In September 1999, the Company and its co-owner signed an agreement to sell the office building to a local investor. Closing on the sale transaction is expected to take place in June 2000, at which time the Company anticipates leasing a minimal amount of office space elsewhere in order to complete the liquidation process.
A review of the significant factors which affected the Company's net assets in liquidation at December 31, 1999 and the changes in its net assets in liquidation for the year then ended is presented below. Information relating to 1998 and 1997 is also presented for comparative purposes. This analysis should be read in conjunction with the Consolidated Financial Statements and the related Notes appearing elsewhere in this Form 10-K.
The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements. This Form 10-K may include forward- looking statements which reflect the Company's current views with respect to future events and financial performance. These forward-looking statements are identified by their use of such terms and phrases as "intends", "intend", "intended", "goal", "estimate", "estimates", "expects", "expect", "expected", "project", "projected", "projections", "plans", "anticipates", "anticipated", "should", "designed to", "foreseeable future", "believe", "believes" and "scheduled" and similar expressions. Readers are cautioned not to place undue reliance on these forward-looking statements which speak only as of the date the statement was made. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
At the Special Meeting of Shareholders held on March 24, 1998, the Company's preferred and common shareholders approved the sale of the Company's credit insurance and related products business, which was the Company's only remaining business operation following the previous sales of its traditional and universal life insurance businesses and its auto auction business. In connection with the sale of its inforce credit insurance business, the Company also sold its credit insurance customer accounts and one of its life insurance subsidiaries. At the Special Meeting, the shareholders also approved a Plan of Liquidation and Dissolution, pursuant to which the Company is now liquidating its remaining assets so that it can pay or provide for all of its liabilities, distribute cash to its preferred shareholders, up to the liquidation preference of those shares, and distribute the remaining cash, if any, to its common shareholders.
For the year ended December 31, 1999, the Company s expenses exceeded its revenues by $252,000. In 1998, the Company reported (i) net income of $24,000 from January 1, 1998 to March 24, 1998 and (ii) an excess of expenses (including income taxes) over income of $132,000 for the period from March 25, 1998 to December 31, 1998, resulting in a total net loss of $108,000. In 1997, the Company s net loss totaled $6.4 million. The losses in 1999 and 1998 improved compared to the 1997 loss because of significant expense reductions and the elimination of the substantial losses which were being incurred in the Company s credit insurance business prior to its sale. A $3.9 million loss on the disposal of that segment and an additional $825,000 operating loss from that line of business were reflected in the 1997 results of operations.
With respect to the home office building, in which it owns a one-half interest, the Company's lease on the half interest it does not own expired in July 1999. In accordance with the terms of the lease, the Company also paid all taxes, insurance, utilities and repairs in addition to its base rent. The Company now has no lease commitment and is responsible for only 50% of the operating costs. In September 1999, the Company and the co-owner signed an agreement to sell the property. Settlement is scheduled to occur in June 2000.
From January 1, 1998 to March 24, 1998, the period prior to the adoption of the liquidation basis of accounting, the Company reported net income of $24,000 (a loss of $.04 per share) as a result of a $112,000 gain from the 1997 disposal of its discontinued credit insurance business. The gain represented an adjustment to certain estimates made in 1997 when the loss was initially reported.
For the year ended December 31, 1997, the Company reported a loss from continuing operations of $1.4 million ($.73 per share) and a loss from discontinued operations of $4.9 million ($1.89 per share). The loss from continuing operations was in large part due to a $744,000 write-down of the Company's real estate holdings, including its home office building. The loss from discontinued operations was principally attributable to a $3.9 million loss on the disposal of the Company's credit insurance business and an additional $825,000 operating loss from that segment prior to its sale. A loss of $167,000 was also reported from the sale of the final portion of the Company's individual life insurance business in early 1997.
Given its plans to liquidate and eventually dissolve, the Company has made no commitments for capital expenditures and does not intend to make any such commitments in the future. The Company's net assets in liquidation declined by $383,000 for the year ended December 31, 1999. As discussed earlier, the reduction is attributable to a $252,000 net loss for the year, a $388,000 increase in the Company's pension plan liability and preferred stock dividends of $406,000. These decreases were partially offset by a $210,000 adjustment of certain liabilities to their estimated settlement amounts and a $303,000 reduction in the estimated liquidation value of the Company's preferred stock. The amount of the ultimate pension liability, and consequently the need for any further increase or decrease in the liability, is dependent on a number of factors, the most important of which is the prescribed interest rate which is in effect at the time the plan is terminated.
The Company's subsidiaries have historically met most of their cash requirements from funds generated from operations, while the Company has generally relied on its principal operating subsidiaries to provide it with sufficient cash funds to maintain an adequate liquidity position. As a result of the Company's decision to sell its remaining operations, liquidate all of its net assets and distribute cash to its shareholders, the Company's principal sources of cash funds are the fee income discussed earlier, investment income on existing assets and proceeds from the sale of non liquid assets. These funds must be used to settle all remaining liabilities as they become due, to pay operating expenses until the Company is dissolved and to pay dividends on the preferred stock until a final distribution is made to the preferred shareholders. The adequacy of the Company's liquidity position in the future will be principally dependent on its ability to sell its home office building and other non liquid assets and the timing of such sales, as well as on the outcome of the investment income dispute referred to above and the level of operating expenses the Company must incur during the liquidation period.
The terms of the Company's 8.5% redeemable preferred stock require the Company to make annual payments to a sinking fund. The first such payment was due in July 1998. The preferred stock terms also provide that any purchase of preferred shares by the Company will reduce the sinking fund requirements by the redemption value of the shares acquired. As a result of the Company's purchases of preferred stock prior to 1998, no sinking fund payment was due in 1998, and the required payment due for 1999 was reduced from $550,000 to $414,610. The purchase of 18,000 preferred shares in 1999 further reduced the sinking fund deficiency to $234,610 at December 31, 1999.
Because of the Company's current plans to liquidate its assets, pay all of its liabilities, distribute any remaining cash to its shareholders and ultimately dissolve within the next three years, the effects of inflation on the Company are minimal.
The consolidated financial statements for the year ended December 31, 1999 have been audited by Stambaugh-Ness, P.C., independent auditors. The consolidated financial statements for the years ended December 31, 1998 and 1997 have been audited by Arthur Andersen LLP, independent auditors. Such audits were conducted in accordance with generally accepted auditing standards, and included a review and evaluation of our internal accounting control structure, tests of the accounting records and other auditing procedures which the auditors considered necessary to express their informed professional opinions on the consolidated financial statements.
We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and the significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
As described in Note 4 to the financial statements, the shareholders of Consumers Financial Corporation approved a plan of liquidation on March 24, 1998, and the Company commenced liquidation shortly thereafter. As a result, the Company changed its basis of accounting for periods subsequent to March 24, 1998 from the going-concern basis to the liquidation basis. Accordingly, the carrying values of the remaining assets as of December 31, 1999, are presented at estimated realizable values and all liabilities are presented at estimated settlement amounts.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated net assets in liquidation of Consumers Financial Corporation and subsidiaries as of December 31, 1999 and the consolidated changes in their net assets in liquidation for the year then ended, in conformity with generally accepted accounting principles applied on the basis described in the preceding paragraph.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and the significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
As described in Note 4 to the financial statements, the shareholders of Consumers Financial Corporation approved a plan of liquidation on March 24, 1998, and the Company commenced liquidation shortly thereafter. As a result, the Company has changed its basis of accounting for periods subsequent to March 24, 1998 from the going-concern basis to the liquidation basis. Accordingly, the carrying values of the remaining assets as of December 31, 1998, are presented at estimated realizable values and all liabilities are presented at estimated settlement amounts.
The operating losses incurred by the Company from 1993 to 1997 significantly reduced its net worth and its liquidity position. As a result, in late 1997, the Company signed an agreement to sell its core credit insurance and related products business, which had been its only remaining business operation, following the sales in 1994 and 1997 of all of its universal life insurance business and the 1996 sale of its auto auction business. Settlement on the sale of the credit insurance business took place in May 1998. The Company s income or loss from operations now consists principally of (i) earned premium and related costs associated with a small, closed block of extended service contract business which was recaptured by the direct writer in late 1999, (ii) fee revenues received from Life of the South Corporation, a Georgia-based financial services holding company which acquired the Company s credit insurance business and its credit insurance accounts (LOTS), (iii) investment income on remaining assets and (iv) corporate expenses.
Prior to March 25, 1998, the Company reported the results of its operations and its asset and liability amounts using accounting principles applicable to going concern entitites, as discussed below. Certain prior year amounts have been reclassified to conform with classifications used for 1999. Investments
Fixed maturities includes bonds, notes and certificates of deposit maturing after one year. Management determines the appropriate classification of bonds and notes at the time of purchase and reevaluates such designation as of each balance sheet date. These securities are classified as held-to- maturity when the Company has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost. All other bonds and notes are classified as available-for-sale. Available-for-sale securities are carried at fair value, with the unrealized gains and losses, net of income taxes, reported as a separate component of shareholders equity. The amortized cost of fixed maturity securities is adjusted for amortization of premiums and accretion of discounts to maturity. All certificates of deposits maturing after one year are deemed to be held to maturity.
Interest on fixed maturities and short-term investments is credited to income as it accrues on the principal amounts outstanding, adjusted for amortization of premiums and discounts computed by the interest method. Dividends are recorded as income on the ex-dividend dates. Loan origination and commitment fees are amortized, using the interest method, over the life of the mortgage loan. The accrual of interest on mortgage loans is generally discontinued when the full collection of principal is in doubt, or when the payment of principal or interest has become contractually 90 days past due.
The following methods and assumptions were used by the Company in estimating its fair value disclosure for financial instruments: Cash and short-term investments: The carrying amounts reported in the balance sheet for these instruments approximate their fair values.
Prior to the discontinuation of its insurance operations, the Company deferred the costs of acquiring new insurance business. The costs deferred consisted principally of commissions, certain sales salaries and other expenses that varied with and were primarily related to the production of new business. Acquisition costs relating to single premium credit insurance were amortized so as to charge each year's operations in direct proportion to premiums earned. Deferred policy acquisition costs were expensed when such costs were deemed not to be recoverable from future earned premiums and investment income or, when applicable, from the estimated proceeds to be received from the sale of the related insurance business.
Property and equipment are stated at estimated net realizable value. Depreciation is being provided on the straight-line method over the estimated useful lives of the assets.
The Company and its subsidiaries provide income taxes, for financial reporting purposes, on the basis of the liability method as required by Statement of Financial Accounting Standards No. 109. Earnings per share
(c) The statutory liabilities for the interest maintenance reserve and asset valuation reserve, designed to lessen the impact on surplus of market fluctuations of securities and mortgage loans, have not been provided in the financial statements.
(d) Certain assets are reported as assets rather than being charged directly to surplus and excluded from the balance sheets.
Dividends and other distributions to the Company from Consumers Life are limited in that Consumers Life is required to maintain minimum capital and surplus in each of the states in which it is licensed, determined in accordance with regulatory accounting practices. The amount of minimum capital and surplus required is $8.6 million. As a result of reductions in its capital and surplus over the past four years, at December 31, 1999, Consumers Life does not meet the minimum capital and surplus requirements in four of the states in which it is licensed. Consequently, it has agreed to temporary suspension of its insurance license in two of those states. No actions have been taken with respect to this matter by the insurance departments of the other two states. Since the Company does not intend to write any new insurance business through Consumers Life and is currently attempting to sell the subsidiary, the temporary suspension of two licenses has no material effect on the Company.
Under Delaware insurance laws, distributions are subject to further restrictions relating to capital and surplus and operating earnings. Accordingly, under normal circumstances, at December 31, 1999, approximately $5 million of Consumers Life's net assets cannot be transferred to the parent company and $433,000 is available for transfer during 2000. However, because of its prior operating losses and its current capital and surplus position, the Company is not permitted to pay any dividends without prior approval from the Delaware Department of Insurance. Also, any loans or advances to the parent company of a material amount must be reported to the insurance department. The Company may have limited cash funds available to pay dividends in excess of amounts transferred from Consumers Life.
The sale of the inforce block of business referred to in (ii) above was completed on May 13, 1998 after the required approvals of the Company s preferred and common shareholders and state insurance regulators in the states of Delaware and Ohio were received. Settlement on the sale of the reinsurance subsidiary referred to in (iii) above occurred on September 28, 1998, following the approval in late August of the insurance regulators in the state of Arizona.
The sale of the inforce block of business resulted in an after-tax loss of approximately $3,705,000, of which $3,919,000 was reflected in the Company s fourth quarter 1997 financial statements through a write-down of deferred policy acquisition costs. The 1997 loss included an $819,000 loss from operations from September 30, 1997 (the measurement date) to December 31, 1997. An offsetting gain on disposal of $214,000, which resulted from adjustments to certain estimates made in 1997, was included in the Company s 1998 financial statements. As a result of the sale of the Company s credit insurance and related operations to LOTS, in the accompanying financial statements, the operating results of the credit insurance and related fee income business have been reported as discontinued operations for all periods prior to the adoption of the liquidation basis of accounting.
Proceeds from the sales of investments in debt securities during 1999 were $850,000. There were no gains or losses on those sales. Proceeds from such sales in 1998 were $3.7 million. Gross gains of $58,000 and gross losses of $6,000 were realized on those sales. Proceeds from sales in 1997 were $48 million. Gross gains of $446,000 and gross losses of $247,000 were realized on those sales.
The composition of future policy benefits and unearned premiums at December 31, 1999 and the assumptions pertinent thereto are as follows:
Future policy benefits and unearned premiums do not include any deduction for reinsurance ceded to other companies. At December 31, 1999 and 1998, all but $39,000 of the Company s future policy benefits liability was reinsured to other insurers in connection with the discontinuation of the Company s insurance operations. Similarly, all of the Company s unearned premiums liability at December 31, 1999 was reinsured to other insurers, and all but $323,000 of the unearned premiums liability at December 31, 1998 was reinsured. Future policy benefits and unearned premiums related to such reinsurance are classified as Reinsurance Recoverable and Prepaid Reinsurance Premiums, respectively, as shown in the following table.
Life insurance in force net of reinsurance ceded was $58,000 at December 31, 1999 and 1998.
Incurred benefits and losses reinsured in 1999 were $12.6 million compared to $16.4 million in 1998 and $6.8 million in 1997. These amounts have been deducted in arriving at Death and Other Benefits in the Consolidated Statements of Operations and in computing Policyholder Benefits in the Consolidated Statements of Changes in Net Assets in Liquidation. However, Future Policy Benefits and Unearned Premiums at December 31, 1999 and 1998 do not include any deduction for reinsurance ceded. Instead, the amounts related to such reinsurance are classified as Reinsurance Recoverable and Prepaid Reinsurance Premiums (see Note 9).
The defined contribution plans, which include an employee stock ownership plan, provide for annual contributions in amounts determined by the Board of Directors. Such contributions are based upon the annual compensation of each employee. Company contributions in 1999 were $11,100, while no contributions were made in either 1998 or 1997. With respect to the employee stock ownership plan, in September 1999, the Company notified the plan participants of its intent to terminate the plan and also requested a determination letter confirming the plan s qualified status from the Internal Revenue Service.
Reconciliations of beginning and ending balances of the plan's projected benefit obligation and its assets are presented below.
The building lease was classified as an operating lease. The Company has no other significant leases.
In connection with the cancellation of a joint venture agreement in 1996, the Company agreed to pay its former joint venture partner a pro rata share of the proceeds it receives from the sale of its credit insurance accounts. Accordingly, over the next three years, the Company will pay its former partner approximately 19% of any gross fee revenues received from LOTS for the sale of its customer accounts.
Reinsurance risks would give rise to liability to the insurance companies only in the event that the reinsuring company might be unable to meet its obligations under the reinsurance agreements in force.
The Redeemable Convertible Preferred Stock (the Preferred Stock ) has a liquidation preference of $10.00 per share and is convertible at any time, unless previously redeemed, into shares of common stock at the rate of 1.482 shares of common stock for each share of Preferred Stock (equivalent to a conversion price of $6.75 per share). The Preferred Stock is redeemable at the option of the Company at a redemption price of $10.00 per share.
When the Company is in arrears as to preferred dividends or sinking fund appropriations for the Preferred Stock, dividends to holders of the Company's common stock as well as purchases, redemptions or acquisitions by the Company of shares of the Company's common stock are restricted. If the Company is in default in an aggregate amount equal to four quarterly preferred dividends, the holders of the Preferred Stock shall be entitled, only while such arrearage exists, to elect two additional members to the then existing Board of Directors.
Prior to March 25, 1998, the difference between the fair value of the Preferred Stock at the date of issue and the mandatory redemption value was recorded through periodic accretions, using the interest method, resulting in a charge to retained earnings ($9,000 in 1998 and $36,000 in 1997). Upon the adoption of the liquidation basis of accounting in March 1998, the unaccreted difference of $175,000 was recorded as a reduction in the Company s net assets. At December 31, 1999, the redemption value of the Preferred Stock exceeded the net assets available to redeem these shares by $303,000. Accordingly, the carrying amount for the Preferred Stock has been reduced to reflect the net assets available.
At December 31, 1998 and 1997, the Company had 132,000 outstanding stock options which were exercisable at $2.25 per share. During 1999, all of these options expired. In addition, 17,000 options expired in 1997. No options were exercised during the three year period ended December 31, 1999.
At December 31, 1997, the Policyholders Surplus Account for Consumers Life exceeded the prescribed maximum by approximately $1.1 million, resulting in an additional tax liability of approximately $372,000, which was included in the Company s 1997 financial statements. At December 31, 1999 and 1998, the Policyholders' Surplus Account for Consumers Life was approximately $439,000.
The Company files a consolidated Federal income tax return. At December 31, 1999, Consumers Life has available approximately $3.2 millon of Federal net operating losses. These losses will be carried forward to future years, and may only be used to offset the taxable income of the life insurance company sub-group. The net operating losses will expire at various times from 2009 to 2014.
The following table sets forth the computation of basic and diluted per share data for continuing operations for periods prior to the adoption of the liquidation basis of accounting.