UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-KSB
(Mark One)
[x] ANNUAL REPORT under Section 13 or 15(d) of the Securities Exchange Act
of 1934 [Fee Required]
For the fiscal year ended: December 31, 1995
[ ] TRANSITION REPORT under Section 13 or 15(d) of the Securities Exchange
Act of 1934 [No Fee Required]
For the transition period from ____________ to ____________
Commission file number 0-6869
Fortune National Corporation
(Name of small business issuer in its charter)
State of Incorporation: IRS Employer Id.:
Pennsylvania 25-1229620
Address of Principal Executive Office:
10555 Richmond Avenue, Houston, Texas 77042
Issuer's telephone number, including area code: (713) 974-2242
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 per share
(Title of Class)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12
months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the
past 90 days. [x] Yes [ ] No.
Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-
KSB or any amendment to this Form 10-KSB. [x]
Revenues for the issuer for its most recent fiscal year were $5,166,842.
As of March 22, 1996, 2,616,984 shares of the registrant's Common Stock,
excluding shares held in treasury, were issued and outstanding, and the
aggregate market value of such shares held by non-affiliates of the
registrant on such date, based on the average of the closing bid and asked
prices for such shares on such date, was $296,584.
DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part II, Items 5 - 7 of Form 10-KSB is
incorporated by reference from the registrant's 1995 Annual Report to
Stockholders. The information required by Part III, Items 9 - 12 of Form 10-
KSB is incorporated by reference from the registrant's definitive information
statement to be furnished in connection with the Annual Meeting of
Stockholders to be held on or about May 6, 1996.
The Exhibit Index, Part IV, Item 13, is located on page 7 of this Form 10-
KSB. This Form 10-KSB contains a total of 47 pages including any exhibits.
Transitional Small Business Disclosure Format (check one):
[ ] Yes [x] No
<PAGE>
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
Fortune National Corporation ("Fortune") was incorporated under the laws of
the Commonwealth of Pennsylvania on March 22, 1971. Fortune's only
significant asset is its holdings of 63.7% of the outstanding common stock of
Acap Corporation ("Acap").
Acap was incorporated under the laws of the State of Delaware on March 18,
1985 by the management of American Capitol Insurance Company ("American
Capitol") to become the parent or "holding company" of American Capitol.
Acap began operating in that capacity on October 31, 1985. Fortune acquired
a majority interest in American Capitol in 1984. In the 1985 reorganization
which resulted in American Capitol becoming a wholly-owned subsidiary of
Acap, Fortune's majority interest in American Capitol was exchanged for an
equivalent interest in Acap.
Unless the context otherwise requires, the term "Fortune" refers to the
consolidated group of Fortune National Corporation and its subsidiaries.
Fortune is primarily engaged in the acquisition and servicing of existing
blocks of life insurance policies. Since September 1994, the Company has
marketed a small volume of final expense insurance and prearranged funeral
service contracts. Through its life insurance subsidiaries, Fortune
maintains a broad portfolio of individual life insurance policies and annuity
contracts. Life insurance is the only industry segment material to the
operations of Fortune.
InsCap Corporation ("InsCap"), a Delaware holding company, acquired a
majority interest in Fortune on December 6, 1983. InsCap's only significant
asset is its holdings of 63.4% of the outstanding common stock of Fortune.
Acquisition Strategy
- --------------------
Fortune's strategy for achieving growth and profits is based upon the
acquisition of blocks of existing life insurance policies through the direct
purchase of such blocks or indirectly through the acquisition of life
insurance companies. By acquiring blocks of life insurance directly or
through the purchase of other life insurance companies, Fortune hopes to add
"new" life policies to its books more economically than through marketing.
Generally, insurance companies can acquire policies in two ways; either by
"purchasing" them policy by policy through marketing, or by buying an
existing block of policies. Purchasing an existing block of business has the
advantage that the policies have an established "history." That is, an
existing block will have an established pattern of mortality and lapse
experience. Also, the company selling the block of existing life policies
has already absorbed the risks involved in marketing the life insurance
products. In purchasing an existing block of policies, Fortune's strategy is
to set the purchase price at the sum of the expected future profits of the
block of policies discounted at a rate of return in excess of Fortune's cost
of funds. Fortune then attempts to improve upon the rate of return by
maintaining the acquired policies at a lower per policy cost than was used in
the pricing assumptions and by realizing a higher investment yield on the
acquired assets than was used in the pricing assumptions.
It also should be noted that the acquisition strategy has certain risks and
disadvantages. Since the marketing of life insurance products generally
involves greater risks than acquiring existing blocks of life insurance, the
profit margins available through marketing may be greater than the margins
available with respect to an acquired block of life insurance. Also, there
are relatively few companies or blocks of business meeting Fortune's
acquisition criteria that become available for purchase each year. Fortune's
acquisition strategy requires Fortune to maintain the personnel, computer
systems and physical properties necessary to accommodate large growth phases
without the guarantee that such growth will occur.
Acquisitions to Date
- --------------------
Prior to 1983, Fortune followed a traditional marketing strategy through its
wholly-owned life insurance subsidiary, Fortune National Life Insurance
Company. In conjunction with the change in control and associated change in
management of Fortune in 1983 (such changes resulting from InsCap's purchase
of a majority of the outstanding common stock), Fortune switched from a
traditional marketing strategy to its current acquisition strategy.
Acquisitions made since that time through December 31, 1995 include:
American Capitol Insurance Company on July 2, 1984.
Associated Companies, Inc. on January 13, 1989.
Trans-Western Life Insurance Company, acquired February 25, 1994.
Family Life Insurance Company of Texas, acquired August 31, 1994.
Texas Imperial Life Insurance Company, acquired September 29, 1994.
Oakley-Metcalf Insurance Company, acquired February 2, 1995.
Products and Markets
- --------------------
The policies serviced by Fortune are primarily traditional whole life
policies, interest-sensitive whole life policies, term life policies,
stipulated premium whole life policies and flexible premium annuity
contracts.
Traditional whole life policies are generally characterized by a uniform
death benefit and a level periodic premium throughout the insured's lifetime.
These policies combine a savings element with insurance protection. The
savings element, called the cash value, builds at a fixed rate of interest
and may be borrowed against by the policyholder and, if the policy terminates
other than through the death of the insured, may be paid to the policyholder.
Fortune's interest-sensitive whole life policies also generally have a
uniform death benefit and a level periodic premium. However, with these
policies, the interest rate credited to the savings element of the policy may
be varied at Fortune's option above a guaranteed minimum rate. The interest-
sensitive policies also provide for a surrender charge in the event that the
policyholder surrenders the policy during the first ten years following the
issue date of the policy. Further, Fortune may vary below a guaranteed
maximum the amount charged against the policy for expenses and mortality
costs.
Term life policies generally offer pure insurance protection (i.e., no
savings element) for a specified period. Such policies typically offer a
conversion privilege, a renewal privilege, or both. Premiums typically are
adjusted upon the exercise of either privilege.
Stipulated premium whole life policies are characterized by a uniform death
benefit and a level periodic premium throughout the insured's lifetime,
however, unlike traditional whole life policies, stipulated premium whole
life policies have no cash value.
Flexible premium annuity contracts permit the annuitant to make deposits as
he sees fit, and allow the annuitant to make withdrawals at his option,
subject to deduction of applicable surrender charges. The annuity balance
earns interest on a tax deferred basis at a rate that Fortune may change
annually.
From mid-1985 until September 1994, the Company relied exclusively on its
acquisition strategy and did not actively market new business. Since
September 1994, the Company has marketed a small volume of final expense
insurance and prearranged funeral service contracts. These policies are
primarily written through independent funeral homes. The Company currently
receives new business from approximately thirty funeral homes.
The following table sets forth information with respect to gross insurance in
force and net premium income of Fortune during the past three years:
<TABLE>
<CAPTION>
(Dollars in Thousands) 1995 1994 1993
- ---------------------- ----- ---- ----
<S> <C> <C> <C>
Life insurance in force $286,803 321,859 267,722
Premium income:
Life $ 1,828 1,350 848
Annuity 547 223 166
-------- ------- -------
Total premiums $ 2,375 1,573 1,014
======== ======= =======
</TABLE>
The table below presents the direct collected premiums by major geographic
area for the last three years:
<TABLE>
<CAPTION>
(Dollars in Thousands) 1995 1994 1993
---- ---- ----
<S> <C> <C> <C>
Texas $ 4,573 2,414 1,225
Ohio 550 614 682
Indiana 457 503 551
Pennsylvania 399 440 536
Michigan 352 396 448
Other U.S. 2,122 2,298 2,513
------- ------ -----
Total $ 8,453 6,665 5,955
======= ====== =====
</TABLE>
The preceding tables include certain premium amounts which under Statement of
Financial Accounting Standards No. 97 ("FAS 97") are credited to liability
accounts and are not considered revenues, and exclude surrender charges that
under FAS 97 are considered revenue. The premiums of Fortune affected by FAS
97 are the premiums on interest-sensitive whole life policies and annuity
contracts.
Competition
- ------------
The life insurance industry is highly competitive. There are approximately
1,770 legal reserve life insurance companies in the United States. Although
Fortune's acquisition strategy is not the standard strategy employed in the
industry, Fortune must compete with a significant number of companies, both
inside and outside the life insurance industry, when looking for an
acquisition. Many of these companies have substantially greater financial
resources and larger staffs than Fortune.
Fortune also must compete with a significant number of other life insurance
companies to retain Fortune's existing block of policies. Many of these
companies have broader and more diverse product lines together with active
agency forces, and therefore, certain of Fortune's policyholders may be
induced to replace their existing policies with those provided by Fortune's
competitors.
Regulation
- ----------
The insurance subsidiaries of the Company are subject to regulation by the
supervisory insurance agency of each state or other jurisdiction in which
the insurance subsidiaries are licensed to do business. These supervisory
agencies have broad administrative powers relating to the granting and
revocation of licenses to transact business, the approval of policy forms,
the form and content of mandatory financial statements, capital, surplus,
reserve requirements and the types of investments that may be made. The
insurance subsidiaries are required to file detailed reports with each
supervisory agency, and its books and records are subject to examination by
each. In accordance with the insurance laws of the State of Texas (the
insurance subsidiaries' state of domicile) and the rules and practices of the
National Association of Insurance Commissioners (the "NAIC"), the insurance
subsidiaries are examined periodically by examiners from Texas.
Most states have enacted legislation or adopted administrative regulations
covering such matters as the acquisition of control of insurance companies
and transactions between insurance companies and the persons controlling
them. The NAIC has recommended model legislation on these subjects that has
been adopted, with variations, by many states. The nature and extent of the
legislation and administrative regulations now in effect vary from state to
state, and in most states prior administrative approval of the acquisition of
control of an insurance company incorporated in the state, whether by tender
offer, exchange of securities, merger or otherwise, is required, which
process involves the filing of detailed information regarding the acquiring
parties and the plan of acquisition.
The insurance subsidiaries are members of an "insurance holding company
system" and are required to register as such with the State of Texas and file
periodic reports concerning their relationships with the insurance holding
company and other affiliates of the holding company. Material transactions
between members of the holding company system are required to be "fair and
reasonable" and in some cases are subject to administrative approval, and the
books, accounts and records of each party are required to be so maintained as
to clearly and accurately disclose the precise nature and details of the
transactions. Notice to or approval by the State of Texas is required for
dividends paid by the insurance subsidiaries.
Employees
- -----------
At December 31, 1995, Fortune had a total of 29 employees. None of these
employees is covered by a collective bargaining agreement. Fortune believes
that it has excellent relations with its employees.
ITEM 2. DESCRIPTION OF PROPERTIES.
The principal offices of the Company are located at 10555 Richmond Avenue,
Houston, Texas 77042. The Company holds unencumbered title to a building
containing approximately 50,000 square feet and approximately 6.6 acres of
land at that location. The Company occupies approximately 20,000 square feet.
Approximately 5,300 square feet of additional space is leased by unaffiliated
tenants. The Company's offices are suitable for the conduct of its business
and provide room for future growth. Management believes that the property is
adequately covered by insurance.
The Company's investment policy prohibits making new investments in real
estate without the prior approval of the Board of Directors. There are no
plans to make any real estate investments in the foreseeable future. If the
Company were interested in making a real estate investment, regulatory
restrictions applicable to Texas life insurance companies would prohibit the
life insurance subsidiaries from investing in real estate outside of the
United States, in residential real estate, or in any property, other than
home office property, that exceeds 5% of the insurer's statutory assets.
The Company owns and services first mortgage loans with aggregate principal
balances at December 31, 1995 of $1,125,455. The Company's investment policy
prohibits making new investments in mortgage loans without the prior approval
of the Board of Directors. There are no plans to make any mortgage loan
investments in the foreseeable future. If the Company were interested in
making a mortgage loan investment, regulatory restrictions applicable to
Texas life insurance companies would prohibit the life insurance subsidiaries
from investing in mortgage loans on real estate outside of the United States,
in other than first liens, or in any loan that exceeds 25% of the insurer's
statutory capital and surplus.
ITEM 3. LEGAL PROCEEDINGS.
Fortune and its subsidiaries are involved in various lawsuits and legal
actions arising in the ordinary course of operations. Management is of the
opinion that the ultimate disposition of these matters will not have a
material adverse effect on Fortune's financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter was submitted to a vote of security holders during the quarter
ended December 31, 1995.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The required information regarding the market for the common equity of the
Company and related stockholder matters is incorporated herein by reference
from "Stockholder Information" on page 31 of Fortune's 1995 Annual Report to
Stockholders.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Management's Discussion and Analysis of Financial Condition and Results of
Operations is incorporated herein by reference from "Management's Financial
Analysis" on pages 3 - 9 of Fortune's 1995 Annual Report to Stockholders.
ITEM 7. FINANCIAL STATEMENTS.
Financial statements and supplementary data are incorporated herein by
reference from pages 10 - 29 of Fortune's 1995 Annual Report to Stockholders.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS.
None.
PART III
The information required by Items 9-12 is incorporated by reference from
Fortune's definitive information statement, which is to be filed pursuant to
Regulation 14C.
<PAGE>
PART IV
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibits Location or
Description Incorporation by Reference
3(a)(1)
Certificate of Incorporation of the *Form 10Q dated March 31,
Registrant dated March 22, 1971 1991, page 12
3(a)(2)
Certificate of Amendment to Articles of *Form 10Q dated March 31,
Incorporation of the Registrant dated 1991, page 15
June 16, 1977
3(b)
Bylaws of the Registrant, as amended *Form 10KSB dated
December 31, 1994, page 273
10(a)(1)
1988 American Capitol Insurance Company *Form 10K dated December 31,
Key Employee Stock Option Plan 31, 1988, page 37
10(a)(2)
Form of Grant of Stock Option used in 1988 *Form 10K dated December 31,
American Capitol Insurance Company Key 1988, page 45
Employee Stock Option Plan
10(b)(1)
Agreement dated December 18, 1986 between *Acap Corporation Form S4,
Acap Corporation and the Registrant Amendment No. 2, Registration
No. 33-27874
10(b)(2)
Amendment dated June 13, 1989 to Agreement *Acap Corporation Form S4,
dated December 18, 1986 between Acap Amendment No. 2, Registration
Corporation and the Registrant No. 33-27874
10(c)(1)
Employment Contract between American *Form 10KSB dated December 31,
Capitol Insurance Company and John D. 1994, page 275
Cornett
10(c)(2)
Stock Purchase Agreement between American *Form 10KSB dated December 31,
Capitol Insurance Company and John D. 1994, page 288
Cornett
10(d)
Supplemental Disability Income Agreement *Form 10Q dated September 30,
between American Capitol Insurance 1990, page 12
Company and William F. Guest
10(e)
Reinsurance Agreement between American *Form 10KSB dated December 31,
Capitol Insurance Company and Crown Life 1993, page 10
Insurance Company effective December 31,
1992, as amended
10(f)
Stock Purchase Agreement for Family Life *Form 8K dated August 31,
Insurance Company of Texas dated 1994, page 5
August 12, 1994
10(g)
$5,000,000 Surplus Debenture issued by *Form 8K dated August 31,
American Capitol Insurance Company to 1994, page 72
John C. Bowden
10(h)
Guaranty Agreement and Collateral Pledge *Form 8K dated August 31,
Agreement dated August 31, 1994 between 1994, page 75
Acap Corporation and John C. Bowden
10(i)
Reinsurance Agreement between Family Life *Form 8K dated August 31,
Insurance Company of Texas and Alabama 1994, page 94
Reassurance Company effective
September 1, 1994
10(j)
Stock Purchase Agreement for Texas Imperial *Form 8K dated September 28,
Life Insurance Company dated August 2, 1994 1994, page 5
10(k)
Stock Purchase Agreement for Imperial Plan, *Form 8K dated September 28,
Inc. dated August 2, 1994 1994, page 73
10(l)
Employment Agreement between Texas Imperial *Form 8K dated September 28,
Life Insurance Company and Richard M. Ridley 1994, page 82
<PAGE>
Exhibits Location or
Description Incorporation by Reference
10(m)
Stock Purchase Agreement for Trans-Western *Form 10KSB dated December 31,
Life Insurance Company 1994, page 43
10(n)
Reinsurance Agreement effective March 1, *Form 10KSB dated December 31,
1994 between Trans-Western Life Insurance 1994, page 111
Company and Alabama Reassurance Company
10(o)
Stock Purchase Agreement for Oakley-Metcalf *Form 10KSB dated December 31,
Insurance Company 1994, page 162
10(p)
Reinsurance Agreement effective February 2, *Form 10KSB dated December 31,
1995 between Oakley-Metcalf Insurance 1994, page 213
Company and Alabama Reassurance Company
10(q)
Loan Agreement and related documents *Form 10KSB dated December 31,
between Acap Corporation and Central 1994, page 261
National Bank
11
Statement re computation of per share *1995 Annual Report to
earnings Stockholders,page 17
13
1995 Annual Report to Stockholders Page 12
22
Subsidiaries of the Registrant Page 11
* Exhibit is incorporated by reference to the listed document.
(b) Reports on Form 8-K:
None.
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
Fortune National Corporation
Date: March 25, 1996
By:
/s/ William F. Guest
- ----------------------------------------
William F. Guest
Chairman of the Board
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on
the date indicated.
Date: March 25, 1996
By:
/s/ William F. Guest /s/ John D.Cornett
- ---------------------------------------- ----------------------------------
William F. Guest John D. Cornett
Chairman of the Board, Executive Vice President and
President and Direct Treasurer
(Principal Executive Officer) ( Principal Financial and
Accounting Officer)
/s/ R. Wellington Daniels
- -----------------------------------------
R. Wellington Daniels
Director
<PAGE>
EXHIBIT 21
SUBSIDIARIES OF FORTUNE NATIONAL CORPORATION
Majority-owned subsidiary of Fortune National Corporation:
- ----------------------------------------------------------
Acap Corporation (Delaware)
Wholly-owned subsidiary of Acap Corporation:
- ---------------------------------------------
American Capitol Insurance Company (Texas)
Wholly-owned subsidiaries of American Capitol Insurance Company:
- ----------------------------------------------------------------
Family Life Insurance Company of Texas (Texas)
Imperial Plan, Inc. (Texas)
Texas Imperial Life Insurance Company (Texas)
Wholly-owned subsidiary of Texas Imperial Life Insurance Company:
- ------------------------------------------------------------------
Oakley-Metcalf Insurance Company (Texas)
FORTUNE NATIONAL CORPORATION
CONTENTS
President's Report 1
Management's Financial Analysis 3
Consolidated Balance Sheet 10
Consolidated Statements of Operations 11
Consolidated Statements of Stockholders' Equity 12
Consolidated Statements of Cash Flows 13
Notes to Consolidated Financial Statements 14
Independent Auditors' Report 30
Stockholder Information 31
Directors and Officers 32
CORPORATE PROFILE
Fortune National Corporation is a life insurance holding company that focuses
on the acquisition of existing life insurance policies, either through direct
purchase or the acquisition of life insurance companies. Adjuncts to the
acquisition-oriented growth strategy include using financial leverage and
reinsurance to make more acquisitions and to maximize the return to
stockholders, consolidating and streamlining the operations of acquired
businesses, concentrating on a limited number of lines of business and
providing superior customer service to improve policy retention.
Life insurance operations are conducted through the wholly-owned life insurance
subsidiaries of Fortune's majority-owned subsidiary, Acap Corporation. All
operations are conducted from the corporate headquarters in Houston, Texas.
Fortune's common stock is quoted on the NASD Electronic Bulletin Board under
the symbol FRNC.<PAGE>
PRESIDENT'S REPORT
It is with mixed feelings that I report to you that in all likelihood this is
the final Fortune National Corporation Annual Report to Stockholders. At its
meeting on March 25, 1996, the Company's Board of Directors unanimously voted
in favor of a plan of dissolution and liquidation (the "Plan") and directed
that the Plan be submitted to a vote of the Company's stockholders at the
Annual Stockholder Meeting to be held on May 6, 1996. InsCap Corporation, the
majority stockholder of the Company, has indicated that it plans to vote in
favor of the Plan, which assures the approval of the Plan. The record date for
determining stockholders of record both for purposes of voting at the Annual
Stockholder Meeting and for the distribution of assets pursuant to the Plan is
March 27, 1996.
While the following statements will provide a summary view of the Plan, please
be sure to read this Annual Report in its entirety, along with the enclosures
discussed below, for more complete information regarding the Plan.
Except for a relatively small amount of cash (approximately $2,200 at December
31, 1995), the Company's assets consist solely of 5,421 shares of common stock
("Acap stock") of its majority-owned subsidiary, Acap Corporation, a Delaware
corporation. The Company's stockholders are entitled, upon liquidation, to
receive, pro rata, the Acap stock.
As further provided in the Plan, no fractional shares of Acap stock will be
issued. Within certain limitations defined in the Plan, Company stockholders
who, as a result of the liquidation, have "odd lot" shares (as defined in the
Plan), have the option of either receiving cash for their odd lot shares or of
purchasing additional shares of the Company's common stock to round up to the
next whole share of Acap stock.
Fortune was organized in 1971 to be a holding company for Fortune National Life
Insurance Company. In 1984, Fortune acquired a majority ownership of American
Capitol Insurance Company, a Texas domiciled life insurance company. Acap was
formed as a holding company in 1985 whereby American Capitol stockholders
became stockholders of Acap, American Capitol became a wholly owned subsidiary
of Acap, and Acap became a majority owned subsidiary of Fortune. Fortune
National Life was merged into American Capitol in 1986. Neither Acap nor
Fortune has had any business purpose or activities except to hold and manage
the stock it owned in its subsidiary. Thus, for the past ten years, Fortune
stockholders have been, indirectly, stockholders of Acap. Fortune's Board has
from time to time reviewed the possibility of the consolidation of Acap and
Fortune so that one holding company would serve as the holding company for
American Capitol, ultimately resulting in the Board's adoption of the Plan on
March 25, 1996.
The principal reason for the dissolution and liquidation is to eliminate costs
associated with maintaining the Company. Since the ownership of the operating
company by the stockholders is indirect and there is no separate business
reason for the Company's existence, the expense of maintaining the Company can
be viewed as an unnecessary expense. Such expense amounts to approximately
$30,000 per year, including, but not limited to, franchise taxes, audit and
accounting fees and costs of annual, quarterly and periodic reporting
requirements to the Securities and Exchange Commission and related legal fees
and costs. Further, the Company does not have any reliable source of funds
with which to pay such expenses.
Another reason is that the dissolution and liquidation, in effect, places in
hands of the Company's stockholders a direct ownership, pro rata, of the
only significant asset which they already own indirectly, namely, the Acap
stock. Further, the sole business of the Company is to hold, indirectly,
operating companies which are life insurance companies, which is also the sole
business of Acap, except that Acap holds the operating companies directly.
Finally, the liquidation provides a mechanism for stockholders owning only a
small amount of Fortune stock to dispose of that stock, or acquire additional
stock, without brokerage commissions.
Stockholders owning an amount of Fortune common stock in excess of the "odd
lot" shares will become Acap stockholders by virtue of their entitlement to
their distributive share of the Acap stock. All Fortune stockholders owning
less than that amount will have the opportunity, if they choose, to become Acap
stockholders.
The Information Statement and Letter of Transmittal sent to all stockholders
with this Annual Report contain important details regarding the Plan and the
actions stockholders need to take. Stockholders are urged to read completely
and carefully those documents, as well as this Annual Report and the Acap
Corporation Annual Report to Stockholders in their entirety, all of which are
enclosed herewith.
During 1995 progress was made on a number of fronts, including the completion
of an acquisition in February and the consolidation of the business of four
life insurance subsidiaries into one of those subsidiaries. However, due to
disappointing mortality and investment experience, the Company had a net loss
of $96,821 ($.04 cents per common share) for the year. Please see the
Management's Financial Analysis section of this Annual Report for a more
complete analysis of the Company's 1995 results.
William F. Guest
President
April 15, 1996 <PAGE>
FORTUNE NATIONAL CORPORATION
MANAGEMENT'S FINANCIAL ANALYSIS
SIGNIFICANT TRANSACTIONS
During 1994, the Company, through American Capitol Insurance Company ("American
Capitol"), the wholly-owned subsidiary of Acap Corporation ("Acap"), the
Company's majority-owned subsidiary, acquired three life insurance companies:
Trans-Western Life Insurance Company ("Trans-Western") on February 25, 1994,
Family Life Insurance Company of Texas ("Family") on August 31, 1994, and Texas
Imperial Life Insurance Company ("Texas Imperial") on September 29, 1994. The
Family acquisition met the accounting definition of a "material" transaction.
On February 2, 1995, the Company, through Texas Imperial, acquired Oakley-
Metcalf Insurance Company ("Oakley"), a Texas life insurance company, in a
$2,559,516 cash transaction. At the date of acquisition, Oakley had assets
totalling approximately $4.4 million and approximately 3,000 life policies in
force.
All of the acquisitions noted above were accounted for using the purchase
method of accounting. Accordingly, the Company's results of operations only
reflect the results of the acquired companies from their respective dates of
acquisition.
On January 4, 1995, the Company increased the reinsurance on each of the life
policies in force in Family from 20% to 100%. The Company recorded a deferred
gain on reinsurance of $1,350,036 and an increase in the reinsurance receivable
of $2,809,418 on the transaction. Whereas 1994's results of operations
included 80% of the premiums, policy benefits, etc. of Family's policies from
September 1, 1994 through December 31, 1994, 1995's results of operations do
not include those income and expense elements.
During 1995, the Company consolidated the policies in force of Family, Oakley
and Trans-Western into Texas Imperial. The Company expects to realize
operational efficiencies in 1996 as a result of the consolidation.
RESULTS OF OPERATIONS
Revenue from premiums and other considerations increased 43% during 1995 in
comparison to premiums and other considerations for 1994. As a result of the
inclusion of premiums for Texas Imperial for all of 1995, premiums increased
approximately $900,000 in 1995 in comparison to 1994. During 1994, Texas
Imperial's premiums were only included from the date Texas Imperial was
acquired, September 29, 1994. Texas Imperial's 1995 premiums included
approximately $500,000 in single premiums related to the conversion of three
trust-funded prepaid funeral service plans to insurance-funded plans.
Partially offsetting the increase in premiums resulting from the inclusion of
Texas Imperial for a full year was a decrease in the premiums of American
Capitol, Family and Trans-Western. American Capitol's premiums were
approximately $20,000 lower in 1995 in comparison to 1994 as a result of normal
policy attrition. Family's premiums were approximately $300,000 lower in 1995
in comparison to 1994. This decrease is attributable to the difference in the
reinsurance percentages on the Family policies noted above. Whereas 1994's
premiums included 80% of Family's premiums from the date Family was acquired,
August 31, 1994, 1995's premiums included none of Family's premiums since the
policies were 100% reinsured. Finally, premiums related to Trans-Western's
policies were approximately $100,000 lower in 1995 in comparison to 1994 due to
the termination at the beginning of 1995 of a reinsurance treaty whereby Trans-
Western was the assuming reinsurer.
Net investment income decreased 23% during 1995 in comparison to 1994. The
decrease in net investment income is attributable to several factors. One such
factor is the difference in the reinsurance percentages on the Family policies
noted above. Whereas 1994's net investment income included 80% of the net
investment income on Family's reserve assets from the date Family was acquired,
August 31, 1994, 1995's net investment income included none of the net
investment income on Family's reserve assets since the policies were 100%
reinsured. A second factor in the decrease was the repayment of a $2.3 million
mortgage loan on September 28, 1994. The mortgage loan in question was issued
in 1983 in connection with the sale of American Capitol's home office building.
The loan was repaid in full by (1) selling the home office building to American
Capitol for $1.1 million, (2) making a cash payment of $600,000 and (3) issuing
a note to American Capitol that was then paid off in December, 1994 with cash
of $600,000. Whereas the mortgage loan earned 10%, the cash the Company
received was reinvested at a rate lower than 10%. Also, to date the building
has not yielded a 10% return. The decreases in net investment income for 1995
noted above were somewhat offset by the inclusion of a full year's net
investment income on Texas Imperial during 1995, whereas 1994's net investment
income only included the income of Texas Imperial from the date of its
acquisition, September 29, 1994.
The Company recorded net realized investment gains of $170,003 for the year
1995 in comparison to net realized investment gains of $1,361,310 for the year
1994. Net realized investment gains for 1995 include a gain on the sale of the
stock of Trans-Western. During the third quarter of 1995, Trans-Western
transferred most of its business to Texas Imperial. The Trans-Western "shell"
was then sold to an unaffiliated third party. The Company realized a pre-tax
investment gain of $50,000 on the sale of the Trans-Western stock. The balance
of 1995's net realized investment gains were primarily the result of a
restructuring of Texas Imperial's investment portfolio. Realized investment
gains for 1994 include a $1,450,000 gain related to the mortgage loan on the
Company's home office property, discussed above. Prior to the repayment of the
loan, the Company held a valuation allowance related to the mortgage loan. The
1994 gain of $1.45 million was the release of the total valuation allowance.
During 1995, the Company entered into an earnest money contract to sell the
home office property. However, the sale was not completed and the earnest
money contract expired.
The reinsurance expense allowance increased 17% during 1995 in comparison to
1994. Whereas during 1994 the Company only received the reinsurance expense
allowance related to the companies acquired during 1994 from their respective
dates of acquisition and reinsurance, the Company received such expense
allowance for the full year during 1995. Also, the Company only received an
expense allowance on 20% of Family's policies during 1994, while the previously
noted change in the reinsurance percentage resulted in the Company receiving an
expense allowance on 100% of Family's policies during 1995.
The Company had an amortization of a deferred gain on reinsurance of $100,156
during 1995 in comparison to an amortization of a deferred loss on reinsurance
of $93,181 in 1994. Whereas during 1994 the Company only received the
amortization of the deferred gain on reinsurance related to the companies
acquired during 1994 from their respective dates of acquisition and reinsurance
(and such amortization was not enough to fully offset the amortization of a
deferred loss on reinsurance from prior years), the Company received the
amortization from the 1994 transactions for the full year during 1995. Also,
the change in the reinsurance percentage on Family's policies during 1995
increased the deferred gain on reinsurance and the related amortization of such
deferred gain into income.
Policy benefits (death and other benefits) were 37% of total revenue excluding
net realized investment gains during 1995 compared to 30% of total revenue
excluding net realized investment gains during 1994. The higher ratio of total
policy benefits to total revenue during 1995 is attributable in part to the
composition of the business of Texas Imperial. Texas Imperial is in the
insurance-funded prepaid funeral services business. Higher reserve
requirements due to higher average attained ages in this type of business
result in a higher benefit to revenue ratio. It should also be noted that
American Capitol's death claims were $346,844 in 1995 compared to $182,854 in
1994 (and $185,264 in 1993). Management is unaware of any factor that would
indicate the higher level of claims in 1995 represents a trend as opposed to an
aberration.
Total expenses (commissions, general expenses, interest expense, and the
amortization of deferred acquisitions costs and goodwill) were 61% of total
revenue excluding net realized investment gains during 1995 compared to 58% of
total revenue excluding net realized investment gains during 1994. General
expenses in both years include the costs associated with administering
reinsured policies. Given the significance of the Company's reinsurance, this
results in an expense to revenue ratio that is higher than typical for the life
insurance industry. However, the Company receives an expense allowance on
reinsurance ceded that management believes adequately compensates the Company
for the administration of the reinsured policies. The higher percentage of
total expenses to total revenue in 1995 is in part due to the change in the
reinsurance percentage on Family's policies. As noted above, the expense to
revenue ratio is higher for the Company's fully reinsured business than for
business that is not fully reinsured. Since the Family policies were fully
reinsured during 1995 but only 20% reinsured during 1994, the expense to
revenue ratio related to these policies is not comparable.
Excluding net realized investment gains, pre-tax operating income for the year
1995 was $79,042 compared to pre-tax operating income for the year 1994 of
$537,210. The decrease in operating income is primarily the result of the
adverse mortality experience in American Capitol and the decrease in investment
income resulting from the repayment of the $2.3 million mortgage loan.
The Company's current federal income tax expense for the year 1995 was
$1,004,727 compared to a current federal income tax expense for the year 1994
of $320,522. The Family reinsurance transactions, the 20% reinsurance in 1994
and the increase to 100% reinsurance in 1995, resulted in significant taxable
income, the taxes on which are the primary component of the current federal
income tax expense for 1994 and 1995, respectively.
The current federal income tax effect of the Family reinsurance transactions
was partially offset by a related deferred federal income tax benefit. The
deferred federal income tax benefit from the 1994 Family reinsurance
transaction was less than the deferred federal income tax expense in 1994
related to the repayment of the home office mortgage loan.
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY OF INSURANCE SUBSIDIARIES
The Company's insurance subsidiaries have a significant portion of their assets
invested in debt instruments, short-term investments, or other marketable
securities. Although there is no present need or intent to dispose of such
investments, the insurance subsidiaries could liquidate portions of the
investments should the need arise. These assets should be sufficient to meet
the insurance subsidiaries' anticipated long-term and short-term liquidity
needs.
As of December 31, 1995, 100% of the insurance subsidiaries' portfolios of
publicly-traded bonds are invested in securities that are rated investment
grade (i.e., rated BBB-/Baa3 or higher by Standard & Poor or Moody). The
Company's investment policy prohibits making any new investment in below
investment grade securities without the advance approval of the applicable
insurance subsidiary's Board of Directors. All of the Company's bonds are
classified as available for sale and are, accordingly, reflected in the
financial statements at fair value. The insurance subsidiaries' liabilities
are primarily long term in nature. Therefore, long-term assets can be
purchased with the general intent to hold such assets to maturity. It has not
been the Company's investment practice in the past to be an active trader with
its bond portfolios. It is not expected that the insurance subsidiaries'
investment practices will change in the future.
A significant portion (35%) of the Company's bond portfolio is invested in
mortgage-backed securities, with 94% of such mortgage-backed securities
classified as collateralized mortgage obligations and 6% classified as pass-
through securities. Mortgage-backed securities are purchased to diversify the
portfolio from credit risk associated with corporate bonds. The majority of
mortgage-backed securities in the Company's investment portfolio have minimal
credit risk because the underlying collateral is guaranteed by specified
government agencies (e.g., GNMA, FNMA, FHLMC).
The principal risks inherent in holding mortgage-backed securities are
prepayment and extension risks that arise from changes in the general level of
interest rates. As interest rates decline and homeowners refinance their
mortgages, mortgage-backed securities prepay more rapidly than anticipated.
Conversely, as interest rates increase, underlying mortgages prepay more
slowly, causing mortgage-backed securities principal repayment to be extended.
In general, mortgage-backed securities provide for higher yields than corporate
debt securities of similar credit quality and expected maturity to compensate
for this greater amount of cash flow risk. Due to the underlying structure of
the individual securities, the majority of mortgage-backed securities in the
Company's investment portfolio have relatively low cash flow variability.
The Company's investments in collateralized mortgage obligations are primarily
of the planned amortization class (56%), Z (23%) and sequential (19%) types. A
planned amortization class tranche is structured to provide more certain cash
flows and is therefore subject to less prepayment and extension risk than other
forms of mortgage-backed securities. Planned amortization class securities
derive their stability at the expense of cash flow risk for other tranches in a
deal, as early repayments are applied first to other tranches, and cash flows
originally applicable to other tranches are first applied to the planned
amortization class tranche if that tranche's originally scheduled cash flows
are received later than expected. The Z tranche defers all interest to other
tranches until those tranches are paid down, at which time accumulated interest
and principal are paid to this class. The cash flows associated with
sequential tranches can vary as interest rates fluctuate, since these tranches
are not supported by other tranches.
Under an accounting standard adopted in 1993, the Company records its fixed
maturity and equity securities at fair value with unrealized gains and losses,
net of taxes, reported as a separate component of stockholders' equity.
Primarily as a result of declining interest rates during the year, the fair
value of the Company's fixed maturity and equity securities increased
$1,381,019 during 1995, following a $694,088 decrease during 1994. The new
accounting standard does not permit the Company to restate its liabilities for
changes in interest rates.
As of December 31, 1995, American Capitol held 16 mortgage loans as
investments. American Capitol's investment policy generally prohibits making
new investments in mortgage loans, except in connection with the sale of
Company owned real estate. The average principal balance of the remaining
mortgage loans at December 31, 1995 was $79,094 and the weighted average
maturity was 3 years. Mortgage loans on Texas properties represent 86% of the
mortgage loan balances at December 31, 1995 with Louisiana properties
representing 14% of the balances. Commercial mortgages represent 86% of the
mortgage loan balances at December 31, 1995 with residential mortgages
constituting the balance. In general, the performance of commercial mortgages
is more subject to changing U.S. and regional economic conditions than
residential mortgages. Mortgage loans are far less liquid an investment than
publicly-traded securities.
At December 31, 1995, the only real estate owned by American Capitol is the
home office property, with a book value of $1,505,325.
At December 31, 1994, Family had a $3.3 million note payable outstanding.
Family repaid the note on January 31, 1995 out of working capital.
At December 31, 1994, American Capitol had a $5 million surplus debenture
outstanding that had been issued in connection with the acquisition of Family.
The note was repaid on January 31, 1995. Of the total $5 million payment, $3.5
million was paid from working capital of the Company and $1.5 million was
provided by a surplus debenture issued by American Capitol to Acap. As
described below, Acap's source of funds was a $1.5 million bank loan.
LIQUIDITY OF ACAP
On January 31, 1995, as a source of funds to repay the $5 million surplus
debenture issued in connection with the Company's acquisition of Family, Acap
borrowed $1.5 million from Central National Bank of Waco, Texas. The note is
renewable each April 30 until fully repaid. The note bears interest at a rate
equal to the base rate of a bank plus 1%. Principal payments on the note are
due quarterly. The note is secured by a pledge of all the outstanding shares
of American Capitol. The loan agreement contains certain restrictions and
financial covenants. Without the written consent of the bank, Acap may not
incur any debt, pay common stock dividends or sell any substantial amounts of
assets. Also, American Capitol is subject to minimum statutory earnings and
capital and surplus requirements during the loan term. The principal payments
on the bank loan are matched by the principal payments on a surplus debenture
issued by American Capitol to Acap.
Going forward, the primary source of funds for Acap are payments on the surplus
debenture and dividends from American Capitol. American Capitol may pay
dividends in any one year without the prior approval of regulatory authorities
as long as such dividends do not exceed certain statutory limitations. As of
December 31, 1995, the amount of dividends available to the parent company from
American Capitol not limited by such restrictions is approximately $260,000.
Payments on the surplus debenture may only be made to the extent statutory
capital and surplus exceeds $2 million. At December 31, 1995, American
Capitol's statutory capital and surplus was $2,716,261.
The determination of statutory surplus is governed by accounting practices
prescribed or permitted by the State of Texas. Statutory surplus therefore
bears no direct relationship to surplus as would be determined under generally
accepted accounting principles.
LIQUIDITY OF THE PARENT COMPANY
While the operating activity of Fortune takes place within Acap and the
insurance subsidiaries, Fortune, at the parent level, has liquidity needs to
cover such expenses as franchise taxes, audit and accounting fees and the costs
of annual, quarterly and periodic reporting requirements to the Securities and
Exchange Commission and related legal fees and costs. Pursuant to a 1993
transaction, Acap agreed to cover certain expenses of Fortune for the years
1994 and 1995. Pursuant to a 1996 transaction, Acap agreed to cover certain
expenses of Fortune through the expiration of the plan or dissolution and
liquidation of Fortune (discussed below under "Subsequent Events").
REINSURANCE
Reinsurance plays a significant role in the Company's operations. In
accounting for reinsurance, amounts paid or deemed to have been paid for
reinsurance contracts are recorded as reinsurance receivables. The cost of
reinsurance related to long-duration contracts is accounted for over the life
of the underlying reinsured policies using assumptions consistent with those
used to account for the underlying policies. At December 31, 1995, reinsurance
receivables with a carrying value of $26.6 million were associated with a
single reinsurer, Crown Life Insurance Company ("Crown"). At December 31,
1994, Crown had assets in excess of $7 billion and shareholders' equity of
approximately $0.4 billion. Crown is rated "Excellent" by A.M. Best Company,
an insurance company rating organization. At December 31, 1995, reinsurance
receivables with a carrying value of $4.2 million were associated with Alabama
Reassurance Company ("Alabama Re"). The Alabama Re reinsurance receivables are
secured by trust accounts containing letters of credit totalling $6.6 million
granted in favor of the applicable insurance subsidiary of the Company.
With regard to the policies not 100% reinsured with Crown or Alabama Re, the
Company seeks to limit its exposure to loss on any single insured by reinsuring
the portion of risks in excess of $50,000 on the life of any individual through
various reinsurance contracts, primarily of the coinsurance and yearly
renewable term type.
The Company is contingently liable for amounts ceded to reinsurers in the event
the reinsurers are unable to meet their obligations assumed under the
reinsurance agreements. Acap evaluates the financial condition of its
reinsurers and monitors concentrations of credit risk to minimize its exposure
to significant losses from reinsurer insolvencies.
ACCOUNTING STANDARDS
In December 1991, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 107, "Disclosures
about Fair Value of Financial Instruments." SFAS No. 107 extends existing fair
value disclosure practices for some instruments by requiring all entities to
disclose the fair value of financial instruments, both assets and liabilities
recognized and not recognized in the statement of financial position, for which
it is practicable to estimate fair value. If estimating fair value is not
practicable, SFAS No. 107 requires disclosures of descriptive information
pertinent to estimating the value of a financial instrument. SFAS No. 107 was
amended by SFAS No. 119, "Disclosure about Derivative Financial Instruments and
Fair Value of Financial Instruments." Among other things, SFAS No. 119
requires additional disclosures about derivative financial instruments. For
companies the size of Acap, SFAS No. 107 and SFAS No. 119 are effective for
financial statements issued for fiscal years ending after December 15, 1995.
Accordingly, the Company incorporated the disclosures required by these
standards in the December 31, 1995 financial statements.
In May 1993, the FASB issued SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan." SFAS No. 114 requires a creditor to measure impairment
of a loan based on the fair value of the collateral when the creditor
determines that foreclosure is probable. A creditor is required to recognize
impairment by creating a valuation allowance. If there is a significant change
(increase or decrease) in the fair value of the collateral, the creditor is
required to recalculate impairment and adjust the valuation allowance. In
1994, the FASB amended SFAS No. 114 through SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosures," to
allow a creditor to use existing methods for recognizing income on impaired
loans. The Company adopted these standards in 1995 without impact to the
financial statements.
In March 1995, the FASB issued SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of." SFAS No. 121,
which must be adopted by fiscal years beginning after December 15, 1995,
establishes accounting standards for the impairment of long-lived assets,
certain identifiable intangibles, and goodwill related to (1) those assets to
be held and used in the business, and (2) for assets to be disposed of. The
Company does not anticipate a material effect of the financial statements from
this new accounting standard.
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 123 provides a choice for accounting for employee
stock compensation plans. A company can elect to use the new fair-value-based
method of accounting for employee stock compensation plans, under which
compensation cost is measured and recognized in results of operations, or
continue to account for these plans under the current accounting standards.
Entities electing to remain with the present accounting method must make
disclosures of what net income and earnings per share would have been if the
fair-value-based method of accounting had been applied. SFAS No. 123 must be
adopted in 1996. The Company has not yet selected which accounting option it
will adopt, however, the Company currently has only immaterial stock options
outstanding and therefore does not expect the adoption of SFAS No. 123 to have
a material effect on the financial statements.
SUBSEQUENT EVENTS
At its meeting on March 25, 1996, the Company's Board of Directors unanimously
voted in favor of a plan of dissolution and liquidation (the "Plan") and
directed that the Plan be submitted to a vote of the Company's stockholders at
the Annual Stockholder Meeting to be held on May 6, 1996. InsCap Corporation,
the majority stockholder of the Company, has indicated that it plans to vote in
favor of the Plan, which assures the approval of the Plan. The record date for
determining stockholders of record both for purposes of voting at the Annual
Stockholder Meeting and for the distribution of assets pursuant to the Plan is
March 27, 1996.
Except for a relatively small amount of cash (approximately $2,200 at December
31, 1995), the Company's assets consist solely of 5,421 shares of common stock
("Acap stock") of its majority-owned subsidiary, Acap. The Company's
stockholders are entitled, upon liquidation, to receive, pro rata, the Acap
stock.
As further provided in the Plan, no fractional shares of Acap stock will be
issued. Within certain limitations defined in the Plan, Company stockholders
who, as a result of the liquidation, have "odd lot" shares (as defined in the
Plan), have the option of either receiving cash for their odd lot shares or of
purchasing additional shares of the Company's common stock to round up to the
next whole share of Acap stock.<PAGE>
FORTUNE NATIONAL CORPORATION
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
December 31,1995
<S> <C>
ASSETS
Investments:
Fixed maturities available for sale (amortized cost $27,946,368)$29,815,078
Equity securities (cost $14,474) 10,938
Mortgage loans 1,125,455
Real estate 1,505,325
Policy loans 6,634,446
Short-term investments 1,710,747
-----------
Total investments 40,801,989
Cash 125,871
Accrued investment income 552,961
Reinsurance receivables 33,475,296
Accounts receivable (less allowance for uncollectible
accounts of $82,797) 119,553
Deferred acquisition costs 1,779,055
Property and equipment (less accumulated depreciation of $541,398) 64,291
Costs in excess of net assets of acquired business
(less accumulated amortization of $1,652,624) 3,131,304
Other assets 314,982
-----------
$80,365,302
===========
LIABILITIES
Policy liabilities:
Future policy benefits $64,402,642
Contract claims 778,380
-----------
Total policy liabilities 65,181,022
Other policyholders' funds 1,733,485
Deferred tax liability 2,480,487
Note payable 1,312,500
Deferred gain on reinsurance 886,356
Other liabilities 677,510
----------
Total liabilities 72,271,360
----------
Minority interest in subsidiary 1,964,040
Preferred stock of subsidiary 1,850,000
STOCKHOLDERS' EQUITY
Common stock, par value $1 per share, authorized 4,000,000,
issued 2,804,445 shares 2,804,445
Additional paid-in capital 5,136,435
Accumulated deficit (4,374,505)
Treasury stock, at cost, 187,461 common shares (147,465)
Net unrealized investment gains, net of taxes of $317,755 860,992
-----------
Total stockholders' equity 4,279,902
-----------
$80,365,302
===========
</TABLE>
See accompanying notes to consolidated finacial statements.<PAGE>
FORTUNE NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION> YEARS ENDED DECEMBER 31,
1995 1994
---- ----
<S> <C> <C>
REVENUES
Premiums and other considerations $1,581,864 1,105,202
Net investment income 1,331,952 1,737,698
Net realized investment gains 170,003 1,361,310
Reinsurance expense allowance 1,897,257 1,623,438
Amortization of deferred gain (loss) on reinsurance 100,156 (93,181)
Other income 85,610 26,249
----------------------
Total revenues 5,166,842 5,760,716
----------------------
BENEFITS AND EXPENSES
Death benefits 612,125 518,029
Other benefits 1,234,174 807,357
Commissions and general expenses 2,576,224 2,049,103
Interest expense 165,929 192,608
Amortization of deferred acquisition costs 115,800 111,655
Amortization of costs in excess of net
acquired business 213,545 183,444
----------------------
Total benefits and expenses 4,917,797 3,862,196
----------------------
EARNINGS (LOSSES) Income before federal income tax expense (benefit)
and minority interest in income of subsidiary 249,045 1,898,520
Federal income tax expense (benefit):
Current 1,004,727 320,522
Deferred (865,133) 700,102
---------------------------
Income before minority interest
in income of subsidiary 109,451 877,896
Minority interest in income of subsidiary (78,908) (358,687)
Dividends on preferred stock of subsidiary (127,364) (101,598)
----------------------------
Net income (loss) $ (96,821) 417,611
===========================
EARNINGS (LOSS) PER SHARE
Net income (loss) per common share $(0.04) 0.16
=============================
</TABLE>
See accompanying notes to consolidated financial statements.<PAGE>
FORTUNE NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1995 1994
---- ----
<S> <C> <C>
COMMON STOCK
Balance, end of year $2,804,445 2,804,445
-----------------------
ADDITIONAL PAID-IN CAPITAL
Balance, end of year 5,136,435 5,136,435
-----------------------
ACCUMULATED DEFICIT
Balance, beginning of year (4,277,684) (4,695,295)
Net income (loss) (96,821) 417,611
-----------------------
Balance, end of year (4,374,505) (4,277,684)
-----------------------
TREASURY STOCK
Balance, end of year (147,465) (147,465)
-----------------------
NET UNREALIZED INVESTMENT GAINS (LOSSES)
Balance, beginning of year (520,027) 174,061
Change during year 1,381,019 (694,088)
-----------------------
Balance, end of year 860,992 (520,027)
-----------------------
TOTAL STOCKHOLDERS' EQUITY $4,279,902 2,995,704
======================
</TABLE>
See accompanying notes to consolidated financial statements.<PAGE>
FORTUNE NATIONAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1995 1994
------------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ (96,821) 417,611
Adjustments to reconcile net income (loss)
to net cash provided by operating activities:
Depreciation and amortization 300,050 233,649
Amortization of deferred acquisition costs 115,800 111,655
Premium and discount amortization (68,231) (36,003)
Realized gains on investments (170,003) (1,361,310)
Deferred federal income tax expense (benefit) (865,133) 700,102
Decrease (increase) in reinsurance receivable 1,259,515 (50,047)
Decrease (increase) in accrued investment income 36,488 (35,669)
Decrease (increase) in accounts receivable (97,448) 7,672
Decrease (increase) in other assets 652,387 (312,972)
Increase (decrease) in future policy
benefit liability (320,894) 620,965
Increase (decrease) in contract claim liability 96,793 (141,283)
Increase (decrease) in other policyholders'
funds liability 50,484 (18,832)
Increase (decrease) in other liabilities (219,433) 153,078
Increase in minority interest 6,238 300,719
Amortization of deferred loss (gain) on reinsurance (100,156) 93,181
-----------------------
Net cash provided by operating activities 579,636 682,516
-----------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales of investments available for
sale and principal repayments on mortgage loans 5,231,345 4,884,802
Purchases of investments available for sale (8,011,380)(11,191,659)
Net decrease in policy loans 318,167 285,897
Net decrease in short-term investments 11,422,323 5,795,928
Purchase of subsidiaries, net of cash provided by
(used in) acquisitions (1,952,300) 564,355
Purchase of property and equipment (24,746) (14,271)
Net cash provided by investing activities 6,983,409 325,052
-----------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of note payable 1,500,000 --
Principal payments on notes payable (8,487,500) --
Deposits on policy contracts 1,316,280 1,042,461
Withdrawals from policy contracts (2,151,240) (1,727,307)
-----------------------
Net cash used in financing activities (7,822,460) (684,846)
-----------------------
Net increase (decrease) in cash (259,415) 322,722
Cash at beginning of year 385,286 62,564
Cash at end of year $ 125,871 385,286
=======================
</TABLE>
See accompanying notes to consolidated financial statements.<PAGE>
FORTUNE NATIONAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements of Fortune National Corporation
("Fortune" or "the Company"), a majority-owned subsidiary of InsCap
Corporation; Fortune's 63.7% owned subsidiary, Acap Corporation ("Acap"); and
Acap's wholly-owned life insurance subsidiaries, American Capitol Insurance
Company ("American Capitol"), Family Life Insurance Company of Texas
("Family"), Imperial Plan, Inc. ("Imperial Plan"), Texas Imperial Life
Insurance Company ("Texas Imperial"), through September 30, 1995, Trans-Western
Life Insurance Company ("Trans-Western") and, since February 2, 1995, Oakley-
Metcalf Insurance Company ("Oakley"). All significant intercompany
transactions and accounts have been eliminated in consolidation.
The Company is a life insurance holding company that focuses on the acquisition
of existing life insurance policies, either through direct purchase or the
acquisition of insurance companies. The Company's life insurance operations
are conducted through Acap's wholly-owned life insurance subsidiaries.
Operations are conducted from the corporate headquarters in Houston, Texas.
Approximately half of the Company's direct collected premium comes from
residents of the State of Texas, with no other state generating as much as 10%
of the Company's direct collected premium.
BASIS OF PRESENTATION
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles. Such accounting principles differ
from prescribed statutory reporting practices used by the insurance subsidiary
in reporting to state regulatory authorities. The more significant differences
from statutory accounting principles are: (a) acquisition costs related to
acquiring new business are deferred and amortized over the expected lives of
the policies rather than being charged to operations as incurred; (b) future
policy benefits are based on estimates of mortality, interest and withdrawals
generally representing the Company's experience, which may differ from those
based on statutory mortality and interest requirements without consideration of
withdrawals; (c) deferred federal income taxes are provided for temporary
differences between assets and liabilities reported for financial reporting
purposes and reported for federal income tax purposes; (d) certain assets
(principally furniture and equipment, agents' debit balances and certain other
receivables) are reported as assets rather than being charged to retained
earnings; (e) investments in fixed maturities available for sale are recorded
at fair value rather than at amortized cost; and (f) for acquisitions
accounted for as a purchase, the identified net assets of the acquired company
are valued at their fair values and the excess of the value of the
consideration over the net assets assumed is amortized over a period not to
exceed forty years; whereas, for statutory purposes, acquisitions are accounted
for as equity investments.
Generally, the net assets of the Company's insurance subsidiaries available for
transfer to the parent company are limited to the amounts that the insurance
subsidiaries' statutory net assets exceed minimum statutory capital
requirements; however, payment of the amounts as dividends may be subject to
approval by regulatory authorities. As of December 31, 1995, the amount of
dividends available to the parent company from subsidiaries not limited by such
restrictions is approximately $260,000. The combined net income of the
Company's insurance subsidiaries (where applicable, from the date such
subsidiary was acquired), as determined using statutory accounting practices,
was $7,454,344 and $2,871,495 for the years ended December 31, 1995 and 1994,
respectively. The consolidated statutory stockholders' equity of the Company's
insurance subsidiaries amounted to $2,716,261 and $2,704,711 at December 31,
1995 and 1994, respectively. The total adjusted statutory stockholders' equity
of the Company's insurance subsidiaries exceeds the applicable Risk-Based
Capital requirements.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amount of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Certain prior year amounts have been reclassified to conform to the current
year presentation.
INVESTMENTS
Investments are reported on the following bases:
All of the Company's debt and equity securities are accounted for in accordance
with Statement of Financial Accounting Standards ("SFAS") No. 115 and are
classified as available-for-sale securities. Accordingly, such securities are
reported at fair value, with unrealized gains and losses, net of taxes,
excluded from earnings and reported in a separate component of stockholders'
equity.
Mortgage loans on real estate are carried at unpaid principal balances.
Policy loans are carried at their unpaid principal balances. Policy loans
consist primarily of automatic borrowings against a policy's cash surrender
value to pay policy premiums. Interest accrues at rates ranging from 5% to
10%.
Real estate consists of the home office property. The home office building is
carried at cost less accumulated depreciation. Depreciation is computed using
the straight-line method over twenty years. Accumulated depreciation at
December 31, 1995 was $51,250. Tenant improvements are amortized over the term
of the lease. Land is carried at the lower of cost or fair value. Foreclosed
real estate is carried at the lower of cost or fair value determined at the
date of foreclosure.
Short-term investments, consisting primarily of commercial paper, are carried
at cost.
Write-downs and other realized gains and losses, determined on the specific
identification method, are accounted for in the consolidated statements of
operations in net realized investment gains or losses.
DEFERRED ACQUISITION COSTS
Costs which vary with and are primarily related to the production of new
business have been deferred to the extent that such costs are deemed
recoverable through future revenues. These costs principally include
commissions and certain costs of policy issuance and underwriting. For
universal life-type contracts, deferred costs are amortized in relation to the
present value of expected future gross profits from the contracts. For
traditional contracts, deferred costs are amortized in relation to future
anticipated premiums. The deferred costs are reviewed to determine that the
unamortized portion of such costs does not exceed recoverable amounts.
Management believes such amounts are recoverable.
The cost of policies acquired through the purchase of insurance companies,
representing the actuarially determined present value of projected future
profits from policies in force at the purchase date, is deferred and amortized
with interest of 7% to 9% over the policies' estimated lives.
The deferred acquisition costs for the year ended December 31, 1995 are
summarized as follows:
<TABLE>
<S> <C>
Balance at December 31, 1994 $ 3,354,237
Amortized during the year (115,800)
Insurance in force acquired 564,272
Insurance in force ceded (2,023,654)
-----------
Balance at December 31, 1995 $ 1,779,055
===========
</TABLE>
On January 4, 1995, the Company increased the amount of reinsurance on the
Family life policies from 20% to 100% which resulted in a $1,459,382 decrease
in deferred acquisition costs.
PROPERTY AND EQUIPMENT
Property and equipment are carried at cost. Depreciation is computed using the
straight-line method over the estimated useful lives, which range from five to
ten years. Depreciation expense was $44,907 and $50,206 for the years ended
December 31, 1995 and 1994, respectively. When assets are retired or otherwise
disposed of, the cost and related accumulated depreciation are removed from the
accounts, and any resulting gains or losses are recognized in income for the
period. The cost of maintenance and repairs is charged to income as incurred;
significant renewals and betterments are capitalized.
COSTS IN EXCESS OF NET ASSETS OF ACQUIRED BUSINESS
The costs in excess of net assets of acquired business are amortized on a
straight-line basis over periods of seven years, twenty years and forty years.
RECOGNITION OF PREMIUM REVENUE AND RELATED EXPENSES, LIABILITY FOR FUTURE
POLICY BENEFITS AND CONTRACT CLAIMS
For traditional insurance contracts, premiums are recognized as revenue when
due. Benefits and expenses are associated with earned premiums so as to result
in their recognition over the premium paying period of the contracts. Such
recognition is accomplished by means of the provision for future policy
benefits and the amortization of deferred policy acquisition costs.
For contracts with mortality risk that permit the Company to make changes in
the contract terms (such as interest-sensitive whole life policies), premium
collections and benefit payments are accounted for as increases or decreases to
a liability account rather than as revenue and expense. In addition, decreases
to the liability account for the costs of insurance and policy administration
and for surrender penalties are recorded as revenues. Interest credited to the
liability account and benefit payments made in excess of a contract liability
account balance are charged to expense.
For investment contracts without mortality risk (such as deferred annuities),
net premium collections and benefit payments are recorded as increases or
decreases in a liability account rather than as revenue and expense. Surrender
penalties are recorded as revenues. Interest credited to the liability account
is charged to expense.
Reserves for traditional contracts are calculated using the net level premium
method and assumptions as to investment yields, mortality, withdrawals and
dividends. The assumptions are based on past and expected experience and
include provisions for possible unfavorable deviation. These assumptions are
made at the time the contract is issued or, for contracts acquired by purchase,
at the purchase date. Interest assumptions used to compute reserves ranged
from 4% to 9% at December 31, 1995.
Reserves for universal life-type and investment contracts are based on the
contract account balance if future benefit payments in excess of the account
balance are not guaranteed, or the present value of future benefit payments
when such payments are guaranteed.
The liability for contract claims represents the liability for life insurance
claims reported in excess of the related policy benefit reserve plus an
estimate of claims incurred but not reported.
EARNINGS PER COMMON SHARE
Earnings per common share were computed as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1995 1994
---- ----
<S> <C> <C>
Net income (loss) $ (96,821) 417,611
Divided by weighted average common shares
outstanding 2,616,984 2,616,984
---------- ---------
Net income (loss) per share $ (0.04) 0.16
========== =========
</TABLE>
PARTICIPATING POLICIES
Fortune maintains both participating and non-participating life insurance
policies. Participating business represented approximately 11% and 10% of the
life insurance in force, and 8% of life insurance premium income at December
31, 1995 and 1994, respectively. Dividends to participating policyholders are
determined annually and are payable only upon declaration of the Boards of
Directors of the insurance subsidiaries.
FEDERAL INCOME TAXES
The Company accounts for income taxes in accordance with SFAS No. 109. SFAS
No. 109 requires that a deferred tax liability be recognized for all taxable
temporary differences and a deferred tax asset be recognized for an
enterprise's deductible temporary differences and operating loss and tax credit
carryforwards. A deferred tax asset or liability is measured using the
marginal tax rate that is expected to apply to the last dollars of taxable
income in future years. The effects of enacted changes in tax laws or rates
are recognized in the period that includes the enactment date.
STATEMENT OF CASH FLOWS
For purposes of reporting cash flows, cash includes cash on hand, in demand
accounts, in money market accounts and in savings accounts.
ACCOUNTING STANDARDS
In May 1993, the FASB issued SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan." SFAS No. 114 requires a creditor to measure impairment
of a loan based on the fair value of the collateral when the creditor
determines that foreclosure is probable. A creditor is required to recognize
impairment by creating a valuation allowance. If there is a significant change
(increase or decrease) in the fair value of the collateral, the creditor is
required to recalculate impairment and adjust the valuation allowance. In
1994, the FASB amended SFAS No. 114 through SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosures," to
allow a creditor to use existing methods for recognizing income on impaired
loans. The Company adopted these standards in 1995 without impact to the
financial statements.
In March 1995, the FASB issued SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of." SFAS No. 121,
which must be adopted for fiscal years beginning after December 15, 1995,
establishes accounting standards for the impairment of long-lived assets,
certain identifiable intangibles, and goodwill related to (1) those assets to
be held and used in the business, and (2) for assets to be disposed of. The
Company does not anticipate a material effect of the financial statements from
this new accounting standard.
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 123 provides a choice for accounting for employee
stock compensation plans. A company can elect to use the new fair-value-based
method of accounting for employee stock compensation plans, under which
compensation cost is measured and recognized in results of operations, or
continue to account for these plans under the current accounting standards.
Entities electing to remain with the present accounting method must make
disclosures of what net income and earnings per share would have been if the
fair-value-based method of accounting had been applied. SFAS No. 123 must be
adopted in 1996. The Company has not yet selected which accounting option it
will adopt, however, the Company currently has only immaterial stock options
outstanding and therefore does not expect the adoption of SFAS No. 123 to have
a material effect on the financial statements.
2. ACQUISITIONS
On August 31, 1994, the Company, through American Capitol, acquired Family for
$6,665,886. Funding for the acquisition was provided by the working capital of
American Capitol and a $5 million surplus debenture issued to the seller. The
acquisition has been accounted for using the purchase method of accounting;
accordingly, the identified assets acquired and liabilities assumed were valued
at their fair values and the excess of the amount paid over the net assets
acquired is being amortized over seven years. The results of operations of
Family are included with the Company's from the date of purchase.
Unaudited pro forma results of operations of the Company for 1994 as if the
acquisition of Family had occurred at the beginning of the year are as follows:
<TABLE>
<CAPTION>
1994
-----
<S> <C>
Total revenue $6,019,213
Net income 729,880
Net income per common share 0.28
</TABLE>
Also during 1994, the Company, through American Capitol, acquired two other
life insurance companies, Trans-Western and Texas Imperial. In 1995, the
Company, through Texas Imperial, acquired one other life insurance company,
Oakley. On September 30, 1995, the Company transferred Trans-Western's
policies in force to Texas Imperial and sold Trans-Western to an unrelated
third party. All of these transactions were immaterial to the Company's
consolidated financial statements.
3. INVESTMENTS
FIXED MATURITY AND EQUITY SECURITIES
The amortized cost and estimated fair value of fixed maturity securities at
December 31, 1995, by contractual maturity, are shown below. Expected
maturities will differ from contractual maturities because borrowers may have
the right to call or prepay obligations with or without call or prepayment
penalties.
<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
---- -----
<S> <C> <C>
Maturing in one year or less $ 373,953 375,754
Maturing after one year through five years 7,292,141 7,384,679
Maturing after five years through ten years 6,864,727 7,275,456
Maturing after ten years 3,909,123 4,360,018
------------ ------------
18,439,944 19,395,907
Mortgage-backed securities 9,506,424 10,419,171
$ 27,946,368 $ 29,815,078
============ ============
</TABLE>
A summary of mortgage-backed securities by type as of December 31, 1995
follows:
<PAGE>
<TABLE>
<S> <C>
Collateralized mortgage obligations:
Planned amortization class $ 5,492,382
Z 2,249,531
Sequential 1,890,614
Other 160,689
------------
9,793,216
Pass-through securities 625,955
------------
$10,419,171
=============
</TABLE>
With a planned amortization class security, early repayments are applied first
to other tranches, and cash flows originally applicable to other tranches are
first applied to the planned amortization class tranche if that tranche's
originally scheduled cash flows are received later than expected. The Z
tranche defers all interest to other tranches until those tranches are paid
down, at which time accumulated interest and principal are paid to this class.
Sequential tranches are not supported by other tranches.
The amortized cost and fair values of investments in fixed maturity and equity
securities as of December 31, 1995 are as follows:
<TABLE>
<CAPTION> GROSS GROSS
AMORTIZED UNREALIZED UNREALED FAIR
COST GAINS LOSSES VALUE
--------- --------- -------- -----
<S> <C> <C> <C> <C>
Fixed maturity securities:
Government securities $ 3,318,630 120,720 (235) 3,439,115
Corporate securities 11,368,811 710,566 (23,233) 12,056,144
Asset-backed securities 3,752,505 148,954 (811) 3,900,648
Mortgage-backed securities 9,506,422 943,258 (30,509) 10,419,171
----------- --------- -------- ----------
27,946,368 1,923,498 (54,788) 29,815,078
----------- --------- -------- ----------
Equity securities 14,474 -- (3,536) 10,938
----------- --------- -------- ----------
$27,960,842 1,923,498 (58,324) 29,826,016
=========== ========= ======== ==========
</TABLE>
A summary of proceeds from the sales of investments in fixed maturity
securities, exclusive of proceeds from maturities, and the gross gains and
losses realized on those sales follows:
<PAGE>
<TABLE>
<CAPTION>
1995 1994
----- ----
<S> <C> <C>
Proceeds on sales $3,297,458 1,785,507
========== =========
Gross realized gains on sales $149,889 19,044
Gross realized losses on sales (43,226) (27,796)
---------- --------
Net realized gains (losses) on sales 106,663 (8,752)
Realized gains on transactions other than sales 3,475 62
-------- --------
Net realized gains (losses) $110,138 (8,690)
========= ========
</TABLE>
As of December 31, 1995, 100% of the Company's fixed maturity securities were
rated investment grade (i.e., rated BBB-/Baa3 or higher by Standard & Poor or
Moody).
MORTGAGE LOANS
The weighted average interest rate of mortgage loans held as of December 31,
1995 and 1994 was 9.8% and 9.7%, respectively.
The distribution of principal balances on mortgage loans held as of December
31, 1995 by contractual maturity follows. Actual maturities may differ from
contractual maturities because borrowers may have the right to prepay
obligations with or without prepayment penalties.
<TABLE>
<CAPTION> PRINCIPAL
BALANCE
-------
<S> <C>
Maturing in one year or less $ 145,453
Maturing after one year through five years 838,003
Maturing after five years through ten years 141,999
----------
$1,125,455
==========
</TABLE>
The distribution of mortgage loans, net of any applicable valuation allowance,
by class of loan and geographic distribution follows:
<TABLE>
<CAPTION>
Principal
Balance
---------
<S> <C>
Commercial loans:
Texas $ 847,733
Louisiana 123,821
---------
$ 971,554
==========
Residential loans:
Texas $ 117,443
Louisiana 36,458
----------
$ 153,901
==========
<PAGE>
INVESTMENT INCOME
A summary of net investment income follows:
</TABLE>
<TABLE>
<CAPTION>
1995 1994
---- ----
<S> <C> <C>
Interest on fixed maturities $1,257,211 1,185,092
Interest on mortgage loans 115,895 312,219
Interest on policy loans 44,721 37,574
Interest on cash and short-term investments 114,375 221,800
Real estate income 40,600 7,554
Dividends on equity securities 5,632 4,462
Miscellaneous investment income 42,943 83,192
---------- ---------
1,621,377 1,851,893
Investment expense (289,425) (114,195)
---------- ---------
$1,331,952 1,737,698
========== =========
</TABLE>
UNREALIZED INVESTMENT GAINS (LOSSES)
The change between cost and fair value for fixed maturity and equity
securities, net of taxes, follows:
<TABLE>
<CAPTION>
FIXED EQUITY
MATURITIES SECURITIES TOTAL
---------- ---------- -----
<S> <C> <C> <C>
Balance, January 1, 1994 $ 175,194 (1,133) 174,061
Change during the year (680,990) (13,098) (694,088)
------------ --------- ----------
Balance, December 31, 1994 (505,796) (14,231) (520,027)
Change during the year 1,362,299 18,720 1,381,019
------------ --------- ----------
Balance, December 31, 1995 $ 856,503 4,489 860,992
============ ========= ==========
</TABLE>
<PAGE>
NET REALIZED INVESTMENT GAINS
A summary of net realized investment gains follows:
<TABLE>
<CAPTION>
1995 1994
---- ----
<S> <C> <C>
Fixed maturities $ 110,138 (8,690)
Equity securities (including investment
in subsidiaries) 59,865 --
Mortgage loans --- 1,450,000
Real estate --- (80,000)
--------- ----------
$ 170,003 1,361,310
========== =========
</TABLE>
OTHER INVESTMENT DISCLOSURES
At December 31, 1995, bonds with a fair value of $5,386,146 and a $25,000
certificate of deposit were on deposit with various regulatory authorities.
Investments, other than investments issued or guaranteed by the United States
Government or a United States Government agency or authority, in excess of 10%
of stockholders' equity at December 31, 1995, were as follows:
<TABLE>
<CAPTION>
BALANCE
SHEET AMOUNT CATEGORY
------------ --------
<S> <C> <C>
Home office building and property $ 1,505,325 Real estate
EQCC Home Equity 1,429,025 Fixed maturity
Standard Credit Card 1,165,686 Fixed maturity
BankAmerica Corporation 982,435 Fixed maturity
Ford Motor Credit Corporation 891,905 Fixed maturity
Goldman Sachs 831,280 Fixed maturity
Commercial Credit Corporation 670,747 Fixed maturity
</TABLE>
<PAGE>
4. FAIR VALUES
The carrying values and estimated fair values of the Company's financial
instruments as of December 31, 1995 are as follows:
<TABLE>
<CAPTION>
Carrying Amount Fair Value
--------------- ----------
<S> <C> <C>
Assets:
Fixed maturities $ 29,815,078 29,815,078
Equity securities 10,938 10,938
Mortgage loans 1,125,455 1,235,658
Policy loans 6,634,336 6,634,336
Short-term investments 1,710,747 1,710,747
Liabilities:
Note payable 1,312,500 1,312,500
</TABLE>
Estimated market values of publicly-traded fixed maturity and equity securities
are as reported by an independent pricing service. Estimated market values of
fixed maturity securities not actively traded in a liquid market are estimated
using a third party pricing system, which uses a matrix calculation assuming a
spread over U.S. Treasury bonds.
Fair values of mortgage loans are estimated by discounting expected cash flows,
using market interest rates currently being offered for similar loans.
Policy loans have no stated maturity dates and are a part of the related
insurance contracts. Accordingly, it is not practicable for the Company to
estimate a fair value for them.
For short-term investments, the carrying amount is a reasonable estimate of
fair value.
In that the note payable is a floating rate instrument, the principal balance
is a reasonable estimate of the note's fair value.<PAGE>
5. NOTES PAYABLE
In connection with American Capitol's purchase of Family, American Capitol
issued a $5,000,000 surplus debenture. The debenture was a balloon note
maturing on January 4, 1995, bearing interest at the rate of 7.5%. The
debenture was payable only out of the statutory equity of American Capitol in
excess of $2,000,000. Acap guaranteed American Capitol's performance under the
debenture by pledging the common stock of American Capitol owned by Acap as
security. The debenture was repaid in full on January 31, 1995.
At December 31, 1994, Family had a $3.3 million balloon note payable maturing
January 4, 1995, bearing interest at the rate of 6%. The note was repaid in
full on January 31, 1995.
As a source of funds to repay the $5 million surplus debenture issued in
connection with the acquisition of Family, on January 31, 1995, Acap borrowed
$1.5 million from Central National Bank of Waco, Texas. The note is renewable
by the bank each April 30 until fully repaid. The note bears interest at a
rate equal to the base rate of a bank plus 1%. Principal payments on the note
of $62,500 (a six year amortization) are due quarterly beginning April 30,
1995. The note is secured by Acap's pledge of all the outstanding shares of
Acap's subsidiary, American Capitol. The loan agreement contains certain
restrictions and financial covenants. Without the written consent of the bank,
Acap may not incur any debt, pay common stock dividends or sell any substantial
amounts of assets. Also, American Capitol is subject to minimum statutory
earnings and capital and surplus requirements during the loan term. Acap is in
compliance with all of the terms of the loan.
6. COMMITMENTS AND CONTINGENCIES
LEASES
The Company acquired its home office building on September 28, 1994, and has
had no material leases since that date. Rent expense was $10,020 for 1995 and
$85,578 for 1994.
REINSURANCE
The Company accounts for reinsurance in accordance with Statement of Financial
Account Standards No. 113. In accounting for reinsurance, amounts paid or
deemed to have been paid for reinsurance contracts are recorded as reinsurance
receivables. The cost of reinsurance related to long-duration contracts is
accounted for over the life of the underlying reinsured policies using
assumptions consistent with those used to account for the underlying policies.
At December 31, 1995, reinsurance receivables with a carrying value of $26.6
million were associated with a single reinsurer, Crown Life Insurance Company
("Crown"). At December 31, 1994, Crown had assets in excess of $7 billion and
stockholders' equity of approximately $0.4 billion. Crown is rated "Excellent"
by A.M. Best Company, an insurance company rating organization. At December
31, 1995, reinsurance receivables with a carrying value of $4.2 million were
associated with Alabama Reassurance Company ("Alabama Re"). The Alabama Re
reinsurance receivables are secured by trust accounts containing letters of
credit totalling $6.6 million granted in favor of the applicable insurance
subsidiary of the Company.
The Crown and Alabama Re reinsurance treaties are representative of a key use
of reinsurance by the Company. Immediately following the purchase of a block
of life insurance policies through the Company's acquisition program, the
Company may reinsure all or a portion of the acquired policies. By doing so,
the Company seeks to recover all or a portion of the purchase price of the
acquired policies and transfer the risks associated with the policies to the
reinsurer. The Company retains the administration of the reinsured policies
and seeks to profit from the compensation the Company receives from the
reinsurer for such policy administration. The Company is entitled, but not
obligated, to recapture the policies at a price determined by a formula in the
reinsurance treaty.
With regard to the policies not 100% reinsured with Crown or Alabama Re, the
purpose of reinsurance is to limit the Company's exposure to loss on any single
insured. The Company reinsures the portion of risks in excess of a maximum of
$50,000 on the life of any individual through various reinsurance contracts,
primarily of the coinsurance and yearly renewable term type.
The Company is contingently liable for amounts ceded to reinsurers in the event
the reinsurers are unable to meet their obligations assumed under the
reinsurance agreements. The Company evaluates the financial condition of its
reinsurers and monitors concentrations of credit risk to minimize its exposure
to significant losses from reinsurer insolvencies. Other than its exposure to
Crown and Alabama Re as discussed above, management does not believe the
Company has significant concentrations of credit risk related to reinsurance,
or otherwise.
The effect of reinsurance on premiums and benefits follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1995 1994
-------------------------
<S> <C> <C>
Direct premiums $ 7,884,105 6,197,219
Reinsurance assumed 3,655 132,883
Reinsurance ceded (6,305,896) (5,224,900)
------------ -----------
Net premiums $ 1,581,864 1,105,202
============ ===========
Direct policy benefits $ 5,059,540 7,026,411
Reinsurance assumed (26) 16,328
Reinsurance ceded (3,213,215) (5,717,353)
------------ -----------
Net policy benefits $ 1,846,299 1,325,386
============ ===========
</TABLE>
LITIGATION
Fortune and its subsidiaries are involved in various lawsuits and legal actions
arising in the ordinary course of operations. Management is of the opinion
that the ultimate disposition of the matters will not have a material adverse
effect on Fortune's financial position.
7. FEDERAL INCOME TAXES
Fortune files a separate federal income tax return. Acap and American Capitol
file a consolidated federal income tax return. The other subsidiaries of the
Company file separate federal income tax returns.
At December 31, 1995, Fortune has a remaining tax net operating loss carryover
of approximately $1,000,000 that will expire between now and the year 2006 if
not previously utilized. At December 31, 1995, Acap has a remaining tax net
operating loss carryover of approximately $1,100,000 that will expire during
the years 2001 through 2008 if not previously utilized. At December 31, 1995,
the Company had alternative minimum tax carryforwards of approximately $349,000
that are available for an indefinite period to reduce future regular federal
income taxes and capital tax loss carryforwards of approximately $139,000 that
will expire in the year 2000 if not previously utilized.
A portion of life insurance taxable income generated prior to 1984 is not
taxable unless it exceeds certain statutory limitations or is distributed to
stockholders, in which case it becomes taxable at ordinary corporate rates.
Such income is accumulated in a Policyholders' Surplus account that, at
December 31, 1995, had a balance of approximately $4,600,000. No provision has
been made for income taxes related to this accumulation.
A reconciliation of income tax expense for the years 1995 and 1994 computed at
the applicable federal tax rate of 34% to the amount recorded in the
consolidated financial statements is as follows:
<TABLE>
<CAPTION>
1995 1994
----- -----
<S> <C> <C>
Federal income tax expense at statutory rate $ 84,675 645,497
Small life insurance company special deduction (596,918) (336,989)
Change in valuation allowance 583,189 504,484
Tax underpayment (refund) 15,084 (57,519)
Other, net 53,564 265,151
---------- ---------
Total federal income tax expense $ 139,594 1,020,624
========== ==========
</TABLE>
The tax effects of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities at December 31, 1995
are as follows:
<PAGE>
<TABLE>
<S> <C>
Deferred Tax Assets:
Deferred gain on reinsurance $ 591,968
Allowance for investment losses 185,140
Policy reserves and policy funds 271,052
Net operating loss carryforwards 387,512
Alternative minimum tax credit carryforwards 118,753
Other 112,319
----------
Total gross deferred tax assets 1,666,744
Less: Valuation allowance (1,517,166)
----------
Deferred tax assets 149,578
----------
Deferred Tax Liabilities:
Deferred policy acquisition costs 460,396
Policy reserves and policy funds 1,349,636
Net unrealized losses on available-for-sale securities 505,497
Deferred cost of reinsurance 301,854
Other 12,682
------------
Deferred tax liabilities 2,630,065
------------
Net deferred tax liability $(2,480,487)
</TABLE>
A valuation allowance of $1,517,166 was established at December 31, 1995 against
the deferred tax asset. The net change in the total valuation allowance for
the years ended December 31, 1995 and 1994 was an increase of $426,637 and
$504,484, respectively. Management believes that it is more likely
than not that the net deferred tax asset is recoverable.
8. SUPPLEMENTAL INFORMATION REGARDING CASH FLOWS
Cash payments for interest expense for the years ended December 31, 1995 and
1994 were $418,876 and $0, respectively. Cash payments of $1,017,013 and
$744,291 for federal income taxes were made during the years ended December 31,
1995 and 1994, respectively.
The reinsurance agreement entered into by the Company in 1994 with an
unaffiliated reinsurer covering 20% of each of Family's life policies was a
non-cash transaction. Family transferred assets of $379,069 and liabilities of
$1,012,390 and recognized a deferred gain on reinsurance of $633,321 to be
amortized over the life of the policies. On January 4, 1995, Family increased
the amount of reinsurance on each of its life policies from 20% to 100%. The
increase in the reinsurance percentage of the Family policies and a reinsurance
agreement entered into by the Company with an unaffiliated reinsurer covering
100% of each of the life policies acquired with Oakley were non-cash
transactions. In connection with those transactions, the Company transferred
assets of $2,020,065 and liabilities of $3,259,418 and recognized a deferred
gain on reinsurance of $1,239,353 to be amortized over the life of the
policies.
In connection with the acquisition of Family in 1994, a $5,000,000 surplus
debenture was issued to the seller, which was a non-cash transaction.
In 1994, the Company reacquired its home office property in partial
satisfaction of the mortgage loan outstanding on the property, which was a non-
cash transaction.
The following reflects assets acquired and liabilities assumed relative to the
acquisitions by the Company of three life insurance companies in 1994 and one
life insurance company in 1995, the consideration given for such acquisitions
and the net cash flow relative to such acquisitions.
<TABLE>
<CAPTION>
1995 1994
---- ----
<S> <C> <C>
Assets of acquired subsidiaries $ 4,393,403 28,504,392
Liabilities of acquired subsidiaries (1,833,887) (20,763,913)
Excess of cost over net assets acquired -- 316,074
--------------------------
Cost of acquisition $ 2,559,516 8,056,553
==========================
Cash paid for acquisitions $ 2,559,516 3,056,553
Surplus debenture issued -- 5,000,000
--------------------------
Cost of acquisition $ 2,559,516 8,056,553
==========================
Net cash from acquisitions:
Cash of acquired companies $ 607,216 3,620,908
Cash paid for acquisitions (2,559,516) (3,056,553)
--------------------------
Net cash provided from (used by) acquisitions $(1,952,300) 564,355
==========================
</TABLE>
9. AMERICAN CAPITOL KEY EMPLOYEE STOCK OPTION PLAN
On July 18, 1988, the Board of Directors of American Capitol approved a Key
Employee Stock Option Plan ("the Plan"). Under the terms of the non-qualified
Plan, the Compensation Committee of the Board of Directors of American Capitol
is authorized to grant stock options to any employee the Compensation Committee
determines is a key employee. The stock options may only be granted on shares
of common stock of Acap or Fortune owned by American Capitol. The options
enable the grantee to purchase the common stock to which the options relate at
the fair market value of the common stock on the date the options were granted.
The options generally expire 20% annually over a five year period and are
exercisable immediately upon grant.
<PAGE>
Stock options granted for Acap common stock are summarized as follows:
<TABLE>
<CAPTION>
NUMBER OF SHARES
----------------
OPTION PRICE 1995 1994
------------ ---- ----
<S> <C> <C> <C>
Outstanding at January 1 $131 1/4 - $187 1/2 102 102
Cancelled during the year $131 1/4 (34) --
---------------
Outstanding at December 31 $187 1/2 68 102
===============
Available for future grant 173 139
===============
</TABLE>
Stock options granted for Fortune common stock are summarized as follows:
<TABLE>
<CAPTION>
NUMBER OF SHARES
------------------
OPTION PRICE 1995 1994
---- ----
<S> <C> <C> <C>
Outstanding at January 1 $11/32 - $3/8 35,000 35,000
Cancelled during the year $3/8 (10,000) --
-------------------
Outstanding at December 31 $11/32 25,000 35,000
===================
Available for future grant 46,571 36,571
===================
</TABLE>
10. CAPITAL STOCK
Fortune has two classes of capital stock: preferred stock ($25 par value,
authorized 1,000,000 shares) and common stock ($1 par value, 4,000,000 shares
authorized).
PREFERRED STOCK
Preferred stock may be issued in series with such dividend, liquidation,
redemption, conversion, voting, and other rights as the Board of Directors may
determine. At minimum, if six quarterly dividends are unpaid and past due, the
holders of preferred stock may elect two directors to Fortune's Board. Any
dividends and liquidating distributions of the preferred stock are payable in
preference to common stock. No preferred stock has been issued and outstanding
during the two years ended December 31, 1995.
COMMON STOCK
Under an exchange agreement between Fortune and Acap, Fortune is obligated to
provide Acap with such shares of Common Stock as are necessary for Acap to meet
its obligations under a certain series of Acap preferred stock. The terms of
the Acap preferred stock permit the holders to exchange their shares of the
preferred stock, valued for such purpose at $27.50 per share, for Common Stock,
valued for such purpose at $2.50 per share. The exchange agreement between
Fortune and Acap provides for payment by Acap to Fortune for the Common Stock
to consist of shares of Acap common stock of equal value to the Common Stock
transferred to Acap.
There was no activity related to Common Stock for the years ended December 31,
1995 and 1994.
11. SUBSEQUENT EVENTS
At its meeting on March 25, 1996, the Company's Board of Directors unanimously
voted in favor of a plan of dissolution and liquidation (the "Plan") and
directed that the Plan be submitted to a vote of the Company's stockholders at
the Annual Stockholder Meeting to be held on May 6, 1996. InsCap Corporation,
the majority stockholder of the Company, has indicated that it plans to vote in
favor of the Plan, which assures the approval of the Plan. The record date for
determining stockholders of record both for purposes of voting at the Annual
Stockholder Meeting and for the distribution of assets pursuant to the Plan is
March 27, 1996.
Except for a relatively small amount of cash (approximately $2,200 at December
31, 1995), the Company's assets consist solely of 5,421 shares of common stock
("Acap stock") of its majority-owned subsidiary, Acap. The Company's
stockholders are entitled, upon liquidation, to receive, pro rata, the Acap
stock.
As further provided in the Plan, no fractional shares of Acap stock will be
issued. Within certain limitations defined in the Plan, Company stockholders
who, as a result of the liquidation, have "odd lot" shares (as defined in the
Plan), have the option of either receiving cash for their odd lot shares or of
purchasing additional shares of the Company's common stock to round up to the
next whole share of Acap stock.<PAGE>
FORTUNE NATIONAL CORPORATION
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Fortune National Corporation
We have audited the accompanying consolidated balance sheet of Fortune National
Corporation and subsidiaries as of December 31, 1995, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the years ended December 31, 1995 and 1994. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Fortune National
Corporation and subsidiaries as of December 31, 1995, and the results of their
operations and their cash flows for the years ended December 31, 1995 and 1994
in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the Company
adopted the provisions of the Financial Accounting Standards Board's Statement
of Financial Accounting Standard No. 114, "Accounting by Creditors for the
Impairment of a Loan," as amended by Statement of Financial Accounting
Standards No. 118, "Accounting by Creditors for the Impairment of a Loan:
Income Recognition and Disclosures," in 1994.
KPMG Peat Marwick LLP
Houston, Texas
March 25, 1996<PAGE>
FORTUNE NATIONAL CORPORATION
STOCKHOLDER INFORMATION
MARKET INFORMATION
The common stock of Fortune is traded over-the-counter with activity in the
stock reflected nationally on the OTC Bulletin Board electronic quotation
system of the National Association of Securities Dealers. The Company's stock
symbol is FRNC.
The table below presents the range of closing prices for Fortune's common stock
during the two most recent fiscal years.
<TABLE>
<CAPTION>
1995 1994
---- ----
High Low High Low
---- --- ---- ----
<S> <C> <C> <C> <C>
First quarter $.22 .22 .22 .22
Second quarter .22 .13 .22 .22
Third quarter .26 .13 .22 .22
Fourth quarter .26 .06 .22 .22
</TABLE>
For 1994, the prices presented are bid prices, which reflect inter-dealer
transactions and do not include retail mark-ups and mark-downs or any
commission to the parties involved. As such, the prices may not reflect prices
in actual transactions. For 1995,bid quotations were not available from the OTC
Bulletin Board and the prices reflect the range of trading prices reported on
the OTC Bulletin Board.
HOLDERS
The approximate number of holders of record of Fortune's common stock as of
March 22, 1996 was 1,494.
DIVIDENDS
Fortune declared no common stock dividends in 1995 or 1994. At present,
management anticipates that no dividends will be declared or paid with respect
to Fortune's common stock during 1996.
FORM 10-KSB
Stockholders may receive without charge a copy of the Company's Annual Report
on Form 10-KSB filed with the Securities and Exchange Commission by writing to
Lana S. Vaughn, Fortune National Corporation, 10555 Richmond Avenue, Houston,
TX 77042.
TRANSFER AGENT
The registrar and transfer agent for the Company's common stock is Continental
Stock Transfer and Trust Company, 2 Broadway, New York, NY 10004. For a change
of name or address, or to replace lost stock certificates, write to Continental
at the address above or call (212) 509-4000.
<PAGE>
INVESTOR RELATIONS
Requests for information should be directed by mail to Lana S. Vaughn,
Stockholder Services, Fortune National Corporation, 10555 Richmond Avenue,
Houston, TX 77042 or by calling (713) 974-2242.
INDEPENDENT AUDITORS
The Company's financial statements for the year 1995 were audited by the
independent accounting firm of KPMG Peat Marwick LLP, 700 Louisiana, Houston,
TX 77002.
ANNUAL MEETING
Stockholders are invited to attend the Annual Meeting of Stockholders which
will be held on Monday, May 6, 1996 at 8:00 a.m. at the Company's office at
10555 Richmond Avenue, Houston, Texas, on the second floor.
<PAGE>
FORTUNE NATIONAL CORPORATION
DIRECTORS AND OFFICERS
BOARD OF DIRECTORS OF FORTUNE
R. Wellington Daniels
Investor; Retired Director of National Accounts, American Cyanamid
William F. Guest
Chairman of the Board and President, Acap Corporation
C. Stratton Hill, Jr., M.D.
Physician
OFFICERS OF FORTUNE
William F. Guest
Chairman of the Board and President
John D. Cornett
Executive Vice President and Treasurer
Paul L. Clancy
Secretary
H. Kathleen Musselwhite
Assistant Treasurer
OFFICERS OF AMERICAN CAPITOL
William F. Guest
Chairman of the Board
John D. Cornett
President
Paul L. Clancy
Executive Vice President and Secretary
H. Kathleen Musselwhite
Treasurer and Controller
Carolyn M. Rawlins
Assistant Secretary
Linda G. Stark
Assistant Vice President
C. Stratton Hill, Jr., M.D.
Medical Director
FORTUNE NATIONAL CORPORATION
10555 Richmond Avenue Houston, Texas 77042
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMTION EXTRACTED FROM DECEMBER 31, 1995
AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1995
<PERIOD-START> JAN-01-1995
<PERIOD-END> DEC-31-1995
<DEBT-HELD-FOR-SALE> 29,815,078
<DEBT-CARRYING-VALUE> 0
<DEBT-MARKET-VALUE> 0
<EQUITIES> 10,938
<MORTGAGE> 1,125,455
<REAL-ESTATE> 1,505,325
<TOTAL-INVEST> 40,801,989
<CASH> 125,871
<RECOVER-REINSURE> 33,475,296
<DEFERRED-ACQUISITION> 1,779,055
<TOTAL-ASSETS> 80,365,302
<POLICY-LOSSES> 65,181,022
<UNEARNED-PREMIUMS> 0
<POLICY-OTHER> 0
<POLICY-HOLDER-FUNDS> 1,733,485
<NOTES-PAYABLE> 1,312,500
0
0
<COMMON> 2,804,445
<OTHER-SE> 1,475,457
<TOTAL-LIABILITY-AND-EQUITY> 80,365,302
1,581,864
<INVESTMENT-INCOME> 1,331,952
<INVESTMENT-GAINS> 170,003
<OTHER-INCOME> 85,610
<BENEFITS> 1,846,299
<UNDERWRITING-AMORTIZATION> 115,800
<UNDERWRITING-OTHER> 2,576,224
<INCOME-PRETAX> 249,045
<INCOME-TAX> 139,594
<INCOME-CONTINUING> (96,821)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (96,821)
<EPS-PRIMARY> (.04)
<EPS-DILUTED> 0
<RESERVE-OPEN> 672,987
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 612,125
<PAYMENTS-PRIOR> 518,029
<RESERVE-CLOSE> 778,380
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
