Operating results 1997 1996 1995 1994 1993 ==== ==== ==== ==== ==== Net premiums earned ....... 31,156 $26,654 $24,372 $26,289 $29,240 Net investment income ..... 4,294 3,935 4,311 4,001 3,894 Net realized investment gains ................ 2,716 1,839 1,650 1,720 661 Other income .............. 695 582 505 400 602 Total revenues .................$38,775 $33,010 $30,838 $32,410 $34,397
Net income per share before extraordinary items .......$ 1.28 $ 0.58 $ 0.09 $ 1.57 $ 1.47 Extraordinary gain ............. 0.00 0.00 0.00 0.00 0.11 $ 1.28 $ 0.58 $ 0.09 $ 1.57 $ 1.58
Total shareholders' equity .....$ 46,352 $ 40,519 $ 39,774 $ 38,482 $ 39,140
Book value per share ...........$ 20.04 $ 17.43 $ 17.11 $ 16.44 $ 16.73
Dividends per share ............$ 0.70 $ 0.65 $ 0.61 $ 0.57 $ 0.52
Net change in unrealized capital gains (net of tax) ....$ 4,556 $ 968 $ 2,726 ($ 3,030) $ 850
Total assets ...................$106,958 $ 98,219 $ 97,266 $ 89,986 $ 86,875
Premium revenues: 1997 % 1996 % 1995 % Life and accident and health insurance ......$ 3,991 12.8 $ 4,433 16.6 $ 4,903 20.1 Property and casualty insurance . 27,165 87.2 22,221 83.4 19,469 79.9 ------ ----- ------- ----- ------ ---- $ 31,156 100.0 $ 26,654 100.0 $ 24,372 100.0
The decrease in the agency force has reduced sales commissions and general expenses for field operations which has reduced expenses as a percent of premium income. Administrative and tax expenses have also decreased from last year.
Property & Casualty Operations: Pretax earnings were $1.572 million in 1997, a 32% increase over 1996 pretax earnings of $1.191 million. Pretax earnings in 1996 were up 45% compared to $651,000 in 1995. The low valued dwelling fire and extended coverage program (LVD) was much improved in 1997. The LVD program incurred a greater than normal amount of fire and windstorm losses in 1996, and was hit by Hurricane Opal in 1995 which reduced earnings by $2 million. Unfortunately the improved results in the LVD program were offset by adverse loss development in the automobile programs in Georgia and Louisiana. The property/casualty subsidiary attempted to obtain rate increases in Louisiana due to the adverse loss development, but the rate filings were denied by the State Insurance Rating Bureau. Due to the failed attempts to adjust rates, the Louisiana automobile program will be discontinued in 1998. A rate increase was granted in the State of Georgia, and more stringent underwriting guidelines have been implemented so this program will continue, but will be monitored closely for signs of improvement. The primary reason for the improvement in earnings was the capital gains realized from the sale of common stock investments.
The results of these ratios for the past three years were: 1997 1996 1995 ---- ---- ---- Loss and LAE Ratio 79.3% 79.8% 82.8% Underwriting Expense Ratio 31.0% 30.9% 31.4% ----- ------ ------ Combined Ratio 110.3% 110.7% 114.2% ===== ===== ======
Premium income increased 22% to $27.165 million verses $22.222 million in 1996 which increased 14% from $19.469 million in 1995. The premium growth came primarily from automobile programs in Louisiana and Georgia. As mentioned above, a Louisiana automobile program was discontinued in February 1998 because of unfavorable underwriting experience and a proposed rate increase being denied. To help offset this loss of premium, a Florida automobile and a Louisiana mobile homeowners program began in 1997.
SVO Equivalents % of Total SVO Class Moody's Standard and Poor's Bond Portfolio - --------- ---------- ------------------- -------------- 1 Aaa to A3 AAA to A- 90.4 2 Baa to Baa3 BBB+ to BBB- 7.3 3 Ba1 to Ba3 BB+ to BB- 0.6 4 B1 to B3 B+ to B- 0.9 5 Caa to Ca CCC+ to C 0.8 6 C Ci to D 0.0
The insurance subsidiaries' fixed maturity securities include mortgage-backed bonds, primarily collateralized mortgage obligations (CMO's), of $14.1 million and $11.2 million at December 31, 1997 and 1996 respectively. The mortgage-backed bonds are subject to risks associated with variable prepayments of the underlying mortgage loans. Prepayments cause those securities to have different actual maturities than that expected at the time of purchase. Securities that are purchased at a premium to par value and prepay faster than expected will incur a reduction in yield or loss. Securities that are purchased at a discount to par value and prepay faster than expected will generate an increase in yield or gain. The degree to which a security is susceptible to either gains or losses is influenced by the difference between amortized cost and par value, the relative sensitivity of the underlying mortgages backing the assets to prepayments in a changing interest rate environment and the repayment priority of the securities in the overall securitization structure.
The Company limits the extent of its credit risk by purchasing securities that are backed by stable collateral, the majority of the assets are guaranteed by U.S. government sponsored entities. Also, the majority of all of the subsidiaries' CMO's are Planned Amortization Class (PAC) bonds. PAC bonds are typically the lowest risk CMO's, and provide greater cash flow predictability. Such securities with reduced risk typically have a lower yield, but higher liquidity, than higher- risk mortgage backed bonds. To reduce the risk of loss of principal should prepayments exceed expectations, the Company does not purchase mortgage backed securities at significant premiums over par value.
The Company has standby letters of credit of less than $25,000. These letters are used to guarantee obligations of the property/casualty subsidiary under assumed reinsurance contracts. The letters of credit are secured by certain invested assets of the Company. The Company also routinely incurs liability for declared but unpaid dividends. Long term liquidity needs of the Company constitute only those items which are directly related to the principal business operations of the Company. The Company has long term debt of $133,000 at December 31, 1997.
The ability of the Company to meet its commitments for timely payment of claims and other expenses depends, in addition to current cash flow, on the liquidity of its investments. On December 31, 1997, the Company had no known impairments of assets or changes in operation which would have a material adverse effect upon liquidity. Approximately 81% of the Company's assets are invested in cash, investment grade fixed income securities, short-term investments and broadly traded equity securities which are highly liquid. The values of these investments are subject to the conditions of the markets in which they are traded. Past fluctuations in these markets have had little effect on the liquidity of the Company. The Company has relatively little exposure to lower grade fixed income investments which might be especially subject to liquidity problems due to thinly traded markets.
As disclosed in note 8 to the consolidated financial statements, in 1998, the amount that The National Security Group's insurance subsidiaries can transfer in the form of dividends to the parent company is limited to $842,000 in the life insurance subsidiary and $2.7 million in the property/casualty insurance subsidiary. However, that condition poses no short-term or long-term liquidity concerns for the parent company.
National Security Fire & Casualty Company (property/casualty insurer) has regulatory adjusted capital of $27.2 million and $24.1 million at December 31, 1997 and 1996, respectively, and a ratio of regulatory total adjusted capital to authorized control level RBC of 8.4 and 8.3 at December 31, 1997 and 1996 respectively. Accordingly, National Security Fire & Casualty Company meets the minimum RBC requirements.
The Company is currently modifying significant portions of its computer programs so that its computer systems will function properly with respect to the year 2000 date recognition. The Company presently believes that with modifications to existing software, the year 2000 issue will not pose a significant operational problem. However, if such modifications are not made, or not completed timely, the year 2000 issue could have a material impact on the operations of the Company.
Consolidated Statements of Shareholders' Equity - Years Ended December 31, 1997, 1996, and 1995......................... 21
Consolidated Statements of Cash Flows - Years Ended December 31, 1997, 1996, and 1995......................... 22
Report of Independent Certified Public Accountants on Financial Statement Schedules......................................... 34
Schedule I. Summary of Investments - December 31, 1997 and 1996........ 35
Schedule III. Condensed Financial Information of Registrant - December 31, 1997 and 1996............................................. 36
Schedule V. Supplementary Insurance Information - December 31, 1997, 1996, and 1995...................................... 40
Schedule VI. Reinsurance - Years Ended December 31, 1997, 1996, and 1995........................... 41
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of The National Security Group, Inc. and subsidiaries at December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles.
Birmingham, Alabama Dudley, Hopton-Jones, Sims & Freeman PLLP February 20, 1998
REVENUES Net premiums earned ...................... $ 31,156 $ 26,654 $ 24,372 Net investment income .................... 4,204 3,935 4,311 Net realized investment gains ............ 2,720 1,839 1,650 Other income ............................. 695 582 505 -------- -------- -------- 38,775 33,010 30,838 -------- -------- -------- BENEFITS AND EXPENSES Policyholder benefits paid or provided ... 22,995 19,677 17,721 Amortization of deferred policy acquisition costs ....................... 1,488 995 1,142 Commissions .............................. 4,334 3,726 3,539 General insurance expenses ............... 5,229 5,515 6,709 Insurance taxes, licenses and fees ....... 1,258 1,367 1,339 Interest expense ......................... 111 109 112 -------- -------- -------- 35,415 31,389 30,562 -------- -------- -------- Income Before Income Taxes .... 3,360 1,621 276 -------- -------- -------- INCOME TAX EXPENSE Current .................................. 848 421 45 Deferred ................................. (486) (156) 17 -------- -------- -------- 362 265 62 -------- -------- -------- Net Income ..................... $ 2,998 $ 1,356 $ 214 -------- -------- --------
Net Income .................... $ 1.28 $ .58 $ .09 -------- -------- --------
Investments The Company's securities are classified in two categories and accounted for as follows:
Realized gains and losses on the sale of securities available-for-sale are determined using the specific-identification method.
The fair values of cash, cash equivalents, short-term investments and balances due on account from agents, reinsurers and other approximate their carrying amounts as reflected in the consolidated balance sheets due to their short-term availability or maturity.
The fair value of other policyholder funds on deposit is estimated to approximate carrying amount of $1,729,000 on December 31, 1997 and $1,842,000 on December 31, 1996.
Policy Liabilities The liability for future life insurance policy benefits is computed using a net level premium method including the following assumptions: Years of Issue Interest Rate 1947 - 1968 4% 1969 - 1978 6% graded to 5% 1979 - 1997 7% graded to 6%
The amortized cost and aggregate fair value of debt securities at December 31, 1997, by contractual maturity, are as follows. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call prepayment penalties.
Available-for-sale securities: Due in one year or less $ 0 $ 0 Due after one year through five years 5,586,418 5,634,726 Due after five years through ten years 7,667,898 7,790,173 Due after ten years 7,876,498 7,679,283
Proceeds from the sale of available-for-sale securities during 1997 were $6,001,536. Gross gains of $2,392,684 and gross losses of $53,157 for 1997 were realized on those sales.
Fixed maturities ............................ $ 3,334 $ 3,112 $ 3,336 Equity securities ........................... 654 559 663 Mortgage loans on real estate ............... 29 39 45 Investment real estate ...................... 18 13 17 Policy loans ................................ 37 37 34 Other, principally short-term investments ... 222 230 234 ------- ------- ------- 4,294 3,990 4,329 Less: Investment expenses .................. (90) (55) (18) ------- ------- ------- Net investment income ....................... $ 4,204 $ 3,935 $ 4,311
Investment real estate with a carrying value of approximately $2,000,000 produced insignificant income during the year ended December 31, 1995. This property was sold during the year ended December 31, 1995.
The tax effect of significant temporary differences representing deferred tax assets and liabilities are as follows: (Dollars in Thousands) December 31, December 31 1997 1996 ----- ------
Deferred policy acquisition costs .................... $(1,434) $(1,364) Policy liabilities ................................... 519 516 Unearned premiums .................................... 442 440 Claim liabilities .................................... 530 329 General insurance expenses ........................... 931 582 Unrealized gains on securities available-for-sale .... (5,066) (3,355) ------- ------- Net deferred tax liabilities ......................... $(4,078) $(2,852) ------- -------
Deferred policy acquisition costs .......... $ 70 $ 226 $ (59) Policy liabilities ......................... (3) (17) (76) Unearned premiums .......................... (2) (87) (21) General insurance expenses ................. (349) (268) (3) Claim liabilities .......................... (201) (38) -- Other ...................................... -- 28 176 ----- ----- ----- $(485) $(156) $ 17 ----- ----- -----
NOTE 8 - REGULATORY REQUIREMENTS AND DIVIDEND RESTRICTIONS: The amount of dividends paid from NSIC to the Company in any year may not exceed, without prior approval of regulatory authorities, the greater of 10% of statutory surplus as of the end of the preceding year, or the statutory net gain from operations for the preceding year. At December 31, 1997, NSIC's retained earnings unrestricted for the payment of dividends in 1998 amounted to $842,377. NSFC is similarly restricted in the amount of dividends payable to the Company; dividends may not exceed the greater of 10% of statutory surplus as of the end of the preceding year, or net income for the preceding year. As a result, dividends from NSFC to the Company are limited to $2,722,430 in 1998.
Securities with market values of $3,306,062 and $3,314,044, at December 31, 1997 and 1996, respectively, were deposited with various states pursuant to statutory requirements.
Common Stock The holders of the Class A Common Stock will have one-twentieth of one vote per share, and the holders of the common stock will have one vote per share.
Premium revenues: Individual life and accident and health insurance ................................ $ 3,991 $ 4,432 $ 4,903 Property and casualty insurance ............ 27,165 22,222 19,469 ------- ------- ------- $31,156 $26,654 $24,372 ------- ------- ------- Income (loss) before income taxes and cumulative effect adjustment: Individual life and accident and health insurance ................................ $ 2,171 $ 1,140 $ (178) Property and casualty insurance ............ 1,572 1,191 651 Other ...................................... (272) (601) (85) ------- ------- ------- 3,471 1,730 388 Interest expense ..................... (111) (109) (112) ------- ------- ------- $ 3,360 $ 1,621 $ 276 ------- ------- -------
Amortization of deferred policy acquisition costs and depreciation expense: Individual life and accident and health insurance ................................ $ 319 $ 232 $ 271 Property and casualty insurance ............ 1,339 879 939 ------- ------- ------- $ 1,658 $ 1,111 $ 1,210 ------- ------- -------
We have audited in accordance with generally accepted auditing standards, the financial statements of The National Security Group, Inc. as of December 31, 1997 and 1996 and for the years then ended included in this Form 10-K, and have issued our report thereon dated February 20, 1998. Our audits were made for the purpose of forming an opinion on those statements taken as a whole. The schedules listed in the accompanying index are the responsibility of the Company's management and are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic financial statements. These schedules as of December 31, 1997 and 1996 and for the years then ended have been subjected to the auditing procedures applied in the audits of the basic financial statements and, in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole.
THE NATIONAL SECURITY GROUP, INC. (PARENT COMPANY) SCHEDULE III - CONDENSED FINANCIAL INFORMATION OF REGISTRANT BALANCE SHEETS (AMOUNTS IN THOUSANDS)
The "Notes to Consolidated Financial Statements of The National Security Group, Inc." are an integral part this condensed financial information of the registrant.
THE NATIONAL SECURITY GROUP, INC. (PARENT COMPANY) SCHEDULE III - CONDENSED FINANCIAL INFORMATION OF REGISTRANT STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS)
The "Notes to Consolidated Financial Statements of The National Security Group, Inc." are an integral part of this condensed financial information of the registrant.
Note 1-Basis of Presentation Pursuant to the rules and regulations of the Securities and Exchange Commission, the Condensed Financial Information of the Registrant does not include all of the information and notes normally included with financial statements prepared in accordance with generally accepted accounting principles. It is, therefore, suggested that these Condensed Financial Statements be read in conjunction with the Consolidated Financial Statements and Notes thereto included in the Registrant's Annual Report as referenced in Form 10-K, Part II, Item 8, page 23.
Note 2-Cash Dividends from Subsidiaries Dividends of $1.85 million in 1997, $1.80 million in 1996 and $1.68 million in 1995 were paid to the Registrant by its subsidiaries.
THE NATIONAL SECURITY GROUP, INC. SCHEDULE VI. REINSURANCE (CONSOLIDATED) (Amounts in thousands)