IHC Specialty Benefits leases 6,391 square feet of office space in Minneapolis, Minnesota as its corporate headquarters.
Medical stop-loss was marketed to employer groups that self-insure their medical risks. In 2016, the Company sold a managing general underwriter that was its principal source of medical stop-loss business and simultaneously 100% co-insured all of the in-force medical stop-loss business of Standard Security Life and Independence American. IHC’s block of medical stop-loss business is in run-off.
On December 22, 2017, the Tax Cuts and Jobs Act (the “Tax Act”) was enacted. The Tax Act made broad and complex changes to the U.S. tax code, including, but not limited to reducing the federal corporate income tax rate from 35% to 21%. In 2017, the Company completed its accounting for the income tax effects under the Tax Act that are relevant to the Company using best estimates based on reasonable and supportable assumptions and available inputs and underlying information. The Consolidated Financial Statements reflect all such adjustments and disclosures related to the Tax Act. Refer to Note 11 of the Consolidated Financial Statements for more information regarding the impacts of the Tax Act.
Income from operations of $1.89 per share, diluted, for the year ended December 31, 2018 compared to $2.63 per share, diluted, for the same period in 2017.
Consolidated investment yields (on an annualized basis) of 3.0% in 2018 and 2.9% in 2017; and
Book value of $30.16 per common share at December 31, 2018 compared to $28.98 at December 31, 2017.
The Specialty Health segment reported $28.7 million of income before taxes for the year ended December 31, 2018 compared to $13.2 million for the comparable period in 2017.
oPremiums earned increased 1.4% or $2.6 million for the year ended December 31, 2018 over the comparable period in 2017. Hospital indemnity premiums increased $26.7 million, primarily due to increased demand for this product as a result of the federal regulation limiting the duration of short-term medical (“STM”) products from April 1, 2017 through September 30, 2018, partially offset by a corresponding decrease in STM premium during this period as a result of the shorter duration.
(B)Expense ratio represents net commissions, administrative fees, premium taxes and other underwriting expenses divided by premiums earned.
The Medical Stop-Loss segment reported income before taxes of $0.2 million for the year ended December 31, 2018 as compared to income before taxes of $2.8 million for the year ended December 31, 2017. Amounts recorded for investment income, and benefits, claims and reserves in the Medical Stop-Loss segment represent the activity of the remaining blocks of medical stop-loss business in run-off due to the sale of this segment in 2016.
The Company believes that its liability for policy benefits and claims is reasonable and adequate to satisfy its ultimate liability. The Company primarily uses its own loss development experience, but will also supplement that with data from its outside actuaries, reinsurers and industry loss experience as warranted. To illustrate the impact that Loss Ratios have on the Company’s loss reserves and related expenses, each hypothetical 1% change in the Loss Ratio for the health business (i.e., the ratio of insurance benefits, claims and settlement expenses to earned health premiums) for the year ended December 31, 2018, would increase reserves (in the case of a higher ratio) or decrease reserves (in the case of a lower ratio) by approximately $3.0 million with a corresponding increase or decrease in the pre-tax expense for insurance benefits, claims and reserves in the Consolidated Statement of Income. Depending on the circumstances surrounding a change in the Loss Ratio, other pre-tax amounts reported in the Consolidated Statement of Income could also be affected, such as commission expense.
Policy claims and reserves in the Specialty Health segment decreased since December 31, 2017. During 2018, pending inventory levels have come down causing more claims to be known rather than estimated and this has revealed more favorable experience than previously expected. This has changed some of our thoughts around experience expectations and has resulted in some favorable reserve adjustments. For the Specialty Health business, incurred but not reported (“IBNR”) claims liabilities plus expected development on reported claims are calculated using standard actuarial methods and practices. The “primary” assumption in the determination of Specialty Health reserves is that historical Claim Development Patterns are representative of future Claim Development Patterns. Factors that may affect this assumption include changes in claim payment processing times and procedures, changes in time delay in submission of claims, and the incidence of unusually large claims. Liabilities for policy benefits and claims for specialty health medical and disability coverage are computed using completion factors and expected Net Loss Ratios derived from actual historical premium and claim data. The reserving analysis includes a review of claim processing statistical measures and large claim early notifications; the potential impacts of any changes in these factors are not material. The Company has business that is serviced by third-party administrators. From time to time, there are changes in the timing of claims processing due to any number of factors including, but not limited to, system conversions and staffing changes during the year. These changes are monitored by the Company and the effects of these changes are taken into consideration during the claim reserving process. Other than these considerations, there have been no significant changes to methodologies and assumptions from the prior year.
Management believes that the Company's methods of estimating the liabilities for policy benefits and claims provided appropriate levels of reserves at December 31, 2018. Changes in the Company's policy benefits and claims estimates are recorded through a charge or credit to its earnings.
The Company classified all of its fixed maturities as available-for-sale. These investments are carried at fair value with unrealized gains and losses reported through other comprehensive income (loss). Fixed maturities available-for-sale totaled $453.5 million and $441.9 million at December 31, 2018 and 2017, respectively. Premiums and discounts on debt securities purchased at other than par value are amortized and accreted, respectively, to interest income in the Consolidated Statements of Income, using the constant yield method over the period to maturity. Equity securities are carried at fair value. In 2017, unrealized gains and losses on equity securities were reported in other comprehensive income (loss). As a result of a change in accounting principle, the Company recorded a cumulative effect adjustment of $.3 million, net of tax, on January 1, 2018 to reclassify the unrealized gains and losses on equity securities from other comprehensive income (loss) to retained earnings. As of January 1, 2018, changes in unrealized gains and losses on equity securities are reported in the Consolidated Statements of Income. Realized gains and losses on fixed maturities available-for-sale and equity securities are computed using the specific identification method and are reported in the Consolidated Statements of Income on the trade date.
In assessing corporate debt securities for other-than-temporary impairment, the Company evaluates the ability of the issuer to meet its debt obligations and the value of the company or specific collateral securing the debt position. For mortgage-backed securities where loan level data is not available, the
Company uses a cash flow model based on the collateral characteristics. Assumptions about loss severity and defaults used in the model are primarily based on actual losses experienced and defaults in the collateral pool. Prepayment speeds, both actual and estimated, are also considered. The cash flows generated by the collateral securing these securities are then determined with these default, loss severity and prepayment assumptions. These collateral cash flows are then utilized, along with consideration for the issue’s position in the overall structure, to determine the cash flows associated with the mortgage-backed security held by the Company. In addition, the Company evaluates other asset-backed securities for other-than-temporary impairment by examining similar characteristics referenced above for mortgage-backed securities. The Company evaluates U.S. Treasury securities and obligations of U.S. Government corporations, U.S. Government agencies, and obligations of states and political subdivisions for other-than-temporary impairment by examining the terms and collateral of the security.
Other intangible assets are amortized to expense over their estimated useful lives and are subject to impairment testing. Any impairment of other intangible assets would be charged to expense. No impairment charges for intangible assets were required in 2018 or 2017.
In 2018, premiums earned increased $38.9 million over the comparable period of 2017. The increase is primarily due to: (i) a $36.7 million increase in earned premiums from the Group disability, life, DBL and PFL segment primarily due to premiums from the new PFL rider on DBL policies; and (ii) an increase of $2.6 million in the Specialty Health segment principally as a result of a $26.7 million increase in premiums from the hospital indemnity line as a result of higher demand; a $9.2 million increase in the group gap line of business due to new distribution, $2.6 million in increased pet premiums, and $.8 million in increased premiums from other ancillary lines; partially offset by decreases of $20.7 million in the STM line of business, $3.6 million in the dental line of business, and $5.1 million in occupational accident and $7.3 million in the international medical business premiums both due to run-off; partially offset by (iii) a decrease of $.3 million in the Medical Stop Loss segment as a result of the exit from this line of business.
Total net investment income increased $.6 million. The overall annualized investment yields were 3.0% in 2018 and 2.9% in 2017.
The Company had net investment losses of $1.0 million in 2018 compared to net investment gains of $2.5 million in 2017. These amounts include gains and losses from sales of fixed maturities available-for-sale, equity securities and other investments. Decisions to sell securities are based on management's ongoing evaluation of investment opportunities and economic and market conditions, thus creating fluctuations in gains and losses from period to period.
Fee income increased $2.1 million in 2018 compared to 2017 primarily due to increased fee income from the Specialty Health segment, including PetPartners which was acquired in late March of 2017.
The effective tax (benefit) rate was 22.6% in 2018 compared to (48.7)% in 2017. The tax rate in 2018 is primarily the result of a 28% blended tax rate applicable to the first six months of 2018 as a result of the Company’s June 30 fiscal tax year, and the new 21% statutory tax rate applicable to the last six months of 2018, as a result of the 2017 Tax Act, partially offset by tax benefits recorded in connection with share-based compensation. In 2017, the Company: (i) completed its accounting for the impact of the Tax Act and recorded a deferred income tax expense of $9.4 million due to the re-measurement of deferred tax assets, liabilities and related valuation allowance; (ii) wound down the operations and dissolved a subsidiary recognizing an estimated $11.6 million income tax benefit on a worthless stock deduction of $33.1 million, representing the Company’s tax basis on its unrecovered investment in that subsidiary; and (iii) recorded a $20.3 million credit to federal income taxes in 2017 as a result of the reduction in AMIC’s valuation allowance for increased income projections and associated utilization of Federal net operating loss carryforwards. AMIC’s valuation allowance was due to the probability that AMIC might not be able to fully utilize its prior tax year federal net operating loss carryforwards ("NOLs").
The nature and quality of insurance company investments must comply with all applicable statutes and regulations, which have been promulgated primarily for the protection of policyholders. Although the Company's gross unrealized losses on fixed maturities available-for-sale securities totaled $11.6 million at December 31, 2018, 99.3% of the Company’s fixed maturities were investment grade and continue to be rated on average AA. The Company marks all of its available-for-sale securities to fair value through accumulated other comprehensive income or loss. These investments tend to carry less default risk and, therefore, lower interest rates than other types of fixed maturity investments. The Company does not have any non-performing fixed maturity investments at December 31, 2018.
Certain fixed maturities, primarily municipal obligations, in our investment portfolio are insured by financial guaranty insurance companies. The insurance, however, does not enhance the credit ratings on these securities. The following table summarizes the credit quality of our fixed maturity portfolio, as rated, at December 31, 2018:
The Company reviews its investments regularly and monitors its investments continually for impairments, as discussed in Note 1(F) (v) of the Notes to Consolidated Financial Statements in Item 8 of this report. The Company did not record any other-than-temporary impairment losses in 2018 or 2017. At December 31, 2018, there were no securities with fair values less than 80% of their amortized cost.
The unrealized losses on fixed maturities available-for-sale securities have been evaluated in accordance with the Company's impairment policy and were determined to be temporary in nature at December 31, 2018. From time to time, as warranted, the Company may employ investment strategies to mitigate interest rate and other market exposures. Further deterioration in credit quality of the companies backing the securities, further deterioration in the condition of the financial services industry, imbalances in liquidity that exist in the marketplace, worsening of current economic conditions, or declines in real estate values may further affect the fair value of these securities and increase the potential that certain unrealized losses be designated as other-than-temporary in future periods which may cause the Company to incur additional write-downs.
All goodwill carrying amounts are evaluated for impairment at the reporting unit level which is equivalent to an operating segment. Goodwill was allocated to each reporting unit or operating segment at the time of acquisition. At December 31, 2018, total goodwill was $50.7 million, all of which was
Management uses a significant amount of judgment in estimating the fair value of the Company’s reporting units. The key assumptions underlying the fair value process are subject to uncertainty and change. The following represent some of the potential risks that could impact these assumptions and the related expected future cash flows: (i) increased competition; (ii) an adverse change in the insurance industry and overall business climate; (iii) changes in state and federal regulations; (iv) rating agency downgrades of our insurance companies; and (v) a sustained and significant decrease in our share price and market capitalization.
All other lines, primarily life and other individual health products, experienced favorable development of $2.6 million. The favorable development in life reserves is primarily due to the group term life business developing better than expected claims incidence in the prior incurred years.
Due to its strong capital ratios, broad licensing and excellent asset quality and credit-worthiness, the Insurance Group remains well positioned to increase or diversify its current activities. It is anticipated that future acquisitions or other expansion of operations will be funded internally from existing capital and surplus and parent company liquidity. In the event additional funds are required, it is expected that they would be borrowed or raised in the public or private capital markets to the extent determined to be necessary or desirable. The Company has no long-term debt outstanding at December 31, 2018 or 2017.
Increase our “insuretech” footprint as a significant driver of growth through our recent acquisition of a cloud-based technology platform for individuals and small groups and licensing of a cloud-based platform for our expansion into the senior market.
Expand its owned call center and career advisor channels. During the 2019 open enrollment period, our HealtheDeals call center employed up to 49 sales representatives in three locations, which is significantly larger than the prior year. This is a highly scalable model subject to continuing to generate quality leads at an affordable price. One of our call center’s key relationships is supporting inquiries received from members of USAA, an insurance, banking, and investment services provider serving millions of military members and their families. We are also ramping up our organic lead generation capabilities and sources of paid leads, and making inroads into large affinity groups that will make our products available to their members. In each case, our call center agents are able to offer a number of quality health insurance choices, including STM, hospital indemnity (“HIP”), dental and gap plans underwritten by IHC’s carriers as well as Affordable Care Act (“ACA”) and other products available through nationally recognized insurance companies. Greater access to leads has also made it possible to expand our network of career advisors, and we expect growth in this division in 2019 as we improve our systems and product offerings.
Enter the senior market. Given the expansion of call center representatives and career advisors, we will expand our offerings to serve the rapidly expanding senior market. Initially, we will import Medicare Supplement, Medicare Advantage, term life and final expense products from other carriers to supplement dental, vision and HIP products underwritten by IHC’s insurance companies. Over time, we will explore filing some of the products that we don’t currently underwrite on IHC paper as well. Over 10,000 people in the United States turn age 65 every day. We believe this affords us an outstanding sales opportunity outside of open enrollment for ACA plans.
Continue to diversify our sources of pet insurance premium through (i) the expansion of marketing efforts by our subsidiary, PetPartners, (ii) increased white-label distribution opportunities where PetPartners acts as administrator and Independence American is the risk taker, and (iii) increased premium for Independence American through our relationships as an underwriter for PetFirst, a company focused on shelters, rescues and animal welfare marketing space, and Pets Best, which excels
Continue to increase our DBL/PFL premiums. Effective January 1, 2018, Standard Security Life began selling a new rider (“Paid Family Leave” or “PFL”) as part of our New York DBL policies. This is a result of New York State requiring employers to provide PFL, which would cover job-protected paid leave to care for a new child or sick family member or to assist when someone is called to active military service. This has more than doubled our DBL block. The PFL product rate is set by the NYSDFS and provides for a potential risk adjustment payment in the event the company has better experience than the industry.
Achieve increases in both long-term and short-term disability premiums in 2019 generated from new distribution relationships.
Accomplish increases in life and disability premium by developing additional strategic functional and distribution partnerships, broaden worksite portfolio, and enhance Business to Business to Consumer website functionality.
Continue to evaluate strategic transactions. We plan to deploy some of our cash to make additional investments and acquisitions that will bolster existing or new lines of business.