The following discussion highlights significant factors influencing the consolidated financial position and results of operations of The National Security Group, Inc. (referred to in this document as we, our, us, the Company or NSEC) and its subsidiaries for the three years ended December 31, 2006. This discussion and analysis of the consolidated results of operations and financial condition of the Company should be read in conjunction with the Selected Financial Data and Consolidated Financial Statements and related notes included elsewhere herein. Please refer to our note regarding forward-looking statements on page 3 of this report.
The following analysis of the Results of Operations should be read in conjunction with the Consolidated Financial Statements, which begin on Page 34 of this Form 10-K. Primary reference is made to the Consolidated Statements of Income on page 36 and segment information provided in Note 14 to the Consolidated Financial Statements.
Consolidated net income for 2006 was $4,250,000 compared to $1,558,000 in 2005. On a per share basis, net income was $1.72 in 2006 compared to $0.63 in 2005. Hurricane losses reduced our 2005 net income by
$6,804,000 or $2.76 per share. Despite the lack of hurricane activity in 2006, we still incurred losses from catastrophic events in the form of tornado and hail losses that totaled $1,386,000 net of tax and reduced 2006 net income by $0.56 per share. These tornado and hail losses were incurred during the January through April time period of 2006. Partially offsetting 2005 hurricane losses, we realized investment gains of $3,727,000 resulting from the sale of investment securities. Realized investment gains in 2006 totaled $2,615,000, down 30% compared to 2005. Our decisions to sell securities and therefore realize investment gains on our investments is dictated by considerations of market conditions and tax implications, among other factors, and are subject to significant fluctuation from period to period.
Total premium revenue for 2005 was $53,563,000, an increase of just over 1% over 2004 premium revenue of $52,985,000. Premium revenue in 2005 included reductions for catastrophe reinsurance reinstatement premium triggered by Hurricane Katrina of $2,400,000 and premium revenue in 2004 included reductions for catastrophe reinsurance reinstatement premium triggered by Hurricane Ivan of $1,400,000. Without the impact of the reinstatement premium charges in both years, premium revenue increased 2.9%. Life segment revenue accounted for 11.6% of consolidated premium revenue while property and casualty segment revenue accounted for 88.4% of consolidated premium.
After reinsurance recoveries, pre-tax losses and expenses from third quarter hurricanes totaled over $7,909,000 and a catastrophe reinsurance reinstatement premium of $2,400,000 was also incurred in the third and fourth quarters of 2005. Third quarter losses from Hurricanes Dennis, Katrina and Rita were the primary reason for the decline in net income. Losses and related expenses from 2005 hurricanes reduced 2005 net income by $6,804,000 or $2.76 per share.
Certain financial information for The National Security Group’s three segments (Life segment, property and casualty segment, and other (non-insurance) is summarized as follows (amounts in thousands) :
In addition to the preceding table, reference is made to Note 14 of the Consolidated Financial Statements contained in this report for the segment information that follows.
NSIC incurred a net loss before taxes of $(1,741,000) in 2006 compared to a net loss of $(271,000) in 2005. Litigation expenses totaling over $1.1 million and $375,000 in 2006 and 2005 respectively were the primary factors contributing to the poor results. The litigation related expenses are primarily related to a longstanding class action lawsuit that was settled in 2006. Due to the nature of this litigation, it has been difficult to predict the ultimate outcome over the last five years and consequently, we have experienced several upward revisions in our estimates. However, the litigation is now settled and no material additional costs are expected to be incurred.
NSIC had a net loss before income taxes in 2005 of $(271,000) compared to net income of $216,000 in 2004. Expenses related to ongoing litigation totaled over $375,000 and $250,000 in 2005 and 2004, respectively. As discussed earlier in this report, the litigation that has caused a significant strain on profitability and company resources was settled in December of 2006 and no additional material charges are expected to be incurred in periods beyond 2006.
We are still working to improve the adequacy of our rates in our core lines of business. Due to the unprecedented hurricane activity in 2004 and 2005, we have experienced a significant increase in the cost of our catastrophe reinsurance. Our catastrophe reinsurance rate in 2006 increased 18%. In order to minimize the impact of the rate increase, we increased our reinsurance retention by 50% to $3 million. Reinsurance rates are not subject to review by state insurance regulators and are more market driven allowing reinsurers to react more rapidly to changing market conditions. Consequently, we incur significant lag time between the time we incur an increase in our cost of reinsurance and the time we are able to reflect these increased costs in our rates. Our rates are subject to review and approval by state regulators and consequently we experience significant delays in our ability to adjust rates. These delays result in lag times of at least six months and can last up to 18 months. Also, we have experienced political climates in some states that make it difficult for us to factor in the full impact of our increased cost of claims and reinsurance. However, we made significant progress in adjusting our rates in 2006 and experienced some moderation in our catastrophe reinsurance rate increases for 2007, so we expect a more favorable pricing environment in 2007.
We routinely evaluate our claims frequency and severity statistics in order to better understand the nature of our risks and aide in the loss reserve liability evaluation process. Claims frequency is a measure of the number of claims incurred during a measurement period regardless of amount. Claims severity is a measure of the average dollar amount of claims during a measurement period.
While the overall frequency of claims declined significantly in 2006 compared to 2005, the more severe spring storm season resulted in a higher frequency of tornado losses elevated the average severity of claims in the dwelling fire and homeowners line of business. The average severity for 2006 was $4,272 per claim compared to $4,086 per claim in 2005, again the increase is primarily attributable to the increased tornado related losses in the first half of 2006 compared to 2005.
While overall premium revenue growth moderated significantly in 2005 compared to 2004, the property and casualty subsidiaries continued to grow primary dwelling property lines of dwelling fire, homeowners and mobile homeowners with growth rates of 11.7%, 7.9% and 13.4% respectively. Offsetting these gains were declines in non-standard private passenger automobile and ocean marine lines of business. We expect the trend of more moderate premium revenue growth to continue in 2006 with premium revenue growth expected to be in the range of 5%.
Claims frequency increased significantly in 2005 compared to 2004 with claims on dwelling lines of business (homeowners and dwelling fire) exceeding 15,800 claims compared to 12,500 claims in 2004. Approximately 8,450 claims were reported from Hurricane Katrina in 2005, very close to the 8,500 claims reported from Hurricane Ivan in 2004. However, the average severity of claims from Hurricane Katrina was much higher with losses averaging over $3,500 each compared to less than $2,000 per occurrence from Hurricane Ivan. The increase in the average loss per claim is due to the widespread impact of this huge storm causing severe damage in coastal areas of Alabama, Louisiana and the most heavily impacted coastal area, Mississippi. The most heavily impacted coastal area for us from Hurricane Ivan was concentrated in Baldwin County, Alabama. Additionally, we paid nearly $3.5 million in underwriting association assessments due to losses from Hurricane Katrina. In addition to Katrina, we incurred over 1,600 claims from Hurricane Rita with an average severity of $3,000 and Hurricane Dennis with over 500 claims and an average severity of $1,300. Non-hurricane related dwelling property claims totaled 5,200 in 2005 which remained consistent with 2004 non-hurricane related claims of just over 5,000. Average severity for all dwelling property claims was $4,000 per occurrence in 2005 compared to $2,900 in 2004. As discussed earlier, 2004 average severity was skewed downward due to lower average claims from Hurricane Ivan. Hurricanes typically cause higher number of claims (frequency) and a lower average cost per claim (severity) than tornado related losses. Tornadoes tend to affect a more isolated area and therefore have a lower frequency but typically cause more structural damage including a higher proportion of total losses;
We are in the process of making several changes to help reduce future storm exposure. We will be reviewing rates and minimum deductibles on over 20 of our programs during 2006. Obviously the risk/reward paradigm for writing in coastal areas of the Southeastern U.S. has shifted in the last two years. While we do not want to abandon areas that we have served successfully for many years, we find it necessary to seek higher margins on our insurance products in certain coastal areas in an effort justify the economic feasibility of continuing to write in these areas. We are increasing marketing efforts in the non-coastal states that we serve in order to gain greater geographic diversity. Of course this opens us up to more significant exposure to other types of risk such as more frequent tornados, hail storms and ice storms but these types of events are generally more geographically concentrated and help mitigate the risk of the widespread exposure posed by Atlantic and Gulf Coast hurricanes.
Another challenge posed by the events of 2005 that will have an impact on future earnings of the property and casualty subsidiaries is the cost that we pay for catastrophe reinsurance. We incurred an increase in catastrophe reinsurance in 2006 of 18% as a result the frequency of storm related losses over the last two years. In addition, we were required to increase our catastrophe deductible by 50% to $3,000,000 in order to limit the increase in catastrophe reinsurance rates to only 18%. This has necessitated that we increase rates in many of the areas we serve. Our reinsurance rate increase took effect January 1, 2006. Unfortunately, due to regulatory hurdles and backlogs created from a large number of other insurers filing revised rates in the affected states as well, we will be unable to reflect the increased reinsurance rates we pay in rates charged to our insureds for up to a year. This will result in a drag on 2006 earnings of approximately $500,000 pre-tax. However, we believe that the short term earnings drag will be offset by increased pricing power and less competition in many of the areas impacted by the 2005 hurricane season.
The combined ratio for 2005 compared to 2004 increased 7 percentage points. This increase was entirely due to losses incurred from Hurricanes Dennis, Katrina and Rita which each added 1.4, 10.7 and 4.6 percentage points to the combined ratio respectively. Hurricane Ivan added 8.9 percentage points to the combined ratio for 2004.
The non-insurance operations of the Company consist of our parent company, National Security Group and a 50% owned subsidiary consolidated under the provision of FIN 46R. The National Security Group has no material sources of revenue and relies almost entirely on dividends from the insurance operations to pay expenses. These dividends are eliminated upon consolidation of the subsidiaries in the audited financials included herein. The expenses of the group consist of expenses associated with the public listing of our stock, taxes and fees, and directors’ fees. The most significant expense of the group is interest expense associated with $11,450,000 in debt. This debt is composed of $2,171,000 in borrowing set to mature in 2007. Management has not yet determined whether this debt will be paid in full or refinanced, but we do not expect any difficulties in refinancing should we decide to do so. The remaining $9,279,000 in debt is the proceeds from a trust preferred security offering undertaken in December of 2005. The primary use for these proceeds was to add capital to the property and casualty subsidiaries to allow flexibility in continuing to increase new business production at a moderate rate. Total interest expense for the Group associated with these borrowings in 2006 was $1,005,000 compared to $201,000 in 2005 as the trust preferred offering was not completed until December 15, 2005.
The 50% owned subsidiary, The Mobile Attic, is not considered a major segment of the Company contributing 2.7% of total gross revenue of the Company. Mobile Attic is consolidated under the provision of FIN 46R due to the existence of debt guarantees provided by the Company on $9,409,000 in debt of Mobile Attic. The debt is backed by all of the assets of Mobile Attic and the guarantee of the Company was facilitated in order to obtain more favorable financing for Mobile Attic.
As is disclosed in the notes to the financial statements, we are in discussions to dispose of the majority of our interest in Mobile Attic. While terms of the arrangement have yet to be finalized, any disposal would be contingent upon the release of the Company from any guarantees of Mobile Attic debt. We will release further details in subsequent 8-K filings with the SEC once the consummation of an agreement becomes imminent.
The life insurance and property/casualty subsidiaries primarily invest in highly liquid investment grade debt and equity securities. At December 31, 2006, the company’s holdings in debt securities amounted to 76.7% of total investments and 59.8% of total assets. The following is a breakdown of the bond portfolio quality according to National Association of Insurance Commissioners (NAIC) Securities Valuation Office (SVO) rating standards, and the nationally recognized rating organization equivalents of Moody’s and Standard and Poor’s:
The insurance subsidiaries’ fixed maturity securities include mortgage-backed bonds, primarily collateralized mortgage obligations (CMO’s), of $15.1 million and $13.1 million at December 31, 2006 and 2005 respectively. The mortgage-backed bonds are subject to risks associated with variable prepayments of the underlying mortgage loans. Prepayments cause those securities to have different actual maturities than were expected at the time of purchase. Securities that are purchased at a premium to par value and prepay faster than expected will incur a reduction in yield or loss. Securities that are purchased at a discount to par value and prepay faster than expected will generate an increase in yield or gain. The degree to which a security is susceptible to either gains or losses is influenced by the difference between amortized cost and par value, the relative sensitivity of the underlying mortgages backing the assets to prepayments in a changing interest rate environment and the repayment priority of the securities in the overall securitization structure. In order to minimize risk associated with prepayments on collateralized mortgage obligations, the Company typically invests primarily in more predictable planned amortization class (PAC) structures of CMO’s and typically avoids investment in CMO’s priced at significant premiums above par value.
The consolidated statement of cash flows also reflects a (decrease) increase in cash from financing activities of $(4,264,000), $4,934,000, and $(2,274,000), respectively. The decrease in cash flow from financing activities in 2006 reflects the reduction of debt held by Mobile Attic of $1,779,000 and the payment of shareholder dividends of $2,183,000. Cash flow from financing activities in 2005 reflects proceeds from a trust preferred securities offering of $9,279,000, repayment of Mobile Attic debt of $2,209,000 and payment of shareholder dividends of $2,134,000. Cash flow from financing activities in 2004 consists primarily of shareholder dividends of $2,084,000.
Included in long term debt held directly by the Company is the issuance of $9,279,000 in subordinated debentures completed on December 15, 2005. The proceeds from the debentures were used to make a $6,000,000 capital infusion in the P&C subsidiary National Security Fire and Casualty with the remainder to be held for general corporate purposes. The subordinated debentures mature December 15, 2035. It is anticipated that principal payments will not be made until the expiration of the fixed rate period on the debt in 2015. For further discussion of the subordinated debentures please review Note 8 to the consolidated financial statements and Form 8-K filed December 12, 2005, which is incorporated herein by reference.
The ability of the Company to meet its commitments for timely payment of claims and other expenses depends, in addition to current cash flow, on the liquidity of its investments. On December 31, 2006, the Company had no known impairments of assets or changes in operation, which would have a material adverse effect upon liquidity. Approximately 87% of the Company’s insurance subsidiary assets are invested in cash; investment grade fixed income securities, short-term investments and broadly traded equity securities, which are highly liquid. The values of these investments are subject to the conditions of the markets in which they are traded. Past fluctuations in these markets have had little effect on the liquidity of the Company. The Company has relatively little exposure to lower grade fixed income investments which might be especially subject to liquidity problems due to thinly traded markets.
As disclosed in Note 12 to the consolidated financial statements, in 2006, the amount that The National Security Group’s insurance subsidiaries can transfer in the form of dividends to the parent company is limited to $934,000 in the life insurance subsidiary and $4,222,000 in the property/casualty insurance subsidiary. However, that condition poses no current short-term or long-term liquidity concerns for the parent company.
With the consolidation of 50% owned subsidiary The Mobile Attic, Inc., triggered by preexisting debt guarantees and the adoption of Financial Accounting Standards Board Interpretation 46 (FIN 46R), the Company has no off balance sheet arrangements.
The ratios of Total Adjusted Capital to Authorized Control Level RBC for The National Security Group’s life/health and property/casualty insurance subsidiaries are all in excess of 6.2 to 1 at December 31, 2006.
National Security Insurance Company (life insurer) has regulatory adjusted capital of $10.30 and $10.78 million at December 31, 2006 and 2005, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 11.7 and 13.3 at December 31, 2006 and 2005 respectively. Accordingly, National Security Insurance Company exceeds the minimum RBC requirements.
Omega One Insurance Company (property/casualty insurer), which began writing business in late 1995, has regulatory adjusted capital of $9.0 million and $8.0 million at December 31, 2006 and 2005, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 21.8 and 17.4 at December 31, 2006 and 2005, respectively. Accordingly, Omega One Insurance Company exceeds the minimum RBC requirements.
some of the more critical judgment areas in regards to the application of our accounting policies and their affect on our financial condition and results of operations.
At December 31, 2006, the estimated reinsurance recoverable recorded was $2,242,000. The Company does not anticipate any issues with collection of the recorded amount.
NSFC and Omega generally reinsure with third parties any liability in excess of $225,000 on any single policy. In addition, the property and casualty subsidiaries have catastrophe excess reinsurance, which protects it in part with respect to aggregate property losses arising out of a single catastrophe, such as a hurricane. In 2006, the property and casualty subsidiaries had catastrophe protection up to a $42.5 million loss with a retention/deductible of $3 million. Based on an evaluation using actual NSFC and Omega exposures and catastrophe modeling based on a 250
Deferred income taxes are created when there are differences between assets and liabilities for tax and financial reporting purposes, as well as tax credits, net operating losses and other carry forwards. SFAS 109 “Accounting for Income Taxes,” requires that deferred tax assets be reduced by a valuation allowance if, based on the available evidence, it is more likely than not that all of the recorded deferred tax assets will not be realized in future periods. This standard requires management to exercise judgment in determining whether or not the deferred tax asset is realizable.
At December 31, 2006, there is no evidence to suggest to management that any deferred tax asset is unrealizable. For more information regarding deferred income taxes, please see Note 7 to our financial statements.
We have audited the accompanying consolidated balance sheets of The National Security Group, Inc. and subsidiaries as of December 31, 2006 and 2005 and the related consolidated statements of income, shareholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2006. Our audits also included the financial statement schedules listed in the Index at page 34. These consolidated financial statements and schedules are the responsibility of the company’s management. Our responsibility is to express an opinion on these consolidated financial statements and schedules based on our audits.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of The National Security Group, Inc. and subsidiaries as of December 31, 2006 and 2005, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2006 in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
Fixed maturities held-to-maturity, at amortized cost (estimated fair value: 2006 - $18,172;
Fixed maturities available-for-sale, at estimated fair value (cost: 2006 - $62,980;
Accounts receivable, less allowance for credit losses (2006 - $10; 2005- $48)
Preferred stock, $1 par value, 500,000 shares authorized, none issued or outstanding
The accompanying consolidated financial statements also include an investment in affiliate, which consists of a fifty percent interest in The Mobile Attic, Inc. and its wholly owned subsidiary established in January of 2004, Mobile Attic Franchising Company (MAFCO). The Mobile Attic, Inc. is a portable storage leasing company that began operations in 2001. MAFCO was established in the first quarter of 2004 to conduct the business of selling Mobile Attic portable storage leasing franchises. Effective in the first quarter of 2004 the Company consolidated the accounts of Mobile Attic, Inc. and subsidiary MAFCO according to guidance in Financial Accounting Standards Board Interpretation 46 as revised December 2003 (FIN 46R).
• 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. The Company and its subsidiaries have no trading securities.
Other invested assets consist principally of state sponsored investments with a portion of the investment yield derived from insurance premium tax credits. These investments are reported at the unpaid principal balance.
Property and equipment is carried at cost less accumulated depreciation and includes expenditures that substantially increase the useful lives of existing property and equipment. Significant cost incurred for internally developed software are capitalized and amortized over estimated useful lives of 3 years. Maintenance, repairs, and minor renovations are charged to expense as incurred. Upon sale or retirement of property and equipment, the cost and related accumulated depreciation are eliminated from the respective account and the resulting gain or loss is included in the results of operations. The Company provides for depreciation of property and equipment using the straight-line method designed to amortize costs over estimated useful lives. Estimated useful lives range up to 40 years for buildings and from 3-8 years for electronic data processing equipment and furniture and fixtures.
The table below presents the carrying value and fair value of the Company’s financial instruments, as defined in accordance with applicable requirements. Fair values of the Company’s financial instruments are estimated by reference to quoted prices from market sources and financial institutions, as well as other valuation techniques. 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
Certain financial instruments, particularly insurance liabilities other than financial guarantees and investment contracts are excluded from the disclosures. In evaluating the Company’s management of interest rate and liquidity risk, the fair values of all assets and liabilities should be taken into consideration.
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 sheet due to their short-term availability or maturity.
When an individual franchise is sold, Mobile Attic agrees to provide certain services to the Franchisee, including training on the operations of the business as well as training on the loading and unloading of the storage containers. Mobile Attic recognizes initial fees as revenue when substantially all initial services required by the franchise agreement are performed, which is generally upon opening of a franchise location.
The costs of acquiring new insurance business are deferred and amortized over the lives of the policies. Deferred costs include commissions, other agency compensation and expenses, and other underwriting expenses directly related to the level of new business produced.
Earnings per share of common stock is based on the weighted average number of shares outstanding during each year. The adjusted weighted average shares outstanding were 2,466,600 (2,466,600 in 2005 and 2004).
In the normal course of business, NSFC seeks to reduce the loss that may arise from catastrophes or other events that cause unfavorable underwriting results by reinsuring certain levels of risk in various areas of exposure with other insurance enterprises or reinsurers. In 2006, NSFC maintained catastrophe reinsurance protection for losses from a single catastrophic event with an upper limit of $42.5 million with a $3 million deductible and 5% coinsurance on reinsured losses up to $17.5 million.
Reinsurance contracts do not relieve the Company of its obligations to policyholders. A failure of a reinsurer to meet their obligation could result in losses to the insurance subsidiaries. Allowances for losses are established if amounts are believed to be uncollectible. At December 31, 2006 and 2005, no amounts were deemed uncollectible. The Company, at least annually, evaluates the financial condition of all reinsurers and evaluates any potential concentrations of credit risk. At December 31, 2006, management does not believe the Company is exposed to any significant credit risk related to its reinsurance program.
SFAS No. 155, Accounting for Certain Hybrid Financial Instruments eliminates the exception from applying SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, to interests on securitized financial assets so similar instruments are accounted for similarly regardless of form. SFAS No. 155 is effective for all financial instruments acquired or issued in an entity’s first fiscal year beginning after September 15, 2006. The adoption of this statement is not expected to have a material impact on the Company’s financial position or results of operations.
SFAS No. 156, Accounting for Servicing of Financial Assets will require entities to recognize a servicing asset or liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract in certain situations. It also requires all separately recognized servicing assets and servicing liabilities to be initially measured at fair value and allows a choice of either the amortization or fair value measurement method for subsequent measurement. The statement is effective for annual periods beginning after September 15, 2006. The adoption of this statement is not expected to have a material impact on the Company’s financial position or results of operations.
years beginning after December 15, 2006. The Company is currently evaluating the impact this interpretation may have on its financial position or results of operations at the time it is adopted.
The accompanying consolidated financial statements have been prepared in conformity with generally accepted accounting principles (GAAP) which vary in certain respects from reporting practices prescribed or permitted by insurance regulatory authorities. The significant differences for statutory reporting include: (a) acquisition costs of acquiring new business are charged to operations as incurred, (b) life policy liabilities are established utilizing interest and mortality factors specified by regulatory authorities, (c) the Asset Valuation Reserve (AVR) and the Interest Maintenance Reserve (IMR) are recorded as liabilities, and (d) non-admitted assets (furniture and equipment, agents’ debit balances and prepaid expenses) are charged directly to surplus.
NSIC - including realized capital (losses) gains of $561, $129, and $(56), respectively
NSIC - including AVR of $ 955, $845, and $1,153, respectively
The amortized cost and aggregate fair value of debt securities at December 31, 2006, 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.
For 2006, gross gains of $2,637,000 ($3,793,000 for 2005 and $2,219,000 for 2004) and gross losses of $86,000 ($66,000 for 2005 and $130,000 for 2004) were realized on sales of available-for-sale-securities.
All unrealized losses are reviewed to determine whether the losses are other than temporary. Factors considered include whether the securities are backed by the U.S. Government or its agencies and concerns surrounding the recovery of full principal. Management believes the unrealized losses are market driven and no ultimate loss will occur.
Total income tax expense varies from amounts computed by applying current federal income tax rates to income before income taxes. The reason for these differences and the approximate tax effects are as follows:
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, 2006, 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, 2006.
Short-term debt consisted of the following as of December 31, 2006 and December 31, 2005:
Long-term debt consisted of the following as of December 31, 2006 and December 31, 2005:
Note payable to bank with an interest rate based on LIBOR (7.12% at December 31, 2005) dated March, 2002; maturity March, 2007. Payments of $112,953 due quarterly with balloon payment at maturity. Unsecured
Note payable to bank with an interest rate based on prime minus 25 basis points (7.00% at December 31, 2005) dated June, 2004; maturity June, 2007. Interest payments due quarterly. Secured by Mobile Attic leasing equipment.
Aggregate maturities of long-term debt for each of the five years subsequent to December 31, 2006 are as follows (dollars in thousands): 2007-$11,580; 2008-$0; 2009-$0; 2010-$0 and 2011-$0. The remaining $9,279 is due in 2035.
The subordinated debentures (debentures) have the same maturities and other applicable terms and features as the associated trust preferred securities (TPS). The debentures bear a fixed interest rate until December 15, 2015. Payment of interest may be deferred for up to 20 consecutive quarters; however, stockholder dividends cannot be paid during any extended interest payment period or any time the debentures are in default. All have stated maturities of thirty years but may be redeemed at any time following the tenth anniversary of issuance. None of the securities require the Company to maintain minimum financial covenants. The Company has guaranteed that amounts paid to the Trust (discussed in Note 2) will be remitted to the holders of the associated TPS. This guarantee, when taken together with the obligations of the Company under the
debentures, the Indentures pursuant to which the debentures were issued, and the related trust agreement (including obligations to pay related trust fees, expenses, debt and other obligations with respect to the TPS), provides a full and unconditional guarantee of amounts due the Trust. The amount guaranteed is not expected to
at any time exceed the obligations of the TPS, and no additional liability has been recorded related to the guarantee.
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:
The provision for claims and claim adjustment expenses for prior years (net of reinsurance recoveries) increased in 2006 primarily due to adverse development related to significant storm related losses in a concentrated coverage area in December of 2005 with the ultimate settlement of these claims exceeding preliminary estimates and due to adverse development of a single commercial auto policy with a loss occurring in 2004 and increases in reserves on these claims were made in late 2006. The provision for claims and claim adjustment expenses for prior years (net of reinsurance recoveries) decreased in 2005 and 2004 because of lower-than-anticipated losses primarily in homeowners and dwelling fire lines of business. As a result of changes in estimates of insured events in prior years, the provision for claims and claim adjustment expenses (net of reinsurance recoveries) decreased in 2005 by an additional $500,000.
In 1989, the Company and its subsidiaries established a retirement savings plan (401K Plan) and transferred the assets from the defined contribution profit sharing plan into the new plan. All full-time employees who have completed six months of service at January 1 or July 1 are eligible to participate and all employee contributions are fully vested for employees who have completed 1,000 hours of service in the year of contribution. Company matching contributions for 2006, 2005, and 2004 amounted to $314,000, $217,000, and $189,000, respectively. The Company contributes matching contributions up to 5% of compensation subject to government limitations.
In 1987, the Company established a non-qualified deferred compensation plan for its Board of Directors. The Board members had 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 2006, 2005, and 2004 amounted to approximately $198,000, ($259,000), and $208,000, respectively. The directors’ non-qualified deferred compensation plan was frozen on December 31, 2004, and deferrals are no longer allowed. No deferrals of directors’ fees were allowed in 2005 prior to adoption of a new non-qualified plan. A new non-qualified plan became effective January 1, 2006 under which directors are allowed to defer all or a portion of directors’ fees into various investment options.
Under applicable Alabama insurance laws and regulations, Omega is required to maintain a minimum total surplus (to include both paid-in and contributed and unassigned surplus) of $600,000.
significantly impact consolidated earnings and the Company’s consolidated financial position, it remains management’s opinion, based on information presently available, that the ultimate resolution of these matters will not have a material impact on the Company’s consolidated financial position.
Registrant's Annual Report as referenced in Form 10-K, Part II, Item 8, page 36.