The National Security Group, Inc. operates in ten states with 48.0% of total premium revenue generated in the states of Alabama and Mississippi. The Company is made up of the following two segments:
The Property and Casualty (P&C) segment is the most significant segment, accounting for 90.6% of gross earned premium in 2016. The P&C segment has insurance in-force in the states of Alabama, Arkansas, Georgia, Louisiana, Mississippi, Oklahoma, South Carolina, and Tennessee.
Overview-Year Ended December 31, 2016 compared to Year Ended December 31, 2015
For the year ended December 31, 2016, net income for the Company totaled $3,063,000 or $1.22 per share, compared to net income of $4,697,000, $1.87 per share, for the year ended December 31, 2015, a year over year decrease of $1,634,000. Results for 2016 were negatively impacted by Hurricane Matthew which made landfall on the coast of South Carolina during early October 2016. On a gross basis, Hurricane Matthew added $8,386,000 to P&C segment incurred losses and LAE ($4,000,000 on a net basis). The P&C segment was not impacted by a hurricane during 2015. Pretax income from operations in 2016 totaled $3,096,000 compared to $5,844,000 in 2015. Pretax income from operations declined $2,748,000 in 2016 primarily due to the increase in catastrophe claims in the P&C segment resulting from Hurricane Matthew.
Financial results for the year ended December 31, 2016 and 2015 were as follows:
Our primary management focus over the last four years has been rate adequacy/underwriting profitability, building balance sheet strength, capital growth and improved management of risk concentrations, particularly in our property and casualty segment. While this focus has been successful, these actions have led to rate increases in several states
For the year ended December 31, 2016, pretax income from operations was $3,096,000 compared to $5,844,000 for the year ended December 31, 2015, a decrease of $2,748,000. The primary reason for the decline in pretax income from operations in 2016 compared to pretax income from operations in 2015 was an increase in catastrophe related claims in the P&C segment from Hurricane Matthew. In addition to Hurricane Matthew, the P&C segment was impacted by numerous non-hurricane catastrophe events in 2016. In total, catastrophe losses, net of reinsurance recoveries, (including Hurricane Matthew) increased policyholder benefits and settlements expenses $4,617,000 in 2016.
For the year ended December 31, 2016, the P&C segment had a GAAP combined ratio of 94.6%. Hurricane Matthew reported claims (on a net basis) coupled with non-hurricane cat event reported claims totaled $9,742,000 and increased the P&C segment combined ratio 17.5 percentage points. In comparison, during 2015, the P&C segment had reported cat event claims totaling $5,373,000 which added 10 percentage points to the prior year combined ratio. The most significant cat event in 2015 was an early October event in South Carolina which generated $1,575,000 in incurred catastrophe losses.
As discussed above, management has made improved underwriting profitability a primary focus area over the past four years and we have seen the success of this undertaking in our results. Despite the negative impact of Hurricane Matthew in the P&C segment, 2016 was the fourth consecutive year the Company had a combined ratio below 100%. Efforts to continue improving processes, rate adequacy and ultimately underwriting profitability will continue to be a primary focus for management in the future.
Overview - Balance Sheet highlights at December 31, 2016 compared to December 31, 2015
Invested assets as of December 31, 2016 were $113,156,000 up $599,000, or 0.5%, compared to $112,557,000 as of December 31, 2015. Although invested assets had a slight increase in 2016 compared to 2015, growth of invested assets was adversely impacted by increased claim payments associated with Hurricane Matthew in the fourth quarter of 2016.
The Company, primarily through its insurance subsidiaries, had $7,368,000 in cash and cash equivalents at December 31, 2016, compared to $6,763,000 at December 31, 2015. Cash remained relatively stable, up 8.9%, in 2016 compared to the same period in 2015.
From a revenue standpoint, our life segment is the smaller of our insurance segments contributing 10.2% of total insurance net earned premium revenue in 2016 and 10.6% in 2015. Premium revenues and operating income for the life segment for the year ended December 31, 2016 and 2015 are summarized below (amounts in thousands):
While NSIC composes only 10.2% of premium revenue, the segment makes up 39.5% of consolidated assets. The majority of these assets consist of fixed income investments. Net investment income was up $209,000 or 10.9% at $2,122,000 for the year ended December 31, 2016 compared to $1,913,000 for the same period last year. An increase in life segment invested assets was the primary factor contributing to the increase in net investment income. US Market interest rates began to increase in late 2016 but the impact was marginal in generating additional investment income in 2016.
NSIC ended 2016 with net realized investment gains of $273,000 compared to $313,000 for the same period in 2015. Realized investment gains are highly dependent on several factors including market conditions, tax position and liquidity needs of the Company and can vary significantly from period to period. The primary source of realized investment gains in both 2016 and 2015, were gains from the sale of fixed income investments.
Claims were $5,285,000 through December 31, 2016 compared to $4,687,000 through December 31, 2015; an increase of $598,000 or 12.8%. NSIC experienced an increase in both ordinary life and industrial life related claims in 2016 compared to the same period last year.
For the year ended December 31, 2016 and 2015, insurance taxes, licenses and fees were $199,000 and $180,000, respectively. As a percent of earned premium, insurance taxes, licenses and fees were comparable at 3.2% in 2016 and 2.9% in 2015.
For the year ended December 31, 2016, the life segment had pretax income of $527,000 compared to a pretax income of $887,000 for the same period in 2015. The increase in claims related expenses was the primary contributor to the decline in pretax income.
Property and casualty operations constitute our largest segment composing 89.8% and 89.4% of our total consolidated premium revenue in 2016 and 2015, respectively. Premium revenues and operating income for the P&C segment for the year ended December 31, 2016 and 2015 are summarized below:
Property and casualty segment net premium earned for 2016 was $55,164,000 compared to $53,162,000 for the same period in 2015. The primary reason for the increase in 2016 compared to 2015 was a 4.7% increase in gross premium revenue in our dwelling fire program. A reduction in catastrophe reinsurance cost (ceded premium) of 8.3% also contributed significantly to our 3.8% increase in net premium earned.
The primary source of premium revenue growth in the P&C segment was in our non-coastal states; primarily the states of Oklahoma and Georgia. Premium revenue in Oklahoma increased 14.9% in 2016 with policy counts up 8.2%. An increase in new business production coupled with the implementation of increased rates during 2015 were the primary reasons for the increase in premium revenue in Oklahoma in 2016 compared to the same period last year. In addition, Georgia revenue increased 11.5% in 2016 with policy counts up 9.3% compared to December 31, 2015. Increased rates were implemented in Georgia during 2016 and, along with growth in policy count, lead to the increase in premium revenue in Georgia in 2016 compared to 2015. We expect to continue to look for opportunities to increase premium revenue in non-coastal and less hurricane prone regions of the states in which we operate in order to create more geographic diversification.
Under the catastrophe reinsurance program in 2016, the Company retained the first $4,000,000 in losses from each event. Reinsurance coverage for 2016 was maintained in three layers as follows:
The P&C segment ended 2016 with realized capital gains of $725,000 compared to realized capital gains totaling$190,000 for the same period in 2015; an increase of $535,000. The realized capital gains were primarily from sales of fixed income and equity investments. The realization of capital gains in the investment portfolio is influenced by both market conditions and liquidity requirements and, therefore, can vary significantly from year to year. Other activities, such as tax planning strategies, may also lead to significant variation in realized capital gains from year to year. The P&C segment was not impacted by the write-down of other-than-temporary impairments of fixed income or equity investments in 2016 or 2015.
The table below provides a recap of P&C segment gross reported losses and LAE by catastrophe event and non-catastrophe wind and hail losses and LAE for the year ended December 31, 2016 and 2015 (dollars in thousands):
During 2016, the P&C segment was negatively impacted by Hurricane Matthew (denoted as Cat 50 in the table above) which struck the Atlantic coast, during early October 2016, impacting our policyholders in Georgia and South Carolina. On a gross basis, Hurricane Matthew added $8,386,000 to P&C segment incurred losses and LAE ($4,000,000 on a net basis). The P&C segment was not impacted by a hurricane during 2015. The largest cat event impacting the P&C segment during 2015 was Cat 93 which totaled $1,575,000 and produced 755 reported claims through December 31, 2015. This cat event primarily impacted our South Carolina policyholders and added 2.9 percentage points to the 2015 P&C segment loss ratio.
Non-catastrophe wind and hail claims reported in 2016 totaled $5,575,000 compared to non-catastrophe wind and hail claims reported in 2015 totaling $5,615,000; a decrease of $40,000 or 0.7%. During 2016, the P&C segment had 1,784 non-cat wind and hail claims reported (an average of $3,100 per claim) compared to 1,923 claims reported during 2015 (an average of $2,900 per claim). Non-cat wind and hail claims reported during 2016 accounted for 16.6% of total P&C segment incurred losses and LAE in the current year. Non-cat wind and hail claims reported during 2015 accounted for 19.1% of total P&C segment incurred losses and LAE in 2015. The P&C segment has experienced a higher frequency of severe thunderstorm activity in 2016 and 2015. While most of these individual thunderstorms were isolated to small geographic areas, the frequency of these weather events contributed to a significant increase in our reported non-cat wind and hail claims in both 2016 and 2015.
During 2016, the P&C segment experienced an increase of 4.64 percentage points in the combined ratio compared to 2015. The primary reason for the increase was a $4,699,000 increase in claims in 2016 compared to 2015. Reported claims from combined non-hurricane cat events and Hurricane Matthew increased the 2016 combined ratio by 17.5 percentage points. In 2015, claims from cat events increased the 2015 combined ratio by 10.0 percentage points. While catastrophe events are unpredictable and beyond management's control, management has sought to increase
margins through efficiency measures and improved rate optimization. We believe that these efforts, while not eliminating volatility, will improve our ability to better absorb the impact of a major catastrophe or increased frequency of smaller catastrophe events. The impact of Hurricane Matthew, in 2016, further exhibits our ability to incur losses from a major catastrophe while maintaining a combined ratio below 100% and achieving underwriting profitability despite the negative impact. Management also continues to improve rate adequacy, reduce significant exposure concentrations and implement other risk management strategies in order to further improve underwriting profitability and reduce earnings volatility.
Revenue for non-insurance operations primarily consists of interest on investments. General and administrative expenses totaled $669,000 in 2016 compared to $355,000 for the same period last year; an 88.5% increase. The expenses of NSG are primarily associated with the public listing of our stock, taxes and fees, and directors' fees. The most significant item impacting the increase in general expenses were increases in interest costs related to deferred compensation plans. Total interest expense associated with short-term and long-term borrowings of NSG was $1,274,000 for the period ended December 31, 2016 and $1,331,000 for the same period last year. The decline in interest expense is related to a reduction in debt outstanding.
The life insurance and property/casualty subsidiaries primarily invest in highly liquid investment grade debt and equity securities. The types of assets in which the Company can invest are influenced by various state insurance laws which prescribe qualified investment assets. While working within the parameters of these regulatory requirements and further considering liquidity and capital needs, the Company considers investment quality, investment return, asset/liability matching and composition of the investment portfolio when making investment decisions.
At December 31, 2016, the Company's holdings in debt securities amounted to 83.7% of total investments and 63.7% of total assets. The Company utilizes the ratings of various Nationally Recognized Statistical Rating Organizations when classifying fixed maturity investments by quality rating.
The following is a breakdown of the Company's fixed maturity investments by quality rating:
There have been no material shifts in credit quality in the Company's fixed income portfolio. The slight increase in below investment grade securities has primarily been associated with our holdings in the energy sector. We have evaluated our current energy sector holdings for potential impairment, along with any other security with a market value of less than 80% of our amortized carrying value. Based on presently available information, we do not believe any below investment grade securities are other than temporarily impaired. Approximately 6% of our fixed income investments are in the energy sector with most of these securities currently carrying credit ratings of BBB- or below. Also, reductions in market value of these securities was the primary factor contributing to the increase in gross unrealized loss on corporate debt securities in the table that follows below. We currently have no fixed income investments in default.
The amortized cost and aggregate fair values of investments in securities at December 31, 2016 and December 31, 2015 are as follows (dollars in thousands):
As shown in the tables above, the Company experienced a moderate increase in fixed income investments in 2016 compared to the portfolio composition at December 31, 2015. The increase in fixed income investments was driven by positive cash flow from operations which provided additional funds to invest.
A number of factors influence portfolio allocation within each of the insurance subsidiaries. Within the property and casualty subsidiaries, due to the relatively short term nature of segment liabilities, fixed income investments tend to be of shorter duration, typically inside of five years on average. Also due to higher levels of potential volatility of policy liabilities (severe weather related losses), a greater emphasis is placed upon overall liquidity of investments. In contrast, within the life insurance subsidiary, policy liabilities tend to be more stable and of significantly longer duration. In order to match the longer duration of liabilities, investments in the life insurance portfolio tend to have longer maturities and higher average book yields. Also, less emphasis is placed upon short term liquidity in the life subsidiary due to more predictable cash needs.
At December 31, 2016, 5.98% of total investments in the fixed income portfolio were classified as below investment grade. In evaluating whether or not the equity loss positions were other-than-temporary impairments, management evaluated financial information on each company and, where available, reviewed analyst reports from at least two independent sources. Based on a review of the available financial information, the prospect for future earnings of each company and consideration of the Company’s intent and ability to hold the securities until market values recovered, it was determined that the securities in an accumulated loss position in the portfolio were temporary impairments. Management has evaluated each security in a significant unrealized loss position. For the year ended December 31, 2016, the Company realized no other-than-temporary impairments related to fixed maturities or equity securities.
Average current yield on investments increased to 3.5% due to a combination of decreased investment expenses and moderately higher yield on investments.
Approximately 6% of our fixed income investments consist of bonds in the energy sector. We have evaluated each of these securities for potential impairment and, based on currently available information, believe that none of these securities are other than temporarily impaired. Our energy sector portfolio is diversified with our single largest bond holding in the sector having a par value of $1,000,000, composing less than 1% of our total investments. We currently have no fixed income investments in default.
Virtually all invested assets of the Company are held in the insurance subsidiaries. As of December 31, 2016, the contractual maturity schedule for all bonds and notes held by the Company, stated at amortized cost, was as follows (dollars in thousands):
Net cash used in financing activities totaled $1,227,000 for the period ended December 31, 2016, compared to $1,708,000 for the same period last year. During the year ended December 31, 2016, the Company obtained a $5,000,000 unsecured loan which was used to repay in full the $5,143,000 promissory note associated with the Mobile Attic settlement. Under US tax laws the Mobile Attic plaintiff-financed settlement was not deductible until paid and, in anticipation of potentially lower corporate tax rates in the new US presidential administration, paying off the promissory note accelerated the ability to recognize the associated deferred tax benefit related to the settlement. During the year ended December 31, 2015, the Company repaid a $500,000 long-term note and a $700,000 short-term note payable. The Company maintains a $1,000,000 operating line of credit which matures in September 2017, as well as a $700,000 line of credit which was renewed in February of 2016. During the year ended December 31, 2016, the Company drew down and repaid amounts from both short-term and long-term lines of credit. Between the two lines of credit, $1,700,000 was available at December 31, 2016.
Contractual obligations reflected in the table above include the issuance of $9,101,000 in subordinated debentures completed on December 15, 2005. The subordinated debentures mature December 15, 2035. It is anticipated that
Dividends paid from the insurance subsidiaries are subject to regulatory restrictions and prior approval of the Alabama Department of Insurance. As disclosed in Note 12 to the audited Consolidated Financial Statements included in our 2016 Annual Report on Form 10-K, the amount that The National Security Group's insurance subsidiaries can transfer in the form of dividends to the parent company during 2016 is statutorily limited to $1,642,000 in the life insurance subsidiary and $3,524,000 in the property/casualty insurance subsidiary. Dividends are limited to the greater of net income (operating income for life subsidiary) or 10% of statutory capital, and regulators consider dividends paid within the preceding twelve months when calculating the available dividend capacity. Therefore, all of the above referenced dividend capacity will not be available for consideration of payment until dividends paid in the preceding twelve months have been considered on a rolling basis. The Company also has to continuously evaluate other factors such as subsidiary operating performance, subsidiary capital requirements and potential impact by rating agencies in making decisions on how much capital can be released from insurance subsidiaries for payment of dividends to NSG. These factors are considered along with the goal of growing year over year statutory surplus in the subsidiaries, and these considerations along with previous adverse impacts on regulatory surplus, will likely lead to dividend payments to NSG substantially below the above referenced regulatory maximums. The Company received $1,750,000 in dividends from its subsidiaries during the year ended December 31, 2016.
The Company continues to monitor liquidity and subsidiary capital closely. Improved underwriting results stemming from the discontinuation of unprofitable lines of business, favorable tropical weather patterns, streamlining of products
National Security Fire & Casualty Company (property/casualty insurer) has regulatory adjusted capital of $35.2 million and $34.5 million at December 31, 2016 and 2015, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 5.1 and 5.2 at December 31, 2016 and 2015, respectively. Accordingly, National Security Fire & Casualty Company exceeds the minimum RBC requirements.
Deferred policy acquisition costs (DAC) are those costs incurred in connection with acquiring new business or renewing existing business. DAC is primarily comprised of commissions, premium taxes, and underwriting costs associated with issuing new policies. In accordance with generally accepted accounting principles, these costs are not expensed in their entirety at policy inception; rather, they are recorded as an asset and amortized over the lives of the policies.
At December 31, 2016, there is no evidence to suggest to management that any deferred tax asset is unrealizable. For more information regarding deferred income taxes, see Note 7 to our Consolidated Financial Statements.
Property and casualty loss reserves are maintained to cover the estimated unpaid liability for losses and loss adjustment expenses with respect to reported and unreported incurred claims. Loss reserves are an estimation based on actuarial projection techniques common in the insurance industry. Reserves are management's expectations of what the settlement and administration of claims will cost. Management estimate of reserves are based on historical settlement patterns, estimated salvage and subrogation, and an appraisal of the related facts and circumstances. Management's reserve estimates are reviewed by consulting actuaries to determine their adequacy and reasonableness. The reserve analysis performed by management is reviewed by the actuaries during the third quarter each year with a final comprehensive review performed at year-end.
We have audited the accompanying consolidated balance sheets of The National Security Group, Inc. as of December 31, 2016 and 2015 and the related consolidated statements of income, comprehensive income, shareholders’ equity, and cash flows for the years then ended. The National Security Group, Inc.’s management is responsible for these financial statements. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Among the more significant estimates included in these consolidated financial statements are reserves for future life insurance policy benefits, liabilities for losses and loss adjustment expenses, reinsurance recoverable associated with loss and loss adjustment expense liabilities, deferred policy acquisition costs, deferred income tax assets and liabilities, assessments of other-than-temporary impairments on investments and accruals for contingencies. Actual results could differ from these estimates.
The Company's property and casualty subsidiaries, composing 91% of consolidated direct written premium, produced business during 2016 in eight states. However, 57% of property and casualty segment direct written premium is generated in the states of Alabama, Mississippi and Louisiana, subjecting the Company to significant geographic concentration. Consequently, adverse weather conditions or changes in the legal, regulatory or economic environment could adversely impact the Company.
For the year ended December 31, 2016, one agency individually produced greater than 5% of the Company's direct written premium.
Realized gains and losses on the sale of investments available-for-sale are determined using the specific-identification method and include write downs on available-for-sale investments considered to have other-than-temporary declines in market value.
The Company owns life insurance (COLI) contracts on certain management and supervisory employees each having a face amount of approximately $2,000,000 (including cash surrender value at the time of payment). The Company's original investment in company owned life insurance was $5,000,000. The primary purpose of the program is to offset future employee benefit expenses through earnings on the cash value of the policies. The Company is the owner and principal beneficiary of these policies. The life insurance contracts are carried at their current cash surrender value. Cash surrender value at December 31, 2016 and December 31, 2015 was $4,864,000 and $4,898,000, respectively. Changes in cash surrender values are included in income in the current period. The change in surrender value included in earnings for the periods ended December 31, 2016 and 2015 was a decline of $34,000 and $219,000, respectively. Death proceeds from the contracts are recorded when the proceeds become payable under the terms of the policy and proceeds in excess of cash surrender value are recognized as a gain on company owned life insurance.
Fixed income security fair values are based on quoted market prices when available. If not available, fair values are based on values obtained from investment brokers and independent pricing services.
Multiple observable inputs are not available for some of our investments, primarily private placements and limited partnerships. Management values these investments either using non-binding broker quotes or pricing models that utilize market based assumptions that have limited observable inputs. These investments compose less than 1% of total assets.
Accounts receivable are reported at net realizable value. Management determines the allowance for doubtful accounts based on historical losses and current economic conditions. On a continuing basis, management analyzes delinquent
The Company files a consolidated U.S. federal income tax return that includes the holding company and its subsidiaries. The Company is currently subject to a statutory rate of 34%. Tax related interest and penalties are reported as components of income tax expense.
Certain 2015 amounts have been reclassified from the prior year consolidated financial statements to conform to the 2016 presentation.
losses, are composed of balances due from independent agents. At December 31, 2016, the single largest balance due from one agent totaled $561,000.
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, 2016 and December 31, 2015, 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, 2016, management does not believe the Company is exposed to any significant credit risk related to its reinsurance program.
In August 2014, the FASB issued guidance on determining when and how to disclose going concern uncertainties in the financial statements, and requires management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year of the date the financial statements are issued. The updated guidance is effective for annual periods ending after December 15, 2016 and interim periods thereafter. Early adoption is permitted. The Company does not expect the adoption to have a material impact on its financial position, results of operations or disclosures.
In January 2016, the FASB issued guidance that requires equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. The guidance requires entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes and requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset. The guidance eliminates the requirement for public companies to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost. This guidance is effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. The Company does not expect the adoption to have a material impact on its financial position or results of operations.
In February 2016, the FASB issued guidance that requires lessees (for capital and operating leases) to recognize the lease liability and right-of-use asset at the commencement date of the lease. This guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those years. The Company does not expect the adoption to have a material impact on its financial position or results of operations.
In March 2016, the FASB issued guidance that clarifies the requirements for assessing whether contingent call (put) options that can accelerate the payment of principal on debt instruments are clearly and closely related to their debt hosts. This guidance is effective for fiscal years beginning after December 15, 2019, including interim periods within those years. The Company does not expect the adoption to have a material impact on its financial position or results of operations.
In August 2016, the FASB issued guidance that clarifies how certain cash receipts and cash payments shall be presented and classified in the statement of cash flows. This guidance addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice. The guidance is effective for annual and interim reporting periods beginning after December 15, 2017. The Company does not expect the adoption of this new guidance to have a significant impact on our financial position, results of operations or cash flows.
Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items
In January 2015, the FASB issued guidance that eliminates from GAAP the concept of extraordinary items. The Company adopted this standard on January 1, 2016. This guidance did not have a material effect on results of operations or financial position.
Interest - Imputation of Interest: Simplifying the Presentation of Debt Issuance Costs.
In April 2015, the FASB issued guidance to simplify the presentation of debt issuance costs. This ASU requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of the debt liability. The Company adopted this standard retrospectively on January 1, 2016, which resulted in the reclassification of $258,000 of unamortized debt issuance costs related to Company borrowings from other assets to long-term debt within our consolidated balance sheet as of December 31, 2015. The adoption also resulted in the reclassification of $12,000 from general expenses to interest expense for the twelve months ended December 31, 2015.
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 in the life subsidiary, and (d) non-admitted assets (primarily furniture and equipment, agents' debit balances and prepaid expenses) are charged directly to surplus.
The above amounts exclude allocation of direct expenses of the Company. NSIC, NSFC and Omega are in compliance with statutory restrictions with regard to minimum amounts of surplus and capital.
The amortized cost and aggregate fair values of investments in available-for-sale securities as of December 31, 2015 are as follows (dollars in thousands):
The amortized cost and aggregate fair values of investments in held-to-maturity securities as of December 31, 2015 are as follows (dollars in thousands):
The amortized cost and aggregate fair value of debt securities at December 31, 2016, by contractual maturity, are presented in the following table (dollars in thousands). 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.
A summary of securities available-for-sale with unrealized losses as of December 31, 2015, along with the related fair value, aggregated by the length of time that investments have been in a continuous unrealized loss position, is as follows (dollars in thousands):
The Company conducts periodic reviews to identify and evaluate securities in an unrealized loss position in order to identify other-than-temporary impairments. For securities in an unrealized loss position, the Company assesses whether the Company has the intent to sell the security or more-likely-than-not will be required to sell the security
Management has evaluated each security in a significant unrealized loss position. The Company has no material exposure to sub-prime mortgage loans and approximately 5.98% of the fixed income investment portfolio is rated below investment grade. In evaluating whether or not the equity loss positions were other-than-temporary impairments, Management evaluated financial information on each company and where available, reviewed analyst reports from at least two independent sources. Based on a review of the available financial information, the prospect for future earnings of each company and consideration of the Company’s intent and ability to hold the securities until market values recovered, it was determined that the securities in an accumulated loss position in the portfolio were temporary impairments.
inputs used in measuring fair value. Additional information regarding the interest rate swap agreements is provided in Note 8.
The table below presents a reconciliation for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the twelve months ended December 31, 2016 (in thousands):
For the twelve months ended December 31, 2016, there were no assets or liabilities measured at fair values on a nonrecurring basis.
Financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2015 are summarized in the following table by the type of inputs applicable to the fair value measurements (in thousands):
For the year ended December 31, 2015, there were no assets or liabilities measured at fair values on a nonrecurring basis.
Other invested assets - the carrying amount is a reasonable estimate of fair value.
The carrying amount and estimated fair value of the Company’s financial instruments as of December 31, 2016 and December 31, 2015 are as follows (in thousands):
Depreciation expense for the year ended December 31, 2016 was $159,000 ($168,000 for the year ended December 31, 2015).
Net deferred tax liabilities are determined based on the estimated future tax effects of differences between the financial statement and tax basis of assets and liabilities given the provisions of the enacted tax laws. Management believes that, based on its historical pattern of taxable income, the Company will produce sufficient income in the future to realize its deferred tax assets. The Company recognized net deferred tax asset positions of $2,402,000 at December 31, 2016 and $3,824,000 at December 31, 2015.
The swaps entered into in 2009 and 2010 have fair values of $145,000 (liability) and $885,000 (liability), respectively, for a total liability of $1,030,000 at December 31, 2016 ($1,419,000 at December 31, 2015). The swap liability is reported as a component of other liabilities on the consolidated balance sheets. A net valuation gain of $256,000 (net of tax) is included in accumulated other comprehensive income related to the swap agreements at December 31, 2016. A net valuation loss of $119,000 (net of tax) was included in accumulated other comprehensive income related to the swap at December 31, 2015.
The Company’s interest rate swaps include provisions requiring the Company to post collateral when the derivative is in a net liability position. At December 31, 2016, the Company has securities on deposit with fair market values of $1,466,000 and cash of $231,000 (all of which is posted as collateral). At December 31, 2015, the Company had securities on deposit with fair market values of $1,482,000 and cash of $130,000 (all of which is posted as collateral). See Note 5 for additional information about the interest rate swaps.
dwelling fire are not materially different. Also, other liability is combined with dwelling fire because liability coverage is only sold as an additional coverage offered only with the dwelling fire policy. The Company offers no stand alone liability products.
Management periodically estimates the liability for claims that have been reported but not paid and for claims incurred but not reported (IBNR). Management utilizes expected losses along with historical data analysis of paid and incurred loss development patterns over the past ten years to aide in establishing the claims liability. Management also separately evaluates any recent large events in establishing claim reserves. The Company also engages a consulting actuary to review managements' estimates of claim liabilities each year. There has been no material change in reserving methodology in 2016 compared to prior years.
The Company, through its life insurance subsidiary, underwrites a limited number of short duration accident and health contracts. These claims tend to be of short duration with claims typically settled in three years or less and the reserve
Cumulative incurred and paid claims over the last three years, along with annual percentage payouts related to accident and health claims, is as follows (dollars in thousands):
The Company's insurance operations utilize reinsurance in order to limit losses, minimize exposure to large risks, provide additional capacity for future growth and effect business-sharing arrangements. Life reinsurance is accomplished through yearly renewable term coverage. Property and casualty reinsurance is placed on an excess of loss basis to cover losses from catastrophe events. Reinsurance ceded arrangements do not discharge the insurance subsidiaries as the primary insurer, except for cases involving a novation. Failure of re-insurers to honor their obligations could result in losses to the insurance subsidiaries. The insurance subsidiaries evaluate the financial conditions of their reinsurance companies and monitor concentrations of credit risk arising from similar geographic regions, activities, or economic characteristics of the companies to minimize their exposure to significant losses from reinsurance insolvencies.
Under the catastrophe reinsurance program, the Company retains the first $4,000,000 in losses from each catastrophe event. Catastrophe reinsurance coverage is maintained in three layers as follows:
Each reinsurance layer covers events occurring from January 1 through December 31 of the contract year. All significant reinsurance companies under the program carry A.M. Best ratings of A- (Excellent) or higher, or equivalent ratings.
At December 31, 2016, the largest reinsurance recoverable of a single reinsurer was $332,000 ($12,000 at December 31, 2015). Amounts reported as ceded incurred losses in 2016 were related to Hurricane Matthew as well as development of losses from prior year catastrophes. Amounts reported as ceded incurred losses in 2015 were related to the development of losses from prior year catastrophes.
The Company and its subsidiaries have an established retirement savings plan (401K Plan). All full-time employees are eligible to participate, and all employer contributions are fully vested for employees who have completed 1,000 hours of service in the year of contribution. Company matching contributions for the years ended December 31, 2016 and 2015 amounted to $196,000 and $201,000, respectively. The Company contributes dollar-for-dollar matching contributions up to 5% of compensation subject to government limitations.
In January 2006, the Company established a non-qualified plan under which directors are allowed to defer all or a portion of directors' fees into various investment options. The supplemental executive retirement plan (SERP) became effective March 1, 2008 and covers named executive officers, with the Company contributing 15% of executive compensation to the plan. Contributions to the plan are fully vested upon the earlier of death, disability, change in control, or ten years of participation in the plan. Costs for amounts credited to the non-qualified deferred compensation plans for the years ended December 31, 2016 and 2015 amounted to approximately $245,000 and $68,000, respectively.
The Company and its subsidiaries established an Employee Stock Ownership Plan (ESOP) in January 2010, to enable its eligible employees to acquire a proprietary interest in the Company's common stock and to provide retirement and other benefits to such employees. There were $250,000 costs incurred during the years ended December 31, 2016 and 2015 related to ESOP plan contributions. All contributions were made in cash for purchase of Company shares in the open market. The Company has not allocated shares directly to the plan and the plan has no debt.
At December 31, 2016, securities with market values of $3,026,000 ($3,642,000 at December 31, 2015) were deposited with various states pursuant to statutory requirements.
Preferred Stock may be issued in one or more series as shall from time to time be determined and authorized by the Board of Directors. The directors may make specific provisions regarding (a) the voting rights, if any (b) whether such dividends are to be cumulative or noncumulative (c) the redemption provisions, if any (d) participating rights, if any (e) any sinking fund or other retirement provisions (f) dividend rates (g) the number of shares of such series and (h) liquidation preference.
The table below provides information regarding the Company's preferred and common stock as of December 31, 2016 and December 31, 2015:
The following table presents the Company’s gross and net premiums written for the property and casualty segment and the life and accident and health segment for the years ended December 31, 2016 and 2015, respectively:
Cash paid for interest during the year ended December 31, 2016 was $1,360,000 ($1,376,000 in 2015). Cash paid for income taxes during the year ended December 31, 2016 was $750,000 ($1,546,000 in 2015).
During the year ended December 31, 2016, non-cash changes in equity included $5,000 in common stock issued to Directors in lieu of cash compensation along with a corresponding $71,000 increase in additional paid-in capital.
In 2016, cash dividends of $1,750,000 were paid to the Registrant by its subsidiaries ($2,000,000 in 2015).