Consolidated net income for The National Security Group (The Company) was $3.776 million in 2000 compared to $3.756 million in 1999. On a per share basis earnings were $1.84 in 2000 compared to $1.83 in 1999. Operating results in The Company's property/casualty subsidiaries were much improved due to the elimination of several general agent auto programs, but a non-recurring charge incurred due to a management decision to strengthen reserves in certain blocks of industrial life policies decreased earnings by approximately $.29 per share. Realized capital gains in 2000 were $1.72 million compared to $1.95 million in 1999. Consolidated revenues were $29.7 million in 2000 compared to $32.6 million in 1999. The operating results of the subsidiaries are discussed in further detail in the sections that follow.
Income before income taxes in 2000 was $1,667,000 compared to $2,556,000 in 1999. A one time charge for reserve increases on certain blocks of old industrial life insurance, which NSIC no longer sells, was the primary factor contributing to the decrease in income before income taxes.
NSIC increased premium income 8% to $4,594,000 in 2000 compared to $4,251,000 in 1999. Life insurance premium income increased 10.3% in 2000, and accident and health insurance decreased slightly compared to 1999. Life insurance sales through independent agents was the source of premium growth in NSIC in 2000.
Income before income taxes in 1999 was $2,556,000 compared to $2,489,000 in 1998. Operating results for 1999 were very similar to 1998, with slightly higher realized capital gains producing the modest increase in income before income tax.
NSIC experienced a 10% increase in premium income primarily due to increased sales of life insurance through independent agents. The Company began offering life and accident insurance products through independent agents in 1998. Prior to 1998 NSIC used employee agents as its only method of distribution of life and accident insurance products.
The elimination of the general agent programs combined with slight decreases in other core lines of business led to a 16% decrease in earned premium in 2000 compared to 1999. However, in the last half of 2000 NSFC did begin to experience a slight turnaround in premium production in core lines of business, which management attributes to an increase focus on marketing to independent insurance agents. Also, the elimination of the unprofitable managing general agent programs greatly improved underwriting profitability.
The automobile insurance programs had underwriting losses of over $1,500,000 in 1999. Several of these programs which were managed by independent managing general agents have been discontinued over the last year and management believes that future losses from the discontinued programs will be greatly reduced compared to losses incurred in 1998 and 1999. One program managed by a managing general agent was still in operation in Florida in 1999, but management terminated the agents contract in 2000. Company management expects to maintain a presence in the automobile insurance market, but future growth and expansion will be through the traditional independent agents with claims and underwriting functions managed and closely monitored by in-house personnel.
b. The underwriting expense ratio, which measures underwriting expenses incurred (e.g., agents' commissions, premium taxes, and other administrative underwriting expenses) as a percentage of premiums written during the year.
The combined ratio for 2000 compared to 1999 decreased over ten percentage points. This improvement is primarily attributable to the elimination of the previously mentioned managing general agent auto programs over the last two years, and no significant tornado or hurricane activity during the year.
SVO Equivalents % of Total --------------- SVO Class Moody's Standard and Poor's Bond Portfolio - --------- ------- ------------------- -------------- 1 Aaa to A3 AAA to A- 92.4 2 Baa to Baa3 BBB+ to BBB- 6.1 3 Ba1 to Ba3 BB+ to BB- 1.5 4 B1 to B3 B+ to B- 0.0 5 Caa to Ca CCC+ to C 0.0 6 C CI to D 0.0
As of January 1, 1994, the Company adopted Financial Accounting Standards Board Statement 115 and reclassified a portion of its fixed maturity securities portfolio as "available-for-sale," with the remainder being classified as "held-to- maturity." With that reclassification, the fixed maturity securities classified as "available-for-sale" are carried at fair value and changes in fair values, net of related income taxes, are charged or credited to shareholders' equity (see Note D to the consolidated financial statements).
Certain fixed interest rate market risk sensitive instruments may not give rise to incremental income or loss during the period illustrated but may be subject to changes in fair values. Note A presents additional disclosures concerning fair values of Financial Assets and Financial Liabilities, and is incorporated by reference herein.
The National Security Group's consolidated statement of cash flows indicate that operating activities (used) provided cash of $(422,000), $868,000, $(1,897,000) in 2000, 1999, and 1998 respectively. Those statements also classify the other sources and uses of cash by investing activities, and financing activities and disclose the amount of cash available at the end of the year to meet the Company's obligations.
The Company has notes payable of $2.4 million at December 31, 2000. The notes payable are to be repaid in quarterly installments over five years.
Statutory Risk-Based Capital of Insurance Subsidiaries: The NAIC has adopted Risk-Based Capital (RBC) requirements for life/health and property/casualty insurance companies to evaluate the adequacy of statutory capital and surplus in relation to investment and insurance risks such as asset quality, mortality and morbidity, asset and liability matching, benefit and loss reserve adequacy, and other business factors. The RBC formula will be used by state insurance regulators as an early warning tool to identify, for the purpose of initiating regulatory action, insurance companies that potentially are inadequately capitalized. In addition, the formula defines new minimum capital standards that will supplement the current system of low fixed minimum capital and surplus requirements on a state-by-state basis. Regulatory compliance is determined by a ratio of the company's regulatory total adjusted capital, as defined by the NAIC, to its authorized control level RBC, as defined by the NAIC. Companies below specific trigger points or ratios are classified within levels, each of which requires corrective action. The levels and ratios are as follows:
National Security Insurance Company (life insurer) has regulatory adjusted capital of $14.3 million and $15.2 million at December 31, 2000 and 1999, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 12.9 and 10.9 at December 31, 2000 and 1999 respectively. Accordingly, National Security Insurance Company meets the minimum RBC requirements.
Omega One Insurance Company (property/casualty insurer), which began writing business in late 1995, has regulatory adjusted capital of $4.1 million and $3.2 million at December 31, 2000 and 1999, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 8.4 and 4.6 at December 31, 2000 and 1999 respectively. Accordingly, Omega One Insurance Company meets the minimum RBC requirements.
Consolidated Statements of Income - Years Ended December 31, 2000, 1999, and 1998 .......................... 20
Consolidated Balance Sheets - December 31, 2000 and 1999 ................. 21
Consolidated Statements of Shareholders' Equity - Years Ended December 31, 2000, 1999, and 1998 .......................... 22
Consolidated Statements of Cash Flows - Years Ended December 31, 2000, 1999, and 1998 .......................... 23
Reports of Independent Certified Public Accountants on Financial Statement Schedules ....................................... 40
Schedule VI. Reinsurance - Years Ended December 31, 2000, 1999, and 1998. 47
We have audited the accompanying consolidated balance sheet of The National Security Group, Inc. and subsidiaries as of December 31, 2000, and the related consolidated statement of income, shareholders equity and cash flows for the year ended December 31, 2000. These consolidated financial statements are the responsibility of the Company management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.
We have audited the accompanying consolidated balance sheet of The National Security Group, Inc. and subsidiaries as of December 31, 1999 and the related consolidated statements of income, shareholders' equity and cash flows for each of the two years in the period ended December 31, 1999. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
DUDLEY, HOPTON-JONES, SIMS & FREEMAN, PLLP Birmingham, Alabama February 18, 2000
The accompanying consolidated financial statements include the accounts of The National Security Group, Inc. (the Company) and its wholly-owned subsidiaries: National Security Insurance Company (NSIC), National Security Fire and Casualty Company (NSFC) and NATSCO, Inc. (NATSCO). NSFC includes a wholly-owned subsidiary - Omega One Insurance Company (Omega). Omega includes a wholly-owned subsidiary - Liberty Southern Insurance Company (LSIC). All significant intercompany transactions and accounts have been eliminated.
NSIC is licensed in the states of Alabama, Georgia, Mississippi, Texas and Florida and was organized in 1947 to provide life and burial insurance policies to the home service market. Premiums sold and serviced by company agents primarily include industrial life, larger ordinary life, accident and health, limited hospital, cancer and low valued life insurance. NSFC operates in various property and casualty lines, the most significant of which are low valued dwelling property, home service fire, nonstandard automobile physical damage and liability, nonstandard commercial, ocean marine and inland marine. Omega operates in property and casualty lines, the most significant of which is commercial auto liability. LSIC operates in automobile physical damage and liability lines.
The Company securities are classified in two categories and accounted for as follows:
Securities Available-for-Sale. Bonds, notes, common stock and non-redeemable preferred stock not classified as either held-to-maturity, or trading are reported at fair value, adjusted for other-than-temporary declines in fair value.
SFAS No. 107 defines fair value as the quoted market prices for those instruments that are actively traded in financial markets. In cases where quoted market prices are not available, fair values are estimated using present value or other valuation techniques. The fair value estimates are made at a specific point in time, based on available market information and judgments about the financial instrument, such as estimates of timing and amount of expected future cash flows. Such estimates do not reflect any premium or discount that could result from offering for sale at one time the Companys entire holdings of a particular financial instrument, nor do they consider the tax impact of the realization of unrealized gains or losses. In many cases, the fair value estimates cannot be substantiated by comparison to independent markets, nor can the disclosed value be realized in immediate settlement of the instrument.
The fair values of cash, cash equivalents, short-term investments and balances due on accounts from agents, reinsurers and others approximate their carrying amounts as reflected in the consolidated balance sheets due to their short-term availability or maturity.
The fair value of the mortgage loan portfolio was approximately equal to the carrying amount of $116,000 on December 31, 2000 and $112,000 on December 31, 1999.
Mortality assumptions include various percentages of the 1955-60 and 1965-70 Select and Ultimate Basic Male Mortality Table. Withdrawal assumptions are based on the Companys experience.
When the contingency is resolved and additional consideration is distributable, Omega shall record the current fair value of the consideration issued or issuable as additional cost of the LSIC acquisition.
2000 1999 ---- ---- Net premiums earned $23,817 $26,778 Income before taxes $ 4,653 $ 4,450 Net Income $ 3,585 $ 3,690 Earnings per common share $ 1.74 $ 1.79
The amortized cost and aggregate fair value of debt securities at December 31, 2000, by contractual maturity, are as follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Gross gains of $2,715,057 and $2,041,304 and gross losses of $774,196 and $30,319 for 2000 and 1999, respectively, were realized on sales of available-for-sale-securities.
Fixed maturities .............................. $ 3,629 $ 3,567 $ 3,503 Equity securities ............................. 642 630 682 Mortgage loans on real estate ................. 7 9 17 Investment real estate ........................ 142 18 18 Policy loans .................................. 43 33 38 Other, principally short-term investments ..... 121 129 136 ------ ------ ------ 4,584 4,386 4,394
Under pre-1984 life insurance company tax laws, a portion of NSIC's gain from operations was not subject to current income taxation, but was accumulated for tax purposes in a memorandum account designated "policyholders' surplus". The aggregate balance in this account, $3,720,000 at December 31, 2000, would be taxed at current rates only if distributed to shareholders or if the account exceeded a prescribed minimum. The Deficit Reduction Act of 1984 eliminated additions to policyholders' surplus for 1984 and thereafter. Deferred taxes have not been provided on amounts designated as policyholders' surplus. The deferred income tax liability not recognized is approximately $1,270,000 at December 31, 2000.
Aggregate annual maturities on long-term debt for each of the four years subsequent to December 31, 2000 are as follows (dollars in thousands): 2001-$273, 2002-$131, 2003-$118, 2004-$1879.
(Dollars in thousands) 2000 1999 ---- ---- Benefit and loss reserves Property and casualty ...................... $15,409 $18,471 Accident and health ........................ 301 285 Life and annuity ........................... 19,486 18,701 Unearned premiums ............................ 6,364 7,088 Policy and contract claims ................... 358 394 ------- ------- $41,918 $44,939 ======= ======= The following table is a reconciliation of beginning and ending property and casualty reserve balances for claims and claim adjustment expense for the years ended December 31:
In 1987, the Company established a deferred compensation plan for its Board of Directors. The Board members have an option of deferring their fees to a cash account or to a stock account and all share deferrals are recorded at the fair market value on the date of the award. Costs of the deferred compensation plan for 2000, 1999, and 1998 amounted to approximately $54,755, $48,490, and $90,300, respectively.
Assets Individual life and accident and health insurance $42,150 $41,323 $41,935 Property and casualty insurance 55,256 56,714 61,842 Other 157 68 196 ------ ------ ------ $97,563 $98,105 $103,973 ====== ====== ======
Amortization of deferred policy acquisition costs and depreciation expense: Individual life and accident and health insurance $ (61) $ (252) $ 450 Property and casualty Insurance 1,406 1,615 1,599 ------ ------ ------ $ 1,345 $1,363 $2,049 ====== ====== ======
During the second quarter of 2000, NSIC submitted a bid proposal to the Florida Life and Health Insurance Guaranty Association to acquire certain in-force premium-paying life insurance business of Central Life Insurance Company of Florida. NSIC was notified of being awarded the business subject to negotiation of the details and approval of the Florida Insurance Department for an Assumption Reinsurance Agreement. NSIC submitted their bid based on investing in five-year Treasury bonds to match the asset and liability responsibility of the business. Because of continued delays by the Florida Insurance Department and the continued decrease in the interest rates, NSIC has requested an adjustment to their bid. NSIC anticipates a closing date during the first quarter of 2001.
The Company and its subsidiaries continue to be named as parties to litigation related to the conduct of their insurance operations. These suits involve alleged breaches of contracts, torts, including bad faith and fraud claims based on alleged wrongful or fraudulent acts of agents of the Company subsidiaries, and miscellaneous other causes of action. Most of these lawsuits include claims for punitive damages in addition to other specified relief.
In two separate recently filed actions, NSIC is named as a defendant in purported class actions relating to the past sale of industrial burial insurance. The actions address whether the premiums charged were excessive relative to the benefit provided and whether the premiums charged were in any manner discriminatory relative to the race of the person insured. These actions are in the initial phases and no discovery has been undertaken and no class has been certified. The issues raised in these actions are similar to the issues pending in numerous other actions currently pending nationwide against numerous insurers. While NSIC did at one time sell industrial burial insurance, no such plans have been sold for several decades.
The Company maintains its cash accounts primarily with banks located in Alabama. The total cash balances are insured by the FDIC up to $100,000 per bank. The Company had cash balances on deposit with Alabama banks at December 31, 2000 that exceeded the balance insured by the FDIC in the amount of $802,797.
The "Notes to Consolidated Financial Statements of The National Security Group, Inc." are an integral part of this condensed financial information of the registrants.
Pursuant to the rules and regulations of the Securities and Exchange Commission, the Condensed Financial Information of the Registrant does not include all of the information and notes normally included with financial statements prepared in accordance with generally accepted accounting principles. It is, therefore, suggested that this Condensed Financial Information be read in conjunction with the Consolidated Financial Statements and Notes thereto included in the Registrant's Annual Report as referenced in Form 10-K, Part II, Item 8, page 18.
Dividends of $2.4 million in 2000, $2.3 million in 1999 and $2 million in 1998 were paid to the Registrant by its subsidiaries.