Independence Holding Company, a Delaware corporation (NYSE: IHC), is a holding company principally engaged in the life and health insurance business through: (i) its insurance companies, Standard Security Life, Madison National Life, and Independence American; and (ii) its marketing and administrative companies, including IHC Specialty Benefits Inc., IHC Brokerage Group, Inc., My1HR and a majority interest in PetPartners. Standard Security Life, Madison National Life and Independence American are sometimes collectively referred to as the “Insurance Group”. IHC and its subsidiaries (including the Insurance Group) are sometimes collectively referred to as the "Company", or “IHC”, or are implicit in the terms “we”, “us” and “our”.
While management considers a wide range of factors in its strategic planning and decision-making, underwriting profit is consistently emphasized as the primary goal in all decisions as to whether or not to increase our retention in a core line, expand into new products, acquire an entity or a block of business, or otherwise change our business model. Management's assessment of trends in healthcare and morbidity, with respect to specialty health, disability, DBL and PFL; mortality rates with respect to life insurance; and changes in market conditions in general play a significant role in determining the rates charged, deductibles and attachment points quoted, and the percentage of business retained. IHC also seeks transactions that permit it to leverage its vertically integrated organizational structure by generating fee income from production and administrative operating companies as well as risk income for its carriers. Management has always focused on managing the costs of its operations.
Results of operations are summarized as follows for the periods indicated (in thousands):
oOther income in 2019 includes a $3.6 million pretax gain on the sale of an equity investment in the first quarter that was offset in the fourth quarter by a $3.7 million pretax impairment on an equity method investment;
Consolidated investment yields (on an annualized basis) of 3.0% in both 2019 and 2018; and
Book value of $30.92 per common share at December 31, 2019 compared to $30.16 at December 31, 2018.
oPremiums earned decreased 3.5% or $6.5 million for the year ended December 31, 2019 over the comparable period in 2018. Increased premiums from the pet and short-term medical business were more than offset by decreased premiums in fixed indemnity limited benefit business;
oThe higher loss ratios in 2019 were as a result of less favorable prior period development than in 2018. The lower expense ratio in 2019 is primarily due to changes in the mix of products in the Specialty Health segment.
Income before taxes from the Group disability, life, DBL and PFL segment increased $2.9 million in 2019 compared to prior year results primarily due a decrease in DBL claim reserves. The December 2019 and 2018 financial results include benefits for a potential risk adjustment payment of $10.7 million and $7.0 million, respectively, associated with the Company’s PFL product due to estimated amounts that the Company has to pay into the New York State adjustment pool as a result of IHC’s experience with PFL being significantly better than that of the industry as a whole. This amount will be trued-up during 2020 when state industry claims experience is made available;
Information pertaining to the Company's business segments is provided in Note 18 of Notes to Consolidated Financial Statements included in Item 8.
The Company maintains loss reserves to cover its estimated liability for unpaid losses and loss adjustment expenses, where material, (including legal, other fees, and costs not associated with specific claims but related to the claims payment function) for reported and unreported claims incurred as of the end of each accounting period. These loss reserves are based on actuarial assumptions. Many factors could affect these reserves, including economic and social conditions, frequency and severity of claims, medical trend resulting from the influences of underlying cost inflation, changes in utilization and demand for medical services, and changes in doctrines of legal liability and damage awards in litigation. Therefore, the Company’s reserves are necessarily based on estimates, assumptions and analysis of historical experience. The Company’s results depend upon the variation between actual claims experience and the assumptions used in determining reserves and pricing products. Reserve assumptions and estimates require significant judgment and, therefore, are inherently uncertain. The Company cannot determine with precision the ultimate amounts that will be paid for actual claims or the timing of those payments. The Company's estimate of loss represents management's best estimate of the Company's liability at the balance sheet date.
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, 2019, would increase reserves (in the case of a higher ratio) or decrease reserves (in the case of a lower ratio) by approximately $3.2 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.
The gross liability for policy benefits and claims by segment is as follows (in thousands):
With respect to DBL, the liability for policy benefits and claims for the most recent quarter of earned premium is established using a Net Loss Ratio methodology. The Net Loss Ratio is determined by applying the completed prior four quarters of historical Net Loss Ratios to the last quarter of earned premium. Policy benefits and claims associated with the premium earned prior to the last quarter are established using a completion factor methodology. The completion factors are developed using the historical payment patterns for DBL. The NYSDFS can order the Company to refund a portion of the premium, to each policyholder, to meet the mandated minimum loss ratio requirements. The Company adjusts this premium refund reserve each year based on its loss ratio in relation to the mandated minimum loss ratio requirements. With respect to PFL, policy benefits and claims associated with the premiums earned are established using a completion factor methodology. As this is the second year of this product, the completion factors used were based on the PFL payment patterns developed during 2018 and 2019. Since the NYSDFS established a risk adjustment program, the Company is required to record in its financial statements an accrual for a potential payment to, or recovery from, the risk adjustment program depending on how its loss ratio compares to the industry wide loss ratio. To determine the amount of this risk adjustment, knowledge of industry wide performance is necessary. The NYSDFS does not share the industry loss ratio data for the current reporting year until the following year. However, the Company uses available unaudited industry information to make its best estimate of its potential payment or refund under the risk adjustment program until actual information is available.
This segment is a combination of closed lines of business as well as certain small existing lines. While the assumptions used in setting reserves vary between these different lines of business, the assumptions would generally relate to the following: (i) the rate of disability; (ii) the morbidity rates on specific diseases; and (iii) accident rates. The reported reserves are based on management’s best estimate for each line within this segment. General uncertainties that surround all insurance reserving methodologies would apply. However, since the Company has so few policies of this type, volatility may occur due to the small number of claims.
Management believes that the Company's methods of estimating the liabilities for future policy benefits provided appropriate levels of reserves at December 31, 2019 and 2018. Changes in the Company's future policy benefits estimates are recorded through a charge or credit to its earnings.
The Company periodically reviews and assesses the vendor’s qualifications and the design and appropriateness of its pricing methodologies. Management will on occasion challenge pricing information on certain individual securities and, through communications with the vendor, obtain information about the assumptions, inputs and methodologies used in pricing those securities, and corroborate it against documented pricing methodologies. Validation procedures are in place to determine completeness and accuracy of pricing information, including, but not limited to: (i) review of exception reports that (a) identify
Declines in value of fixed maturities available-for-sale that are judged to be other-than-temporary are determined based on the specific identification method. The Company reviews its investment securities regularly and determines whether other-than-temporary impairments have occurred. The factors considered by management in its regular review to identify and recognize other-than-temporary impairment losses on fixed maturities include, but are not limited to: the length of time and extent to which the fair value has been less than cost; the Company's intent to sell, or be required to sell, the debt security before the anticipated recovery of its remaining amortized cost basis; the financial condition and near-term prospects of the issuer; adverse changes in ratings announced by one or more rating agencies; subordinated credit support; whether the issuer of a debt security has remained current on principal and interest payments; current expected cash flows; whether the decline in fair value appears to be issuer specific or, alternatively, a reflection of general market or industry conditions including the effect of changes in market interest rates. If the Company intends to sell a debt security, or it is more likely than not that it would be required to sell a debt security before the recovery of its amortized cost basis, the entire difference between the security's amortized cost basis and its fair value at the balance sheet date would be recognized by a charge to total other-than-temporary impairment losses in the Consolidated Statement of Income. If a decline in fair value of a debt security is judged by management to be other-than-temporary and; (i) the Company does not intend to sell the security; and (ii) it is not more likely than not that it will be required to sell the security prior to recovery of the security’s amortized cost, the Company assesses whether the present value of the cash flows to be collected from the security is less than its amortized cost basis. To the extent that the present value of the cash flows generated by a debt security is less than the amortized cost basis, a credit loss exists. For any such security, the impairment is bifurcated into (a) the amount of the total impairment related to the credit loss, and (b) the amount of the total impairment related to all other factors. The amount of the other-than-temporary impairment related to the credit loss is recognized by a charge to total other-than-temporary impairment losses in the Consolidated Statement of Income, establishing a new cost basis for the security. The amount of the other-than-temporary impairment related to all other factors is recognized in other comprehensive income (loss). It is reasonably possible that further declines in estimated fair values of such investments, or changes in assumptions or estimates of anticipated recoveries and/or cash flows, may cause further other-than-temporary impairments in the near term, which could be significant.
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. For the purpose of other-than-temporary impairment evaluations, redeemable preferred stocks are evaluated in a manner similar to debt securities.
The annualized investment yields on bonds, equities and short-term investments were 3.1% for both the years ended December 31, 2019 and 2018.
Net Investment Gains (Losses) and Net Impairment Losses Recognized in Earnings
The Company recognized $.6 million of other-than-temporary impairment losses on fixed maturities available-for-sale securities in 2019, as the Company determined that it was more likely than not that we would sell the securities before the recovery of their amortized cost basis.
In 2019, insurance benefits, claims and reserves increased $29.9 million over the comparable period in 2018. The increase is primarily attributable to: (i) an increase of $14.4 million in benefits, claims and reserves in the Group disability, life, DBL and PFL segment primarily as a result of an $13.2 million increase in PFL line due to the increase in state mandated rates, a $4.5 million increase in the combined LTD/STD line due to the increase in premiums and higher loss ratios on certain LTD and STD business, an increase of $.4 million in group term life business due to higher premium volume and increased retention partially offset by lower loss ratios, and an increase of $.4 million in other group life lines due to new business, partially offset by a decrease of $4.1 million in DBL claim reserves; and (ii) an increase of $14.8 million in the Specialty Health segment, primarily from an increase of $7.4 million in the short term medical line due to less favorable prior year loss development, an increase of $4.8 million in the pet lines due to increased premium volume, an increase of $1.5 million in group gap business on increased premiums and higher loss ratios, and a $.8 million increase from premium volume on the group modified indemnity product introduced in late 2018; and (iii) an increase of $.6 million in the Individual Life, annuities and other segment as a result of lower positive reserve run-off volume when compared to the same period in 2018.
The effective tax rate was 49.9% in 2019 compared to 22.6% in 2018. The effective tax rate in 2019 is primarily due to the reduction of estimated tax benefits of approximately $7.9 million from the expected utilization of AMIC’s net operating loss carryforwards expiring in 2020 and 2021. The reduction in estimated tax benefits is largely due to the reorganization of the Specialty Health segment into specialty health and pet divisions, and the expansion of our D2C and tech-enabled operations, which reduced income for the current year. The work we have completed has caused us to show a loss at AMIC in the fourth quarter of 2019 and has reduced our income expectations over the remaining period that AMIC’s net operating loss carryforwards are available to offset income. Accordingly, this necessitated an increase in our valuation allowance to reflect our new expectations of reduced tax benefits from AMIC’s net operating loss carryforward. As a result of the 2017 Tax Act, the Company’s tax rate in 2018 reflects a blended 28% tax rate for the first six months of 2018 followed by a 21% tax rate for the last six months of 2018.
At December 31, 2019, the Company had $526.3 million of insurance liabilities that it expects to ultimately pay out of current assets and cash flows from future business. If necessary, the Company could utilize the cash received from maturities and repayments of its fixed maturity investments if the timing of claim payments associated with the Company's insurance resources does not coincide with future cash flows. For the year ended December 31, 2019, cash received from the maturities and other repayments of fixed maturities was $86.5 million.
The Company had receivables from reinsurers of $363.0 million at December 31, 2019 compared to $368.7 million at December 31, 2018. All of such reinsurance receivables are from highly rated companies or are adequately secured. No allowance for doubtful accounts was necessary at December 31, 2019.
The $10.9 million increase in IHC’s stockholders' equity in 2019 is primarily due to $12.4 million of net income attributable to IHC and $9.5 million of other comprehensive income attributable to IHC reduced by $6.0 million of common stock dividends declared, $4.1 million for treasury stock purchases and $1.0 million related to the purchase of non-controlling interests.
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. The Company has gross unrealized gains of $3.8 million and gross unrealized losses of $2.3 million on its fixed maturities available-for-sale securities at December 31, 2019. All 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, 2019.
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, 2019:
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, 2019, total goodwill was $60.2 million, all of which was attributable to the Specialty Health segment.
Based upon the goodwill impairment testing performed at December 31, 2019, the fair value of each reporting unit exceeded its carrying value and no impairment charge was required. Fair value exceeded carrying value by more than 10% in the Specialty Health segment.
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.
The following sections describe, for each segment, the unfavorable (favorable) development in the liability for policy benefits and claims experienced in 2019, together with the key assumptions and changes therein affecting the reserve estimates.
Due to the long-term nature of LTD, in establishing the liability for policy benefits and claims, the Company must make estimates for case reserves, incurred but not reported (“IBNR”), and reserves for Loss Adjustment Expenses (“LAE”). Case reserves generally equal the actuarial present value of the liability for future benefits to be paid on claims incurred as of the balance sheet date. The IBNR reserve is established based upon historical trends of existing incurred claims that were reported after the balance sheet date. The LAE reserve is calculated based on an actuarial expense study. Since the LTD block of policies is relatively small, with the potential for very large claims on individual policies, results can vary from year to year. If
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, 2019 or 2018.
Accelerate the number of leads we generate organically through our owned domains, including www.healthinsurance.org, www.medicareresources.org, www.healthedeals.com, www.petplace.com and through our partially owned lead generation company. We will emphasize enhancing out artificial intelligence capabilities, which will enhance our ability to identify consumer intent and improve conversion rates. We also expect to have a growing presence with affinity groups that desire to offer our products to their members, including serving USAA members seeking to purchase non-senior health insurance.
150 licensed call center agents Medicare Advantage and Medicare Supplement products by the beginning of the 2021 AEP (October 15, 2020 through December 7, 2020). We also expect to increase our career advisors division to 300 agents in seven offices nationally by the end of 2020. These non-salaried agents sell exclusively on the platform that we provide them, which provides a full complement of both in-house and third-party products in both the senior and non-senior markets.
Increasingly emphasize sales by IHC Agencies of policies underwritten by non-affiliated carriers, including small group stop-loss, ACA plans and Medicare Advantage and Medicare Supplement; for which, they will receive commissions and fees for selling these products and will not bear any of the insurance risk. When they sell products for these other carriers, the IHC Agencies will record revenue based on estimated constrained lifetime values (“LTV”) representing the expected commissions to be received over the lifetime of the policies sold. As these products generally renew for multiple years, and the IHC Agencies do not have any future performance obligations with regards to the renewal process, they will record revenue at the time of sale based on our expected policy duration. Therefore, due to the change in focus to sales of non-IHC products in 2020, particularly during AEP, we expect a significant increase in commission revenues in the fourth quarter of 2020.
Continue to increase our DBL/PFL premiums. Effective January 1, 2018, Standard Security Life began selling a new PFL rider 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. The PFL rate is scheduled to increase by 76% for 2020.
Achieve increases in both long-term and short-term disability premiums generated from new