organized in 1959, and Omega One Insurance Company (Omega), a wholly owned subsidiary of National Security Fire & Casualty Company organized in 1992.
National Security Insurance Company (NSIC) is a life, accident and health insurance company founded in 1947. The premium revenue produced in NSIC from the traditional life products and accident and health products accounted for 7.1% and 3.0%, respectively, of total gross premium revenue. All references to NSIC in the remainder of this management discussion and analysis will refer to the combined life, accident and health insurance operations and will compose the life segment of the Company. NSIC is licensed to underwrite life and accident and health insurance in Alabama, Florida, Georgia, Mississippi, South Carolina, Tennessee and Texas.
For the year ended December 31, 2014, the Company had net income of $7,616,000, $3.04 per share, compared to net income of $5,658,000, $2.28 per share, for the same period in 2013, a year over year increase of $1,958,000. Results for 2014 were reflective of very good full year results from insurance operations coupled with a gain on company owned life insurance of $3,256,000. Results for 2013 were positively impacted by capital gains, which primarily consisted of a gain on sale of a timber property investment, and strong results in the second half of the year in our insurance operations.
Financial results for the year ended December 31, 2014 and 2013 were as follows:
For the year ended December 31, 2014, gross written premium was up 5% compared to the same period in 2013. The reason for the increase was year over year growth in written premium in our property and casualty segment.
Total debt at December 31, 2014 was $19,572,000 compared to $22,755,000 at December 31, 2013. Debt was reduced $3,183,000 during the year in 2014. A significant improvement in profitability strengthened the capital position of the insurance subsidiaries, allowing the Company to reduce outstanding debt by 14%.
The following discussion outlines more specific information with regard to the individual operating segments of the Company along with non-insurance related information (primarily administration expenses and interest expense) associated with the insurance holding company.
From a revenue standpoint, our life segment is the smaller of our insurance segments contributing 11.3% of total insurance premium revenue in 2014 and 12.6% in 2013. Premium revenues and operating income for the life segment for the year ended December 31, 2014 and 2013 are summarized below (amounts in thousands):
Claims were $5,403,000 through December 31, 2014 compared to $4,927,000 through December 31, 2013; an increase of $476,000. NSIC incurred an increase in both ordinary life and individual accident related claims in 2014.
For the year ended December 31, 2014 and 2013, insurance taxes, licenses and fees were $311,000 and $232,000, respectively. As a percent of earned premium, insurance taxes, licenses and fees were 4.9% in 2014 and 3.5% in 2013. The primary reason for the increase in 2014 taxes, licenses and fees compared to 2013 were fees paid related to our periodic Alabama Department of Insurance examination which took place over most of the year in 2014.
Property and casualty operations constitute our largest segment composing 88.7% and 87.4% of our total consolidated premium revenue in 2014 and 2013, respectively. Premium revenues and operating income for the P&C segment for the year ended December 31, 2014 and 2013 are summarized below:
Year Ended December 31, 2014 Compared to Year Ended December 31, 2013:
Property and casualty segment net premium earned for 2014 was $50,279,000 compared to $45,775,000 for the same period in 2013. The primary reason for the increase in 2014 compared to 2013 was a 9.4% increase in gross premium revenue in our dwelling fire program as well as a 3.7% increase in gross premium revenue in our homeowners program. A reduction in catastrophe reinsurance cost (ceded premium) of 15.3% also contributed significantly to our 9.8% increase in net premium earned.
Under the catastrophe reinsurance program in 2014, the Company retained the first $4,000,000 in losses from each event. Reinsurance coverage for 2014 was maintained in four layers as follows:
Net investment income totaled $1,737,000 in 2014 compared to $1,637,000 in 2013; an increase of $100,000. Despite a persistent low interest rate environment, investment income increased. The higher net investment income in 2014 was primarily due to an increase in invested assets generated by positive cash flow from property and casualty insurance operations.
The P&C segment ended 2014 with a realized capital loss totaling $356,000 compared to realized capital gains of $1,020,000 for the same period in 2013. The primary reason for the realized capital loss in 2014 was a $552,000 write-down associated with a real estate investment. Realized capital gains in 2013 primarily consisted of a gain on sale of a timber property investment. The decrease in realized capital gains was also associated with a decline in selling activity during 2014 compared to 2013. 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,
Policyholder benefits and settlement expenses in the property and casualty segment were $25,479,000 in 2014 compared to $26,219,000 for the same period in 2013; a decrease of $740,000 or 2.8%. The primary reason for the decrease was a reduction in reported losses and loss adjustment expenses (LAE) from non-catastrophe wind and hail claims as well as a decline in losses and LAE reported from cat event claims in 2014 compared to 2013.
Non-catastrophe wind and hail claims reported in 2014 totaled $5,902,000 compared to non-catastrophe wind and hail claims reported in 2013 totaling $6,024,000; a decline of $122,000 or 2.0%. During 2014, the P&C segment had 2,062 non-cat wind and hail claims reported (an average of $2,900 per claim) compared to 2,250 claims reported during 2013 (an average of $2,700 per claim). Non-cat wind and hail claims reported during 2014 accounted for 23.2% of total P&C segment incurred losses and LAE in the current year. Non-cat wind and hail claims reported during 2013 accounted for 23% of total P&C segment incurred losses and LAE in 2013.
Commission expense for 2014 was $7,103,000 (14.1% of premium revenue) compared to $6,678,000 (14.6% of premium revenue) for the same period in 2013. The primary reason for the $425,000 or 6.4% increase in commission expense during 2014 compared to 2013 was a 5.9% increase in gross written premium.
Insurance taxes, licenses and fees were $1,826,000 through December 31, 2014 compared to $1,614,000 for the same period in 2013. Insurance taxes, licenses and fees were up slightly at 3.6% of premium revenue in 2014 compared to 3.5% in 2013. The primary reason for the increase in 2014 compared to 2013 were fees paid related to our recent Alabama Department of Insurance examination which took place over most of the year in 2014.
Maintaining a combined ratio below 100%, which indicates that the company is making an underwriting profit, depends upon many factors including hurricane activity in the Gulf of Mexico and the southern Atlantic coast, strict underwriting
Revenue for non-insurance operations primarily consists of interest on investments. Prior year revenue was significantly higher due to realized capital gain on sale of real estate. In July of 2012, NSG's wholly owned subsidiary National Security Fire and Casualty Company issued an extraordinary dividend of investment real estate, consisting of timber property, to the holding company which allowed NSG to secure a $4,000,000 bank line of credit for the primary purpose of paying final legal fees and making an initial settlement payment associated with the Mobile Attic litigation which was settled in June of 2012. In August of 2013, NSG sold substantially all of its timber property holdings and paid down the line of credit. Realized gains of $3,308,000 on the transaction in the prior year account for the $3,306,000 decline in realized investment gains compared to the prior year.
General and administrative expenses totaled $484,000 in 2014 compared to $726,000 for the same period last year; a 33.3% decline. 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 decline in general expenses were declines in interest costs related to deferred compensation plans and legal fees. Total interest expense associated with short-term and long-term borrowings of NSG was $1,455,000 for the period ended December 31, 2014 and $1,609,000 for the same period last year. The decline in interest expense is related to a reduction in debt outstanding.
The amortized cost and aggregate fair values of investments in securities at December 31, 2014 and December 31, 2013 are as follows (dollars in thousands):
As shown in the tables above, the Company experienced an overall increase in fixed income securities in 2014 compared to the portfolio composition at December 31, 2013. Most of the increase within the fixed income portfolio was due to increase in investment in corporate debt securities and US Treasury and agency securities. These increases were partially offset by decreases in non-agency mortgage backed securities. The increase in investments was driven by increased cash flow from operations which provided additional funds to invest.
A downside of investing in longer duration securities in the life segment is that the portfolio is exposed to more significant price volatility as market interest rates change. This exposure to sudden interest rate changes can lead to declines in market value of fixed income securities in a rising interest rate environment. Management currently maintains the life insurance portfolio in the intermediate range of 6.0 to guard against the adverse impact of rising rates. However, due to the necessity of matching the duration of liabilities as closely as possible in order to pass regulatory testing, some volatility in market value of the portfolio in a rising rate environment can not be avoided.
The amortized cost and aggregate fair value of debt securities at December 31, 2014, by contractual maturity, are as follows (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.
Due to regulatory restrictions, the majority of the Company's cash is required to be invested in investment-grade securities to provide protection for policyholders. The liabilities of the property and casualty insurance subsidiaries are of various terms, and therefore, those subsidiaries invest in securities with various effective maturities spread over periods usually not exceeding five years. The liabilities of the life insurance subsidiary are typically of a longer duration, and therefore, a higher percentage of securities in the life insurance subsidiary are invested for periods exceeding 10 years.
Virtually all invested assets of the Company are held in the insurance subsidiaries. As of December 31, 2014, the contractual maturity schedule for all bonds and notes held by the Company, stated at amortized cost, was as follows (dollars in thousands):
It should be noted that the above table represents maturities based on stated/contractual maturity. Due to call and prepayment features inherent in some debt securities and principal pay-downs on mortgage backed securities, actual repayment, or effective maturities, will differ from stated maturities. The Company routinely evaluates the impact of changing interest rates on the projected maturities of bonds in the portfolio and actively manages the portfolio in order to minimize the impact of interest rate risk. However, due to other factors, both regulatory and those associated with good investment management practices associated with asset/liability matching, we do have exposure to changes in market values of securities due to changes in interest rates. Currently, a 100 basis point immediate increase in interest rates would generate approximately a $5,008,000 decline in the market value of fixed income investment. Alternatively, a 100 basis point decrease in interest rates will generate approximately $4,028,000 in increases in market value of fixed income investments.
At December 31, 2014, the Company had aggregate equity capital, unrealized investment gains (net of income taxes) and retained earnings of $42,757,000, up $9,285,000 compared to $33,472,000 at December 31, 2013. Components of the change in equity were net income of $7,616,000, increase in accumulated unrealized gains on investments of $2,061,000, a net unrealized loss of $225,000 related to interest rate swaps and cash dividends paid totaling $300,000.
Net cash used in investing activities totaled $7,008,000 for the period ended December 31, 2014, compared to cash provided of $357,000 for the same period last year. At December 31, 2014, invested assets were up $9,500,000, or 9.5% compared to December 31, 2013. This increase was primarily the result of increases in market values of available for sale securities coupled with the reinvestment of proceeds from maturities of investments and the utilization of
positive cash flows from operations to increase investment holdings. Cash provided by investing activities in the prior year was primarily related to the sale of investment real estate, the proceeds of which were used to reduce long term debt.
We have taken significant steps to improve our capital position. Over the past decade we have experienced a significant reduction in equity capital due to the adverse effects of six major hurricanes, the financial market meltdown in 2008, continued historically low interest rates, an unprecedented tornado outbreak in April of 2011 and the Mobile Attic litigation. While we are experiencing improvement and have put some major obstacles behind us, we are in a position where we believe it necessary to continue to increase retained capital and reduce debt levels in the near term in order to put our Company in the best position to be successful moving forward. In order to maintain and improve our capital
position, we will continue to monitor our dividend policy on a quarterly basis. While significant risk mitigation efforts have been instituted and our capital position is much improved, we continue to caution investors, should we encounter a significant adverse capital event that lead to a year over year reduction in capital, such as a major hurricane, we could take action which could include the suspension of shareholder dividends. Due to various factors discussed herein, we must remain flexible in our dividend policy until we sufficiently increase capital and reduce debt levels. Major strides in both of these areas were made in 2014.
National Security Fire & Casualty Company (property/casualty insurer) has regulatory adjusted capital of $32.3 million and $26.3 million at December 31, 2014 and 2013, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 4.9 and 4.3 at December 31, 2014 and 2013, respectively. Accordingly, National Security Fire & Casualty Company exceeds the minimum RBC requirements.
NSFC and Omega generally reinsure with third parties any liability in excess of $225,000 on any single policy. During 2014, the property and casualty segment maintained a catastrophe contract, which covered losses related to a catastrophic event with multiple policyholders affected. In the event a catastrophe exceeded the $4 million company retention stated in the contract, reinsurers would reimburse the company 100% of gross losses up to the upper limits of the reinsurance agreement, which was $72.5 million in 2014 and 2013. Any losses above the $72.5 million upper limit are the responsibility of our Company. The contract in place during 2014 also allowed one reinstatement for coverage under the contract for a second catastrophic event if needed.
The property and casualty subsidiaries utilize our actual in force policy data modeled utilizing two different industry accepted catastrophe models to structure catastrophe reinsurance and determine upper limits of catastrophe reinsurance agreements. Based on modeling results utilized in 2014 and 2013, the Company was reinsured at approximately a 250 year event level. While this estimate is subject to some uncertainty and model risk, the models indicate that we maintain catastrophe reinsurance upper limits to cover an event that has less than a 0.5% probability of occurring in a given year.
At December 31, 2014 and 2013, the Company recorded $8,592,000 and $8,776,000, respectively, as an asset for DAC in the Consolidated Financial Statements. We do not foresee any issues related to recoverability of these capitalized costs. For more information regarding deferred policy acquisition costs, see Note 1 to our Consolidated Financial Statements.
At December 31, 2014, 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.