UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q/A
[*] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-20882
STANDARD MANAGEMENT CORPORATION
(Exact name of Registrant as specified in its charter)
Indiana No. 35-1773567
(State of incorporation) (I.R.S. employer
identification no.)
9100 Keystone Crossing
Indianapolis, Indiana 46240
(Address of principal executive offices)
(317) 574-6200
(Telephone number)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 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: Yes [*] No [ ]
As of October 31, 1996, the Registrant had 4,774,270 shares of Common Stock
outstanding.
<PAGE>
STANDARD MANAGEMENT CORPORATION
INDEX
PART I. FINANCIAL INFORMATION:
PAGE
Item 1. Financial Statements
Consolidated Balance Sheets -
September 30, 1996 (Unaudited) and December 31, 1995 (Audited)
3
Consolidated Statements of Operations -
For the Three Months and Nine Months Ended September 30, 1996 and 1995
(Unaudited)
5
Consolidated Statements of Shareholders' Equity -
For the Nine Months Ended September 30, 1996 and 1995 (Unaudited)
6
Consolidated Statements of Cash Flows -
For the Nine Months Ended September 30, 1996 and 1995 (Unaudited)
7
Notes to Consolidated Financial Statements (Unaudited)
8
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
11
PART II. OTHER INFORMATION:
Item 5. Other Information
22
Item 6. Exhibits and Reports on Form 8-K
23
Signatures
24
Exhibit 11 - Statement re: Computation of Per Share Earnings -
25
For the Three Months and Nine Months Ended September 30, 1996 and 1995
(Unaudited)
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
STANDARD MANAGEMENT CORPORATION
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
September 30, December 31,
<S> <C> <C>
1996 1995
(Unaudited) (Audited)
ASSETS
Investments:
Securities available for sale:
Fixed maturity securities, at fair value
(amortized cost: $246,640 in 1996 and $225,643 in 1995) $241,713 $232,092
Equity securities, at fair value (cost: $55 in 1996 and $52 in 1995) 77 52
Mortgage loans on real estate, at unpaid principal balances 3,016 2,963
Policy loans, at unpaid principal balances 7,498 8,509
Real estate, at depreciated cost 547 556
Other invested assets 957 1,367
Short-term investments, at cost, which approximates fair value 12,070 35,058
Total investments 265,878 280,597
Cash 4,411 5,762
Amounts due and recoverable from reinsurers 65,047 33,419
Deferred policy acquisition costs 17,977 10,054
Present value of future profits, less accumulated amortization of
$3,063 in 1996 and $2,803 in 1995 15,027 15,246
Excess of acquisition cost over net assets acquired, less
accumulated amortization of $286 in 1996 and $393 in 1995 2,279 3,175
Deferred federal income taxes 194 -
Other assets 8,681 8,640
Assets held in separate accounts 126,987 122,705
Total assets $506,481 $479,598
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
<PAGE>
STANDARD MANAGEMENT CORPORATION
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
September 30, December 31,
<S> <C> <C>
1996 1995
(UNAUDITED) (Audited)
LIABILITIES, REDEEMABLE SECURITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Future policy benefits:
Interest-sensitive annuities and other financial $244,240 $212,500
products
Traditional life insurance 79,623 82,762
Total future policy benefits 323,863 295,262
Policy claims and other policyholders' benefits and funds 2,582 2,572
326,445 297,834
Accounts payable and accrued expenses 4,826 4,880
Class action litigation and settlement liability - 3,000
Obligations under capital lease 753 1,084
Notes payable 5,671 3,107
Deferred federal income taxes - 2,583
Excess of net assets acquired over acquisition cost, less
accumulated amortization of $3,492 in 1996 and
$2,451 in 1995 3,122 4,163
Liabilities related to separate accounts 126,987 122,705
Total liabilities 467,804 439,356
Class S Cumulative Convertible Redeemable Preferred Stock,
par value $10 per share:
Authorized 300,000 shares; issued and outstanding
160,789 shares, redemption value of $10 per share plus
accumulated and unpaid dividends
1,722 -
Shareholders' equity:
Preferred stock, no par value:
Authorized 700,000 shares; none issued and outstanding - -
Common stock, no par value:
Authorized 20,000,000 shares; issued 5,752,499 shares
in 1996 and 5,459,573 shares in 1995 40,997 39,808
Treasury stock, at cost, 978,229 shares in 1996 and
502,025 shares in 1995 (deduction) (4,741) (2,621)
Unrealized gain (loss) on securities available for sale (1,892) 2,582
Foreign currency translation adjustment 717 1,159
Retained earnings (deficit) 1,874 (686)
Total shareholders' equity 36,955 40,242
Total liabilities, redeemable securities
and shareholders' equity $506,481 $479,598
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
<PAGE>
STANDARD MANAGEMENT CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
<S> <C> <C> <C> <C>
1996 1995 1996 1995
Revenues:
Premium income $ 1,289 $ 1,203 $ 8,418 $ 3,543
Net investment income 4,979 4,497 14,371 13,677
Net realized investment gains 222 172 677 505
Gain on disposal of subsidiaries - - 886 -
Policy charges 617 541 1,832 1,645
Amortization of excess of net assets acquired over 347 347 1,041 1,041
acquisition cost
Management fees and similar income from separate accounts 257 236 1,093 724
Other income 258 108 1,172 257
Total revenues 7,969 7,104 29,490 21,392
Benefits and expenses:
Benefits and claims 1,434 1,362 8,657 4,123
Interest credited on interest-sensitive annuities and other
financial products 2,641 2,198 7,645 7,325
Salaries and wages 1,215 1,117 3,678 3,322
Amortization 564 430 1,723 1,351
Other operating expenses 1,263 1,533 5,173 4,473
Interest expense and financing costs 153 24 430 77
Class action litigation and settlement costs (credit) - - - (314)
Total benefits and expenses 7,270 6,664 27,306 20,357
Income before federal income taxes, extraordinary gain on
early 699 440 2,184 1,035
redemption of preferred stock and redeemable preferred
stock dividends
Federal income tax expense (credit) 228 (5) (890) 56
Income before extraordinary gain on early redemption
of preferred stock and redeemable preferred stock dividends 471 445 3,074 979
Extraordinary gain on early redemption of redeemable
preferred stock, 233 - 500 -
net of $- federal income tax
NET INCOME 704 445 3,574 979
Preferred stock dividends 51 - 163 -
Earnings available to common shareholders $653 $445 $3,411 $979
Earnings per share:
Income before extraordinary gain on early redemption of
redeemable preferred stock and preferred stock dividends $ .10 $.08 $.61 $.18
Extraordinary gain on early redemption of redeemable .04 - .09 -
preferred stock
NET INCOME .14 .08 .70 .18
Preferred stock dividends .01 - .02 -
Earnings available to common shareholders $.13 $.08 $.68 $.18
Weighted average number of shares outstanding:
Common shares 4,774,840 5,209,439 4,835,657 5,257,535
Common equivalent shares 165,242 166,956 463,842 90,671
4,940,082 5,376,395 5,299,499 5,348,206
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
<PAGE>
STANDARD MANAGEMENT CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
<S> <C> <C> <C> <C>
Amounts Shares
1996 1995 1996 1995
Common stock:
Balance, beginning of period $39,808 $39,695 5,459,573 5,457,906
Issuance of common stock 100 - 20,000 -
5% common stock dividend 850 - 272,926 -
Issuance of common stock warrants 239 - - -
Issuance of common stock in connection with
exercise - 6 - 1,667
of stock options
Balance, end of period 40,997 39,701 5,752,499 5,459,573
Treasury stock (at cost):
Balance, beginning of period (2,621) (2,221) (502,025) (418,425)
Treasury stock acquired (2,126) (395) (431,026) (82,600)
5% common stock dividend - - (46,402) -
Reissuance of treasury stock in connection
with 6 - 1,224 -
exercise of stock options
Balance, end of period (4,741) (2,616) (978,229) (501,025)
Unrealized gain (loss) on securities:
Balance, beginning of period 2,582 (13,411)
Change in unrealized gain (loss) on
securities available for sale, net (4,474) 13,692
Balance, end of period (1,892) 281
Foreign currency translation adjustments:
Balance, beginning of period 1,159 546
Translation adjustments for the period (442) 804
Balance, end of period 717 1,350
Retained earnings (deficit):
Balance, beginning of period (686) (1,999)
Net income 3,574 979
5% common stock dividend, plus cash in lieu
of (850) -
fractional shares
Loss on reissuance of treasury stock (1) -
Other - (4)
Preferred stock dividend (163) -
Balance, end of period 1,874 (1,024)
Total shareholders' equity and common shares $36,955 $37,692 4,774,270 4,956,881
outstanding
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
<PAGE>
STANDARD MANAGEMENT CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, Dollars in Thousands)
<TABLE>
<CAPTION>
Nine Months Ended
SEPTEMBER 30,
<S> <C> <C>
1996 1995
OPERATING ACTIVITIES
Net income $3,574 $979
Adjustments to reconcile net income
to net cash provided by operating activities:
Amortization of deferred policy acquisition costs 837 814
Policy acquisition costs deferred (4,519) (1,102)
Class action litigation and settlement liability - (637)
Deferred income taxes (471) 419
Depreciation and amortization 308 (79)
Change in future policy benefits 5,995 2,679
Net increase (decrease) in policy claims and
other policyholders' benefits and funds (228) (215)
Net realized investment gains (677) (505)
Decrease (increase) in accrued investment income (244) 641
Extraordinary gain on early redemption of redeemable
preferred stock (500) -
Other (1,318) 3,350
NET CASH PROVIDED BY OPERATING ACTIVITIES 2,757 6,344
FINANCING ACTIVITIES
Issuance of Common Stock - 6
Borrowings 2,600 200
Repayments on borrowings and capital lease obligation (364) (988)
Premiums received on interest-sensitive annuities
and other financial products credited to
policyholder account balances, net of premiums ceded 32,153 10,680
Return of policyholder account balances on
interest-sensitive annuities and other
financial products, net of premiums ceded (12,993) (13,400)
Redemption of redeemable preferred stock (941) -
Proceeds from common and treasury stock sales 106 -
Purchase of common stock for treasury (2,126) (395)
NET CASH USED BY FINANCING ACTIVITIES 18,435 (3,897)
INVESTING ACTIVITIES
Fixed maturity securities available for sale:
Purchases (136,972) (143,025)
Sales 94,247 139,856
Maturities 6,381 2,028
Short-term investments, net 2,647 (1,931)
Other investments, net (68) (186)
Proceeds from sale of property and equipment under
capital lease - 1,396
Proceeds from sale of First International Life Insurance
Company, less cash transferred to seller of $265 11,228 -
NET CASH USED BY INVESTING ACTIVITIES (22,537) (1,862)
Net increase (decrease) in cash (1,351) 585
Cash at beginning of period 5,762 1,604
Cash at end of period $4,411 $2,189
</TABLE>
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
STANDARD MANAGEMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles ("GAAP")
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by GAAP for complete financial statements.
Such principles were applied on a basis consistent with those reflected in the
Standard Management Corporation ("SMC") Annual Report on Form 10-K for the year
ended December 31, 1995. However, certain reclassifications have been made in
the 1995 financial statements to conform with the 1996 presentation.
The results of operations for the interim periods shown in this report
are not necessarily indicative of the results that may be expected for the
fiscal year. This is particularly true in the life insurance industry, where
mortality results in interim periods can vary substantially from such results
over a longer period. In the opinion of management, the information
contained herein reflects all adjustments necessary to make the results of
operations for the interim periods a fair statement of such operations. All
such adjustments are of a normal recurring nature.
The nature of the insurance business of Standard Management Corporation
and its consolidated subsidiaries ("SMC" or "the Company") requires management
to make estimates and assumptions that affect the amounts reported in the
consolidated financial statements and accompanying notes. For example, the
Company uses significant estimates and assumptions in calculating deferred
policy acquisition costs, present value of future profits, goodwill, future
policy benefits and deferred federal income taxes. Such estimates and
assumptions could change in the future as more information becomes known, which
could impact the amounts reported and disclosed herein.
The consolidated financial statements as of and for the three months and
nine months ended September 30, 1996 include the assets and liabilities and
results of operations of Dixie National Life Insurance Company ("Dixie National
Life") which was acquired on October 2, 1995.
For further information, refer to the consolidated financial statements
and footnotes thereto included in the SMC Annual Report on Form 10-K for the
year ended December 31, 1995.
NOTE 2 - COMMON STOCK
SMC declared a 5% stock dividend on shares of its common stock for
shareholders of record on May 17, 1996 which was distributed to shareholders on
June 21, 1996. All applicable number of shares and per share amounts included
in the consolidated financial statements have been retroactively adjusted to
reflect this stock dividend.
NOTE 3 - NOTES PAYABLE
SMC has outstanding borrowings at September 30, 1996 pursuant to a
Revolving Line of Credit Agreement with a bank (the "Credit Agreement") which
provides for it to borrow up to $6,000 in the form of a five-year reducing
revolving loan arrangement, which may be extended to seven years at the
discretion of the bank. At September 30, 1996, the total principal balance
borrowed under the Credit Agreement was $5,600. SMC had borrowed an additional
$2,600 since December 31, 1995 to repurchase its Common Stock and Class S
Cumulative Convertible Redeemable Preferred Stock ("Class S Preferred Stock")
and for general corporate purposes. Borrowings under this Credit Agreement may
be used for contributions to surplus of insurance subsidiaries, acquisition
financing, and repurchases of Class S Preferred Stock and Common Stock of SMC.
Interest on the borrowings under the Credit Agreement is determined, at the
option of SMC, to be: (i) a fluctuating rate of interest to the corporate base
rate announced by the bank from time to time plus 1 percent per annum, or (ii)
a rate at LIBOR plus 3.25 percent. The actual weighted average interest rate
was 8.89 percent at September 30, 1996. The debt is also subject to certain
restrictions and covenants considered ordinary for this type of borrowing.
They include, among others, minimum consolidated equity, positive net income,
and minimum consolidated statutory surplus for SMC's insurance subsidiaries.
Additional covenants
<PAGE>
STANDARD MANAGEMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
include limitations on acquisitions, additional indebtedness, investments, and
mergers, consolidations and sales of assets. As of September 30, 1996, SMC was
in compliance with all restrictions and covenants in the Credit Agreement.
NOTE 4 - REDEEMABLE PREFERRED STOCK
In connection with the class action lawsuit settlement in March 1995,
300,000 shares designated as Class S Preferred Stock, $10.00 per share par
value, were issued February 8, 1996. The Class S Preferred Stock is redeemable
in February 2003, has an 11 percent annual cumulative dividend payable in
February 2003, and is convertible into SMC common stock at $7.62 per share
until February 1998 and $10.00 per share thereafter, subject to adjustment
under a formula intended to protect against dilution.
SMC may voluntarily redeem the Class S Preferred Stock prior to February
2003 at par value plus accumulated and unpaid dividends. As of September 30,
1996, SMC has repurchased and retired 139,211 shares of Class S Preferred Stock
at a cost of $941 primarily paid through borrowings under the Credit Agreement.
These repurchases resulted in an extraordinary gain on early redemption of
redeemable preferred stock of $233 and $500 for the three and nine month
periods ended September 30, 1996, respectively.
NOTE 5 - NET UNREALIZED GAIN (LOSS) ON SECURITIES AVAILABLE FOR SALE
The components of the balance sheet caption "Unrealized gain (loss) on
securities available for sale" in shareholders' equity are summarized as
follows:
<TABLE>
<CAPTION>
SEPTEMBER 30, December 31,
1996 1995
<S> <C> <C>
Fair value of securities available for sale $241,790 $232,144
Amortized cost of securities available for sale 246,695 225,695
Gross unrealized gain (loss) on securities (4,905) 6,449
available for sale
Adjustments for:
Deferred policy acquisition costs 1,860 (2,380)
Present value of future profits 155 (174)
Deferred federal income tax recoverable 996 (1,311)
(liability)
Minority interest 2 (2)
Net $(1,892) $2,582
unrealized gain (loss) on securities available for sale
</TABLE>
NOTE 6 - INCOME TAXES
The effective consolidated federal income tax expense (credit) rate for
SMC and subsidiaries (the "Company") was 33 percent and (41) percent for the
three and nine months ended September 30, 1996, compared to (1) percent and 5
percent for the three and nine months ended September 30, 1995. The large
credit for the nine months ended September 30, 1996 is primarily due to tax
benefits of $1,420 related to the sale of First International Life Insurance
Company ("First International") (SEE NOTE 7). Also, the effective rates in
1995 are less than the statutory rates primarily because the amortization of
excess of net assets acquired over acquisition cost resulting from the
acquisition of Standard Management International is not subject to United
States income tax. The Company also has received the benefits of a special
deduction available to small life insurance companies and the utilization of
operating loss carryforwards in 1995. The benefits of the special deduction
available to small life insurance companies is no longer available because
consolidated assets now exceed $500,000.
<PAGE>
STANDARD MANAGEMENT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 7 - DISPOSAL OF SUBSIDIARIES
On March 18, 1996, Standard Life Insurance Company of Indiana ("Standard
Life"), a wholly-owned subsidiary of SMC, completed the sale of a duplicate
charter associated with its wholly-owned subsidiary, First International, to
Guardian Insurance and Annuity Co., Inc. ("GIAC"), a subsidiary of The Guardian
Life Insurance Company of America, New York, New York. Standard Life received
sale proceeds of $10,393, including $1,500 for the charter and
licenses associated with First International. Standard Life realized a net
pre-tax gain of $1,042 and a tax benefit of $1,420 on this sale or $2,462 for
the nine months ended September 30, 1996. In addition, First International,
Standard Life and GIAC have entered into a series of agreements that include
provisions for Standard Life to continue to administer First International
policies in force at the date of sale and for Standard Life to continue to
receive the profit stream from the majority of First International's in force
business at the date of such sale.
In an unrelated matter, the Company decided in February 1996 to terminate
the reinsurance agreement between Standard Reinsurance of North America Ltd.
("Standard Reinsurance") and Salamandra Joint-Stock Insurance Company in
Ukraine ("Salamandra"), and not to renew the Barbados license of Standard
Reinsurance due to an insignificant amount of reinsurance premium volume. This
resulted in the termination of Standard Reinsurance operations and the write-
off of SMC's investment in Standard Reinsurance and certain intangible assets
of Standard Reinsurance amounting to $156 for the nine months ended September
30, 1996.
The combined effect of the gain on sale of First International and
related contracts, and the Standard Reinsurance write-offs, was an increase in
revenues of $886 and a tax benefit of $1,420, for net income effect of
approximately $2,306 or $.44 per share for the nine months ended September 30,
1996.
NOTE 8 - SUBSEQUENT EVENT
On November 8, 1996, Standard Life acquired through merger Shelby Life
from DLAC, a life insurance company located in Memphis, Tennessee (the "Shelby
Merger"). The purchase price was approximately $14,650; including $13,000 in
cash, 250,000 shares of restricted SMC Common Stock (valued at $1,250) and
acquisition costs of $400 associated with the purchase of Shelby Life.
Financing for the Shelby Merger was provided by senior debt of $10,000 and
$4,000 in subordinated convertible debt.
For GAAP purposes, Shelby Life had $109,892 in total assets and
shareholder's equity of $16,407 at September 30, 1996, and revenues of $8,718
and net income of $1,301 for the nine months ended September 30, 1996.
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
GENERAL
The following discussion highlights the material factors affecting the
results of operations and the significant changes in balance sheet items of the
Company on a consolidated basis for the periods listed as well as the Company's
liquidable and capital resources. This discussion should be read in
conjunction with the consolidated financial statements and notes thereto
included in this document, as well as the Company's Annual Report on Form 10-K
for the year ended December 31, 1995.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995
OPERATING INCOME. The income (loss) from operations (before net realized
investment gains) was $342,000 for the third quarter of 1996, or $.07 per
share, compared to of $323,000 for the third quarter of 1995, or $.06 per
share. The change resulted from international operations producing income from
operations of $105,000 compared to a loss from international operations of
$(73,000) for the third quarter of 1996 and 1995, respectively. The
international operating gains resulted primarily from increased management fees
on an increasing separate account base due to portfolio sales in 1996 and 1995,
coupled with a decrease in marketing costs in 1996 when compared to the third
quarter of 1995. The income from operations in the United States decreased to
$237,000 in 1996 compared to $396,000 in 1995. The decline was attributable to
an increase in interest expense from borrowings to repurchase Common Stock and
Class S Preferred Stock and additional costs to convert the operations and
expand the marketing effort in Dixie National Life.
PREMIUM INCOME. Premium income is composed of premiums, including
renewal premiums, received on ordinary life insurance policies. The Company's
new product sales are composed primarily of annuity products. Under GAAP,
deposits from interest-sensitive annuities and other financial products are not
recorded as revenues. GAAP premium income for the third quarter of 1996 was
$1,289,000, an increase of $86,000 or 7 percent from $1,203,000 for the third
quarter of 1995. The inclusion of Dixie National Life's premium income of
$432,000 in 1996 in the results of operations for periods after October 2, 1995
is offset by the decline in premiums from the cession of a portion of First
International's life insurance business and the regular policy lapses,
surrenders and expiries in the Company's closed blocks of business.
Net premiums received from the sales of interest-sensitive annuities and
other financial products (which are not recorded as revenues) were $13,358,000
compared to $3,664,000 for the third quarter of 1996 and 1995, respectively.
The increase in net premium received is partially due to an increase in gross
domestic premium deposits. Gross domestic premium deposits received from
interest-sensitive annuities and financial products were $15,982,000 for the
three months ended September 30, 1996 compared to $8,409,000 for the three
months ended September 30, 1995. The increase is partially due to an
aggressive marketing campaign implemented by Standard Life with increased
crediting interest rates. Also contributing to the increase in premiums was
the continued development of the Company's distribution system. Since the
Company's operating income is primarily a function of its investment spreads,
persistency of annuity in force business, mortality experience, and operating
expenses, a change in premium deposits in a single period does not directly
cause operating income to change, although continued increases or decreases in
premiums may affect the growth rate of total assets on which investment spreads
are earned.
The Company also decreased the quota-share portion of business ceded
pursuant to a reinsurance agreement, under which 70 percent of a portion of
Standard Life's annuity business pursuant to the terms of the agreement
produced after December 31, 1994 was ceded, to 50 percent at September 1, 1995,
which was further decreased to 25 percent effective April 1, 1996. Premium
deposits ceded pursuant to this reinsurance agreement reduced net premium by
$2,625,000 in the third quarter of 1996 compared to $4,746,000 in 1995.
<PAGE>
NET INVESTMENT INCOME. Net investment income increased $482,000 or 11
percent to $4,979,000 for the third quarter of 1996, from $4,497,000 for the
comparable period of 1995. The increase resulted primarily from an increase in
the average annualized yield of the Company's investment portfolio to 7.57
percent from 7.22 percent for the third quarter of 1996 and 1995, respectively.
NET REALIZED INVESTMENT GAINS. Net realized investment gains increased
$50,000 or 29 percent to $222,000 from $172,000 for the third quarter of 1996
and 1995, respectively. Net realized investment gains fluctuate from period to
period and arise when securities are sold in response to changes in the
investment environment which provide opportunities to maximize return on the
investment portfolio without adversely affecting the quality and overall yield
of the investment portfolio. No significant writedowns on investments were
recorded in 1995 or 1996.
The net unrealized gain (loss) on the Company's securities available for
sale before taxes and other adjustments was $(4,905,000) at September 30, 1996
compared to $6,449,000 at December 31, 1995, reflecting the general rise in
interest rates during the quarter which generally caused the fair value of
fixed maturity securities to decrease. In the absence of decreases in interest
rates the Company may be unable to realize gains on its investment portfolio at
the levels of prior years or could recognize losses from sales of securities
prior to maturity. The change in market value of the Company's fixed maturity
securities is not expected to have a significant effect on results of
operations because the Company has the present intent and practice to hold most
of its available-for-sale fixed maturity securities to maturity and the
Company's asset/liability management activity is designed to monitor and adjust
for the effects of changes in market interest rates.
POLICY CHARGES. Policy charges, which represent the amounts assessed
against policyholder account balances for the cost of insurance, policy
administration and surrenders, increased $76,000 or 14 percent to $617,000 for
the third quarter of 1996 compared to $541,000 for the third quarter of 1995.
The increase in policy charges resulted from the inclusion of Dixie National
Life in operating results for periods after October 2, 1995 and an increase in
policy surrender charges on flexible premium deferred annuities ("FPDAs"),
which offset the absence of policy charges from the Company's closed blocks of
universal life business which were sold to GIAC through a reinsurance contract
effective January 1, 1996.
AMORTIZATION OF EXCESS OF NET ASSETS ACQUIRED OVER ACQUISITION COST.
Amortization of excess of net assets acquired over acquisition cost ("negative
goodwill") is recorded to amortize into earnings the negative goodwill recorded
in connection with the acquisition of Standard Management International in
1993. The negative goodwill is being amortized on a straight-line basis over
five years. Amortization of negative goodwill was $347,000 for the third
quarter of 1996 and 1995.
MANAGEMENT FEES AND SIMILAR INCOME FROM SEPARATE ACCOUNTS. Management
fees and similar income is recorded from investment management fee income
recorded by Standard Management International on its separate account assets
and investment contracts. Management fees and similar income from separate
accounts increased $21 or 9 percent to $257,000 for the third quarter of 1996
from $236,000 for the third quarter of 1995. This increase is due primarily to
an increase in the value of assets held in separate accounts from $94,301,000
at December 31, 1994 to $126,987,000 at September 30, 1996 and to higher
service fees being levied on certain transactions.
OTHER INCOME. Other income primarily includes administration fee income,
reserve adjustments and experience refunds in connection with the agreements
with GIAC and override commissions received from unaffiliated companies by
Standard Marketing Corporation ("Standard Marketing"), a wholly-owned
subsidiary which is a wholesale distributor of life insurance and annuity
products. Other income increased $150,000 or 139 percent to $258,000 for the
third quarter of 1996 compared to $108,000 for the comparable 1995 period. The
increase resulted primarily from the administration fee income of $145,000 in
the third quarter of 1996; there was no such income in the comparable quarter
in 1995.
BENEFITS AND CLAIMS. Benefits and claims include life insurance and
payout annuity benefits paid and changes in policy reserves. Benefits and
claims increased $72,000 or 5 percent to $1,434,000 for the third quarter of
1996 from $1,362,000 for the third quarter of 1995. The increase resulted
primarily from the inclusion of Dixie National Life's benefits and claims in
the results of operations in 1996. Throughout the Company's history, it has
experienced both periods of higher and lower benefit claims. Such volatility
is not uncommon in the life insurance industry and, over extended periods of
time, periods of higher claims experience tend to be offset by periods of lower
claims experience.
INTEREST CREDITED ON INTEREST SENSITIVE ANNUITIES AND OTHER FINANCIAL
PRODUCTS. Interest credited on interest sensitive annuities and other
financial products was $2,641,000 for the third quarter of 1996, an increase of
$443,000 or 20 percent from $2,198,000 for the comparable prior year period.
The increase resulted primarily from the Company's increase of credited
interest rates on new annuity sales and the growth in account values inforce
for FPDAs. At September 30, 1996, the weighted average interest credited rate
for Standard Life's annuities and other financial product liabilities was 5.40
percent compared to 5.27 percent at December 31, 1995. Crediting rates offered
on new business can be changed at any time in response to competition and
market interest rates.
SALARIES AND WAGES. Salaries and wages were $1,215,000 for the third
quarter of 1996, an increase of $98,000 or 9 percent from $1,117,000 for the
comparable prior year period. This fluctuation was caused primarily by an
increase in the number and average wages of employees in the United States due
to the acquisition of Dixie National Life and the increase in incentive
compensation expense for the increase in income for the nine months ended
September 30, 1996.
AMORTIZATION. Amortization expense includes charges to operations for
the amortization of deferred policy acquisition costs, the present value of
future profits and the excess of cost over net assets acquired. Amortization
expense increased $134,000 or 31 percent to $564,000 for the third quarter of
1996 from $430,000 for the third quarter of 1995. The increase in current year
amortization expense resulted primarily from the amortization of present value
of future profits for the acquisition of Dixie National Life.
OTHER OPERATING EXPENSES. Other operating expenses decreased $270,000 or
18 percent to $1,263,000 for the third quarter of 1996 from $1,533,000 for the
third quarter of 1995. The decrease in other operating expenses resulted
primarily from a decrease in marketing expenses and a reduction in
international expenses, which offset the expenses of Dixie National Life
included in the results for the third quarter of 1996.
INTEREST EXPENSE AND FINANCING COSTS. Interest expense and financing
costs increased $129,000 or 538% to $153,000 in 1996 from $24,000 in 1995. The
increase in interest expense and financing costs during 1996 resulted from the
borrowings on the Credit Agreement related to the repurchase of Common Stock
and Class S Preferred Stock. The borrowings under the Credit Agreement
occurred after September 30, 1995.
FEDERAL INCOME TAXES. Federal income tax expense (credit) was $228,000
for the third quarter of 1996, compared to $(5,000) for the third quarter of
1995. The change is primarily due to tax benefits to First International being
recorded in 1995 from the utilization of tax loss carryforwards for which no
tax benefit had previously been recognized. Also, the effective rates in 1995
are less than the statutory rates primarily because the amortization of excess
of net assets acquired over acquisition cost resulting from the acquisition of
Standard Management International is not subject to United States income tax.
The Company also has received the benefits of a special deduction available to
small life insurance companies and the utilization of operating loss
carryforwards in 1995. The benefits of the special deduction available to
small life insurance companies is no longer available because consolidated
assets now exceed $500,000,000.
EXTRAORDINARY GAIN ON EARLY REDEMPTION OF REDEEMABLE PREFERRED STOCK.
Extraordinary gains are recorded on the early redemption of the Class S
Preferred Stock for the amount by which the Company is able to repurchase the
Class S Preferred Stock below its book value plus accumulated and unpaid
dividends. The Company will continue to repurchase these shares as long as
holders of the Class S Preferred Stock are willing to sell at a substantial
discount to book value. The extraordinary gain was $233,000 for the three
months ended September 30, 1996 compared to no gain for the prior comparable
period.
NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995
OPERATING INCOME. The income from operations (before net realized
investment gains, gain on disposal of subsidiaries and reduction in accruals of
certain legal expenses) was $369,000 in 1996, compared to $294,000 for 1995.
The change resulted primarily from international operations producing income
from operations of $440,000 compared to a loss of $(396,000) for the nine
months ended September 30, 1996 and 1995, respectively. The international
operating gains resulted primarily from increased management fees on an
increasing separate account base due to portfolio sales in 1995 and 1996, and
increased value of assets under management, coupled with a decrease in
marketing costs in 1996 when compared to 1995. The income (loss) from
operations in the United States decreased to $(71,000) in 1996 compared to
$690,000 in 1995. The decline was attributable to an increase in interest
expense from borrowings to repurchase Common Stock and Class S Preferred Stock
and additional costs to convert the operations and expand the marketing effort
in Dixie National Life.
PREMIUM INCOME. GAAP premium income for the nine months ended September
30, 1996 was $8,418,000, an increase of $4,875,000 or 138 percent from
$3,543,000 for the nine months ended September 30, 1995. This increase is
mainly attributable to recapture of premiums ceded of $4,234,000 due to the
termination and recapture of a reinsurance agreement with National Mutual Life
Insurance Company ("National Mutual") and the inclusion of Dixie National Life
in the results of operations for periods after October 2, 1995. These amounts
offset the decline in premiums from the cession of a portion of First
International's life insurance business and the regular policy lapses,
surrenders and expiries in the Company's closed blocks of business.
Net premiums received from the sales of interest-sensitive annuities and
other financial products (which are not recorded as revenues) were $32,153,000
compared to $10,680,000 for the nine months ended September 30, 1996 and 1995,
respectively. The increase in premium deposits is partially due to an increase
in gross domestic premium deposits. Gross domestic premium deposits received
from interest-sensitive annuities and financial products were $39,781,000 for
the nine months ended September 30, 1996 compared to $26,641,000 for the nine
months ended September 30, 1995. The increase is partially due to an
aggressive marketing campaign implemented by Standard Life with increased
crediting interest rates. Also contributing to the increase in premiums was
the continued development of the Company's distribution system.
As previously mentioned, the Company also decreased the quota-share
portion of business ceded pursuant to a reinsurance agreement from 70 percent
to 50 percent at September 1, 1995, which was further decreased to 25 percent
effective April 1, 1996. Premium deposits ceded pursuant to this reinsurance
agreement reduced net premium by $7,628,000 in the nine months ended September
30, 1996 compared to $15,961,000 in 1995.
NET INVESTMENT INCOME. Net investment income increased $694,000 or 5
percent to $14,371,000 for the nine months ended September 30, 1996 from
$13,677,000 for the comparable period of 1995. The increase primarily resulted
from an increase in total invested assets (amortized cost) of approximately 9
percent from 1995 to 1996, offset by a decline in the average annualized yield
on the Company's invested assets to 7.28 percent from 7.36 percent for the nine
months ended September 30, 1996 and 1995, respectively. The decline in yields
is primarily due to lower interest rates available on new investments in 1995.
The continued growth in the Company's total invested assets reflects increased
sales of FPDAs and the inclusion of Dixie National Life in the results of
operations effective October 2, 1995 which was offset by the invested assets
ceded in the GIAC reinsurance transaction.
NET REALIZED INVESTMENT GAINS. Net realized investment gains increased
$172,000 or 34 percent to $677,000 from $505,000 for the nine months ended
September 30, 1996 and 1995, respectively. Net realized investment gains
fluctuate from period to period and arise when securities are sold in response
to changes in the investment environment which provide opportunities to
maximize return on the investment portfolio without adversely affecting the
quality and overall yield of the investment portfolio.
GAIN ON DISPOSAL OF SUBSIDIARIES. On March 18, 1996, the Company
completed the sale of a duplicate charter associated with First International
to GIAC. The Company received sale proceeds of $10,393,000, including
$1,500,000 for the charter and licenses associated with First International. In
addition, First International, Standard Life and GIAC have entered into a
series of agreements that include provisions for Standard Life to retain the
economic interest in certain First International policies and to administer
First International policies in force at the date of such sale.
In an unrelated matter, the Company decided in February 1996 to terminate
the reinsurance agreement between Standard Reinsurance and Salamandra, and not
to renew the Barbados license of Standard Reinsurance. This resulted in a
first quarter 1996 write-off of SMC's investment in Standard Reinsurance and
certain intangible assets of Standard Reinsurance amounting to $156,000.
The combined effect of the pre-tax gain on the sale of First
International and related contracts, and the Standard Reinsurance write-offs,
was $886,000 in the first quarter of 1996.
POLICY CHARGES. Policy charges increased $187,000 or 11 percent to
$1,832,000 for the nine months ended September 30, 1996 compared to $1,645,000
for the nine months ended September 30, 1995. The increase in policy charges
resulted from an increase in policy surrender charges on FPDAs and the
inclusion of Dixie National Life in operating results for periods after October
2, 1995 which offset the absence of policy charges from the Company's closed
blocks of universal life business which were sold to GIAC through a reinsurance
contract effective January 1, 1996.
MANAGEMENT FEES AND SIMILAR INCOME FROM SEPARATE ACCOUNTS. Management
fees and similar income from separate accounts increased $369,000 or 51 percent
to $1,093,000 for the nine months ended September 30, 1996 from $724,000 for
the nine months ended September 30, 1995. This increase is due primarily to an
increase in the value of assets held in separate accounts from $94,301,000 at
December 31, 1994 to $126,987,000 at September 30, 1996 and to higher service
fees being levied on certain transactions. Net deposits from sales of unit-
linked products by Standard Management International were $9,159,000 and
$25,764,000 for the nine months ended September 30, 1996 and 1995,
respectively.
OTHER INCOME. Other income increased $915,000 or 356 percent to
$1,172,000 for the nine months ended September 30, 1996 compared to $257,000
for the comparable 1995 period. The increase resulted primarily from the
administration fee income and reserve and experience refund adjustments in
connection with the agreements with GIAC and increased commissions received by
Standard Marketing from the sale of unaffiliated products.
BENEFITS AND CLAIMS. Benefits and claims increased $4,534,000 or 110
percent to $8,657,000 for the nine months ended September 30, 1996 from
$4,123,000 for the nine months ended September 30, 1995. The increase
resulted primarily from an increase in reserves of $4,234,000 related to the
termination and recapture of a reinsurance agreement with National Mutual, and
slightly higher life insurance benefit claims due to adverse claims experience.
Throughout the Company's history, it has experienced both periods of higher and
lower benefit claims. Such volatility is not uncommon in the life insurance
industry and, over extended periods of time, periods of higher claims
experience tend to be offset by periods of lower claims experience.
INTEREST CREDITED ON INTEREST SENSITIVE ANNUITIES AND OTHER FINANCIAL
PRODUCTS. Interest credited on interest sensitive annuities and other
financial products was $7,645,000 for the nine months ended September 30, 1996,
an increase of $320,000 or 4 percent from $7,325,000 for the comparable prior
year period. The increase resulted primarily from the Company's increase of
credited interest rates on new annuity sales and the increases in the growth in
policy reserves for FPDAs. At September 30, 1996, the weighted average
interest credited rate for Standard Life's annuities and other financial
product liabilities was 5.40 percent compared to 5.27 percent at December 31,
1995.
SALARIES AND WAGES. Salaries and wages were $3,678,000 for the nine
months ended September 30, 1996, an increase of $356,000 or 11 percent from
$3,322,000 for the comparable prior year period. This fluctuation was caused
primarily by an increase in the number and average wages of employees in the
United States due to the acquisition of Dixie National Life and the increase in
incentive compensation for the increase in income for the nine months ended
September 30, 1996.
AMORTIZATION. Amortization expense increased $372,000 or 28 percent to
$1,723,000 for the nine months ended September 30, 1996 from $1,351,000 for the
nine months ended September 30, 1995. The increase in current year
amortization expense resulted primarily from increased amortization of deferred
acquisition costs as gross profits from business sold in recent years began to
emerge, increased surrenders and their corresponding increase in the
amortization of deferred acquisition costs, and from the amortization of
present value of future profits for the acquisition of Dixie National Life.
These items more than offset reduced amortization of excess of cost over net
assets acquired and present value of future profits due to the sale of First
International.
OTHER OPERATING EXPENSES. Other operating expenses increased $700,000 or
16 percent to $5,173,000 for the nine months ended September 30, 1996 from
$4,473,000 for the nine months ended September 30, 1995. The increase in other
operating expenses resulted primarily from the expenses of Dixie National Life
included in the results for the nine months ended September 30, 1996 and the
increased expenses related to potential acquisitions.
INTEREST EXPENSE AND FINANCING COSTS. Interest expense and financing
costs increased $353,000 or 458 percent to $430,000 for the nine months ended
September 30, 1996 from $77,000 for the nine months ended September 30, 1995.
The increase in interest expense and financing costs during 1996 resulted
primarily from the borrowings on the Credit Agreement. The borrowings under
the Credit Agreement occurred after September 30, 1995.
FEDERAL INCOME TAXES. Federal income tax expense (credit) was $(890,000)
for the nine months ended September 30, 1996, compared to $56,000 for the nine
months ended September 30, 1995. The large credit in 1996 is primarily due to
tax benefits related to the sale of First International. Also, the effective
rates in 1995 are less than the statutory rates primarily because the
amortization of excess of net assets acquired over acquisition cost resulting
from the acquisition of Standard Management International is not subject to
United States income tax. The Company also has received the benefits of a
special deduction available to small life insurance companies and the
utilization of operating loss carryforwards in 1995. The benefits of the
special deduction available to small life insurance companies is no longer
available because consolidated assets now exceed $500,000,000.
CLASS ACTION LITIGATION AND SETTLEMENT COSTS. Class action litigation
and settlement costs were recorded to reflect the estimated costs of litigation
and settlement of the shareholder class action lawsuit, based on the terms of
the settlement agreement and assumptions as to the future estimated legal and
other costs to settle the lawsuit, which was settled in March 1995, and to
register the Class S Preferred Stock which was distributed to the class
participants in February 1996. There were no class action litigation and
settlement expenses in the nine months ended September 30, 1996 and 1995.
However, with the signing of the Settlement Agreement with the 22 persons who
previously excluded themselves from the class and the reevaluation of the
future estimated legal and other costs to settle the lawsuit, SMC recorded a
reduction of $314,000 in the second quarter of 1995 in the estimated future
costs to settle the lawsuit and register the Class S Preferred Stock.
EXTRAORDINARY GAIN ON EARLY REDEMPTION OF REDEEMABLE PREFERRED STOCK.
The extraordinary gain was $500,000 for the nine months ended September 30,
1996 compared to no gain for the prior comparable period.
LIQUIDITY AND CAPITAL RESOURCES
SMC is an insurance holding company. The liquidity requirements of SMC
are met primarily from management fees, equipment rental income and payments
for other charges and dividends received from SMC's subsidiaries as well as SMC
working capital. These are SMC's primary source of funds to pay operating
expenses and meet debt service obligations. The payment of dividends and
management and other fees by Standard Life to SMC is subject to restrictions
under the insurance laws of Indiana, Standard Life's jurisdiction of domicile.
These internal sources of liquidity have been supplemented in the past by
external sources such as lines of credit and revolving credit agreements and
long-term debt and equity financing in the capital markets.
The Company reported on a consolidated GAAP basis net cash provided by
operations of $2,757,000 and $6,344,000 for the nine months ended September 30,
1996 and 1995, respectively. Although deposits received on the Company's
interest-sensitive annuities and other financial products are not included in
cash flow from operations under GAAP, such funds are available for use by the
Company. Cash provided by operations plus net deposits received, less net
account balances returned to policyholders on interest sensitive annuities and
other financial products, resulted in positive cash flow of $21,917,000 and
$3,624,000 for the nine months ended September 30, 1996 and 1995, respectively.
Cash generated on a consolidated basis is available to SMC only to the extent
that it is generated at SMC level or is available to SMC through dividends,
interest, management fees or other payments from subsidiaries.
In April 1993, SMC instituted a program to repurchase its Common Stock
from time to time. The purpose of the stock repurchase program is to enhance
shareholder value. The Company has repurchased 979,453 shares of its Common
Stock for $4,747,000 as of September 30, 1996. The repurchases in 1996 have
been paid through additional borrowings under the Credit Agreement. At
September 30, 1996, the Company is authorized to purchase an additional 521,771
shares under this program.
In February 1996, SMC instituted a program to repurchase from time to
time up to 300,000 shares of its Class S Preferred Stock in the open market or
privately negotiated transactions. As of October 31, 1996, SMC has repurchased
and retired 139,211 shares of its Class S Preferred Stock for $941,000.
On May 1, 1996, the Board of Directors declared a stock dividend of 5
percent on shares of its common stock for shareholders of record on May 17,
1996. The stock dividend was distributed on June 21, 1996, with shareholders
receiving shares of common stock equivalent to 5 percent of common shares owned
as of May 17, 1996 and cash equivalent for fractional shares. The number of
shares issued pursuant to this action was 272,926, plus cash in lieu of
fractional shares.
At October 31, 1996, SMC had "parent company only" cash and short-term
investments of $1,077,000. These funds are available to the Company for
general corporate purposes including repayment of debt outstanding and
additional capital infusions into Standard Life. SMC's "parent company only"
operating expenses (not including class action litigation and settlement costs
and interest expense) were $2,369,000 and $2,007,000 for the nine months ended
September 30, 1996 and 1995, respectively.
Pursuant to the management services agreement with SMC, Standard Life
paid SMC a monthly fee of $150,000 during 1996 and 1995 for certain management
services related to the production of business, investment of assets and
evaluation of acquisitions. The agreement was approved by the Indiana
Department of Insurance with the stipulation that Dixie National Life would pay
an annual fee of at least $1,500,000 to Standard Life during 1996. Management
service agreements between Standard Life and Dixie National Life, have been
approved by the Mississippi Department of Insurance which call for the payment
of fees of $1,524,000 during 1996. Both of these agreements provide that they
may be modified or terminated by the department of insurance in the event of
financial hardship of Standard Life or Dixie National Life. The management
service agreement between Standard Life and Dixie National Life currently
requires a monthly payment of $100,000. The management service agreement
between SMC and Standard Life for 1997 will be renegotiated before the end of
1996 and submitted for approval to the Indiana Department of Insurance.
Pursuant to the management services agreement with SMC, Premier Life
(Luxembourg) paid SMC a management fee of $25,000 per quarter during 1996 and
1995 for certain management and administrative services. The agreement
provides that it may be modified or terminated by either SMC or Premier Life
(Luxembourg).
At April 1, 1995, SMC sold its property and equipment to a
leasing/financing company for $1,396,000 and subsequently entered into a
capital lease obligation whereby SMC pays a monthly rental amount of $45,000.
SMC charges a monthly equipment rental fee to its subsidiaries of $77,000.
In July 1996, SMC announced that Standard Life signed an agreement to
purchase Shelby from DLAC for approximately $14,250,000, plus acquisition
costs, including $13,000,000 in cash and 250,000 shares of restricted SMC
Common Stock. The purchase of Shelby closed on November 8, 1996 and Shelby was
merged into Standard Life on that date. Financing for the transaction was
provided by senior debt of $10,000,000 and the balance in subordinated
convertible debt. The Company's original Credit Agreement was combined with
the new senior debt in a new credit agreement ("Amended Credit Agreement"), the
terms of which are substantially the same as the original Credit Agreement's
terms.
The Amended Credit Agreement provides for SMC to borrow up to $16,000,000
in the form of a seven-year reducing revolving loan arrangement. SMC has
agreed to pay a non-use fee of .50 percent per annum on the unused portion of
the commitment. In connection with the original and Amended Credit Agreement,
SMC issued warrants to the bank to purchase 61,500 shares of SMC Common Stock.
Borrowings under the Amended Credit Agreement may be used for contributions to
surplus of insurance subsidiaries, acquisition financing, and repurchases of
Class S Preferred and Common Stock of SMC. The debt is secured by a Pledge
Agreement of all of the issued and outstanding shares of common stock of
Standard Life and Standard Marketing. Interest on the borrowings under the
Credit Agreement is determined, at the option of SMC, to be: (i) a fluctuating
rate of interest to the corporate base rate announced by the bank from time to
time plus 1 percent per annum, or (ii) a rate at LIBOR plus 3.25 percent.
Annual principal repayments of $2,667,000 begin in November 1998 and conclude
in November 2003. Indebtedness incurred under the Credit Agreement is subject
to certain restrictions and covenants including, among other things, certain
minimum financial ratios, minimum statutory surplus requirements for the
insurance subsidiaries, minimum consolidated equity requirements for the
Company and certain investment and indebtedness limitations. As of September
30, 1996, the Company was in compliance with all restrictions and covenants in
the Credit Agreement. At November 8, 1996, SMC had borrowed $15,700,000 under
the Amended Credit Agreement at interest rates ranging from 8.875 percent to
9.25 percent.
In connection with the acquisition of Shelby, SMC borrowed $4,000,000
from an unaffiliated insurance company pursuant to a subordinated convertible
debt agreement which is due in December, 2003 and requires interest payments in
cash at 12 percent per annum, or, if SMC chooses, in non-cash additional
subordinated convertible debt notes at 14 percent per annum until December 31,
2000. The subordinated convertible notes are convertible into SMC Common Stock
at the rate of $6.00 per share through November 1997, and $5.75 per share
thereafter. SMC may prepay the subordinated convertible debt with not less
than thirty days notice at any time. The subordinated convertible debt
agreement contains terms and financial covenants substantially similar to those
in the Amended Credit Agreement.
Assuming the continuation of current debt level under the Amended Credit
Agreement ($15,700,000) and current interest rates (weighted average rate of
9.1425 percent) and assuming SMC elects the non-cash interest payment option
under the subordinated convertible debt, annual debt service in 1997 would be
approximately $1,435,000 in interest paid on the Amended Credit Agreement. In
addition, SMC will also pay $539,000 in rental payments relating to a capital
lease obligation in 1997.
From the funds borrowed by SMC pursuant to the Amended Credit Agreement
and the subordinated convertible debt agreement, $13,000,000 was loaned to
Standard Life pursuant to an Unsecured Surplus Debenture Agreement ("Surplus
Debenture") which requires Standard Life to make quarterly interest payments to
SMC at a variable corporate base rate plus 2 percent per annum, and annual
principal payments of $1,000,000 per year beginning in 2007 and concluding in
2019. The interest and principal payments are subject to quarterly approval by
the Indiana Department of Insurance, depending upon satisfaction of certain
financial tests relating to levels of Standard Life's capital and surplus and
general approval of the Commissioner of the Indiana Department of Insurance.
The Company currently anticipates these quarterly approvals will be granted.
Assuming the approvals are granted and the November 8, 1996 interest rate of
10.25% continues in 1997, Standard Management will receive interest income of
$1,332,500 from its Surplus Debenture receivable for 1997.
Dividends from Standard Life to SMC are limited by laws applicable to
insurance companies. As an Indiana domiciled insurance company, Standard Life
may pay a dividend or distribution from its surplus profits, without the prior
approval of the Indiana Commissioner of Insurance, if the dividend or
distribution, together with all other dividends and distributions paid within
the preceding twelve months, does not exceed the greater of (i) net gain from
operations or (ii) 10 percent of surplus, in each case as shown in its
preceding annual statutory financial statements. For the year ended December
31, 1995, Standard Life reported statutory net gain from operations of $124,000
and statutory surplus of $10,186,000. During 1996, Standard Life can pay
dividends of $1,019,000 without regulatory approval; Standard Life must notify
the Indiana regulatory authorities of their intent to pay dividends at least
thirty days prior to payment. Regulatory approval will be required for
additional dividend payments in excess of this amount by Standard Life during
1996. On June 20, 1996, Standard Life paid an ordinary dividend on $1,000,000
to SMC which was not disapproved by the Indiana Department of Insurance. Also,
regulatory approval is required when dividends to be paid exceed unassigned
surplus. At September 30, 1996, unassigned surplus (deficit) was $(1,512,000).
Until unassigned surplus returns to a positive amount, all future dividends
will require regulatory approval.
SMC anticipates the available cash from its existing working capital,
plus anticipated 1996 dividends, management fees, rental income and interest
payments on its Surplus Debentures receivable will be more than adequate to
meet its anticipated "parent company only" cash requirements for 1996.
SMC has a note receivable of $2,858,000 from an affiliate and a note
payable of $2,858,000 to a different affiliate. This note receivable and note
payable are eliminated in the consolidated financial statements.
U.S. INSURANCE OPERATIONS. The principal liquidity requirements of
Standard Life are its contractual obligations to policyholders, dividend, rent,
management fee and Surplus Debenture payments to SMC and other operating
expenses. The primary source of funding for these obligations has been cash
flow from premium income, net investment income, investment sales and
maturities and sales of FPDAs. These sources of liquidity for Standard Life
significantly exceed scheduled uses. Liquidity is also affected by unscheduled
benefit payments including death benefits and policy withdrawals and
surrenders. The amount of withdrawals and surrenders is affected by a variety
of factors such as renewal interest crediting rates, interest rates for
competing products, general economic conditions, Standard Life's A.M. Best
ratings (currently rated "B") and events in the industry which affect
policyholders' confidence.
The policies and annuities issued by Standard Life contain provisions
which allow policyholders to withdraw or surrender their policies under defined
circumstances. These policies and annuities generally contain provisions which
apply penalties or otherwise restrict the ability of policyholders to make such
withdrawals or surrenders. Standard Life closely monitors the surrender and
policy loan activity of its insurance products and manages the composition of
its investment portfolios, including liquidity, in light of such activity.
Changes in interest rates may affect the incidence of policy surrenders
and other withdrawals. In addition to the potential impact on liquidity,
unanticipated withdrawals in a changing interest rate environment could
adversely affect earnings if the Company were required to sell investments at
reduced values in order to meet liquidity demands. The Company manages the
asset and liability portfolios in order to minimize the adverse earnings impact
of changing market interest rates. The Company seeks assets which have
duration characteristics similar to the liabilities which they support. The
Company also prepares cash flow projections and performs cash flow tests under
various market interest rate scenarios to assist in evaluating liquidity needs
and adequacy. Standard Life currently expects available liquidity sources and
future cash flows to be adequate to meet the demand for funds.
Statutory surplus is computed according to rules prescribed by the
National Association of Insurance Commissioners ("NAIC"), as modified by the
Indiana Department of Insurance, or the state in which the insurance
subsidiaries do business. Statutory accounting rules are different from GAAP
and are intended to reflect a more conservative perspective. The Company's
long-term growth goals contemplate continued growth in its insurance
businesses. To achieve these growth goals, Standard Life will need to increase
statutory surplus. Additional statutory surplus may be secured through various
sources such as internally generated statutory earnings, equity sales,
infusions by the Company with funds generated through debt or equity offerings
or mergers with other life insurance companies. With respect to new business,
statutory accounting practices require that: (I) acquisition costs (primarily
commissions and policy issue costs) and (ii) reserves for future guaranteed
principal payments and interest in excess of statutory rates, be expensed in
the year the new business is written. These items cause a reduction in
statutory surplus ("surplus strain") in the year written for many insurance
products. The Company designs its products to minimize such first-year losses,
but certain products continue to cause a statutory loss in the year written.
For each product, the Company controls the amount of net new premiums written
in order to manage the effect of such surplus strain. SMC's long-term growth
goals contemplate continued growth in its insurance businesses. To achieve
these growth goals, SMC's U.S. insurance subsidiaries will need to increase
statutory surplus. Additional statutory surplus may be secured through various
sources such as internally generated statutory earnings, equity sales,
infusions by Standard Management with funds generated through debt or equity
offerings or mergers with other life insurance companies. If additional
capital is not available from one or more of these sources, SMC believes that
it could reduce surplus strain through the use of reinsurance or through
reduced writing of new business.
During the first nine months of 1996, the Company produced a statutory
net income of $2,953,000. As a result, SMC has not made cash capital
contributions to Standard Life during 1996 in order to maintain adequate levels
of statutory capital and surplus. In March 1996, Standard Life sold its
subsidiary, First International, and realized an increase in statutory capital
and surplus of approximately $4,951,000 from the statutory gain on the sale and
related reinsurance transactions.
Commencing January 1, 1995, Standard Life began to reinsure a portion of
its annuity business. This reinsurance agreement has allowed SMC to write
volumes of business that it would not otherwise have been able to write due to
regulatory restrictions based on its ratio of surplus to liabilities as
determined by regulatory authorities in the State of Florida. By reinsuring a
portion of the annuity business, the liability growth is slowed, thereby
avoiding the erosion of surplus that occurs in periods of increasing sales. If
SMC's ratio of surplus to liabilities falls below 4%, the State of Florida
could prohibit SMC from writing new business in Florida. Standard Life's
largest annuity reinsurer at September 30, 1996, Winterthur Life Re Insurance
Company ("Winterthur"), is rated "A" ("Excellent") by A.M. Best. From January
1, 1995 to August 31, 1995 approximately 70 percent of certain of Standard
Life's annuity business produced was ceded. Standard Life decreased the quota-
share portion of business ceded to 50 percent at September 1, 1995 and further
reduced it to 25 percent effective April 1, 1996 to reflect the reduced need
for additional capital and increase current earnings potential. Winterthur
limits dividends and other transfers by Standard Life to SMC or affiliated
companies in certain circumstances.
State insurance regulatory authorities impose minimum risk-based capital
requirements on insurance enterprises that were developed by the NAIC. The
formulas for determining the amount of risk-based capital ("RBC") specify
various weighting factors that are applied to financial balances or various
levels of activity based on the perceived degree of risk. Regulatory
compliance is determined by a ratio (the "Ratio") of the enterprise's
regulatory total adjusted capital, as defined by the NAIC, to its authorized
control level RBC, as defined by the NAIC. Enterprises below specific trigger
points or ratios are classified within certain levels, each of which requires
specified corrective action. Each of the Company's insurance subsidiaries has
a Ratio that is at least 300 percent of the minimum RBC requirements;
accordingly, the subsidiaries meet the RBC requirements.
Management believes that operational cash flow of Standard Life will be
sufficient to meet its anticipated needs for 1996. As of September 30, 1996,
Standard Life had statutory capital and surplus for regulatory purposes of
$14,656,000 compared to $12,877,000 at December 31, 1995. As the life
insurance and annuity business produced by Standard Life and Dixie National
Life increases, Standard Life expects to continue to satisfy statutory capital
and surplus requirements through statutory profits, through the continued
reinsurance of a portion of its new business, and through additional capital
contributions by the Company. During 1996, SMC has not made any capital
contributions to Standard Life, other than the Common Stock associated with the
Shelby merger. Net cash flow from operations on a statutory basis of Standard
Life, after payment of benefits and operating expenses, was $30,042,000 and
$4,263,000 for the nine months ended September 30, 1996 and year ended December
31, 1995, respectively. If the need arises for cash which is not readily
available, additional liquidity could be obtained from the sale of invested
assets.
Standard Life's acquisition of Shelby, and merger of Shelby into Standard
Life, effective November 1, 1996 is anticipated to have a positive effect on
Standard Life's liquidity and cash flows. Shelby will cease writing new
business effective November 1, 1996, thus reducing the surplus strain normally
associated with the issuance of new policies. The anticipated profits from
Shelby's book of business are expected to exceed the related interest expense
connected with the $13,000,000 of Surplus Debentures issued by Standard Life in
connection with the acquisition of Shelby. The statutory net income of Shelby
was $1,661,000 for the year ended December 31, 1995 and $692,000 for the nine
months ended September 30, 1996.
INTERNATIONAL OPERATIONS. The balance sheet of the Company at September
30, 1996, includes a $3,122,000 credit representing the negative goodwill on
the purchase of Standard Management International which will be amortized into
future earnings. This amortization is a non-cash credit to the Company
statement of operations.
Standard Management International may pay dividends from accumulated
earnings without regulatory approval. Premier Life (Bermuda) did not pay
dividends in 1995 and 1994. Standard Management International and Premier Life
(Luxembourg) were not permitted to pay dividends in 1995 and 1994 due to
accumulated losses.
Due to the nature of unit-linked products issued by Standard Management
International, which represent over 95 percent of the Standard Management
International portfolio, the investment risk rests with the policyholder.
Investment risk for Standard Management International exists where Standard
Management International makes investment decisions with respect to the
remaining traditional business and for the assets backing certain actuarial and
regulatory reserves. The investments underlying these liabilities mostly
represent short-term investments and fixed maturity securities. These short-
term investments and fixed maturity securities are normally only bought and/or
disposed of on the advice of independent consulting actuaries who perform an
annual exercise comparing anticipated cash flows on the insurance portfolio
with the cash flows from the fixed maturity securities. Any resulting material
mis-matches are then covered by buying and/or selling the securities as
appropriate.
FACTORS THAT MAY AFFECT FUTURE RESULTS
MERGERS, ACQUISITIONS AND CONSOLIDATIONS. The U.S. insurance industry
has experienced an increasing number of mergers, acquisitions, consolidations
and sales of certain business lines. These consolidations have been driven by
a need to reduce costs of distribution and overhead and maintain business in
force. Additionally, increased competition, regulatory capital requirements
and technology costs have also contributed to the level of consolidation in the
industry. These forces are expected to continue as is the level of industry
consolidation. The Company has been, and continues to be, a buyer in this
marketplace.
FOREIGN CURRENCY RISK. Standard Management International policyholders
invest in assets denominated in a wide range of currencies. Policyholders
effectively bear the currency risk, if any, as these investments are matched by
policyholder separate account liabilities. Therefore, their investment and
currency risk is limited to premiums they have paid. Policyholders are not
permitted to invest directly into options, futures and derivatives. Standard
Management International could be exposed to currency fluctuations if
currencies within the conventional investment portfolio or certain actuarial
reserves are mismatched. The assets and liabilities of this portfolio and the
reserves are continually matched by the company and at regular intervals by the
independent actuary. In addition, Premier Life (Luxembourg)'s shareholder's
equity is denominated in Luxembourg francs. Premier Life (Luxembourg) does not
hedge it's translation risk, but this is currently being reviewed to protect
SMC against currency fluctuations. At September 30, 1996, there is an
unrealized gain from foreign currency translation adjustment of $717,000.
UNCERTAINTIES REGARDING INTANGIBLE ASSETS. Included in the Company's
financial statements as of September 30, 1996 are certain assets that are
valued for financial statement purposes primarily on the basis of assumptions
established by the Company's management. These assets include deferred
acquisition costs, present value of future profits, costs in excess of net
assets acquired and organization and deferred debt issuance costs. The total
value of these assets reflected in the September 30, 1996 consolidated balance
sheet aggregated $32,331,000 or 6 percent of its assets. The Company has
established procedures to periodically review the assumptions utilized to value
these assets and determine the need to make any adjustments in such values in
the Company's consolidated financial statements. The Company has determined
that the assumptions utilized in the initial valuation of these assets are
consistent with the current operations of the Company as of September 30, 1996.
In February 1996, the Company decided to terminate the operations of Standard
Reinsurance, which resulted in the write-off of SMC's investment in Standard
Reinsurance and certain intangible assets in the third quarter of 1996
amounting to $156,000.
REGULATORY ENVIRONMENT. Currently, prescribed or permitted statutory
accounting principles ("SAP") may vary between states and between companies.
The NAIC is in the process of codifying SAP to promote standardization of
methods utilized throughout the industry. Completion of this project might
result in changes in statutory accounting practices for the Company; however,
it is not expected that such changes would materially impact the Company's
statutory capital requirements.
ACCOUNTING PRONOUNCEMENTS. Effective January 1, 1996, the Company
adopted SFAS No. 123, "Accounting for Stock-Based Compensation." SFAS No. 123
requires expanded disclosures of stock-based compensation arrangements with
employees and encourages, but does not require, compensation cost to be
measured based on the fair value of the equity instruments awarded. Companies
are permitted, however, to continue to apply Accounting Principles Board (APB)
Opinion No. 25, which recognizes compensation cost based on the intrinsic value
of the equity instrument awarded. The Company will continue to apply APB
Opinion No. 25 to its stock-based compensation awards to employees and
directors and will disclose the required pro forma effect on net income and
earnings per share in its consolidated financial statements for the year ended
December 31, 1996.
SAFE HARBOR PROVISIONS. Forward-looking statements in this Quarterly
Report on Form 10-Q are made pursuant to the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995. There are certain important
factors that could cause results to differ materially from those anticipated by
some of the statements made above. Investors are cautioned that all forward-
looking statements involve risks and uncertainty. In addition to the factors
discussed above, among the other factors that could cause actual results to
differ materially are the following: economic environment, interest rate
changes, product development, regulatory changes, the results of financing
efforts, acquisitions completed or attempted, the Company's accounting
policies, competition and the acquisition of Shelby Life. Additional
information concerning those and other factors is contained in the Company's
Securities and Exchange Commission filings, including but not limited to the
Annual Report on Form 10-K, copies of which are available from the Company
without charge.
<PAGE>
PART II - OTHER INFORMATION
ITEM 5. OTHER INFORMATION
Pursuant to SEC rules, the following discloses the information required
to be disclosed on Form 8-K with respect to the acquisition of Shelby and
merger into Standard Life on November 8, 1996.
(a) See Note 8 of Notes to Consolidated Financial Statements on page 12 of this
Form 10-Q for a description of the acquisition of Shelby and merger
into Standard Life on November 8, 1996.
(b) The following financial statements are filed pursuant to SEC rules on Form
8-K:
Financial Statements of Shelby:
SMC has found it to be impractical to complete as of
the date of this Form 10-Q filing the audited
financial statements of Shelby required by Item 7(a)
of Form 8-K. SMC will file the required financial
statements as soon as they are available but in no
event later than January 13, 1997.
Pro Forma Financial Information:
SMC has found it to be impractical to complete as of
the date of this Form 10-Q the preparation and filing
of the pro forma financial information required by
Item 7(b) of Form 8-K as the audited financial
statements of Shelby required by Item 7(a) of Form 8-K
are currently being prepared. SMC will file the
required pro forma financial data as soon as it is
available but in no event later than January 13, 1997.
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
EXHIBIT 4.4 Amended and Restated Registration Rights Agreement
dated as of November 8, 1996 by and between SMC and
Fleet National Bank.
EXHIBIT 4.5 Form of Fleet National Bank Warrant.
EXHIBIT 4.7 Registration Rights Agreement dated as of November 8,
1996 by and between SMC and Great American Reserve
Insurance Company ("Great American Reserve").
EXHIBIT 10.17 Second Amendment to Promissory Note from Ramesh H.
Bhat to SMC in the amount of $43 executed October 8,
1996 and due December 15, 1996.
EXHIBIT 10.28 Amended and Restated Revolving Line of Credit
Agreement dated as of November 8, 1996 between SMC and
Fleet National Bank.
EXHIBIT 10.29 Note Agreement dated as of November 8, 1996 between
SMC and Fleet National Bank in the amount of $16,000.
EXHIBIT 10.30 Amended and Restated Pledge Agreement dated as of
November 8, 1996 between SMC and Fleet National Bank.
EXHIBIT 10.32 Note Agreement dated as of November 8, 1996 by and
between SMC and Great American Reserve in the amount
of $4,000.
EXHIBIT 10.33 Senior Subordinated Convertible Note dated as of
November 8, 1996 by and between SMC and Great American
Reserve in the amount of $4,000.
EXHIBIT 10.34 Surplus Debenture dated as of November 8, 1996 by and
between SMC and Standard Life in the amount of
$13,000.
EXHIBIT 11 Statement regarding computation of per share earnings.
EXHIBIT 27 Financial Data Schedule, which is submitted
electronically pursuant to Regulation S-K to the
Securities and Exchange Commission (the "Commission")
for information only and not filed.
(b) REPORTS ON FORM 8-K
The Company filed a Current Report on Form 8-K dated August 1, 1996 with the
Commission to report under Item 5 the signing of the Stock Purchase Agreement
to purchase Shelby Life.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: August 29, 1997
STANDARD MANAGEMENT CORPORATION
(Registrant)
By:
/s/ RONALD D. HUNTER
Ronald D. Hunter
Chairman of the Board, President
and
Chief Executive Officer
(Principal Executive Officer)
By:
/s/ GERALD R. HOCHGESANG
Gerald R. Hochgesang
Senior Vice President
(Chief Accounting Officer)
<PAGE>
EXHIBIT 11
STANDARD MANAGEMENT CORPORATION
STATEMENT REGARDING COMPUTATION OF PER SHARE EARNINGS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
SEPTEMBER 30, SEPTEMBER 30,
<S> <C> <C> <C> <C>
1996 1995{ (1)} 1996 1995{ (1)}
PRIMARY
Weighted average common shares outstanding 4,774,840 5,209,439 4,685,406 5,257,535
5 percent common stock dividend - - 150,251 -
Common equivalent shares related to:
Stock warrants at average market price 135,381 155,770 98,643 86,030
Stock options at average market price 29,861 11,186 16,659 4,641
Net issuable shares for modified treasury stock
method (after assumed buyback of 20 percent of
outstanding stock options and warrants) - - 348,540 -
WEIGHTED AVERAGE PRIMARY SHARES OUTSTANDING 4,940,082 5,376,395 5,299,499 5,348,206
Income before extraordinary gain on early redemption of
preferred stock and redeemable preferred stock $471 $445 $3,074 $979
dividends as reported
Reduction in interest expense and increase in short-term
investment income for modified treasury stock method - - 131 -
471 445 3,205 979
Extraordinary gain on early redemption of redeemable 233 - 500 -
preferred stock
Net income (as adjusted) 704 445 3,705 979
Preferred stock dividends as reported (51) - (163) -
Preferred stock dividends reduction for modified stock
method - - 46 -
Earnings available to common shareholders (as adjusted) $653 $445 $3,588 $979
Earnings Per Share:
Income before extraordinary gain on early redemption
of 0.10 0.08 0.61 0.18
redeemable preferred stock and preferred stock
dividends
Extraordinary gain on early redemption of redeemable
preferred 0.04 - 0.09 -
stock
NET INCOME 0.14 0.08 0.70 0.18
Preferred stock dividend (0.01) - (0.02) -
Earnings available to common shareholders $0.13 $0.08 $0.68 $0.18
</TABLE>
(1) Share amounts have been retroactively adjusted for the effect of the 5
percent stock dividend distributed on June 21, 1996, to shareholders of
record on May 17, 1996.
<TABLE> <S> <C>
<ARTICLE> 7
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated balance sheet and the consolidated statements of income filed as
part of the Quarterly Report on Form 10-Q for the Quarterly Period Ended
September 30, 1996 and is qualified in its entirety by reference to such
Quarterly Report on Form 10-Q.
</LEGEND>
<CIK> 0000853971
<NAME> STANDARD MANAGEMENT CORPORATION
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> SEP-30-1996
<DEBT-HELD-FOR-SALE> 241,713
<DEBT-CARRYING-VALUE> 0
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<EQUITIES> 77
<MORTGAGE> 3,016
<REAL-ESTATE> 547
<TOTAL-INVEST> 265,878
<CASH> 4,411
<RECOVER-REINSURE> 65,047
<DEFERRED-ACQUISITION> 17,977
<TOTAL-ASSETS> 506,481
<POLICY-LOSSES> 323,863
<UNEARNED-PREMIUMS> 0
<POLICY-OTHER> 2,582
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<NOTES-PAYABLE> 5,671
1,722
0
<COMMON> 40,997
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8,418
<INVESTMENT-INCOME> 14,371
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<OTHER-INCOME> 5,138
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<INCOME-PRETAX> 2,184
<INCOME-TAX> (890)
<INCOME-CONTINUING> 3,074
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<NET-INCOME> 3,574
<EPS-PRIMARY> .70
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