Premium income and mortality and expense charges produced by the Company's multi-line exclusive agency force for the last three years are as follows:
The total income amount for 1998 represents a 3.2% increase over 1997, compared with a 6.8% increase in 1997 over 1996. The Company anticipates increased growth in these lines in 1999 as a result of improvements made in two key products in 1998.
Investment income increased 9%, 6% and 8% in 1998, 1997 and 1996, respectively. Growth in the overall investment portfolio, fluctuations in interest rates on new investments, and the mix of securities account for the variance in yearly increases.
CSI provides the Company with commission income from brokerage agreements with other property and casualty insurance carriers. These carriers supply the Company's multi-line agents with property and casualty products that the Company's affiliated property and casualty companies do not underwrite. CSI earned $1,274,450 in 1998, $1,236,114 in 1997 and $561,555 in 1996. In late 1996, CSI in conjunction with its property and casualty affiliate, finalized a contract to transfer management of its property and casualty affiliate's multi-peril crop and crop hail insurance to Blakely Crop Hail, a Kansas based company. Through the brokerage agreement with Blakely, CSI will receive an override commission based on premium volume generated by sales of multi-peril crop and crop hail insurance. During 1998 and 1997, $537,000 and $780,000, respectively, of gross income was realized under this agreement.
CSI also received over-ride commissions of $819,000, $855,000 and $606,000 from a non-standard auto insurer during 1998, 1997 and 1996, respectively. In 1998, CSI added an additional non-standard automobile insurer.
Another subsidiary, CSMR provides the Company with commission income from brokerage agreements with other life and health insurance companies. These companies supply the Company's multi- line agents with life and health products that the Company does not want to underwrite. CSMR earned $295,053 in 1998, $305,086 in 1997 and $320,148 in 1996. The decline in CSMR earnings in 1998 resulted from the utilization of all of its tax loss carry forwards during 1997. On an overall basis, total brokerage revenues amounted to $3,214,216, $3,141,695 and $1,785,761 in 1998, 1997 and 1996, respectively.
Benefits including reserve increases for the last three years on individual life and guaranteed issue/simplified issue products are as follows:
Benefits for individual life and guaranteed issued simplified issue as a percentage of premiums and mortality and expense charges for those products were 67% in 1998 and 66% for 1997 and 1996. The Company expects the ratio to range between 65% and 70%.
Operating expenses and amortization of policy acquisition costs as a percentage of total premium income, mortality and expense charges, and brokerage income were 35%, 41% and 45% for 1998, 1997 and 1996, respectively. The higher percentage in 1996 was due to the elimination of group health premiums received from the Company's agents and employees. In addition, during the fourth quarters of 1998 and 1997, the Company adjusted downward per policy costs and mortality assumptions on interest sensitive products to reflect improvement in actual costs and mortality. The effect of these adjustments was to lower the amortization of deferred acquisition costs.
Quarterly earnings may fluctuate significantly during the year. These fluctuations are due to irregular claims occurrences and the timing of certain investment transactions.
The Year 2000 issue refers generally to the data structure and processing problem that may prevent systems from properly processing date-sensitive information when the year changes to 2000. The Year 2000 issue affects information technology ("IT") systems, such as computer programs and various types of electronic equipment that process date information by using only two digits rather than four digits to define the applicable year, and thus may recognize a date using "00" as the year 1900 rather than the year 2000. The issue also affects some non-IT systems, such as devices which rely on a micro-controller to process date information. The Year 2000 issue could disrupt a company's operations by generating erroneous data or causing system failures or miscalculations.
Phase 3: External Relationships and Other IT and Non-IT Systems. This phase includes the development of plans to address the Company's embedded technology, such as micro- controllers, secondary infrastructure issues, the assessment of Year 2000 readiness of material third party relationships, and other operational and contingency plans. The Company has completed its inventory of all systems and relationships that fall under this category, and currently is in the process of assessing its Year 2000 exposure. This phase of the project is expected to be complete by June 1999 for secondary infrastructure issues, and carry through the first quarter of 2000 for other items. The anticipated costs of this phase for 1999 is $350,000. Included in this amount is $300,000 budgeted to implement, if necessary, contingency plans to prevent business interruptions should critical third parties fail to complete their Year 2000 efforts. This amount does not include the costs of reallocating internal resources.
The Company has system contingency services contracted through a major third party provider and is presently refining support related to potential Year 2000 issues. In addition, the Company has plans to
The above Year 2000 discussion contains forward-looking statements reflecting management's current assessment and estimates with respect to the Company's Year 2000 readiness efforts and the impact of Year 2000 issues on the Company's business, financial condition and results of operations. Various factors, many of which are beyond the control of the Company, could cause actual plans and results to differ materially from those contemplated by such assessments, estimates and forward-looking statements. Some of these factors include, but are not limited to, the accuracy of the Year 2000 assurances, disclosures or representations by the Company's customers, distributors, vendors, suppliers, financial institutions and other third parties with whom it has material relationships, availability of qualified personnel and other information technology resources and any actions of third parties with respect to Year 2000 problems.
For purposes of presenting its statements of cash flows, the Company considers all short-term investments to be cash equivalents. Short-term investments have maturity dates of less than three months.
The Company accounts for investments under the provisions of Statement of Financial Accounting Standards No. 115 (SFAS No. 115), Accounting for Certain Investments in Debt and Equity Securities.
Investments deemed to have a loss in value, which is other than temporary, are written down to their estimated net realizable value. Unrealized gains and losses on fixed maturities available for sale are excluded from earnings and are reported within stockholders' equity as a component of accumulated other comprehensive income, net of deferred taxes and amounts attributable to the Company's universal life and annuity products.
Basic earnings per share are based on the weighted average number of common shares outstanding adjusted for the following stock splits effected in the form of a stock dividend.
Effective January 1, 1998, the Company adopted the provisions of SFAS No. 130, Reporting Comprehensive Income. This statement establishes standards for reporting and displaying comprehensive income and its components in a full set of general purpose financial statements. SFAS No. 130 requires al items that are required to be recognized under accounting standards as components of comprehensive income to be reported in a financial statement that is displayed in equal prominence with the other financial statements. The term "comprehensive income" is used in the statement to describe the total of all components of comprehensive income including net income. "Other comprehensive income" refers to revenues, expenses, gains, and losses that are included in comprehensive income but excluded from earnings under current accounting standards, and consists of items recorded directly in equity under SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities.
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities (SFAS No. 133). SFAS No. 133 is effective for financial statements for all fiscal quarters of all fiscal years beginning after June 15, 1999. The Company does not believe the provisions of SFAS No. 133 will have a significant impact on the financial statements upon adoption.
In October 1998, the FASB issued SFAS No. 134, Accounting for Mortgage-Backed Securities Retained After the Securitization of Mortgage Loans Held for Sale by a Mortgage-Banking Enterprise, an amendment of FASB Statement No. 65 (SFAS No. 134). SFAS No. 134 is effective for the first quarter beginning after December 15, 1998. The Company does not believe the provisions of SFAS no. 134 will have a significant impact on the financial statements upon adoption.
The amortized cost and estimated fair value of debt securities at December 31, 1998, by contractual maturity, is shown below. 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.
The composition of future policy benefits, and the significant assumptions used in their development are as follows:
The Company participates in certain business assumed from federally sponsored group pools. Further, it is the Company's general policy to reinsure individual life insurance in excess of $100,000, group life insurance in excess of $55,000, major medical payments in excess of $75,000 annually per individual, accidental deaths, and certain disability income coverage. Amounts ceded under reinsurance agreements become liabilities of the Company should the reinsurers be unable to meet their obligations under the reinsurance agreements. The effect of reinsurance assumed and ceded on certain financial statement accounts is as follows:
Deferred income taxes reflect the net tax effects of temporary differences between the carrying values of assets and liabilities for financial reporting purposes and Federal income tax purposes. The net deferred tax liability at December 31, 1998 and 1997 is composed of the tax-effected temporary differences related to the following amounts:
Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes, (SFAS No. 109) specifically identifies certain temporary differences for which deferred tax liabilities are not recognized unless it becomes apparent that those temporary differences will reverse in the foreseeable future. The Company has not recorded a deferred tax liability for one such item entitled "policyholders' surplus" created by Federal income tax regulations in effect prior to 1984. Certain untaxed income accumulated in this special memorandum tax account will become taxable if distributions, other than stock dividends, are made in excess of certain amounts accumulated in another special memorandum tax account entitled "shareholders' surplus." The balance in the "policyholders' surplus" account at December 31, 1998 was $4,203,000. The balance in the "shareholders' surplus" account at December 31, 1998 was $36,758,000. The Company does not anticipate any of the "policyholders' surplus" account becoming taxable in the foreseeable future.
The post-retirement benefit obligation was determined by application of the terms of the plan using relevant actuarial assumptions. Health care costs are projected to increase at annual rates ranging from 0% in 1998 up to 5% in 2005 and thereafter. A 1% annual increase in these assumed cost trend rates would increase the accumulated post-retirement benefit obligation by December 31, 1998 by approximately $19,970 and the service and interest cost components of the net periodic post-retirement benefit cost for 1998 approximately $1,348. A 1% annual decrease in these assumed cost trends would decrease the accumulated post-retirement benefit obligation at December 31, 1998 by approximately $17,295 and the service and interest components of the net periodic post-retirement benefit cost by $1,167. The assumed discount rate used in determining the accumulated post-retirement obligation was 6.75% at December 31, 1998 and 7.25% at December 31, 1997.
CSMI, through its wholly owned subsidiary, Shield Insurance Company, controls approximately 33% of the Company's outstanding common stock. Most officers and directors of the Company hold similar positions with Cotton States Mutual.
Certain general expenses are allocated to the Company by Cotton States Mutual. These expenses, such as salaries, advertising, rents, etc., represent the Company's share of expenses initially paid by Cotton States Mutual and are allocated based on specific identification or, if undeterminable, generally on the
Included in other assets are deferred software costs relating to various system development projects of the Company and Cotton States Mutual that were amortized over five years, and were fully amortized as of December 31, 1996. Rent for use of the software of approximately $106,000 in 1998 and 1997, $448,000 in 1996 has been charged to Cotton States Mutual and Shield. The Company recorded amortization expense of approximately $342,000 in 1996.
The Company has various stock option plans for the Company's officers and key employees, as well as directors. Under the employee plan, options may be granted to purchase up to 937,500 shares of the Company's stock at a per share price of not less than 100% of fair market value at date of grant. At December 31, 1998, there had been 538,156 options exercised, 63,415 options were exercisable leaving 335,929 available for grant under the Plan. Under the directors' plan, options are granted based on the level of directors' fees at a per share price of 50% of fair market value at date of grant. The employee and directors' options have a term of ten years and are not subject to any vesting requirements. The weighted-average remaining contractual life on options outstanding at December 31, 1998 is four years. The weighted-average grant date fair value of options granted during 1998, 1997 and 1996 was $15.81, $8.24 and $4.53, respectively. A summary of options follows:
The per share weighted-average fair value of stock options and restricted stock granted was estimated using an option pricing model with the following weighted average assumptions: expected life of five years for options and three years for restricted stock for all years, expected dividend yield of 1% for 1998 grants and 2.1% for all other years, risk-free interest rate of 5.5% for 1998 and 1997 grants and 6.0% for 1996 grants, and an expected volatility of 67% for 1998 grants, 52% for 1997 grants and 30% for 1996 grants.
The Georgia Insurance Code limits dividends in any one year to the greater of statutory earnings, excluding realized capital gains, or 10% of statutory surplus, unless the expressed permission of the Georgia Insurance Department is obtained. Dividend payments to shareholders are further limited by the Georgia Insurance Code to unassigned statutory surplus, which at December 31, 1998 was approximately $22,000,000. The excess of retained earnings determined in accordance with generally accepted accounting principles over unassigned statutory surplus is not available for payment of dividends. The Company may pay a dividend amounting to $3,100,000 in 1999 without approval.
We have audited the accompanying consolidated balance sheets of Cotton States Life Insurance Company and subsidiaries (the "Company") as of December 31, 1998 and 1997, and the related consolidated statements of earnings, shareholders' equity, comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 1998. 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.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Cotton States Life Insurance Company and subsidiaries at December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1998, in conformity with generally accepted accounting principles.
The accompanying consolidated financial statements for Cotton States Life Insurance Company and subsidiaries (the "Company") were prepared by management, which is responsible for the objectivity and integrity of these statements. The consolidated financial statements have been prepared in conformity with generally accepted accounting principles and, where appropriate, are based on management's best estimates and judgements. Other financial data about the Company contained in this annual report is consistent with that presented in the consolidated financial statements.
Earnings per share amounts have been adjusted for the April 1997 and January 1998 five-for four stock and three-for -two stock splits, respectively.