UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
or
[ ] 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: 0-18649
THE NATIONAL SECURITY GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 63-1020300
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
661 East Davis Street, Elba, Alabama 36323
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code (334) 897-2273
--------------
Not Applicable
(Former name, address, and former fiscal year, if changed since last report)
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 (X) No ( )
Number of Shares of Common Stock outstanding as of November 6, 1997: 2,312,820
Exhibit index is located on page 12.
Page 1 of 12 pages
1
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THE NATIONAL SECURITY GROUP, INC.
INDEX
Page No.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Income 3
Consolidated Balance Sheets 4
Consolidated Statements of Cash Flows 5
Notes to Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 9
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 10
SIGNATURE 13
EXHIBIT INDEX 14
2
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Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
THE NATIONAL SECURITY GROUP, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
Three Months Nine Months
Ended September 30 Ended September 30
1997 1996 1997 1996
------- ------- ------- -------
Revenues
Net insurance premiums earned ..... $ 7,894 $ 7,177 $23,757 $19,505
Net investment income ............. 1,173 1,047 3,189 2,879
Realized investment gains ......... 1,414 (148) 2,097 1,034
Other income ...................... 155 161 488 392
------- ------- ------- -------
Total revenues .................. 10,636 8,237 29,531 23,810
------- ------- ------- -------
Benefits and Expenses
Policyholder benefits and
settlement expenses ............. 6,365 4,504 16,869 14,620
Policy acquisition costs .......... 1,299 1,341 4,243 3,572
General insurance expenses ........ 1,536 1,215 3,855 3,843
Insurance taxes, licenses and fees 363 281 1,140 1,166
------- ------- ------- -------
Total benefits and expenses ..... 9,563 7,341 26,107 23,201
------- ------- ------- -------
Income Before Income Taxes and
Cumulative Effect Adjustment .... 1,073 896 3,424 609
Income Taxes (Current and deferred) 440 111 1,159 138
------- ------- ------- -------
Net Income ........................ $ 633 $ 785 $ 2,265 $ 471
======= ======= ======= =======
Earnings per share ................ $ 0.28 $ 0.34 $ 0.98 $ 0.20
======= ======= ======= =======
Dividends Declared per Share ...... $ 0.17 $ 0.16 $ 0.51 $ 0.48
======= ======= ======= =======
The Notes to Financial Statements are an integral part of these statements.
3
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THE NATIONAL SECURITY GROUP, INC.
CONSOLIDATED BALANCE SHEET
(In thousands, except per share amounts)
<TABLE>
As of As of
September 30, December 31,
Assets 1997 1996
---- ----
<S> <C> <C>
Investments:
Securities held-to-maturity at amortized cost
(estimated fair value: 1997 - $33,834; 1996 - 36,038) $ 33,076 $ 35,413
Securities available-for-sale, at estimated fair value
(cost: 1997 - 31,640; 1996 - 21,419) ............... 47,208 32,716
Mortgage loans .......................................... 329 405
Investment real estate, at cost ......................... 1,615 1,659
Policy loans ............................................ 622 630
--------- ---------
Total investments ..................................... 82,858 70,815
--------- ---------
Cash and cash equivalents .................................. 2,445 4,722
Accrued investment income .................................. 981 803
Reinsurance recoverable .................................... 12,576 12,488
Deferred policy acquisition costs .......................... 4,328 4,013
Current income tax recoverable ............................. 0 258
Prepaid reinsurance premiums ............................... 462 1,908
Other assets ............................................... 2,744 3,212
--------- ---------
Total assets ............................................ $ 106,394 $ 98,219
========= =========
Liabilities
Policy reserves ......................................... $ 18,717 $ 18,558
Claim reserves .......................................... 24,063 19,447
Unearned premiums ....................................... 9,249 10,398
Other policyholder funds ................................ 1,920 1,842
Deferred income tax ..................................... 4,163 2,852
Current Income tax payable .............................. 382 0
Other liabilities ....................................... 3,174 4,603
--------- ---------
Total liabilities .................................... $ 61,668 $ 57,700
--------- ---------
Shareholders' Equity
Common stock, $1 par value, 2,339,848 shares issued ........ 2,340 2,340
Additional paid in capital ................................. 17 17
Net unrealized appreciation on
securities available-for-sale, net of deferred taxes .. 11,164 7,941
Retained earnings .......................................... 31,595 30,513
Treasury stock, at cost (27,028 shares) .................... (390) (292)
--------- ---------
Total shareholders' equity .............................. 44,726 40,519
--------- ---------
Total liabilities and shareholder's equity .............. $ 106,394 $ 98,219
========= =========
Shareholders' Equity per Share ............................. 19.33 17.47
========= =========
</TABLE>
The Notes to Financial Statements are an integral part of these statements.
4
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THE NATIONAL SECURITY GROUP. INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands) Nine Months
Ended September 30
1997 1996
----- ----
Cash Flows from Operating Activities
Income from continuing operations ................. $ 2,265 $ 471
Adjustments to reconcile income from continuing
operations to net cash provided by (used in)
operating activities:
Accrued investment income ....................... (178) 77
Reinsurance receivables ......................... (88) 5,707
Deferred Policy acquisition costs ............... (315) (189)
Income Taxes .................................... 1,951 118
Depreciation expense ............................ 89 90
Policy liabilities and claims ................... 3,626 (3,604)
Other, net ...................................... 491 (1,397)
-------- --------
Net cash provided by operating activities ..... 7,841 1,273
-------- --------
Cash Flows from Investing Activities
Cost of investments acquired ................... (17,043) (5,247)
Sale and maturity of investments ............... 8,223 7,106
Purchase of property and equipment ............. (95) (15)
Proceeds from disposal of property and equipment 0 0
Other, net ..................................... 0 0
-------- --------
Net cash used in investing activities ........ (8,915) 1,844
-------- --------
Cash Flows from Financing Activities
Increase in other policyholder funds ........... 77 (40)
Dividends paid ................................. (1,182) (1,114)
Purchase of treasury stock ..................... (98) (71)
-------- --------
Net cash used in financing activities ........ (1,203) (1,225)
-------- --------
Net increase (decrease) in cash and cash equivalents (2,277) 1,892
Cash and cash equivalents, beginning of period ...... 4,722 2,817
-------- --------
Cash and cash equivalents, end of period ............ $ 2,445 $ 4,709
======== ========
The Notes to the Financial Statements are an integral part of these statements.
5
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THE NATIONAL SECURITY GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 1-Basis of Presentation
The consolidated financial statements have been prepared in conformity with
generally accepted accounting principles. The interim financial statements
include all adjustments necessary, in the opinion of management, for fair
statement of financial position, results of operations and cash flows for the
periods reported. These adjustments are all normal recurring adjustments.
Note 2-Reinsurance
National Security Fire and Casualty Company ("NSFC") and National Security
Insurance Company ("NSIC") wholly owned subsidiaries of the Company, reinsure
certain portions of insurance risk which exceed various retention limits. NSFC
and NSIC are liable for these amounts in the event assuming companies are unable
to meet their obligations.
Note 3-Calculation of Earnings Per Share
Earnings per share were based on net income divided by the weighted average
common shares outstanding. The weighted average number of shares outstanding for
the period ending September 30, 1997 was 2,313, and for the period ending
September 30, 1996 was 2,320.
Note 4-Changes in Shareholder's Equity
During the nine months ended September 30, 1997 and 1996, there were no changes
in shareholders' equity except for net income of $2,265 and $471 respectively;
dividends paid of $1,183 and $1,114 respectively; unrealized investment gains,
net of applicable taxes, of $3,223 and $138 respectively, and purchase of
treasury stock of $98 and $70 respectively.
Note 5 - Deferred Taxes
The tax effect of significant temporary differences representing deferred tax
assets and liabilities are as follows:
September 30, January 1,
1997 1997
Deferred policy acquisition costs ............... (1,471) (1,364)
Policy liabilities .............................. 521 516
Unearned premiums ............................... 447 440
Claims liabilities .............................. 319 329
General insurance expenses ...................... 598 582
Unrealized gains on securities available-for-sale (4,389) (3,355)
Other ........................................... 218 0
------ ------
Net deferred tax assets (liability) ............. (4,163) (2,852)
====== ======
Deferred taxes are determined based on the estimated future tax effects of
differences between the financial statement and tax bases of assets and
liabilities given the provisions of the enacted tax laws.
6
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THE NATIONAL SECURITY GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Note 6-Contingencies
The Company and its subsidiaries continue to be named as parties to litigation
related to the conduct of their insurance operations. These suits involve
alleged breaches of contracts, torts, including bad faith and fraud claims based
on alleged wrongful or fraudulent acts of agents of the Company's subsidiaries,
and miscellaneous other causes of action. Most of these lawsuits include claims
for punitive damages in addition to other specified relief. The frequency of
these lawsuits has increased significantly over the past 36 months, particularly
in Alabama where the Company conducts the majority of its business. Certain of
these actions are filed in jurisdictions in Alabama where local juries have
returned large punitive damage verdicts against insurance companies and
financial institutions with, in many cases, the punitive damage award bearing
little or no relation to the actual damages. It is not feasible to predict or
determine the ultimate outcome of these matters.
On October 4, 1996, a jury in the Circuit Court of Palm Beach County, Florida
returned a verdict against National Security Fire & Casualty Company, a
subsidiary of the Company, in the amount of $995,252. The plaintiff, Leon B.
King, had alleged that the Company's subsidiary had acted in bad faith in, among
other actions, failing to timely deliver a settlement check in connection with a
1986 automobile accident. This same case was previously tried in 1993 with the
jury returning a verdict in favor of the Company's subsidiary on all counts
alleged. This verdict was subsequently reversed on appeal which resulted in the
subject trial. Various post-trial motions including a motion for a new trial
were denied and this verdict is being appealed.
A resolution of these matters may significantly impact consolidated earnings and
may significantly impact the Company's consolidated financial position, although
it remains management's opinion, based upon information presently available,
that the ultimate resolution of these matters will not have a material impact on
the Company's consolidated financial position. It should be noted, however, that
management is unable to assess with any degree of accuracy the potential
liability to the Company arising from these matters. The civil tort system,
particularly in Alabama, must be presently regarded as, for the most part,
hostile to insurance companies.
Note 7-Accounting for certain investments in debt and equity securities
Effective January 1, 1994 the Company and its subsidiaries adopted Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" (SFAS 115). This statement, among other things,
requires investment securities (bonds, notes, common stock and preferred stocks)
to be divided into one of three categories: held to maturity,
available-for-sale, and trading.
The Company's securities are classified in two categories and accounted for as
follows:
* Securities Held-to-Maturity. Bonds, notes and redeemable preferred stock
for which the Company has the positive intent and ability to hold to
maturity are reported at cost, adjusted for amortization of premiums and
accretion of discounts which are recognized in interest income using
methods which approximate level yields over the period to maturity.
*Securities Available-for-Sale. Bonds, notes, common stock and
non-redeemable preferred stock not classified as either held-to-maturity,
or trading are reported at fair value, adjusted for other-than-temporary
declines in fair value.
The Company and its subsidiaries have no trading securities.
7
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THE NATIONAL SECURITY GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Note 7-Accounting for certain investments in debt and equity securities
(continued)
Unrealized holding gains and losses, net of tax, on securities
available-for-sale are reported as a net amount in a separate component of
shareholders' equity until realized. Realized gains and losses on the sale of
securities available-for-sale are determined using the specific-identification
method. Mortgage loans are stated at the unpaid principle balance of such loans.
Investment real estate is reported at cost, less allowances for depreciation
computed on the straight-line basis. Short-term Investments are carried at cost,
which is approximate market value. Investments with other than temporary
impairment in value are written down to estimated realizable values.
8
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INTRODUCTION
The following discussion addresses the financial condition of The National
Security Group, Inc. as of September 30, 1997, compared with December 31, 1996
and its results of operations and cash flows for the quarter ending September
30, 1997, compared with the same period last year.
The reader is assumed to have access to the Company's 1996 Annual Report. This
discussion should be read in conjunction with the Annual Report and with
consolidated financial statements on pages 3 through 6 of this form 10-Q.
Information is presented in whole dollars.
CONSOLIDATED RESULTS OF OPERATIONS
Premium revenues:
Earned premium for the nine month period ending September 30, 1997 was $23.8
million versus $19.5 million for the same period last year. This 22% increase is
primarily due to growth in the property/casualty subsidiary's private passenger
and commercial automobile programs in Louisiana and Georgia which began in early
1996. Earned premium from the new private passenger automobile programs are
projected to reach $6.5 million by year end. Earned premium from the commercial
automobile program is expected to reach $2.9 million for the year. The Company
has started a new commercial auto program in Missouri , and a new mobile
homeowners program in Louisiana during the third quarter.
Net investment income:
Net investment income is up $310,000, primarily due to an increase in cash
available for investment generated by new programs.
Realized capital gains and losses:
Investment gains of $2,097,000 were realized in the first nine months of 1997,
with most of the sales taking place in the second and third quarter. The
Company's investment committee elected to sale a portion of larger common stock
holdings to increase the diversity of the portfolio.
Other income:
Other income is up $96,000 due to an increase in policy fees.
Policyholder benefits and settlement expenses:
Policyholder benefits as a percent of net insurance premiums earned is down four
percentage points from last year, 71.0% versus 75.0%. The decrease is primarily
due to improvement in the property/casualty subsidiary's low value dwelling and
homeowners insurance programs. So far this year, these programs have not
suffered from severe weather losses which negatively impacted loss ratios the
last two years. Last year's loss ratio was not only impacted by tornadoes which
hit the Southeastern United States early in the year, but the programs also,
incurred an unusually high number of fire losses due to the colder than normal
winter.
For the quarter, policyholder benefits increased considerably compared to the
third quarter of last year. The property/casualty subsidiary's new private
passenger auto programs are incurring higher than expected losses.
9
<PAGE>
Management has taken measures to reduce losses by selectively reducing
independent agents, imposed more stringent underwriting guidelines, and has
filed for rate adjustments in Louisiana and Georgia.
Policy acquisition costs:
Policy acquisition costs as a percent of premiums earned are down slightly from
last year due to the cancellation of some higher commission rate programs
general agency programs.
General insurance expenses:
General insurance expenses increased during the third quarter primarily due to
underwriting association assessments incurred by a property/casualty subsidiary
in connection with losses incurred in Hurricane Danny. The Company's direct
losses incurred in Hurricane Danny were not significant.
Insurance taxes, licenses, and fees:
Insurance taxes, licenses and fees as a percent of earned premium is down due to
the discontinuation of a commercial multi-line general agent program. In this
program the property/casualty subsidiary paid all premium taxes but ceded 80% of
the business which, on a net premium basis, increased the Company's premium tax
rate.
Income taxes:
The Company's current and deferred income taxes as a percent of earned premium
is slightly higher than normal due to the partial taxation of unearned property
and casualty premiums which have increased over the past nine months.
Summary:
Net income is up nearly $1.8 million from last year due to increased premium
revenue, a slight drop in the Company's benefit payments as a percent of premium
revenues, and an increase in realized capital gains.
Investments:
Investments increased $12 million during the first nine months of 1997.
Increased cash flow from operations, coupled with an increase in market value of
over $4 million in the Company's available for sale securities portfolio fueled
the increase in investments.
Capital resources:
At September 30, 1997, the Company had aggregate equity capital, unrealized
investment gains (net of income taxes) and retained earnings of $44.7 million,
up $4.2 million from December 31, 1996. The increase reflects a net income of
$2.3 million, an increase in unrealized investment gains of $3.2 million,
dividends paid of $1.2 million, and treasury stock purchased of $98,000.
The Company has no long term debt.
Liquidity:
The liquidity requirements of the Company are primarily met by funds provided
from operations of the life insurance and property/casualty subsidiaries.
Premium and investment income, as well as maturities, calls, and sales of
invested assets, provide the primary sources of cash for both subsidiaries. Cash
is used by subsidiaries for payments of policy benefits, the acquisition of new
business (principally commissions), operating expenses, and purchases of new
investments.
10
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The Company had $2.4 million in cash and cash equivalents at September 30, 1997.
Net cash provided by operating activities was $7.8 million for the current
period, compared to net cash provided of $1.2 million for the period ended
September 30, 1996. Cash used in investing activities was $8.9 million, which is
due to acquisitions made with cash generated by operations. Cash dividends paid
to stockholders' of $1,182,000 are the primary uses of cash used in financing
activities.
11
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Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
See Exhibit Index
12
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed by the undersigned duly
authorized officer, on its behalf and in the capacity indicated.
The National Security Group, Inc.
By _____________________________
M.L. Murdock
Senior Vice President and
Chief Financial Officer
Dated: November 13, 1997
13
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EXHIBIT INDEX
Exhibit Description Page
(a) 11 Statement Regarding Computation of Per Share Earnings Filed Herewith;
See Note 3 to
Financial
(b) Form 8-K None
14
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 7
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JUL-01-1997
<PERIOD-END> SEP-30-1997
<DEBT-HELD-FOR-SALE> 18,423
<DEBT-CARRYING-VALUE> 33,176
<DEBT-MARKET-VALUE> 33,834
<EQUITIES> 28,785
<MORTGAGE> 329
<REAL-ESTATE> 1,615
<TOTAL-INVEST> 82,858
<CASH> 2,445
<RECOVER-REINSURE> 12,576
<DEFERRED-ACQUISITION> 4,328
<TOTAL-ASSETS> 106,394
<POLICY-LOSSES> 18,717
<UNEARNED-PREMIUMS> 9,249
<POLICY-OTHER> 24,063
<POLICY-HOLDER-FUNDS> 1,920
<NOTES-PAYABLE> 0
0
0
<COMMON> 2,340
<OTHER-SE> 42,386
<TOTAL-LIABILITY-AND-EQUITY> 106,394
23,757
<INVESTMENT-INCOME> 3,189
<INVESTMENT-GAINS> 2,097
<OTHER-INCOME> 488
<BENEFITS> 16,869
<UNDERWRITING-AMORTIZATION> 4,243
<UNDERWRITING-OTHER> 4,995
<INCOME-PRETAX> 3,424
<INCOME-TAX> 1,159
<INCOME-CONTINUING> 2,265
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,265
<EPS-PRIMARY> .98
<EPS-DILUTED> .98
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
