Self Insurance Administrators, Inc. (“SIA”), a non-insurance subsidiary of the Company, leases space for its office in a building located in Duluth, Georgia. The lease term expired March 31, 2008 and SIA was
The following is management’s discussion and analysis of the financial condition and results of operations of Atlantic American Corporation (“Atlantic American” or the “Parent”) and its subsidiaries (collectively, the “Company”) for each of the three years in the period ended December 31, 2007. This discussion should be read in conjunction with the consolidated financial statements and notes thereto included elsewhere herein.
variety of reserving methods, as opposed to total reliance on any single method. Unpaid loss and loss adjustment expenses are reviewed periodically for significant lines of business, and when current results differ from the original assumptions used to develop such estimates, the amount of the Company’s recorded liability for unpaid loss and loss adjustment expenses is adjusted. In the event the Company’s actual reported losses in any period are materially in excess of the previous estimated amounts, such losses, to the extent reinsurance coverage does not exist, would have a material adverse effect on the Company’s results of operations.
Cash and investments comprised 47% of the Company’s total assets at December 31, 2007. Substantially all investments are in bonds and common and preferred stocks, which are subject to significant market fluctuations. The Company carries all investments as available for sale and, accordingly, at their estimated fair values. The Company owns certain non-redeemable preferred stocks that do not have quoted values and are carried at estimated fair values as determined by management. Such values inherently involve a greater degree of judgment and uncertainty and therefore ultimately greater price volatility. On occasion, the value of an investment may decline to a value below its amortized purchase price and remain at such value for an extended period of time. When an investment’s indicated fair value has declined below its cost basis for a period of time, primarily due to changes in credit risk, the Company evaluates such investment for other than a temporary impairment. If other than a temporary impairment is deemed to exist, then the Company will write down the amortized cost basis of the investment to its estimated fair value. While such write down does not impact the reported value of the investment in the Company’s balance sheet, it is reflected as a realized investment loss in the Company’s consolidated statements of operations.
On a consolidated basis, the Company had net income of $7.3 million, or $0.25 per diluted share, in 2007, compared to net income of $8.9 million, or $0.33 per diluted share, in 2006 and a net loss of $3.2 million, or $0.21 per diluted share, in 2005. Income from continuing operations was $11.6 million in 2007, compared with $7.2 million in 2006 and $1.1 million in 2005; while the loss from discontinued operations was $4.3 million in 2007 as compared to income from discontinued operations of $1.8 million in 2006 and a loss from discontinued operations of $4.3 million in 2005. Income from continuing operations before income taxes was $19.1 million in 2007 compared with $9.6 million in 2006 and a loss of $0.6 million in 2005. The significant increase in income from continuing operations before income taxes was due to realized investment gains which totaled $12.6 million in 2007 as compared with $3.1 million in 2006. In 2007, the Company disposed of a significant holding in Wachovia Corporation which resulted in realized investment gains totaling $12.9 million; whereas in 2005, the Company recognized a $7.2 million impairment due to its automotive sector holdings. Such variations between years in realized investment gains significantly influence the reported income (loss) from continuing operations before income taxes. Income from continuing operations before income taxes and realized investment gains was $6.5 million in both 2007 and 2006. Income from continuing operations before income taxes and realized investment losses in 2005 was $6.7 million. The magnitude of realized investment gains and losses in any year are a function of the timing of trades of investments relative to the markets themselves as well as the recognition of any impairments on investments.
Total expenses have decreased consistent with the related premium decreases; although not directly proportionate. Insurance benefits and losses and commissions and underwriting expenses as a percentage of premiums were 93.4%, 93.0% and 93.2% in 2007, 2006 and 2005, respectively.
The Company’s property and casualty operations are comprised of American Southern and the Company’s life and health operations consist of the operations of Bankers Fidelity.
Premium revenue at Bankers Fidelity decreased $2.7 million, or 4.5%, during 2007 as compared to 2006. Premiums from the Medicare supplement line of business decreased $3.1 million, or 7.0%, in 2007 over 2006 and accounted for 74% of total 2007 earned premiums. In 2007, the company’s five key states in terms of premium revenue, Georgia, Pennsylvania, Ohio, Utah and West Virginia, were consistent with those in 2006 and accounted for approximately 55% of total earned premiums for 2007. The Medicare supplement line of business in these states decreased approximately $2.4 million as compared to 2006. The general decline in Medicare supplement premiums has resulted primarily from the increase in competition not only from traditional insurance company competitors but also the federal government as it provides incentives directly and indirectly to seniors to exit traditional Medicare programs and choose instead Medicare Advantage and other similar plans which result in much different economics to the insured. Premiums from the life insurance line of business decreased $0.3 million, or 3.1%, during 2007 due to a decline in sales related activities. The other health products premiums increased to $3.8 million in 2007 from $3.0 million in 2006, or 26.5%, primarily as a result of increased business activities with group “associations.” Recently, Bankers Fidelity has begun targeting group “associations” for additional sources of new business.
Premium revenue at Bankers Fidelity decreased $7.0 million, or 10.6%, during 2006 as compared to 2005. The most significant decrease in premiums was in the Medicare supplement line of business, where premiums decreased $6.5 million, or 12.6%, due to the continued decline in new business levels and non-renewal of certain policies that resulted from increased competition, as discussed previously. In 2006, the company’s key five states collectively accounted for approximately 56% of total earned premiums. The Medicare supplement line of business in these states increased approximately $0.1 million as compared to 2005. Premiums from the life insurance line of business decreased $0.6 million, or 5.5%, during 2006 due to a continued decline in sales related activities.
Benefits and losses decreased $1.7 million, or 4.1%, during 2007 as compared to 2006 and $4.4 million, or 9.4% during 2006 as compared to 2005. As a percentage of earned premiums, benefits and losses were 71.6% in 2007 compared to 71.3% in 2006 and 70.4% in 2005. The increasing loss ratio between years was primarily due to the continued aging of the life business.
Underwriting expenses decreased $0.4 million, or 2.2%, during 2007 as compared to 2006, and decreased $1.0 million, or 5.1%, during 2006 as compared to 2005. The decrease in underwriting expenses during 2007 and 2006 was directly related to the decline in premium revenues. As a percentage of earned premiums, these expenses were 32.4% in 2007 compared to 31.7% in 2006 and 29.8% in 2005. The increasing expense ratio during 2007 and 2006 was primarily due to increased costs on marketing initiatives related to product diversification efforts.
The Company had net realized investment gains of $12.6 million in 2007 and $3.1 million in 2006, and net realized investment losses of $7.3 million in 2005. The significant net realized investment gains in 2007 were primarily the result of the disposition of the investment in equity securities of Wachovia Corporation which resulted in a realized investment gain of $12.9 million. The net realized investment gains in 2006 were primarily due to the sale of a portion of the Company’s automotive sector investments (bonds of General Motors, GMAC and Ford), a portion of the Company’s investment in equity securities of Wachovia Corporation, and the sale of a real estate partnership interest, all of which resulted in realized investment gains totaling $3.1 million. During the years ended December 31, 2007 and 2005, the Company recorded investment impairments due to other than temporary declines in values, which reduced reported realized investment gains, related to the following investments:
Interest expense of $4.6 million increased $1.0 million, or 27.5%, during 2006 as compared to 2005. The increase in interest expense during 2006 was due primarily to an increase in interest rates. During 2006, the Company’s outstanding debt had a variable interest rate tied to three-month London Interbank Offered Rate (“LIBOR”), which increased throughout 2006. Also, on February 28, 2006, the Company entered into a $3.0 million term loan with Wachovia, which resulted in a higher average debt level and increased interest expense during 2006 as compared to the prior year. In the fourth quarter of 2006, the Company entered into the Credit Agreement. Borrowings under the Credit Agreement were used to repay the amounts outstanding under the Company’s prior term loans with Wachovia.
Other expenses (commissions, underwriting expenses, and other expenses) decreased $4.7 million, or 10.2%, in 2007 as compared to 2006. The decrease in premium revenue that occurred in 2007 resulted in a corresponding decrease in the related commissions and underwriting expenses. As a percentage of earned premiums, other expenses were 41.9% in 2007 as compared with 41.7% in 2006. The increase in other expenses as a percentage of earned premiums resulted from the increased marketing costs incurred in connection with continuing to diversify and grow the book of business. Offsetting some of the increased marketing costs were cost reductions which were implemented in the fourth quarter of 2007, including reductions in compensation for officers, the elimination of certain corporate positions and other cost reduction initiatives.
Other expenses decreased $2.1 million, or 4.4%, in 2006 as compared to 2005. The decrease in other expenses during 2006 again was primarily attributable to a reduction in commission and underwriting expenses that resulted directly from a decline in premium revenue. The decrease in premium revenue that occurred in 2006 was primarily due to the non-renewal of targeted classes of property business, lower sales activity, and an increased level of price competition. On a consolidated basis, as a percentage of earned premiums, other expenses increased to 41.7% in 2006 from 40.7% in 2005. The increase in the expense ratio during 2006 was primarily due to the lower loss ratio in 2006 as compared to 2005. The majority of American Southern’s business is structured in a way that agents are rewarded or penalized based upon the loss ratio of the business they submit to the company. In periods where the loss ratio decreases, commissions and underwriting expenses will increase and conversely in periods where the loss ratio increases, commissions and underwriting expenses should decrease.
The Company has two statutory trusts which exist for the exclusive purpose of issuing trust preferred securities representing undivided beneficial interests in the assets of the trusts and investing the gross proceeds of the trust preferred securities in Junior Subordinated Debentures. The outstanding $41.2 million of Junior Subordinated Debentures have a maturity of thirty years from their original date of issuance, are callable, in whole or in part, only at the option of the Company five years after their respective dates of issue and quarterly thereafter, and have an interest rate of three-month LIBOR plus an applicable margin. The margin ranges from 4.00% to 4.10%. At December 31, 2007, the effective interest rate was 8.03%. The obligations of the Company with respect to the issuances of the trust preferred securities represent a full and unconditional guarantee by the Parent of each trust’s obligations with respect to the trust preferred securities. Subject to certain exceptions and limitations, the Company may elect from time to time to defer Junior Subordinated Debenture interest payments, which would result in a deferral of distribution payments on the related trust preferred securities.
The Company intends to pay its obligations under the Credit Agreement and the Junior Subordinated Debentures using dividend and tax sharing payments from the operating subsidiaries, or from potential future financing arrangements. In addition, the Company believes that, if necessary, at maturity, the Credit Agreement could be refinanced, although there can be no assurance of the terms or conditions of such a refinancing, or its availability.
of the board of directors of the Company) and are cumulative. In certain circumstances the shares of Series D Preferred Stock may be convertible into an aggregate of approximately 1,754,000 shares of the Company’s common stock, subject to certain adjustments and provided that such adjustments do not result in the Company issuing more than approximately 2,703,000 shares of common stock without obtaining prior shareholder approval; and are redeemable solely at the Company’s option. The Series D Preferred Stock is not currently convertible. During 2007, the Company issued common stock in lieu of Series D Preferred Stock dividend payments of $0.6 million. Accordingly, as of December 31, 2007, the Company did not have any unpaid dividends on the Series D Preferred Stock.
Net cash provided by operating activities totaled $5.6 million in 2007, $6.8 million in 2006, and $12.4 million in 2005. The decrease in operating cash flows during each of 2007 and 2006 in comparison with the preceding year was primarily attributable to the decrease in premiums coupled with an increase in loss related payments to settle prior years’ outstanding claims. Cash and short-term investments increased to $36.9 million at December 31, 2007 from $17.6 million at December 31, 2006. The increase in cash and short-term investments during 2007 was primarily due to an increased level of investment maturities, redemptions and calls exceeding normal purchasing activity. Cash and short-term investments at December 31, 2007 of $36.9 million are believed to be sufficient to meet the Company’s near-term needs.
obligations under certain insurance contracts that are not financial instruments, host financial instruments resulting from the separation of an embedded nonfinancial derivative instrument from a nonfinancial hybrid instrument, and certain commitments. Business entities are required to report unrealized gains and losses on items for which the fair value option has been elected in net income. The fair value option: (a) may be applied instrument by instrument, with certain exceptions; (b) is irrevocable (unless a new election date occurs); and (c) is applied only to entire instruments and not to portions of instruments. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007, although early adoption is permitted under certain conditions. The Company did not elect the fair value option for any specific financial instruments or other items.
Interest payable is based on interest rates as of December 31, 2007 and assumes that all debt remains outstanding until its stated contractual maturity.
Unearned premiums represent potential future revenue for the Company; however, under certain circumstances, such premiums may be refundable with cancellation of the underlying policy. Significantly all unearned premiums will be earned within the following twelve month period as the related future
We have audited the accompanying consolidated balance sheets of Atlantic American Corporation and subsidiaries (the “Company”) as of December 31, 2007 and 2006, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2007. We have also audited schedules II, III, IV and VI as of and for each of the three years in the period ended December 31, 2007. These consolidated financial statements and financial statement schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on the consolidated financial statements and financial statement schedules based on our audits.
The Company’s investments in both fixed maturity securities, which include bonds and redeemable preferred stocks, and equity securities, which include common and non-redeemable preferred stocks, are classified as “available-for-sale” and, accordingly, are carried at fair value with the after-tax difference from amortized cost, as adjusted if applicable, reflected in shareholders’ equity as a component of accumulated other comprehensive income. The fair values for fixed maturity and equity securities are largely determined by either independent methods prescribed by the National Association of Insurance Commissioners (“NAIC”), which do not differ materially from nationally quoted market prices, when available, or independent broker quotations. Certain non-redeemable preferred stocks that do not have quoted values are carried at estimated fair value as determined by management. With the exception of short-term securities for which amortized cost is predominately used to approximate fair value, security prices are first sought from NAIC pricing services with the remaining unpriced securities submitted to brokers for prices. Mortgage loans, policy and student loans, and real estate are carried at historical cost. Other invested assets are comprised of investments in limited partnerships, limited liability companies, and real estate joint ventures. Those which are publicly traded are carried at estimated fair value and the others are accounted for using the equity method. If the value of a common stock, preferred stock, other invested asset, or publicly traded bond declines below its cost or amortized cost, if applicable, and the decline is considered to be other than temporary, a realized loss is recorded to reduce the carrying value of the investment to its estimated fair value, which becomes the new cost basis. In evaluating impairment, the Company considers, among other factors, the expected holding period, the nature of the investment and the prospects for the company and its industry. Premiums and discounts related to investments are amortized or accreted over the life of the related investment as an adjustment to yield using the effective interest method. Dividends and interest income are recognized when earned or declared. The cost of securities sold is based on specific identification. Unrealized gains (losses) in the value of invested assets are accounted for as a direct increase (decrease) in accumulated other comprehensive income in shareholders’ equity, net of deferred tax and, accordingly, have no effect on net income.
On January 1, 2006, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”) using the modified prospective transition method. SFAS No. 123R replaces SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”) and supersedes Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees.” The adoption of SFAS 123R did not have a material impact on the Company’s consolidated statements of operations or net income (loss) per share. Prior to January 1, 2006, stock options were reported under the recognition and measurement principles of APB Opinion No. 25 instead of the fair
permitted under certain conditions. The Company did not elect the fair value option for any specific financial instruments or other items.
The preparation of financial statements and related disclosures 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 financial statements and revenues and expenses during the reporting period. Significant estimates and assumptions are used in developing and evaluating deferred income taxes, deferred acquisition costs, insurance reserves, investments, pension benefits, commitments and contingencies, among others, and actual results could differ from management’s estimates.
On December 26, 2007, the Company entered into a SPA providing for the sale of all the outstanding shares of stock of Association Casualty and Georgia Casualty to Columbia. Accordingly, the consolidated financial statements reflect the assets, liabilities, and operating results of Georgia Casualty and Association Casualty as discontinued operations.
Securities with unrealized losses at December 31, 2007 and 2006 were as follows:
During the years ended December 31, 2007, 2006, and 2005, the Company recorded impairments related to the following investments.
Includes automotive sector impairments of $7,198 in 2005, primarily from holdings in General Motors and related entities.
The amortized cost and carrying value of fixed maturities and short-term investments at December 31, 2007 and 2006 by contractual maturity were as follows. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Annualized premiums for accident and health insurance policies were $45,913 and $47,326 at December 31, 2007 and 2006, respectively.
Liabilities for life insurance future policy benefits are based upon assumed future investment yields, mortality rates, and withdrawal rates after giving effect to possible risks of unexpected claim experience. The assumed mortality and withdrawal rates are based upon the Company’s experience. The interest rates assumed for life, accident and health are generally: (i) 2.5% to 5.5% for issues prior to 1977, (ii) 7% graded to 5.5% for 1977 through 1979 issues, (iii) 9% for 1980 through 1987 issues, and (iv) 5% to 7% for 1988 and later issues.
In accordance with general practice in the insurance industry, portions of the life, property and casualty insurance written by the Company are reinsured; however, the Company remains liable with respect to reinsurance ceded should any reinsurer be unable to meet its obligations. Approximately 82% of the Company’s reinsurance receivables were due from one reinsurer as of December 31, 2007. Reinsurance receivables of $10,686 were with Swiss Reinsurance Corporation, rated “AA-” (Very Strong) by Standard & Poor’s and “A+” (Superior) by A.M. Best. Allowances for uncollectible amounts are established against reinsurance receivables, if appropriate.
The components of the income tax expense (benefit) from continuing operations were:
The Company has two unconsolidated Connecticut statutory business trusts, which exist for the exclusive purposes of: (i) issuing trust preferred securities (“Trust Preferred Securities”) representing undivided beneficial interests in the assets of the trusts; (ii) investing the gross proceeds of the Trust Preferred Securities in junior subordinated deferrable interest debentures (“Junior Subordinated Debentures”) of Atlantic American; and (iii) engaging in only those activities necessary or incidental thereto.
The financial structure of each of Atlantic American Statutory Trust I and II, as of December 31, 2007 and 2006, was as follows:
The Company’s rental expense, including common area charges, for operating leases was $1,268, $1,276, and $1,269 in 2007, 2006, and 2005, respectively. The Company’s future minimum lease obligations under non-cancelable operating leases are as follows:
In accordance with the Company’s 1992 Incentive Plan, the Board of Directors was authorized to grant up to 1,800,000 stock options or share awards. The Board of Directors may grant: (a) incentive stock options within the meaning of Section 422 of the Internal Revenue Code; (b) non-qualified stock options; (c) performance units; (d) awards of restricted shares of the Company’s common stock and other stock unit awards; (e) deferred shares of common stock; or (f) all or any combination of the foregoing to officers and key employees. Stock options granted under this plan expire five or ten years from the date of grant, as specified in an award agreement. Vesting occurs at 50% upon issuance of an option, and the remaining portion vests in 25% increments in each of the following two years. In accordance with the Company’s 1996 Director Stock Option Plan, a maximum of 200,000 stock options were authorized to be granted, which fully vest six months after the grant date. In accordance with the Company’s 2002 Incentive Plan (the “2002 Plan”), the Board of Directors was authorized to grant up to 2,000,000 stock options or share awards. Subject to adjustment as provided in the 2002 Plan, the Board of Directors is authorized to grant: (a) incentive stock options; (b) non-qualified stock options; (c) stock appreciation rights; (d) restricted shares; (e) deferred shares; and (f) performance shares and/or performance units. Further, the Board may authorize the granting to non-employee directors of stock options and/or restricted shares. A total of 12,397, 21,923 and 21,923 restricted shares were issued to the Company’s Board of Directors under the 2002 Plan in 2007, 2006 and 2005, respectively. As of December 31, 2007, an aggregate of twenty-eight employees, officers and directors held options under the three plans.
The Company has both a funded and unfunded noncontributory defined benefit pension plan covering the employees of American Southern. The plans provide defined benefits based on years of service and average salary. The Company’s general funding policy is to contribute annually the maximum amount that can be deducted for income tax purposes. The measurement date for these plans was December 31 of each year.
The accumulated benefit obligation for all defined benefit plans at December 31, 2007 and 2006 was $5,117 and $5,046, respectively.
The weighted-average assumptions used to determine the net periodic benefit cost for the years ended December 31, 2007, 2006 and 2005 were as follows:
The qualified defined benefit plan assets were invested in the AIM Basic Balanced Fund (the “Fund”), the prospectus for which indicates an average annual return of approximately 7% since its inception; accordingly, a 7.00% rate of return was used to calculate the periodic benefit cost for 2007. The Fund normally invests at least 65% of its assets in equity securities and at least 30% of its assets in fixed income securities that are investment grade at the time of purchase. The remaining assets of the Fund are allocated to other investments at the Fund manager’s discretion, based upon current business, economic and market conditions.
Estimated future benefit payments as of December 31, 2007 were as follows:
The Company had 7,000 shares of Series D Preferred Stock (“Series D Preferred Stock”) outstanding at December 31, 2007 and 2006. All of the shares of Series D Preferred Stock are held by affiliates of the Company’s Chairman. The outstanding shares of Series D Preferred Stock have a stated value of $100 per
share; accrue annual dividends at a rate of $7.25 per share (payable in cash or shares of the Company’s common stock at the option of the board of directors of the Company) and are cumulative. In certain circumstances, the shares of the Series D Preferred Stock may be convertible into an aggregate of approximately 1,754,000 shares of the Company’s common stock, subject to certain adjustments and provided that such adjustments do not result in the Company issuing more than approximately 2,703,000 shares of common stock without obtaining prior shareholder approval; and are redeemable solely at the Company’s option. The Series D Preferred Stock is not currently convertible. During 2007, the Company issued common stock in lieu of Series D Preferred Stock dividend payments of $0.6 million. Accordingly, as of December 31, 2007, the Company did not have any unpaid dividends on the Series D Preferred Stock. As of December 31, 2006, the Company had accrued but unpaid dividends on the Series D Preferred Stock of $127.
Automotive sector impairments of $7,198 were recorded in the first quarter of 2006 for statutory purposes.
Certain financing for the Company has been provided by affiliates of the Company’s Chairman, in the form of investments in the Series B and the Series D Preferred Stock (See Note 11).
Certain members of management are shareholders and on the Board of Directors of Triple Crown and Gray. On August 3, 2005, Gray announced a plan to spin-off its newspaper publishing and wireless businesses to its shareholders. The new company formed as a result of the spin-off, Triple Crown, then acquired Bull Run Corporation (“Bull Run”). In connection with the spin-off, the Company received one share of Triple Crown common stock for every ten shares of Gray common stock and for every ten shares of Gray Class A common stock owned. In connection with the Bull Run acquisition, the Company received 0.0289 shares of Triple Crown common stock for each share of Bull Run common stock owned by it and one share of Triple Crown Series A preferred stock for each share of Bull Run Series D preferred stock owned by it. The exchange of Bull Run Series D preferred stock for Triple Crown Series A preferred stock resulted in a realized loss of $591. At December 31, 2007 and 2006, the Company (including its discontinued operations) owned 54,732 shares of Triple Crown common stock, 388,060 shares of Gray Class A common stock and 106,000 shares of Gray common stock. At December 31, 2007, the Company (including its discontinued operations) owned 2,360 shares of Triple Crown Series A preferred stock. At December 31, 2006, the Company (including its discontinued operations) owned 175 shares of Gray Series C preferred stock and 2,360 shares of Triple Crown Series A preferred stock. On May 22, 2007, Gray Television redeemed the Company’s investment in Gray Television Series C preferred stock at a price of $10,000 per share plus accrued but unpaid dividends thereon. There was no gain or loss on the transaction. The aggregate carrying value of these investments in Triple Crown and Gray at December 31, 2007 was $1,642 and $4,149, respectively. The aggregate carrying value of these investments in Triple Crown and Gray at December 31, 2006 was $2,086 and $5,701, respectively.
Includes a $12.9 million realized gain from the disposition of the Company’s investment in equity securities of Wachovia Corporation in the fourth quarter of 2007.