exception was a company that had been clearly identified five years before insolvency (seven tests outside the usual range) and three years before insolvency (nine tests outside the usual range), but which fell outside the usual range on only three tests in its final year, when operations had come under close control by the Insurance Department. Exhibit I shows the percentage of companies becoming insolvent in the past five years and the percentage of all companies in 1972 that would have been given the priority classification under the four-of-eleven rule. *In 1972, 130 companies would have been given the priority classification. To put this figure 99-073 07814 The four-of-eleven rule proved to be the most effective and easiest to use of a variety of potential methods of selecting priority companies. Exhibit II compares the effectiveness of the four-test rule with that of threeand five-test rules for selecting priority companies. If all companies falling outside the usual range on three or more tests we re placed in the priority group, the percentage of companies so classified would almost double, but the percentage of actual insolvents identified would increase only slightly. On the other hand, if the priority group were to include only those companies falling outside the usual range on five or more tests, the percentage of soon-to-be insolvent companies rightly identified in the final year would drop from 96 percent to 88 percent. Another possible approach would be to select priority companies on the basis of results on a few key ratios. However, no combination of a few tests proved as effective as using all eleven tests. A final approach tested involved assigning from one to five points for each test outside the usual range, depending on the amount. This approach would be almost as effective as the chosen system, but would be more difficult to use and interpret. EARLY WARNING REPORTS Each state will be provided with three types of reports from the Early Warning System: 1. Summary Releases 2. Priority Company Data Sheets 3. Wrap-up Report. Summary Releases Periodically, as test results become available, each state will receive Summary Releases showing test results for those companies and groups of companies domiciled or licensed in that state. The first Summary Release for this state is included in this binder, under the tab "Summary Releases." Future releases should be inserted under this tab as they are received. In The purpose of these Summary Releases is to provide an overview of test results for all companies and to identify the priority companies. each Summary Release, priority companies are listed first, followed by nonpriority companies. Within each group, domestic and foreign companies are listed separately. Test results falling outside the usual range are indicated by an asterisk. Test results for companies that are not domiciled or licensed to do business in the state are not included in the Summary Releases, but will be available in the annual Wrap-up Report, discussed below. Priority Company Data Sheets The purpose of the Priority Company Data Sheet is to assist in further analysis of the financial condition of priority companies. For each priority company, the data sheet provides: 1. Test results for the past three years 2. A breakdown of four of the more complex ratios into their component parts 3. Key annual statement data for the current year. Suggestions regarding the interpretation of test results and for performing further analysis of the annual statement can be found in the second chapter of this report, beginning on page 7. The data sheet for each priority company will be received together with the Summary Release in which that company is included. Data sheets for the priority companies included in the first Summary Release will be found in this binder under the tab "Priority Company Data Sheets." Data sheets received in future releases can be inserted under that tab in alphabetical order for future reference. Wrap-up Report When the test results for substantially all of the companies have been calculated each year, a final Wrap-up Report will be issued. The purpose of this report is to provide a reference containing test results for all companies and groups or fleets. Companies will be listed in alphabetical order, with priority companies identified by a "P" before the company name. The states where each company is domiciled and licensed will also be indicated. Otherwise, the Wrap-up Report will be in the same format as the Summary Releases. II - THE AUDIT RATIOS This chapter describes the eleven audit ratios and provides suggestions for interpreting test results and determining the types of further analysis needed. The audit ratios fall into four groups: Overall tests Profitability tests Liquidity tests ¶ Reserve tests. Work sheets, which can be copied as needed for manual calculation of test results, will be found in Appendix A. These work sheets may also be useful in clarifying the details of how the ratios are calculated. For all tests except investment yield, results are rounded to the nearest percent and limited to the range from minus 99 percent to 999 percent. For investment yield (Test 5), results are rounded to the nearest tenth of one percent and limited to the range from zero to 9.9 percent. |