuers.
Ambac Assurance, which serves the global capital markets, is primarily
engaged in guaranteeing municipal and structured finance obligations and is the
successor to the founding financial guarantee insurance company, which wrote the
first bond insurance policy in 1971. Financial guarantee products written by
Ambac Assurance in both the primary and secondary markets guarantee payment when
due of the principal of and interest on the guaranteed obligation. In the case
of default on a guaranteed obligation, payments under the financial guarantee
policy may not be accelerated by the policyholder without Ambac Assurance's
consent. Ambac Assurance seeks to minimize the risk inherent in its financial
guarantee portfolio by maintaining a diverse portfolio which spreads its risk
across a number of criteria, including issue size, type of bond, geographic area
and obligor. As of December 31, 2000, Ambac Assurance's net financial guarantee
in force (after giving effect for reinsurance) was $418.4 billion. See
"Financial Guarantee in Force" below.
Ambac Credit Products L.L.C. ("ACP"), a wholly owned subsidiary of
Ambac Assurance, provides credit protection in the global markets in the form of
structured credit derivatives. These structured credit derivatives involve
private transactions with high quality counterparties. These contracts require
ACP to make payments upon the occurrence of certain defined credit events
relating to an underlying obligation (generally a fixed income obligation).
Structured credit derivatives issued by ACP are guaranteed by Ambac Assurance.
See "Business Segments -- Financial Guarantee" below and "Management's
Discussion and Analysis -- Risk Management" in the Company's 2000 Annual Report
to Shareholders for more detail about structured credit derivatives.
Ambac Assurance has earned triple-A ratings, the highest ratings
available from Moody's Investors Service, Inc. ("Moody's"), Standard & Poor's
Ratings Services ("S&P"), Fitch, Inc. ("Fitch") and Rating and Investment
Information, Inc. ("R&I"). These ratings are an essential part of Ambac
Assurance's ability to provide credit enhancement. See "Rating Agencies" below.
The Company's investment agreement business ("IA Business"), conducted
through its subsidiary, Ambac Capital Funding, Inc. ("ACFI"), provides
investment agreements primarily to municipalities and their authorities,
structured finance obligations and
1
<PAGE>
international issuers. Investment agreements written by ACFI are insured by
Ambac Assurance, its triple-A financial guarantee affiliate. Investment
agreements are primarily used by issuers to invest bond proceeds until the
proceeds can be used for their intended purpose. The investment agreement
provides for the guaranteed return of principal invested, and for the payment of
interest thereon at a guaranteed rate. See "Investment Agreements" below.
The Company provides interest rate swaps through its subsidiary Ambac
Financial Services, L.P. ("AFSLP") primarily to states, municipalities and their
authorities, and other entities in connection with their financings. The
interest rate swaps provided by AFSLP are guaranteed by Ambac Assurance and
provide a financing alternative that may reduce an issuer's overall borrowing
costs and/or help manage their interest rate risk. See "Interest Rate Swaps"
below.
The Company provides investment advisory, cash management and fund
administration services through its subsidiary, Cadre Financial Services, Inc.
("Cadre"), and broker/dealer services through its subsidiary, Cadre Securities,
Inc. ("Cadre Securities"), primarily to school districts, hospitals and health
care organizations, and municipalities.
As a holding company, Ambac Financial Group, Inc. is largely dependent
on dividends from Ambac Assurance, its principal operating subsidiary, to pay
dividends on its capital stock, to pay principal and interest on its
indebtedness, to pay its operating expenses, and to make capital investments in
its subsidiaries. Dividends from Ambac Assurance are subject to certain
insurance regulatory restrictions. See "Insurance Regulatory Matters --Wisconsin
Dividend Restrictions" below and "Management's Discussion and Analysis --
Liquidity and Capital Resources" in the Company's 2000 Annual Report to
Stockholders.
Materials in this Form 10-K may contain information that includes or is
based upon forward-looking statements within the meaning of the Securities
Litigation Reform Act of 1995. Forward-looking statements give the Company's
expectations or forecasts of future events. You can identify these statements by
the fact that they do not relate strictly to historical or current facts and
relate to future operating or financial performance.
Any or all of our forward-looking statements here or in other
publications may turn out to be wrong and are based on current expectations and
the current economic environment. The Company's actual results may vary
materially, and there are no guarantees about the performance of the Company's
stock. Among factors that could cause actual results to differ materially are:
(1) changes in the economic, credit or interest rate environment in the United
States and abroad; (2) the level of activity within the national and worldwide
debt markets; (3) competitive conditions and pricing levels; (4) legislative and
regulatory developments; (5) changes in tax laws; and (6) other risks and
uncertainties that have not been identified at this time. The Company undertakes
no obligation to publicly correct or update any forward-looking statement if we
later become aware that it is not likely to be achieved. You are advised,
however, to consult any further disclosures we make on related subjects in the
Company's reports to the Securities and Exchange Commission ("SEC").
2
<PAGE>
BUSINESS SEGMENTS
The following paragraphs describe the business operations of Ambac
Financial Group, Inc. and its subsidiaries (sometimes collectively referred to
as the "Company") for the Company's two reportable segments: Financial Guarantee
and Financial Services.
Financial Guarantee
Generally, financial guarantee insurance written by Ambac Assurance
guarantees to the holder of the underlying obligation timely payment of
principal and interest by the issuer on such obligation in accordance with its
original payment schedule. Accordingly, in the case of issuer default on the
guaranteed obligation, payments under the financial guarantee policy may not be
accelerated by the policyholder without Ambac Assurance's consent.
Financial guarantee insurance is a form of credit enhancement that
benefits both the issuer and the investor. Issuers benefit because their
securities are sold with a higher credit rating than securities of the issuer
sold without credit enhancement, resulting in interest cost savings and greater
marketability. In addition, for complex financings and obligations of issuers
that are not well known by investors, credit enhanced obligations receive
greater market acceptance than obligations without credit enhancement. Investors
benefit from greater marketability, secondary market price stability, active
credit surveillance and protection from loss associated with issuer default.
Structured credit derivatives written by ACP provide credit protection
in respect of specific financial obligations (primarily fixed income
obligations). The majority of the Company's structured credit derivative
contracts are partially hedged with various financial institutions or structured
with first loss protection. Such structuring mitigates the Company's risk of
loss and reduces the price volatility of these financial instruments. Should a
defined credit event occur, ACP would generally make a payment equivalent to the
difference between the par value and market value of the underlying obligation.
The Company derives financial guarantee revenues from: (i) premiums
earned over the life of the obligations guaranteed; (ii) net investment income;
(iii) net realized gains and losses from sales of investment securities; (iv)
certain structuring and other fees; and (v) revenue from credit derivative
transactions. Financial guarantee revenues were $565.4 million, $474.1 million
and $408.4 million in 2000, 1999 and 1998, respectively. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Note 18 of Notes to Consolidated Financial Statements in the Company's 2000
Annual Report to Stockholders.
Financial guarantee products are sold in three principal markets: the
U.S. municipal market, the U.S. structured finance and asset-backed market, and
the international market. Total gross par guaranteed for the years ended
December 31, 2000, 1999 and 1998 was $71.3 billion, $73.3 billion and $61.5
billion, respectively.
3
<PAGE>
U. S. Municipal Market
Until 1993, Ambac Assurance was almost exclusively focused on the
municipal market in the United States. The U.S. municipal market includes
taxable and tax-exempt bonds, notes and other evidences of indebtedness issued
by states, political subdivisions (e.g., cities, counties, towns and villages),
water, sewer, electric and other utility districts, airports, higher educational
institutions, hospitals, transportation and housing authorities and other
similar authorities and agencies. Municipal obligations are generally supported
by either the taxing authority of the issuer or the issuer's or underlying
obligor's ability to collect fees or assessments for certain projects or public
services. More recently, the municipal market has expanded to include
structured, project finance and asset-backed bond issues for infrastructure
projects, sports stadiums, lease pools and other municipal purposes. This
portion of the market is growing and has become a focus for the Company in
recent years. The following table sets forth the volume of new issues of long-
term (longer than 12 months) municipal bonds and the volume of new issues of
insured long-term municipal bonds over the past ten years in the United States.
U.S. Long-Term Municipal Market
-------------------------------
<TABLE>
<CAPTION>
Insured Bonds
Total Insured as Percentage
($ in Billions) Volume Volume of Total Volume
------ ------ ---------------
<S> <C> <C> <C>
1991................................................ $172.4 $ 51.9 30.1%
1992................................................ 234.7 80.8 34.4
1993................................................ 292.2 108.0 37.0
1994................................................ 165.0 61.5 37.3
1995................................................ 160.0 68.5 42.8
1996................................................ 185.0 85.7 46.3
1997................................................ 220.6 107.5 48.7
1998................................................ 286.2 145.1 50.7
1999................................................ 227.4 105.3 46.3
2000................................................ 193.0 78.8 39.6
</TABLE>
Source: Amounts, except for 2000, are based upon estimated data reported by The
Bond Buyer's 2000 Yearbook. The 2000 amounts are Ambac Assurance
estimates, compiled from industry sources including Securities Data
Company, Inc. and The Bond Buyer. Amounts represent gross par amounts
issued or insured, respectively, during such year.
The foregoing table illustrates the changes in the total volume and
insured volume of new issues of municipal bonds over the past ten years. Changes
in volume of municipal bond issuance during this period are primarily
attributable to changes in refunding activity related to the then-current
interest rate environment, along with relatively steady growth in the underlying
market. Insured volume, as a percentage of total volume, which had grown
consistently from 1990 through 1998, has now declined. The decline during 2000
is generally considered to have resulted from the combination of the relatively
high credit quality of issues that came to market during the period and the
firmness in premium pricing in the industry.
Ambac Assurance guaranteed gross par of $21.4 billion, $32.5 billion
and $33.9 billion in 2000, 1999 and 1998, respectively, in the U.S. municipal
finance market.
In the U.S. municipal finance market, an issuer typically pays an
up-front premium to Ambac Assurance at the time the policy is issued. Premiums
are usually quoted as a percentage of the total amount of principal and interest
that is scheduled to become due during the life of the bonds.
4
<PAGE>
Proposed new municipal bond issues are submitted to Ambac Assurance by
issuers (or their investment bankers or financial advisors) to determine their
suitability for financial guarantee. Municipal bond issues are sold on either a
competitive or a negotiated basis. With respect to competitive issues, an issuer
will publish a notice of sale soliciting bids for the purchase of a proposed
issue of municipal bonds. Potential bidders on the bonds then form syndicates.
These syndicates then solicit a determination from some or all of the financial
guarantors whether an issue is suitable for financial guarantee and at what
premium rate and on what terms. The syndicate then determines whether to bid on
the issue with a financial guarantee (and if so, with which financial guarantor)
or without a financial guarantee. The issuer then generally selects the
syndicate with the lowest bid. In a negotiated offering, the issuer has already
selected an investment bank and that investment bank solicits premium quotes and
terms from the financial guarantors.
Ambac Assurance also provides guarantees on bonds outstanding in the
secondary market that are typically purchased by an institution to facilitate
the sale of municipal bonds in its portfolio or inventory. The guarantee
generally increases the sale price of bonds (typically by an amount greater than
the cost of the policy) and affords a wider secondary market and therefore
greater marketability to a given issue of previously issued bonds. As is the
case with new issues, the premium is generally payable in full at the time of
policy issuance. Ambac Assurance employs the same underwriting standards on
secondary market issues that it does on new municipal bond issues.
As of December 31, 2000 and 1999, net outstanding par exposure related
to municipal bond transactions was $180.3 billion and $173.0 billion,
respectively. See "Financial Guarantees in Force - Types of Bonds" below, for a
breakout of net outstanding par exposure by bond type.
U.S. Structured Finance and Asset-backed Market
Financial guarantees of securities in the U.S. structured finance and
asset-backed market are typically issued in connection with transactions in
which the securities being issued are secured by or payable from a specific pool
of assets. This pool of assets has an identifiable cash flow or market value and
is held by a special purpose issuing entity.
Asset-backed securizations may be supported by a broad range of assets
including mortgage-backed securities and home equity loans, credit card
receivables, trade receivables, auto loans, student loans and leases. Other
deals, called structured financings, include collateralized debt obligations
("CDOs"), collateralized bond obligations ("CBOs") and collateralized loan
obligations ("CLOs"), are typically backed by corporate, sovereign or
sub-sovereign debt.
Structured finance also encompasses credit enhancement for commercial
paper conduits ("conduits"). Conduits are used by issuers to efficiently fund
assets in the short-term commercial paper market. Typically sponsored by
financial institutions, customers sell financial assets such as trade
receivables to the conduits, which in turn issue commercial paper to fund the
purchase of the assets. In addition to providing program level enhancement
covering the entire conduit structure, Ambac Assurance may also provide a
financial guarantee against the default of a specific security sold into a
conduit.
5
<PAGE>
In general, structured finance and asset-backed obligations are payable
only from cash flow generated by a pool of assets and take the form of either
"pass-through" obligations, which represent interests in the related assets, or
"pay-through" obligations, which generally are debt obligations which are
collateralized by the related assets. Both types of obligations also generally
have the benefit of over-collateralization and/or other forms of credit
enhancement to mitigate credit risks associated with the related assets.
Unlike the municipal market in which a substantial portion of the deals
is bid competitively by the financial guarantors, the structured and
asset-backed market is essentially a negotiated one. The financial guarantor
will work directly with the investment bank or client to create an acceptable
structure. Consequently, in addition to the types of deals listed above,
structured finance will also include unique transactions and small market
niches.
The U.S. structured finance and asset-backed market in which Ambac
Assurance provides financial guarantees is broad and varied, comprising public
issues, private placements and asset-backed commercial paper ("ABCP"). The
increasing array of classes of assets securitized or guaranteed, and the recent
rapid development of the market, makes estimating the size of the aggregate U.S.
structured finance and asset-backed markets difficult. Three of the most
developed sectors of this market are public asset-backed, mortgage-backed
securities and ABCP. According to Asset-Backed Alert, volume in public
asset-backed and mortgage-backed securities combined totaled $339.9 billion,
$360.3 billion and $319.0 billion in 2000, 1999 and 1998, respectively.
Approximately 21%, 21% and 19% of those markets were insured in 2000, 1999 and
1998, respectively. According to Merrill Lynch, total ABCP outstanding at
December 31, 2000, 1999 and 1998 was approximately $624.0 billion, $521.0
billion and $392.0 billion, respectively.
Ambac Assurance guaranteed gross par of $30.4 billion, $33.4 billion
and $22.6 billion in 2000, 1999 and 1998, respectively, in the U.S. Structured
Finance and Asset-backed market.
Premiums for structured finance and asset-backed policies are based on
a percentage of either principal or principal and interest insured. The timing
of the collection of structured finance and asset-backed premiums varies among
individual transactions; some being collected in a single payment at policy
inception date, and others being collected periodically (e.g., monthly,
quarterly or annually) from the cash flow generated by the underlying financial
assets.
As of December 31, 2000 and 1999, net outstanding par exposure related
to U.S. structured finance and asset-backed transactions was $64.7 billion and
$53.0 billion, respectively. See "Financial Guarantees in Force - Types of
Bonds" below, for a breakout of net outstanding par exposure by bond type.
International Market
Outside of the United States, structured and asset-backed issuers,
utilities, sovereign and sub-sovereign issuers, and other issuers are
increasingly using financial guarantee products, particularly in markets
throughout Western Europe. A number of
6
<PAGE>
important trends in international markets have contributed to this expansion. In
the United Kingdom, Australia and elsewhere, ongoing privatization efforts have
shifted the burden of funding from the government to public and private capital
markets, where investors may seek the security of financial guarantee products.
In Europe, Australia, Japan and the Emerging Markets, there is growing interest
in asset-backed securitization.
While the principles of securitization have been increasingly applied
in overseas markets, development in particular countries has varied due to the
sophistication of the local capital markets and the impact of legal and
financial regulatory requirements and accounting standards. It is anticipated
that securitization will continue to expand internationally, albeit at varying
rates in each country. Ambac Assurance insures a wide array of obligations in
the international markets including infrastructure finance, asset-backed and
structured transactions, utilities, and other obligations in selected
international markets.
Ambac Assurance's strategy in the international markets is to
strengthen its franchise in developed markets by focusing on high quality
infrastructure, structured finance, securitization, and utility finance
transactions, and in emerging markets by focusing on top tier future flow
transactions (structured transactions secured by offshore cash flows generated
from exports or payment remittances) and collateralized debt obligations.
In 1997, Ambac Assurance established a subsidiary in the United
Kingdom, Ambac Assurance UK Limited ("Ambac UK"), which is authorized to conduct
certain classes of general financial guarantee business in the United Kingdom.
Ambac UK is the Company's primary vehicle for directly issuing financial
guarantee policies in the United Kingdom and Europe. Ambac UK has entered into
net worth maintenance and reinsurance agreements with Ambac Assurance, which
support its triple-A ratings.
During 2000, Ambac Assurance entered into an alliance agreement in
Japan with Yasuda Fire and Marine ("Yasuda") and now occupies joint offices in
Japan with Yasuda Kasai Financial Guarantee Insurance Company, Limited ("YKFG"),
a Yasuda subsidiary and the first triple-A rated monoline financial guarantor in
Japan. Together, Ambac Assurance and YKFG will seek to significantly increase
the market for financial guarantees in Japan.
From 1995 to March 2000, Ambac Assurance and MBIA Insurance Corporation
("MBIA") marketed financial guarantees outside of the United States via an
unincorporated joint venture, MBIA.AMBAC International (the "Joint Venture").
Under the Joint Venture, financial guarantee policies were issued separately by
each of the companies. While retaining the right to act individually, each
company had the opportunity to reinsure up to 50 percent of the international
financial guarantee business written by the other company as part of the Joint
Venture. In March 2000, Ambac Assurance and MBIA announced the restructuring of
their Joint Venture arrangement. Post restructuring, Ambac Assurance and MBIA
have continued the reciprocal reinsurance arrangement for international
business. However, the companies now market and originate financial guarantees
independently. The Company believes that the restructuring of the Joint Venture
has not and will not result in any reduction in premiums written from
international business, although no assurances can be given that such a
reduction will not occur in the future.
While there is evidence that the volume of international structured
finance transactions has increased significantly in the recent past, unlike the
municipal and
7
<PAGE>
domestic asset-backed markets, there are few statistics that effectively track
volume in the global markets. There are several reasons for this, including the
varied nature of the deals coming to market, the early stages of development of
certain asset classes and the fact that many international deals are privately
placed.
Ambac Assurance guaranteed gross par of $19.5 billion, $7.4 billion and
$5.0 billion in 2000, 1999 and 1998, respectively, in the international market.
Premiums for international policies are based on a percentage of either
principal or principal and interest guaranteed. The timing of the collection of
international structured finance and asset-backed premiums varies among
individual transactions; some being collected in a single payment at policy
inception date, and others being collected periodically (i.e., monthly,
quarterly or annually).
As of December 31, 2000 and 1999, net outstanding par exposure related
to international transactions was $31.3 billion and $14.3 billion, respectively.
See "Financial Guarantees in Force - Types of Bonds" below, for a breakout of
net outstanding par exposure by bond type.
Underwriting and Surveillance
Underwriting guidelines, policies and procedures have been developed by
Ambac Assurance's management with the intent that Ambac Assurance guarantee only
those obligations which, in the opinion of Ambac Assurance analysts, are of
investment grade quality with a remote risk of loss. However, losses may occur
from time to time and it is Ambac Assurance's policy to provide for loss
reserves that are adequate to cover potential losses. See "Losses and Reserves"
below.
The underwriting process involves review of structural, legal and
credit issues, including compliance with current Ambac Assurance underwriting
standards. These standards are reviewed periodically by management.
Additionally, the underwriting process often entails extensive on-site due
diligence covering the issuer and other parties to an insured transaction.
The decision to guarantee an issue is based upon such factors as the
issuer's ability to repay the bonds, the bond's security features and the bond's
structure, rather than upon an actuarial or statistical prediction of the
likelihood that the issuer will default on the underlying debt obligation.
Members of Ambac Assurance's underwriting staff review all requests for
guarantees. The underwriting process is designed to screen issues and begins
with a credit analysis by the primary analyst assigned to the issue. The credit
is then reviewed within the primary analyst's underwriting group. At a minimum,
the primary analyst's recommendation to qualify or reject an issue must be
approved by a concurring analyst and an underwriting officer. The number of
additional approvals required for a particular credit depends on Ambac
Assurance's aggregate exposure to the credit. In some cases, the complexity of
the credit or whether it is a new asset type are determining factors in the
approval/review process. For large, complex or new types of credits, the
underwriting decision must be approved by a credit committee comprised of senior
underwriting officers and an attorney, in addition to the analysts and
underwriting officer mentioned above.
8
<PAGE>
Ambac Assurance assigns internal ratings to individual exposures as
part of the underwriting process and at surveillance reviews. These internal
ratings, which represent Ambac Assurance's independent judgments, are based upon
underlying credit parameters similar to those used by rating agencies.
Municipal Underwriting:
----------------------
In addition to general underwriting standards, each asset class, and
bond type within asset class, has more specific underwriting criteria. For
example, the critical risk factors for municipal credits will include the credit
quality of the issuer, type of issue, the repayment source, the type of security
pledged, the presence of restrictive covenants, and the bond's maturity. Each
bond issue is evaluated in accordance with, and the final premium rate is a
function of, the particular factors as they relate to such issue.
Underwriting criteria that have been developed for each bond type
reflect the differences in, for example, economic and social factors, debt
management, project essentiality, financial management, legal and administrative
factors, revenue sources and security features.
Structured Finance Underwriting:
-------------------------------
Structured finance and asset-backed obligations generally entail two
forms of risks: asset risk, which relates to the amount and quality of asset
coverage; and structural risk, which relates to the extent to which the
transaction structure protects the interests of the investors, and therefore the
guarantor.
In general, the amount and quality of asset coverage required is
determined by the historical performance of the assets. The future performance
of the underlying pool of assets will generally determine whether the amount of
over-collateralization or other credit enhancement ultimately is sufficient to
protect investors, and therefore the guarantor, against adverse asset
performance. The ability of the servicer of the assets to properly service and
collect the underlying assets often is a factor in determining future asset
performance.
Structured and asset-backed securities are usually designed to protect
the investors, and therefore the guarantor, from the bankruptcy or insolvency of
the entity that originated the underlying assets as well as from the bankruptcy
or insolvency of the servicer of those assets. The servicer of the assets is
typically responsible for collecting cash payments on the underlying assets and
forwarding such payments, net of servicing fees, to the special purpose issuing
entity. Related issues that often arise concern whether the sale of the assets
by the originator to the issuer of the asset-backed obligations would be
respected in the event of the bankruptcy or insolvency of the originator and
whether the servicer of the assets may be permitted or required to delay the
remittance to investors of any cash collections held by it or received by it
after the time it becomes subject to bankruptcy or insolvency proceedings. In
addition, servicer risk is often present in these transactions. Generally,
servicer risk is the risk that poor performance at the servicer level
contributes to a decline in the collections of borrower payments in the
transaction. Ambac Assurance addresses these risks through its credit
underwriting guidelines, standards and procedures.
Within the mortgage-backed and home equity loan market, Ambac Assurance
seeks to work with higher quality, well-capitalized issuers. The issuers
typically originate or
9
<PAGE>
purchase first lien mortgages, home equity loans or home equity lines of credit,
which are in turn sold by the issuers in the form of asset-backed securities. In
considering whether to guarantee these securities, Ambac Assurance analyzes the
quality of the underlying assets, the structure of the securitization, the
experience and financial strength of the servicer of the underlying assets and
the credit quality of the issuer.
International Underwriting:
--------------------------
In the international markets, Ambac Assurance seeks to guarantee
transactions of the same high credit standards it applies in its U.S. business.
However, an understanding of the unique risks related to the particular country
and region that could impact the credit of the issuer is necessary. These risks
include legal and political environments, capital market dynamics, exposures to
foreign exchange, and the degree of governmental support. Ambac Assurance
monitors these risks carefully and addresses them through its credit
underwriting guidelines, country limits, standards and procedures.
Geographically, the markets receiving Ambac Assurance's primary
international focus have been the United Kingdom, Australia, Japan, France and
certain parts of Latin America. In addition, Ambac has guaranteed transactions
in which the geographic risk is spread over multiple countries. The types of
international obligations guaranteed have primarily been CBOs, CLOs,
asset-backed securities, sovereign and sub-sovereign obligations, special
revenue and infrastructure obligations. Management believes that risk associated
with its international book of business is similar in risk type to its domestic
structured finance book of business and, in fact, international transactions may
include components of domestic exposure.
Pricing:
-------
Ambac Assurance determines premium rates on the basis of the bond type
and its perception of the risk it is assuming based on the credit strength of
the bond issue. Factors considered in pricing include term to maturity,
structure of the issue, and credit and market factors including security
features and other credit enhancement features. Additionally, the interest rate
spread between insured and uninsured obligations with characteristics similar to
those of the proposed bond issue is considered in the pricing process as well as
the cost and the projected return to Ambac Assurance. The premium rate for a new
issue also takes into account the benefits to be obtained by the issuer.
Surveillance and Remediation:
----------------------------
Surveillance groups and other credit professionals review the financial
guarantee portfolio for concentration of risk by (i) specific bond types; (ii)
geographic location; and (iii) size of issue. Surveillance analysts schedule and
execute regular and ad hoc reviews of credits in the book of business.
Risk-adjusted surveillance strategies have been developed for each bond type.
Review periods and scope of review vary by bond type based upon the risk
inherent in the nature of the credits. The focus of the surveillance review is
to determine credit trends and recommend appropriate classification and review
periods. The separate underwriting groups are also responsible for portfolio
surveillance which entails a broader examination of trends in specific asset
classes and bond types.
Surveillance of the credit quality of underlying reference obligations
in the Company's structured credit derivatives portfolio is performed on a
regular basis. Credit spreads, which act as a measure of the market's perception
of an issuer's credit quality, are monitored to identify potential problems. In
addition, published credit ratings and current news reports are monitored
regularly.
10
<PAGE>
Those issues that are either in default or have developed problems that
eventually may lead to a claim or loss are tracked closely by the appropriate
surveillance team. Internal and/or outside counsel reviews the documents
underlying any problem credit and an analysis is prepared outlining Ambac
Assurance's rights and potential remedies, the duties of all parties involved
and recommendations for corrective actions. This analysis, along with the
schedule of corrective actions, is reviewed in the regular remedial credit
meetings. Ambac Assurance also meets with issuers to reach agreement upon the
nature and the scope of the problem and to discuss the issuers' operating plans.
In many instances, Ambac Assurance, under the terms of the documents
governing the underlying obligation, has the ability, among other things, to
direct that audits be performed with respect to servicer and trustee contractual
responsibilities. Ambac Assurance would meet with the appropriate officials to
outline Ambac Assurance's concerns and rights. When the underlying economics so
indicate, Ambac Assurance may aid in a restructuring to improve the debt service
coverage.
The rating agencies also monitor the credits underlying Ambac
Assurance's financial guarantee in force and, in most cases, advise Ambac
Assurance of the credit rating each issue would receive if it were not insured.
Portfolio Risk Management Committee:
-----------------------------------
The Company has a Portfolio Risk Management Committee ("PRMC") which
has established various procedures and controls to monitor and manage credit
risk. The PRMC is comprised of senior credit professionals and senior management
of the Company. Its scope is enterprise-wide and its focus is on risk
measurement, risk/return optimization, and capital attribution in a portfolio
context. This committee works closely with the senior credit committees of each
underwriting group to assure that credit criteria are maintained, are
appropriate and are systematically and consistently applied.
Financial Guarantees in Force
Ambac Assurance underwrites and prices financial guarantees on the
assumption that the guarantee will remain in force until maturity of the
underlying bonds. Ambac Assurance estimates that the average life of its
guarantees on new issue par in force at December 31, 2000 was 10 years. The 10
year average life is determined by applying a weighted average calculation,
using the remaining years to maturity of each guaranteed bond, and weighting
them on the basis of the remaining par guaranteed. No assumptions are made for
prepayments or future refundings of guaranteed issues. Municipal bonds generally
have provisions that allow the issuer to prepay all or a portion of the
outstanding amount prior to maturity.
Ambac Assurance seeks to maintain a diversified financial guarantee
portfolio designed to spread its risk based on a variety of criteria, including
issue size, type of bond, geographic area and issuer.
As of December 31, 2000, the total net par amount of guaranteed bonds
outstanding was $276.3 billion.
11
<PAGE>
Types of Bonds
The table below shows the distribution by bond type of Ambac
Assurance's guaranteed portfolio as of December 31, 2000.
Guaranteed Portfolio by Bond Type
as of December 31, 2000
<TABLE>
<CAPTION>
% of Total Net
Net Par Amount Par Amount
Bond Type Outstanding Outstanding
- ---------------------------------------------------------------------- -------------------- -----------------
<S> <C> <C>
($ In Millions)
U.S. Municipal Finance:
Lease and tax-backed revenue................................. $ 46,292 17%
General obligation........................................... 39,432 14
Utility revenue.............................................. 28,504 10
Health care revenue.......................................... 17,837 7
Investor-owned utilities..................................... 10,560 4
Transportation revenue....................................... 10,496 4
Higher education............................................. 9,603 3
Housing revenue.............................................. 7,146 3
Student loans................................................ 6,375 2
Other........................................................ 4,065 1
-------------------- -----------------
Total U.S. Municipal Finance............................. 180,310 65
-------------------- -----------------
U.S. Structured Finance:
Mortgage-backed and home equity............................. 38,215 14
Asset-backed and conduits................................... 22,121 8
Other....................................................... 4,324 2
-------------------- -----------------
Total Structured Finance................................. 64,660 24
-------------------- -----------------
Total Domestic........................................... 244,970 89
-------------------- -----------------
International: ...................................................
Structured credit derivatives.............................. 15,313 6
Asset-backed and conduits.................................. 8,595 3
Utilities.................................................. 1,803 1
Mortgage-backed and home equity............................ 1,364 -
Sovereign/sub-sovereign.................................... 1,123 -
Other...................................................... 3,084 1
-------------------- -----------------
Total International...................................... 31,282 11
-------------------- -----------------
Grand Total ......................................... $ 276,252 100%
==================== =================
</TABLE>
International transactions may include components of domestic exposure.
12
<PAGE>
The table below shows the percentage, by bond type, of new business
guaranteed by Ambac Assurance during each of the last five years.
New Business Guaranteed by Bond Type /(1)/
<TABLE>
<CAPTION>
Bond Type 2000 1999 1998 1997 1996
- -------------------------------------- -------------- ------------- -------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
U.S. Municipal Finance:
Lease and tax-backed revenue 12% 9% 15% 17% 23%
General obligation............. 5 9 10 18 16
Utilities /(2)/................ 5 9 12 12 15
Transportation revenue......... 2 4 2 2 3
Student loans.................. 2 2 1 1 3
Higher education............... 1 3 2 3 3
Housing revenue................ 1 1 2 3 3
Health care revenue............ 0 4 8 8 7
Other.......................... 1 1 1 1 0
-------------- ------------- -------------- -------------- -------------
Total Municipal Finance...... 29 42 53 65 73
-------------- ------------- -------------- -------------- -------------
U.S. Structured Finance:
Mortgage-backed and home......
Equity..................... 21 30 22 18 12
Asset-backed and conduits..... 16 16 15 9 4
Other......................... 5 2 2 3 3
-------------- ------------- -------------- -------------- -------------
Total U.S. Structured Finance 42 48 39 30 19
-------------- ------------- -------------- -------------- -------------
Total Domestic .......... 71 90 92 95 92
-------------- ------------- -------------- -------------- -------------
International:
Structured credit derivatives 20 4 0 0 0
Asset-backed and conduits..... 6 4 4 1 6
Utilities..................... 1 0 1 1 0
Mortgage-backed and home......
Equity..................... 1 1 0 1 0
Sovereign/sub-sovereign....... 0 0 0 1 0
Other......................... 1 1 3 1 2
-------------- ------------- -------------- -------------- -------------
Total International......... 29 10 8 5 8
-------------- ------------- -------------- -------------- -------------
Grand Total.................. 100% 100% 100% 100% 100%
============== ============= ============== ============== =============
</TABLE>
(1) Stated as a percentage of total net par amounts guaranteed during such
year.
(2) Includes investor-owned utilities.
Issue Size
Ambac Assurance seeks a broad coverage of the market by guaranteeing
small and large issues alike. Ambac Assurance's financial guarantee exposure as
of December 31, 2000 reflects the historical emphasis on issues guaranteed with
an original par amount of less than $25 million in the municipal market.
However, with the entrance into the U.S. structured finance and international
markets in recent years, Ambac Assurance's emphasis has evolved towards larger
deals. The following table sets forth the distribution of Ambac Assurance's
guaranteed portfolio as of December 31, 2000, with respect to the original size
of each guaranteed issue:
13
<PAGE>
Original Par Amount Per Issue
as of December 31, 2000
<TABLE>
<CAPTION>
% of Total Net Par % of Total Net
Number of Number of Amount Par Amount
Original Par Amount Issues Issues Outstanding Outstanding
- ------------------------------------- ---------------- ---------------- --------------- ----------------
($ In Millions)
<S> <C> <C> <C> <C>
Less than $10 million........... 8,729 62% $ 24,601 9%
$10-25 million.................. 2,519 18 30,657 11
$25-50 million.................. 1,203 9 33,026 12
Greater than $50 million........ 1,576 11 187,968 68
---------------- ---------------- --------------- ----------------
14,027 100% $ 276,252 100%
================ ================ =============== ================
</TABLE>
Geographic Area
Ambac Assurance is licensed to write business in the U.S. and abroad.
As of December 31, 2000, the ten largest U.S. states, as measured by net par
amount outstanding, accounted for approximately 41% of Ambac Assurance's total
net par amount outstanding. The following table sets forth the geographic
distribution of Ambac Assurance's insured exposure as of December 31, 2000.
Guaranteed Portfolio by Geographic Area as of December 31, 2000
<TABLE>
<CAPTION>
Net Par % of Total Net
Amount Par Amount
Geographic Area Outstanding Outstanding
--------------------------------------------------------- ----------------- -----------------
($ In Millions)
<S> <C> <C>
Domestic:
California......................................... $ 25,189 9%
New York........................................... 15,988 6
Pennsylvania....................................... 14,567 5
Florida............................................ 13,966 5
Texas.............................................. 9,342 3
New Jersey......................................... 8,021 3
Illinois........................................... 7,876 3
Ohio............................................... 7,156 3
Massachusetts...................................... 6,489 2
Michigan........................................... 5,740 2
Mortgage and asset-backed.......................... 60,336 22
Other states....................................... 70,300 26
----------------- ----------------
Total Domestic.................................. 244,970 89
----------------- ----------------
International:
United Kingdom..................................... 3,103 1
Australia.......................................... 1,382 1
Japan.............................................. 1,167 --
France............................................. 765 --
Mexico............................................. 608 --
Internationally diversified........................ 20,962 8
Other international................................ 3,295 1
----------------- ----------------
Total International............................. 31,282 11
----------------- ----------------
Grand Total..................................... $ 276,252 100%
================= ================
</TABLE>
Mortgage and asset-backed obligations include guarantees with multiple
locations of risk within the United States. Internationally diversified includes
structured credit derivatives and other guarantees with multiple locations of
risk globally. Many international transactions include components of domestic
exposure.
14
<PAGE>
Single Risk
Ambac Assurance has adopted underwriting and exposure management
policies designed to limit the net guarantees in force for any one credit. In
addition, Ambac Assurance uses reinsurance to limit net exposure to any one
credit. As of December 31, 2000, Ambac Assurance's net par amount outstanding
for its 20 largest credits, totaling $12.9 billion, was approximately 4.7% of
Ambac Assurance's total net par amount outstanding with no one credit
representing more than 1% of Ambac Assurance's total net par amount outstanding.
Ambac Assurance is also subject to certain regulatory limits and rating agency
guidelines on exposure to a single credit. See "Insurance Regulatory Matters"
and "Rating Agencies," below.
Underlying Ratings
The following table sets forth Ambac Assurance's financial guarantee
portfolio by underlying rating prior to being guaranteed by Ambac Assurance, as
of December 31, 2000:
Insured Portfolio by Underlying Rating /(1)/
as of December 31, 2000
<TABLE>
<CAPTION>
Net Par % of Total Net
Amount Par Amount
Rating Outstanding Outstanding
--------------------------------------------------------- ----------------- ----------------
($ In millions)
<S> <C> <C>
AAA.................................................... $ 17,396 6%
AA..................................................... 40,016 14
A...................................................... 135,860 49
BBB.................................................... 82,432 30
BIG /(2)/................................................ 548 *1
----------------- ----------------
$ 276,252 100%
================= ================
</TABLE>
* less than
(1) Ratings represent Ambac Assurance internal ratings.
(2) Represents those bonds which have been categorized as "below
investment grade" by Ambac Assurance.
Losses and Reserves
Although there have been certain monetary defaults in bond issues of
substantial amounts, the incidence of monetary default on municipal bonds has
historically been infrequent. Based upon data reported by the Association of
Financial Guaranty Insurors, the percentage of insured municipal bonds
experiencing monetary defaults in recent years is low relative to the entire
municipal market. The relatively low incidence of municipal bond defaults may be
partially the result of safeguards developed over the years since the Great
Depression of the 1930's, when a great number of municipal defaults occurred.
Such safeguards include the imposition of issuer debt limits, greater
supervision by state governments of local debt administration, and more thorough
credit reviews by investment firms, rating agencies and institutional investors.
While these safeguards address many of the causes of earlier defaults, they may
be inadequate to prevent an increased level of defaults in the future caused by
presently unforeseen economic and other factors.
15
<PAGE>
Ambac Assurance's policy is to provide for loss and loss adjustment
expense reserves that are adequate to cover potential unidentified losses
inherent in the portfolio, as well as losses that may arise from guaranteed
obligations which are currently or imminently in monetary default. The active
credit reserve ("ACR") represents an estimate of unidentified losses from our
guaranteed obligations. As of December 31, 2000, Ambac Assurance's ACR was
$100.3 million. When a monetary default occurs or is imminent with respect to a
particular guaranteed obligation, a case basis reserve is established in an
amount that is sufficient to cover the present value of the anticipated
defaulted debt service payments over the expected period of default and the
estimated expenses associated with settling the claims, less estimated
recoveries under salvage or subrogation rights. In estimating the losses on
monetary defaults, Ambac Assurance makes its assessment based on the full term
of the guaranteed obligation. All or part of the case basis reserve may be
allocated from available ACR. Ambac Assurance's net case basis reserves totaled
$31.0 million at December 31, 2000.
The most recent three-year history of Ambac Assurance's loss reserves,
and losses and loss adjustment expenses incurred and paid, is detailed in the
table below:
Reserve for Losses and Loss Adjustment Expenses
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------------------------
2000 1999 1998
------------- ------------ -------------
<S> <C> <C> <C>
($ In Thousands)
Reserve for losses and loss adjustment expenses at January 1,............. $121,475 $115,794 $103,345
Less: reinsurance recoverable............................................. 500 3,638 4,219
------------- ------------ -----------
Net reserve for losses and loss adjustment expenses at January 1,......... 120,975 112,156 99,126
Losses and loss adjustment expenses incurred.............................. 15,000 11,000 6,000
Losses and loss adjustment expenses paid (net of salvage received)........ (4,621) (2,181) 7,030
---------- --------- -----------
Net reserve for losses and loss adjustment expenses at December 31,....... 131,354 120,975 112,156
Plus: reinsurance recoverable............................................. 1,091 500 3,638
---------- --------- -----------
Reserve for losses and loss adjustment expenses at December 31, .......... $132,445 $121,475 $115,794
========== ========= ===========
</TABLE>
Management of Ambac Assurance believes that the reserves for losses and
loss adjustment expenses are adequate to cover the ultimate net costs of claims,
but the reserves are necessarily based on estimates and there can be no
assurance that the ultimate liability will not exceed such estimates. See Note 2
of Notes to Consolidated Financial Statements in the Company's 2000 Annual
Report to Stockholders.
Competition
The financial guarantee business is highly competitive. Ambac
Assurance's principal competitors in the market for financial guarantees are
three other triple-A rated monoline insurance companies, Financial Guaranty
Insurance Company ("FGIC"), Financial Security Assurance Inc. ("FSA") and MBIA.
In addition, banks, multiline insurers and reinsurers, and lower rated financial
guarantee insurance companies represent additional participants in the broader
market. The principal competitive factors are: (i) premium rates; (ii)
conditions precedent to the issuance of a policy related to the structure and
security features of a proposed bond issue; (iii) the financial strength of the
guarantor; and (iv) the quality of service provided to issuers, investors and
other clients of the issuer. With respect to each of these competitive factors,
Ambac Assurance believes it is on at least equal footing with each of its
principal competitors.
16
<PAGE>
Financial guarantee insurance also competes domestically and
internationally with other forms of credit enhancement, including letters of
credit and guarantees (for example, mortgage guarantees where pools of mortgages
secure debt service payments) provided by banks and other financial
institutions, some of which are governmental agencies. Letters of credit are
most often issued for periods of less than 10 years, although there is no legal
restriction on the issuance of letters of credit having longer terms. Thus,
financial institutions and banks issuing letters of credit compete directly with
Ambac Assurance to guarantee short-term notes and bonds with a maturity of less
than 10 years.
In order to enter the financial guarantee market certain requirements
must be met, most restrictive of which is that a significant minimum amount of
capital is required of a financial guarantor in order to obtain financial
strength ratings by the rating agencies. In addition, under the New York law, a
monoline financial guarantor must have at least $75 million of paid-in capital
and surplus and maintain thereafter at least $65 million of policyholders'
surplus. A similar law in California imposes a $100 million minimum capital and
surplus requirement, with a maintenance requirement thereafter of $75 million.
Reinsurance
State insurance laws and regulations (as well as the rating agencies)
impose minimum capital requirements and single risk limits on financial
guarantee insurance companies, limiting the aggregate amount of insurance which
may be written and the maximum size of any single risk exposure which may be
assumed. Such companies can use reinsurance to diversify risk, increase
underwriting capacity, reduce additional capital needs, stabilize shareholder
returns and strengthen financial ratios. See "Insurance Regulatory Matters,"
below.
Ambac Assurance has facultative reinsurance agreements with certain
high quality reinsurers that allow Ambac Assurance to reduce its large risks, to
manage its portfolio of insurance by bond type and geographic distribution, and
to provide additional capacity for frequent bond issuers. Under these
agreements, portions of Ambac Assurance's interests and liabilities are ceded on
an issue-by-issue basis. A ceding commission is withheld to defray Ambac
Assurance's underwriting expenses. In addition, Ambac Assurance and MBIA have
entered into facultative reinsurance agreements whereby each company may
reinsure the other on international risks guaranteed.
As of December 31, 2000, Ambac Assurance had retained approximately 87%
of its gross financial guarantees in force of $480.6 billion and had ceded
approximately 13% to its reinsurers. See Note 12 of Notes to Consolidated
Financial Statements in the Company's 2000 Annual Report to Stockholders.
As a primary financial guarantor, Ambac Assurance is required to honor
its obligations to its policyholders whether or not its reinsurers perform their
obligations under the various reinsurance agreements with Ambac Assurance. To
minimize its exposure to significant losses from reinsurer insolvencies, Ambac
Assurance evaluates the financial condition of its reinsurers, prepares annual
written reviews of such reinsurers and monitors for concentrations of credit
risk. Ambac Assurance's current primary reinsurers are Ace Guaranty Re, American
Re, AXA Re Finance, Enhance Reinsurance Company, and MBIA.
17
<PAGE>
Rating Agencies
Moody's, S&P, Fitch and R&I periodically review the business and
financial condition of Ambac Assurance and other companies providing financial
guarantees. These rating agencies' reviews focus on the guarantor's underwriting
policies and procedures and the quality of the obligations guaranteed. The
rating agencies frequently perform assessments of the credits guaranteed by
Ambac Assurance to confirm that Ambac Assurance continues to meet the capital
allocation criteria considered necessary by the particular rating agency to
maintain Ambac Assurance's triple-A ratings. A rating by Moody's, S&P, Fitch or
R&I, however, is not a "market rating" or a recommendation to buy, hold or sell
any security. Ambac Assurance's ability to attract new business or to compete
with other triple-A rated financial guarantors, and its results of operations
and financial condition, would be materially adversely affected by any reduction
in its ratings.
Insurance Regulatory Matters
General Law
Ambac Assurance is licensed to do business as an insurance company in
all 50 states, the District of Columbia, the Commonwealth of Puerto Rico and the
territory of Guam. Ambac U.K., Ambac Assurance's wholly owned subsidiary, is
licensed to transact insurance in the United Kingdom. Ambac Assurance is subject
to the insurance laws and regulations of the State of Wisconsin (the "Wisconsin
Insurance Laws"), its state of incorporation, and the insurance laws and
regulations of other states in which it is licensed to transact business. Ambac
U.K. is subject to the insurance laws and regulations of the United Kingdom.
These laws and regulations, as well as the level of supervisory authority that
may be exercised by the various state insurance departments, vary by
jurisdiction. They generally require financial guarantors to maintain minimum
standards of business conduct and solvency, meet certain financial tests, file
certain reports with regulatory authorities, including information concerning
their capital structure, ownership and financial condition. They generally
require prior approval of certain changes in control of domestic financial
guarantors and their direct and indirect parents and the payment of certain
dividends and distributions. In addition, these laws and regulations require
approval of certain inter-corporate transfers of assets and certain transactions
between financial guarantors and their direct and indirect parents and
affiliates. They generally require that all such transactions have terms no less
favorable than terms that would result from transactions between parties
negotiating at arm's length. Ambac Assurance is required to file quarterly and
annual statutory financial statements in each jurisdiction in which it is
licensed. It is subject to single and aggregate risk limits and other statutory
restrictions concerning the types and quality of investments and the filing and
use of policy forms and premium rates. Additionally, Ambac Assurance's accounts
and operations are subject to periodic examination by the Office of the
Commissioner of Insurance of the State of Wisconsin (the "Wisconsin
Commissioner") and other state insurance regulatory authorities. See Note 9 of
Notes to Consolidated Financial Statements in the Company's 2000 Annual Report
to Stockholders.
The Company believes that Ambac Assurance is in material compliance
with all applicable insurance laws and regulations.
18
<PAGE>
Insurance Holding Company Laws
Under the Wisconsin insurance holding company laws, any acquisition of
control of the Company and thereby indirect control of Ambac Assurance requires
the prior approval of the Wisconsin Commissioner. "Control" is defined as the
direct or indirect power to direct or cause the direction of the management and
policies of a person. Any purchaser of 10% or more of the outstanding voting
stock of a corporation is presumed to have acquired control of that corporation
and its subsidiaries unless the Wisconsin Commissioner, upon application,
determines otherwise. For purposes of this test, the Company believes that a
holder of common stock having the right to cast 10% of the votes which may be
cast by the holders of all shares of common stock of the Company would be deemed
to have control of Ambac Assurance within the meaning of the Wisconsin Insurance
Laws.
Pursuant to these laws, FMR Corp. obtained approval from the Wisconsin
Insurance Commissioner to acquire greater than 10% of the Company's outstanding
stock. As of December 31, 2000 their percentage of ownership was approximately
12.0%. In their request for approval from the Wisconsin Commissioner, FMR Corp.
disclaimed any present intention to exercise control over the Company or Ambac
Assurance or to control or attempt to control the management or operations of
the Company or Ambac Assurance.
The Wisconsin insurance holding company laws also require prior
approval by the Wisconsin Commissioner of certain transactions between Ambac
Assurance and companies affiliated with Ambac Assurance.
Wisconsin Dividend Restrictions
Pursuant to the Wisconsin Insurance Laws, Ambac Assurance may declare
dividends, subject to any restriction in its articles of incorporation, provided
that, after giving effect to the distribution, it would not violate certain
statutory equity, solvency, income and asset tests. Distributions to the
shareholder (other than stock dividends) must be reported to the Wisconsin
Commissioner. Extraordinary dividends must be reported prior to payment and are
subject to disapproval by the Wisconsin Commissioner. An extraordinary dividend
is defined as a dividend or distribution, the fair market value of which,
together with all dividends from the preceding 12 months, exceeds the lesser of:
(a) 10% of policyholders' surplus as of the preceding December 31; or (b) the
greater of: (i) statutory net income for the calendar year preceding the date of
the dividend or distribution, minus realized capital gains for that calendar
year; or (ii) the aggregate of statutory net income for the three calendar years
preceding the date of the dividend or distribution, minus realized capital gains
for those calendar years and minus dividends paid or credited and distributions
made within the first two of the preceding three calendar years.
During 2000, 1999 and 1998, Ambac Assurance paid to the Company cash
dividends on its common stock totaling $59.8 million, $52.0 million and $48.0
million, respectively. See Note 9 of Notes to Consolidated Financial Statements
in the Company's 2000 Annual Report to Stockholders.
19
<PAGE>
New York Financial Guarantee Insurance Law
New York's comprehensive financial guarantee insurance law governs the
conduct of business of all financial guarantors licensed to do business in New
York, including Ambac Assurance. This law requires a financial guarantor to
contribute to a contingency reserve an amount equal to 50% of premiums as they
are earned on a statutory basis on policies written prior to July 1, 1989. With
respect to policies written on and after July 1, 1989, it must make
contributions over a period of 20 years for municipal bonds and 15 years for all
other obligations. Contributions continue until the contingency reserve for such
insured obligations equals the greater of 50% of premiums written for the
relevant category of insurance or a percentage of the principal guaranteed
(varying from 0.55% to 2.50%, depending upon the type of obligation guaranteed).
This reserve must be maintained for the periods specified above, except that
withdrawals by the guarantor may be permitted under specified circumstances in
the event that actual loss experience exceeds certain thresholds or if the
reserve accumulated is deemed excessive in relation to the guarantor's
outstanding guaranteed obligations. Financial guarantors are also required to
maintain case basis loss and loss adjustment expense reserves and unearned
premium reserves on bases established by the regulations.
The New York financial guarantee insurance law establishes single risk
limits applicable to all obligations issued by a single entity and backed by a
single revenue source. Such limits are specific to the type of insured
obligation (for example, municipal or asset-backed). The limits compare the
insured net par outstanding and average annual debt service, net of reinsurance
and collateral, for a single risk to the insurer's qualified statutory capital,
which is defined as the sum of the insurer's policyholders' surplus and
contingency reserves. As of December 31, 2000 and 1999, Ambac Assurance and its
subsidiaries were in compliance with these regulatory requirements.
Aggregate risk limits are also established on the basis of aggregate
net liability and policyholders' surplus requirements. "Aggregate net liability"
is defined as outstanding principal and interest of guaranteed obligations, net
of reinsurance and collateral. Under these limits, policyholders' surplus and
contingency reserves must at least equal a percentage of aggregate net liability
that is equal to the sum of various percentages of aggregate net liability for
various categories of specified obligations. The percentage varies from 0.33%
for municipal bonds to 4.00% for certain non-investment grade obligations.
Financial Guarantee Insurance Regulation in Other States
The Wisconsin insurance laws and regulations governing municipal bond
guarantors are similar to those in New York. Under the Wisconsin regulations,
Ambac Assurance must establish a contingency reserve in an amount equal to 50%
of net statutory earned premium on municipal bond financial guarantee policies.
This reserve must be maintained for 20 years. However, the regulations provide
that compliance with contingency reserve provisions under statutes in other
jurisdictions that result in greater contributions than under the Wisconsin
regulations is deemed to constitute compliance with the Wisconsin regulations.
The Wisconsin regulations also include certain single and aggregate risk
limitations. The average annual debt service for any single issue of municipal
bonds may not exceed 10% of Ambac Assurance's policyholders' surplus. In
addition, Ambac Assurance's cumulative net liability, defined as one-third of
one percent of the guaranteed unpaid principal and interest covered by current
municipal bond insurance policies, may not
20
<PAGE>
exceed its qualified statutory capital, which is defined as the sum of its
capital and surplus and contingency reserve.
California has financial guarantee insurance laws similar in structure
to those of New York. None of the risk limits established in California's
legislation with respect to business transacted by Ambac Assurance are more
stringent in any material respect than the corresponding provisions in the New
York financial guarantee insurance statute. California law requires a financial
guarantor to contribute to a contingency reserve an amount equal to 50% of
premiums as they are earned on a statutory basis on policies written prior to
July 1, 1989. With respect to policies written on and after July 1, 1989, it
must make contributions over a period of 20 years for municipal bonds and 15
years for all other obligations until the contingency reserve for such insured
obligations equals a percentage of principal outstanding (varying from 0.80% to
3.00%, depending upon the type of obligation guaranteed). This reserve must be
maintained for the periods specified above, except that withdrawals by the
financial guarantor may be permitted under specified circumstances in the event
that actual loss experience exceeds certain thresholds or if the reserve
accumulated is deemed excessive in relation to the financial guarantor's
outstanding insured obligations. Ambac Assurance's reported contingency reserve
is equal to the greater of the required reserve as calculated under New York and
California law.
In addition to the laws and regulations of New York, Wisconsin and
California, Ambac Assurance is subject to laws and regulations of other states
concerning the transaction of financial guarantees, none of which is more
stringent in any material respect than the New York financial guarantee
insurance statute.
Financial Services
The Company's Financial Services Segment provides financial and
investment products including investment agreements, interest rate swaps,
funding conduits, investment advisory and cash management services, principally
to its financial guarantee clients which include municipalities and their
authorities, school districts, health care organizations and asset-backed
issuers.
Financial services revenues are primarily derived from: (i) net
investment income; (ii) net swap revenues; (iii) fund management and advisory
revenues; and (iv) net realized gains and losses on sales of securities.
Excluding transactions with affiliates, total revenues were $53.6 million, $48.5
million and $32.4 million in 2000, 1999 and 1998, respectively. See
"Management's Discussion and Analysis" and Note 18 of Notes to Consolidated
Financial Statements in the Company's 2000 Annual Report to Stockholders.
The principal competitive factors among providers of investment
agreements are: (i) contract interest rates; (ii) conditions precedent to the
issuance of a policy related to the structure and security features of a
proposed investment contract; (iii) the financial strength of the financial
guarantee provider; and (iv) the quality of service provided to issuers,
investors and other clients of the issuer. With respect to each of these
competitive factors, the Company believes that ACFI is on equal footing with
each of its principal competitors.
The principal competitive factors among providers of interest rate swap
contracts are: (i) pricing of contracts; (ii) the financial strength of the
financial guarantee provider;
21
<PAGE>
(iii) the ability to structure a complete financial package; and (iv) the
quality of service provided to issuers, investors and other clients of the
issuer. With respect to each of these competitive factors, the Company believes
that AFSLP is on equal footing with each of its principal competitors.
The principal competitive factors among providers of investment
advisory and cash management services are: (i) pricing of services; (ii)
investment returns; (iii) the ability to provide services tailored to customers'
needs; and (iv) the quality of service provided to customers. With respect to
each of these competitive factors, the Company believes that Cadre and Cadre
Securities are on equal footing with each of their principal competitors.
Investment Agreements
The principal purpose of ACFI is providing investment agreements,
including investment repurchase agreements, primarily to municipalities and
their authorities. Investment agreements are primarily used by municipal bond
issuers to invest bond proceeds until such proceeds can be used for their
intended purpose, such as financing construction. The investment agreement
provides for the guaranteed return of principal invested, as well as the payment
of interest thereon at a guaranteed rate and is rated triple-A by virtue of
Ambac Assurance's financial guarantee policy, which guarantees its payment
obligations.
ACFI manages its balance sheet to protect against a number of risks
inherent in its business including liquidity, market (principally interest
rate), credit, operational and legal risk. See "Management's Discussion and
Analysis -- Risk Management" in the Company's 2000 Annual Report. ACFI is
managed with the goal of matching the payment schedule of the invested assets,
including hedges, to the payment schedule of the investment agreement
liabilities in order to minimize market and liquidity risk.
A source of liquidity risk is the ability of some counterparties to
withdraw moneys on dates other than those specified in the draw down schedule.
Liquidity risk is somewhat mitigated by provisions in certain of the municipal
investment agreements that limit an issuer's ability to draw on the funds and by
risk management procedures that require the regular re-evaluation and
re-projection of draw down schedules. Investments are restricted to fixed income
securities with a credit quality such that the overall minimum average portfolio
credit quality is maintained at Aa/AA. Based upon management's projections, ACFI
maintains funds invested in cash and cash equivalents to meet short-term
liquidity needs.
The following table sets forth the net payments due under ACFI's
settled investment agreements in each of the next five years ending December 31,
and the period thereafter, based on expected call dates:
22
<PAGE>
Investment Agreements Obligations
<TABLE>
<CAPTION>
($ In Thousands) Principal Amount /(1)/
--------------------------------------------------------------------------------------------------------
<S> <C>
2001.......................................................................... $ 1,977,961
2002.......................................................................... 818,230
2003.......................................................................... 188,266
2004.......................................................................... 112,358
2005.......................................................................... 34,313
All later years............................................................... 1,059,889
-----------------------
$ 4,191,017
=======================
</TABLE>
(1) As of December 31, 2000, the interest rates on these agreements
ranged from 4.0% to 8.1%.
ACFI may use interest rate swap contracts in the normal course of
business for hedging purposes as part of its overall cash flow risk management.
Some of its interest rate swap agreements have been entered into with its
affiliate, AFSLP.
Interest rate swap contracts are agreements where ACFI agrees with
other parties to exchange, at specified intervals, the difference between
fixed-rate and floating-rate interest amounts or the difference between
different interest rate indices calculated by reference to an agreed upon
notional amount.
Interest Rate Swaps
AFSLP provides interest rate swaps primarily to states, municipalities
and their authorities, and other entities in connection with their financings.
In addition, AFSLP also provides interest rate swaps to certain affiliates.
AFSLP is subject to changes in the relationship between tax-exempt and taxable
interest rates, referred to as "basis risk." If actual or projected tax-exempt
interest rates change in relation to taxable rates, AFSLP may experience a
mark-to-market gain or loss. Since late 1995, most municipal interest rate swaps
transacted by AFSLP contain provisions that are designed to protect the Company
against certain forms of tax reform, thus mitigating its basis risk. The
interest rate swaps provided by AFSLP are guaranteed by Ambac Assurance through
policies that guarantee the obligations of AFSLP and its counterparties.
AFSLP is a limited partnership. Ambac Assurance, the sole limited
partner, owns a limited partnership interest representing 90% of the total
partnership interests of AFSLP. Ambac Financial Services Holdings, Inc. ("AFS
Holdings"), a wholly-owned subsidiary of the Company, the sole general partner,
owns a general partnership interest representing 10% of the total partnership
interest in AFSLP.
In addition to basis risk, AFSLP manages a variety of other risks
inherent in its business, including credit, market, liquidity, operational and
legal. These risks are identified, measured, and monitored through a variety of
control mechanisms, which are in place at different levels throughout the
organization. See "Management's Discussion and Analysis -- Risk Management" in
the Company's 2000 Annual Report to Stockholders.
Investment Advisory and Cash Management
Cadre is registered as an investment adviser with the SEC. As a
registered adviser, Cadre is subject to regulation in certain aspects of its
business, particularly with respect to
23
<PAGE>
investment advisory services provided to investment companies and clients. Cadre
provides investment advisory and administrative services to money market funds
that are primarily offered to qualified participants, including school
districts, health care service providers and municipalities.
Cadre Securities' principal business is the distribution of money
market funds to the education, health care and municipal sectors, as well as the
brokering of short-term fixed income securities trades on behalf of its clients.
It also serves as placement agent and dealer for securities issued by its
affiliates in private placement transactions. Cadre Securities is registered as
a broker-dealer with the SEC and with certain states that require such
registration, and it is a member of the National Association of Securities
Dealers, Inc. As a registered broker-dealer, Cadre Securities is subject to the
net capital requirements of Rule 15c3-1 of the Securities Exchange Act of 1934,
as amended, which is designed to measure the general financial condition and
liquidity of a broker-dealer. In accordance with this rule, the ratio of
aggregate indebtedness to net capital ("net capital ratio") shall not exceed 15
to 1. At December 31, 2000, Cadre Securities had net capital of approximately
$1.2 million, which was $1.1 million in excess of its required net capital of
$100 thousand. The net capital ratio was 1.1 to 1.
At December 31, 2000, Cadre and Cadre Securities provided services to
approximately 2,700 clients with approximately $7.1 billion in assets.
Fees from the money market funds for which Cadre and Cadre Securities
perform services are based on percentages of the average daily net assets of
such funds. Cadre Securities receives fees for brokering short-term fixed income
securities trades by marking up the price of the securities purchased and sold
on behalf of clients. These fees are recorded upon execution of the trades
since, at that time, substantially all of Cadre Securities' obligations have
been fulfilled.
Investments and Investment Policy
As of December 31, 2000, the consolidated investments of the Company
had an aggregate fair value of approximately $8.3 billion and an aggregate
amortized cost of approximately $8.2 billion. These investments are managed
internally by officers of the Company, who are experienced investment managers.
All investments are effected in accordance with the general objectives and
guidelines for investments established by each subsidiary's Board of Directors.
These guidelines encompass credit quality, risk concentration and holding
period, and are periodically reviewed and revised as appropriate.
Pursuant to Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," the Company
has designated all investments as "available-for-sale" and reports them at fair
value. Unrealized gains and losses are excluded from earnings and reported as a
component of "Accumulated Other Comprehensive Income (Loss)", in stockholders'
equity, net of tax.
As of December 31, 2000, Ambac Assurance's investment portfolio had an
aggregate fair value of approximately $4.3 billion and an aggregate amortized
cost of approximately $4.2 billion. Ambac Assurance's investment policy is
designed to achieve diversification of its portfolio and only permits investment
in investment grade fixed income securities, consistent with its goal to achieve
the highest after-tax, long-term return. This
24
<PAGE>
policy takes into consideration Ambac Assurance's desire for both current income
and long-term capital growth. Ambac Assurance is subject to limits on types and
quality of investments imposed by the insurance laws and regulations of the
States of Wisconsin and New York. In compliance with these laws, Ambac
Assurance's Board of Directors approves each specific investment transaction of
Ambac Assurance. See "Insurance Regulatory Matters - General Law," above.
As of December 31, 2000, ACFI's investment portfolio had an aggregate
fair value of approximately $4.0 billion and an aggregate amortized cost of
approximately $4.0 billion. ACFI's investment policy is designed to achieve the
highest after-tax return on equity, subject to minimum average quality ratings.
For further discussion, see "Investment Agreements," above.
The following tables provide certain information concerning the
investments of the Company:
Investments by Rating /(1)/
as of December 31, 2000
<TABLE>
<CAPTION>
% of Investment
Rating Portfolio
- ------------------------------------------------------------------------------------------------- -----------------
<S> <C>
AAA /(2)/......................................................................................... 74%
AA.............................................................................................. 14
A............................................................................................... 9
BBB............................................................................................. 1
BIG............................................................................................. *1
Not Rated....................................................................................... 2
-----------------
100%
=================
</TABLE>
(1) Ratings represent S&P classifications. If unavailable, Moody's rating is
used.
(2) Includes U.S. Treasury and agency obligations, which comprised
approximately 24% of the total investment portfolio.
* Less Than
Summary of Investments
As of December 31,
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------
2000 1999 1998
------------------------------ ----------------------------- -----------------------------
Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average
Investment Category Value Yield /(1)/(2)/ Value Yield /(1)/(2)/ Value Yield /(1)/(2)/
- ----------------------------------------------------- --------------- ----------- ---------------- ---------- ---------------
<S> <C> <C> <C> <C> <C> <C>
($ In Thousands)
Long-term investments:
Taxable bonds....................... $4,945,457 6.62% $6,001,199 6.28% $6,082,903 6.61%
Tax-exempt bonds.................... 3,119,044 5.77 2,737,272 5.78 2,539,379 6.13
------------- ------------- -------------
Total long-term investments...... 8,064,501 6.29 8,738,471 6.13 8,622,282 6.47
Short-term investments /(3)/: 253,519 6.30 220,896 5.56 119,528 5.69
------------- ------------- -------------
Total investments................ $8,318,020 6.30% $8,959,367 6.11% $8,741,810 6.45%
============= ============= =============
</TABLE>
(1) Yields presented include assets held in the IA Business portfolio. Interest
expense on related investment agreements was $283.0 million, $299.5 million
and $263.6 million in 2000, 1999 and 1998, respectively.
(2) Yields are stated on a pre-tax basis, based on average amortized cost.
(3) Includes taxable and tax-exempt investments.
25
<PAGE>
<TABLE>
<CAPTION>
Investments by Security Type
As of December 31,
----------------------------------------------------------------------------------
2000 1999 1998
--------------------------- ------------------------ -------------------------
Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average
Investment Category Value Yield/(1) (2)/ Value Yield/(1) (2)/ Value Yield/(1) (2)/
- ---------------------------------------------------- -------------- ---------- ------------ ---------- -------------
($ In Thousands)
<S> <C> <C> <C> <C> <C> <C>
Municipal obligations/(4/)............ $3,414,964 5.85% $2,962,939 5.80% $2,801,324 6.19%
Corporate securities................. 980,746 7.47 989,460 7.11 1,413,662 7.34
Foreign government obligations....... 35,370 6.08 19,044 6.22 21,765 4.16
U.S. government obligations.......... 72,709 6.08 62,479 6.10 122,896 5.80
Mortgage and asset-backed securities
(includes U.S. government
agency obligations)/(3)/.............. 3,560,712 6.39 4,704,549 6.08 4,262,635 6.36
----------- ----------- -----------
Total long-term investments....... 8,064,501 6.29 8,738,471 6.13 8,622,282 6.47
Short-term investments/(4)/.......... 253,519 6.30 220,896 5.56 119,528 5.69
----------- ----------- -----------
Total investments................. $8,318,020 6.30% $8,959,367 6.11% $8,741,810 6.45%
=========== =========== ===========
</TABLE>
(1) Yields presented include assets held in the IA Business portfolio. Interest
expense on related investment agreements was $283.0 million, $299.5 million
and $263.6 million in 2000, 1999 and 1998, respectively.
(2) Yields are stated on a pre-tax basis, based on average amortized cost.
(3) The actual maturity dates of mortgage- and asset-backed securities are
uncertain because the underlying mortgages may be paid prior to the stated
maturity of such securities. This possibility of prepayment creates the risk
that the Company will be unable to replace such investments with securities
of comparable yield.
(4) Includes taxable and tax-exempt investments.
<TABLE>
<CAPTION>
Distribution of Investments by Maturity
as of December 31, 2000
Amortized Estimated
Maturity Cost Fair Value
- ---------------------------------------- ----------- -----------
($ In Thousands)
<S> <C> <C>
Due in one year or less (1) ............ $ 383,124 $ 384,392
Due after one year through five years .. 388,782 399,150
Due after five years through ten years . 381,101 394,283
Due after ten years .................... 3,528,569 3,579,483
----------- -----------
4,681,576 4,757,308
Mortgage and asset-backed securities/(2)/ 3,553,794 3,560,712
----------- -----------
Total investments ...................... $8,235,370 $8,318,020
=========== ===========
</TABLE>
(1) Includes securities with a fair value of $130.9 million, which are
classified as long-term investments in the tables above but which mature
within one year.
(2) The actual maturity dates of mortgage and asset-backed securities are
uncertain because the underlying mortgages may be paid prior to the stated
maturity of such securities. This possibility of prepayment creates the risk
that the Company will be unable to replace such investments with securities
of comparable yield.
For further discussion, see Note 4 of Notes to Consolidated Financial
Statements in the Company's 2000 Annual Report to Stockholders.
Employees
As of December 31, 2000, the Company and its subsidiaries had 364
employees. None of the employees is covered by collective bargaining agreements.
The Company considers its employee relations to be satisfactory.
26
<PAGE>
Item 2. Properties.
The principal executive offices of the Company are located at One State
Street Plaza, New York, New York 10004. The telephone number is (212) 668-0340.
Ambac Assurance maintains its principal executive offices at One State
Street Plaza, New York, New York 10004, which consists of approximately 121,000
square feet of office space, under an agreement that expires on September 30,
2019.
Ambac UK maintains its principal offices at Hasilwood House, 60
Bishopsgate, London EC2N4BE, England, which consists of 7,100 square feet of
office space, under an agreement that expires in December 2006.
Cadre maintains its principal executive office at 905 Marconi Avenue,
Ronkonkoma, New York 11779. The Company owns the office building. It consists of
approximately 15,000 square feet of office space and storage.
Item 3. Legal Proceedings.
There are no material lawsuits pending, or to the knowledge of the
Company threatened, to which the Company or any of its majority-owned
subsidiaries is a party.
Item 4. Submission of Matters to a Vote of Security-Holders.
There were no matters submitted to a vote of security holders during the
fourth quarter of 2000.
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
Information relating to the principal market on which the Company's
Common Stock is tradable, the high and low sales prices per share for each full
quarterly period within the two most recent fiscal years, and the frequency and
amount of any cash dividends declared for the two most recent fiscal years is
set forth on page 56 of the Company's 2000 Annual Report to Stockholders and
such information is incorporated herein by reference. Information concerning
restrictions on the payment of dividends is set forth in Item 1 above under the
caption "Insurance Regulatory Matters - Wisconsin Dividend Restrictions." As of
March 14, 2001, there were 75 stockholders of record of the Company's Common
Stock, which is listed on the New York Stock Exchange.
Item 6. Selected Financial Data.
Selected financial data for the Company and its subsidiaries for each of
the last five fiscal years is set forth under the captions "Financial
Highlights" and "Five Year Performance" on page 6, and pages 12 and 13,
respectively, of the Company's 2000 Annual Report to Stockholders. Such
information is incorporated herein by reference and should be read in
conjunction with the Consolidated Financial Statements and the Notes thereto
contained on pages 35 through 54 of such Annual Report.
27
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
Management's Discussion and Analysis of Financial Condition and Results
of Operations is set forth under the same caption on pages 25 through 33 of the
Company's 2000 Annual Report to Stockholders. Such information is incorporated
herein by reference and should be read in conjunction with the Consolidated
Financial Statements and the Notes thereto contained on pages 35 through 54 of
such Annual Report.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Quantitative and Qualitative Disclosures About Market Risk is set forth
under the caption Risk Management on pages 31 to 33 of the Company's 2000 Annual
Report to Stockholders. Such information is incorporated herein by reference and
should be read in conjunction with the Consolidated Financial Statements and the
Notes thereto contained on pages 35 to 54 of such Annual Report.
Item 8. Financial Statements and Supplementary Data.
The 2000 Consolidated Financial Statements, together with the Notes
thereto and the Independent Auditors' Report thereon, are set forth on pages 34
through 54 of the Company's 2000 Annual Report to Stockholders. Such information
is incorporated herein by reference.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
Part III
Item 10. Directors and Executive Officers of the Registrant.
Information relating to the Company's directors and executive officers is
set forth on pages 7, 12, 13, 28 and 29 of the Company's 2001 Proxy Statement
and such information is incorporated herein by reference.
Item 11. Executive Compensation.
Information relating to compensation of the Company's directors and
executive officers is set forth on pages 9 and 10 and on pages 14 to 21 of the
Company's 2001 Proxy Statement and such information is incorporated herein by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
Information relating to security ownership of certain beneficial owners
and management is set forth on pages 5 to 7 of the Company's 2001 Proxy
Statement and such information is incorporated herein by reference.
28
<PAGE>
Item 13. Certain Relationships and Related Transactions.
None.
Part IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a) Documents filed as a part of this report:
1. Financial Statements
--------------------
The following consolidated financial statements included in the
2000 Annual Report to Stockholders are incorporated herein by
reference under Part II, Item 8:
<TABLE>
<CAPTION>
Page Number
In Annual Report
------------------
<S> <C>
Independent Auditors' Report......................................... 34
Consolidated Balance Sheets as of December 31,
2000 and 1999........................................................ 35
Consolidated Statements of Operations for each of
The years ended December 31, 2000, 1999 and 1998 .................... 36
Consolidated Statements of Stockholders' Equity for each of
the years ended December 31, 2000, 1999 and 1998..................... 37
Consolidated Statements of Cash Flows for each of
The years ended December 31, 2000, 1999 and 1998..................... 38
Notes to Consolidated Financial Statements........................... 39-54
<CAPTION>
2. Financial Statement Schedules
-----------------------------
The financial statement schedules filed herein, which are the only
schedules required to be filed, are as follows:
<S> <C>
Independent Auditors' Report (Page S-1)
Schedule I -- Summary of Investments Other Than Investments (Page S-2)
in Related Parties
Schedule II -- Condensed Financial Information of Registrant (Pages S-3
(Parent Company Only) to S-7)
Schedule IV -- Reinsurance (Page S-8)
</TABLE>
29
<PAGE>
3. Exhibits
--------
The following items are annexed as exhibits:
Exhibit Number Description
- -------------- -----------
3.01 Conformed Amended and Restated Certificate of Incorporation
of the Company filed with the Secretary of State of the
State of Delaware on July 11, 1997. (Filed as Exhibit 4.05
to the Company's Quarterly Report for the quarter ended
September 30, 1997 and incorporated herein by reference.)
3.02 Conformed Copy of the Certificate of Amendment to the
Amended and Restated Certificate of Incorporation of the
Company filed with the Secretary of State of the State of
Delaware on May 13, 1998. (Filed as Exhibit 4.04 to the
Company's Quarterly Report for the quarter ended June 30,
1998 and incorporated herein by reference.)
3.03 By-laws of the Company, as amended through January 28,
1998. (Filed as Exhibit 3.02 to the Company's Annual Report
on Form 10-K for the year ended December 31, 1997 and
incorporated herein by reference.)
4.01 Definitive Engraved Stock Certificate representing shares
of Common Stock. (Filed as Exhibit 4.01 to the Company's
Annual Report on Form 10-K for the year ended December 31,
1997 and incorporated herein by reference.)
4.02 Indenture, dated as of August 1, 1991, between the Company
and The Chase Manhattan Bank (National Association),
Trustee. (Filed as Exhibit 4.01 to the Company's
Registration Statement on Form S-3 (Reg. No. 33-59290) and
incorporated herein by reference.)
4.03 Indenture dated as of April 1, 1998, between the Company
and First Union National Bank, Trustee. (Filed as Exhibit
5.2 to the Company's Current Report on Form 8-K dated April
1, 1998 and incorporated herein by reference.)
4.04 Indenture, dated as of March 15, 2001, between the Company
and First Union National Bank, Trustee. (Filed as Exhibit
4.01 to the Company's Registration Statement on Form S-3
(Reg. No. 333-57206) and incorporated herein by reference.)
4.05 Rights Agreement, dated as of January 31, 1996, between
Ambac Financial Group, Inc. and Citibank N.A., as Rights
Agent, including all exhibits thereto. (Filed as Exhibit 1
to the Company's Registration Statement on Form 8-A dated
February 27, 1996 and incorporated herein by reference.)
4.06 Form of 9.38% Debenture due August 1, 2011. (Filed as
Exhibit 4.02 to the Registration Statement on Form S-1
(Reg. No. 33-40385) and incorporated herein by reference.)
30
<PAGE>
4.07 Form of 7.50% Debenture due May 1, 2023. (Filed as Exhibit
4.06 to the Company's Annual Report on Form 10-K for the
year ended December 31, 1998 and incorporated herein by
reference.)
4.08 Form of 7.08% Debenture due March 31, 2098. (Filed as
Exhibit 5.3 to the Company's Current Report on Form 8-K
dated April 1, 1998 and incorporated herein by reference.)
10.01* Second Amended and Restated Employment Agreement dated as of
December 2, 1997, between the Company and Phillip B.
Lassiter. (Filed as Exhibit 10.01 to the Company's Annual
Report on Form 10-K for the year ended December 31, 1997 and
incorporated herein by reference.)
10.02* Ambac Financial Group, Inc. 1991 Stock Incentive Plan, as
amended as of December 2, 1997 (Filed as Exhibit 10.02 to
the Company's Annual Report on Form 10-K for the year ended
December 31, 1996 and incorporated herein by reference.)
10.03* Ambac Financial Group, Inc. 1997 Equity Plan, amended as of
October 28, 1997. (Filed as Exhibit 10.03 to the Company's
Annual Report on Form 10-K for the year ended December 31,
1997 and incorporated herein by reference.)
10.04* Ambac Financial Group, Inc. 1991 Non-Employee Directors
Stock Plan (Filed as Exhibit 10.09 to the Company's Annual
Report on Form 10-K for the year ended December 31, 1992 and
incorporated herein by reference.)
10.05* Ambac Financial Group, Inc. 1997 Non-Employee Directors
Equity Plan. (Filed as Exhibit 4.2 to the Company's
Registration Statement on Form S-8 (Reg. No. 333-52449) and
incorporated herein by reference.)
10.06* Ambac Financial Group, Inc. 1997 Executive Incentive Plan,
amended as of January 1, 2000. (Filed as Exhibit 10.23 to
the Company's Quarterly Report on Form 10-Q for the period
ended June 30, 2000 and incorporated herein by reference.)
10.07* Ambac Financial Group, Inc. Deferred Compensation Plan for
Outside Directors, effective as of December 1, 1993 and
amended and restated as of October 26, 1999. (Filed as
Exhibit 10.26 to the Company's Quarterly Report on Form 10-Q
for the period ended September 30, 1999 and incorporated
herein by reference.)
10.08* Ambac Financial Group, Inc. 1997 Equity Plan Senior Officer
Deferred Compensation Sub-Plan of the 1997 Equity Plan
effective as of October 26, 1999 (Filed as Exhibit 10.27 to
the Company's Quarterly Report on Form 10-Q for the period
ended September 30, 1999 and incorporated herein by
reference.)
_____________________________
* Management contract or compensatory plan, contract or arrangement required to
be filed as an exhibit pursuant to Item 14(c) of Form 10-K.
---------
31
<PAGE>
10.09* Form of Amended and Restated Management Retention Agreement
dated as of December 2, 1997. (Filed as Exhibit 10.08 to the
Company's Annual Report on Form 10-K for the year ended
December 31, 1997 and incorporated herein by reference.)
10.10* The Ambac Financial Group, Inc. Non-Qualified Savings
Incentive Plan (effective as of January 1, 1995). (Filed as
Exhibit 10.16 to the Company's Quarterly Report on Form 10-Q
for the period ended September 30, 1995, and incorporated
herein by reference.)
10.11* Amendment Number 1 to the Ambac Financial Group, Inc. Non-
Qualified Savings Incentive Plan effective as of April 30,
1997. (Filed as Exhibit 10.10 to the Company's Annual Report
on Form 10-K for the year ended December 31, 1997 and
incorporated herein by reference.)
10.12* Ambac Financial Group, Inc. Excess Benefits Pension Plan
(Amended and Restated as of January 1, 1994) (As amended
through October 25, 1995). (Filed as Exhibit 10.17 to the
Company's Quarterly Report on Form 10-Q for the period ended
September 30, 1995, and incorporated herein by reference.)
10.13* Amendment Number 1 to the Ambac Financial Group, Inc.
Benefits Pension Plan effective as of April 30, 1997. (Filed
as Exhibit 10.12 to the Company's Annual Report on Form 10-K
for the year ended December 31, 1997 and incorporated herein
by reference.)
10.14* Supplemental Pension Agreement between the Company and
Philip B. Lassiter dated April 30, 1997. (Filed as Exhibit
10.24 in the Company's Quarterly Report Form 10-Q for the
quarter ended June 30, 1997, and incorporated herein by
reference.)
10.15* Supplemental Pension Agreement between the Company and David
L. Boyle dated April 30, 1997. (Filed as Exhibit 10.25 in