UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

SCHEDULE 14A

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HCC INSURANCE HOLDINGS, INC.

13403 Northwest Freeway

Houston, Texas 77040-6094

 

NOTICE OF ANNUAL MEETING OF SHAREHOLDERS

To Be Held May 10, 2007, at 9:00 a.m. Houston time

 

 

NOTICE IS HEREBY GIVEN that the Annual Meeting of Shareholders of HCC Insurance Holdings, Inc. will be held on Thursday, May 10, 2007, at 9:00 a.m. Houston time, at the St. Regis Hotel, 1919 Briar Oaks Lane, Houston TX 77027 for the following purposes:

 

1. To elect ten directors for a one-year term, each to serve until the Annual Meeting of Shareholders in 2008 and until his successor is duly elected and qualified.

 

2. To vote on the 2007 Incentive Compensation Plan.

 

3. To ratify the appointment of PricewaterhouseCoopers, LLP as auditors for 2007.

 

4. To vote on any shareholder proposals properly brought before the meeting.

 

5. To transact such other business as may properly come before the meeting or any postponement or adjournment thereof.

 

Our Board of Directors has fixed the close of business on April 2, 2007 as the record date for determining those shareholders who are entitled to notice of, and to vote at, the Annual Meeting of Shareholders. A list of such shareholders will be open to examination by any shareholder at the annual meeting and for a period of ten days prior to the date of the annual meeting during ordinary business hours at 13403 Northwest Freeway, Houston, Texas. A copy of the Annual Report of HCC Insurance Holdings, Inc. for the year ended December 31, 2006 is enclosed.

 

By Order of the Board of Directors,

 

James L. Simmons,

Secretary

 

Houston, Texas

April 13, 2007

 

 

 

HCC INSURANCE HOLDINGS, INC.

13403 Northwest Freeway

Houston, Texas 77040-6094

 

 

 

 

PROXY STATEMENT

 

 

 

 

ANNUAL MEETING OF SHAREHOLDERS

May 10, 2007

 

 

 

 

INFORMATION CONCERNING SOLICITATION AND VOTING

 

This Proxy Statement is first being mailed on or about April 13, 2007 to shareholders of HCC Insurance Holdings, Inc., which is sometimes referred to in this Proxy Statement as “HCC,” or as “we,” “us,” or “our,” in connection with the solicitation by our Board of Directors of proxies to be voted at the Annual Meeting of Shareholders to be held on Thursday, May 10, 2007, at 9:00 a.m. Houston time, at the St. Regis Hotel, 1919 Briar Oaks Lane, Houston TX 77027, or any postponement or adjournment thereof. A shareholder giving a proxy has the power to revoke the proxy at any time before it is exercised. Such right of revocation is not limited by or subject to compliance with any formal procedure.

 

This solicitation is made by HCC, and the cost of soliciting proxies will be borne by HCC. Copies of solicitation material may be furnished to brokers, custodians, nominees and other fiduciaries for forwarding to beneficial owners of shares of our common stock, and normal handling charges may be paid for such forwarding service. Solicitation of proxies may be made by mail, personal interview, telephone and facsimile by our officers and other management employees, who will receive no additional compensation for their services. We have retained Georgeson Shareholder Communications, Inc., 17 State Street, 10th Floor, New York, NY 10004, at an anticipated cost of $7,000 plus reimbursement of out-of-pocket expenses, to provide services in connection with our annual meeting, including the solicitation of proxies.

 

Only shareholders of record on our record date of April 2, 2007 will be entitled to vote at the annual meeting, and each share will have one vote. At the close of business on such record date, there were 112,077,629 shares of our common stock outstanding and entitled to vote at the annual meeting.

 

A majority of the outstanding shares of our common stock, represented in person or by proxy, will constitute a quorum at our annual meeting. The election of directors will be determined by a plurality of the votes cast if a quorum is present. The affirmative vote of the holders of a majority of the shares of our common stock present in person or represented by proxy at the annual meeting and entitled to vote on the matter is required for the approval of the 2007 Incentive Compensation Plan, the ratification of our independent registered public accounting firm and approval of any shareholder proposals properly brought before the meeting. Our Board of Directors does not anticipate calling for a vote on any matter other than those described herein.

 

In the absence of any direction in the proxy, it is intended that such shares will be voted FOR the election of directors, approval of the 2007 Incentive Compensation Plan and ratification of the appointment of PricewaterhouseCoopers LLP and AGAINST the shareholder proposal described in this proxy statement.

 

Abstentions and broker non-votes are each included in the determination of the number of shares present and voting for purposes of determining the presence of a quorum. However, each is tabulated separately and treated differently. For instance, a proxy submitted by a shareholder may indicate that all or a portion of the shares represented by such proxy are not being voted by such shareholder with respect to a particular matter. This may occur, for example, when the shareholder does not give instructions on a particular matter and a broker is not permitted to vote stock held in street name on such a matter in the absence of instructions from the beneficial owner of the stock. The shares subject to such a proxy that are not being voted with respect to a particular matter, which are referred to in this proxy statement as non-voted shares, will be treated as shares not present and entitled to vote on such matter, although such shares may be considered present and entitled to vote for other matters and will count for purposes of determining the presence of a quorum. Conversely, shares voted to abstain as to a particular matter will not be considered non-voted shares. The election of directors requires a plurality of the shares. Thus, abstentions and non-voted shares will not affect the outcome of the election of directors.

 

STOCK OWNERSHIP OF CERTAIN PRINCIPAL SHAREHOLDERS AND MANAGEMENT

 

The following table sets forth certain information regarding the beneficial ownership of our common stock as of the record date by (a) each person known by us to be the beneficial owner of more than 5% of our common stock, (b) each of our current and former executive officers named in the Summary Compensation Table whom we refer to as “Named Executive Officers”, (c) each of our directors and (d) all of our directors and Named Executive Officers as a group.

 

 

 

 

 

PROPOSAL NUMBER 1 — ELECTION OF DIRECTORS

 

Each director elected at our annual meeting will continue to serve until his successor is duly elected and qualified at the next annual meeting of shareholders in 2008 or until his earlier death, resignation or removal. Each of the nominees is currently a director of HCC. Our Board of Directors has determined that each of Messrs. Collins, Crane, Dickerson, Duer, Flagg, Fulkerson, and Roberts are “independent” directors, as that term is defined by the New York Stock Exchange and the SEC. Such directors are collectively referenced in this Proxy Statement as the “Independent Directors.” All of our outside, non-employee directors, referred to herein as “Non-management Directors,” are also Independent Directors.

 

Our management notes that each of the proposed nominees is standing for re-election to our Board of Directors and that each has served our shareholders’ interests well during his tenure as a director. Our management believes that HCC and its shareholders benefit from the wide variety of industry and professional experience that characterizes the Independent and Non-management Director members of our Board of Directors.

 

The following table presents information concerning persons nominated for election as directors of HCC, including current membership on committees of our Board of Directors, principal occupation or affiliations during the last five years, and certain directorships held. Although our Board of Directors does not contemplate that any of the nominees will be unable to serve, if such a situation arises prior to the annual meeting, the persons named in the enclosed form of Proxy will vote in accordance with their best judgment for a substitute nominee.

 

Information Regarding Nominees for Director

 

 

Our Board of Directors recommends that our shareholders vote “FOR” each of the proposed nominees. Your Proxy will be so voted unless you specify otherwise.

 

Information Regarding Executive Officers Who Are Not Nominees for Director

 

 

Executive Sessions of the Board of Directors

 

Non-management Directors and Independent Directors meet regularly in executive session prior to each regularly scheduled meeting of our Board of Directors. J. Robert Dickerson, as the designated “Lead Independent Director,” serves as the presiding director at each such executive session.

 

Communications with Directors

 

Our Board of Directors has adopted corporate governance guidelines that provide that our shareholders and other interested parties may communicate with one or more of our directors by mail in care of: James L. Simmons, Secretary, HCC Insurance Holdings, Inc., 13403 Northwest Freeway, Houston, Texas 77040-6094. Such communications should specify the intended recipient or recipients. All such communications, other than unsolicited commercial solicitations, will be forwarded to the appropriate director, or directors, for review.

 

Board Attendance at the Annual Meeting

 

Our policy is to have our directors attend our annual meeting. Last year all of our then-serving directors attended the annual meeting.

 

Code of Business Conduct and Ethics

 

We have adopted a Code of Business Conduct and Ethics that is applicable to all of our directors, officers and other employees. The Code is posted under the Corporate Governance portion of the Investor Relations section on our website at www.hcc.com and is available to any shareholder upon request. If there are any changes or waivers of the Code of Business Conduct and Ethics that apply to the Chief Executive Officer and Senior Financial Officers, we will disclose them on our website in the same location.

 

Director Independence

 

Our Board of Directors has established criteria for determining director “independence” as set forth in our Corporate Governance Guidelines. In particular, no director shall be deemed to be “independent” unless the Board, as a whole, shall have affirmatively determined that no material relationship exists between such director and HCC

other than the director’s service as a member of our Board of Directors. In addition, the following criteria apply to determine independence:

 

 

In addition, members of our Audit Committee must meet the following additional independence requirements:

 

 

In addition to the independence standards above, unless otherwise prohibited by NYSE rules, the Board has determined that any commercial or charitable relationship that is not required to be reported in a proxy statement will not be considered a material relationship that would impair a director’s independence.

 

In the course of the Board’s determination regarding the independence of each Non-management Director, it considered any transactions, relationships and arrangements between the director and our company as required by the independence requirements set forth above. In particular, the Board evaluated the following relationship between our company and a Non-management Director to determine independence. We have strategic investments in a limited liability company and a related entity for which Mr. Fulkerson served as a director and in management roles through 2004. The carrying value of these investments was $6.1 million at December 31, 2006. Income and realized gains (losses) from these investments totaled $0.3 million in 2006. The limited liability company’s sole investment was in an entity that serves as an investment manager for fixed income securities valued at $584.1 million at December 31, 2006. During 2006, we paid $0.4 million in investment management fees to this entity. Mr. Fulkerson serves as a director of the investment manager. His indirect ownership interest is less than one-quarter of one percent. In light of the ordinary course of business nature of these transactions, the size of the investments and

the lack of any current role at the related entity and the nature of Mr. Fulkerson’s current role at the investment manager, the Corporate Governance and Nominating Committee and the Board of Directors determined that these relationships do not impair Mr. Fulkerson’s independence and that Mr. Fulkerson is “independent” within the meaning of the rules of the NYSE.

 

Our Board of Directors has affirmatively determined that each of Messrs. Collins, Crane, Dickerson, Duer, Flagg, Fulkerson and Roberts meets the general criteria for independence set forth above and that all members of the Audit Committee meet the further requirements for independence set forth above.

 

Meetings and Committees of the Board of Directors

 

During 2006, our Board of Directors met eight times in person, four times telephonically and acted by written consent on various other occasions. Each person nominated to be a director attended, or participated via teleconference, in 75% or more of the meetings of the Board of Directors and the meetings of any committee on which he served. Our Board of Directors has standing Audit, Compensation, Investment and Finance, and Nominating and Corporate Governance Committees, each of which has a written charter. Copies of the Audit Committee, Compensation Committee, and Nominating and Corporate Governance Committee Charters, as well as our Corporate Governance Guidelines, are available under the Corporate Governance portion of the Investor Relations section of our website at www.hcc.com. In addition, a printed copy of any of these documents will be provided to any shareholder who requests it.

 

Audit Committee

 

Our Audit Committee consists of three Independent Directors. The members of the Audit Committee during 2006 and currently are Patrick B. Collins, Walter M. Duer and James C. Flagg (Chairman). The Audit Committee held six in-person meetings and two teleconference meetings in 2006. The Audit Committee’s primary purpose is to assist our Board of Directors’ oversight of (a) the integrity of our consolidated financial statements and disclosures; (b) our compliance with legal and regulatory requirements; (c) our independent registered public accounting firm’s qualifications and independence; and (d) the performance of our independent registered public accounting firm and our internal audit function. The Audit Committee has the sole authority to appoint and terminate our independent registered public accounting firm. Our Board of Directors has determined that each of Messrs. Collins, Duer and Flagg is an “audit committee financial expert” as described in Item 407(d)(5)(ii) of the SEC’s Regulation S-K. In addition, our Board of Directors has determined that each member of the Audit Committee is independent, as independence for audit committee members is defined in the listing standards of the NYSE. The Audit Committee is established in accordance with Section 3(a)(58)(A) of the Securities Exchange Act of 1934.

 

Compensation Committee

 

Our Compensation Committee consists of three Independent Directors. The members of the Compensation Committee at December 31, 2006 and currently are James R. Crane, J. Robert Dickerson (Chairman) and Michael A. F. Roberts. Mr. Dickerson replaced Walter J. Lack, who resigned from the Board of Directors, in November 2006. The Compensation Committee held five in-person and four telephonic meetings during 2006. The Compensation Committee has the responsibility for assuring that our senior executives are compensated in a manner consistent with the compensation philosophy and strategy of our Board of Directors and in compliance with the requirements of the regulatory bodies that oversee our operations. Generally, the Compensation Committee is charged with the authority to review and approve our compensation philosophy and our executive compensation programs, levels, plans and awards. The Compensation Committee also administers our incentive plans and our stock-based plans and reviews and approves general employee benefit plans on an as-needed basis. The Compensation Committee also has the authority to retain, approve fees and other terms for, and terminate any compensation consultant, outside counsel, accountant or other advisor hired to assist the Compensation Committee in the discharge of its responsibilities. In 2007, the Compensation Committee engaged Hewitt Associates to perform market analyses of executive compensation practices from which it presented data to the Compensation Committee as to the form and amount of executive compensation for our Chief Executive Officer. The Chief Executive Officer made recommendations to the Compensation Committee with respect to the form and amount of executive compensation. See the “Compensation Discussion and Analysis” below for information on 2006 executive officer compensation. Our

Board of Directors has determined that each member of the Compensation Committee is independent, as independence for compensation committee members is defined in the listing standards of the NYSE.

 

Compensation Committee Interlocks and Insider Participation

 

No member of the Compensation Committee is or has been an officer or employee of us or any of our subsidiaries. No member of the Compensation Committee had any relationship with us requiring disclosure in “Certain Relationships and Related Transactions,” below. No executive officer of ours served as a member of the Board of Directors or compensation committee (or other Board committee performing similar functions or, in the absence of any such committee, the entire Board of Directors) of another corporation, one of whose executive officers served on our Compensation Committee or as our director.

 

Investment and Finance Committee

 

Our Investment and Finance Committee consists of five directors. The members of the Investment and Finance Committee at December 31, 2006 and currently are Frank J. Bramanti, Edward H. Ellis, Jr., Allan W. Fulkerson (Chairman), John N. Molbeck, Jr. and Michael A. F. Roberts. The Investment and Finance Committee held four in-person and four telephonic meetings in 2006. The Investment and Finance Committee is charged with establishing investment policies for us and our subsidiaries and directing the investment of our funds, and those of our subsidiaries, in accordance with those policies. In this regard, the Investment and Finance Committee oversees the investment management activities of our third-party investment managers. In addition, the Investment and Finance Committee oversaw the investment management activities performed by Stephen L. Way, prior to his resignation, with respect to certain equity and strategic investments.

 

Nominating and Corporate Governance Committee

 

Our Nominating and Corporate Governance Committee consists of three Independent Directors. The members of the Nominating and Corporate Governance Committee at December 31, 2006 and currently are James R. Crane, J. Robert Dickerson and Michael A. F. Roberts (Chairman). Mr. Lack, formerly a member of the committee, resigned from the Board of Directors in November 2006. The Nominating and Corporate Governance Committee met four times in 2006. The Nominating and Corporate Governance Committee is charged with identifying and making recommendations to our Board of Directors of individuals suitable to become members of the Board of Directors and overseeing the administration of our various policies related to corporate governance matters. Our Board of Directors has determined that each member of the Nominating and Corporate Governance Committee is independent, as independence for nominating committee members is defined in the listing standards of the NYSE.

 

Director Nominations

 

The Nominating and Corporate Governance Committee has established certain criteria it considers as guidelines in considering nominations for the Board of Directors. The criteria include

 

 

The criteria are not exhaustive and the Nominating and Corporate Governance Committee and the Board of Directors may consider other qualifications and attributes which they believe are appropriate in evaluating the ability of an individual to serve as a member of the Board of Directors. The Nominating and Corporate Governance Committee’s goal is to assemble a Board of Directors that brings to us a variety of perspectives and skills derived from high quality business and professional experience. In order to ensure that the Board consists of members with a

variety of perspectives and skills, the Nominating and Corporate Governance Committee has not set any minimum qualifications and also considers candidates with appropriate non-business backgrounds. Other than ensuring that at least one member of the Board is a financial expert and a majority of the Board members meet all applicable independence requirements, the Nominating and Corporate Governance Committee does not have any specific skills that it believes are necessary for any individual director to possess. Instead, the Committee evaluates potential nominees based on the contribution such nominee’s background and skills could have upon the overall functioning of the Board.

 

The Board of Directors believes that, based on the Nominating and Corporate Governance Committee’s knowledge of the Company’s Corporate Governance Principles and the needs and qualifications of the Board at any given time, the Nominating and Corporate Governance Committee is best equipped to select nominees that will result in a well-qualified and well-rounded Board of Directors. In making its nominations, the Nominating and Corporate Governance Committee identifies nominees by first evaluating the current members of the Board willing to continue their service. Current members with qualifications and skills that are consistent with the Nominating and Corporate Governance Committee’s criteria for Board service are re-nominated. When identifying new candidates to serve on our Board, the Nominating and Corporate Governance Committee undertakes a process that will entail the solicitation of recommendations from any of our incumbent directors, our management or our shareholders. Following a review of the qualifications, experience and backgrounds of these candidates, the Nominating and Corporate Governance Committee will make its recommendation to the Board of Directors. In addition, the committee has the authority under its charter to retain a search firm for this purpose; however, no such firm was used in 2006.

 

Shareholder Nominations

 

The Charter of the Nominating and Corporate Governance Committee provides that the committee will consider proposals for nominees for director from shareholders. Shareholder nominations for director should be made in writing to James L. Simmons, Secretary, HCC Insurance Holdings, Inc., 13403 Northwest Freeway, Houston, Texas 77040-6094. The Nominating and Corporate Governance Committee will consider candidates nominated by shareholders based on the criteria described above. Although the Nominating and Corporate Governance Committee will consider candidates to the Board, the Board may determine not to nominate those candidates.

 

In order to nominate a director at an annual meeting of shareholders, we require that a shareholder follow the procedures set forth in this section. In order to recommend a nominee for a director position, a shareholder must be a shareholder of record at the time such shareholder gives notice of recommendation and must be entitled to vote for the election of directors at the meeting at which such nominee will be considered. Shareholder recommendations must be made pursuant to written notice delivered to our Secretary at the principal executive offices of HCC

 

 

In the event that the date of the annual meeting is changed by more than 30 days from the anniversary date of the preceding year’s annual meeting, the shareholder notice described above will be deemed timely if it is received not later than the close of business on the later of the 90th day prior to such annual meeting or the tenth day following the day on which public announcement of the date of such meeting is first made.

 

The shareholder notice must set forth the following:

 

 

 

In addition to complying with the foregoing procedures, any shareholder nominating a director must also comply with all applicable requirements of the Exchange Act, including the rules and regulations under such Act.

 

Special Committee

 

In August 2006, our Board of Directors formed a Special Committee of independent directors to undertake an investigation of our past stock option granting practices for the period 1995 through 2005. The Special Committee was composed of three independent directors. The members were Patrick B. Collins, Walter M. Duer and James C. Flagg (Chairman). The Special Committee held thirty-eight in person and telephonic meetings between August 24, 2006 and December 22, 2006 when it concluded its duties.

 

Certain Relationships and Related Transactions

 

We have strategic investments in a limited liability company and a related entity for which Mr. Fulkerson served as a director and in management roles through 2004. The carrying value of these investments was $6.1 million at December 31, 2006. Income and realized gains (losses) from these investments totaled $0.3 million in 2006. The limited liability company’s sole investment was in an entity that serves as the investment manager for fixed income securities valued at $584.1 million at December 31, 2006. During 2006, we paid $0.4 million in investment management fees to this entity. Mr. Fulkerson serves as a director of the investment manager. His indirect ownership interest is less than one-quarter of one percent.

 

Commencing June 1994, we entered into an arrangement with an entity owned by Stephen L. Way, under the terms of which we lease equipment for providing transportation services to our employees, directors and clients. However, we provide our own employees to operate the equipment and pay all related operating expenses. During 2006, we paid $1.2 million to this entity. In addition, effective November 17, 2006, we entered into revised agreements governing this arrangement, including a revised Aircraft Dry Lease governing our lease of the aircraft owned by Mr. Way’s company, a Pilot Service Agreement with the entity owned by Mr. Way under which pilots employed by us are contracted out to operate aircraft owned by Mr. Way’s company, and a Hangar Space Lease and Aviation Services Agreement with Mr. Way’s company under which his company leases space in our hangar and we agree to provide certain maintenance and other services on his company’s aircraft. Under the terms of the Dry Lease, we pay an hourly lease rate based on hours flown. Under the Pilot Service Agreement, we receive a fee based on hours flown. Under the Hangar Space Lease and Aviation Services Agreement, we receive rent payments and service fees.

 

L. Byron Way is the son of Stephen L. Way. He serves HCC in the capacity of Vice President, for which he received total compensation of $500,039 from all sources of compensation, including the amortized cost of outstanding options, in 2006. He provides services to us under the terms of an employment agreement effective January 1, 2006, which has a three-year term, with an evergreen provision that adds an additional year to the term as each year expires. He received a salary of $150,000 in 2006, which increased to $165,000 in 2007 and is to increase to $180,000 in 2008. He is also entitled to a discretionary bonus and a formula bonus, which is based on the number of acquisitions and strategic investments completed by us during a given year, related to his responsibilities within our mergers and acquisitions department. The agreement also provides for certain perquisites, including club dues, an automobile allowance, first class travel, estate planning, and group medical benefits for a certain period after the termination of his employment with us. In the event his employment is terminated as a result of his death or disability, his stock options will vest and remain exercisable for the lesser of a one-year period or the term of the option, and he or, in the event of his death, his estate will receive his contracted-for compensation through the remaining term of the employment agreement, including any bonuses accrued during the year of his disability or death. In the event his employment is terminated by HCC other than for “Cause” or by Byron Way unless for “Good

Reason,” in each such case as such terms are defined in the agreement, he will be entitled to receive all of the sums otherwise due to him under the agreement, benefits for a period of six months and his options will vest and remain exercisable for the lesser of thirty days or the remaining term of the option.

 

There are no family relationships among the executive officers and directors, and there are no arrangements or understandings between any Independent or Non-management Director or any other person pursuant to which that Independent or Non-management Director was selected as a director.

 

Board Ratification of Related Transactions

 

Not less than annually, our Board of Directors undertakes the review and approval of all related-party party transactions. This policy covers any transaction valued at greater than $120,000 between us or our subsidiaries and any of our executive officers, directors, nominees for director, holders of greater than five percent of our shares, and any of such parties’ immediate family members. Under our policy, covered transactions are to be reviewed by the disinterested members of our Board of Directors, who shall satisfy themselves that (i) all material facts with respect to the transaction have been disclosed to the Board of Directors for its consideration and (ii) that the transaction is fair to HCC. As a result of this review, approval of a transaction may be denied if the transaction is not fair to HCC or is otherwise a violation of our Code of Business Conduct and Ethics. Our current intention is that all future transactions will be approved by our Board prior to consummation.

 

Legal Proceedings

 

The following lawsuits related to the outcome of our stock option investigation have been recently filed:

 

Civil Action No. 07-456; Bacas, derivatively on behalf of HCC Insurance Holdings, Inc. v. Way et al.; In the United States District Court for the Southern District of Texas, Houston Division; and Civil Action No. 07-709, Halgren, derivatively on behalf of HCC Insurance Holdings, Inc. v. Way et al; In the United States District Court for the Southern District of Texas, Houston Division (we refer to these actions collectively as the “Bacas suits”). The Bacas action was filed on February 1, 2007, and the Halgren action was filed on February 28, 2007. We are named as a nominal defendant in these putative derivative actions. These actions purport to assert claims on behalf of us against several current and former officers and directors alleging improper manipulation of grant dates for option grants from 1995 through 2006. The complaints purport to allege causes of action for accounting, breach of fiduciary duty, aiding and abetting breach of fiduciary duty, abuse of control, gross mismanagement, imposition of a constructive fraud, corporate waste, unjust enrichment and rescission, as well as a claim under Section 14(a) of the Securities Exchange Act. Plaintiffs seek on our behalf, damages, punitive damages, disgorgement, restitution, rescission, accounting, imposition of a constructive trust and changes in our corporate governance and internal controls. Plaintiffs also seek to recover their attorneys’ fees and costs from us for prosecuting the derivative claims. These actions are now consolidated into a single action. We have not yet responded to the complaints.

 

Civil Action No. 07-0801; Bristol County Retirement System, individually and on behalf of all others similarly situated v. HCC Insurance Holdings, Inc. et al.; In the United States District Court for the Southern District of Texas, Houston Division (we refer to this action as the “Bristol County action”). The Bristol County action was filed on March 8, 2007. We are named as a defendant in this putative class action along with certain current and former officers and directors. Plaintiff seeks to represent a class of persons who purchased or otherwise acquired our securities between May 3, 2005 and November 17, 2006, inclusive. The action purports to assert claims arising out of improper manipulation of option grant dates, alleging violation of Sections 20(a) and 10(b) of the Securities Exchange Act, as well as Rule 10b-5 promulgated thereunder. Plaintiff also purports to assert a claim for violation of Section 14(a) of the Securities Exchange Act and Rules 14a-1 and 14a-9 promulgated thereunder. Plaintiff seeks recovery of compensatory damages for the putative class and costs and expenses. We have not yet responded to the complaint.

 

Civil Action No. 07-1084; Intermountain Ironworkers Trust Fund, derivatively and on behalf of HCC Insurance Holdings, Inc. v. Way et al; In the United States District Court for the Southern District of Texas, Houston Division. The action was filed on March 30, 2007. We are named as a nominal defendant in this putative derivative action. The complaint asserts similar factual allegations and legal claims as asserted in the Bacas action and seeks similar relief and remedies as sought in that action. We have not been served with the complaint.

In each of these lawsuits, current and former officers and directors of ours have requested that they be indemnified for any losses and that their legal fees be advanced. Pursuant to our bylaws, our charter, applicable law and certain agreements entered into with some of the defendants, we are currently advancing legal fees.

 

Section 16(a) Beneficial Ownership Reporting Compliance

 

Section 16(a) of the Exchange Act requires our directors and executive officers, as defined under the Exchange Act, and persons who own more than 10% of a registered class of our equity securities to file initial reports of ownership and changes in ownership with the SEC. Such executive officers, directors and shareholders are required by SEC regulations to furnish us with copies of all Section 16(a) forms they file. Mr. Ellis’ transfer of 375 shares to his wife on October 25, 2006 was not timely filed on Form 4, as required under Section 16(a), but such grant has been subsequently reported on Form 4. Otherwise, based solely upon a review of the copies of such forms furnished to us and written representations from our directors and executive officers, all persons subject to the reporting requirements of Section 16(a) filed all required reports on a timely basis in 2006.

 

EXECUTIVE COMPENSATION

 

Compensation Discussion and Analysis

 

This Compensation Discussion and Analysis explains the philosophy underlying our compensation strategy and the fundamental elements of compensation paid to our Chief Executive Officer, Chief Financial Officer, and other individuals, whom we refer to as “Named Executive Officers” or “executive officers,” included in the Summary Compensation Table for the 2006 calendar year. Specifically, this Compensation Discussion and Analysis addresses the following:

 

 

Objectives of Our Compensation Programs

 

Our business plan is shaped by our underlying business philosophy, which is to maximize underwriting profit and net earnings while preserving and achieving long-term growth of shareholders’ equity. As a result, our primary objective is to increase net earnings rather than market share or gross written premium.

 

In our ongoing operations, we will continue to:

 

 

The Compensation Committee strives to achieve the foregoing business strategy by designing our compensation programs to:

 

 

What Our Compensation Programs Are Designed to Reward

 

Our compensation programs are designed to reward executive officers who are capable of leading us in achieving our business strategy on both a short-term and long-term basis. In addition, we reward qualities that we believe help achieve our strategy such as teamwork, individual performance in light of general economic and industry specific conditions, individual performance that supports our core values, resourcefulness, the ability to manage our business, level of job responsibility and tenure with our company.

Elements of Compensation Provided to the Named Executive Officers

 

We have determined that our and our shareholders’ interests are best served by entering into multi-year employment agreements with the Named Executive Officers. Such agreements are the result of arms’ length negotiations between the Named Executive Officer and the Compensation Committee. We believe that such multi-year employment arrangements benefit us and our shareholders by permitting us to attract and retain executive officers with demonstrated leadership abilities and to secure the services of such executive officers over an extended period of time. In addition, multi-year employment agreements provide executive officers with security based on the knowledge of how they will be compensated over the term of the agreement. A summary of the principal terms of these employment agreements is included below under the caption “Employment Agreements and Potential Payments Upon Termination or Change in Control.”

 

The elements of compensation we used during 2006 to compensate the Named Executive Officers included:

 

 

 

How We Determine Each Element of Compensation and Why We Pay Each Element

 

Below is a discussion of each element of compensation listed above, including why we elect to pay each element of compensation and how each element of compensation was determined by the Compensation Committee.

 

Base Salary.  The purpose of base salary is to reflect the role and responsibility of the executive officer over time. Base salary, although not directly connected to performance, is essential to compete for talent and is an important component of total compensation for the Named Executive Officers. It is essential to our goal of recruiting and retaining executive officers with proven abilities. Base salary for each Named Executive Officer was established in the executive officer’s employment agreement upon the date of hire or the date of renewal of an existing employment agreement. Base salary was initially determined for each executive officer based on the abilities, qualifications, accomplishments, and prior work experience of the executive officer. Base salary in a renewal agreement was determined based on the same criteria, but also on how the executive officer performed under his or her previously existing agreement.

 

Upward adjustments of base salary are generally specified in the executive officers’ employment agreement. In addition, upward adjustments in base salary may be considered on a discretionary basis annually and take into account internal equity and consistency and the executive officer’s individual performance over the prior year, changes in the executive officer’s responsibilities, and the executive officer’s future potential, as well as data available from objective, professionally-conducted market studies obtained from a range of industry and general market sources.

 

In 2006, Mr. Ellis agreed to amend his employment agreement, which was set to expire December 31, 2006, to extend the term through December 31, 2008, and Mr. Cook entered into a new employment agreement to replace his former agreement with us. Mr. Bramanti and Mr. Molbeck were both brought back as full time employees during 2006. Mr. Molbeck’s employment agreement was negotiated during 2006. Mr. Bramanti’s was negotiated during 2007. In 2006, Mr. Way’s employment agreement was terminated and he entered into a consulting agreement with us. There were no changes to Mr. Schell’s employment agreement during 2006. See “Employment Agreements and Potential Payments Upon Termination or Change in Control,” below, for further discussion of the terms of the employment contracts of our Named Executive Officers.

Base salary for 2006 and increases, if any, for 2007 were set in accordance with the terms of the respective employment agreements of our Named Executive Officers. Our Board did not award any discretionary salary increases. Mr. Bramanti’s base salary for that portion of 2006 from November 17, 2006 through December 31, 2006 was $250,000. For 2007, Mr. Bramanti’s annual salary is $1,950,000, consisting of $950,000 of current salary and $1,000,000 of deferred compensation. Mr. Molbeck’s base salary for that portion of 2006 from March 23, 2006 through December 31, 2006 consisted of $838,103, inclusive of $255,411 in deferred compensation. On an annualized basis, his 2006 salary was equal to his 2007 base salary of $1,100,000, inclusive of $350,000 of deferred compensation. Mr. Ellis’ base salary for 2006 was $425,000, increasing to $450,000 for 2007. Mr. Cook’s annual salary for 2006 was $770,709, consisting of $685,510 in base salary and $85,199 that Mr. Cook elected to receive as salary in lieu of a contribution to his defined contribution retirement plan. For 2007, Mr. Cook’s annual salary will be $848,074, consisting of $734,475 in base salary and $113,599 in lieu of the plan contribution. Mr. Schell’s base salary increased to $550,000 on his anniversary date with us in June 2006 and will remain at that level through the expiration of his current employment agreement in June 2007. We intend to negotiate an extension of Mr. Schell’s employment contract.

 

Annual Incentives.  Annual incentives are designed to focus the executive officers on our business objectives for a particular year and to reward executive officers upon achievement of those objectives. We believe annual incentives are an important element of the Named Executive Officers’ compensation because such incentives provide an incentive and motivation to our Named Executive Officers to lead us in achieving success. The Named Executive Officers help drive our performance so that business objectives will be achieved each year. Annual incentives for our Named Executive Officers are often defined in each executive officer’s employment agreement. Messrs. Molbeck and Schell have a pre-determined formula bonus defined in their respective employment agreements (as described under the caption “Employment Agreements and Potential Payments Upon Termination or Change in Control,” below), and each was also eligible for additional annual incentive compensation in 2006 at the discretion of the CEO and the Compensation Committee. Mr. Bramanti’s annual incentive compensation for 2006 was subject to the discretion of the Compensation Committee. Mr. Ellis’ and Mr. Cook’s annual incentive compensation for 2006 was subject to the discretion of the CEO and the Compensation Committee.

 

For 2006, we based the discretionary amount of incentive compensation on the following factors:

 

 

 

 

Taking these factors into account, the Compensation Committee approved payments of incentive compensation as follows: Mr. Ellis — $425,000; Mr. Molbeck — $400,000; Mr. Cook — $391,720; and Mr. Schell — $250,000. Mr. Bramanti received incentive compensation of $250,000, primarily in consideration of his coming out of retirement and assuming the Chief Executive Officer’s responsibility when Mr. Way resigned. For each of Messrs. Molbeck and Schell, $250,000 and $100,000, respectively, of their incentive compensation for 2006 was

paid based on formulae contained in their respective employment contracts. In 2006, Mr. Stephen L. Way resigned as our Chief Executive Officer and did not receive any bonus for 2006.

 

In 2007, if shareholders approve our 2007 Incentive Compensation Plan, we anticipate paying some of our Named Executive Officers a cash bonus under this plan based upon a formula based on our consolidated pre-tax income as defined in the plan. The formula for the performance target will be set by the Compensation Committee at the beginning of the year. We believe that these cash awards will appropriately balance the cash and equity components of long-term compensation opportunities and are an excellent way to reward the attainment of our performance objectives. We expect these bonuses to reflect (and to be proportionate to) our annual financial results of the company.

 

Long-Term Equity Awards.  We have historically granted stock options, as we believe this element of compensation aligns the employees’ and the executive officers’ interests with the long-term interests of shareholders. We believe that stock options provide incentive for increased shareholder value and serve as a good retention vehicle for the Named Executive Officers.

 

In 2006, we granted options to Mr. Molbeck, Mr. Cook and Mr. Ellis in the respective amounts of 200,000, 100,000 and 50,000 shares in connection with their execution of new or amended employment agreements with us. Otherwise, we did not grant any stock options to our Named Executive Officers during 2006; however, Messrs, Bramanti and Molbeck were granted 12,500 options each in respect of their service as non-employee directors prior to their rejoining us as employees in 2006. In 2007, we granted options to Mr. Bramanti to acquire 550,000 shares of our common stock.

 

All of the Named Executive Officers had stock options outstanding during 2006 that vest based on the executive officers’ continued employment. Upon hire of a Named Executive Officer, our practice is to enter into an employment agreement with the executive officer. We have granted each executive officer an equity award in connection with his entering a new employment agreement or amending a prior employment agreement with us. Additional grants of equity awards, in particular stock options, may be made at one of our regularly scheduled Compensation Committee meetings during the year. The Compensation Committee intends to set the exercise price of future stock option grants at the closing price of our stock on the date of the Compensation Committee meeting at which such options are granted. We do not coordinate the grant of awards with the release of earnings for any purpose, including the purpose of affecting the value of executive compensation.

 

Non-qualified Deferred Compensation.  There is not currently a non-qualified deferred compensation plan that is available to the Named Executive Officers. However, under Mr. Molbeck’s employment agreement, he is entitled to a deferred compensation arrangement as explained in more detail under the caption “Employment Agreements and Potential Payments Upon Termination or Change in Control.” This arrangement provides that Mr. Molbeck will be retained as a consultant for a period of six years and nine months after his termination. He is entitled to this consulting arrangement in the event that he is terminated for any reason. He will also receive an additional consulting fee of $350,000, paid ratably over the consulting period, for each year that he remains employed by us under his current employment agreement. Many of the terms of this arrangement had been agreed under the terms of Mr. Molbeck’s previous employment arrangement. Furthermore, we believe this arrangement will provide a significant benefit to us because Mr. Molbeck possesses knowledge regarding the insurance industry and our company. Mr. Bramanti will be entitled to $1,000,000 in deferred compensation per year under the terms of his new employment agreement with us.

 

Perquisites.  We believe perquisites can be an important element of total compensation because they help us to recruit and retain qualified executive officers. Many of the Named Executive Officers were provided perquisites by their previous employers. Therefore, we offered perquisites in order to attract the Named Executive Officers. In general, the perquisites that an executive officer is eligible to receive is contained in such executive’s employment agreement. While in the past perquisites might have represented a material component of compensation for some of our Named Executive Officers, our current policy is that the costs of these benefits will constitute only a small percentage of each Named Executive Officer’s total compensation. Perquisites may include:

 

 

 

In addition, in 2006, we provided company employees for personal use by our former Chief Executive Officer. These benefits are reflected in the All Other Compensation Column of the Summary Compensation Table, below.

 

Employee Benefits.  Our Named Executive Officers have the opportunity to participate in a number of benefit programs that are generally available to all of our U.S. employees. The Named Executive Officers are eligible to participate in company-sponsored benefit programs on the same terms and conditions as those generally provided to other salaried employees. These benefits include:

 

Health and Insurance Plans.  Basic health benefits, dental benefits, disability protection, life insurance, and similar programs are provided to make certain that access to healthcare and income protection is available to our employees and the employee’s family members. The cost of company-sponsored benefit programs are negotiated by us with the providers of such benefits and the Named Executive Officers contribute to the cost of the benefits.

 

In addition, under the terms of their respective employment agreements each of Messrs. Ellis, Bramanti and Molbeck are entitled to extended medical benefits under our medical plan after termination of their respective employment with us. In the case of Mr. Ellis, such benefits are to extend until he becomes eligible for Medicare. For each of Messrs Bramanti and Molbeck, such benefits are at no cost and extend until the later to occur of his death, the death of his spouse (if he is married on the date of his death) or the date all of his children have completed college. We agreed to provide such extended medical benefits to Mr. Molbeck and Mr. Bramanti during each of their previous employment with us.

 

Retirement Benefits.  The Named Executive Officers, except for Mr. Cook, are eligible to participate in our 401(k) Plan, which is a company-wide, tax-qualified retirement plan. The intent of this plan is to provide all employees with a tax-advantaged savings opportunity for retirement. We sponsor this plan to help employees at all levels save and accumulate assets for use during their retirement. As required, eligible pay under this plan is capped at Internal Revenue Code annual limits.

 

Under Mr. Cook’s employment agreement, we are obligated to make a $113,599 annual contribution to the HCC Service Company Limited Retirement and Death Benefit Scheme unless Mr. Cook elects to receive this benefit in base salary. Mr. Cook receives this retirement benefit because he is located in the United Kingdom and is not eligible to participate in our 401(k) Plan.

 

How We Determine Executive Officer Compensation

 

Role of the Compensation Committee.  The Compensation Committee is composed of independent, outside members of the Board of Directors in accordance with NYSE rules, current SEC regulations, and Section 162(m) of the Internal Revenue Code and is responsible for establishing, reviewing, approving, and monitoring the compensation paid to the Named Executive Officers.

 

Under our current policy, the Compensation Committee negotiates the terms of each Named Executive Officer’s employment agreement and any necessary modifications that are needed over time.

 

The Chief Executive Officer recommends to the Compensation Committee annual pay increases, discretionary annual incentives, and long-term incentive grants for the other Named Executive Officers. The Compensation Committee then evaluates each executive officer, determines the CEO’s annual pay increase, sets performance criteria for discretionary annual incentive grants, and makes long-term incentive grants, if any. As part of its evaluation process, the Compensation Committee considers our performance, internal equity and consistency, the executive officer’s individual performance over the prior year, changes in responsibilities, and future potential as well as data available from objective, professionally-conducted market studies obtained from a range of industry and general market sources.

In addition, the Compensation Committee views the various components of compensation as related but distinct. As a result, the Compensation Committee has not adopted any policy or guidelines for allocating compensation between long-term and currently paid out compensation, between cash and non-cash compensation, or among different forms of non-cash compensation.

 

Benchmarking.  The Compensation Committee did not use benchmarking to set executive compensation in 2006.

 

Compensation Consultant.  The Compensation Committee has the sole authority, to the extent deemed necessary and appropriate, to retain and terminate any compensation consultants, outside counsel or other advisors, including having the sole authority to approve the firm’s or advisor’s fees and other retention. In 2007, the Compensation Committee engaged Hewitt Associates to perform market analyses of executive compensation practices from which it presented data to the Compensation Committee as to the form and amount of executive compensation for our Chief Executive Officer. Hewitt Associates is independent of us, reports directly to the Compensation Committee and has no other business relationship with us other than assisting the Compensation Committee with its executive compensation practices.

 

Other Important Compensation Policies Affecting the Named Executive Officers

 

Financial Restatement.  The Compensation Committee does not have a policy in place governing retroactive modifications to any cash or equity based incentive compensation paid to the Named Executive Officers where the payment of such compensation was predicated upon the achievement of specified financial results that were subsequently the subject of a restatement. However, if the Compensation Committee deems it appropriate, it will seek to recoup amounts, to the extent permitted by governing law, determined pursuant to a financial restatement to have been inappropriately paid to an executive officer.

 

Stock Ownership Requirements.  The Compensation Committee does not maintain a policy relating to stock ownership guidelines or requirements for its Named Executive Officers. The Compensation Committee is reviewing whether such a policy is appropriate for its Named Executive Officers.

 

Trading in Our Stock Derivatives.  Our Insider Trading Policy prohibits executive officers from purchasing or selling options on our common stock, engaging in short sales with respect to our common stock, or trading in puts, calls, straddles, equity swaps or other derivative securities that are directly linked to our common stock.

 

Tax Deductibility of the Named Executive Officers’ Incentive and Equity Compensation. Section 162(m) of the Internal Revenue Code generally disallows a tax deduction to public companies for compensation over $1.0 million paid to a corporation’s chief executive officer and the four other most highly compensated executive officers.

 

Section 162(m) further provides that qualifying performance-based compensation will not be subject to the deduction limit if certain requirements are met. We do not currently structure our discretionary annual incentive compensation for executive officers to comply with Section 162(m); however, we intend to do so going forward, pending shareholder approval of the 2007 Incentive Compensation Plan. Although we intend to structure grants under future stock option plans and cash incentive plans in a manner that complies with this section, we may forego all or some portion of a deduction to conform to our compensation goals. Our current annual incentives do not satisfy Section 162(m)’s requirement that they be “payable solely on account of the attainment of one or more performance goals.” If our shareholders approve the 2007 Incentive Compensation Plan, incentives under such plan would meet such requirement.

 

In connection with the compensation of our executive officers, the Compensation Committee is aware of Section 162(m) as it relates to deductibility of qualifying compensation paid to executive officers. If the 2007 Incentive Compensation Plan is not approved by our shareholders, the Compensation Committee believes that compensation to be paid in 2007 may exceed the deductibility limitations on non-excluded compensation to certain of our Named Executive Officers. In addition, we are aware of the recently adopted Section 409A of the Internal Revenue Code and believe we should structure our compensation plans in ways to minimize the likelihood our employees, including Named Executive Officers, have to pay the excise taxes set forth under Section 409A. If any provision of an employment agreement we have entered into would cause the Named Executive Officer to incur any additional tax under Section 409A or any regulations or Treasury guidance, we will attempt to reform such

provision in a manner that maintains, to the extent possible, the original intent of the provision without violating Section 409A.

 

In addition, the future exercise of certain options held by Named Executive Officers, which were issued at a grant date price that was less than the measurement date price, might result in compensation to our Named Executive Officers that exceeds the deductibility limitations under Section 162(m). In connection with our option review in 2006, we repriced these options so that the grant date price equals the measurement date price. However, notwithstanding such repricing, these options no longer qualify as “incentive compensation” under Section 162(m). Therefore, to the extent a Named Executive Officer were to exercise such options during a given year, any gain realized on such exercise would be included in the calculation of non-excluded compensation, and we would not be able to deduct any such compensation that exceeds the deductibility limits. Thus, future option exercise activity that is beyond our control or the Compensation Committee’s control could cause non-deductible compensation expense under Section 162(m). This risk will remain until all such repriced options are exercised, terminated or expire.

 

Change in Control Agreements.  Most of the executive officer’s employment agreements provide for severance in the event of change in control. This is discussed more under the caption “Employment Agreements and Potential Payments Upon Termination or Change in Control” below.

 

Mr. Molbeck is the only Named Executive Officer who currently will be entitled to a payment sufficient to reimburse him fully on an after-tax basis for any tax under Section 4999 of the Internal Revenue Code, as well as any costs associated with resolving the application of such tax to him.

 

REPORT OF THE COMPENSATION COMMITTEE

 

The Compensation Committee has reviewed and discussed the Compensation Discussion and Analysis with management. Based upon such review, the related discussions and such other matters deemed relevant and appropriate to the Compensation Committee, the Compensation Committee has recommended to the Board of Directors that the Compensation Discussion and Analysis be included in this Proxy Statement to be delivered to shareholders.

 

Submitted by the Compensation Committee:

 

J. Robert Dickerson, Chairman

James R. Crane

Michael A. F. Roberts

Summary of Cash and Certain Other Compensation

 

The following table provides certain information concerning compensation we paid to or accrued on behalf of our Principal Executive Officer, former Principal Executive Officer, Principal Financial Officer and the other three most highly compensated executive officers serving at December 31, 2006, who are sometimes referred to in this Proxy Statement collectively as the “Named Executive Officers.”

 

Summary Compensation Table

 

 

 

All Other Compensation

 

The following table describes each component of the All Other Compensation column in the Summary Compensation Table.

 

 

 

Grants of Plan Based Awards

 

The following table provides details regarding plan based awards granted to the Named Executive Officers during the fiscal year ended December 31, 2006.

 

 

 

Section 409A Compliance

 

Section 409A of the Internal Revenue Code imposes certain restrictions and additional taxes on the recipients of discounted options in the United States. Prior to December 31, 2006, the final date allowable under Section 409A, our directors and certain officers, including our Named Executive Officers other than Mr. Way and Mr. Cook, agreed to reprice their unexercised discounted options to the closing price on the actual accounting measurement date as determined by our investigation of our past option granting practices; therefore, these options are no longer subject to Section 409A. The repricing did not affect the vesting schedules of the options, which continue to vest based on the original grant date. Where applicable in this proxy statement, exercise prices will reflect the exercise price as amended.

 

Outstanding Equity Awards at Fiscal Year End

 

The following table contains information with respect to outstanding option awards at fiscal year end on December 31, 2006. We have not granted any stock awards.

 

 

 

 

Option Exercises and Stock Vested Table

 

The following table contains information with respect to the options exercised by the Named Executive Officers during the fiscal year ended December 31, 2006.

 

 

 

 

Non-qualified Deferred Compensation Plans

 

The following table contains information with respect to the non-qualified deferred compensation plans by the Named Executive Officers during the fiscal year ended December 31, 2006.

 

 

 

 

Deferred Compensation Plans

 

We have two deferred compensation plans that were applicable to Stephen L. Way while he was an employee of our company, one implemented by HCC and one by Houston Casualty Company. As Mr. Way is no longer employed by HCC, he is no longer eligible to participate in the plans. The terms of the plans are substantially identical except as set forth below. Mr. Way was the only eligible participant under the plans while he was an employee of HCC. Under the plans, for each plan year, a contribution under each respective plan was recommended by the Compensation Committee for approval by the full Board of Directors. Upon approval, such contribution was credited to the balance under the plans. The balances accrued under the plans earn interest at the rate of 6%, for the Houston Casualty Company plan, or the prime rate plus 100 basis points, for the HCC plan. In the event of Mr. Way’s death, disability or retirement, the entire balance under each respective plan is to be paid in a lump sum payment, to Mr. Way’s beneficiary in the case of Mr. Way’s death, or to Mr. Way in the event of Mr. Way’s disability or retirement. In addition, under the Houston Casualty Plan, amounts accrued to the account are to be paid to Mr. Way on a ten year rolling basis upon the tenth anniversary of the original accrual date, and the amount that can be paid in any given year is limited to the amount we can then deduct under the Internal Revenue Code with amounts in excess of such amount to be carried forward to a future year. In addition, amounts under the plans may be paid out earlier than as set forth above in the event Mr. Way would realize taxable income on amounts in the plan prior to such amounts being paid to Mr. Way. Each plan was administered by our Compensation Committee, which could delegate the authority for such administration.

 

Mr. Molbeck receives deferred compensation under the terms of the post-employment consulting arrangement contained in his employment agreement with us. Mr. Bramanti receives deferred compensation under the terms of his employment agreement. See “Employment Agreements and Potential Payments Upon Termination or Change in Control,” below, for a further discussion of this agreement.

 

Employment Agreements and Potential Payments Upon Termination or Change in Control

 

We have entered into employment agreements with our Chief Executive Officer, Principal Financial Officer and the other Named Executive Officers listed below, which set forth the general terms and conditions of each such executive officer’s employment. Each of the executives has the right to voluntarily terminate his employment at any time.

 

We do not maintain a separate severance plan for our Named Executive Officers. Severance benefits for our Named Executive Officers are limited to those as set forth in the respective Named Executive Officer’s employment agreement.

 

The following summarizes the terms of each of these agreements:

 

Frank J. Bramanti

 

According to the terms of the Employment Agreement entered into on April 12, 2007, which is effective as of January 1, 2007, Mr. Bramanti serves as our Chief Executive Officer. Mr. Bramanti’s employment agreement expires December 31, 2010. Mr. Bramanti will receive an annual salary of $1,950,000 (consisting of a base salary of $950,000 and deferred compensation of $1,000,000). In addition, Mr. Bramanti will be eligible to receive bonus compensation under the 2007 Incentive Compensation Plan, if such plan is approved by our shareholders, or at the discretion of our Compensation Committee otherwise. He is also entitled to extended medical coverage and supplementary term life insurance in the aggregate face amount of $5,000,000. In the event Mr. Bramanti’s employment is terminated by us without “Cause,” or by Mr. Bramanti for “Good Reason” or if a “Change of Control” occurs (in each such case as such terms are defined in the employment agreement), Mr. Bramanti is entitled to payment of base salary and deferred compensation for the remainder of the term in a lump sum, as well as benefits for the remainder of the term and all accrued compensation and benefits through the termination date. If Mr. Bramanti’s employment terminates in the event of death, his estate is entitled to all accrued compensation and benefits through the date of death along with a payment equal to the lesser of eighteen months base salary and deferred compensation or payment of base salary and deferred compensation through the remainder of the term. If his employment terminates in the event of his disability, he is to receive a payment in an amount equal to the lesser of eighteen months base salary or payment of base salary through the remainder of the term. If his employment is terminated by us for “Cause” or by Mr. Bramanti without “Good Reason,” he is entitled to all accrued compensation and benefits through the date of termination. Mr. Bramanti’s employment agreement also contains a provision under which he is to provide consulting services for six months after the termination of the agreement on December 31, 2010 for the sum of $300,000. If the agreement is terminated, Mr. Bramanti has agreed to certain provisions relating to non-competition, confidentiality and non-solicitation of customers and employees.

 

Edward H. Ellis, Jr.

 

According to the terms of the Employment Agreement effective as of January 1, 2002, as amended April 15, 2006, Mr. Ellis acts as Executive Vice President and Chief Financial Officer of HCC. Mr. Ellis’ employment agreement expires on December 31, 2008. Mr. Ellis received a salary of $425,000 in 2006, increasing by $25,000 for each year thereafter during the term of the agreement. In the event Mr. Ellis’ employment is terminated as a result of his death or disability, any outstanding stock options will immediately vest and remain exercisable for the lesser of one year or the term of the option. In the event of his death, his estate will receive his contracted for compensation through the date of his death and for the lesser of one year or the remaining term of the employment agreement. If he is disabled, he will receive his salary for a three month period; thereafter, he will receive an amount equal to the after-tax amount of his compensation prior to the disability, throughout the remaining term. In the event his employment is terminated other than by HCC for “Cause” or by Mr. Ellis unless for “Good Reason” after a “Change of Control,” in each such case as such terms are defined in the agreement, Mr. Ellis will be entitled to receive all of the sums otherwise due to him under the agreement at the date of termination. In the event Mr. Ellis’ employment is terminated by him for “Good Reason” after a “Change of Control,” Mr. Ellis will be entitled to receive his base salary for the remainder of the term in a lump sum payment discounted to present value, his options will vest immediately and be exercisable for 30 days after termination, he will be entitled to receive his benefits for the lesser of six months from termination or until new employment is secured, and, until such time as Mr. Ellis is eligible for Medicare, he will be entitled to receive health benefits under our health plan at the same rates charged to our employees. Mr. Ellis may terminate for Good Reason on a Change of Control if within six months of a change in control of HCC, there is a material change in the nature or status of Mr. Ellis’ duties or responsibilities, or the assignment of duties or responsibilities inconsistent with Mr. Ellis status. If the agreement is terminated, Mr. Ellis has agreed to certain provisions relating to non-competition, confidentiality and non-solicitation of customers and employees.

 

John N. Molbeck, Jr.

 

According to the terms of the Employment Agreement effective as of March 23, 2006, Mr. Molbeck acts as President and Chief Operating Officer of HCC. Mr. Molbeck’s employment agreement expires on May 31, 2009. Mr. Molbeck receives an annual base salary of $750,000 and bonus compensation in an additional amount of up to $250,000 if the Company meets certain performance targets. Mr. Molbeck is also entitled to certain other perquisites, including a car allowance, extended medical coverage, reimbursement for estate planning expenses and supplementary term life insurance. The agreement provides that upon termination for any reason, Mr. Molbeck will serve HCC as a consultant for a period of six years and nine months and receive an annual consulting fee of $200,000 plus an additional amount equal to $350,000 for each year of the agreement completed prior to termination, paid ratably over the consulting period. Mr. Molbeck’s right to receive the annual consulting fees vested at the inception of his employment agreement, and such fees remain payable in the event of Mr. Molbeck’s death or disability. We agreed to this consulting arrangement during Mr. Molbeck’s previous employment with us. In the event Mr. Molbeck’s employment is terminated by us other than for “Cause,” by Mr. Molbeck for “Good Reason” or by either party following a “Change of Control,” Mr. Molbeck would be entitled to receive the greater of the remainder of the base salary otherwise due for the full term of the agreement or a twelve month period, annual bonus if such termination occurs after October 1, immediate vesting of outstanding stock options previously granted, and continuation of medical benefits at the cost of HCC. If Mr. Molbeck is disabled, Mr. Molbeck will receive continuation of base salary for 12 months and then will receive base salary continuation through the employment agreement term at the reduced rate of 50% of his base salary. We will also reimburse Mr. Molbeck if there are any payments made to him which are subject to any excise taxes. For the purposes of Mr. Molbeck’s employment agreement, “Change in Control” includes a turnover of a majority of the members of our Board of Directors. If the agreement is terminated, Mr. Molbeck has agreed to certain provisions relating to non-competition, confidentiality and non-solicitation of customers and employees.

 

Michael J. Schell

 

According to the terms of the Employment Agreement effective as of June 3, 2002, Mr. Schell acts as Executive Vice President of HCC and President and Chief Executive Officer of Houston Casualty Company. Mr. Schell oversees our domestic property and casualty operations. Mr. Schell’s employment agreement expires on June 3, 2007. Mr. Schell received a salary of $539,583 in 2006, increasing $25,000 each year thereafter during the term of the agreement on the anniversary date of the agreement. He also receives an agreed annual bonus of $12,500 for each subsidiary designated in the agreement that exceeds its approved budget and an additional $50,000 if all designated subsidiaries exceed their approved budgets. Mr. Schell is also entitled to certain perquisites, including a car allowance, certain club memberships, and life insurance. Mr. Schell’s rights upon termination, death or disability are similar to those provided to Mr. Ellis provided that upon his death his legal representatives will receive his base salary for the remaining term of the agreement, less the face value of any insurance proceeds from company-provided insurance. If the agreement is terminated, Mr. Schell has agreed to certain provisions relating to non-competition, confidentiality and non-solicitation of customers and employees.

 

Barry J. Cook

 

According to the terms of his Service Agreement effective as of December 1, 2005, Mr. Cook acts as an Executive Vice President of HCC and Chief Executive Officer of HCC Insurance Holdings (International) Limited and oversees our international operations. Mr. Cook’s employment agreement expires on December 31, 2008. Either party may terminate the agreement without cause on six month’s notice; provided, however, that in the event we terminate the agreement without cause, we must pay Mr. Cook salary and benefits through the end of the term. Mr. Cook received a salary of $685,510 in 2006 and will receive $734,475 in 2007 and $783,440 in 2008. In addition, Mr. Cook is eligible for a discretionary bonus. Additional compensation under the agreement includes an annual contribution in the amount of $113,599 into a defined contribution retirement plan (which at Mr. Cook’s election may be received as salary instead), car allowance in the amount of $35,255, supplemental medical, and company-provided life insurance. If the agreement is terminated, Mr. Cook has agreed to certain provisions relating to non-competition, confidentiality and non-solicitation of customers and employees. All compensation totals for Mr. Cook have been converted to U.S. dollars from British pounds sterling at the rate of 1.9586, the Federal Reserve

Bank of New York noon buying rate on December 29, 2006, the last trading day of the year. For forward-looking amounts, such exchange rate is subject to fluctuation.

 

Stephen L. Way

 

Stephen L. Way resigned as our Chief Executive Officer on November 17, 2006 and as Chairman of the Board in February 2007. At the time of Mr. Way’s resignation as our Chief Executive Officer, we entered into a Consulting Agreement with Mr. Way dated effective as of November 17, 2006. During the term of the consulting agreement, Mr. Way is to receive a $30,000 monthly consulting fee, plus expenses incurred in rendering the consulting services. In addition, we have agreed to provide medical benefits to Mr. Way under our group medical program for a period of 20 years. Unless sooner terminated on the occurrence of certain events specified in the consulting agreement, the agreement has a term of one year, which will automatically renew each year unless terminated by either us or Mr. Way by giving at least 60 days’ notice prior to the expiration of the term or any renewal term. If the agreement is terminated, Mr. Way has agreed to certain provisions relating to non-competition, confidentiality and non-solicitation of customers and employees. In conjunction with his resignation, Mr. Way executed an agreement to reimburse us for the difference between the actual gain realized from all past option exercises and the gain if mis-priced options had been granted at the closing price of our stock on the actual accounting measurement date as determined by our internal investigation.

 

Potential Payments on Termination Following a Change in Control

 

The following sets forth the incremental compensation that would be payable by us to each of our Named Executive Officers in the event of the Named Executive Officer’s termination of employment with us under various scenarios, which we refer to as “termination events,” including the Named Executive Officer’s voluntary resignation, involuntary termination for “Cause,” involuntary termination without “Cause,” termination by the executive for “Good Reason,” termination in connection with a “Change in Control,” termination in the event of “Disability,” termination in the event of death, and termination in the event of retirement, where each of these defined terms has the meaning ascribed to it in the respective executive’s employment agreement. In accordance with applicable SEC rules, the following discussion assumes:

 

 

The analysis contained in this section does not consider or include payments made to a Named Executive Officer with respect to contracts, agreements, plans or arrangements to the extent they do not discriminate in scope, terms or operation, in favor of our executive officers and that are available generally to all salaried employees, such as our 401(k) plan. The actual amounts that would be paid upon a Named Executive Officer’s termination of employment can only be determined at the time of such executive officer’s termination. Due to the number of factors that affect the nature and amount of any compensation or benefits provided upon the termination events, any actual amounts paid or distributed may be higher or lower than reported below. Factors that could affect these amounts include the timing during the year of any such event, our stock price at such time and the executive officer’s age and service.

 

Each Named Executive Officer is party to an employment agreement with us and to equity award agreements relating to options granted under our 2001 Flexible Incentive Plan and our 2004 Flexible Incentive Plan. These agreements and plans may provide that a Named Executive Officer is entitled to additional consideration in the event of a termination event. All of the Named Executive Officers’ employment agreements provide for a cash payment in the event of termination without Cause or for Good Reason.

 

Following is a discussion and related disclosure on potential payments on a change in control for each of our Named Executive Officers. Because his employment with us terminated in November 2006, Stephen L. Way is not included in this discussion. We did not pay Mr. Way any incremental compensation in connection with the termination of his employment although we did enter into the consulting arrangement described above in “Employment Agreements and Potential Payments Upon Termination or Change in Control — Stephen L. Way.”

 

Each table below indicates the amount of compensation payable by us to the applicable Named Executive Officer including: cash severance, consulting fee payments, bonus payment, continuation of health coverage, stock option awards, and excise tax gross-up for amounts due under Section 280G and 4999 of the Internal Revenue Code (“Gross-Up”), upon different termination events.

 

Frank J. Bramanti.  At December 29, 2006, Mr. Bramanti’s employment agreement was not yet finalized; therefore, he was not entitled to any compensation payable or benefits upon a termination event except as provided in his equity award agreements and under the provisions of a prior expired employment agreement with us that provides for extended medical benefits.

 

 

 

 

On April 12, 2007, we entered into a new employment agreement with Mr. Bramanti effective as of January 1, 2007. The table below assumes that Mr. Bramanti’s new employment agreement was effective on December 29, 2006 and illustrates the benefits that would have been payable under the agreement assuming such effectiveness.

 

 

 

 

Edward H. Ellis, Jr. In addition to the amounts listed below, Mr. Ellis is entitled to all accrued compensation, unreimbursed expenses and other benefits through the date of termination in the event of his termination.

 

 

 

 

John N. Molbeck, Jr. In addition to the amounts listed below, Mr. Molbeck is entitled to all accrued compensation, unreimbursed expenses and other benefits through the date of termination in the event of his termination.