COM/1-88-023-GB
1-1004-1961-2
STATE OF MINNESOTA
OFFICE OF ADMINISTRATIVE HEARINGS
FOR THE MINNESOTA DEPARTMENT OF COMMERCE
In the Matter of the Application
of Alleghany Corporation to Acquire FINDINGS OF FACT,
More Than Ten Percent of the Common CONCLUSIONS AND
Stock of The St. Paul Companies, Inc. RECOMMENDATION
The above-entitled matter came on for hearing before Administrative Law
Judge George A. Beck on December 16, 1987 at 9:00 A.M. in Room 10 of the State
office Building, Capitol Complex, in the City of St. Paul, Minnesota. The
hearing continued on the following day, December 17, 1987 and was concluded
that evening. The record in this matter closed on December 28, 1987, upon
receipt of the final written memorandum by a party.
Thomas Tinkham, Esq., Warren Spannaus, Esq., Richard L. Bond, Esq., J
Jackson, Esq., and James B. Lynch, Esq., of the firm of Dorsey & Whitney, 2200
First Bank Place East, Minneapolis, Minnesota 55402, appeared for Alleghany
Corporation. John D. French, Esq., James S. Loken, Esq., and Jeannine L. Lee,
Esq. , of the firm of Faegre Benson, 2300 Multifoods Tower, 2300 South Sixth
Street, Minneapolis, Minnesota 55402; and Vance K. Opperman, Esq., and Kevin
it Chandler, Esq., of the firm of Opperman & Paquin, 2200 Washington Square,
100 Washington Avenue South, Minneapolis, Minnesota 55401, represented The St.
Paul Companies, Inc.
This Report is a recommendation, not a final decision. The Commissioner
of Commerce will make the final decision after a review of the record which
may adopt, reject or modify the Findings of Fact, Conclusions, and
Recommendations contained herein. Pursuant to Minn. Stat. 14.61, the final
decision of the Commissioner shall not be made until this Report has been made
available to the parties to the proceeding for at least ten days. An
opportunity must be afforded to each party adversely affected by this Report
to file exceptions and present argument to the Commissioner. Parties may
contact Michael A. Hatch, Commissioner, Minnesota Department of Commerce, 500
Metro Square Building, Seventh and Robert Streets, St. Paul, Minnesota 55101,
to ascertain the procedure for filing exceptions or presenting argument. The
Commissioner has asked that any written exceptions be filed on or before
January 4, 1988.
STATEMENT OF ISSUES
The issue in this contested case proceeding is whether Alleghany
Corporation, which seeks to acquire more than ten percent of the common stock
of The St. Paul Companies, Inc., has sustained its burden of showing that none
of the conditions enumerated in Minn. Stat. 600.02, subd. 4 (1)(iii), (v) or
(vi) exists. The conditions are that:
(iii) the financial condition of any acquiring party might jeopardize the
financial stability of the insurer, or prejudice the interest of its
policyholders or the interests of any securityholders who are unaffiliated
with the acquiring party;
(v) the plans or proposals which the acquiring party has to liquidate the
insurer, sell its assets or consolidate or merge it with any person, or to
make any other material change in its business or corporate structure or
management, are unfair and unreasonable to policyholders of the insurer and
not In the public interest; or
(vi) the competence, experience and integrity of those persons who would
control the operation of the insurer are such that it would not be in the
interest of the policyholders of the insurer and of the Public to permit the
acquisition of control.
Based upon all of the proceedings herein, the Administrative Law Judge
makes the following:
FINDINGS OF FACT
Introductory Matters.
1. The St. Paul Companies, Inc. ("St. Paul") is a Minnesota
corporation. Its headquarters is located at 385 Washington Street in St.
Paul , Minnesota. (Ex. 10, p. 2). St. Paul employes 2600 people in downtown
St. Paul and has 10,000 employees nationwide. (Ex. 43). St. Paul is the
holding compaany for one of the largest groups of property-liability insurance
underwriters in the United States. It wholly owns five domestic Minnesota
insurance companies: St. Paul Fire and Marine Insurance Company, St. Paul
Mercury Insurance Company, St. Paul Guardian Insurance Company, Ramsey
Insurance Company and Athena Insurance Company (collectively,' the
"Insurers"). All of the Insurers are Minnesota corporations with their home
offices in St. Paul. (Ex. I 0, p. 2; Ex. 20). St. Paul is also engaged
through subsidiaries in investment banking, and insurance and reinsurance
brokerage activities. (Ex. 20, pp. 8-19).
2. As of September 30, 1987, the total assets of St. Paul were
$8,308,440,000. Total shareholders' equity as of September 30, 1987 was
$1,735,334,000. (Ex. 22). The common stock of St. Paul is traded nationally
over-the-counter and is quoted on the NASDAQ National Market System. (Ex. 20,
p. 20). There are about 46,301,857 shares of St. Paul common stock
outstanding. (Ex. 22).
3. Alleghany Corporation ("Alleghany") is a Delaware corporation with
its headquarters at Park Avenue Plaza, New York, New York. (Tr. 31; Ex. 10,
p. 2). Through its subsidiary, Chicago Title and Trust Company ("C.T.& T."),
Alleghany is engaged in underwriting title insurance and trust company
services. Since December 1986, Alleghany has owned The Shelby Insurance
Company ("Shelby"). an Ohio-based regional property and casualty insurer.
Alleghany, apart from its subsidiaries, employs only 11 people, 5 of whom are
clerical employees. (Tr. 32).
4. As of September 30, 1987, the total assets of Alleghany and its
subsidiaries equalled $1,499,491,000 and common shareholders' equity was
$517,123,000 (Ex. 1OA-10; Ex. 28) For the nine months ending September 30,
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1987. Alleghany had total revenues of $816,381,000. net earnings of
$48,260,000, and per share net earnings of $7.49. (Ex. 28). The common stock
of Alleghany is publicly traded. Approximately 38% of the common stock of
Alleghany is held by and for members of the Kirby family,, including Fred M.
Kirby. Alleghany's Chairman and Chief Executive Officer, and his brother Allan
P. Kirby, Jr., an Alleghany director (Tr. 30; Ex. 10 at 12-13). The Kirby
family controls Alleghany. (Tr. 93).
5. As of December 16, 1987, Alleghany and its subsidiaries own 3,890,000
shares, or approximately 8.4% of the outstanding common stock of St. Paul.
(Ex. 8, p. 14; Tr. 52; Ex. 22, p. 6). Of the total St. Paul shares controlled
by Alleghany, 1,095,000 shares are held by C.T. & T., 100,000 shares are held
by Chicago Title Insurance Company, 160,000 shares are held by SAFECO Title
Insurance Company, and 100,000 shares are held by Shelby. (Ex. 1OA-8).
Chicago Title Insurance Company and SAFECO Title Insurance Company are
subsidiaries of C.T.& T.
6. On November 12, 1987, Alleghany filed with the Commissioner of the
Minnesota Department of Commerce a statutory statement regarding the
acquisition of control of a domestic insurer on Form A pursuant to Minn. Stat.
60D.02, the Minnesota Insurance Holding Company Act (Ex. 9) The filing
seeks approval to acquire common stock of St. Paul in excess of ten percent.
on November 19, 1987, Alleghany filed Amendment No. 1 to Form A. (Ex. 11).
In the statement Alleghany proposed to acquire up to 20% of the stock of St.
Paul. (Ex. 10, p. 15). Alleghany proposes to effect the proposed acquisition
through open market purchases, which Alleghany expects will be for cash at
prevailing market prices. (Ex. 10, pp. 14-15).
7. By letter dated November 20, 1987, Alleghany furnished copies of the
Form A Statement to each of the Insurers for mailing to their respective
stockholders, pursuant to Minn. Stat. 60D.02, subd. 1(1). (Ex. 12). By
letters dated December 1, 1987, Alleghany furnished a copy of the Notice of
Hearing on this matter to each of the Insurers, pursuant to Minn. Stat.
60D.02, subd. 4(2). (Ex. 17).
St. Paul's Operations.
8. St. Paul's insurance operations are primarily in the area of property
and casualty insurance. A major component of that business is medical
malpractice insurance. (Ex. 20, p. 8). St. Paul had approximately $715
million in written premiums for medical malpractice insurance in 1986. St.
Paul also is a major writer of commercial liability insurance. (Ex. 20). St.
Paul's insurance business also includes property, personal lines (including
automobile and homeowners), reinsurance, specialty risks and surplus lines,
and fidelity and surety bonds. (Ex. 20).
9. Swett & Crawford Group, a St. Paul subsidiary, is the largest
wholesale insurance broker network in the United States. It operates 50
offices in 30 states. (Ex. 20, p. 14). Swett & Crawford is a wholesale
distributor of surplus lines and specialty risk products. (Ex. 20, p. 14). ,
10. St. Paul also owns 26 percent of the equity of London-based Minet
Holdings PLC, one of the largest insurance brokers in the world. (Ex. 20, pp.
14, 17). St. Paul and Minet recently announced agreement on the terms of a
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proposed cash offer by St. Paul to acquire the outstanding shares of Minet
that are not already owned by St. Paul. (Tr. 558).
11. Another St. Paul subsidiary is John Nuveen & Co., Incorporated, an
investment banking company. Nuveen is the oldest and largest investment
banking firm specializing in underwriting, trading and marketing municipal
bonds, tax-exempt unit trusts and tax-free mutual funds. It is headquartered
in Chicago, has a principal office in New York, and has branches in 13 U.S.
cities. (Ex. 20, p. 19).
Alleqhany's Officers and Recent History.
12. Fred M. Kirby, who owns approximately 12.7% of the issued and
outstanding shares of Alleghany common stock, is the Chairman and Chief
Executive Officer of Alleghany. (Ex. 10, p. 12; Tr. 314). Mr. Kirby has been
associated with Alleghany Corporation for 30 years. (Tr. 314). He was
Chairman of the Board of IDS from 1965 to 1978. (Tr. 316). He is currently
on the Board of Directors of American Express, Woolworth, Pittson Company, and
Cyclops Corporation. (Tr. 315).
13. Other officers of Alleghany include John J. Burns, Jr. (President and
Chief Operating Officer), who has been with the company 20 years, and David B.
Cuming (Vice President), who has been with Alleghany for 10 years. Mr. Cuming
is responsible for liason with the operating companies, relationships to
banks, strategic planning, and investments. He has a background in investment
banking, acquisitions and the private venture capital business. (Tr. 18). He
served as a director of IDS Life Insurance Co. when Alleghany owned IDS. (Tr.
47). Theodore Somerville is Vice President and General Counsel, and has been
with the company for 15 years. (Tr. 31; Ex. IOA-1 at 32).
14. Over the past forty years, Alleghany Corporation has controlled
operating companies in the railroad, retail financial services, motor freight,
metal and steel fabrication and insurance industries. (Tr. 24). Since 1984,
one of Alleghany's corporate objectives has been to acquire one or more
operating companies. (Tr. 333-34; Ex. 24, p. 1). It has also, from time to
time, acquired substantial equity positions in certain companies, held the
stock for a short period of time, and then sold the stock at a profit. (Tr.
100-104).
15. Until January 1984, Alleghany Corporation, owned all of the
outstanding capital stock of Investors Diversified Services, Inc. ("IDS"), a
financial services company headquartered in Minneapolis which provided a
variety of financial products and services Ito individuals and institutions,
including insurance. Alleghany purchased control of IDS in 1949, and retained
control (except during the period from 1955 to 1960, during which time
Alleghany continued to be represented on the Board of Directors of IDS) until
Alleghany sold IDS to American Express Company ("American Express") in January
1984 for consideration of approximately $780 million. (Tr. 24; Tr. 93).
16. During the period from 1949 to 1983, the net income of IDS rose from
$400,000 to $55 million, total assets of IDS increased from $289 million to
$5.3 billion, stockholders' equity of IDS increased from $2.9 million to $428
million and the number of persons employed by IDS in the Twin Cities area
increased from 650 to 2,254. IDS also played a leading role in the
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development of downtown Minneapolis, including the construction of the IDS
Center, a major office, retail and hotel complex, which was completed in
1973. IDS had become a wholly-owned subsidiary of Alleghany in 1979 and, at
the time of the sale of IDS to American Express, constituted Alleghany's
largest asset. (Ex. 10, pp. 3-4; Tr. 50).
17. IDS conducted an insurance business through its wholly-owned
subsidiary IDS Life Insurance Company, a stock life insurance company
organized under the laws of the State of Minnesota ("IDS Life''). At the time
of the sale of IDS, IDS Life served all states except New York, and a wholly
owned subsidiary of IDS Life served New York only. According to a Fortune
magazine listing of the 50 largest life insurance companies published several
months prior to the sale of IDS, IDS Life ranked 31st in assets, 26th in
premium and annuity receipts, 27th in net investment income and 38th in amount
of life insurance in force. (Ex. 10, p. 4).
18. In 1979, Alleghany bought out the minority shareholders of IDS. (Tr.
93). That same year, a lawsuit was initiated on behalf of IDS minority
shareholders against Alleghany under the federal securities laws. (Tr. 94).
Alleghany settled the suit in 1985 for payment of $4,000,000 in cash and $4.5
million in securities. (Tr. 94).
19. In 1984, Alleghany sought approval to acquire Conrail from the United
States government. (Tr. 97). A prominent Congressman opposed Alleghany's bid
to acquire Conrail because of Alleghany's association with Penn Central. (Tr.
98). Alleghany was a major Penn Central shareholder and Fred Kirby served on
the Penn Central board until just before its announcement in 1970 that it
could not meet its financial obligations. (Tr. 95). The government
ultimately picked an applicant other than Alleghany. (Tr. 98).
20. Alleghany and its predecessors have a history of profitable
operation. (Ex. 10; Ex. 26; Tr. 431-32). During the ten-year period of 1977
to December 31, 1986, stockholders equity per Alleghany share increased from
slightly over $20 per share to in excess of $120 per share. (Ex. 26, p. 3).
Over the same period, the market price per share of Alleghany common increased
from a high of about $18 per share to about $118 per share in 1986 and, if
distributions during 1987 were taken into account, the high market price would
effectively have been approximately $180 per share. (Ex. 26, p. 3; Tr.
40-41).
21. A factor in Alleghany's acquisition program over the last twenty
years has been its desire to avoid the adverse tax consequences of becoming
classified by the federal government as an investment company. Alleghany's
stated objective is to remain an operating company. (En A at 7881 ; Ex. 23 at
7975).
Alleghany's Current Subsidiaries.
22. Alleghany currently has two direct operating subsidiaries. Chicago
Title and Trust Company ("C.T.& T.") and The Shelby Insurance Company
("Shelby"). (Ex. 10 at 2). C.T.& T. , based in Chicago, was acquired in June
1985 and is engaged in the sale and underwriting of title insurance through
its subsidiaries Chicago Title Insurance Company and SAFECO Title Insurance
Company. It also provides certain other financial services. (Ex. 31 ; Tr.
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291 ) it is the largest title Insurance company in the country. (Tr. 25).
As of December 31, 1986, C.T.& T. and its subsidiaries had total assets of
$852,453,000 compared with total assets of $570,545,000 a year earlier. (Ex.
31 ) Policyholders surplus increased from $34 million in 1982 to $82.5
million in 1986. (Ex. 31 ; Tr. 294). As of September 30, 1987, C.T.& T. had
total assets of $904,723,535 and year-to-date net income of $35,324,750. (Ex.
33) C.T.& T. is licensed in Minnesota. (Tr. 297; Ex. 34).
23. Shelby was acquired in December 1986 and Is in the property and
casualty insurance business, principally personal line automobile insurance.
(Ex. 10, p. 2; Tr. 49). Shelby no longer writes medical malpractice insurance
but is managing the runoff of the medical malpractice business it stopped
writing in 1976. (Tr. 279). Shelby was in a weak financial condition when it
was acquired, having suffered operating losses of $22 million in 1985 and $10
million in 1986. (Tr. 266; Ex. 37). Al1eghany invested $40 million in cash
in Shelby when it purchased 80% of its stock and it later provided a further
$9 million additional capital. (Tr. 265). Shelby is now profitable with a
1987 net income of $5 million through November of 1987. (Tr. 266). Shelby
has expanded its employees in the Ohio area since Alleghany became Its
parent. (Tr. 277). Although Shelby is licensed to conduct insurance business
in Minnesota, during 1986 Shelby voluntarily began non-renewal procedures for
all policies in force in Minnesota and intends not to write any new business
in Minnesota. (Tr. 288). At present, Shelby has less than 1% of the business
in any line of insurance in Minnesota. (Ex. 37; Ex. 39).
24. Alleghany allows its subsidiaries a good deal of autonomy in the
operating area. (Tr. 37; Tr. 272). Each subsidiary decides Its own
charitable contributions. (Tr. 39; Tr. 170; Tr. 275). The charitable
contributions of both C.T.& T. and Shelby have increased since Alleghany
assumed control. (Tr. 274; Tr. 299). In 1986, C.T.& T. joined the
Two-Percent Club in Chicago, which means that it contributes 2% of its pre-tax
earnings to charity. (Tr. 299). The IDS Tower was built in Minneapolis while
Alleghany owned IDS and C.T.& T. is currently considering a landmark building
in Chicago. (Tr. 39-40; Tr. 299). Alleghany has never caused a subsidiary to
move its headquarters. (Tr. 170).
Alleghany's Strategic Objectives and Plans.
25. Alleghany's strategic plan for 1988-1992 lists the following
objectives and strategies, among others:
Achieve the maximum return on assets consistent with holding
risks to a prudent level.
Remain an operating company.
Maintain a decentralized organizational structure, in which each
of Alleghany's operating units functions as a quasiautonomous
enterprise.
Seek opportunities for profitable investments In minority
interests in other companies.
Be alert to opportunities to dispose of its existing businesses,
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or Portions of such businesses, when redeployment of their
resources would be more advantageous.
Foster, in its parent company, the key characteristics of a
small, entrepreneurial organization:
Small but select staff;
Ability to react quickly to opportunities;
Conservative parent-company capital structure combined with
ample, immediately available credit; and
Maintenance of the principal operating units as separate,
quasiautonomous enterprises.
(Ex. 24 at 6249; Tr. 35-37).
26. Alleghany's 1985-1989 strategic plan noted that the ownership and
management of the assets of a property/casualty insurance company would mean
acquisition of an operating company that, unlike a life insurance company, may
invest a large portion of its reserves and surplus in a portfolio of equity
securities. (Ex. A at 7891). According to its 1986 Annual Report, Alleghany
intends to expand its operations through possible operating company
acquisitions. (Ex. 26, p. 1; Ex. 1OA-1) Alleghany's current strategic plan
states that "Capital available remains at a sufficiently formidable level to
support an acquisition in the $1 - $3 billion range and Alleghany will
continue to seek a major acquisition that is neither overpriced nor
excessively risky." (Ex. 24, p. 14).
27. Alleghany's investment philosophy, as stated in its current strategic
plan, includes the belief that investing its capital in "controlling equity
positions" is advantageous. (Ex. 24 at p. 6261 ). Alleghany, believes that
this permits "{a}cquisition of stock positions through market purchases,
without paying substantial premiums" and the [a]ttainment of bases from which
to achieve the acquisition of control of full ownership." Another objective
however, is the "ability to enhance reported earnings through ''equity
accounting" of positions over 20%." (Ex. 24 at 6261). Alleghany's strategic
plan contains a recognition that "[t]he very fact of Alleghany's declared
interest in a possible acquisition has in the past elicited a competitlve
response as happened with Conrail, Beneficial and Cyclops." (Ex. 24 at
6262). This meant, for instance a profit of $40 million for Alleghany in 1986
on its stock position in Beneficial, which resulted from the market reaction
to its position. (Tr. 101).
Alleghany's Initial Interest in St. Paul Stock.
28. Alleghany has been following the property and casualty insurance
industry for three or four years. It has followed St. Paul, as well as other
insurers. (Tr. 106). It negotiated for the acquisition of Fireman's Fund
from American Express, but the deal was not completed because Alleghany felt
it would have to assume too much debt to close the deal . (Tr. 109). As part
of its regular course of business, Alleghany identied St. Paul stock as
undervalued and sought to analyze the attractiveness of an investment in St.
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Paul . (Tr. 51-52). It is the practice of Alleghany's management, when
evaluating an investment in stock, to perform a complete, overall company
analysis. (Tr. 161-62; 175).
29. In )uly 1987, Alleghany's President, John Burns, recommended to Fred
Kirby (Chairman and CEO) that Alleghany consider purchasing shares of St.
Paul. By a memorandum dated July 16, 1987, Burns stated that "I like this
STPL idea [but] [h]ave no real concept of end game." (Ex. 8 at 4911).
Attached to Burns' memo was an analysis which said that "St. Paul seems a very
vulnerable acquisition candidate because the property-casualty operation can
be purchased very cheaply assuming the use of hidden assets." (Ex. B at 4912;
See, Ex. 46 at 62, 72). The calculations attached to the analysis assumed the
purchase of Al of St. Paul's stock, and the sale of St. Paul's Nuveen, Swett
& Crawford and Minet subsidiaries, and the "extraction of excess statutory
capital" from St. Paul's insurance companies. (Ex. B -it 4912). Mr. Kirby
replied to Burns on July 20, 1987 and stated that "I have no problem with the
enclosures" except for a mathematical error. (Ex. B).
30. Alleghany commenced its buying program one week later, on July 23,
1987, when its subsidiary Chicago Title Insurance Company purchased 60,000
shares of St. Paul stock. (Ex. 1OA-8). From July 23 through October 15,
Alleghany and its subsidiaries purchased 3,890,000 shares of St. Paul stock at
prices ranging from $47.50 to $57.25 per share (Ex. 1OA-8), for a total of
about $200 million. Of this total, 1,455,000 shares were purchased by
Alleghany's subsidiaries. (Ex. R, p. 6). The Alleghany subsidiaries bought
stock of St. Paul after consulting with Alleghany management. (Tr. 87; Tr.
116).
The Merrill Lynch Analysis.
31. In July 1987. Alleghany asked its regular investment banker, Merrill
Lynch Capital Markets ("Merrill Lynch"), to assist in preparing an analysis of
St. Paul . when Alleghany first contacted Merrill Lynch it advised Merrill
Lynch that it felt that St. Paul's stock was undervalued and asked Merrill
Lynch to evaluate the attractiveness of an investment in St Paul through their
usual analysis. (Ex. 46, p. 13; Tr. 135). Merrill Lynch has been engaged by
Alleghany in the past and had provided three or four analyses for Alleghany
during 1987. (Tr. 62). Merrill Lynch gave St. Paul the code name "Santa
Claus'' for purposes of its confidential analysis and discussions with
Alleghany. (Ex. E).
32. On July 31, 1987, Merrill Lynch provided Alleghany with a "Summary
Pre-Tax Break-Up Valuation" of St. Paul (Ex. C at 5018; Tr. 140). At the
same time, Merrill Lynch provides an additional analysis which assumed
acquisition of 2.5 million shares of St. Paul stock on the open market and
acquisition of all the other shares thereafter in a 'business combination."
(Ex. C at 5019).
33. By memorandum dated August 6, 1987, Mr. Burns recommended to
Alleghany's Executive Committee that it authorize the purchase of up to 2.5
million shares. or approximately 5%, of St. Paul's common stock. (Ex. D at
5217). The material sent to the Executive Committee included the materials
attached to Mr. Burn's July 16 memorandum. (Ex. D at 5220).
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34. On August 11 , 1987, Merrill Lynch sent Burns a "proliminary financing
analysis" of St. Paul . (Ex. F) . The contemplated hypothetical transaction
involved a tender offer for all of the stock of St. Paul , the merger of St.
Paul and a subsidiary of Alleghany, and the withdrawal of "excess capital"
from St. Paul's property and casualty insurance companies. (Ex. F).
35. By August 12, 1987, Alleghany and its subsidiaries had accumulated an
aggregate of 655,000 shares of St. Paul stock. (Ex. G at 1). On August 12,
1987, the Alleghany Executive Committee met by telephone conference and
authorized Alleghany to purchase up to a total of 2.5 million shares or 4.9%
of St. Paul's stock. (Ex. 5; Tr. 348).
36. On or before August 12, 1987, Merrill Lynch gave Alleghany a
twenty-four page booklet entitled "Santa Claus -- Preliminary LBO-Analysis."
(Ex. E , Tr. 154). This leveraged buyout (''LBO') scenario contains
calculations assuming an acquisition of 100% of St. Paul . It includes a
reduction of St. Paul's capital after the acquisition by the extraction of
excess property and casualty capital in the amount of $335 million. It also
contemplated the realization of net gains in the bond portfolio in the amount
of $220 million. (Ex. E at 5234; Tr. 208-210). The plan outlined in the
Merrill Lynch booklet (referred to as the "grey book") also assumed that three
of St. Paul's businesses or investments would be sold: the John Nuveen & Co.
investment bank, the Swett & Crawford reinsurance brokerage business and St.
Paul's investment in Minet. (Ex. E at 5234; Tr. 214).
37. In the period July to October of 1987, Alleghany officers Burns and
Cuming met with Merrill Lynch representatives between five and ten times to
discuss the Merrill Lynch analysis. (Tr. 245). a leveraged buyout analysis
is frequently done as a means of valuing a business and determining its
suitability for investment, (Ex. 46, p. 85; Tr. 137; Tr. 175), even though the
client does not intend to acquire 100% of a company. (Ex. 46, pp. 86-87; Tr.
162). Alleghany does such analyses prior to a substantial equity investment.
(Tr. 175). No one at Alleghany ever told Merrill Lynch that it intended to
pursue a leveraged buyout. (Ex. 46, pp. 84-85). Merrill Lynch did not
contact banks to pursue financing for a leveraged buyout, nor did it solicit
interest in the St. Paul subsidiaries proposed to be sold by the analysis.
(Ex. 46, p. BB).
38. John Burns described the St. Paul strategy in an August 12, 1987
memorandum to Fred Kirby: "MLP [Merrill Lynch] has developed a very
aggressive and detailed plan which looks very attractive. While the plan
involves a large amount of leverage, it seems handleable even under a
difficult worst case scenario." (Ex. G at 5194). Burns' concluding statement
about the St. Paul scenario states that "[w]hile this is a venturesome plan it
might be the right time for us to consider a more aggressive approach with the
Alleghany assets." (Ex. G, p. 5195; Tr. 165). Mr. Kirby replied to Mr. Burns
on August 17, 1987 and stated that he was "in accord with most of the things
you have said" including the "more aggressive approach" sentence. (Ex. G, p.
5196).
39. On August 13, 1987, Burns wrote a memorandum to Fred Kirby
summarizing the Merrill Lynch booklet. (Ex. H). Burns there indicated that
the cost of purchasing St. Paul was $3.2 billion, to be financed by the sale
of Minet, Nuveen and Swett & Crawford, extraction of St. Paul's excess capital
and by other means. (Ex. H).
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40. 'The Merrill Lynch analysis was sent to Richard Toft, president of
Alleghany's C.T.& T. subsidiary, for his review and comments. (Tr. 300). In
a letter to Burns dated August 27, 1987, Toft stated that he did not believe
the transaction to be feasible without a major correction in the market. (Ex.
4; Tr. 300). Mr. Toft also forwarded an analysis of St. Paul's reserves to
Mr. Burns on September 1, 1987. (Ex P).
41. On September 15, 1987, the Board of Directors of Alleghany met and
authorized management to purchase an additional 2 million shares of St. Paul
stock. Alleghany was then authorized to acquire 4.5 million shares, or
approximately 9.9% of St. Paul stock. (Tr. 52; Ex. 6; Tr. 55). Management
had already concluded at this time that Alleghany should proceed to the 20%
level in its purchase of St. Paul stock, however. (Tr. 228).
42. On September 16, 1987, Merrill Lynch sent Burns it revised LBO-run for
St. Paul which reduced the "excess" capital available by $185 million. (Ex.
K; Ex. M). Merrill Lynch prepared another "scenario" on September 21 that was
only slightly different, and which contained the same assumptions. (Ex. L).
Subsequent Purchases of St. Paul Stock.
43. On September 28, 1987, Mr. Cuming prepared the following memo:
ST. PAUL STRATEGY
STEPS
1. Acquire 4.9%. Prepare 13D filing.
2 Cross the 5% threshold and use the next ten days before the
13D must be filed to add stock up to 9.9% for investment
purposes. The 13D filing does not require any halt in
stock purchases, and Alleghany may continue to purchase up
to 9.9% after filing, if not already achieved.
3. Crossing the 10% threshold requires:
a. Permission from the Insurance Commissioner that could
take four months to obtain.
b. A Hart-Scott-Rodino filing (takes 30 days).
c. should Alleghany's intentions change from investment to
merger, acceptance from the company of Alleghany as an
''approved buyer'' under the Minnesota anti-takeover
statute, permitting a merger.
d. Probably (though not necessarily) some form of contact
with the company regarding Alleghany's intentions.
4. If Alleghany's investment intentions were to change and if
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a 100% leverage buyout were acceptable to the target, it
would probably happen at this point.
5. After Insurance Commission approval to exceed 10%,
preferably without an upper limit, but at least with
authorization to go to 20%, Alleghany would continue to
buy.
6. At 20%, Alleghany would be the dominant stockholder and
eligible for equity accounting, whether or not the company
management looked on Alleghany in a friendly manner.
7. At this point (above 10%) any possibility of a future
merger is precluded for five years by the Minnesota
Anti-Takeover statute, and Alleghany should only push ahead
to this 20% investment level if it intends, through
friendly or unfriendly means (i.e., with company support or
through a successful proxy fight to control the board) to
fully implement the following actions:
a. The divestiture of certain saleable assets such as:
Suggested
Assets After-Tax Proceeds
Nuveen 391
Minet 112
Swett & Crawford 132
$ 635
b. The use of these and other proceeds (cash and excess
surplus) to shrink the capitalization by 15mm shares
to, say, 33MM shares of which Alleghany, with 10mm
shares, would own 30%.
c. A substantial increase in the yield of the $6+ billion
portfolio, with a target after-tax improvement of 2% or
$120 million, equal to $3.60 per St. Paul share. A
combination of a stock shrink and a 2% after-tax yield
improvement produces approximately $15 per share,
Alleghany earnings from its 10mm share holding of St.
Paul.
8. Alleghany's position as a 30% stockholder with effective
control of the board makes it easier to determine and
establish the "end game." Among the possible choices are:
a. Acquire 100% through a leverage buyout.
b. Acquire 80%, allowing financial consolidation, also
with substantial leverage.
c. Acquire 51% to assume continued control, requiring
Alleghany to incur large borrowing.
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d. Remain at 30% exercising effective control.
e. Merge Alleghany and St. Paul.
D.B.C.
(Ex. 2).
The author of the memo viewed it as the presentation of a series of options.
(Tr. 69).
44. On September .2 9, 1987, Burns prepared a memorandum entitled
"Alleghany Affairs September 29th" and sent it to Fred Kirby -it his vacation
home. (Ex. 3; Tr. 319). Burns attached to his September- 29 memo a copy of
Cuming's September 28 "St. Paul Strategy" memo. (Ex. 2). Burns described
Cuming's work as "current strategy and strategic options." (Ex. !I at 1 ) .
Burns stated that i t " is at pretty good summary; it's probably not wise to go
into any greater detail right now. " (Ex. 3 at 1). Burns' September 29
memorandum discusses two other possible "deals" and states: "We think (St.
Paul] is a better company and, if done according to plan, a better deal."
(Ex. 3). Annexed to the September 29, 1987 memorandum were financial
projections and calculations prepared by Merrill Lynch for the hypothetical
acquisition of St. Paul . -(Ex. 3 at 5210-5215).
45. On October 5, 1987, Alleghany passed the 5% level of stock ownership
of St. Paul this required it to file a public Schedule 13D with the SEC
within ten days. (Ex. 14; Tr. 146; Tr. 240). In accordance with Cuming's
recommendation in his September 28 memorandum, Alleghany did not file the 13D
until October 15. It used the October 5-15 period to purchase roughly an
additional 3% of the company's stock. (Tr. 241). Also on October 5, Merrill
Lynch prepared another revised LBO analysis, which it sent to Alleghany the
next day. (Ex. 46, pp. 71-77; Tr. 243; Ex. 0).
46. On October 8, 1987, shortly after he returned to the City, Fred Kirby
sent Burns a memorandum responding to Burn's memo of September 29. (Ex. 1;
Tr. 321). The memo read as follows:
October 8, 1987
TO: J.J. Burns, Jr.
FROM: F.M. Kirby
RE: Your "Alleghany Affairs" memo of 9/29
The above reached me while on vacation and, as explained to you
orally since I got back, it looks as though you and Dave may have got well out
in front of me with your thinking on STPL or so it would seem from the above
and Dave's September 28th memo regarding "Strategic Options." We not only
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don't need any more detail on most of what Dave has outlined, but I consider
much of what he has posed quite fanciful. All our Board has approved and all
we intend to acquire, for investment, is something less than 10% of STPL's
outstanding common -- in itself a pretty big bite for the slimmed-down 'new
Alleghany.'' As, if and when we ever develop a serious interest in going
further, yours and/or Dave' preliminary thoughts on strategic options may form
a useful basis for further, more detailed strategic thinking. In the
meanwhile, I strongly request that both of you focus more intently on the
study of STPL itself, both with our consultants and independently, in
preparation for giving me more sound, thoroughly researched evidence that the
recommendation we have already made to the Board (and the approval received)
is prudently conceived.
Thank for the other information.
(Ex. 1).
47. Theodore Somerville, the general counsel, had discussed Mr. Burns'
September 29th memo with Kirby before the October 8 memo was completed. Mr.
Kirby had invited his comments on the September 29th memo from a legal
perspective. (Tr. 389). fie also reviewed a draft of the Kirby October 8
memorandum, at Kirby's request. (Tr. 358; Tr. 389). Somerville suggested
changes to the draft memorandum. (Tr. 389). Somerville is responsible for
preparation of the Schedule 13D disclosures to the SEC regarding Alleghany's
plans.
48. On October 15, 1987, Alleghany filed Schedule 13D disclosing its
ownership of 3,720,000 shares, or approximately 8% of St. Paul common stock as
of October 14, 1987. (Ex. 13; Ex. 14; Tr. 159). The Schedule 13D was
prepared by Mr. Somerville and reviewed by Mr. Kirby. It disclaims any
"present plans or proposals" with respect to seeking control of St. Paul.
(Ex. 14 at p. 2).
49. On or about October 15, 1987, Mr. Kirby called Robert Haugh, the
Chairman and CEO of St. Paul and advised him that Alleghany had acquired 8% of
St. Paul's common stock. Mr. Kirby told Mr. Haugh that Alleghany wanted to be
an important investor in St. Paul. (Ex. 44; Tr. 541, Tr. 566). Kirby stated
that Alleghany, did not intend to seek control of St. Paul, but might acquire
more stock. (Ex. 44; Tr. 567). On October 15, Alleghany purchased an
additional 170,000 shares, bringing Alleghany's stock to the current 8.4%
level.
50. When Alleghany's acquisition of stock became public, St. Paul began
receiving telephone calls from employees, insurance agents, and from Wall
Street asking what was happening. (Tr. 543). The matter has been discussed
at employee meetings (Tr. 544) and meetings of agents. (Tr. 545). St. Paul's
reinsurers have requested that they be advised of any developments. (Tr.
545). Some job applicants have advised St. Paul they wanted to wait until the
situation settles and there has been increased activity by search firms-within
St. Paul's home office. (Tr. 546).
51. On October 21, 1987, the Alleghany Board of Directors met and
authorized management to acquire 15.1% of the outstanding common stock of St.
Paul. (Ex. 7; Tr. 56; Tr. 158) The 15.1% figure was selected because of
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filings required by the federal Hart-Scott-Rodino Act. (Tr. 374-75).
52. The Form A statement was filed with the Minnesota Department of
Comnerce on November 12, 1987 and Amendment No. 1 to Form A was filed with the
Department on November 19, 1987. (Ex. 10). Alleghany there disclosed that it
"currently proposes to acquire 3,101,580 shares of Stock," which would raise
Alleghany's holdings to 15.1% of St. Paul's outstanding stock. (Ex. 10 at
14). Alleghany also disclosed that its management Intended to seek authority
from the Alleghany Board of Directors to acquire up 'to 20%. (Ex. 10 at
14-15).
53. On November 30, 1987, Alleghany filed an Amendment No. I to its
Schedule 13D disclosing that early termination of the waiting period under the
Hart-Scott-Rodino Act was given, effective on November 24, 1987, permitting
Alleghany (in accordance with the intention stated in its Notification and
Report form) to acquire more than 15% but less than 25% of the stock of St.
Paul (Ex. R; Ex . 16). The Schedule 13D amendment also disclosed that
Alleghany's management intended to seek authority from its Board of Directors
to acquire up to 20% of St. Paul stock.
54. On December 16, 1987, Alleghany's Board of Directors approved the
purchase of up to 20% of the common stock of St. Paul. (Tr. 317).
Alleghany's purchases of stock to date have been open market purchases, for
cash at prevailing market prices. Alleghany expects to effect the proposed
20% acquisition through similar open market purchases of stock for cash. (Ex.
10, p. 14).
Analysis of the Proposed Acquisition and Expert Opinion.
55. One advantage to Alleghany in acquiring ea least 20% of St. Paul's
stock, is that Alleghany can obtain the benefits of equity accounting at that
level of ownership. (Tr. 72). Under equity accounting, a company can include
as earnings on its income statement Its pro rata share, based on its
percentage ownership interest, of the earnings of a company whose common stock
it owns, regardless of what proportion of those earnings may be actually
distributed to shareholders -as dividends. (Tr. 78-80). In the absence of
evidence to the contrary, a presumption of the ability to use equity
accounting arises at a 20% ownership level. (Tr. 250). Had Alleghany owned
20% of St. Paul stock and used equity accounting during the -First nine months
of 1987, its earnings would have increased from $8.28 per share to $12.31 per
share. (Ex. 30; Tr. 74). Alleghany has estimated that its 1988 earnings per
share would increase $4 per share if it is permitted to acquire 20% of St.
Paul and use equity accounting. (Tr. 169).
56. If Alleghany acquires 20% of St. Paul's common stock it would incur
additional debt of $39.6 million. (Ex. 30; Tr. 73). As of September 30,
1987, Alleghany's ratio of total long-term debt to total stockholders' equity
was .26 to I . The proposed acquisition of 20% of St. Paul Is stock would
increase that ratio to 33 to 1. (Ex. 30). Alleghany's long-term debt as a
percentage of total capital totaled 21% at September 30, 1987. The proposed
acquisition would increase that percentage to 25%. (Ex. 30; Tr. 82). If the
proposed 20% acquisition were effected, Alleghany's pro forma ratio of
earnings before interest and taxes and excluding all earnings from St. Paul,
to interest expense, would be 4.5x. (Ex. 30).
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57 . Alleghany and its subsidiaries have available considerable financial
resources, consisting of cash and marketable securities amounting to over $200
million, which could be used to finance the proposed 20% acquisition. (Tr.
178; Tr. 317). In addition, Alleghany has available unused lines of credit of
approximately $180 million. (Ex. 10, p. 14; Ex. 29; Tr. 85, 87). John Burns,
Alleghany's President, believes Alleghany presently has capital available to
support an acquisition in the $1 billion range (Tr. 180) but has concluded
that such an acquisition would create too much debt at the present time. (Tr.
182).
58. Leandro Galban, Jr., is an investment analyst with the firm of
Donaldson, Lufkin & Jenrette. (Tr. 406). He is Senior Vice-President in
charge of the insurance group within the investment banking division. (Tr.
407). In his opinion, a 20% investment in St. Paul by Alleghany, while
providing an an improvement in earnings, creates a potential cash burden for
Alleghany which might not be easy to service and is therefore not a very
impressive deal. (Tr. 412-413). He believes that a 100% takeover of St. Paul
would be more attractive to Alleghany's shareholders in that St. Paul's
surplus and subsidiaries would then be accessible to Alleghany. (Tr.
414-415).
59. Gustave Krause is an actuary employed by Tillinghast. He works with
insurance companies to help them price insurance products, set appropriate
reserves or do related financial analyses. (Tr. 475). He offered the opinion
that the profitability results projected in the Merrill Lynch scenario were
optimistic. (Tr. 486-487). The analysis assumes a premium to surplus ratio
of 3 to 1 and a reserve to surplus ratio of 6 to 1 or 7 to I . Mr. Krause
believes that the 3 to 1 ratio is questionable since regulators start to ask
questions at that level. He also believes that the 6 to 1 or 7 to 1 ratios
are far too high for an insurance company engaged in the liability or medical
malpractice field. (Tr. 489).
60. Benjamin Neff provides insurance services to insurance departments,
federal agencies and the industry in the areas of examination, rehabilitation,
conservation and liquidation. (Tr. 495). He is a former Director of
Insurance for the State of Nebraska. (Tr. 496). He also was chairman of a
subcommittee of the National Association of Insurance Commissioners (NAIC)
which drafted the Model Insurance Holding Company Regulatory Act. (Tr. 496).
The Minnesota statute is based upon the Model Act. (Tr. 509). In Mr. Neff's
opinion the Merrill Lynch analysis, if acted upon, would be detrimental to
policyholders because the removal of surplus would reduce the buffer
protecting against claims exceeding reserves. (Tr. 520; See also, Tr.
448-449). Additionally, manipulating the investment portfolio to achieve a
higher rate of return might produce a short-term gain but not long-term
benefit. (Tr. 521). He also believes that the debt created by the
transaction might lead to a lowering of reserves to increase surplus. (Tr.
524).
The Property-Casualty Insurance Industry.
61. The property-casualty insurance industry is cyclical, experiencing
periodic downturns. (Tr. 283-284). The medical malpractice field has been
particularly volatile and has experienced large losses in recent years. For
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that reason, the medical malpractice and products liability insurance field
requires large reserves relative to capital and surplus. (Tr. 282-285). The
sale of some of St. Paul's assets would provide less of a buffer if reserves
were depleted. (Tr. 427-428).
62. Insurance companies maintain reserves to pay both reported and
unreported claims. (Tr. 456). Reserve setting for a property-casualty
company is an inexact process. (Tr. 479). However, if' claims exceed the
estimates, -the insurer must honor claims out of its assets.
Property-liability insurers in particular need a healthy margin of assets over
liabilities. (Tr. 458). Liability and medical malpractice insurance are
particularly difficult to estimate cost for, due to the long "tail" (the
period for settling claims) and the uncertainty as to frequency and size of
claims. (Tr. 419; Tr. 458-459).
63. The property-liability insurance industry is also cyclical as to
claims experience and financial results, so that accounting results or
investment results are more reliable for a larger time period rather than for
a shorter time period. (Tr. 459, 463). Insurance companies need adequate
surplus to weather difficult times. (Tr. 428; Tr. 466). A prudent insurance
company maintains surplus in excess of the statutory minimum. (Tr. 468).
Twice in the last 15 years, St. Paul reached marginal capital positions. (Tr.
418). !The purpose of a surplus is to assure current and past policyholders
that the company is capable of meeting its financial obligations. (Tr. 480).
Adequacy of surplus is often measured by the ratio of reserves to surplus or
the ratio of premiums to surplus. (Tr. 481). These ratios are monitored by
regulators. (Tr. 483). An allowance of 10% for reserve error would be
reasonable for liability insurance. (Tr. 484).
64. Reinsurers base their decision to reinsure on their evaluation of the
primary company's management. (Tr. 421). Alleghany's proposed acquisition of
20% of St. Paul may cause St. Paul's reinsurers to re-examine their
relationships. (Tr. 423). Without reinsurance support, St. Paul could not
continue to offer the medical malpractice program it offers today (Tr. 424).
Alleghany's Stated Intent.
65. Alleghany management states that it has no intent to liquidate, sell
assets, consolidate, merge, or make any material changes in the business of
the Insurers or their management. (Tr. 168; Tr. 318; Tr. 324; Tr. 378). Its
officers state that it has no current intent to acquire more than 20% of St.
Paul's common stock. (Tr. 59, 168, 316). Alleghany has not, in this record,
precluded any possible future options regarding St. Paul. however. It did
offer to return to the Commissioner of Commerce for approval under Minn. Stat.
60D.02 of any purchase over 20% of St. Paul's common stock if St. Paul would
withdraw its objection in this proceeding and recommend to its Board of
Directors approval of Alleghany's 20% purchase within the meaning of
Minnesota's recently passed "Anti-Takeover" statute. (Ex. Q) . The offer also
would have required St. Paul to forego any "poison pill' defenses which would
impede a 20% acquisition.
66. In both its Form A Statement filed with the Department of Commerce of
the State of Minnesota (Ex. 10) and its Amendment No. 1 to its Schedule 13D
filed with the SEC (Ex. R), Alleghany "reserves the right to change" its
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stated current intentions of acquiring 15.1% of St. Paul's stock and seeking
authorization of its Board of Directors to increase its Investment to 20%. and
states that "it intends to continue to review its equity Interest In St. Paul
and reserves the right to formulate such plans or proposals, and to take such
action, as may seem appropriate in the circumstances existing at any future
date." (Ex. 10, p. 14).
St. Paul's Involvement in Community Activities.
67. St. Paul has an established policy of corporate involvement in
community activities. It is the company's policy to target its charitable
contributions to the identified needs of the community. The company actively
encourages employees at all levels to become involved in community activities
and representatives from St. Paul are involved in a wide variety of such
activities. (See, e.g., Tr. 687, 691-698; Exs. Y, HH, II, LL, and QQ).
68. In 1985, St. Paul made $2,391,996 in contributions to various
organizations. Approximately one-half of this amount was contributed to
programs and projects for disadvantaged persons (e.g., women, minorities,
handicapped, low income, etc.). The amount contributed by St. Paul to
disadvantaged persons was the seventh highest of all Minnesota foundations and
corporations and the third highest of all Minnesota corporations.
(Tr. 626-636; Exs. W and X).
69. St. Paul is the largest financial supporter of the Metropolitan
Economic Development Association. The Metropolitan Economic Development
Association provides business management services to minority-owned businesses
in Minnesota. Since the Association's inception in 1974, St. Paul has
provided $245,000 in financial -support for the Association. Additionally,
$50,000 was given to fund the Association's Minority Venture Capital Fund, the
purpose of which is to fund minority businesses. Executives of St. Paul have
served on the Association's Board since 1974.
St. Paul is also a member of the Minnesota Minority Purchasing Council
which is an organization of approximately 65 corporations committed to
purchasing from minority entrepreneurs. The purchasing director of St. Paul
is Chair of the Council. (Tr. 707-713; Ex. BB).
70. St. Paul provides financial support for other programs for
disadvantaged persons such as Children's Defense Fund, American Refugee
Committee, Health Start and others. (See, eg. , Exs. EE, TT, XX ZZ, EEE and
FFF).
71. Over the past five years, St. Paul has invested nearly $250,000 in
joint projects to improve instruction in the St. Paul Public Schools. St.
Paul and the School District jointly developed a juvenile crime prevention
curriculum which is now being adopted throughout the country. Other grants
from St. Paul have been used by the School District to train teachers in the
instructional use of computers, to design alternative learning strategies for
junior high students, and to train parents to augment instruction at home.
(Tr. 647-649; Ex. U).
72 . St. Paul has funded the Notre Dame E.S.L. (English as a Second
Language) for the past five years. The school is located in the conference
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rooms at the company's offices. The school teaches English to refugees,
mainly Southeast Asians, with the objective of making them self-sufficient.
(Tr. 713-717; Exs. U and CC).
73. St. Paul has been a major financial contributor to the Minnesota
Private College Fund, which involves the 17 private colleges in Minnesota, for
the past 30 years. Additionally, the company has made financial contributions
to the College of St. Thomas, the College of St. Catherine and Macalester
College. Financial support has also been given to St. Paul Academy. St. Paul
also supports other educational programs such as the Minnesota Literacy
Council and Parents Advocacy Coalition for Educational Rights. Additionally,
St. Paul operates a teacher intern program in conjunction with the College of
St. Thomas. (Tr. 608-617; Tr. 645-647; Exs. U, AA and UU).
74. St. Paul has provided financial support to various arts organizations
such as the United Arts Council ($120,000 in 1986), the Ordway Music Theater
($1 million), Actors Theater, Minnesota Museum of Art, St. Paul Chamber
Orchestra and others. St. Paul assisted in guaranteeing financing for the $8
million restoration of the Landmark Center. In addition, the company
contributed more than $350,000 in grant funds to that project. See , eg. ,
Tr. 699-706; Exs. AA, II, JJ, LL, 00, SS, AAA, CCC, and DDD),
75. St. Paul was one of -he four companies which organized the Community
Initiatives Consortium, an investment consortium of local life and health
insurance companies which provides loans to small businesses and assists in
the redevelopment of low-income neighborhoods. St. Paul provides financial
support for neighborhood groups and for neighborhood revitalization projects
such as the Lexington-Hamline Community Council, Ford Road/West Seventh Street
Federation, Midway Coalition, Community Design Center, North End Area
Revitalization, Inc., Merriam Park Community Council, Inc. and Common Space.
St. Paul also provided $250,000 to help fund the Keystone Project, which
provides housing for homeless persons. (Tr. 640; Tr. 672-675; 683-687; Exs.
AA, DD, GG, HH, NN, QQ, RR and WW).
76. St. Paul is a member of the St. Paul Area Chamber of Commerce. Some
activities of St. Paul within the Chamber include Project Social
Responsibility for Career Education, Community Affairs Roundtable, Child Care
Task Force, Leadership of St. Paul and Business Education Partnership.
(Tr. 675-678).
77. Representatives of St. Paul have been in leadership roles in various
community organizations, including United Way, United Hospital, St Joseph's
Hospital, Macalester College, College of St. Catherine, College of St. Thomas,
St. Paul Academy, St. Paul Chamber Orchestra, Minnesota Literary Council,
Ordway Music Theater; Minnesota Public Radio, Twin Cities Public Television;
Health Start, and many other various organizations. (See., eg., Tr. 671-672,
678-680, 703-704; Exs. AA, UU, XX, CCC, DDD and GGG).
78. St. Paul was one of five companies that initiated the Management
Assistance Project for Non-Profits, Inc. (MAP) eight years ago. MAP provides
volunteer consultants and board members, as well as training, to the
approximately 2,000 non-profit agencies in the metropolitan area MAP has
placed over 2,000 corporate volunteers from St. Paul and other major
corporations as management consultants and board members in area non-profit
agencies. In addition to supplying corporate volunteers, St. Paul supports
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MAP financially. Tr. 657-660; Ex. AAA).
St. Paul's Service to Policyholders and Independent Insurance Agents.
79. St. Paul's management is located in the company's local St. Paul
offices. In addition, the company has local in-house claims adjusters and
in-house counsel. The local personnel results in benefits to Policyholders.
For example, when policy problems arise or when a unique situation develops
that requires individualized attention, the insurance agent is better able to
serve the policyholder by having direct access to upper management of the
company. Also, decisions regarding claims can be made at the local level.
St. Paul has been found to be more responsive in handling claims of personal
injury claimants than those insurance companies which do not have their
headquarters in Minnesota. (Tr. 582-607, 618-626; Exs. T, LL and RR).
80. St. Paul provides services to outstate insurance agents that some
insurance companies no longer provide such as safety engineering, staff
adjustors and auditors. (Tr. 688-690).
81. St. Paul provides coverage that many other insurance companies do not
provide. For example, in 1985 St. Paul began offering dram shop insurance at
a time when only one other carrier in Minnesota was providing such coverage.
St. Paul also provides professional malpractice liability insurance which is
often difficult to obtain. (Tr. 591-592, 624; Exs. PP and XX).
Possible Impact of Acquisition of Control of St. Paul by Alleghany.
82. There is a strong geographic correlation between the headquarters of
a company and the recipients of that company's charitable giving.
Minnesota-based companies primarily contribute money to organizations within
the State. In 1 985, the geographic distribution of St. Paul's grants was as
follows: Twin Cities--90.9 percent; Greater Minnesota--2 percent;
Other--7.1 percent. There is also a correlation between the location of the
headquarters and the percent of contributions that directly benefit
disadvantaged persons. (Tr. 626-636; Exs. W, X and EE; See -also, Tr. 696--697,
703; Exs. BB, BBB (at 14), DDD (at 27); and GGG).
83. During the 1970s and the early 1980s, St. Paul purchased relatively
small issue bonds for projects in small Minnesota communities. During the
same period, IDS, for example, was purchasing large highly rated
national-issue bonds. The bonds purchased by St. Paul accomplished two things
not accomplished through the purchase of more highly rated bonds for larger
projects: (1) a higher return on investment; and (2) construction of projects
in rural areas of the State such as a nursing home in Sleepy Eye, a paper
factory in Duluth, and a sugar beet processing plant in Moorhead. (Ex. BBB at
6-9 and 16-19).
84. The hostile takeover of a company can result in changes in personnel
of that company. One study has concluded that a significant number of senior
executives still leave the company after it takeover. Additionally, in some
instances, employees may be laid off because of overlapping positions between
the two companies or because positions are eliminated by the acquiring
company. (Tr. 660-668; Exs. KK and BBB).
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85. Fear of a hostile takeover can result in a company's tendency to
favor strategies which shield the company from takeover, even if such
strategies are not conducive to the long-term growth of the company. Where
takeovers involve substantial debt increases, increased interest costs will
limit expenditures in other areas. (Tr. 660-668; Exs. KK and BBB).
86. Community leaders, civic, business and community, perceive it negative
Impact on the City of St. Paul if the headquarters of the company leaves the
city. Such leaders fear a loss of jobs and a loss of corporate leadership.
This fear is based, at least in part, upon the impact resulting by the move of
major companies (such as Whirlpool, Buckbee Mears, Conwed, and Brown and
Bigelow), from the city in recent years. Locally headquartered companies are
found to be more responsive to local, social and economic needs. (See, e.g.,
Tr. 637-645, 653-657, 669-678; Ex. Y; Ex. AA; Ex. CCC at 15-17).
87. Insurance agents have found that other insurance company acquisitions
have resulted in poorer service to policyholders. For example, rural markets
were no longer served, smaller premium accounts were not written, and certain
insurance product lines were eliminated. (Tr. 688-690; Ex. MM).
Based upon the foregoing Findings of Fact, the Administrative Law Judge
makes the following:
CONCLUSIONS
1. The Commissioner of Commerce and the Administrative Law Judge have
jurisdiction in this matter pursuant to Minn. Stat. 60D.02 and 14.50.
2. The Department of Commerce has fulfilled all relevant substantive and
procedural requirements of law and rule.
3. The Department of Commerce and Alleghany Corporation have given proper
notice of the hearing in this matter as required by Minn. Stat. 60D.02,
subd. 4(2).
4. That Minn. Stat. 60D.02, subd. 1 provides that no person shall
acquire any voting security issued by a domestic insurer if the acquisition
would result in it change in the control of the insurer unless the proposed
acquisition has been approved by the Commissioner of Commerce.
5. That "control" is presumed to exist if a party owns or controls ten
percent or more of the voting securities of an insurer under- Minn. Stat.
60D.01, subd. 4.
6. That under Minn. Stat. 60D.02, subd. 40) the Commissioner of
Commerce must approve an acquisition of control of an insurer unless he finds
that the acquiring party has failed to show that certain conditions do not
exist
7. The burden of proof in this proceeding is on Alleghany Corporation to
show that none of the conditions enumerated in Minn. Stat. 60D.02, subd.
4(1)(i) - (vi) exists.
8. The parties have stipulated that the conditions set out at Minn. Stat.
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i 600.02, subd. 4(1)(i), (ii) and (iv) do not exist and have agreed that
Alleghany Corporation has sustained its burden in regard to those conditions.
(Tr. 5-6).
9. That Alleghany Corporation has sustained its burden of proof to show
that the financial condition of Alleghany and its subsidiaries would not
jeopardize the financial stability of St. Paul or any of the Insurers, or
prejudice the interest of their policyholders or the interests of any security
holders who are unaffiliated with Alleghany within the meaning of Minn. Stat.
60D.02, subd. 4(1)(iii).
10. That Alleghany Corporation has sustained its burden of proof to show
that it has no plans or proposals to liquidate any of the Insurers, sell their
assets or consolidate or merge any of them with any person, or to make any
other material change in their business, corporate structure or management
within the meaning of Minn. Stat. 60D.02, subd. 4(1)(v).
11 . That Alleghany Corporation has sustained its burden of proof to show
that its plans or proposals are not unfair and unreasonable to the
policyholders of the Insurers and that they are not "not in the public
interest" within the meaning of Minn. Stat. 60D.02, subd. 4(1)(v).
12. That Alleghany Corporation has sustained its burden of proof to show
that its competence, experience and integrity are not such that it would not
be in the interest of policyholders of the Insurers and of the public to
permit Alleghany to effect the proposed acquisition of control- within the
meaning of Minn. Stat. 60D.02, subd. 4(1)(vi).
13. That the Merrill Lynch analysis containing a scenario for a leveraged
buyout of St. Paul by Alleghany is a plan which was considered by Alleghany
and- which included proposals to sell St. Paul's assets and to merge it with
another person.
14. That if the Merrill Lynch analysis were implemented, the evidence in
this record preponderates in favor of a conclusion that it would be unfair and
unreasonable to policyholders.
15. That Alleghany Corporation's motion in limine regarding -a portion of
the testimony of witness Benjamin C. Neff is GRANTED.
16. That any of the Findings of Fact which are more properly termed
Conclusions are hereby adopted as such.
17. That the above Conclusions are arrived at for the reasons set out in
the Memorandum which follows and is incorporated into these Conclusions.
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Based upon the foregoing Conclusions, the Administrative Law Judge makes
the following:
RECOMMENDATION
IT IS RESPECTFULLY RECOMMENDED that the Commissioner of Commerce:
(1) Approve Alleghany's Corporation's application to acquire more than
ten percent of the common stock of The St. Paul Companies, Inc.
(2) Limit that approval to the acquisition of up to 20% of the common
stock of St. Paul by Alleghany.
Dated: December 29 1987 .
GEORGE A. BECK
Administrative Law Judge
NOTICE
Pursuant to Minn Stat. 1 4. 62 , subd 1 , the agency is required to serve
its final decision upon each party and the Administrative Law Judge by first
class mail.
Reported: Kirby A. Kennedy & Associates
219 Edina Executive Plaza
5200 Wilson Road
Minneapolis, MN 55424
(612) 922-1955
Transcript Prepared.
MEMORANDUM
This is a contested case proceeding required to be held under the
Minnesota Insurance Holding Company Act. The Act provides that the
Commissioner of Commerce must approve any acquisition of control of a domestic
insurer if the acquisition would result in a change in control. The
definitions section of the Act provides that control is presumed to exist if a
person owns 10% or more of the voting securities of the Insurer. In this
case, Alleghany Corporation owns 8.4% of the common stock of the St. Paul
Companies, Inc. Alleghany's Board of Directors has approved the acquisition
of up to 20% of the common stock of St. Paul . Accordingly, Alleghany has
filed the statement required under the Act seeking the Commissioner's approval
for its acquisition of more than 10% of the common stock of St. Paul . In
order to gain that approval. Alleghany must show that none of the six
conditions listed in Minn. Stat. 60D.02, subd. 4(1) exist. The parties have
stipulated that conditions (I), (II) (iv) do not exist.
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The Motion in Limine.
Alleghany seeks to exclude a portion of the testimony of Benjamin C. Neff,
the former Chairman of the Drafting Committee of the Model Insurance Holding
Company System Regulatory Act (Model Act). Minnesota statutes, chapter 60D.
is based on the Model Act. St. Paul's purpose in calling Mr. Neff as a
witness is to produce evidence about the intentions of the Committee that
drafted the Model Act in an effort to establish legislative intent. Alleghany
argues that any evidence concerning the intention of the drafters of the model
Act should be excluded from the record except for contemporaneous comments
memorialized in records of the Drafting Committee or the Legislature.
In order to address this Motion, two issues must be resolved: (1) whether
the language of Minn. Stat. 60D.02, subd. 4(1) is unclear, uncertain or
ambiguous so that reference may be made to the legislative history to
determine the intent of the statute, and (2) whether the non-contemporaneous
testimony of the Chairman of the Drafting Committee of the Model Act may be
considered to determine legislative intent.
In construing a statute, reference to an extrinsic fact is permitted only
where the language is ambiguous. Generally it is not permitted when the
language is plain and unambigous. At issue in this proceeding is whether
Alleghany has met its burden in demonstrating that the conditions set forth in
Minn. Stat. 60D.02, subd. 4(l)(iii), (v) and (vi), do not exist .
Ambiguities exist in these provisions. Subsection (v) is ambiguous in that it
is uncertain to what extent the Legislature intends the Commissioner to
consider what Alleghany may do in the future. In other words, are the "plans
or proposals" referenced in subsection (v) meant to be an existing detailed
present formulation of a program' of action; or couple it be a long-range goal
or aim which has not been finalized in a detailed fashion. Similarly, the
parties appear to differ as to the interpretation of "public interest" under
subsection (vi). For example, does the statute intend the "public interest"
to be broadly or narrowly construed. If a statute is not clear and free from
all ambiguity, the Minnesota Legislature has specifically stated that
contemporaneous legislative history may be examined. Minn. Stat.
645.16(7).
When the intent of the Legislature or the meaning of the statute cannot be
determined on the basis of its textual content, extrinsic source materials are
considered to be relevant in construing statutes. See, generally, Sutherland
Stat. Const., 48 (4th.Ed.). Extrinsic aids consist of background
information about the circumstances which led to the enactment of the statute,
events surrounding enactment, and developments pertinent to subsequent
operation. These facts comprise the history of a statute and are relevant to
its interpretation.
The history of events during the process of enactment, from its
introduction in the Legislature to its final validation, has generally been
the first extrinsic aid to which courts have turned in attempting to construe
an ambiguous act. Markham v. Cabell, 326 U.S. 404 (1945). However, in order
to be included as legislative history, the material in question should be
generally available and be relied upon by legislators during the consideration
and passage of the Act. Laue v. Production Credit Assoc. of Blooming Prairie,
-23-
390 N.W.2d 823 (Minn.Ct.App. 1986). Other extrinsic aids to statutory
construction include reports of standing committees, reports of special
committees, reports of conference committees, reports of commissions to revise
statutes, statements by committee hearings, views of draftsmen, and reports of
committees, commissions, and other sources not connected with the
Legislature. See. generally. Sutherlund. supra, i 48.04.
Minnesota courts have consistently followed the rule that statements which
are not based on recorded proceedings cannot be relied upon to determine
legislative intent. Those statements which are not based on recorded
proceedings are not subject to verification. For example, statements made by
legislators following the passage of an act have been found to be "not
contemporaneous", and thus could not be analyzed in order to ascertain and
give effect to legislative intent. Laue, supra; see also, Bouza v.
Gallagher, ___ N.W.2d No. C1-87-1147 (Minn.Ct.App. December 1, 1987);
Matter of State Farm Mutual Auto Insurance Company, 392 N.W.2d 558
(Minn. ct. App. 1986) County of Washington v. AFSCME, 262 N.W.2d 163 (Minn.
1978).
In Layne-Minnesota Co. v. Reqents of the University of Minnesota, 266
Minn. 284, 123 N.W.2d 371 (1963), the Minnesota Supreme Court relied upon the
records of the National Conference of Commissioners on Uniform Laws and the
writings of the Chairman of the subcommittee that undertook the drafting of
the Act. The Court stated: "The intent of the drafters of the act becomes the
legislative intent upon enactment." Here again, the records and writings must
be contemporaneous to the enactment. This means that the Administrative Law
Judge and the Commissioner could refer and take administrative notice of the
commentary, if any, of the Drafting Committee of the Model Act on which Minn.
Stat. ch. 60D is based. The Administrative Law Judge or Commissioner may also
take administrative notice and refer to any other appropriate, probative and
contemporaneous historical data found in legislative, executive, judicial, or
non-governmental sources, whether or not this data was offered at the
hearing. Accordingly, Mr. Neff's contribution to this record must be limited
to contemporaneous statements made as part of his service as Chairman of the
Drafting Committee and memorialized in transcripts or records of the
committee, if any exist. His subsequent and non-contemporaneous testimony at
this hearing is not admissible. Alleghany Corporation's Motion in Limine is
therefore granted consistent with the above.
Unfortunately, the commentary on the Model Act, at least as it relates to
the subject matter of this hearing, is sparse. The NAIC adopted its Model
Insurance Holding Company System Regulatory Act ("Model - Act") in 1969. 2
Proc. NAIC, pp. 735-738 (1969). What legislative history exists is contained
in the proceedings of the December 1968 meeting of the NAIC in Los Angeles.
The report of the Industry Advisory Committee to the NAIC subcommittee which
drafted the bill (chaired by Mr. Neff) noted that there are legitimate
advantages to holding company ownership of an insurer but stated that
effective state supervision of insurers in their relationship with holding
companies was necessary because of the public interest in the solvency of the
insurer and fair treatment of the policyholder. I Proc. NAIC, p. 178 (1968).
The "Regulatory Principles" developed by the Industry Advisory Committee
indicate that it was intended that a person making a bid for control of an
insurer should reveal their plans for the future management of the insurer or
any major change in its business. I Proc. NAIC, pp. 182-183 (1968). The
Analysis of the proposed Model Act presented by the Advisory Committee states
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that the Commissioner is authorized to disapprove -a takeover where the "poor
financial condition of the acquiring person could harm the insurer, its
policyholders, or remaining unaffiliated shareholders' or where "the acquiring
person plans major changes which are unfair or prejudicial to policyholders."
1 Proc. NAIC, p. 197 (1968).
One commentator has summarized the Model Act by statingi that it was aimed
at: (1) establishing the validity of the holding company mechanism; (2)
maintaining insurance company solvency; (3) regulating interaffiliate
transactions primarily through disclosure; (4) focusing particular attention
on dividends and distributions; and (5) placing supervision of insurers with
their domiciliary regulators. Marema, Holding Company Regulation After
Baldwin-United: Amendments to the NAIC Model Holding Company Act. 21 Tort &
Insurance L.J. 321 (1986).
Plans or Proposals.
Most of the argument and testimony in this proceeding has related to the
criteria set out at subdivision 4(1)(v), which requires an examination of
whether or not Alleghany has plans or proposals to liquidate St. Paul , to sell
its assets or consolidate or merge it or to make any other material change in
its business or corporate structure or management and that, if so, whether
those proposed changes are unfair and unreasonable to policyholders of St.
Paul or not in the public interest. Prior to the hearing, St. Paul maintained
that Alleghany intended a 100% takeover of St. Paul including a sale of its
assets and a possible merger and that such plans were unfair and unreasonable
to its policyholders and were not in the public interest. At the hearing, St.
Paul continued to maintain this assertion, but also sought to show that a 20%
interest in St. Paul by Alleghany constituted (apparently, a material change
in its business that was not in the public interest.-
Each of Alleghany's officers who testified at the hearing including its
chairman, its president, its vice-president and its general counsel testified
that Alleghany intends to purchase only up to 20% of the common stock of St.
Paul and that there are no further plans or proposals as specified in the
statute. A "plan" is commonly defined to be "a detailed scheme, program, or
method worked out beforehand for the accomplishment of an object" and a
proposal is defined as "a plan or scheme that is proposed". The American
Heritage Dictionary (2nd Coll. Ed. 1982). Alleghany's regulatory filings all
state its intent to acquire up to 20%. Alleghany emphasizes that the
statutory language talks about plans or proposals "which the acquiring party
has"; that is to say that the operative verb is in the present tense.
Accepting for the moment that the statute does not require some examination of
the acquiring party's future intent, St. Paul still contend!; that the evidence
in this record establishes that Alleghany's true present intent is either a
100% takeover or a creeping takeover of St. Paul, which may eventually result
in a complete takeover.
There are a number of facts in the record which make it plain that a
complete takeover of St. Paul by Alleghany was at least one option which was
considered during 1987. One of Alleghany's corporate objectives, along with
investment, is the acquisition of operating companies and its has been
following companies in the property and casualty insurance industry. As early
of July 1987, Alleghany had developed materials which assumed the purchase of
-25-
all of St. Paul stock based upon a sale of subsidiaries and the removal of
"excess" surplus from St. Paul. These materials were developed by or at the
direction of Messrs. Burns and Cuming and they were provided to Mr. Kirby in
July. The Merrill Lynch plan, which was sent to Alleghany in mid-August also
assumed a 100% acquisition. When it was provided to Mr. Kirby by Mr. Burns,
it was described as a very attractive plan even though II: involved a very
large amount of leverage. Mr. Kirby replied to Mr. Burns that he was "in
accord with most of the things you have said" in his memo. Perhaps the two
most important documents In this record are Mr. Cuming's memo of September 28,
1987, and the memo from Mr. Kirby to Mr. Burns dated October 8, 1987.
Mr. Cuming's memo (Finding of Fact No. 43) sets out a detailed listing of
steps which could be taken relative to the acquisition of St. Paul stock. It
does state at one point that Alleghany should push ahead to the 20% investment
level only if it intends to proceed with a sale of St. Paul assets and a
substantial increase in the yield of St. Paul's investment portfolio. These
facts indicate that Alleghany management was giving serious consideration to
the possibility of a 100% takeover.
However, other facts in the record are consistent with Alleghany's
announced limited investment intent. The record indicates that an LBO
analysis is a tool used for mere investment in a company as well as being a
possible blueprint for a takeover. Additionally, the documents in the record
also indicate that Alleghany was pursuing an investment opportunity as it
purchased St. Paul stock. Mr. Burns' August 6, 1987 letter characterizes St.
Paul as an outstanding investment opportunity. Mr. Curning's September 28 memo
contained possible strategies "should Alleghany's intentions change from
investment to merger" or "if Alleghany's investment intentions were to change
and if a 100% leverage buyout were acceptable to the target .". Finally,
the October 8, 1987 letter from Chief Executive Officer Fred Kirby to
Mr. Burns made it plain that he was not adopting amy of the options outlined
by Mr. Cuming beyond, at that time, a 10% Interest in St. Paul . While St.
Paul contends that this memo may have been created after Mr. Kirby sought
legal advice, it appears more likely than not that it represents Mr. Kirby's
actual intention at that point. It is plausible that he had not, as he
testified, thoroughly read the contents of the Merrill Lynch study when it was
sent to him. However, Mr. Cuming's September 28 memo laid out the full range
of options quite clearly and, therefore, prompted his response.
Another means of measuring Alleghany's present intent is to consider
whether its announced 20% investment in St. Paul is reasonable, and consistent
with its strategic plan. The 20% level of investment is significant in that
it would permit Alleghany to employ equity accounting. This would have
increased its earnings for the first nine months of 1987 from $8.28 per share
to $12.31 per share. (Finding of Fact No. 55). Additionally, Alleghany could
acquire 20% without incurring a significant debt. There seems to be a general
agreement in the record that the insurance industry as a whole is undervalued
in investment terms and that St. Paul in particular is an outstanding company
in the industry. Mr. Galban did indicate that, without going into detail,
that the 20% investment was not a particularly impressive deal especially when
compared with a complete takeover. He acknowledged, however, that there could
be a reasonable difference of opinion in this regard.
A 20% investment by Alleghany in St. Paul stock is consistent with
Alleghany's strategic objectives. Those objectives include ''seek
opportunities for profitable investments in minority interests in other
-26-
companies''. (Finding of Fact No. 25). It also includes an objective of
enhancing reported earnings through the use of equity accounting by taking
positions over 20%. (Finding of Fact No. 27). In short, while Alleghany does
seek to be primarily an operating company, it also seeks to take minority
positions in companies for investment purposes.
Another matter which can be considered an an indication of Alleghany's
present intent Is its offer to St. Paul to return to the Commissioner of
Commerce for approval of any investment in excess of 20% if St. Paul would
withdraw its objections in this proceeding, recommend Board approval of the
20% acquisition, and not adopt a poison pill provision, which would be
triggered at less than a 20% investment. (Ex. (p . St. Paul rejected the
proposal since it opposes the acquisition of stock by Alleghany above the 10%
level. Alleghany urges that if it had intended a creeping takeover of St.
Paul, it would rather obtain the Commissioner's approval at the 10% level
rather than at the 20% level.
Considering all of the foregoing, it is concluded that Alleghany's present
intent is, as it has stated, to limit its investment to 20% of the common
stock of St. Paul . The testimony of its executives in this regard was not
successfully impeached and it appears more likely than not that it presently
seeks only a limited investment in St. Paul. It is therefore concluded that
it has met its burden to show that it has no present plans to liquidate St.
Paul or to sell its assets or to merge it or to make any other material change
in its business or corporate structure or management. It appears that such
plans, were considered and rejected in the past. What Alleghany intends in the
future cannot be determined with any certainty based upon this record. What
the Act plainly requires is an examination of present plans ("plans or
proposals which the acquiring party has "). As is developed more fully below,
however, this interpretation lends weight to the concept of an approval
restricted to the plan proposed.
St. Paul also argued that a 20% level of investment and indeed even
Alleghany's current level of investment has damaged St. Paul, its
policyholders and the public interest. What St. Paul must show, however, in
the language of the statute is that there is a plan to make a material change
in its business or management which is unfair to policyholders or not in the
public interest. St. Paul's Chairman, Mr. Haugh, testified as to some of the
disruption caused due to speculation about Alleghany's ultimate intent.
(Finding of Fact No. 50). St. Paul's expert witnesses did express some
concern with an ownership at the 20% level. Mr. Galban was concerned that
people would be "waiting for the other shoe to drop". Mr. Neff testified that
in his opinion a 20% interest would be a controlling position in an insurance
company. The record is not particularly conclusive in that regard. It may be
possible for a 20% shareholder to elect someone to the Board of Directors or
to conduct a proxy fight, however the assistance of other shareholders would
be necessary.
Based upon this record, it cannot be concluded that a 20% investment by
Alleghany in St. Paul would mean a material (change in St. Paul's business
which would be unfair to policyholders or not in the public interest. Rather,
the record indicates there would be little chance of an extraction of surplus,
a manipulation of the investment portfolio, or a sale of assets which might
affect policyholders. Likewise, a 20% shareholder would not be able to
determine matters of public interest such as the location of the headquarters,
-27-
the construction of a home office building, or the level of charitable
giving. It appears that Alleghany's Financial condition at the 20% level
would not adversely affect St. Paul.
The Merrill Lynch Analysis.
A good deal of St. Paul's testimony and argument in this proceeding goes
towards its contention that Alleghany intends a 100% takeover which would be
unfair to policyholders due to the invasion of surplus by Alleghany and would
not be in the public interest because of certain effects which it might have
on the Twin Cities community. The public interest testimony taken In this
proceeding conclusively demonstrates that St. Paul is an Outstanding corporate
citizen. The record makes it plain that it would be difficult to overstate
the value of the contributions made by St. Paul , both in 'terms of charitable
contributions and in terms of the contribution made by its employees to the
community. In addition to providing financial support for a broad range of
community projects and organizations, it has established a careful process for
identifying groups which it will support. The record also indicates that
there is an advantage to insurance agents and their policyholders in having a
locally based company. Furthermore, takeovers sometimes result in a change of
headquarters for a company, and the loss of senior executives which then
results in an impact upon participation in the community. Companies tend to
to give more in the community where their headquarters is located.
Alleghany points out that even if it intended more than a 20% investment
in St. Paul, its track record includes allowing its operating companies a good
deal of autonomy. In the area of charitable contributions, it allows the
subsidiary to set its own policy. C.T.& T. contributes at the 2% of pretax
earnings level in Chicago. there is concern within the St. Paul community
that St. Paul will not be able to proceed with a proposed building in downtown
St. Paul . Alleghany points to its support for the building of the IDS Tower
in Minneapolis and a proposed office tower in Chicago for C.T.& T.
Additionally, Alleghany has never moved the headquarters of any company which
it has invested in or acquired. The headquarters of IDS remained in
Minneapolis, while Alleghany owned 100% of its stock.
The deep concern of those who testified as to matters of public interest
and their strong support for St. Paul constitutes a remarkable portion of this
record. Alleghany also offered some evidence of its "corporate citizenship"
as is summarized above. It is true, however, that much of this testimony was
necessarily speculative as to what might happen in the event of a takeover.
Accordingly, the record does not lend itself to a firm conclusion as to
whether the implementation of the LBO analysis would be in the public
interest. Such a determination would require the further detail which would
accompany the presentation of such an analysis as a current plan or proposal
under the statute.
However, as is indicated by Conclusion No. 13, the evidence in this record
does preponderate in favor of a conclusion that the Merrill Lynch LBO analysis
would be unfair to St. Paul's policyholders. St. Paul's expert testimony
demonstrates that the ratio assumptions in the scenario would not adequately
protect holders of commercial liability policies and especially medical
malpractice policyholders. (Findings of Fact Nos. 59 and 60). The lowering
of surplus to finance the transaction could mean an inadequate buffer if
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claims exceed reserves, a not uncommon occurrence in the case of medical
malpractice insurance, as is evidenced by the experience of both St. Paul and
Shelby. Alleghany's own witness, Richard Toft, stated that property-casualty
insurers should not be candidates for a leveraged buyout. It must be
recognized that this conclusion is arrived at in part because Alleghany did
not seek to show that the Merrill Lynch plan was fair or reasonable since it
states it is not pursuing that scenario. Nonetheless, it Is important to
characterize the state of the record in this regard since this alleged plan
was subject to much argument and is of great concern to St. Paul.
Financial Condition.
Minn. Stat. 60D.02, subd. 4(1)(iii) presents the question of whether the
financial condition of Alleghany might jeopardize the financial stability of
St. Paul or prejudice the interests of St. Paul's policyholders or the
interests of any securityholders of St. Paul who are unaffiliated with
Alleghany. The record contains a good deal of information concerning
Alleghany's financial condition. The total assets of Alleghany and I t s
subsidiaries as of September 30, 1987 were approximately $1.5 billion and the
common shareholders' equity exceeded $500 million. It had net earnings of
approximately $48 million for the first nine months of 1987, which amounted to
per share net earnings of $7.49. (Finding of Fact No. 4). It was undisputed
that Alleghany has done a very good job for its shareholders over the years.
Alleghany and its subsidiaries currently have available cash and marketable
securities amounting to over $200 million, as well as unused lines of credit
of approximately $180 million. (Finding of Fact No. 57). The record supports
the conclusion that insofar as its proposed purchase of 20% of the outstanding
common stock of St. Paul is concerned, Alleghany would be able to proceed with
this acquisition and maintain its comfortable financial position. Although it
would incur some debt, its long-term debt as a percentage of total capital
would increase only slightly. St. Paul's expert Mr. Galban, agreed that
Alleghany was in a financial position to acquire 20% of the St. Paul stock.
(Tr. 437).
The thrust of subdivision 4(1)(iii) seems to be to require a party seeking
to purchase more than 10% of the common stock of an insurer to show that its
financial condition will not jeopardize the financial stability of the insurer
or the interests of its policyholders. Should an acquiring party bring a weak
financial condition to an acquisition, it might well be unable to meet the
financial demands involved in supplementing the surplus of the insurer or
standing behind its obligations to the policyholders. The legislative history
indicates an intent to exclude attempts at control by companies in ''poor
financial condition." In this case, Alleghany has recently demonstrated its
ability and willingness to supplement the capital of its subsidiary, Shelby.
The record demonstrates that Alleghany has presently a generally sound
financial condition and, furthermore, if a 20% acquisition of St. Paul stock
is assumed, its financial condition at that point would not jeopardize the
stability of St. Paul or affect the interests of its policyholders or
securityholders.
St. Paul also contends, however, that this condition should also focus on
Alleghany's financial condition should it pursue a 100% takeover of St. Paul,
as St. Paul believes it intends to do. Alleghany maintains that it has no
intent to acquire 100% of St. Paul and that even if it did, a plan such as
-29-
that developed by Merrill Lynch would not be prudent. (Alleghany Brief,
p. 23). St. Paul suggests, however, that the amount of debt which Alleghany
would have to assume in order to complete the LBO takeover proposed by Merrill
Lynch would so weaken Alleghany that St. Paul's stability would be threatened,
in the event that it needed additional surplus or sought to raise funds in the
equity market. Mr. Neff offered the opinion that the debt created by the
Merrill Lynch scenario might lead to a lowering of reserves in order to
increase the surplus available to Alleghany.
It appears that subdivision 4(l)(iii) is intended to focus upon the
financial condition of the acquiring party both prior to i t s proposed
acquisition and after implementation of its proposed acquisition. However,
given the reasoning set out above under the plans or proposals discussion as
to Alleghany's present intent, it follows that Alleghany's financial condition
should be measured against its proposal to acquire only 20% of St. Paul. As
the prior discussion suggests, however, the LBO scenario would require
Alleghany to assume a large amount of debt which could jeopardize its ability
to assist St. Paul and could cause it to seek a removal of surplus from St.
Paul.
Competence Experience and Integrity.
Alleghany is also required to show that "the competence, experience and
integrity of those persons who would control the operation" of St. Paul "are
such that. it would not be an interest of policyholders" of St. Paul "and of
the public to permit the acquisition of control". St. Paul argues that
Alleghany's management has no experience in the operation of a property and
casualty insurer and, more particularly, has no experience in the area of
medical malpractice insurance, which comprises a significant amount of St.
Paul's business. St. Paul points out that Alleghany controls its present
subsidiaries to the extent of influencing its investment decisions and argues
that this is control of operations. St. Paul also suggests that the integrity
of Alleghany and its management are in doubt because, in St. Paul's view,
Alleghany has failed to present a concrete plan with respect to its investment
in St. Paul St. Paul suggests that Alleghany's stated present intent is a
contrivance intended to secure a blanket approval from the Commissioner.
The use of the word "operation" in this statutory criteria seems to
require a focus on the management of the insurer engaged in the day-to-day
operations of the company. This condition does not refer to the "acquiring
party" or "control persons" but, logically, requires a consideration of how
the insurer is to be operated as it affects the policyholders and the public.
Alleghany has stated that it believes St. Paul to be a well-run insurer
and does not intend to make any changes in its management if permitted to
acquire more than 10% of St. Paul stock. The record supports the conclusion
that Alleghany's past practice is not to change the management of successful
companies. Its subsidiaries operate on a quasi-autonomous basis. (Finding of
Fact No. 24) St. Paul's current management is, of course, acknowledged to be
thoroughly experienced in the business of medical malpractice and property and
casualty insurance and, if no change is made, the interests of policyholders
or the public would not be harmed.
If subdivision 4(1)(vi) is interpreted to apply to Alleghany management,
-30-
the record reflects that management consists of competent, experienced
businessmen *those integrity was not questioned at the hearing. The management
does have experience In the insurance business through its current ownership
of C.T.& T. and Shelby and its past ownership of IDS and its subsidiary, IDS
Life Insurance Company. As Alleghany points out, the management of C.T.& T.
and Shelby have lengthy experience in the insurance business and their
expertise is available to Alleghany management. The record reflects that
there are examples within the insurance industry of non-insurance holding
companies that own insurance companies run by competent, professional
managers. This level of experience would appear to satisfy the statutory
criteria given Alleghany's proposal to retain St. Paul's current management
and not to participate Itself in day-to-day operations.
The failure of Alleghany management to present any plan beyond its
proposal to purchase 20% of St. Paul's stock does not defeat an adequate
showing under this criteria. The record indicates that such a plan may make
economic sense for Alleghany and it may not be ready at this time to consider
any other possibility. The record does not compel a conclusion that this plan
is a mere contrivance.
The Limitation on Approval.
The Recommendation in this case includes a suggestion that the Order to be
Issued by the Commissioner limit the approval granted to Alleghany so that it
could purchase only up to 20% of the common stock of St. Paul . Chapter 60D
does not specifically grant the Commissioner the authority to impose such a
restriction. However, if the Act is construed as a whole, such authority is
implicit. The entire thrust of Minn. Stat. 60D.02 is to require disclosure
of the acquiring party's present proposal concerning the insurer. For
example, Minn. Stat. 60D.02, subd. 2(5) requires disclosure of the number of
shares which the acquiring party proposes to acquire. In this case, Alleghany
proposes to acquire only 20% of the shares of St. Paul. The Act obviously
places a premium upon the consideration of the most current information at the
hearing because it requires the applicant to file an amendment to I t s
statement within two business days after the applicant learns of the change.
In order for the Commissioner's approval authority to have any meaning, it
must be focused upon the proposal advanced by the acquiring party. That is
what the evidence in this record is apparently intended to address.
As St. Paul points out, an unrestricted approval would apparently permit
Alleghany to proceed with a 100% leveraged buyout of St. Paul in a month or
two. This is true despite the fact that the only evidence in this record
concerning an LBO proposal tends to show that it would not meet the statutory
criteria if it were Alleghany's current plan. the Legislature could not have
intended such a result. Such an outcome might result in the hearing focusing
on one proposal while a second is implemented shortly thereafter. It is only
logical that the approval be limited to the proposal advanced. The statute
requires disclosure of plans or proposals to sell assets or merge or change
the management (Minn. Stat. 60D.02, subd. 2(4)) as well as the discussion of
such plans at the hearing. Minn. Stat. 60D.02, subd. 4(l)(v). The intent.
is to require a public airing of such plans. If such plans develop after a
hearing on a 20% investment, they should be subject to another hearing.
If Alleghany wished to have approval for a 100% acquisition, it- could have
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sought it in this proceeding. It did not. It should be noted that
Alleghany's settlement offer (Ex. Q) would have required it to accept a 20%
limitation, although it would have obtained concessions from St. Paul. If
Alleghany's intent is to limit its investment to 20% of St. Paul's stock, such
a limitation from the Commissioner should be acceptable. It would not be
precluded from further purchases, but would have to have its proposed further
acquisition approved by the Commissioner. Such an interpretation of the
Commissioner's authority would prevent misuse of the approval process by an
acquiring party with a hidden agenda. Realistically, it must be recognized
that an acquiring party might well seek not to announce in advance its intent
to replace management or to sell assets matters which the statute demands be
examined. Such an interpretation is consistent with the apparent intent of
the Industry Advisory Committee to require a person making a bid for control
to "reveal their plans" for the future management of the company.
To the extent that such an interpretation of the Act is deemed to
constitute policymaking, the relevant case law establishes that an agency may.
in its discretion, establish new policies in the course of its adjudicatory
process. SEC v, Chenery Corp., 332 U.S. 194 (1947); Bunge Corp. v.
Commissioner of Revenue, 305 N.W.2d 779 (Minn. 1981); In re, Northwestern Bell
Tel Co. 371, N.W. 2d 563, 567-68 (Minn. App. 1985).
Constitutionality of the Statute.
Alleghany argues in its post-hearing memorandum that denial of its
application based upon the "public interest" language of subdivision 4(l)(v)
would render the statute unconstitutional since it would violate the Commerce
Clause of the Federal Constitution. Alleghany cites Pike v. Bruce Church,
Inc., 397 U.S. 137, 142 (1970); Edgar v. MITE Corp., 457 U.S. 624, 643 (1982);
and Philadelphia v. New Jersey, 437 U.S. 617, 624 (1978). Alleghany argues
that a consideration of whether its -acquisition should be approved based
simply upon the public interest is economic protectionism, which cannot
survive the constitutional test.
The question of the constitutionality of the statute has not been fully
developed or argued in this proceeding. While it is sometimes held that
administrative agencies may construe statutes mindful of constitutional
consequences and in light of relevant court decisions (Smith v. Willis, 415
So.2d 1331, 1336 (Fla. Dist. Ct. App. (1982); Jackson County Educational
Association v. Grass Lake Community, 95 Mich. App. 635, 641, 291 N.W.2d 53, 56
(1980); Petterssen v. Commissioner of Employment Services, 306 Minn. 542, 543,
236 N. W.2d 168, 169 (1975)), the general rule is that neither an
administrative law judge nor an agency head may declare -a statute
unconstitutional on its face since that power is vested in the judicial branch
of government. Starkweather v. Blair, 245 Minn. 371, 394-95, 71 N.W.2d 869,
884 (1955); Neeland v. Clearwater Memorial Hospital, 257 N.W.2d 366, 368
(Minn. 1977); Quam v. State, 391 N.W.2d 803, 809 (Minn. 1986).
Accordingly, after an initial showing of some basis for assuming that
Alleghany had a plan or proposal as outlined in (v), testimony was taken
relevant to the 'public interest" question so as to make a complete record
without considering the possible constitutional issue. The question of the
constitutionality of the statute, however, is left to the courts. This does
not appear to be a situation where an agency could interpret the statutory
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criteria mindful of relevant constitutional considerations or where the
statute could be interpreted to avoid unconstitutional results. If Alleghany
has a plan to sell the assets of St. Paul or to change its management and that
is not in the public Interest as reflected in the Twin Cities community, then
the statute is either unconstitutional on its face or not under the decisions
of the U.S. Supreme Court.
G.A.B.
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