Fitch Ratings has upgraded the senior debt and long-term issuer rating of PMA Capital Corp. (PMA) to ‘B’ from ‘B-‘ with a Rating Watch Positive.
Additionally, Fitch has upgraded the three active primary insurance subsidiaries (referred to as PMA Insurance Group, PMAIG): Pennsylvania Manufacturers Association Insurance Company (PMAIC); Pennsylvania Manufacturers Indemnity Company (PMIC); and Manufacturers Alliance Insurance Company (MAIC), whose insurer financial strength (IFS) ratings are now ‘BB+’ from ‘BB’, with a Rating Watch Positive. Lastly, Fitch has upgraded the IFS rating of PMA Capital Insurance Company’s (PMA Re) run-off reinsurance subsidiary to ‘B-‘ from ‘CC’, with a Rating Watch Positive. All Rating Outlooks are Stable.
PMA’s favorable rating action reflects the increased financial flexibility and debt service capabilities due to the transfer of ownership of PMAIG from PMA Re directly to PMA on June 30, 2004. This new ownership structure has already increased cash for debt servicing needs at PMA in September when PMAIG upstreamed $12 million. PMAIG can still dividend, without regulatory approval, approximately another $11.2 million to the holding company in 2004.
PMAIG’s favorable rating action reflects its improved market position following its new organizational structure. However, uncertainty still remains regarding whether PMAIG can effectively write new business and improve its operating franchise given its current competitive position.
PMA announced an exchange offer to holders of its $86.25 million of convertible debt due 2022. Currently, holders of these securities can put their bonds back to PMA in September 2006. PMA has the option to pay the convertible debt-holders of this offering either in cash or common stock. If the entire amount were put to PMA in 2006, it is unlikely that the company would have sufficient cash to repay the obligation without an extraordinary dividend from PMA Re.
Fitch notes that in the event of a put on the securities under the current terms, if PMA were to pay off the $86.25 million in convertible debt with stock, the company would have a significantly stronger capital position due to a sharp reduction in holding company obligations and growth in common equity. Paying the put obligations with common equity would also significantly dilute the holdings of current shareholders.
As part of its run-off agreement with the Pennsylvania Department of Insurance, PMA Re is not allowed to pay dividends in 2004 and 2005 and may pay an ordinary dividend or return capital in 2006 only if risk-based capital (RBC) is greater than 225% authorized control level RBC. An extraordinary dividend in excess of 10% of PMA Re’s prior year ending surplus would still require regulatory approval, which creates some uncertainty regarding PMA’s ability to access these funds if needed.
Under the terms of the proposed exchange offer, the maturity date for the convertible debt would remain at 2022, the interest rate on the notes would increase to 7.5% from the current 4.25%, the first put date would move to 2009 from 2006, and PMA would be required to use cash, not common stock, to repay the securities when put.
The extension of the put date increases the probability that PMA will be able to meet the principal requirements on this obligation through future earnings and ordinary dividends from subsidiaries. Annual interest costs will increase by approximately $2.8 million; however, PMA can, at its option, pay interest costs in common stock in lieu of cash on the new debt offer. PMA will not have the flexibility to repay securities put in 2009 with common stock if the holding company does not have sufficient cash available for any reason.
Since being placed into run-off in November of 2003, PMA Re has commuted approximately $156 million of reserves. PMA Re has a $205 million adverse reserve development cover to help protect its statutory capital in the event of unexpected increases in prior year losses. The company has $236 million in statutory surplus at June 30, 2004.
As of June 30, 2004, PMAIG had net premiums written of $217 million, compared with $314 million for the same period in the prior year and a GAAP combined ratio of 104.2%, compared with a 101.6% prior year.
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