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A weakened company cannot sell stock to restore its financial strength, and a growing company cannot sell shares to support its expanding. This inflates the companies' equity, otherwise known as book value. This debt that seems to be written with disappearing ink is called a "surplus note." Monro Belth, a professor emeritus of insurance at Indiana University who publishes The Insurance Forum newsletter, has called surplus notes "bizarre financial instrument[s]," which is putting it kindly. This cuts them off from an important source of capital. After the financial scandals of the past decade and the institutional meltdowns of the past year, you might think regulators would have gotten awfully fussy about companies that try to make themselves look stronger than they really are. They are a deceptive fiction that regulators do not merely tolerate, but actually join in foisting on the uninformed public. (The notes are also known by other names, including surplus debentures in Texas and contribution certificates in California.) The practice of issuing surplus notes began with mutual insurance companies. Mutual insurers are owned by their policy holders; they do not sell stock. In the world of life insurance, regulators across the country are allowing companies to issue debt sometimes significant amounts of debt without reporting this debt on their balance sheets. |