See accompanying Notes to Consolidated Financial Statements.
See accompanying Notes to Consolidated Financial Statements.
See accompanying Notes to Consolidated Financial Statements.
See accompanying Notes to Consolidated Financial Statements.
See accompanying Notes to Consolidated Financial Statements.
See accompanying Notes to Consolidated Financial Statements.
No other new accounting pronouncement issued or effective during the year had, or is expected to have, a material impact on our consolidated financial statements.
Home Service Insurance portions of the Company constitute separate businesses. CICA, CICA Ltd. and CNLIC constitute the Life Insurance segment, and SPLIC, SPFIC and MGLIC constitute the Home Service Insurance segment. In addition to the Life Insurance and Home Service Insurance business, the Company also operates other non-insurance portions of the Company ("Other Non-Insurance Enterprises") portions of the Company,, which primarily include the Company's IT and Corporate-support functions andthat are included in the tables presented below to properly reconcile the segment information with the consolidated financial statements of the Company.
The accounting policies of the reportable segments and Other Non-Insurance Enterprises are presented in accordance with U.S. GAAP and are the same as those used in the preparation of the consolidated financial
statements. The Company evaluates profit and loss performance based on U.S. GAAP income before federal income taxes for its two2 reportable segments.
The Company's Other Non-Insurance Enterprises are the only reportable difference between segments and consolidated operations.
Most of the Company's equity securities are diversified stock and bond mutual funds.
Available-for-sale securities are reported in the consolidated financial statements at fair value. Equity securities are measured at fair value with the change in fair value recorded through net income. The Company recognized net realized gains of $18 thousand$0.4 million and $0.8$0.6 million on equity securities held for the three and nine months ended September 30, 20192020, respectively, and gains of $0.2 million$18.0 thousand and losses of $0.2$0.8 million for the same periods ended September 30, 2018, respectively.2019. In the first quarter of 2019, the Company sold its former corporate office in Austin, Texas for a gross sales price of $7.5 million, resulting in a gain on the sale of $5.5 million. The building was owned by CICA within our Life Insurance segment. An impairment loss of $3.1 million was recorded during the second quarter of 2019 related to our Citizens Academy training facility property located near Austin, Texas. It was determined during the second quarter that the property met the held-for-sale criteria. As a result, this investment was reclassified from real estate held for investment to real estate held-for-sale. This resulted in an impairment loss of $3.1 million as the carrying amount of the property was written down to the net realizable value. This investment is considered a Level 3 asset in the fair value hierarchy.hierarchy and is reported within other non-insurance enterprises.
The Company evaluates whether a credit impairment exists for fixed maturity securities by considering primarily the following factors: (a) changes in the financial condition of the security's underlying collateral; (b) whether the issuer is current on contractually obligated interest and principal payments; (c) changes in the financial condition, credit rating and near-term prospects of the issuer; (d) the length of time to which the fair value has been less than the amortized cost of the security; and (e)(d) the payment structure of the security. The Company's best estimate of expected future cash flows used to determine the credit loss amount is a quantitative and qualitative process. Quantitative review includes information received from third partythird-party sources such as financial statements, pricing and rating changes, liquidity and other statistical information. Qualitative factors include judgments related to business strategies, economic impacts on the issuer, and overall judgment related to estimates and industry factors. factors as well as the Company's intent to sell the security, or if it is more likely than not that the Company would be required to sell a security before recovery of its amortized cost.
The Company's best estimate of future cash flows involves assumptions including, but not limited to, various performance indicators, such as historical and projected default and recovery rates, credit ratings, and current delinquency rates. These assumptions require the use of significant management judgment and include the probability of issuer default and estimates regarding timing and amount of expected recoveries, which may include estimating the underlying collateral value. In addition, projections of expected future debtfixed maturity security cash flows may change based upon new information regarding the performance of the issuer. Any credit losses are presented as an allowance rather than as a write-down on AFS fixed maturity securities management does not intend to sell or believes that it is more likely than not we will be required to sell.
The Company uses the specific identification method of the individual security to determine the cost basis used in the calculation of realized gains and losses related to security sales.
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. We hold available-for-sale fixed maturity securities, which are carried at fair value. We also report our equity securities at fair value with changes in fair value reported through the consolidated statements of operations and comprehensive income.income (loss).
Fair value measurements are generally based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our view of market assumptions in the absence of observable market information. We utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. All assets and liabilities carried at fair value are required to be classified and disclosed in one of the following three categories:
Level 1 primarily consists of financial instruments whose value is based on quoted market prices such as U.S. Treasury securities and actively traded mutual fund and stock investments.
Level 2 includes those financial instruments that are valued by independent pricing services or broker quotes. These pricing models are primarily industry-standard models that consider various inputs, such as interest rates, credit spreads and foreign exchange rates for the underlying financial instruments. All significant inputs are observable or derived from observable information in the marketplace or are supported by observable levels at which transactions are executed in the marketplace. Financial instruments in this category primarily include corporate securities, U.S. Government-sponsored enterprise securities, municipal securities issued by states and political subdivisions and certain mortgage and asset-backed securities.
Level 3 is comprised of financial instruments whose fair value is estimated based on non-binding broker prices utilizing significant inputs not based on or corroborated by readily available market information. There were no securitiesReal estate held-for-sale is in this category at September 30, 2019.category.
The following tables set forth our assets that are measured at fair value on a recurring basis as of the dates indicated.
We review the fair value hierarchy classifications each reporting period. Changes in the observability of the valuation attributes may result in a reclassification of certain financial assets. Such reclassifications are reported as transfers in and out of Level 3 at the beginning fair value for the reporting period in which the changes occur. There were no0 transfers in or out of Level 3 during the nine months ended September 30, 2019.2020.
Estimates of fair values are made at a specific point in time, based on relevant market prices and information about the financial instruments. The estimated fair values of financial instruments presented below are not necessarily indicative of the amounts the Company might realize in actual market transactions.
The carrying amount and fair value for the financial assets and liabilities on the consolidated balance sheets not otherwise disclosed for the periods indicated are as follows:
management of interest rate risk, which seeks to minimize exposure to changing interest rates through the matching of investment maturities with amounts due under insurance contracts.
We have previously reported that a portion of the life insurance policies issued by our subsidiary insurance companies failed to qualify for the favorable U.S. federal income tax treatment afforded by SectionSections 7702 and 72(s) of the Internal Revenue Code ("IRC") of 1986. Further, we have determined that the structure of our policies sold to non-U.S. citizens,persons, which were novated to CICA Ltd. effective July 1, 2018, may have inadvertently generated U.S. source income over time. We completedtime, which subjected the remediationCompany to certain tax withholding and information reporting requirements for the Company under Chapters 3 or 4 of domestic life and annuity policies to U.S. citizens to comply with the IRC. For the
novated policies sold to non-U.S. citizens,persons, we expect to settle any past liabilities with the Internal Revenue Service ("IRS"). related to tax withholding and information reporting failures. The Company has continued to refine its estimate of the tax, penalty and interest exposure and expenses related to these tax issues, as described below for the current reporting period. The products have been and continue to be appropriately reported as life insurance under U.S. GAAP for financial reporting.
From time to time we are subject to legal and regulatory actions relating to our business. We may incur defense costs, including attorneys' fees, and other direct litigation costs associated with defending claims. If we suffer an adverse judgment as a result of litigation claims, it could have a material adverse effect on our business, results of operations and financial condition.
The table below summarizes the number of weighted-average years remaining in our operating lease liabilities.
Operating lease payments exclude $13.5 million
| | | | | | | | |
CITIZENS, INC. | NOTES TO CONSOLIDATED FINANCIAL STATEMENTS |
| | (Unaudited) |
We recorded the lease right-of-use asset in Other Assets and the lease liability in Other Liabilities.Liabilities on our consolidated balance sheets. Cash payments related to lease liabilities were $0.2 million and $1.3$0.9 million for the three and nine months ended September 30, 2019,2020, respectively, and were reported in operating cash flows. Maturities of our remaining operating lease liabilities as of September 30, 2020 are as follows:
| | | | | | | | |
(In thousands) | | Operating Lease Payments |
Maturity of Lease Liabilities | | |
2020 | | $ | 391 | |
2021 | | 1,411 | |
2022 | | 1,272 | |
2023 | | 1,271 | |
2024 | | 1,302 | |
After 2024 | | 8,271 | |
Total lease payments | | 13,918 | |
Interest expense | | (1,653) | |
Present value of lease liabilities | | $ | 12,265 | |
In January 2019, the Company entered into a long-term lease agreement with an unrelated party for its new home office in Austin, Texas. The buildingBeginning in which we havethe second quarter of 2020, the leased office space isarea was under construction to our specifications, which required the Company to recognize the related lease right of use asset and is expected to be completed in 2020.liability of $12.0 million. The long-term lease will commence after construction of the building is complete and has a 121-month term, and therefore is not includedCompany moved into its new home office in the tables above. Payments under the new long-term lease agreement will average approximately $112,340 per month.first week of November 2020.
The Company does not engage in lease agreements among related parties.
(10) (11) RELATED PARTY TRANSACTIONS
The Company has various routine related party transactions in conjunction with our holding company structure, such as a management service agreement related to costs incurred, a tax sharing agreement between entities, and inter-company dividends and capital contributions. There were no other changes related to these relationships during the nine months ended September 30, 2019.2020. See our Annual Report on Form 10-K for the year ended December 31, 20182019 for a comprehensive discussion of related party transactions.
In September 2019, CICA contributed $0.5 million in capital to CNLIC.
September 30, 2019 Form | 10-Q 31
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain statements contained inThis section and other parts of this report are not statements of historical fact and constituteQuarterly Report on Form 10-Q ("Form 10-Q") contain forward-looking statements, within the meaning of the federal securities laws, including, without limitation,Private Securities Litigation Reform Act of 1995, that involve risks and uncertainties. Forward-looking statements specificallyprovide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. Forward-looking statements can also be identified by words such as “future,” “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “predicts,” “will,” “would,” “could,” “can,” “may,” and similar terms. Forward-looking statements are not guarantees of future performance and the Company’s actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such differences include, but are not limited to, those discussed in Part II, Item 1A. of this Form 10-Q as well as in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2019 under the heading “Risk Factors,” which are incorporated herein by reference.Additionally, the effects of the COVID-19 pandemic could cause our actual results to differ significantly for reasons such as:
•Securities market disruption or volatility and related effects such as decreased economic activity that affect our investment portfolio;
•Decreased premium revenue and cash flow from disruption to our distribution channel of independent agents, customer self-isolation, travel limitations, business restrictions and decreased economic activity;
•An unusually high level of claims, lapses or surrenders in our insurance operations, which could affect our liquidity and cash flow; and
•Inability of our workforce to perform necessary business functions.
The following discussion should be read in conjunction with the consolidated financial statements and accompanying notes included in Part I, Item 1 of this Form 10-Q. The Company assumes no obligation to revise or update any forward-looking statements within this document. Many of these statements contain risk factorsfor any reason, except as well. In addition, certain statements in future filingsrequired by the Company with thelaw.
The U.S. Securities and Exchange Commission ("SEC"), in press releases, and in oral and written statements made by or with the approval of the Company, which are not statements of historical fact, constitute forward-looking statements. Examples of forward-looking statements include, but are not limited to: (i) projections of revenues, income or loss, earnings or loss per share, the payment or non-payment of dividends, capital structure, and other financial items, (ii) statements of our plans and objectives by our management or Board of Directors, including those relating to products or services, (iii) statements of future economic performance and (iv) statements of assumptions underlying such statements. Words such as "believes," "anticipates," "assumes," "estimates," "plans," "projects," "could," "expects," "intends," "targeted," "may," "will" and similar expressions are intended to identify forward-looking statements, but are not the exclusive means of identifying such statements.
Forward-looking statements are subject to known and unknown risks, uncertainties and other factors that may cause actual results to differ materially from those contemplated by the forward-looking statements. Factors that could cause the Company's future results to differ materially from expected results include, but are not limited to:
Changes in the application, interpretation or enforcement of foreign insurance laws that impact our business, which derives the substantial majority of its revenues from residents of foreign countries;
Potential changes in amounts reserved for in connection with intended proposals for settlement with the IRS related to tax withholding and product compliance matters for international policies issued by CICA Ltd.;
The transition of our international business to a new Bermuda-based entity, the regulatory oversight of our international business by the Bermuda Monetary Authority and potential shifts in policyholder behavior arising from these changes;
Changes in foreign and U.S. general economic, market, and political conditions, including the performance of financial markets and interest rates;
Changes in consumer behavior or regulatory oversight, which may affect our ability to sell our products and retain business;
The timely development of and acceptance of our new products and the perceived overall value of these products and services by existing and potential customers;
Fluctuations in experience regarding current mortality, morbidity, persistency and interest rates relative to expected amounts used in pricing our products;
The performance of our investment portfolio, which may be adversely affected by changes in interest rates, adverse developments and ratings of issuers whose debt securities we may hold, and other adverse macroeconomic events;
Results of litigation we may be involved in;
Changes in assumptions related to deferred acquisition costs and the value of any businesses we may acquire;
Regulatory, accounting or tax changes that may affect the cost of, or the demand for, our products or services;
Our concentration of business from persons residing in Latin America and the Pacific Rim;
Changes in tax laws;
Our ability to maintain effective information systems;
September 30, 2019 Form | 10-Q 32
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Changes in statutory, United States Generally Accepted Accounting Principles ("U.S. GAAP") or Bermuda Monetary Authority ("BMA"), policies or practices;
Changes in leadership among our board and senior management team;
Our success at managing risks involved in the foregoing; and
Such forward-looking statements speak only as of the date on which such statements are made, and the Company undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made.
The SEC maintains a website that contains reports, proxy and information statements, and other information regarding issuers, including the Company, that file electronically with the SEC. The public can obtain any documents that the Company files with the SEC at http://www.sec.gov. We also make available, free of charge, through our Internet website (http://www.citizensinc.com), our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Section 16 Reports filed by officers and directors, news releases, and, if applicable, amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after we electronically file such reports with, or furnish such reports to, the Securities and Exchange Commission.SEC. We are not including any of the information contained on our website as part of, or incorporating it by reference into, this report.Form 10-Q.
OVERVIEW
Citizens, Inc. ("Citizens" or the "Company") is an insurance holding company incorporated in Colorado serving the life insurance needs of individuals in the U.S.United States since 1969 and internationally since 1975. Through our insurance subsidiaries, we pursue a strategy of offering traditional insurance products in niche markets where we believe we canare able to achieve competitive advantages. AsWe had approximately $1.8 billion of assets at September 30, 2019, we had2020 and approximately $1.7$4.6 billion of total assets and approximately $4.7 billion ofdirect insurance inforce.in force. Our core insurance operations include issuing and servicing:include:
•Life Insurance segment - U.S. dollar-denominated ordinary whole life insurance and endowment policies predominantly sold to foreignnon-U.S. residents, located principally in Latin America and the Pacific Rim, through independent marketing consultants; and
ordinary whole•Home Service Insurance segment - final expense life insurance policies to middle income households concentrated in the Midwest, Mountain West and southern U.S. through independent marketing consultants; and
final expense and limited liability property insurance policies sold to middle and lower income households in Louisiana, Mississippi and
September 30, 2020 | 10-Q 33
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Arkansas, and Mississippi through employee and independent agents in our home service distribution channel and through funeral homes.
We were formed in 1969 and historically, our Company has experienced growth through acquisitions in the domestic market and organic market expansion in the international market. We strive to generate bottom line returns using knowledge of our niche markets and our well-established distribution channels.
STRATEGIC INITIATIVES
The Company remains committed to cultivating enduring value for its key stakeholders through the execution of a customer-centric growth strategy.
In 2017,As we have previously stated, we entered 2020 with clearly defined priorities in order to set a course for long-term profitable growth.
•We are focused on continuing to build operational excellence, as our high impact and values-based culture takes root.
•We are focused on growth initiatives within the Company'smarkets in which we operate, as we set targets for growing premium revenues and implementing growth strategies.
•We are focused on building new capabilities that will create business opportunities aligned with our essential purpose.
We are focused on growth primarily through expanding and/or refining our products to tailor them to our markets, creating sales promotions and campaigns to incentivize the agents in our distribution channels, developing training and guidelines that promote safe, yet effective sales practices, and implementing process and technology improvements to remove friction in the sales cycles.
During the third quarter of 2020, we continued to execute on our strategic initiatives and focus on growth initiatives that build on our expertise, all while navigating through significant internal and external disruptions, uncertainties and challenges including a change in control, the resignation of our chief executive management team, in cooperation with itsofficer and appointment of an interim chief executive officer, litigation involving our Board of Directors beganand controlling shareholder arising from the change in control, and a global pandemic. These topics are discussed in more detail under Part II, Item 1 – Legal Proceedings and Part II, Item 1A – Risk Factors of this Form 10-Q.
Despite these challenges, we made progress on many of our strategic realignmentinitiatives during the third quarter of its2020, including the following:
Planned for Expansion of Life Insurance Segment into Hispanic US Market in 2021. Because we have developed the ability to complete insurance transactions end-to-end in Spanish and Portuguese and understand the needs of the Hispanic market due to over 50 years of doing business in Latin America, we plan to expand our Life Insurance segment to the Hispanic market in the U.S and expect to begin selling in this market during 2021.
Reorganized our Home Service Insurance segments. Specifically, we focused on (1) product enhancements and increasingDistribution System. In our product profitability; (2) modernizationHome Service Insurance segment, as part of the continued strategic review of our IT operations, effective August 2020, we began to operate our distribution system through independent agents, rather than employee agents, which involved converting employee agents to independent agents. For an additional discussion of the potential impacts on the business from the conversion, see Part II, Item 1A – Risk Factors.
Launched New Marketing Campaigns in our Life Insurance and our Home Service Insurance segments. In our Life Insurance segment, we created an enticing sales campaign that helped lead to 39% higher premiums in the third quarter as compared to the second quarter of 2020. In the Home Service Insurance segment, we launched a sales campaign that resulted in an increase in the amount of in-force insurance for our current customer base. See below in "Our Operating Segments" for more detail on these campaigns and their impact on our business during the third quarter.
Implemented Operational Improvements. We updated our underwriting processes to remove barriers to sales with an emphasisa more frictionless process for agents and applicants and to reduce underwriting expense. We also focused on digitization, our future business needs and cyber risk; (3) effectively operating our international life insurance business in Bermuda through CICA Ltd.; and (4) assessing and optimizing our investment portfolio. To date, our strategic realignment within
September 30, 2019 Form2020 | 10-Q 3334
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
the Company'scontinued training for virtual sales and collections in both our Life Insurance segment is largely complete, and a leadership transition within the Company’sour Home Service Insurance segments and expanded our alternative payment methods for our Home Service Insurance segment is underway.to accept credit cards and debit card payments.
Carrying that momentum forward, in 2019, we identified three areas of strategic focus for cultivating value:
| |
1. | We are focused on building a foundation of operational excellence, as our high impact and values-based culture takes root. |
| |
2. | We are focused on growth initiatives within the markets in which we operate, as we set targets for growing premium revenues and implementing growth strategies. |
| |
3. | We are focused on new capabilities that will create business opportunities aligned with our essential purpose. |
As we seek to optimize value for the Company, its customers and its collaborators, we believe our efforts will continue to put the Company on a stronger financial footing and drive sustainable growth.
CURRENT FINANCIAL HIGHLIGHTS
Financial highlights forIn the third quarterthree months ended September 30, 2020, we had a net loss of $7.9 million compared to net income of $2.0 million in the prior year period. In the nine months ended September 30, 2020, we had a net loss of $12.5 million compared to a net loss of $6.3 million in the prior year period. Accordingly, our earnings (losses) per share declined by $0.20 and $0.12 in the three and nine months ended September 30, 20192020, respectively, compared to prior year periods.
The $10.0 million decrease in net income in the three months ended September 30, 2020 compared to the same periodsprior year period was primarily driven by a $7.9 million increase in 2018 were:
Insurance premiums declined 3.0%our general expenses related to executive severance costs and professional fees in connection with a change in control of the Company. As we previously announced on July 29, 2020, a change in control of the Company occurred when the Harold E. Riley Foundation became the beneficial owner of 100% of the Company’s Class B common stock (the “Change in Control”). Holders of the Company's Class B common stock have the right to nominate a simple majority of our Board of Directors. The Change in Control, and its trigger of related payments to our former Chief Executive Officer upon his resignation under his employment agreement, materially impacted our general expenses for the three and nine months ended September 30, 2020. Expenses related to the Change in Control for the third quarter include (i) payment of $8.8 million to a Rabbi Trust for the benefit of our former Chief Executive Officer, Geoffrey Kolander, following his resignation pursuant to the terms of his employment agreement and the Chief Executive Officer Separation of Service and Consulting Agreement dated July 29, 2020 (the “Separation and Consulting Agreement”), (ii) $1.2 million of expense related to the accelerated vesting of Mr. Kolander’s Restricted Stock Units following his resignation upon a change in control pursuant to his employment agreement, and (iii) legal fees related to Change in Control, including defense costs for the litigation brought by the Foundation against the Company and its Board, as described in Part II, Item 1. Legal Proceedings of this Quarterly Report on Form 10-Q. The increase in general expenses due to the Change in Control was partially offset by previous quarter strategic efforts to lower general expenses. In addition to the higher general expenses, a $1.9 million decrease in premium revenue and a $4.2 million increase in claims and surrenders expense also contributed to the decrease in net income for the third quarter of 20192020. See below in “Revenue Highlights” and in “Benefits and Expenses Highlights” for an explanation of these changes.
The $6.2 million increase in net loss in the nine months ended September 30, 2020 as compared to the same period in 2018, totaling $46.02019 primarily reflects:
•a $5.4 million and $47.4 million, respectively. The decline was driven by fewer renewal premiumsdecrease in our Life Insurance segment. However, first year premiums in our Life Insurance segment increased 31.0%premium revenue for the third quarter of 2019 comparedreasons explained in “Revenue Highlights” below;
•a $2.5 million decrease in realized investment gains primarily due to the same period in 2018 and increased 25.7% from the second quarter of 2019 as we invested heavily in our sales and marketing activities. For the nine months ended September 30, 2019, insurance premiums declined 3.9%, totaling $132.3 million, compared to $137.6 million for the same period in 2018. The decline was driven by fewer renewal premiums in our Life Insurance segment throughout the nine months and lower first year premiums during the first quarter of 2019.
Net investment income increased 10.7% for the third quarter of 2019 compared to the same period of 2018, totaling $15.0 million and $13.6 million, respectively. The increase was driven by a growing asset base derived from cash flows from our insurance operations, improvements in cash management, and a strategic focus on achieving greater yields while maintaining a prudent risk profile for our investment portfolio. We were able to achieve strong portfolio returns despite facing a difficult investment environment during the quarter. Net investment income was lower during the third quarter of 2018 due in part to the need to maintain sufficient cash balances to fund our Bermuda novation that occurred in July 2018. As these funds were not available for investment, we experienced lower overall portfolio yields and net investment income. The average yield on the consolidated portfolio as of the nine months ended September 30, 2019 was an annualized rate of 4.34% compared to 4.29% for the same period in 2018.
An impairment loss of $3.1 million was recorded during the second quarter of 2019 in our Other Non-Insurance enterprises related to our Citizens Academy training facility located near Austin, Texas. This investment was reclassified from real estate held for investment to held-for-sale. A realized gain of $5.5 million was recorded in the first quarter of 2019 related to the sale of our former corporate headquarters in Austin, Texas. We also recorded realized gains of $0.8Texas;
•an $8.4 million duringincrease in claims and surrenders for the firstreasons discussed in “Benefits and Expenses Highlights” below; and
•a $4.4 million increase in general expenses, driven by our former Chief Executive Officer's severance package and the Change in Control, partially offset by previous strategic efforts to lower general expenses.
These decreases to revenues and increases to benefits and expenses in the nine months ended September 30, 2020 as compared to the same period in 2019 were partially offset by:
•a $6.3 million decrease in future policy benefit reserves driven primarily by the release of reserves resulting from the decreases in our in force business;
September 30, 2020 | 10-Q 35
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
•a $2.9 million decrease in commissions paid which primarily reflect lower sales of new policies, which have significantly higher commission rates than renewals;
•lower capitalization and amortization of deferred policy acquisition costs, which also reflect lower sales of new policies; and
•a $4.6 million lower federal income tax expense.
While it is difficult to quantify the full impact that the COVID-19 pandemic has had on our business in the three and nine months ended September 30, 2020, as we have previously disclosed, our results of operations for the three and nine months ended September 30, 2020 were negatively impacted by the COVID-19 pandemic in the U.S. and other countries where we do business. The COVID-19 pandemic primarily negatively impacted our product sales (and thus first year premium revenue), and our claims and surrenders expenses. We describe below in more detail areas of our results in which we believe our business may have been impacted by the COVID-19 pandemic. While we have implemented operational changes and sales practices to mitigate the impact of the COVID-19 pandemic on our business, because the COVID-19 pandemic continues to cause quarantines, “stay-at-home” orders and similar mandates for many individuals and businesses requiring them to substantially restrict daily activities and to curtail or cease normal operations globally where we do business, we continue to foresee some adverse impact to near-term sales activity, premiums, claims, policy benefits, invested assets and regulatory capital as a result of the COVID-19 pandemic and we continue to closely monitor developments related to the COVID-19 pandemic to assess its impact on our future results and business. For an additional discussion of the potential impacts on our business from the COVID-19 pandemic, seePart II, Item 1A – Risk Factors, in this Quarterly Report on Form 10-Q.
Financial highlights for the three and nine months ended September 30, 2020 compared to the same periods in 2019 were:
REVENUE HIGHLIGHTS
•For the three months ended September 30, 2020, insurance premiums declined 4.1% to $44.1 million from $46.0 million for the same period in 2019. The decline was driven primarily by lower first year premiums in our Life Insurance segment, which, while increasing from the previous quarter, declined 34.1% to $2.2 million from $3.4 million in the third quarter of 2019 relatedas our new policy sales continue to fair value changesbe negatively impacted by the COVID-19 pandemic. Renewal premiums in our equity securities owned atLife Insurance segment also contributed to the overall decrease, declining 3.1% to $30.1 million in the third quarter of 2020 from $31.0 million in the same period in 2019. The decrease in renewal premiums resulted from a decline in our in force business in this segment over the year, which is due in part to changes we made to our products and distribution over the last few years.
•For the nine months ended September 30, 2020, insurance premiums declined 4.0% to $126.9 million from $132.3 million for the same period in 2019. Realized losses of $0.8 million were recordedThe decline was driven by our Life Insurance segment as renewal premiums for the nine months ended September 30, 2018 related to our fixed maturities portfolio2020 and we recorded equity losses of $0.2 million during the same period.
Claims and surrenders expense increased 14.7%first year premiums for the second and third quarterquarters of 2020 fell compared to the comparable periods in 2019.
•Net investment income was $15.0 million for both the three months ended September 30, 2020 and 2019, and 17.9% forslightly increased to $45.1 million from $44.2 million in the nine months ended September 30, 20192020 from the same period in 2019.
BENEFITS AND EXPENSES HIGHLIGHTS
•Claims and surrenders expense increased 14.6% and 10.6% for the three and nine months ended September 30, 2020, respectively, compared to the same periods in 2018.2019. The increase wasincreases were driven primarily by an increase in surrender benefits and matured endowmentssurrendered policies in the Life Insurance segment whichduring the third quarter primarily as a result of policies nearing their maturities. The increases were within expected levels.also due to higher claims in the second and third quarters in our Home Service Insurance segment due primarily to COVID-19 deaths. Additionally, we incurred unusually large property claims in our
General expenses decreased 7.0% for
September 30, 2020 | 10-Q 36
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Home Service Insurance segment in the third quarter of 20192020 due to the impacts of Hurricane Laura, a Category 4 hurricane which caused significant damage in Louisiana.
•Future policy benefit reserves decreased 35.1% and increased 12.7%22.4% for the three and nine months ended September 30, 20192020, respectively, compared to the same periods in 2018. For both2019. The declines were driven primarily by the third quarterrelease of reserves resulting from the decreases in our in force business.
September 30, 2019 Form | 10-Q 34
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
•General expenses increased 68.2% and 11.7% for the three and nine months ended in September 30, 2019, we had reduced audit fees, partially offset by increased costs relating to higher executive compensation,2020, respectively, compared to the same periods in 2018. In addition,2019. The increase for both periods was driven primarily by the Change in Control as described above in "Current Financial Highlights". Excluding the effects of the executive severance charges incurred in connection with the Change in Control, our general expenses decreased for the three and nine month periods in 2020, reflecting reductions in external audit fees and outside consulting expenses as well as a $2.3 million decrease due to a change inreduction of our 7702/72(s) tax compliance best estimate liability fromunder Sections 7702 and 72(s) of the estimate at year end 2017, general expenses increased by $1.8 millionInternal Revenue Code for our Life Insurance segment, as discussed in Note 8. Commitments and Contingencies of the third quarter of 2018 and decreased by $3.6 million for the nine months ended September 30, 2018.notes to our consolidated financial statements.
OUR OPERATING SEGMENTS
Our business is comprised of two operating business segments, as detailed below.
•Life Insurance
•Home Service Insurance
Our insurance operations are the primary focus of the Company, as thosethese operations generate most of our income. See the discussion under Segment Operations below for detailed analysis. The amount of insurance, number of policies, and average face amounts of ordinary life policies issued during the periods indicated are shown below. | | Nine Months Ended September 30, | 2019 | | 2018 | Nine Months Ended September 30, | 2020 | | 2019 |
| Amount of Insurance Issued | | Number of Policies Issued | | Average Policy Face Amount Issued | | Amount of Insurance Issued | | Number of Policies Issued | | Average Policy Face Amount Issued | | Amount of Insurance Issued | | Number of Policies Issued | | Average Policy Face Amount Issued | | Amount of Insurance Issued | | Number of Policies Issued | | Average Policy Face Amount Issued |
Life Insurance | $ | 166,580,870 |
| | 2,519 |
| | $ | 66,130 |
| | $ | 169,392,236 |
| | 2,797 |
| | $ | 60,562 |
| Life Insurance | $ | 142,390,980 | | | 2,214 | | | $ | 64,314 | | | $ | 166,580,870 | | | 2,519 | | | $ | 66,130 | |
Home Service Insurance | 124,529,689 |
| | 17,288 |
| | 7,203 |
| | 134,494,004 |
| | 19,054 |
| | 7,059 |
| Home Service Insurance | 103,456,413 | | | 20,261 | | | 5,106 | | | 124,529,689 | | | 17,288 | | | 7,203 | |
The number of policies issued decreased 9.9% and 9.3% for the Life Insurance and Home Service Insurance segments, respectively, forin the nine months ended September 30, 2019 compared to2020 decreased 12.1% in the same period in 2018. The declineLife Insurance segment. We believe that the decrease in new business applications in our Life Insurance segment iswas driven primarily by ceasing sales in Brazil and terminating agreements with several independent consultants in Latin America who did not align with our vision, values and culture. Excluding these two factors, the number of policies issued by our international business increased during the period as we invested heavilydisruptions in our sales and marketing activities and achieved better alignment with our sales collaborators on vision, value and strategy.practices that began in the second quarter of 2020 due to the COVID-19 pandemic. While the number of new business applications for our Life Insurance segment decreased during the nine months ended September 30, 2020 compared to the same period in 2019, third quarter new business applications increased 23% and 56% from the first and second quarters of 2020, respectively, despite the continuation of strict quarantine protocols in many of the markets in which we operate. The increase in applications in the third quarter was primarily due to enhancements to our business operations and sales practices to account for the impact of the COVID-19 pandemic, including sales promotions and campaigns, focused training on virtual selling and strategically prioritizing selling lower face amount policies, which typically have less stringent underwriting requirements and, in some cases, may not require the completion of medical tests, as many of our markets remain in lockdown due to COVID-19 pandemic. Although applications increased in the third quarter from the second quarter, due to these enhancements, average policy face amount declined by 2.7% and the amount of insurance issued has declined by 14.5% during the nine months ended September 30, 2020 compared to the same period in 2019 for the Life Insurance and Home Service Insurance segments during 2019, the average face amount issued has increased, resulting in overall premium income not declining at the same rate as policy issuances.segment.
September 30, 2019 Form2020 | 10-Q 3537
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The number of policies issued in the nine months ended September 30, 2020 increased 17.2% in the Home Service Insurance segment compared to the same period in 2019. The increase in new business applications in our Home Service segment was driven primarily by the introduction of a new sales campaign targeted at existing policyholders in the third quarter that emphasized higher volume selling at lower average face amounts. In doing so, we focused on sales of additional benefits for our existing policyholders, which have lower face values, thus leading to a 29.1% decline in average policy face values and a 16.9% decline in amount of insurance issued as compared to the same period in 2020.
Despite the increase in policies issued in the third quarter of 2020 compared to the second quarter, our Home Service Insurance segment has continued to be negatively impacted by the COVID-19 pandemic. We continued to have temporary office closures in Louisiana during the third quarter due to the COVID-19 pandemic and Hurricane Laura, and we have also had to curtail the sales of certain product offerings that require extensive person-to-person sales interaction due to the COVID-19 pandemic.
We continue to monitor the impact of the COVID-19 pandemic on our business and may have to implement additional operational changes.
CONSOLIDATED RESULTS OF OPERATIONS
A discussion of consolidated results is presented below, followed by a discussion of segment operations and financial results by segment.
REVENUES
Revenues are generated primarily by insurance renewal premiums and investment income on invested assets.
| | | Three Months Ended | | Nine Months Ended | | Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, | | September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 | (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | |
Revenues: | | | | | | | | Revenues: | | | | | | | |
Premiums: | | | | | | | | Premiums: | | | | | | | |
Life insurance | $ | 44,502 |
| | 45,898 |
| | 127,795 |
| | 133,058 |
| Life insurance | $ | 42,732 | | | 44,502 | | | 122,863 | | | 127,795 | |
Accident and health insurance | 350 |
| | 323 |
| | 1,018 |
| | 915 |
| Accident and health insurance | 236 | | | 350 | | | 745 | | | 1,018 | |
Property insurance | 1,157 |
| | 1,208 |
| | 3,464 |
| | 3,615 |
| Property insurance | 1,140 | | | 1,157 | | | 3,313 | | | 3,464 | |
Net investment income | 15,039 |
| | 13,587 |
| | 44,150 |
| | 41,169 |
| Net investment income | 14,997 | | | 15,039 | | | 45,081 | | | 44,150 | |
Realized investment gains (losses), net | 72 |
| | (498 | ) | | 3,164 |
| | (1,251 | ) | |
Realized investment gains, net | | Realized investment gains, net | 527 | | | 72 | | | 669 | | | 3,164 | |
Other income | 347 |
| | 643 |
| | 1,148 |
| | 930 |
| Other income | 193 | | | 347 | | | 1,217 | | | 1,148 | |
Total revenues | $ | 61,467 |
| | 61,161 |
| | 180,739 |
| | 178,436 |
| Total revenues | $ | 59,825 | | | 61,467 | | | 173,888 | | | 180,739 | |
Premium Income. Premium income derived from life, accident and health, and property insurance sales decreased 3.0%4.1% and 4.0% for the third quarter of 2019three and 3.9% for nine months ended September 30, 20192020, respectively, compared to the same periods in 2018.2019. The overall decrease isin premium income was driven primarily by a decline throughout the first nine months of 2020 in renewal premiums for the reasons described above in “Revenue Highlights” and a decline in first year premiums during the second and third quarters, in our Life Insurance segment, and slightly offset by an increasewhich is attributable in first year premiums inlarge part to the third quarter of 2019.COVID-19 pandemic. See the detail distribution of premiums within Segment Operations discussed below.
September 30, 2020 | 10-Q 38
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Net Investment Income. Net investment income performance is summarized as follows.
| | | September 30, | | December 31, | | September 30, | | September 30, | | December 31, | | September 30, |
(In thousands, except for %) | 2019 | | 2018 | | 2018 | (In thousands, except for %) | 2020 | | 2019 | | 2019 |
|
| | | | | | |
Net investment income, annualized | $ | 58,867 |
| | 54,205 |
| | 54,892 |
| Net investment income, annualized | $ | 60,108 | | | 59,531 | | | 58,867 | |
Average invested assets, at amortized cost | 1,357,720 |
| | 1,300,755 |
| | 1,280,592 |
| Average invested assets, at amortized cost | 1,409,993 | | | 1,365,036 | | | 1,357,720 | |
Annualized yield on average invested assets | 4.34 | % | | 4.17 | % | | 4.29 | % | Annualized yield on average invested assets | 4.26 | % | | 4.36 | % | | 4.34 | % |
The annualized yield increaseddecreased during the first nine months of 20192020 compared to the same period in 2018, despite2019, due in part to a decline in overall market yields. Weyields for fixed maturity securities this year. As a substantial proportion of our fixed maturity investments continue to be called or mature, we have been successfulfaced challenges in achieving higherfinding investments with comparable yields while maintaining a prudent risk profile for our portfolio despite facing an increasingly challenging investmentin the continued low interest rate environment. In addition, concerns about potential negative COVID-19-related impacts on our liquidity, while not ultimately realized, resulted in us holding more cash than usual during the fourth quarterfirst nine months of 2018, we repositioned our portfolio into more diversified holdings and maturities as part of our investment management strategy. We increased our purchases of AA rated mortgage backed securities while reducing our municipal holdings. While these securities generally have a higher rating than our municipal holdings, average yields are lower.2020, which also negatively impacted yields. As part of the ongoing process of managing our portfolio and optimizing performance, we are continuing to identify, consider, and considerinvest in new asset classes.
September 30, 2019 Form | 10-Q 36
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Investment income from debtfixed maturity securities accounted for approximately 87.7%87.4% and 87.8% of total investment income for the three and nine months ended September 30, 2020, respectively.
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | |
Gross investment income: | | | | | | | |
Fixed maturity securities | $ | 13,593 | | | 13,637 | | | 40,973 | | | 39,898 | |
Equity securities | 214 | | | 154 | | | 593 | | | 479 | |
Policy loans | 1,666 | | | 1,619 | | | 4,918 | | | 4,820 | |
Long-term investments | 72 | | | — | | | 91 | | | 1 | |
Other investment income | 3 | | | 98 | | | 87 | | | 287 | |
Total investment income | 15,548 | | | 15,508 | | | 46,662 | | | 45,485 | |
Investment expenses | (551) | | | (469) | | | (1,581) | | | (1,335) | |
Net investment income | $ | 14,997 | | | 15,039 | | | 45,081 | | | 44,150 | |
| | | | | | | |
| | | | | | | |
Fixed maturity securities income decreased 0.3% for the third quarter of 2020 and increased 2.7% for the nine months ended September 30, 2019.
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
| | | | | | | |
Gross investment income: | | | | | | | |
Fixed maturity securities | $ | 13,637 |
| | 11,792 |
| | 39,898 |
| | 36,773 |
|
Equity securities | 154 |
| | 143 |
| | 479 |
| | 471 |
|
Mortgage loans | 2 |
| | 3 |
| | 8 |
| | 9 |
|
Policy loans | 1,619 |
| | 1,544 |
| | 4,820 |
| | 4,600 |
|
Long-term investments | — |
| | 3 |
| | 1 |
| | 3 |
|
Other investment income | 96 |
| | 380 |
| | 279 |
| | 470 |
|
Total investment income | 15,508 |
| | 13,865 |
| | 45,485 |
| | 42,326 |
|
Investment expenses | (469 | ) | | (278 | ) | | (1,335 | ) | | (1,157 | ) |
Net investment income | $ | 15,039 |
| | 13,587 |
| | 44,150 |
| | 41,169 |
|
Fixed maturity securities income increased 15.6% for the third quarter of 2019 and 8.5% for nine months ended September 30, 2019,2020, compared to the same periods in 2018. We continue2019. Equity securities income increased for the nine month period as we were able to adjust our investment management strategy to increase our investment yields while maintaining a prudent risk profile.take advantage of market dislocations and identify and execute on attractive equities purchases during the first quarter of 2020. In addition, the increase in policy loans, which represents policyholders utilizing their accumulated policy cash value to pay for premiums, contributed to the increase in investment income.income in both the three and nine months ended September 30, 2020.
Realized Investment Gains (Losses), Net. We recorded realized gains of $0.5 million during the third quarter of 2020 related to fair value changes in our equity securities owned at September 30, 2020. An impairment loss of $3.1 million was recorded for the second quarterfirst nine months of 2019 in connection with classifying the Citizens Academy training facility near Austin, Texas as real estate held-for-sale. We alsoIn addition, we recorded a realized gain of $5.5 million in the first quarter of 2019 relating to the sale of our former corporate headquarters. Finally, we recorded realized gains of $0.8 million due to fair value changes related to equity securities still owned at September 30, 2019.
September 30, 2019 Form2020 | 10-Q 3739
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
BENEFITS AND EXPENSES
| | | Three Months Ended | | Nine Months Ended | | Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, | | September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 | (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | | |
Benefits and expenses: | | | | | | | | Benefits and expenses: | | | | | | | |
Insurance benefits paid or provided: | | | | | | | | Insurance benefits paid or provided: | | | | | | | |
Claims and surrenders | $ | 28,751 |
| | 25,076 |
| | 78,808 |
| | 66,844 |
| Claims and surrenders | $ | 32,958 | | | 28,751 | | | 87,161 | | | 78,808 | |
Increase in future policy benefit reserves | 6,409 |
| | 1,653 |
| | 28,180 |
| | 32,816 |
| Increase in future policy benefit reserves | 4,158 | | | 6,409 | | | 21,866 | | | 28,180 | |
Policyholders' dividends | 1,560 |
| | 1,595 |
| | 4,165 |
| | 4,516 |
| Policyholders' dividends | 1,450 | | | 1,560 | | | 4,011 | | | 4,165 | |
Total insurance benefits paid or provided | 36,720 |
| | 28,324 |
| | 111,153 |
| | 104,176 |
| Total insurance benefits paid or provided | 38,566 | | | 36,720 | | | 113,038 | | | 111,153 | |
Commissions | 8,879 |
| | 8,656 |
| | 25,147 |
| | 26,284 |
| Commissions | 7,712 | | | 8,879 | | | 22,279 | | | 25,147 | |
Other general expenses | 11,530 |
| | 12,402 |
| | 37,611 |
| | 33,375 |
| Other general expenses | 19,391 | | | 11,530 | | | 42,003 | | | 37,611 | |
Capitalization of deferred policy acquisition costs | (5,984 | ) | | (5,561 | ) | | (16,224 | ) | | (17,164 | ) | Capitalization of deferred policy acquisition costs | (4,892) | | | (5,984) | | | (13,632) | | | (16,224) | |
Amortization of deferred policy acquisition costs | 7,835 |
| | 11,412 |
| | 21,043 |
| | 26,218 |
| Amortization of deferred policy acquisition costs | 6,760 | | | 7,835 | | | 18,940 | | | 21,043 | |
Amortization of cost of customer relationships acquired | 355 |
| | 366 |
| | 1,192 |
| | 1,517 |
| |
Amortization of cost of insurance acquired | | Amortization of cost of insurance acquired | 459 | | | 355 | | | 1,228 | | | 1,192 | |
Total benefits and expenses | $ | 59,335 |
| | 55,599 |
| | 179,922 |
| | 174,406 |
| Total benefits and expenses | $ | 67,996 | | | 59,335 | | | 183,856 | | | 179,922 | |
Claims and Surrenders. A detail of claims and surrender benefits is provided below.
| | | Three Months Ended | | Nine Months Ended | | Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, | | September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 | (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
| | | | | | | | | |
Claims and Surrenders: | | | | | | | | Claims and Surrenders: | |
Death claims | $ | 5,797 |
| | 6,031 |
| | 18,227 |
| | 17,742 |
| Death claims | $ | 7,724 | | | 5,797 | | | 21,359 | | | 18,227 | |
Surrender benefits | 13,959 |
| | 11,078 |
| | 37,124 |
| | 29,612 |
| Surrender benefits | 16,131 | | | 13,959 | | | 38,861 | | | 37,124 | |
Endowments | 3,012 |
| | 3,313 |
| | 9,079 |
| | 9,819 |
| Endowments | 2,706 | | | 3,012 | | | 8,064 | | | 9,079 | |
Matured endowments | 4,232 |
| | 3,251 |
| | 10,597 |
| | 5,881 |
| Matured endowments | 4,475 | | | 4,232 | | | 14,376 | | | 10,597 | |
Property claims | 625 |
| | 482 |
| | 1,115 |
| | 1,296 |
| Property claims | 966 | | | 625 | | | 1,769 | | | 1,115 | |
Accident and health benefits | 92 |
| | 140 |
| | 208 |
| | 254 |
| Accident and health benefits | 33 | | | 92 | | | 147 | | | 208 | |
Other policy benefits | 1,034 |
| | 781 |
| | 2,458 |
| | 2,240 |
| Other policy benefits | 923 | | | 1,034 | | | 2,585 | | | 2,458 | |
Total claims and surrenders | $ | 28,751 |
| | 25,076 |
| | 78,808 |
| | 66,844 |
| Total claims and surrenders | $ | 32,958 | | | 28,751 | | | 87,161 | | | 78,808 | |
•Death claims decreased 3.9%increased 33.2% and 17.2% for the third quarter of 2019three and increased 2.7% for the nine months ended September 30, 20192020, respectively, compared to the same periods in 2018.2019. The increase was concentrated in our Home Service Insurance segment and reflected increased mortality due to COVID-19 in our customer base in this segment. Mortality experience isand COVID-19 impacts will continue to be closely monitored by the Company and the activity is within expected levels.Company.
•Surrenders increased 26.0%15.6% and 4.7% for the third quarter of 2019three and 25.4% for the nine months ended September 30, 20192020, respectively, compared to the same periods in 2018.2019. Surrenders represented less than 1.0%0.8% of total direct ordinary whole life insurance in force of $4.7$4.6 billion as of September 30, 2019.2020. The increase in surrender benefit expense is primarily related to our international business, and was within expected levels. A significant portion of surrenders relatepartly reflects policies nearing their maturities. Surrender activity will continue to policies that have been in force over fifteen years and no longer have associated surrender charges.
Matured endowments increased 30.2% forbe closely monitored by the third quarter of 2019 and 80.2% for the nine months ended September 30, 2019 compared to the same periods in 2018. We anticipated this increase based
Company.
September 30, 2019 Form2020 | 10-Q 3840
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
upon the dates of when our policy endowment contracts were sold•Matured endowments increased 5.7% and their expected maturities as set forth in the contracts.
Increase in Future Policy Benefit Reserves. The change in future policy benefit reserves increased 287.7% for the third quarter of 2019 and decreased 14.1% for the nine months ended September 30, 2019 compared to the same periods in 2018. The conversion resulted in a decrease in future policy benefit reserves of $11.9 million35.7% for the three and nine months ended September 30, 2018 relating2020, respectively, compared to the same periods in 2019. We anticipated this increase based upon the dates when our international business. Forendowment contracts were sold and the maturity dates in the contracts.
Increase in Future Policy Benefit Reserves. The change in future policy benefit reserves decreased 35.1% and 22.4% for the three and nine months ended September 30, 2019, the conversion resulted in a decrease in future policy benefit reserves of $2.4 million in our Home Service Insurance segment when2020, respectively, compared to the same periods in 2018. Changes2019 driven primarily by the release of reserves resulting from the decrease in surrender and maturity activity between periods also impacts this line item.our in force business.
Commissions. Commission expense for the third quarterthree and the nine months ended September 30, 2019 fluctuated directly in relation to the decrease in first year2020 decreased 13.1% and renewal premiums11.4%, respectively, compared to premium levels for the same periods in 2018.2019, which reflects lower new product sales in the 2020 periods. Commission expense fluctuates directly with changes in premiums and is more heavily weighted towards first year premiums, which pay higher commission levels than renewal premiums.
Other General Expenses. Expenses declined 7.0% in the third quarter of 2019 compared to the same period in 2018 due to a decrease in audit fees and our 7702/72(s) tax compliance best estimate liability. We recognized $1.8 million in expense related to our 7702/72(s) liability during the third quarter of 2018. We have continued to refine our estimated liability related to this matter. These declines were partially offset by additional costs relating to higher executive compensation. Expenses for the three and nine months ended September 30, 20192020 increased 12.7%68.2% and 11.7%, respectively, compared to the same periodperiods in 2018 as2019, driven primarily by expenses during the 2018 period were reduced by $3.6 million from the reduction in our 7702/72(s) liability estimate. We also had additional costs related to salaries, bonuses and other compensation paid to executive officers, partially offset by lower audit fees, during the nine months ended September 30, 2019 compared toChange in Control of the same periodCompany as described in 2018."Current Financial Highlights" above.
Capitalization and Amortization of Deferred Policy Acquisition Costs. Costs capitalized include certain commissions, policy issuance costs, and underwriting and agency expenses that relate to successful sales efforts for insurance contracts. Capitalized costs increaseddecreased during the thirdthree and nine months ended September 30, 2020 compared to the same periods in 2019 as we experienced a decrease in first year premium production as previously discussed. Amortization of deferred policy acquisition costs was lower during the three and the nine months ended September 30, 2020 compared to the same periods in the prior year. Amortization is impacted by persistency, surrenders, and new sales production and thus it may fluctuate from quarter of 2019to quarter.
Federal Income Tax. Tax expense decreased for the nine months ended September 30, 2020 compared to the same period in 2018 as we experienced an increase2019 resulting in first year premium production.effective tax rates of (25.8)% and 873.7%, respectively. For the nine months ended September 30, 2019, capitalized costs decreased compared to the same period last year as first year premium production declined slightly. Commissions paid on renewal premiums are significantly lower than those paid on first year business. The decline in production for the entire period also resulted in lower amortization during the nine months ended September 30, 2019 compared to the same period in 2018. Amortization of deferred policy acquisition costs is alsoCompany's federal income tax expense was impacted by persistency and may fluctuate from quarter to quarter. In addition, the conversion to a new actuarial valuation system impacted amortization in both periods. The conversion resulted in an increase in amortizationgain realized on the sale of $3.7 million for the three and nine months ended September 30, 2018 and $0.9 million for the three and nine months ended September 30, 2019.
Federal Income Tax. Tax expense decreased for the three and nine months ended September 30, 2019 compared to the same period in 2018.our former corporate headquarters. The Company's tax rate was impacted by differences between our effective tax rate and the statutory tax rate resulting from income and expense items that are treated differently for financial reporting and tax purposes as well as impacts from our uncertain tax position.purposes. In addition, CICA Ltd., a wholly ownedwholly-owned Bermuda subsidiary of Citizens, is considered a controlled foreign corporation for federal tax purposes and CICA Ltd.'s activity gives rise to taxable income in the U.S. as Subpart F Income, which is treated as a permanent tax difference and therefore included in the Company's effective tax rate calculation. See Note 8.9. Income Taxes in the notes to our consolidated financial statements.
SEGMENT OPERATIONS
The Company has two reportable segments: Life Insurance and Home Service Insurance. These segments are reported in accordance with U.S. GAAP. The Company also operatesCompany's other non-insurance portions of the Company, which primarilyenterprises include the Company'snon-insurance operations such as IT and Corporate-supportcorporate-support functions, which are included in the table presented below to properly reconcile the segment information with the consolidated financial statements of the Company. The
Company
September 30, 2019 Form2020 | 10-Q 3941
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Company evaluates profit and loss performance of its segments based on income (loss) before federal income taxes. The following table shows income (loss) before federal income taxes by segments during the periods indicated.
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Segments: | | | | | | | |
Life Insurance | $ | 5,508 | | | 2,310 | | | 9,713 | | | 6,828 | |
Home Service Insurance | (1,026) | | | 927 | | | (3,197) | | | 258 | |
Total segments | 4,482 | | | 3,237 | | | 6,516 | | | 7,086 | |
Other Non-Insurance enterprises | (12,653) | | | (1,105) | | | (16,484) | | | (6,269) | |
Income (loss) before federal income tax expense | $ | (8,171) | | | 2,132 | | | (9,968) | | | 817 | |
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
Segments: | | | | | | | |
Life Insurance | $ | 2,310 |
| | 6,973 |
| | 6,828 |
| | 11,594 |
|
Home Service Insurance | 927 |
| | (352 | ) | | 258 |
| | (3,146 | ) |
Total segments | 3,237 |
| | 6,621 |
| | 7,086 |
| | 8,448 |
|
Other Non-Insurance enterprises | (1,105 | ) | | (1,059 | ) | | (6,269 | ) | | (4,418 | ) |
Income before federal income tax expense | $ | 2,132 |
| | 5,562 |
| | 817 |
| | 4,030 |
|
LIFE INSURANCE
Our Life Insurance segment issues ordinary whole life insurance in the U.S. and in U.S. Dollar-denominated amounts to foreignnon-U.S. residents. These contracts are designed to provide a fixed amount of insurance coverage over the life of the insured and can utilizeinclude rider benefits to provide additional increasing or decreasing coverage and annuity benefits to enhance accumulations. Additionally, the Company issues endowment contracts, are issued by the Company, which are principally accumulation contracts that incorporate an element of life insurance protection. For the majority of our business, we retain the first $0.1 million of risk on any one life reinsuringand reinsure the remainder of the risk. Historically, we have operatedWe operate this segment internationally through CICA Ltd. (a Bermuda company) and domestically through our CICA and CNLIC insurance subsidiaries. Since July 1, 2018, we have operated the international business in this segment through CICA Ltd.
INTERNATIONAL SALES
We focus our sales of U.S. Dollar-denominated ordinary whole life insurance and endowment policies to residents in Latin America and the Pacific Rim. We have participated in the foreign marketplace since 1975. We believe positive attributes of our international insurance business typically include:
•larger face amount policies typically issued when compared to our U.S. operations, which results in lower underwriting and administrative costs per unitdollar of coverage;
•premiums typically paid annually at the beginning of each policy year rather than monthly or quarterly, which reduces our administrative expenses, accelerates cash flow and results in lower policy lapse rates than premiumspremium payment options with more frequently scheduled payments; and
•persistency experience and mortality rates that are comparable to U.S. policies.
September 30, 2019 Form | 10-Q 40
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
INTERNATIONAL PRODUCTS
We offer several ordinary whole life insurance and endowment products designed to meet the needs of our non-U.S. policyholders.policyowners. These policies have been structured to provide:provide the policyowners with:
•U.S. Dollar-denominated cash values that accumulate, beginning in the first policy year, to a policyholder during his or her lifetime;
•premium rates that are competitive with most foreign local companies;
•a hedge against policyowners' local currency inflation;
•protection against devaluation of foreignthe policyowners' local currency;
•capital investment in a more secure economic environment (i.e., the U.S.); and
•lifetime income guarantees for an insured or for surviving beneficiaries.
September 30, 2020 | 10-Q 42
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Our international products have both living and death benefit features. Most policies contain guaranteed cash values and are participating (i.e., providesprovide for cash dividends as apportioned by the board of directors)Board). Once a policyholderpolicyowner pays the annual premium and the policy is issued, the owner becomes entitled to policy cash dividends as well as annual premium benefits if the annual premium benefit was elected. According to the policy language, the policyholderThe policyowner has several options with regard to the policy dividends and annual premium benefits. Any annual policybenefits, which include, among other things, electing to receive cash dividend may, atcrediting such amounts towards the option of the policyholder and provided the value of a dividend is not encumbered by a policy loan, be applied under one of the following options: (1) paid in cash to the policy owner; (2) credited toward payment of premiums on the policy; (3) leftpolicy, leaving such amounts on deposit with the Company to accumulate at a defined interest rate; (4) applied to increase the amount of insurance benefit by purchase of paid-up additions to the policy;rate or (5) be assignedassigning them to a third party. If the policy is encumbered by a loan, only option 3 will apply to secure the outstanding loan. Similarly, all annual premium benefits credited to the policy may, at the option of the policyholder and provided the policy is not encumbered by a policy loan, be applied under one of the following options: (1) paid in cash to the policy owner; (2) credited toward payment of premiums on the policy; (3) left with the Company to accumulate at an annually company declared interest rate; or (4) be assigned to a third party. Likewise, if the policy is encumbered by a loan, only option (3) will apply to secure the outstanding loan.third-party. Under the "assigned to a third party"third-party" provision, the Company has historically allowed policyholders,policyowners, after receiving a copy of the Citizens, Inc. Stock Investment Plan (the "CISIP") prospectus and acknowledging their understanding of the risks of investing in Citizens Class A common stock, the right to assign policy values outside of the policy to the CISIP, which is administered in the U.S.United States by Computershare Trust Company, N.A., our plan administrator and an affiliate of Computershare, Inc., our transfer agent. The CISIP is a direct stock purchase plan available to policyholders,policyowners, shareholders, our employees and directors, independent consultants, and other potential investors through the Computershare website. The Company has registered the shares of Class A common stock issuable to participants under the CISIP on a registration statement under the Securities Act of 1933, as amended (the "Securities Act") that is on file with the Securities and Exchange Commission.SEC. Computershare administers the CISIP in accordance with the terms and conditions of the CISIP, which is available on the Computershare website and as part of the Company’s registration statement on file with the Securities and Exchange Commission.SEC.
September 30, 2019 Form | 10-Q 41
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The following table sets forth, by country, our direct premiums from the top five premium producing countries in our international life insurance business for the nine months ended September 30, 20192020 and 20182019 as indicated below.
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Country: | | | | | | | |
Colombia | $ | 5,858 | | | 6,465 | | | 17,727 | | | 18,567 | |
Venezuela | 5,000 | | | 5,740 | | | 14,890 | | | 16,471 | |
Taiwan | 4,157 | | | 4,393 | | | 13,013 | | | 13,504 | |
Ecuador | 3,443 | | | 3,641 | | | 9,781 | | | 10,454 | |
Argentina | 2,466 | | | 2,539 | | | 6,722 | | | 7,199 | |
| | | | | | | |
Other Non-U.S. | 10,346 | | | 10,485 | | | 27,894 | | | 28,660 | |
Total | $ | 31,270 | | | 33,263 | | | 90,027 | | | 94,855 | |
September 30, 2020 | 10-Q 43
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
Country: | | | | | | | |
Colombia | $ | 6,465 |
| | 6,990 |
| | 18,567 |
| | 20,016 |
|
Venezuela | 5,740 |
| | 6,420 |
| | 16,471 |
| | 18,574 |
|
Taiwan | 4,393 |
| | 4,282 |
| | 13,504 |
| | 13,161 |
|
Ecuador | 3,641 |
| | 3,770 |
| | 10,454 |
| | 11,232 |
|
Argentina | 2,539 |
| | 2,556 |
| | 7,199 |
| | 7,135 |
|
Other Non-U.S. | 10,485 |
| | 10,934 |
| | 28,660 |
| | 29,954 |
|
Total | $ | 33,263 |
| | 34,952 |
| | 94,855 |
| | 100,072 |
|
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
We reported declines in premiums during the third quarterthree and the nine months ended September 30, 20192020 compared to the same periods in 20182019 due primarily to a decreasedecreases in first year premiums in the second and third quarters as previously discussed, and lower renewal premiums.premiums throughout the year. We continue to monitor key indicators in these markets. This business is dependent on our clients having access to U.S. dollars. Our international business may also be affected by our ongoing strategic review of our business modelmarkets including the COVID-19 pandemic and byother economic or other events in foreign countries in which our policies are marketed. In April 2018, in connection with our review of our international business model, we discontinued accepting life insurance applications from Brazilian citizens or residents. Brazil had traditionally been oneimpacts. All of our top five premium-producing countries listed above experienced a decline in our international life insurance businesspremium levels during the three and nine months ended September 30, 2020 compared to the same periods in 2019. Renewal premiums declined for the past several years. We recorded premiums from the Brazilian portion of our business of $6.1 million, or 6.4% of total international premiums, as of September 30, 2019 and $7.1 million, or 7.1% of total international premiums, as of September 30, 2018. We also terminated agreements with several independent consultantsreasons described above in Latin America who did not align with our vision, values, and culture."Revenue Highlights".
Direct premiums from Venezuela have declined as Venezuela continues to experience widespread public demonstrations against crime, corruption, soaring inflation and poor utility infrastructure, and we expect that overall premiums from Venezuela will continue to decline if the deteriorating political and economic environment and infrastructure continue to adversely impact our ability to make sales and collect premiums. Our international business and premium collections also could be impacted by our inability to comply with current or future foreign laws or regulations applicable to the Company or our independent consultants in the countries from which we accept applications and by marketing or operational changes made by the Company to comply with those laws or regulations. See the risk factors disclosed in Part II, Item 1A. of this Form 10-Q and our Quarterly Reports on Form 10-Q for the quarter ended March
September 30, 2019 Form | 10-Q 42
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
31, 2019 and June 30, 2019, and in Part I. Item 1A. of our Annual Report on Form 10-K for the year ended December 31, 2018 for additional information.
DOMESTIC SALES
Most of ourOur domestic inforcein force business results from blocks of business of insurance companies we have acquired over the past 20 years. We discontinued new sales of domestic ordinary whole life and endowment life insurance products within our non-home service domestic products beginning January 1, 2017.
The following table sets forthLife Insurance segment in 2017 while we evaluated our direct premiums by state for the top five premium producing U.S. states for the nine months ended September 30, 2019 and 2018 as indicated below.
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
State: | | | | | | | |
Texas | $ | 503 |
| | 399 |
| | 1,432 |
| | 1,217 |
|
Indiana | 255 |
| | 295 |
| | 773 |
| | 882 |
|
Florida | 194 |
| | 186 |
| | 439 |
| | 504 |
|
Missouri | 85 |
| | 80 |
| | 274 |
| | 288 |
|
Louisiana | 84 |
| | 71 |
| | 199 |
| | 193 |
|
Other States | 433 |
| | 441 |
| | 1,283 |
| | 1,377 |
|
Total | $ | 1,554 |
| | 1,472 |
| | 4,400 |
| | 4,461 |
|
We report premiums based upon the current residence of our policyholders. A number of domestic life insurance companies we acquired had blocks of accident and health insurance policies, which we did not consider to be a core part of our business. We have cededstrategy; therefore, the majority of our accident and health insurance businessthe premium recorded is related to an unaffiliated insurance company under a coinsurance agreement.renewal business. As discussed above in "Strategic Initiatives", we intend to begin selling again in the U.S. in 2021.
September 30, 2019 Form | 10-Q 43
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The results of operations for the Life Insurance segment for the periods indicated are as follows.follows:
| | | Three Months Ended | | Nine Months Ended | | Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, | | September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 | (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Revenue: | | | | | | | | |
Revenues: | | Revenues: | | | | | | | |
Premiums | $ | 34,385 |
| | 35,784 |
| | 97,439 |
| | 102,537 |
| Premiums | $ | 32,265 | | | 34,385 | | | 92,146 | | | 97,439 | |
Net investment income | 11,340 |
| | 10,062 |
| | 33,121 |
| | 30,331 |
| Net investment income | 11,507 | | | 11,340 | | | 34,332 | | | 33,121 | |
Realized investment gains (losses), net | 61 |
| | (475 | ) | | 5,586 |
| | (684 | ) | |
Realized investment gains, net | | Realized investment gains, net | 133 | | | 61 | | | 1,259 | | | 5,586 | |
Other income | 349 |
| | 643 |
| | 1,146 |
| | 931 |
| Other income | 189 | | | 349 | | | 1,195 | | | 1,146 | |
Total revenue | 46,135 |
| | 46,014 |
| | 137,292 |
| | 133,115 |
| |
Total revenues | | Total revenues | 44,094 | | | 46,135 | | | 128,932 | | | 137,292 | |
Benefits and expenses: | | | | | | | | Benefits and expenses: | |
Insurance benefits paid or provided: | | | | | | | | Insurance benefits paid or provided: | |
Claims and surrenders | 22,533 |
| | 19,212 |
| | 61,011 |
| | 49,522 |
| Claims and surrenders | 25,023 | | | 22,533 | | | 66,071 | | | 61,011 | |
Increase in future policy benefit reserves | 7,667 |
| | 544 |
| | 27,499 |
| | 29,509 |
| Increase in future policy benefit reserves | 3,274 | | | 7,667 | | | 18,804 | | | 27,499 | |
Policyholders' dividends | 1,551 |
| | 1,581 |
| | 4,136 |
| | 4,483 |
| Policyholders' dividends | 1,443 | | | 1,551 | | | 3,987 | | | 4,136 | |
Total insurance benefits paid or provided | 31,751 |
| | 21,337 |
| | 92,646 |
| | 83,514 |
| Total insurance benefits paid or provided | 29,740 | | | 31,751 | | | 88,862 | | | 92,646 | |
Commissions | 5,386 |
| | 4,712 |
| | 14,435 |
| | 14,717 |
| Commissions | 4,140 | | | 5,386 | | | 11,912 | | | 14,435 | |
Other general expenses | 5,358 |
| | 6,583 |
| | 18,021 |
| | 12,607 |
| Other general expenses | 1,915 | | | 5,358 | | | 11,309 | | | 18,021 | |
Capitalization of deferred policy acquisition costs | (4,743 | ) | | (3,873 | ) | | (12,465 | ) | | (12,663 | ) | Capitalization of deferred policy acquisition costs | (3,512) | | | (4,743) | | | (10,149) | | | (12,465) | |
Amortization of deferred policy acquisition costs | 5,960 |
| | 10,132 |
| | 17,454 |
| | 22,912 |
| Amortization of deferred policy acquisition costs | 6,190 | | | 5,960 | | | 16,927 | | | 17,454 | |
Amortization of cost of customer relationships acquired | 113 |
| | 150 |
| | 373 |
| | 434 |
| |
Amortization of cost of insurance acquired | | Amortization of cost of insurance acquired | 113 | | | 113 | | | 358 | | | 373 | |
Total benefits and expenses | 43,825 |
| | 39,041 |
| | 130,464 |
| | 121,521 |
| Total benefits and expenses | 38,586 | | | 43,825 | | | 119,219 | | | 130,464 | |
Income before federal income tax expense | $ | 2,310 |
| | 6,973 |
| | 6,828 |
| | 11,594 |
| Income before federal income tax expense | $ | 5,508 | | | 2,310 | | | 9,713 | | | 6,828 | |
Premiums. We derive most of our premium revenue in the Life Insurance segment from renewal premiums. Premium revenues decreased 3.9%declined 6.2% and 5.4% for the three and nine months ended September 30, 2020, respectively, compared to the same periods in 2019. These declines were due in large part to decreases in renewal premiums throughout the year. We experienced decreases in renewal premium as a result of a decline in our in force business. Our in force business, in terms of policy counts and amount of in force insurance, has been declining for several years due to changes we made to our products and distribution over the last few years, which resulted in
September 30, 2020 | 10-Q 44
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
the pace of new policies issued lagging the number of policies terminated from death, surrender or lapse. A decline in first year premiums during the second and third quarterquarters also contributed to the overall decrease. The declines in first year premiums were primarily related to the impact of 2019the COVID-19 pandemic. We have taken and will continue to take countermeasures to reduce the impact of the COVID-19 pandemic on our premiums, including holding sales promotions and campaigns, emphasizing virtual selling and tailoring our sales efforts to products whose sales processes are less impacted by the pandemic.
Life Insurance segment premium breakout is detailed below.
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Premiums: | | | | | | | |
First year | $ | 2,214 | | | 3,361 | | | 6,517 | | | 8,308 | |
Renewal | 30,051 | | | 31,024 | | | 85,629 | | | 89,131 | |
Total premiums | $ | 32,265 | | | 34,385 | | | 92,146 | | | 97,439 | |
| | | | | | | |
Net Investment Income. Net investment income increased in the nine months ended September 30, 2020 compared to the same period in 2018 due to a decrease2019 and the twelve months ended December 31, 2020.
| | | | | | | | | | | | | | | | | |
| September 30, | | December 31, | | September 30, |
(In thousands, except for %) | 2020 | | 2019 | | 2019 |
Net investment income, annualized | $ | 45,776 | | | 44,779 | | | 44,163 | |
Average invested assets, at amortized cost | 1,062,751 | | | 1,016,055 | | | 1,010,578 | |
Annualized yield on average invested assets | 4.31 | % | | 4.41 | % | | 4.37 | % |
The annualized yield in renewal business. However,the first year premiums from our international business increased 31.0% during the third quarternine months of 20192020 decreased compared to the same period in 2018 as2019 and from December 31, 2019. As a substantial proportion of our fixed maturity investments continue to be called or mature, we invested heavilyhave faced challenges in our salesfinding investments with comparable yields in the continued low interest rate environment.
Realized Investment Gains (Losses), Net. The realized gains for the three and marketing activities and achieved better alignment with our sales collaborators on vision, value and strategy. For the nine months ended September 30, 2019, premium revenues declined 5.0% compared2020 were primarily due to the same periodappreciation in 2018 due primarilythe value of a preferred stock exchange traded fund purchase we made during the first quarter as we were able to take advantage of the market dislocation to identify an attractive risk-adjusted opportunity. We recorded a decrease in renewal business. Sincerealized gain of $5.5 million during the first quarter of 2019 we have experienced progressive improvement in our new business production for our international business.
Life insurance premium breakout is detailed below.
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
Premiums: | | | | | | | |
First year | $ | 3,361 |
| | 2,566 |
| | 8,308 |
| | 8,340 |
|
Renewal | 31,024 |
| | 33,218 |
| | 89,131 |
| | 94,197 |
|
Total premiums | $ | 34,385 |
| | 35,784 |
| | 97,439 |
| | 102,537 |
|
September 30, 2019 Form | 10-Q 44
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Net Investment Income. Net investment income increased primarily duerelated to the growth in average invested assets and a strategic focus on increasing yields in a prudent manner.
|
| | | | | | | | | |
| Nine Months Ended | | Year Ended | | Nine Months Ended |
| September 30, | | December 31, | | September 30, |
(In thousands, except for %) | 2019 | | 2018 | | 2018 |
Net investment income, annualized | $ | 44,163 |
| | 39,985 |
| | 40,439 |
|
Average invested assets, at amortized cost | 1,010,578 |
| | 958,135 |
| | 945,241 |
|
Annualized yield on average invested assets | 4.37 | % | | 4.17 | % | | 4.28 | % |
The annualized yield in the third quarter of 2019 increased compared to the third quarter of 2018. We are continually adjusting our investment management strategy to identify opportunities to improve our yields while maintaining risk discipline. This continues to be a challenge in the current low interest rate environment.
Realized Investment Gains (Losses), Net. The realized gains for the nine month period were primarily due to a $5.5 million realized gain from the sale of our former corporate headquarters in Austin, Texas. We recorded realized investment losses for the third quarter of 2018 of $0.4 million due to losses on securities we had not intended to hold until recovery. We also recorded realized investment losses for the nine months ended September 30, 2018 that were primarily due to an additional impairment of one single issuer which totaled $0.2 million.
Claims and Surrenders. These amounts fluctuate from period to period but were within anticipated ranges based upon management's expectations.
September 30, 2020 | 10-Q 45
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The following table representsshows the amount of claims and surrenders incurred within the Life Insurance segment for the nine months ended September 30, 20192020 compared to the same period in 2018.2019.
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Claims and Surrenders: | | | | | | | |
Death claims | $ | 1,595 | | | 1,249 | | | 4,563 | | | 4,599 | |
Surrender benefits | 15,449 | | | 13,104 | | | 36,884 | | | 34,591 | |
Endowment benefits | 2,703 | | | 3,008 | | | 8,056 | | | 9,070 | |
Matured endowments | 4,324 | | | 4,103 | | | 13,893 | | | 10,190 | |
Accident and health benefits | 34 | | | 41 | | | 102 | | | 117 | |
Other policy benefits | 918 | | | 1,028 | | | 2,573 | | | 2,444 | |
Total claims and surrenders | $ | 25,023 | | | 22,533 | | | 66,071 | | | 61,011 | |
September 30, 2019 Form | 10-Q 45
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
Claims and Surrenders: | | | | | | | |
Death claims | $ | 1,249 |
| | 1,619 |
| | 4,599 |
| | 4,434 |
|
Surrender benefits | 13,104 |
| | 10,307 |
| | 34,591 |
| | 27,387 |
|
Endowment benefits | 3,008 |
| | 3,309 |
| | 9,070 |
| | 9,809 |
|
Matured endowments | 4,103 |
| | 3,114 |
| | 10,190 |
| | 5,481 |
|
Accident and health benefits | 41 |
| | 86 |
| | 117 |
| | 183 |
|
Other policy benefits | 1,028 |
| | 777 |
| | 2,444 |
| | 2,228 |
|
Total claims and surrenders | $ | 22,533 |
| | 19,212 |
| | 61,011 |
| | 49,522 |
|
•Death claims expense was favorableunfavorable for the third quarter and unfavorablethree months ended September 30, 2020 increasing 27.7% from the same period in 2019, while remaining flat for the nine months ended September 30, 20192020 compared with the same periodsperiod in 2018.2019. Mortality experience is closely monitored by the Company as a key performance indicator and these amounts were within expected levels. We are closely monitoring claim volumes to evaluate whether there is a delay in reporting or filing for benefits as a result of the COVID-19 pandemic.
•Surrenders increased 27.1%17.9% and 6.6% for the third quarter of 2019three and 26.3% for the nine months ended September 30, 20192020, respectively, compared to the same periods in 2018. As we have2019, primarily as a mature bookresult of business,policies nearing their maturities, as noted above, and fell within anticipated range. Surrender activity will continue to be closely monitored by the majority of policy surrender benefits paid are for policies in the later durations of their terms, after the surrender charges have been reduced or have ended.Company.
Endowment benefits primarily result from the election by policyholders of a product feature providing an annual guaranteed benefit. This is a fixed benefit over the life of the contract, thus this expense will vary with new sales and persistency of the business.
•Matured endowments increased 31.8%5.4% and 36.3% for the third quarter of 2019three and 85.9% for the nine months ended September 30, 20192020, respectively, compared to the same periods in 2018,2019, as a large number of our endowment contracts reached maturity in the current period. We anticipate this trend will continue as endowmentsendowment products sold reach their stated maturities.
Other policy benefits resulted primarily from interest paid on premium deposits and policy benefit accumulations.
September 30, 2020 | 10-Q 46
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Increase in Future Policy Benefit Reserves. The lower increase in policy benefit reserves for the third quarter of 2019 was due primarily to the impact of the new actuarial valuation system conversion in 2018. The conversion resulted in a decrease in reserves of $11.9 million for the third quarter of 2018 compared to 2017. In addition, change in reserves was impacted by the premium incomethree and increases in surrender and maturity activity in the current period as described above. For the nine months ended September 30, 2019, change in policy benefit reserves was lower due to the impact of the actuarial valuation system conversion offsetting the impact of increased surrender and maturity activity and lower premiums compared to the same period in 2018.
Policyholders' Dividends. Policyholders' dividends were lower for both the third quarter and the nine months ended September 30, 20192020 compared to the same periods in 2018. The decrease2019 was primarily due to changes in persistencypremium decreases and production.benefit increases as discussed above.
Commissions. Commission expense increaseddecreased substantially during the third quarter of 2019three and nine months ended September 30, 2020 as we experienced higherlower first year premiums compared to the same period last year. Commission expense decreased for the nine months ended September 30, 2019 compared to the same periodperiods in 2018 as we experienced fewer renewal premiums and lower first year premiums in the first quarter of 2019. Commission expense is driven primarily, but not exclusively, by new business as commission rates paid are higher on first year premium sales.
September 30, 2019 Form | 10-Q 46
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Other General Expenses. Expenses are allocated by segment based upon an annual expense study performed by the Company. Expenses decreased for the third quarter of 2019 due to lower audit fees partially offset by additional costs related to salaries, bonusesthree and other compensation. Expenses for the nine months ended September 30, 2019 increased compared to the same period in 2018 primarily2020 due to the reduction in the 7702 tax compliance estimated costs recorded in the first quarter of 2018, which resulted in lower expenses during the 2018 period. We also had lower audit, fees somewhat offset by additional costs related to salaries, bonusesconsulting and other compensation in the nine months ended September 30, 2019 compared to the same period in 2018.
Capitalization of Deferred Policy Acquisition Costs. Capitalized costs fluctuate in direct relation to commissions, increasing for the third quarter and decreasing for the nine months ended September 30, 2019, based upon first year and renewal premiums and commissions paidemployee-related expenses compared to the same periods in 2018.
Amortization of Deferred Policy Acquisition Costs. Amortization costs fluctuate with changes in first year premium activity, surrenders, and persistency in general. As previously described, persistency is monitored closely by the Company. In addition, the conversion to a new actuarial valuation system impacted amortization. The conversion resulted in an increase in amortization of $3.7 million for the third quarter2019 and the nine months ended September 30, 2018.release of the tax compliance liability under Sections 7702 and 72(s) of the Internal Revenue Code as described above.
HOME SERVICE INSURANCE
We operate in the Home Service insuranceInsurance market through our subsidiaries Security Plan Life Insurance Company ("SPLIC"), Magnolia Guaranty Life Insurance Company ("MGLIC")SPLIC, MGLIC and Security Plan Fire Insurance Company ("SPFIC"),SPFIC, and focus on the life insurance needs of the middle and lower income markets, primarily in Louisiana, Mississippi and Arkansas. Our policies are sold and serviced through a home service insurance marketing distribution system of employee-agentsindependent agents who work full time on a debit route system and through funeral homes that sell policies, collect premiums and service policyholders.
The following table sets forth our direct premiums by state for the periods indicated.
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
State: | | | | | | | |
Louisiana | $ | 10,967 | | | 10,688 | | | 31,955 | | | 31,997 | |
Mississippi | 488 | | | 508 | | | 1,497 | | | 1,546 | |
Arkansas | 424 | | | 398 | | | 1,290 | | | 1,222 | |
Other States | 260 | | | 235 | | | 744 | | | 694 | |
Total | $ | 12,139 | | | 11,829 | | | 35,486 | | | 35,459 | |
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
State: | | | | | | | |
Louisiana | $ | 10,688 |
| | 10,679 |
| | 31,997 |
| | 32,098 |
|
Mississippi | 508 |
| | 527 |
| | 1,546 |
| | 1,618 |
|
Arkansas | 398 |
| | 413 |
| | 1,222 |
| | 1,272 |
|
Other States | 235 |
| | 230 |
| | 694 |
| | 684 |
|
Total | $ | 11,829 |
| | 11,849 |
| | 35,459 |
| | 35,672 |
|
HOME SERVICE INSURANCE PRODUCTS
Our Home Service Insurance products consist primarily of small face amount ordinary whole life and pre-need policies, which are designed to fund final expenses for the insured, primarily consisting of funeral and burial costs. To a much lesser extent, our Home Service Insurance segment sells limited-liability, named-peril property policies covering dwellings and contents. We provide $30,000 maximum coverage on any one dwelling and contents, while content only coverage and dwelling only coverage isare both limited to $20,000, respectively.$20,000.
We provide final expense ordinary life insurance and annuity products primarily to middle and lower income individuals and families in Louisiana, Mississippi and Arkansas. Arkansas, a demographic that has been disproportionally impacted by the COVID-19 pandemic.
September 30, 2019 Form2020 | 10-Q 47
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The results of operations for the Home Service Insurance segment for the periods indicated are as follows.follows:
| | | Three Months Ended | | Nine Months Ended | | Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, | | September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 | (In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Revenue: | | | | | | | | |
Revenues: | | Revenues: | | | | | | | |
Premiums | $ | 11,624 |
| | 11,645 |
| | 34,838 |
| | 35,051 |
| Premiums | $ | 11,843 | | | 11,624 | | | 34,775 | | | 34,838 | |
Net investment income | 3,309 |
| | 3,276 |
| | 9,720 |
| | 9,894 |
| Net investment income | 3,200 | | | 3,309 | | | 9,788 | | | 9,720 | |
Realized investment gains (losses), net | 3 |
| | (32 | ) | | 639 |
| | (535 | ) | Realized investment gains (losses), net | 388 | | | 3 | | | (405) | | | 639 | |
Other income (loss) | (2 | ) | | — |
| | — |
| | (1 | ) | Other income (loss) | 1 | | | (2) | | | 19 | | | — | |
Total revenue | 14,934 |
| | 14,889 |
| | 45,197 |
| | 44,409 |
| |
Total revenues | | Total revenues | 15,432 | | | 14,934 | | | 44,177 | | | 45,197 | |
Benefits and expenses: | | | | | | | | Benefits and expenses: | |
Insurance benefits paid or provided: | | | | | | | | Insurance benefits paid or provided: | |
Claims and surrenders | 6,218 |
| | 5,864 |
| | 17,797 |
| | 17,322 |
| Claims and surrenders | 7,935 | | | 6,218 | | | 21,090 | | | 17,797 | |
Increase in future policy benefit reserves | (1,258 | ) | | 1,109 |
| | 681 |
| | 3,307 |
| Increase in future policy benefit reserves | 884 | | | (1,258) | | | 3,062 | | | 681 | |
Policyholders' dividends | 9 |
| | 14 |
| | 29 |
| | 33 |
| Policyholders' dividends | 7 | | | 9 | | | 24 | | | 29 | |
Total insurance benefits paid or provided | 4,969 |
| | 6,987 |
| | 18,507 |
| | 20,662 |
| Total insurance benefits paid or provided | 8,826 | | | 4,969 | | | 24,176 | | | 18,507 | |
Commissions | 3,493 |
| | 3,944 |
| | 10,712 |
| | 11,567 |
| Commissions | 3,572 | | | 3,493 | | | 10,367 | | | 10,712 | |
Other general expenses | 4,669 |
| | 4,502 |
| | 15,071 |
| | 15,438 |
| Other general expenses | 4,524 | | | 4,669 | | | 13,431 | | | 15,071 | |
Capitalization of deferred policy acquisition costs | (1,241 | ) | | (1,688 | ) | | (3,759 | ) | | (4,501 | ) | Capitalization of deferred policy acquisition costs | (1,380) | | | (1,241) | | | (3,483) | | | (3,759) | |
Amortization of deferred policy acquisition costs | 1,875 |
| | 1,280 |
| | 3,589 |
| | 3,306 |
| Amortization of deferred policy acquisition costs | 570 | | | 1,875 | | | 2,013 | | | 3,589 | |
Amortization of cost of customer relationships acquired | 242 |
| | 216 |
| | 819 |
| | 1,083 |
| |
Amortization of cost of insurance acquired | | Amortization of cost of insurance acquired | 346 | | | 242 | | | 870 | | | 819 | |
Total benefits and expenses | 14,007 |
| | 15,241 |
| | 44,939 |
| | 47,555 |
| Total benefits and expenses | 16,458 | | | 14,007 | | | 47,374 | | | 44,939 | |
Income (loss) before federal income tax expense | $ | 927 |
| | (352 | ) | | 258 |
| | (3,146 | ) | Income (loss) before federal income tax expense | $ | (1,026) | | | 927 | | | (3,197) | | | 258 | |
Premiums. Premiums increased slightly in the three months and were down slightlyflat for the third quarter and the nine months ended September 30, 20192020 compared to the same periods in 2018.2019, despite the COVID-19 pandemic. Third quarter premiums increased compared to the prior period due to increases in renewal premiums, which was attributable to changes we made in our Home Service Insurance operations and collection processes, leading to increased use of alternative payment methods, such as debit and credit cards, which assisted with the agents’ collection levels. While first year premiums increased in the three months and decreased slightly in the nine months ended September 30, 2020, the introduction of a new sales campaign in the third quarter targeted at existing policyholders boosted first year premium revenue.
September 30, 2020 | 10-Q 48
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Net Investment Income. Net investment income for our Home Service Insurance segment increased slightly during the third quarter and declined the nine months endingended September 30, 20192020 increased slightly compared to the same periodsperiod in 2018 as a fall in yields and2019 due to an increase in investment expenses offset a slight increase in average invested assets. As previously described, it has been challenging to find attractive yields in the current low interest rate environment. Net investment income yield for our Home Service Insurance segment is summarized below.
| | | Nine Months Ended | | Year Ended | | Nine Months Ended | | Nine Months Ended | | Year Ended | | Nine Months Ended |
| September 30, | | December 31, | | September 30, | | September 30, | | December 31, | | September 30, |
(In thousands, except for %) | 2019 | | 2018 | | 2018 | (In thousands, except for %) | 2020 | | 2019 | | 2019 |
| | | | | | | |
Net investment income, annualized | $ | 13,098 |
| | 13,125 |
| | 13,189 |
| Net investment income, annualized | $ | 13,051 | | | 13,058 | | | 13,098 | |
Average invested assets, at amortized cost | 291,712 |
| | 290,443 |
| | 288,723 |
| Average invested assets, at amortized cost | 298,344 | | | 293,497 | | | 291,712 | |
Annualized yield on average invested assets | 4.49 | % | | 4.52 | % | | 4.57 | % | Annualized yield on average invested assets | 4.37 | % | | 4.45 | % | | 4.49 | % |
Realized Investment Gains (Losses), Net. Realized net gains for the nine months ended September 30, 2019 Changes in realized gains/losses were primarily relateddue to equity securitiesoverall market fluctuations and the related fair value adjustments of $0.7 million, as financial markets performed well during the first nine months of 2019. We recorded losses of $0.2 million due to fair value changes related toon equity securitiessecurities.
September 30, 2019 Form | 10-Q 48
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
and an additional impairment on one fixed maturity security issuer totaling $0.1 million for the nine months ended September 30, 2018.
Claims and Surrenders. These amounts fluctuate from period to period but were generally within anticipated ranges based upon management's expectations. Claims and surrenders expense is summarized as follows:
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2020 | | 2019 | | 2020 | | 2019 |
Claims and Surrenders: | | | | | | | |
Death claims | $ | 6,129 | | | 4,548 | | | 16,796 | | | 13,628 | |
Surrender benefits | 682 | | | 855 | | | 1,977 | | | 2,533 | |
Endowment benefits | 3 | | | 6 | | | 8 | | | 10 | |
Matured endowments | 151 | | | 129 | | | 483 | | | 407 | |
Property claims | 966 | | | 625 | | | 1,769 | | | 1,115 | |
Accident and health benefits | (1) | | | 52 | | | 45 | | | 92 | |
Other policy benefits | 5 | | | 3 | | | 12 | | | 12 | |
Total claims and surrenders | $ | 7,935 | | | 6,218 | | | 21,090 | | | 17,797 | |
|
| | | | | | | | | | | | |
| Three Months Ended | | Nine Months Ended |
| September 30, | | September 30, |
(In thousands) | 2019 | | 2018 | | 2019 | | 2018 |
Claims and Surrenders: | | | | | | | |
Death claims | $ | 4,548 |
| | 4,412 |
| | 13,628 |
| | 13,308 |
|
Surrender benefits | 855 |
| | 771 |
| | 2,533 |
| | 2,225 |
|
Endowment benefits | 6 |
| | 4 |
| | 10 |
| | 10 |
|
Matured endowments | 129 |
| | 137 |
| | 407 |
| | 400 |
|
Property claims | 625 |
| | 482 |
| | 1,115 |
| | 1,296 |
|
Accident and health benefits | 52 |
| | 54 |
| | 92 |
| | 71 |
|
Other policy benefits | 3 |
| | 4 |
| | 12 |
| | 12 |
|
Total claims and surrenders | $ | 6,218 |
| | 5,864 |
| | 17,797 |
| | 17,322 |
|
•Death claims expense fluctuates based upon reported claims. We experienced a smallan increase in reported claims and the average dollar amount of claims in the third quarterthree and the nine months ended September 30, 20192020 compared to the same periods in 2018.2019, due primarily to the COVID-19 pandemic as indicated above. Mortality experience is closely monitored by the Company as a key performance indicator and amounts were within the range of expected levels.
Surrender benefits•Property claims increased forin the third quarterthree and the nine months ended September 30, 2019, but were within anticipated ranges based on management expectations.
Property claims increased in the third quarter due to the impact of Tropical Storm Barry that affected Louisiana. For the nine months ended September 30, 2019, property claims decreased as we experienced favorable weather-related claim activity in 20192020 compared to the same periodperiods in 2018.2019 for the reasons described below.
During the third quarter of 2020, SPFIC was impacted by Hurricane Laura, a Category 4 hurricane that caused significant damage in Louisiana. The Company has a reinsurance agreement that covers catastrophic events such as Hurricane Laura. The reinsurance agreement specifies a maximum coverage per event of $11.0 million and a retention level of $0.5 million per event. We have paid the $0.5 million retention in claim amounts for this storm and do not believe we will exceed the maximum coverage; however, any claims in excess of $11.0 million would have to be paid by SPFIC.
September 30, 2020 | 10-Q 49
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
After the third quarter of 2020, SPFIC was impacted by Hurricanes Delta and Zeta, both of which were Category 2 storms that also hit Louisiana. Hurricane Delta is expected to be a less significant event and we are still evaluating the impact of Hurricane Zeta. At this point, we do not expect the impact of either storm to have a material effect on our consolidated financial statements.
Our catastrophic event reinsurance agreement only allows coverage on a maximum of two catastrophic events per calendar year per reinsurance layer. If Hurricane Delta turns out to be a more significant event than we anticipate and claims exceed our retention amount so that we need to use our reinsurance to cover for losses arising from Hurricane Delta, our current reinsurance will not cover all of an additional catastrophic event in 2020. Thus, if any additional catastrophic events occur in the fourth quarter of 2020, SPFIC may have to absorb more of the cost of the claims arising from such events or incur additional catastrophe reinsurance premiums for coverage, either of which could adversely affect the Company’s results of operations.
Increase in Future Policy Benefit Reserves.The change in future policy benefit reserves for the third quarterthree and the nine months ended September 30, 2019 was lower due primarily to the impact of our actuarial valuation system conversion. For the three and nine months ended September 30, 2019, the conversion which resulted in a decrease in reserves of $2.3 million. in the prior year.
Commissions. Commission expense decreased for the third quarter and the nine months ended September 30, 2019 compared to the same periods in 2018, consistent with premium collection levels. In addition, management initiated a change in commission policy in 2018 that has resulted in generally lower commission payouts.
Other General Expenses. Expenses are allocated by segment based upon an annual expense study performed by the Company. Expenses were relatively flatdecreased for the three and nine months ended September 30, 20192020 compared to the same periods in 2018.2019 due primarily to lower audit and employee-related expenses.
CapitalizationAmortization of Deferred Policy Acquisition Costs ("DAC"). Capitalized costsDAC. Amortization decreased for the third quarterthree and the nine months ended September 30, 20192020 compared to the same periodsperiod in 2018. DAC capitalization is directly correlated to fluctuations in new business and commissions.
Amortization of Deferred Policy Acquisition Costs. Amortization for the third quarter and the nine months ended September 30, 2019 increased of $0.9 million compared to the same periods in 2018due primarily due to the impact of the conversion to a new actuarial valuation system.system in our Home Service Insurance segment in the third quarter of 2019 which increased amortization by $0.9 million in the prior year.
OTHER NON-INSURANCE ENTERPRISES
September 30, 2019 Form | 10-Q 49
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Amortization of Cost of Customer Relationships Acquired. Amortization decreased for the Company's non-insurance operations, which primarily include the Company's IT and Corporate-support functions who provide services to the insurance operations. In the three and nine months ended September 30, 2019 compared to2020, the same period in 2018, mainly due to an annual reviewOther Non-Insurance Enterprises had revenues of $0.3 million and true up performed in the first quarter of 2019.
OTHER NON-INSURANCE ENTERPRISES
This represents the administrative support entities to the insurance operations whose revenues are$0.8 million, respectively, which is primarily intercompany and have beenis eliminated in consolidation under GAAP, which typically results in a loss.GAAP. Losses reported for the three and nine months ended September 30, 2019,2020 were $12.7 million and $16.5 million, respectively, are also impactedand were driven primarily by the impairment ofexpenses related to the Citizens Academy training facility property.Change in Control, as described above in “Current Financial Highlights.”
INVESTMENTS
The administration of our investment portfolios is handled by our management and a third-party investment manager pursuant to board-approved investment guidelines, with all trading activity approved by a committeeeach board of each entity's respective boards of directors.Citizens and its insurance subsidiaries. The guidelines used require that fixed maturities, both government and corporate, are investment grade and comprise a majority of the investment portfolio. State insurance statutes prescribe the quality and percentage of the various types of investments that may be made by insurance companies and generally permit investmentinvestments in qualified state, municipal, federal and foreign government obligations, high quality corporate bonds, preferred and common stock, mortgage loans and real estate within certain specified percentages. The investmentsinvested assets are generally intended to mature in accordance with the average maturity of theour insurance products and provide the cash flow for our insurance company subsidiaries to meet their respective policyholder obligations.
September 30, 2020 | 10-Q 50
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The following table shows the carrying value of our investments by investment category and cash and cash equivalents,each invested asset and the percentage of each to total cash and invested cash, cash equivalents and investments.assets.
| | Carrying Value | September 30, 2019 | | December 31, 2018 | Carrying Value | September 30, 2020 | | December 31, 2019 |
(In thousands, except for %) | Amount | | % | | Amount | | % | (In thousands, except for %) | Amount | | % | | Amount | | % |
Cash and Invested Assets | | Cash and Invested Assets | |
Fixed maturity securities: | | | | | | | | Fixed maturity securities: | | | | | | | |
U.S. Treasury and U.S. Government-sponsored enterprises | $ | 16,150 |
| | 1.1 | % | | $ | 15,554 |
| | 1.1 | % | U.S. Treasury and U.S. Government-sponsored enterprises | $ | 16,364 | | | 1.0 | % | | $ | 15,878 | | | 1.0 | % |
States and political subdivisions(1) | 596,818 |
| | 39.2 | % | | 720,115 |
| | 52.0 | % | 432,719 | | | 26.8 | % | | 536,284 | | | 35.1 | % |
Corporate | 604,108 |
| | 39.7 | % | | 381,796 |
| | 27.5 | % | Corporate | 807,925 | | | 50.1 | % | | 650,088 | | | 42.6 | % |
Mortgage-backed (1)(2) | 134,972 |
| | 8.9 | % | | 108,698 |
| | 7.8 | % | 142,008 | | | 8.8 | % | | 131,387 | | | 8.6 | % |
Asset-backed | 17,480 |
| | 1.2 | % | | 4,757 |
| | 0.3 | % | Asset-backed | 45,444 | | | 2.8 | % | | 44,203 | | | 2.9 | % |
Foreign governments | 120 |
| | — | % | | 119 |
| | — | % | Foreign governments | 119 | | | — | % | | 119 | | | — | % |
Total fixed maturity securities | 1,369,648 |
| | 90.1 | % | | 1,231,039 |
| | 88.7 | % | Total fixed maturity securities | 1,444,579 | | | 89.5 | % | | 1,377,959 | | | 90.2 | % |
Short-term investments | 2,453 |
| | 0.2 | % | | 7,865 |
| | 0.6 | % | Short-term investments | — | | | — | % | | 1,301 | | | 0.1 | % |
Cash and cash equivalents | 47,147 |
| | 3.1 | % | | 45,492 |
| | 3.3 | % | Cash and cash equivalents | 42,261 | | | 2.6 | % | | 46,205 | | | 3.0 | % |
Other investments: | |
| | |
| | |
| | |
| Other investments: | | | | | | | |
Policy loans | 81,964 |
| | 5.4 | % | | 80,825 |
| | 5.8 | % | Policy loans | 83,962 | | | 5.2 | % | | 82,005 | | | 5.4 | % |
Equity securities | 15,845 |
| | 1.0 | % | | 15,068 |
| | 1.1 | % | Equity securities | 21,151 | | | 1.3 | % | | 16,033 | | | 1.1 | % |
Mortgage loans | 180 |
| | — | % | | 186 |
| | — | % | |
| Real estate and other long-term investments | 2,593 |
| | 0.2 | % | | 7,223 |
| | 0.5 | % | Real estate and other long-term investments | 22,239 | | | 1.4 | % | | 2,956 | | | 0.2 | % |
Total cash, cash equivalents and investments | $ | 1,519,830 |
| | 100.0 | % | | $ | 1,387,698 |
| | 100.0 | % | |
Total cash and invested assets | | Total cash and invested assets | $ | 1,614,192 | | | 100.0 | % | | $ | 1,526,459 | | | 100.0 | % |
(1)Includes $133.7$167.8 million and $108.5$188.1 million of securities guaranteed by third parties at September 30, 2020 and December 31, 2019, respectively.
(2) Includes $141.6 million and $130.1 million of U.S. Government-sponsored enterprises at September 30, 20192020 and December 31, 2018,2019, respectively.
September 30, 2019 Form | 10-Q 50
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Cash and cash equivalents increaseddecreased as of September 30, 2020 compared to December 31, 2019due to timing of cash inflows and investments of cash into marketable securities.
See Note 5. Investments in the notes to our consolidated financial statements for a discussion of the increase in real estate and other long-term investments.
At September 30, 2020, investments in fixed maturity and equity securities were 90.8% of our total invested assets. All of our fixed maturities were classified as available-for-sale securities at September 30, 2020 and December 31, 2019. We had no fixed maturity or equity securities that were classified as trading securities at September 30, 2020 or December 31, 2019.
September 30, 2020 | 10-Q 51
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The following table sets forthshows the distribution of the credit ratings of our portfolio of fixed maturity securities by carrying value as of September 30, 20192020 and December 31, 2018.2019.
| | Carrying Value | September 30, 2019 | | December 31, 2018 | Carrying Value | September 30, 2020 | | December 31, 2019 |
(In thousands, except for %) | Amount | | % | | Amount | | % | (In thousands, except for %) | Amount | | % | | Amount | | % |
AAA | $ | 70,860 |
| | 5.5 | % | | $ | 96,333 |
| | 7.8 | % | AAA | $ | 36,249 | | | 2.5 | % | | $ | 56,977 | | | 4.1 | % |
AA | 485,716 |
| | 38.0 | % | | 551,978 |
| | 44.8 | % | AA | 473,027 | | | 32.7 | % | | 513,190 | | | 37.2 | % |
A | 321,764 |
| | 25.2 | % | | 281,553 |
| | 22.9 | % | A | 424,938 | | | 29.4 | % | | 385,345 | | | 28.0 | % |
BBB | 378,468 |
| | 29.6 | % | | 277,584 |
| | 22.6 | % | BBB | 489,990 | | | 33.9 | % | | 406,515 | | | 29.5 | % |
BB and other | 21,485 |
| | 1.7 | % | | 23,591 |
| | 1.9 | % | BB and other | 20,375 | | | 1.5 | % | | 15,932 | | | 1.2 | % |
Totals | $ | 1,278,293 |
| | 100.0 | % | | $ | 1,231,039 |
| | 100.0 | % | Totals | $ | 1,444,579 | | | 100.0 | % | | $ | 1,377,959 | | | 100.0 | % |
Credit ratings reported for the periods indicated are assigned by a Nationally Recognized Statistical Rating Organization ("NRSRO") such as Moody’s Investors Service, Standard & Poor’s or Fitch Ratings. A credit rating assigned by an NRSRO is a quality basedquality-based rating, with AAA representing the highest quality and D the lowest, with BBB and above being considered investment grade. In addition, the Company may use credit ratings of the National Association of Insurance Commissioners ("NAIC") Securities Valuation Office ("SVO") as assigned, if there is no NRSRO rating. Securities rated by the SVO are grouped in the equivalent NRSRO category as stated by the SVO and securities that are not rated by an NRSRO are included in the "other" category.
Non-investment grade securities are the result of downgrades of issuers or securities acquired during acquisitions of companies, as the Company does not purchase below investment grade securities. We are closely monitoring credit ratings for potential downgrades due to the COVID-19 pandemic.
The Company has no direct sovereign European debt exposure as of September 30, 2019.2020.
September 30, 2020 | 10-Q 52
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
As of September 30, 2019,2020, the Company held municipal fixed maturity securities that include third partythird-party guarantees. Detailed below is a presentation by NRSRO rating of our municipal holdings by funding type as of September 30, 2019.2020.
| | | General Obligation | | Special Revenue | | Other | | Total | | % Based on Amortized Cost | | General Obligation | | Special Revenue | | Other | | Total | | % Based on Amortized Cost |
(In thousands, except for %) | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | (In thousands, except for %) | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | |
Municipal securities including third party guarantees | | | | | | | | | | | |
Municipal fixed maturity securities shown including third-party guarantees | | Municipal fixed maturity securities shown including third-party guarantees | |
AAA | $ | 42,617 |
| | 41,626 |
| | 14,515 |
| | 14,050 |
| | — |
| | — |
| | 57,132 |
| | 55,676 |
| | 9.8 | % | AAA | $ | 23,528 | | | 22,659 | | | 6,199 | | | 5,943 | | | — | | | — | | | 29,727 | | | 28,602 | | | 7.1 | % |
AA | 131,634 |
| | 126,823 |
| | 190,960 |
| | 183,750 |
| | 18,898 |
| | 17,432 |
| | 341,492 |
| | 328,005 |
| | 57.8 | % | AA | 78,340 | | | 73,628 | | | 140,715 | | | 132,599 | | | 12,470 | | | 10,791 | | | 231,525 | | | 217,018 | | | 54.0 | % |
A | 21,942 |
| | 20,682 |
| | 133,469 |
| | 122,146 |
| | 7,820 |
| | 7,130 |
| | 163,231 |
| | 149,958 |
| | 26.4 | % | A | 18,107 | | | 16,259 | | | 120,072 | | | 107,771 | | | 5,051 | | | 4,420 | | | 143,230 | | | 128,450 | | | 32.0 | % |
BBB | 5,419 |
| | 5,273 |
| | 18,640 |
| | 18,032 |
| | 1,570 |
| | 1,450 |
| | 25,629 |
| | 24,755 |
| | 4.4 | % | BBB | 4,149 | | | 4,174 | | | 17,107 | | | 16,846 | | | 1,598 | | | 1,450 | | | 22,854 | | | 22,470 | | | 5.6 | % |
BB and other | 5,808 |
| | 5,696 |
| | 3,526 |
| | 3,461 |
| | — |
| | — |
| | 9,334 |
| | 9,157 |
| | 1.6 | % | BB and other | 4,437 | | | 4,438 | | | 946 | | | 874 | | | — | | | — | | | 5,383 | | | 5,312 | | | 1.3 | % |
Total | $ | 207,420 |
| | 200,100 |
| | 361,110 |
| | 341,439 |
| | 28,288 |
| | 26,012 |
| | 596,818 |
| | 567,551 |
| | 100.0 | % | Total | $ | 128,561 | | | 121,158 | | | 285,039 | | | 264,033 | | | 19,119 | | | 16,661 | | | 432,719 | | | 401,852 | | | 100.0 | % |
| | | | | | | | | | | | | | | | | | | |
Municipal securities excluding third party guarantees | | | | | | | | | | | |
Municipal fixed maturity securities shown excluding third-party guarantees | | Municipal fixed maturity securities shown excluding third-party guarantees | |
AAA | $ | 17,390 |
| | 17,235 |
| | 1,032 |
| | 1,023 |
| | — |
| | — |
| | 18,422 |
| | 18,258 |
| | 3.2 | % | AAA | $ | 4,572 | | | 4,437 | | | 505 | | | 503 | | | — | | | — | | | 5,077 | | | 4,940 | | | 1.2 | % |
AA | 94,931 |
| | 92,780 |
| | 126,363 |
| | 122,714 |
| | 11,823 |
| | 10,704 |
| | 233,117 |
| | 226,198 |
| | 39.9 | % | AA | 57,532 | | | 55,812 | | | 66,350 | | | 62,902 | | | 7,867 | | | 6,546 | | | 131,749 | | | 125,260 | | | 31.3 | % |
A | 51,317 |
| | 49,182 |
| | 160,533 |
| | 147,546 |
| | 10,751 |
| | 9,857 |
| | 222,601 |
| | 206,585 |
| | 36.4 | % | A | 31,665 | | | 29,222 | | | 156,146 | | | 141,322 | | | 8,027 | | | 7,147 | | | 195,838 | | | 177,691 | | | 44.2 | % |
BBB | 10,728 |
| | 10,123 |
| | 33,784 |
| | 32,611 |
| | — |
| | — |
| | 44,512 |
| | 42,734 |
| | 7.5 | % | BBB | 9,492 | | | 9,014 | | | 39,011 | | | 37,368 | | | — | | | — | | | 48,503 | | | 46,382 | | | 11.5 | % |
BB and other | 33,054 |
| | 30,780 |
| | 39,398 |
| | 37,545 |
| | 5,714 |
| | 5,451 |
| | 78,166 |
| | 73,776 |
| | 13.0 | % | BB and other | 25,300 | | | 22,673 | | | 23,027 | | | 21,938 | | | 3,225 | | | 2,968 | | | 51,552 | | | 47,579 | | | 11.8 | % |
Total | $ | 207,420 |
| | 200,100 |
| | 361,110 |
| | 341,439 |
| | 28,288 |
| | 26,012 |
| | 596,818 |
| | 567,551 |
| | 100.0 | % | Total | $ | 128,561 | | | 121,158 | | | 285,039 | | | 264,033 | | | 19,119 | | | 16,661 | | | 432,719 | | | 401,852 | | | 100.0 | % |
September 30, 2019 Form | 10-Q 51
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The table below shows the categories in which the Company held investments in special revenue bonds that had awere greater than 10% exposureof fair value based upon activity as noted in the table belowCompany's portfolio of municipal fixed maturity securities at September 30, 2020.
| | | | | | | | | | | | | | | | | |
(In thousands) | Fair Value | | Amortized Cost | | % of Total Fair Value |
| | | | | |
Utilities | $ | 90,604 | | | 81,956 | | | 20.9 | % |
Education | 70,227 | | | 64,901 | | | 16.2 | % |
| | | | | |
The Company's municipal holdings are spread across many states, however, municipal fixed maturity securities from Texas comprise the most significant concentration of the total municipal holdings portfolio as of September 30, 2019.
|
| | | | | | | | | |
(In thousands) | Fair Value | | Amortized Cost | | % of Total Fair Value |
| | | | | |
Utilities | $ | 132,188 |
| | 124,107 |
| | 22.2 | % |
Education | 89,985 |
| | 84,497 |
| | 15.1 | % |
2020. The Company's exposure toCompany holds 19.2% of its municipal holdings is spread across many states, within Texas and Florida as the two states with the largest municipal holdingsissuers as of September 30, 2019. The Company holds 21.4% of its municipal security holdings in Texas issuers and 11.0% in Florida issuers based on fair value.2020. There were no other states or individual issuer holdings that represented or exceeded 10% of the total municipal portfolio as of September 30, 2019.2020.
The tables below represent the exposure the Company holds in these two states.
|
| | | | | | | | | | | | | | | | | | | | | | | | |
September 30, 2019 | General Obligation | | Special Revenue | | Other | | Total |
(In thousands) | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost |
Texas securities including third party guarantees | | |
| | |
| | |
| | |
|
AAA | $ | 41,111 |
| | 40,197 |
| | 11,068 |
| | 10,626 |
| | — |
| | — |
| | 52,179 |
| | 50,823 |
|
AA | 35,434 |
| | 34,874 |
| | 25,436 |
| | 24,494 |
| | — |
| | — |
| | 60,870 |
| | 59,368 |
|
A | — |
| | — |
| | 7,272 |
| | 6,538 |
| | — |
| | — |
| | 7,272 |
| | 6,538 |
|
BBB | — |
| | — |
| | 6,393 |
| | 6,309 |
| | — |
| | — |
| | 6,393 |
| | 6,309 |
|
BB and other | 718 |
| | 716 |
| | 511 |
| | 519 |
| | — |
| | — |
| | 1,229 |
| | 1,235 |
|
Total | $ | 77,263 |
| | 75,787 |
| | 50,680 |
| | 48,486 |
| | — |
| | — |
| | 127,943 |
| | 124,273 |
|
Texas securities excluding third party guarantees | | |
| | |
| | |
| | |
|
AAA | $ | 16,465 |
| | 16,317 |
| | — |
| | — |
| | — |
| | — |
| | 16,465 |
| | 16,317 |
|
AA | 44,587 |
| | 43,634 |
| | 22,840 |
| | 22,296 |
| | — |
| | — |
| | 67,427 |
| | 65,930 |
|
A | 13,221 |
| | 12,962 |
| | 15,060 |
| | 13,793 |
| | — |
| | — |
| | 28,281 |
| | 26,755 |
|
BBB | 1,237 |
| | 1,156 |
| | 6,955 |
| | 6,843 |
| | — |
| | — |
| | 8,192 |
| | 7,999 |
|
BB and other | 1,753 |
| | 1,718 |
| | 5,825 |
| | 5,554 |
| | — |
| | — |
| | 7,578 |
| | 7,272 |
|
Total | $ | 77,263 |
| | 75,787 |
| | 50,680 |
| | 48,486 |
| | — |
| | — |
| | 127,943 |
| | 124,273 |
|
September 30, 2019 Form2020 | 10-Q 5253
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
The table below represents the Company's detailed exposure to municipal holdings in Texas at September 30, 2020.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
September 30, 2020 | General Obligation | | Special Revenue | | Other | | Total |
(In thousands) | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost |
Texas municipal fixed maturity securities shown including third-party guarantees | | |
AAA | $ | 22,919 | | | 22,150 | | | 3,354 | | | 3,100 | | | — | | | — | | | 26,273 | | | 25,250 | |
AA | 23,113 | | | 22,591 | | | 12,425 | | | 11,460 | | | — | | | — | | | 35,538 | | | 34,051 | |
A | — | | | — | | | 18,483 | | | 18,385 | | | — | | | — | | | 18,483 | | | 18,385 | |
BBB | — | | | — | | | 1,971 | | | 1,829 | | | — | | | — | | | 1,971 | | | 1,829 | |
BB and other | — | | | — | | | 830 | | | 774 | | | — | | | — | | | 830 | | | 774 | |
Total | $ | 46,032 | | | 44,741 | | | 37,063 | | | 35,548 | | | — | | | — | | | 83,095 | | | 80,289 | |
Texas municipal fixed maturity securities shown excluding third-party guarantees | | |
AAA | $ | 4,572 | | | 4,437 | | | — | | | — | | | — | | | — | | | 4,572 | | | 4,437 | |
AA | 34,130 | | | 33,309 | | | 6,105 | | | 5,785 | | | — | | | — | | | 40,235 | | | 39,094 | |
A | 6,098 | | | 5,842 | | | 24,783 | | | 24,037 | | | — | | | — | | | 30,881 | | | 29,879 | |
BBB | 1,232 | | | 1,153 | | | 4,687 | | | 4,350 | | | — | | | — | | | 5,919 | | | 5,503 | |
BB and other | — | | | — | | | 1,488 | | | 1,376 | | | — | | | — | | | 1,488 | | | 1,376 | |
Total | $ | 46,032 | | | 44,741 | | | 37,063 | | | 35,548 | | | — | | | — | | | 83,095 | | | 80,289 | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS | | | | | | | | | | | |
| | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | |
IMPAIRMENT CONSIDERATIONS RELATED TO INVESTMENTS IN FIXED MATURITY AND EQUITY SECURITIES
|
| | | | | | | | | | | | | | | | | | | | | | | | |
September 30, 2019 | General Obligation | | Special Revenue | | Other | | Total |
(In thousands) | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost | | Fair Value | | Amortized Cost |
Florida securities including third party guarantees | | | | | | | | |
AA | $ | — |
| | — |
| | 45,841 |
| | 44,911 |
| | 2,153 |
| | 2,029 |
| | 47,994 |
| | 46,940 |
|
A | — |
| | — |
| | 10,053 |
| | 9,840 |
| | 7,820 |
| | 7,131 |
| | 17,873 |
| | 16,971 |
|
Total | $ | — |
| | — |
| | 55,894 |
| | 54,751 |
| | 9,973 |
| | 9,160 |
| | 65,867 |
| | 63,911 |
|
Florida securities excluding third party guarantees | | | | | | | | |
AA | $ | — |
| | — |
| | 34,550 |
| | 34,032 |
| | 513 |
| | 508 |
| | 35,063 |
| | 34,540 |
|
A | — |
| | — |
| | 17,012 |
| | 16,694 |
| | 7,820 |
| | 7,131 |
| | 24,832 |
| | 23,825 |
|
BB and other | — |
| | — |
| | 4,332 |
| | 4,025 |
| | 1,640 |
| | 1,521 |
| | 5,972 |
| | 5,546 |
|
Total | $ | — |
| | — |
| | 55,894 |
| | 54,751 |
| | 9,973 |
| | 9,160 |
| | 65,867 |
| | 63,911 |
|
VALUATION OF INVESTMENTS
We evaluateFor the carrying value of ourthree and nine months ended September 30, 2020, the Company recorded no credit valuation losses on fixed maturity securities and equity securities at least quarterly. The Company monitors all debt and equity securities on an on-going basis relative to changes in credit ratings, market prices, earnings trends and financial performance, in addition to specific region or industry reviews. The assessment of whether other-than-temporaryrecognized no fixed maturity investment impairments have occurred is based on a case-by-case evaluation of underlying reasons for the decline in fair value. The Company determines other-than-temporary impairment by reviewing all relevant evidence related to the specific security issuer as well as the Company's intent to sell the security, or if it is more likely than not that the Company would be required to sell a security before recovery of its amortized cost.
When an other-than-temporary impairment has occurred, the amount of the other-than-temporary impairment recognized in earnings depends on whether the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis. If the Company intends to sell the security or more likely than not will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is recognized in earnings equal to the entire difference between the investment's cost and its fair value at the balance sheet date. If the Company does not intend to sell the security and it is not more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis, the other-than-temporary impairment is separated into the following: (a) the amount representing the credit loss; and (b) the amount related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings. The amount of the total other-than-temporary impairment related to other factors is recognized in other comprehensive income, net of applicable taxes. The previous amortized cost basis less the other-than-temporary impairment recognized in earnings becomes the new amortized cost basis of the investment. The new amortized cost basis is not adjusted for subsequent recoveries in fair value.
There were no other-than-temporary impairments recorded for the three and nine months ended September 30, 2019 The Company recognized other-than-temporary impairments2019.
Information on both unrealized and realized gains and losses by category is set forth in Note 5. Investments of $0.6 million during the three months ended September 30, 2018 relatednotes to securities we did not intend to hold until recovery of value and $0.8 million during the nine months ended September 30, 2018.our consolidated financial statements.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity refers to a company's ability to generate sufficient cash flows to meet the needs of its operations. Liquidity is managed onWe manage our insurance operations as described herein in order to ensure that we have stable and reliable sources of cash flows to meet obligationsour obligations. We expect to meet our cash needs for the next 12 months with cash generated by our insurance operations and from our invested assets.
PARENT COMPANY LIQUIDITY AND CAPITAL RESOURCES
Citizens is provided by a varietyholding company and has had minimal operations of sources.
September 30, 2019 Form | 10-Q 53
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
the capital stock of our subsidiaries, cash and investments. Our liquidity requirements are met primarily from two sources: cash generated from our operating subsidiaries and our invested assets. Our ability to obtain cash from our insurance subsidiaries depends primarily upon the availability of statutorily permissible payments, including payments Citizens receives from service agreements with our life insurance subsidiaries and dividends from the subsidiaries. The ability to make payments to the holding company is limited by funds providedapplicable laws and regulations of Bermuda and U.S. states of domicile which subject insurance operations to significant regulatory restrictions. These laws and
September 30, 2020 | 10-Q 54
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
regulations require, among other things, that our insurance subsidiaries maintain minimum solvency requirements, which limit the amount of dividends that can be paid to the holding company. The regulations also require approval of our service agreements with the applicable regulatory authority in order to prevent insurance subsidiaries from operations. Premiummoving large amounts of cash to the unregulated holding company.
As we discussed in "Current Financial Highlights", Citizens had significant expenses in the third quarter of 2020 related to executive severance costs due to our former Chief Executive Officer under his employment agreement upon his resignation in August 2020 following the Change in Control. These expenses included payment of $8.8 million to a Rabbi Trust for the benefit of Mr. Kolander representing the severance payments due to him under his employment agreement in connection with his resignation following a change in control. During the third quarter of 2020, Citizens sold approximately $5.7 million of fixed maturity securities held in our investment portfolio in order to fund a portion of the $8.8 million severance payment to the Rabbi Trust for the benefit of Mr. Kolander.
We are closely monitoring the impact that the COVID-19 pandemic may have on our liquidity and capital resources. To the extent that we experience decreases in sales or collections of renewal premiums, increases in surrenders, decreases in our investment income and/or increases in claim payments as a result of the COVID-19 pandemic, our liquidity would be negatively impacted and we may have to sell some of our investments to meet operational cash flow requirements.
INSURANCE COMPANY SUBSIDIARY LIQUIDITY AND CAPITAL RESOURCES
The liquidity requirements of our insurance operations are primarily met by premium deposits and revenues, investment income and investment maturitiesmaturities. Primary uses of these funds are the primary sources of funds, while investment purchases, payments of policy benefits to policyholders, and operating expenses are the primary uses of funds. We historicallyexpenses. Historically, we have not had to liquidate investments to provide cash flow for our insurance operations, and there were no liquidity issues during the nine months ended September 30, 2019. 2020.
Cash flows from operating activities were $34.0 million and $50.9 million for the nine months ended September 30, 2020 and 2019, respectively. We have traditionally also had significant cash flows from both scheduled and unscheduled investment security maturities, redemptions, and prepayments. These cash flows, for the most part, are reinvested in fixed income securities. However, during the third quarter of 2020, the Company paid $6.0 million to the IRS for the tax compliance matter described in Note 8. Commitments and Contingencies in the notes to our consolidated financial statements. As noted in Note 8. Commitments and Contingencies, our payment does not represent closure of the matter or IRS acceptance of the tax liability shown on the submitted withholding tax returns, and the IRS reserves the right to revise our total tax liability for the covered period. In addition, the Company invested in private equity funds and other alternate investments in 2020 as detailed in Note 5. Investments of the notes to our consolidated financial statements. Net cash outflows from investing activities totaled $39.2 million and $48.1 million for the nine months ended September 30, 2020 and 2019, respectively. The investing activities fluctuate from period to period due to timing of securities activities such as calls and maturities and reinvestment of those funds. The Company's net cash inflows and outflows from financing activities were $1.3 million and $1.1 million for the nine months ended September 30, 2020 and 2019, respectively.
Our investments consist of 93.0%91.9% of marketable debtfixed maturity securities classified as available-for-sale and 1.1%1.3% of equity securities that could be readily converted to cash for liquidity needs. A large portion of our fixed maturity security investment portfolio will mature in the next several years and could be called sooner. Over the years, we have been subject to significant call activity due to the declining interest rate environment, which required us to reinvest in fixed maturity securities with shorter durations that are now approaching maturity. We will need to reinvest these maturing funds in the current low interest rate environment. Our profitability could be negatively impacted depending on the market rates at the time of reinvestment. This could result in a decrease in our spread between our policy liability crediting rates and our investment earned rates which could also negatively impact our liquidity. Our investment portfolio (and, specifically, the valuations of investment assets we hold) has also been, and may continue to be, adversely affected as a result of market developments from the COVID-19 pandemic and
September 30, 2020 | 10-Q 55
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
uncertainty regarding its outcome. Moreover, changes in interest rates, reduced liquidity or a continued slowdown in the U.S. or in global economic conditions may also adversely affect the values and cash flows of these assets.
A primary liquidity concern is the risk of an extraordinary level of early policyholder withdrawals. We include provisions in our insurance policies, such as surrender charges, that help limit and discourage early withdrawals. Since these contractual withdrawals, as well as the level of surrenders experienced, have been largely consistent with our assumptions in asset liability management, our associated cash outflows historically have not had an adverse impact on our overall liquidity. Although we experienced an increase in surrenders in the Life Insurance segment during the third quarter of 2020 compared to the same period in 2019, we believe that such surrenders were not materially impacted by the COVID-19 pandemic. However, policyholders' surrender behavior is unknown and may change in unexpected ways in response to a prolonged COVID-19 pandemic and related economic uncertainty. To the extent that we continue to experience an increase in surrenders in our Life Insurance segment, whether due to the COVID-19 pandemic or otherwise, our liquidity could be negatively impacted. We continue to monitor surrenders and early withdrawals. Individual life insurance policies are less susceptible to withdrawal than annuity reserves and deposit liabilities because policyholders may incur surrender charges and undergo a new underwriting process in order to obtain a new insurance policy.
For reasons previously discussed, we have experienced increased death claims in our Home Service Insurance segment in the third quarter of 2020 compared to the same period in 2019. Additionally, we are closely monitoring claim volumes to evaluate whether there is a delay in reporting or filing for benefits as a result of the COVID-19 pandemic in our Home Service Insurance segment and Life Insurance segment. To the extent we continue to experience increased claims and the associated death benefit payouts in our Home Service Insurance segment and, possibly our Life Insurance segment, as a result of the COVID-19 pandemic, our liquidity could be negatively impacted. Some of our policies include pandemic exclusions, and we carry reinsurance to offset some of these risks. While our mortality experience is closely monitored by the Company and the activity has historically been within expected levels, we cannot predict whether we will see increased death benefit payouts above expected levels due to the COVID-19 pandemic. We have had to place a moratorium on policy cancellations or non-renewals for nonpayments of premium and forbearance on premium collections in our Home Service Insurance segment due to state mandates which could negatively affect our liquidity due to lower premium collections and increased death claims due to policies being kept in force that would have otherwise lapsed. Cash flow projections and cash flow tests under various market interest rate scenarios are also performed annually to assist in evaluating liquidity needs and adequacy.
As described above in "Home Service Insurance", in the third quarter of 2020, we experienced substantial increases in property claims due in large part to the impact of Hurricane Laura. While we do not believe that SPFIC will reach its maximum reinsurance levels for Hurricane Laura under its catastrophe reinsurance policy, any claims in excess of the maximum coverage would have to be paid by SPFIC. Additionally, higher-than-expected claims from Hurricane Delta or additional catastrophic events that hit in the fourth quarter of 2020 may cause us to pay out-of-pocket on claims arising from such catastrophic events or obtain additional catastrophe reinsurance. We believe we have the appropriate liquidity to meet such potential cash commitments, although we may need to provide a capital contribution to SPFIC.
Our whole life and endowment products provide the policyholder with alternatives once the policy matures. The policyholder can choose to take a lump sum payout or leave the money on deposit at interest with the Company. The Company has a significant amountAs of endowment products representingSeptember 30, 2020, 41% of the Company's total insurance in force with older contracts sold historically thatwas in endowment products. Approximately 13% of the endowments in force will begin reaching their maturities overmature in the next several years and policyholderfive years. Policyholder election behavior is not known. If a large number ofunknown, but if policyholders elect lump sum distributions, the Company could be exposed to liquidity risk in years of high maturities. Meeting these distributions could require the Company to sell securities at inopportune times to pay policyholder withdrawals. Alternatively, if the policyholders were to leave the money on deposit with the Company at interest, our profitability could be negatively impacted if the product guaranteed rate is higher than the current market rate we can earnare earning on our investments. We currently anticipate that available liquidity sources and future cash flows will be adequate to meet our needs for funds, but we will monitor closely our policyholder behavior patterns.
A large portion of our debt security investment portfolio will mature in the next several years and could be called sooner. We were subject to significant call activity beginning in 2009 due to the declining interest rate environment, which required us to reinvest in debt securities with shorter durations that are now approaching maturity. We will need to reinvest these maturing funds in the current interest rate environment. Our profitability could be negatively impacted depending on the market rates at the time of reinvestment. This could result in a decrease in our spread between our policy liability crediting rates and our investment earned rates which could also negatively impact our liquidity.
Cash flows from our insurance operations historically have been sufficient to meet current needs. Cash flows from operating activities were $50.9 million and $65.2 million for the nine months ended September 30, 2019 and 2018, respectively. We have traditionally also had significant cash flows from both scheduled and unscheduled investment security maturities, redemptions, and prepayments. These cash flows, for the most part, are reinvested in fixed income securities. Net cash outflows from investing activities totaled $48.1 million and $42.4 million for the nine months ended September 30, 2019 and 2018, respectively. The investing activities fluctuate from period to period due to timing of securities activities such as calls and maturities and reinvestment of those funds.
We have established an estimated liability of $9.9 million, net of tax, as of September 30, 2019 for probable liabilities and expenses associated with a tax compliance matter related to the qualification of certain of our policies as described in Note 7. Commitments and Contingencies, which represents management’s estimate. We have disclosed an estimated range related to probable liabilities and expenses of $6.0 million to $52.5 million, net of tax. This estimated range includes projected taxes, interest and penalties payable to the IRS, as well as estimated increased payout obligations to current holders of non-compliant domestic life insurance policies expected to result from remediation of those policies. The amount of our liabilities and expenses depends on a number of uncertainties, including the number of prior tax years for which we may be liable to the IRS, and the methodology applicable to the calculation of the tax liabilities for policies. Given the range of potential outcomes and the significant variables assumed in establishing our
September 30, 2019 Form2020 | 10-Q 5456
| | | | | | | | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
As discussed above, we are subject to regulatory capital requirements that could affect the Company’s ability to access capital from our insurance operations or cause the Company to have to put additional cash in our wholly-owned subsidiaries.
estimates, actual amounts incurred may exceed our reserve and exceed the high end of our estimated range of liabilities and expenses.
The NAIC has establishedOur domestic companies are subject to minimum capital requirements set by the NAIC in the form of risk-based capital ("RBC"). RBC considers the type of business written by an insurance company, the quality of its assets, and various other aspects of an insurance company's business to develop a minimum level of capital called "Authorized Control Level Risk-Based Capital" and compares this. This level of capital is then compared to an adjusted statutory capital that includes capital and surplus as reported under statutory accounting principles, plus certain investment reserves. Should the ratio of adjusted statutory capital to control level RBC fall below 200%, for our domestic companies, a series of remedial actions by the affected company would be required. WeAdditionally, we have a parental guarantee between Citizens and CICA, Citizens' wholly-owned subsidiary domiciled in Colorado, to maintain a RBC level above 350%. At September 30, 2020, our domestic insurance subsidiaries were above the required minimum RBC levels.
CICA Ltd. is a Bermuda domiciled company. The Bermuda Monetary Authority ("BMA") established risk-based regulatory capital adequacy and solvency margin requirements forrequires Bermuda insurers that mandate thatto maintain available statutory economic capital and surplus at a Bermuda-domiciled subsidiary’s Enhanced Capital Requirement ("ECR") be calculated by either (a) Bermuda Solvency Capital Requirement ("BSCR"),level equal to or (b) an internal capital model that the BMA has approved for use for this purpose. CICA Ltd., Citizens' wholly-owned subsidiary domiciled in Bermuda, uses the BSCR in calculating its solvency requirements. The Economic Balance Sheet ("EBS") framework is embedded as part of the BSCR and forms the basisexcess of its ECR.
In order to minimize the risk ofenhanced capital requirement, which requires a shortfall in capital arising from an unexpected adverse deviation, the BMA has established a threshold capital level (termed thecertain Target Capital Level ("TCL")), set at 120 percent. As of ECR, which serves as an early warning tool for the BMA. Failure to maintain statutory capital at least equal toSeptember 30, 2020, CICA Ltd. was above the TCL would likely result in increased BMA regulatory oversight.threshold.
All U.S. insurance subsidiaries exceeded the RBC minimums at September 30, 2019. CICA Ltd. held capital in excess of the BSCR requirements at September 30, 2019.
PARENT COMPANY LIQUIDITY AND CAPITAL RESOURCES
Citizens is a holding company and has had minimal operations of its own. Our assets consist of the capital stock of our subsidiaries, cash, fixed income securities, mutual funds and real estate held-for-sale. Our cash flows depend primarily upon the availability of statutorily permissible payments, primarily payments under management agreements from our life insurance subsidiaries. The ability to make payments is limited by applicable laws and regulations of Bermuda and U.S. states of domicile, which subject insurance operations to significant regulatory restrictions. These laws and regulations require, among other things, that these insurance subsidiaries maintain minimum solvency requirements and limit the amount of dividends these subsidiaries can pay to the holding company. We historically have not relied upon dividends from subsidiaries for our cash flow needs. However, our subsidiaries have made dividend payments of available funds from time to time in relation to business strategies.
CONTRACTUAL OBLIGATIONS AND OFF-BALANCE SHEET ARRANGEMENTS
As of September 30, 2020, the Company is committed to fund investments up to $95 million related to private equity funds and other investments. The Company is also committed to pay $8.8 million to our former Chief Executive Officer, Geoffrey Kolander, in February 2021 representing the severance payments due to him under the terms of his employment agreement in connection with his resignation following a change in control of the Company. There have been no other material changes in contractual obligations from those reported in the Company's Annual Report on Form 10-K for the year ended December 31, 2018.2019. The Company does not have off-balance sheet arrangements at September 30, 2019.2020. We do not utilize special purpose entities as investment vehicles, nor are there any such entities in which we have an investment that engage in speculative activities of any nature, and we do not use such investments to hedge our investment positions.
CRITICAL ACCOUNTING POLICIES
We have prepared a current assessment of our critical accounting policies and estimates in connection with preparing our interim unaudited consolidated financial statements as of and for the three and nine months ended September 30, 2019 and 2018. We believe that the accounting policies set forth in the notes toNote 1. Financial Statements of our consolidated financial statements and "Critical Accounting Policies and Estimates"Policies" in the Management’s Discussion and Analysis of Consolidated
September 30, 2019 Form | 10-Q 55
|
| | |
CITIZENS, INC. | MANAGEMENT'S DISCUSSION & ANALYSIS |
| | |
Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 20182019 continue to describe the significant judgments and estimates used in the preparation of our consolidated financial statements.
Item 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
GENERAL
The nature of our business exposes us to market risk relative to our invested assets and policy liabilities. Market risk is the risk of loss that may occur when changes in interest rates and public equity prices adversely affect the value of our invested assets. Interest rate risk is our primary market risk exposure. Substantial and sustained increases and decreases in market interest rates can affect the fair value of our investments. The fair value of our fixed maturity securities portfolio generally increases when interest rates decrease and decreases when interest rates increase. For additional information regarding market risks to which we are subject, see Item 1. Financial Statements - Note 5. Investments - Valuation of Investments in the notes to our consolidated financial statements for further discussion.
September 30, 2020 | 10-Q 57
The following table summarizes net unrealized gains and losses as of the dates indicated.
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| September 30, 2020 | | December 31, 2019 |
(In thousands) | Amortized Cost | | Fair Value | | Net Unrealized Gains | | Amortized Cost | | Fair Value | | Net Unrealized Gains |
| | | | | | | | | | | |
Total fixed maturity securities | $ | 1,308,056 | | | 1,444,579 | | | 136,523 | | | 1,293,853 | | | 1,377,959 | | | 84,106 | |
Total equity securities | $ | 19,529 | | | 21,151 | | | 1,622 | | | 15,055 | | | 16,033 | | | 978 | |
|
| | | | | | | | | | | | | | | | | | |
| September 30, 2019 | | December 31, 2018 |
(In thousands) | Amortized Cost | | Fair Value | | Net Unrealized Gains | | Amortized Cost | | Fair Value | | Net Unrealized Gains |
Total fixed maturities | $ | 1,278,293 |
| | 1,369,648 |
| | 91,355 |
| | 1,223,747 |
|
| 1,231,039 |
| | 7,292 |
|
Total equity securities | $ | 15,055 |
| | 15,845 |
| | 790 |
| | 15,055 |
| | 15,068 |
| | 13 |
|
MARKET RISK RELATED TO INTEREST RATES
Our exposure to interest rate changes results from our significant holdings of fixed maturity investments, which comprised 93.0%91.9% of our investment portfolio based on carrying value as of September 30, 2019.2020. These investments are mainly exposed to changes in U.S. Treasury rates. Our fixed maturity investments include U.S. Government-sponsored enterprises, U.S. Government bonds, securities issued by government agencies municipal bondsand state and political subdivisions, and corporate bonds.
To manage interest rate risk, we perform periodic projections of asset and liability cash flows to evaluate the potential sensitivity of our investments and liabilities. We assess interest rate sensitivity annually with respect to our available-for-sale fixed maturities investments using hypothetical test scenarios that assume either upward or downward shifts in the prevailing interest rates. The changes in fair values of our debtfixed maturity and equity securities as of September 30, 20192020 were within the expected range of this analysis.
Changes in interest rates typically have a sizable effect on the fair values of our debtfixed maturity and equity securities. The interest rate of the ten-year U.S. Treasury bond decreased to 1.68%0.68% at September 30, 2019,2020 from 2.69%1.92% at December 31, 2018. Net unrealized gains2019. Generally, fair values of our securities increase in a declining interest rate environment, however, economic and other credit events can have a significant impact on fixed maturity securities totaled $91.4 million at September 30, 2019, compared to $7.3 million at December 31, 2018.the fair values of our securities.
The fixed maturity securitiessecurity portfolio is exposed to call risk, as a significant portion of the current bond holdings are callable. A decreasing interest rate environment can result in increased call activity, and an increasing rate environment will likely result in securities being paid at their stated maturity.
There are no fixed maturities or other investments classified as trading instruments. All of the Company's fixed maturitiesmaturity securities were held inclassified as available-for-sale at September 30, 2019.2020. At September 30, 20192020 and December 31, 2018,2019, we had no investments in derivative instruments, nor did we have any subprime or collateralized debt obligation risk.
September 30, 2019 Form | 10-Q 56
MARKET RISK RELATED TO EQUITY PRICES
Changes in the level or volatility of equity prices affect the value of equity securities we hold as investments. Our equity investments portfolio represented 1.1%1.3% of our total investments based upon carrying value at September 30, 2019,2020, with 97.2%93.3% invested in diversified equity and bond mutual funds. In light of our minimal ownership of equity investments, we believe that significant decreasesSee further discussion in Note 5. Investments in the equity markets would not have a material adverse impact onnotes to our total investment portfolio.consolidated financial statements.
September 30, 2020 | 10-Q 58
Item 4.CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) that are designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, to allow timely decisions regarding required disclosures.
Our management, including our principal executive officer and principal financial officer, evaluated the effectiveness of our disclosure controls and procedures pursuant to Rules 13a-15(e) and 15d-15(e) under the Exchange Act as of September 30, 2019.2020. Based on such evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were not effective at a reasonable assurance level due to the material weakness in internal control over financial reporting that was reported in the Company's Annual Report on Form 10-K for the year ended December 31, 2018 ("2018 Annual Report"), which remains unremediated as of September 30, 2019.the end of the period covered by this quarterly report.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
During the three months ended September 30, 2019,2020, there were no changes in the Company's internal control over financial reporting (as defined in rules 13a-15(f) and 15d-15(f) under the Exchange Act) that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
REMEDIATION OF MATERIAL WEAKNESS
As previously described in Part II, Item 9A of our 2018 Annual Report, we began implementing a remediation plan to address the material weakness in our internal control over financial reporting related to ineffectively designing and maintaining controls to analyze and account for significant and unusual transactions. The material weakness will not be considered remediated until management has designed and implemented internal controls to establish policies and procedures that clearly communicate expectations of personnel regarding significant and unusual transactions. We expect the newly designed and implemented controls to include, among other controls, the preparation and review of sufficiently detailed analysis to evaluate the accounting treatment for all potentially significant impacts of significant and unusual transactions on a timely basis, the engagement of relevant subject matter experts as necessary and the review to ensure advice is appropriately considered in the analysis and conclusions regarding the accounting treatment of significant and unusual transactions. We expect that the remediation of this material weakness will be completed by December 31, 2019.
September 30, 2019 Form2020 | 10-Q 5759
PART II. OTHER INFORMATION
Item 1.LEGAL PROCEEDINGS
There are no material pending legal proceedings in which we or any of our subsidiaries is a party or in which any of our or their property is the subject, except as set forth below. Additionally, from time to time, we may be subject to legal and regulatory actions relating to our business. We may incur defense costs, including attorneys' fees, and other direct litigation costs associated with defending any claims. If we suffer an adverse judgment as a result of litigation claims, it could have a material adverse effect on our business, results of operations and financial condition.
OnTrade Secret Suit filed by the Company against Former Executives, CALI and First Trinity.
As previously disclosed, on November 7, 2018, Citizens, CICA Ltd. and CICA filed a lawsuit in the District Court of Travis County, Texas (the “District Court”) against (i) Randall Riley (“Riley”), a former Citizens executive and son of Citizens’ founder Harold E. Riley, (ii) Citizens American Life, LLC and Citizens American Life, Inc. (collectively, “CALI”), copycat companies formed by Riley and (iii) Alexis Enrique Delgado, Carlos Nalsen Landa, Enrique Pinzon Ruiz, Johan Emilio Mikuski Silva and Esperanza Peralta de Delgado (collectively, the “Los Raudales Defendants,” and together with Riley and CALI, collectively the “Defendants”), former independent consultants of Citizens, for unfair competition, misappropriation of Citizens’ trade secrets, tortious interference with Citizens’ existing contracts with its independent consultants and, with respect to the Los Raudales Defendants, breach of their independent consultant contracts with Citizens. The lawsuit sought (i) a declaration that Citizens had grounds to terminate the Los Raudales Defendants for cause under thetheir independent consultant contracts with Citizens and that the Los Raudales Defendants are not entitled to future commissions under such contracts, (ii) injunctive relief, (iii) damages and (iv) attorneys’ fees and costs. Among other things, the suit alleges that Riley formed CALI and misappropriated trade secrets during the time he was employed by Citizens, in violation of his contractual and other duties to Citizens, and that the Los Raudales defendants breached their independent consultant contracts with Citizens by inducing or attempting to induce other independent consultants to terminate or reduce service to Citizens and disclosing confidential information.
On January 25, 2019, the Defendants filed a motion to dismiss certain claims alleged in the suit, and on April 11, 2019, the District Court denied the Defendants’ motion in its entirety. On May 29, 2019, Citizens, CICA Ltd. and CICA filed a motion for a preliminary injunction to bar the Defendants from continuing to engage in unfair competition and misappropriation of Citizens’ trade secrets and tortious interference with Citizens’ existing contracts with its independent consultants. A hearing for the preliminary injunction was held on August 12, 2019. On August 13, 2019, the District Court denied the application for a temporary injunction, and on August 19, 2019, Citizens, CICA Ltd. and CICA filed the notice of appeal in31, 2020, the Third Court of Appeals in Austin, Texas with respect toaffirmed the District Court’s August 13, 2019 decision. The Defendants have until November 11, 2019 to respond.
On September 10, 2019, Citizens, CICA Ltd. and CICA filed an amended complaint and added additional defendants to the lawsuit, including (i) Michael P. Buchweitz, Jonathan M. Pollio, Jeffrey J. Wood and Steven A. Rekedal, former Citizens executives and employees and, in the case of Steven A. Rekedal, a former Citizens independent consultant, (ii) First Trinity Financial Corporation, and Trinity American, Inc. (collectively, “First Trinity”) and International Marketing Group S.A., LLC, entities that have founded a business on the exploitation of Citizens’ trade secrets and goodwill, and (iii) Gregg E. Zahn, a First Trinity executive. The amended complaint asserted additional claims for breach of contract, conspiracy and unjust enrichment. The lawsuit is currently in discovery and is expected to proceed to trial in the second quarter of 2021.
While it is not possible at this time to predict with any degree of certaintyColorado Suit filed by the ultimate outcomeFoundation against the Company and the Board.
On September 2, 2020, the Company and its eight directors, Christopher W. Clause, J.D. Davis, Jr., Gerald W. Shields, Frank A. Keating II, Terry S. Maness, E. Dean Gage, Robert B. Sloan, Jr. and Constance K. Weaver, were named as defendants in a lawsuit (the “Colorado Suit”) filed by the Harold E. Riley Foundation, the sole holder of the appealClass B common stock of the Company, in the District Court’s denialCourt of Arapahoe County of Colorado (the “Colorado Court”). The Foundation’s complaint requested: (i) a declaration by the preliminary injunction or this litigation, Citizens believes it has a basis for an injunctive relief and intends to vigorously pursue its action againstColorado Court that the Defendants and seek appropriate compensation and any other remedies to which it may be entitled.
From time to time, we may be subject to other legal and regulatory actions relating to our business. We may incur defense costs, including attorneys' fees, and other direct litigation costs associated with defending any claims. If we suffer an adverse judgment as a result of litigation claims, it could have a material adverse effect on our business, results of operations and financial condition.
Action by Written
September 30, 2019 Form2020 | 10-Q 5860
Consent of the Foundation (the “Written Consent”) to add director nominees to the Company’s board of directors ("Board"), which was delivered on August 13, 2020, is valid and enforceable; (ii) a declaration by the Colorado Court that the actions of the Board taken after the receipt of the Written Consent, including expanding the size of the Board and amending the Third Amended and Restated Bylaws of the Company, are void and unenforceable; and (iii) immediate injunctive relief against the Board from taking certain action that is outside the ordinary course of business. Additionally, the Foundation’s complaint requested: (i) the Company and the Board to indemnify the Foundation and its director nominees for any expenses incurred related to lawsuit; (ii) the existing Board members to reimburse the Company for any (A) Board fees received on or since August 13, 2020 and (B) reimbursements received for acquiring legal representation relating to the litigation; and (iii) the Colorado Court award the Foundation all fees and expenses incurred in pursuit of the litigation, including attorney fees.
The Board believes the dispute between the parties is essentially whether the Foundation can unilaterally appoint members to the Board without regard to the process mandated in the Corporate Governance Guidelines of the Company, namely that the Board’s Nominating and Corporate Governance Committee (the "Committee") is responsible for identifying, recruiting, interviewing, vetting and recommending potential director candidates and evaluating their qualifications, independence, potential conflicts of interest and other important considerations. The Foundation must first engage the Committee and provide the Committee with a chance to assess the candidates’ qualifications in accordance with the criteria adopted by the Committee.
On September 28, 2020, the Colorado Court entered a mutually agreed Status Quo Stipulation (the “Stipulation”). Pursuant to the Stipulation, the Board and its committees agreed not to direct or, to their knowledge after reasonable investigation, permit anyone on their or the Company’s behalf to take any significant action that is outside the ordinary course of business without the consent of the Foundation (each, a “Material Action”) until the Colorado Court makes a determination on the merits or otherwise rules on the Foundation’s motion for a preliminary injunction, if filed, whichever comes first (the “Expiration Date”). Material Actions are outlined in the Stipulation and include, among other things: (i) creating or disbanding any committee of the Board or changing the composition of any such committee; (ii) forming any subsidiary or entering into any partnership or joint venture; (iii) issuing any equity securities of the Company or any of its subsidiaries, other than as required pursuant to the Company’s Stock Investment Plan and pursuant to the vesting, settlement or exercise of equity-linked awards outstanding as of September 2, 2020; (iv) acquiring, encumbering, pledging, disposing of or otherwise transferring any assets, properties or rights of the Company or its controlled affiliates with a value in excess of ten percent of total assets in each case or twenty percent of assets in the aggregate (excluding any assets of the Company’s insurance subsidiaries backing reserves); (v) entering into any agreements involving a material change in the business operations of the Company; (vi) granting, providing or accelerating compensation payments or arrangements to any current or former employee, director, officer or other service provider, subject to certain exceptions; (vii) incurring, assuming, guaranteeing or otherwise becoming responsible for any debt in excess of ten percent of total liabilities (excluding contingent liabilities owed to any policyholders of insurance subsidiaries of the Company); (viii) authorizing, declaring or issuing any dividends or “poison pill” rights to the Company’s stockholders, officers, or directors; (ix) amending, modifying or repealing Board committee charters or the Company’s core governing documents; and (x) entering into any transactions involving a change of control of the Company.
In addition, the Stipulation provides that until the Expiration Date, the Board shall consist of the following existing directors: Christopher W. Claus, J.D. Davis, Jr., Gerald W. Shields, Frank A. Keating II, Terry S. Maness, E. Dean Gage, Robert B. Sloan, Jr. and Constance K. Weaver. The above summary of the Stipulation is qualified by reference in its entirety to the Stipulation, which is filed as Exhibit 10.2 to this Quarterly Report on Form 10-Q.
On September 29, 2020, the Company and the defendant directors of the Board filed a motion to dismiss the Colorado Suit for lack of personal jurisdiction, or, alternatively, for improper venue, because all of the individual directors live and work outside of Colorado and none of the alleged actions incurred in the state of Colorado. The Company also moved to dismiss the Colorado Suit because the complaint failed to allege facts sufficient to support a cause of action against the Company. On October 31, 2020, the Colorado Court denied our motion to dismiss and gave us 21 days to answer the Foundation’s complaint. We are in the process of preparing an answer to the Foundation’s complaint.
September 30, 2020 | 10-Q 61
Additionally, on October 1, 2020, the Foundation filed a motion for a preliminary injunction and request for a hearing. On October 21, 2020, we filed a motion to oppose the Foundation's request for a preliminary injunction.
The Colorado Suit is in the early stage and the outcome is difficult to predict. The Board, however, believes that its defenses are meritorious and that it is acting in the best interests of all shareholders, as its fiduciary duties require.
Texas Suit filed by the Foundation’s Beneficiaries against the Foundation.
On September 8, 2020, Baylor University and Southwestern Baptist Theological Seminary, the two sole charitable beneficiaries of the Foundation (the “Foundation Beneficiaries”), filed a lawsuit in the 67th District Court of Tarrant County, Texas (the “Texas Court”) against the Foundation and its Chief Executive Officer/President, Mike Hughes (the “Texas Suit”). Neither the Company nor the Board is a party to the Texas Suit. The Foundation Beneficiaries claimed, among other things, that the Foundation’s board of trustees improperly sought to alter the Foundation’s bylaws in an effort to remove the Foundation Beneficiaries from any input or influence over the Foundation’s direction, and attempted to change the Foundation from a public charity to a private entity. Further, the Foundation Beneficiaries claimed that the bylaws amendments made in June 2018, as well as all actions taken by the Foundation’s board of trustees since, were improper and void, including the nomination of individuals to serve on the Company’s Board and the filing of the Colorado Suit. The Foundation Beneficiaries specifically seek (i) an order from the Texas Court reforming the Foundation to represent their interests and (ii) an order from the Texas Court declaring that the June 2018 bylaws amendments, as well as all actions taken by the Foundation’s board of trustees since, are void and of no effect.
In essence, if the allegations of the Foundation Beneficiaries are determined to be meritorious, the current trustees of the Foundation are acting without authority both in nominating individuals to serve on the Board and in filing the Colorado Suit. This outcome could have a material effect on the Colorado Suit.
Item 1A. RISK FACTORS
Part I, Item 1A. Risk Factors of our Form 10-K includes a discussion of our risk factors, which risk factors were supplemented by those included in our Quarterly Report on Form 10-Q for the quarter ended June 30, 2020. There have been no material changes tofrom the risk factors included in our Annual Report on Form 10-K for, as supplemented by the year ended December 31, 2018 andrisk factors included in our Quarterly ReportsReport on Form 10-Q for the quarter ended March 31, 2019 and June 30, 2019,2020, except as discussed below.
FailuresThe COVID-19 pandemic is negatively impacting certain aspects of disclosure controlsour business and, proceduresdepending on severity and internalduration, could have a material adverse effect on our financial condition, results of operations and overall business operations.
The prolonged COVID-19 pandemic has caused significant disruption to the global economy and business operations and has resulted in unfavorable impacts to our company as well as the insurance industry. Due to the unprecedented nature of these events and the uncertainty surrounding the virus and its impacts, we cannot fully estimate the duration or full impact of the COVID-19 pandemic at this time though we have identified several areas where the COVID-19 pandemic impacted our business during the first nine months of 2020. Events that we are unable to control, over financial reportingsuch as the further spread or spikes in the number of cases of COVID-19 as we head into the winter months in the Northern Hemisphere or the emergence of new strains of coronavirus, and the related responses by government authorities and businesses, may heighten the impacts of the COVID-19 pandemic and present additional risks. We are closely monitoring developments related to the COVID-19 pandemic to assess its impacts on our business.
As discussed in Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources, our liquidity requirements are met primarily by funds generated by our insurance subsidiaries and invested assets. We have experienced declines in premium income resulting from lower sales. Increased economic uncertainty and increased unemployment resulting from the economic impacts of the spread of COVID-19 virus could materiallycontinue to affect our premium deposits as policyholders may not be able to pay premiums on existing policies and potential customers may not purchase new policies in order to conserve cash. We have
September 30, 2020 | 10-Q 62
offered relief to policyholders (e.g. extending grace periods), which may also impact our operating cash flow. Historically, many of our policies have been sold via in-person meetings. Due to shelter-in-place orders and limitations on interpersonal interactions, the lack of face-to-face meetings has negatively impacted sales and may continue to do so if the measures that we have put in place to encourage virtual selling prove to be ineffective. Additionally, due to these limitations as well as disruptions to international mail delivery to and from the United States, customers that pay premiums in cash may continue to have difficulty in delivering premium payments. Unfavorable developments in any of these factors may adversely affect our liquidity and capital position.
In addition, we believe some policyholders have changed their behavior in unexpected ways in response to the COVID-19 pandemic. For example, policyholders seeking sources of liquidity due to COVID-19 pandemic-related economic uncertainty and increased unemployment have withdrawn or surrendered at greater rates than in prior year. Some policyholders have changed their premium payment practices, declined to meet in-person with our independent sales consultants or took other actions as a result of the COVID-19 pandemic and governments’ efforts to respond to it.
The COVID-19 pandemic has increased death claims in our Home Service Insurance segment. We may experience increased claims and our resulting costs if there continues to be an unusually large number of deaths.
The COVID-19 pandemic, and its effect on financial markets, have adversely affected our investment portfolio (and, specifically, increased the risk of defaults, downgrades and volatility in the value of the investments we hold and lowered investment income) and may continue to do so. Extreme market volatility may continue to leave us unable to react to market events consistent with our historical practices in dealing with more orderly markets. To the extent that we need to sell our investments to fund liquidity needs in the current financial markets, we may not receive the prices we seek, and may sell at a price lower than our carrying value.
Our risk management, contingency and business financial conditioncontinuity plans may not adequately protect our operations. Extended periods of remote work arrangements and resultsother unusual business conditions and circumstances as a result of operations,the COVID-19 pandemic could strain our business continuity plans, introduce operational risk, increase our cybersecurity risks, and impair our ability to timely file reports with the SECmanage our business. The frequency and subject ussophistication of attempts at unauthorized access to litigation and/our technology systems and fraud may increase, and COVID-19 conditions may impair our cybersecurity efforts and risk management. Our efforts to prevent money-laundering or regulatory scrutiny and penalties.
We maintain disclosure controls and procedures designed to ensure that we timely report information as specified in SEC rules and regulations. We also maintain a system of internal control over financial reporting. However, these controls may not achieve, and in some cases have not achieved, their intended objectives. Control processes that involve human diligence and oversight, such as our disclosure controls and procedures and internal control over financial reporting, are subject to human error. Controls that rely on models may be subject to inadequate design or inaccurate assumptions or estimates. Controls also can be circumvented by improper management override of such controls. Because of such limitations, there are risks that material misstatementsother fraud, whether due to errorlimited abilities to "know our customers" or fraudotherwise, may increase our compliance costs and risk of violations.
While governmental and non-governmental organizations are continuing to engage in efforts to combat the spread and severity of the COVID-19 pandemic and related public health issues, these measures may not be preventedeffective. We also cannot predict how legal and regulatory responses to concerns about the COVID-19 pandemic and related public health issues will impact our business. Such events or detected,conditions could result in additional regulation or restrictions affecting the conduct of our business in the future.
We are currently undergoing a period of significant leadership change following a change in control of the Company, which could be disruptive to, or cause uncertainty in, our business and that informationfuture strategic direction.
As previously disclosed, the change in control of the Company occurred on July 29, 2020. Following the change in control, Geoffrey M. Kolander resigned as our Chief Executive Officer and President effective August 5, 2020. Also, effective August 5, 2020, Gerald W. Shields, Vice Chairman of the Board of Directors, assumed the role of Interim Chief Executive Officer and has agreed to serve in such role until a permanent Chief Executive Officer is hired. Although Mr. Kolander has agreed to provide consulting services through the end of 2020, any significant change in leadership involves inherent risks and may not be reported ondisruptive to, or cause uncertainty in, our business and future strategic direction. If we fail to appoint a permanent Chief Executive Officer with the desired level of experience and expertise in a timely basis. The failuremanner, and/or if we fail to ensure a smooth transition and effective transfer of knowledge, our controlsstrategic planning and execution could be hindered or delayed, and our ability to retain other key members of executive team could be effectiveadversely affected. Any such disruptions or uncertainties could have a material adverse effect on our business, financial condition results of operations and the market for our common stock, and could subject us to litigation, regulatory scrutiny and/or penalties.
As disclosed in Part II, Item 9A of our Annual Report on Form 10-K for the year ended December 31, 2018, we have identified a deficiency in our internal control over financial reporting that constitutes a material weakness and for which remediation is still in process as of September 30, 2019. If we fail to design effective controls, remediate control deficiencies or otherwise maintain effective internal control over financial reporting in the future, such failures could result in a material misstatement of our annual or quarterly financial statements that would not be prevented or detected on a timely basis and which could cause investors to lose confidence in our financial statements, have a negative effect on the trading price of our common stock, limit our ability to obtain financing if needed or increase the cost of any financing we may obtain. In addition, these failures may negatively impact our business, financial condition and results of operations, impairoperations.
September 30, 2020 | 10-Q 63
Our business could be negatively impacted by the ongoing dispute with, and the lawsuit filed by, the Harold E. Riley Foundation.
Following the change in control of the Company, the Harold E. Riley Foundation (the “Foundation”), a charitable organization established under Section 501(c)(3) of the Internal Revenue Code, is the owner of 100% of our abilityClass B common stock. Because our Class B common stock has the right to timely filenominate a simple majority of our periodic reportsBoard, the Foundation is deemed our new control party.
On August 13, 2020, the Foundation delivered a written consent to us purporting to remove four directors and appoint five replacements. The Foundation attempted to unilaterally take such actions without regard to the process mandated in the Corporate Governance Guidelines of the Company, namely that the Board’s Nominating and Corporate Governance Committee is responsible for identifying, recruiting, interviewing, vetting and recommending potential director candidates and evaluating their qualifications. We do not consider the Foundation’s nominees to be duly appointed current members of our Board; rather, they have been submitted by the Foundation as potential director candidates under the review of the Nominating and Corporate Governance Committee of the Board. The Board later took certain actions to facilitate the orderly transition of the Foundation as the new control party and protect the interests of all of the Company’s shareholders, including, among other things, preserving the existing Board composition. On September 2, 2020, the Company and its Board were named in a lawsuit filed by the Foundation in the District Court of Arapahoe County of Colorado. The Foundation’s complaint requested, among other things, a declaratory judgment by the court, based on the Company’s governing documents, that the Foundation had a unilateral right to seat the nominees when it sent the written consent on August 13, 2020 and that the Foundation's five nominees were validly appointed. The Company and the Board dispute the view taken by the Foundation. Although the Company and the Board are defending the suit and believe that their defenses are meritorious, the outcome of this litigation is uncertain.
The ongoing dispute and litigation with the SEC, subjectFoundation have required us and, may continue to litigation and regulatory scrutiny and causerequire us, to incur substantial additional costs in future periods relatingsignificant legal fees, and have required, and may continue to require, significant time and attention by management and the Board. Further, the litigation has imposed constraints upon the Company’s ability to execute certain strategic initiatives. Any perceived uncertainties as to the implementationcomposition of remedial measures.our Board may make it more difficult to attract a permanent Chief Executive Officer and attract and retain our qualified personnel and business partners. If the court were to rule in the Foundation’s favor and seat the Foundation’s nominees on our Board, the Foundation would have a majority representation on our Board and be able to make subsequent changes to our management, operations or strategies, any of which could have an adverse impact on our business. Additionally, any prolonged dispute with the Foundation could affect our share price.
Item 2.UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
Item 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
Item 4.MINE SAFETY DISCLOSURES
Not applicable.
September 30, 2020 | 10-Q 64
Item 5.OTHER INFORMATION
None.
September 30, 2019 Form | 10-Q 59
Item 6.EXHIBITS
|
| | | | | | | |
Exhibit Number | | The following exhibits are filed herewith: |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
| | |
101.INS101* | | Inline XBRL Instance Document*Document Set for the condensed consolidated financial statements and accompanying notes in Part I, Item 1, "Financial Statements" of this Quarterly Report on Form 10-Q* |
101.SCH104* | | Inline XBRL Taxonomy Extension Schema* |
101.CAL | | for the cover page of this Quarterly Report on Form 10-Q, included in the Exhibit 101 Inline XBRL Taxonomy Extension Calculation Linkbase* |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase* |
101.LAB | | XBRL Taxonomy Extension Label Linkbase* |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase*Document Set* |
* Filed herewith.
† Indicates management contract or compensatory plan or arrangement.
September 30, 2019 Form2020 | 10-Q 6065
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | | | | | | | | | | |
| | CITIZENS, INC. |
| | |
| | | |
| | By: | /s/ Gerald W. Shields |
| | | Gerald W. Shields |
| | | Interim Chief Executive Officer & President |
| | | |
| | | |
| | CITIZENS, INC. |
By: | | |
| | | |
| | By: | /s/ Geoffrey M. Kolander |
| | | Geoffrey M. Kolander |
| | | President and Chief Executive Officer |
| | | |
| | | |
| | By: | /s/ Jeffery P. Conklin |
| | | Jeffery P. Conklin |
| | | Vice President, Chief Financial Officer and& Treasurer |
| | | |
| | | |
| | | |
Date: | November 6, 20194, 2020 | | |
September 30, 2019 Form2020 | 10-Q 6166