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
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1999
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 August 6, 1999: 2,055,811
Exhibit index is located on page 15.
Page 1 of 15 pages
1
<PAGE>
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 Shareholders' Equity ................ 5
Consolidated Statements of Cash Flows ........................... 6
Notes to Financial Statements ................................... 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations ..................................... 10
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K ............................... 13
SIGNATURE ............................................................... 14
EXHIBIT INDEX ........................................................... 15
2
<PAGE>
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
THE NATIONAL SECURITY GROUP, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
Three Months Six Months
Ended June 30 Ended June 30
1999 1998 1999 1998
---- ---- ---- ----
Revenues
Net insurance premiums earned ........................................ $ 6,627 $ 7,273 $ 13,498 $ 14,774
Net investment income ................................................ 1,070 917 2,155 2,082
Realized investment gains ............................................ 831 937 1,498 1,417
Other income ......................................................... 85 126 206 264
-------- -------- -------- --------
Total revenues ..................................................... 8,613 9,253 17,357 18,537
-------- -------- -------- --------
Benefits and Expenses
Policyholder benefits and settlement expenses ........................ 3,468 6,128 8,915 12,009
Policy acquisition costs ............................................. 1,301 1,640 2,759 3,311
General insurance expenses ........................................... 856 2,587 1,824 3,877
Insurance taxes, licenses and fees ................................... 265 301 585 698
-------- -------- -------- --------
Total benefits and expenses ........................................ 5,890 10,656 14,083 19,895
-------- -------- -------- --------
Income Before Income Taxes and Cumulative Effect Adjustment .......... 2,723 (1,403) 3,274 (1,358)
Income Taxes (Current and deferred) .................................. 775 18 859 (257)
-------- -------- -------- --------
Net Income (Loss) .................................................... $ 1,948 $ (1,421) $ 2,415 $ (1,101)
======== ======== ======== ========
Earnings (loss) per share ............................................ $ 0.95 $ (0.62) $ 1.18 $ (0.48)
======== ======== ======== ========
Dividends Declared per Share ......................................... $ 0.20 $ 0.19 $ 0.40 $ 0.38
======== ======== ======== ========
The Notes to Financial Statements are an integral part of these statements.
</TABLE>
3
<PAGE>
THE NATIONAL SECURITY GROUP, INC.
CONSOLIDATED BALANCE SHEET
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
<S> <C> <C>
As of As of
June 30, December 31,
Assets 1999 1998
---- ----
Investments:
Debt Securities held-to-maturity at amortized cost
(estimated fair value: 1999 - $34,432; 1998 - 31,835) ... $ 34,039 $ 30,807
Debt Securities available-for-sale, at estimated fair value
(cost: 1999 - 19,827; 1998 - 20,315) ................... 19,257 20,337
Equity Securities, at market
(cost: 1999 - $12,931; 1998 - $13,860) .................. 29,708 30,898
Receivable for securities sold ................................. 0 315
Mortgage loans .............................................. 124 135
Investment real estate, at cost ............................. 1,578 1,629
Policy loans ................................................ 638 645
--------- ---------
Total investments ......................................... 85,344 84,766
--------- ---------
Cash and cash equivalents ...................................... 2,544 4,073
Accrued investment income ...................................... 841 764
Reinsurance recoverable ........................................ 5,631 6,833
Deferred policy acquisition costs .............................. 4,131 4,154
Current income tax recoverable ................................. 0 75
Prepaid reinsurance premiums ................................... 261 266
Other assets ................................................... 2,996 3,042
--------- ---------
Total assets ................................................ $ 101,748 $ 103,973
========= =========
Liabilities
Policy reserves ............................................. $ 18,857 $ 18,833
Claim reserves .............................................. 20,227 21,875
Unearned premiums ........................................... 8,430 8,745
Other policyholder funds .................................... 1,590 1,635
Notes payable ............................................... 2,938 3,004
Current income tax payable .................................. 310 0
Deferred income tax ......................................... 3,874 4,145
Other liabilities ........................................... 2,502 3,768
--------- ---------
Total liabilities ........................................ $ 58,728 $ 62,005
--------- ---------
Shareholders' Equity
Common stock, $1 par value, 2,339,848 shares issued ............ 2,340 2,340
Additional paid in capital .................................. 17 17
Accumulated comprehensive income:
Net unrealized appreciation on investment securities ...... 11,545 12,146
Retained earnings .............................................. 32,699 31,106
Treasury stock, at cost (284,037 shares) ....................... (3,581) (3,641)
--------- ---------
Total shareholders' equity .................................. 43,020 41,968
--------- ---------
Total liabilities and shareholder's equity ................... $ 101,748 $ 103,973
========= =========
Shareholders' Equity per Share .................................. 20.92 20.46
========= =========
The Notes to Financial Statements are an integral part of these statements.
</TABLE>
4
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THE NATIONAL SECURITY GROUP, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C> <C>
Accumulated
Other
Retained Comprehensive Common Paid-in Treasury
Total Earnings Income Stock Capital Stock
Balance at December 31, 1997 ....................... $ 46,352 $ 31,888 $ 12,497 $ 2,340 $ 17 $ ( 390)
Comprehensive Income
Net Income for 1998 ............................ 930 930
Other comprehensive income(net of tax)
Unrealized loss on securities, net
of reclassification adjustment ............. (351) (351)
--------
Total Comprehensive Income ......................... 579
Cash dividends ($.77 per share) .................... (1,712) (1,712)
Treasury stock purchased ........................... (3,251) (3,251)
-------- -------- -------- -------- -------- --------
Balance at December 31, 1998 ....................... $ 41,968 $ 31,106 $ 12,146 $ 2,340 $ 17 $ (3,641)
Comprehensive Income
Net Income six months ended 6/30/1999 ............ 2,415 2,415
Other comprehensive income(net of tax)
Unrealized loss on securities, net
of reclassification adjustment ............. (600) (600)
--------
Total Comprehensive Income ......................... 1,815
Cash dividends ($.40 per share) .................... ( 821) ( 821)
Treasury stock issued .............................. 58 58
-------- -------- -------- -------- -------- --------
Balance at June 30, 1999 ........................... $ 43,020 $ 32,700 $ 11,546 $ 2,340 $ 17 $ (3,583)
======== ======== ======== ======== ======== ========
</TABLE>
The Notes to the Financial Statements are an integral part of these statements.
5
<PAGE>
THE NATIONAL SECURITY GROUP. INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
<S> <C> <C>
Six Months
Ended June 30
1999 1998
----- ----
Cash Flows from Operating Activities
Income from continuing operations ...................... $ 2,415 $(1,101)
Adjustments to reconcile income from continuing
operations to net cash provided by (used in)
operating activities:
Accrued investment income ............................ (77) (43)
Reinsurance receivables .............................. 1,202 520
Deferred Policy acquisition costs .................... 23 16
Income Taxes ......................................... 114 (147)
Depreciation expense ................................. 50 61
Policy liabilities and claims ........................ (1,939) 1,749
Other, net ........................................... (1,185) 239
------- -------
Net cash provided by operating activities .......... 603 1,294
------- -------
Cash Flows from Investing Activities
Cost of investments acquired ........................ (9,903) (4,907)
Sale and maturity of investments .................... 8,724 4,795
Purchase of property and equipment .................. (80) (37)
Proceeds from disposal of property and equipment .... 0 0
Other, net .......................................... 0 0
------- -------
Net cash used in investing activities ............. (1,259) (149)
------- -------
Cash Flows from Financing Activities
Decrease in other policyholder funds ................ (45) (141)
Payments on notes payable ........................... (66) 0
Dividends paid ...................................... (822) (871)
Treasury stock issued (purchased) ................... 61 (722)
------- -------
Net cash used in financing activities ............. (872) (1,734)
------- -------
Net increase (decrease) in cash and cash equivalents ..... (1,529) (589)
Cash and cash equivalents, beginning of period ........... 4,073 3,888
------- -------
Cash and cash equivalents, end of period ................. $ 2,544 $ 3,299
======= =======
</TABLE>
The Notes to the Financial Statements are an integral part of these statements.
6
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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. A
summary of the more significant accounting policies are set forth in the notes
to the audited consolidated financial statements for the year ended December 31,
1998.
Note 2-Reinsurance
National Security Fire and Casualty Company ("NSFC"), Omega One Insurance
Company ("OMEGA"), and National Security Insurance Company ("NSIC") wholly owned
subsidiaries of the Company, reinsure certain portions of insurance risk which
exceed various retention limits. NSFC, OMEGA, 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 June 30, 1999 was 2,054,000 and for the period ending June 30,
1998 was 2,271,000.
Note 4-Changes in Shareholder's Equity (in thousands)
During the six months ended June 30, 1999 and 1998, there were no changes in
shareholders' equity except for net income (loss) of $2,415 and $(1,101)
respectively; dividends paid of $821 and $871 respectively; unrealized
investment (losses)gains, net of applicable taxes, of $(600) and $1,169
respectively, and issuance (purchase) of treasury stock of $61 and $(722)
respectively.
Note 5 - Deferred Taxes
The tax effect of significant temporary differences representing deferred tax
assets and liabilities are as follows:
(in thousands)
June 30, January 1,
1999 1999
Deferred policy acquisition costs ...................... (1,404) (1,412)
Policy liabilities ..................................... 463 463
Unearned premiums ...................................... 419 440
Claims liabilities ..................................... 552 569
General insurance expenses ............................. 758 710
Unrealized gains on securities available-for-sale ...... (4,662) (4,915)
Other .................................................. 0 0
------ ------
Net deferred tax liability ............................. (3,874) (4,145)
====== ======
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.
7
<PAGE>
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. It is not feasible
to predict or determine the ultimate outcome of these matters. 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- Comprehensive Income
Effective January 1, 1998 the Company and its subsidiaries adopted Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS
130). Comprehensive Income is defined as net income and all other changes in
stockholders' equity from transactions and events arising from non-owner
sources. The adoption of SFAS 130 had no impact on the Company's net income or
Shareholders' equity. The primary additional component for The National Security
Group, Inc. is unrealized investment gains and losses. Total comprehensive
income was $(600,000) and $72,000 at June 30, 1999 and 1998, respectively.
Note 8- Accounting for the Costs of Computer Software Developed or Obtained
for Internal Use
In March 1998 the Accounting Standards Executive Committee issued Statement of
Opinion (SOP) 98-1 "Accounting for the costs of computer software developed or
obtained for internal use". This pronouncement is affective for periods
beginning January 1, 1999. The adoption of this standard did not have a material
impact on the Company's financial position, results of operations, or cash
flows.
Note 9-Year 2000 Issue
The Year 2000 issue relates to computer system programs which may not properly
recognize the change in date years from 1999 to 2000. As a result of this time
sensitivity of existing software, any business entity is at risk of possible
system failure or miscalculations causing disruption of operations, including,
among other things, a temporary inability to process transactions, send
billings, or engage in similar normal business activities.
The Company has completed modification of all mission critical computer
programs. Tests of these programs were completed in early August of 1999, and at
the conclusion of testing it was determined that all date fields had been
changed to accommodate the rolling forward to year 2000. Remaining non mission
critical programs will be year 2000 compliant by the end of the third quarter of
2000.
8
<PAGE>
THE NATIONAL SECURITY GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
In the event of an unforeseen disruption due to the year 2000 issue, the Company
is developing a contingency plan. The contingency plan, which is expected to be
completed by September 30, 1999, includes obtaining commitments from outside
contractors for additional computer programming and consulting personnel in the
event of a disruption. These personnel will be available in the event that a
problems arise to an extent that they can not be handled by in house programmers
The contingency plan will also include plans for alternative methods of
processing some functions.
9
<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 June 30, 1999, compared with December 31, 1998 and
its results of operations and cash flows for the quarter ending June 30, 1999,
compared with the same period last year.
The reader is assumed to have access to the Company's 1998 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 six month period ending June 30, 1999 was $13.5 million
versus $14.7 million for the same period last year. This reduction in premium is
primarily due to a subsidiary eliminating a private passenger automobile program
in Georgia. Property and casualty insurance premiums have declined over the past
couple of years as the Company has eliminated several programs that were
marketed by managing general agents. These programs were commercial and private
passenger auto programs which did not produce favorable underwriting results for
the Company. In an effort to improve underwriting profitability, the Company is
now refocusing on core programs in the homeowners insurance and low value
dwelling fire insurance lines of business. Premium revenue is expected to be
down for the remainder of 1999, and is projected to be down around 12% for the
year compared to 1998. However, underwriting results are expected to be much
improved over last year.
Net investment income:
Net investment income is up slightly, primarily due to a $2,000,000 increase in
investments in debt securities over the last year.
Realized capital gains and losses:
Investment gains of $1.5 million were realized in the first half of 1999. Most
of these gains were realized due to balancing of the insurance subsidiaries
investment portfolios during the year. The Company's investment committee will
reduce positions in stocks which, due to increases in market value, become
disproportionately large as a percent of the entire investment portfolio. In
light of the record highs achieved by many of the equity investments held by the
Company, the investment committee elected to sale a portion of certain holdings
to maintain the diversity of the portfolio.
Other income:
Other income is down due to a decrease in policy fees generated by an automobile
program which was discontinued in the first quarter of 1998.
10
<PAGE>
Policyholder benefits and settlement expenses:
Policyholder benefits are down over $3,000,000 for the year to date compared to
1998, and are down for the quarter by over $2,600,000 compared to the same
quarter last year. There are two major factors which contributed to the
improvement in benefits and settlement expenses. The primary factor contributing
to this improvement in underwriting results is the discontinuation of two of the
private passenger auto programs and a commercial auto program in the
property/casualty subsidiaries. These programs were discontinued over the last
two years and remaining policies in force on the final program to be canceled
are expected to expire by the end of 1999. Another factor contributing to the
improved underwriting results is the lack of storm related losses in the
homeowners and low value dwelling lines of business. In the first six months of
1998 the property/casualty subsidiaries incurred several tornado related losses
the largest of which was over $500,000 in losses from a single tornado which hit
Jefferson County Alabama. In the first six months of 1999, while much of the
country has been hit with various natural disasters, the states in which the
property/casualty subsidiaries operate have incurred only isolated and moderate
damage. However, the areas which have the highest concentrations of
property/casualty business are prone to hurricane damage, and the third quarter
of each year is usually the peak of hurricane season.
Policy acquisition costs:
Policy acquisition costs as a percent of premiums earned are down about two
percentage points for the quarter and year to date due to some of the managing
general agent programs, which usually have higher commission costs, being
canceled.
General insurance expenses:
General insurance expenses are down 66% and 53% for the quarter and year to date
respectively. The primary reason for the large decrease in general expenses is a
drop in litigation expenses. A Company subsidiary settled a large litigation
claim in Florida in the first half of 1998, which significantly increased
general expenses.
Insurance taxes, licenses, and fees:
Insurance taxes, licenses and fees are down due to a decrease in written
premium.
Income taxes:
Income taxes are up over last year due to the improved results of operations.
Income taxes are 26% of income before taxes.
Summary:
The Company has a year to date net income of $2.4 million versus a net loss of
$1.1 million in 1998. The improved results in 1999 are primarily due to improved
underwriting results in the property/casualty subsidiaries operations, and a
decrease in litigation expenses compared to last year. The net loss in 1998 is
primarily a result of a litigation settlement reached in July of 1998 and
accrued in the second quarter, and from tornado and windstorm losses incurred in
low value dwelling and homeowners property insurance programs.
Investments:
Investments increased slightly during the first half of 1999 primarily due to
increases in the market value of equity securities. Proceeds from the sale of a
portion of the equity securities were reinvested in bonds which increased the
value of the held to maturity debt securities portfolio.
11
<PAGE>
Capital resources:
At June 30, 1999, the Company had aggregate equity capital, unrealized
investment gains (net of income taxes) and retained earnings of $43 million, up
over $1.0 million from December 31, 1998. The increase reflects net income of
$2.4 million, a decrease in unrealized investment gains of $600,000, dividends
paid of $821,000, and the issuance of treasury stock of $58,000.
The Company has $2.9 million in notes from local banks which management intends
to repay in full over the next five years.
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.
The Company had $2.5 million in cash and cash equivalents at June 30, 1999. Net
cash provided by operating activities was $603,000 for the current period,
compared to net cash provided of $1.3 million for the period ended June 30,
1998. Cash used in investing activities was $1.2 million. Cash dividends paid to
stockholders' of $822,000 and payments on notes payable of $66,000 were the
primary uses of cash used in financing activities.
12
<PAGE>
Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
See Exhibit Index
13
<PAGE>
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 /s/ M.L. Murdock
----------------------------------
M.L. Murdock
Senior Vice President and
Chief Financial Officer
Dated: August 13, 1999
14
<PAGE>
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
15
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 7
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<DEBT-HELD-FOR-SALE> 19,257
<DEBT-CARRYING-VALUE> 34,039
<DEBT-MARKET-VALUE> 34,432
<EQUITIES> 29,708
<MORTGAGE> 124
<REAL-ESTATE> 1,578
<TOTAL-INVEST> 85,344
<CASH> 2,544
<RECOVER-REINSURE> 5,631
<DEFERRED-ACQUISITION> 4,131
<TOTAL-ASSETS> 101,748
<POLICY-LOSSES> 18,857
<UNEARNED-PREMIUMS> 8,430
<POLICY-OTHER> 20,227
<POLICY-HOLDER-FUNDS> 1,590
<NOTES-PAYABLE> 2,938
0
0
<COMMON> 2,340
<OTHER-SE> 40,680
<TOTAL-LIABILITY-AND-EQUITY> 101,748
13,498
<INVESTMENT-INCOME> 2,155
<INVESTMENT-GAINS> 1,498
<OTHER-INCOME> 206
<BENEFITS> 8,915
<UNDERWRITING-AMORTIZATION> 2,759
<UNDERWRITING-OTHER> 1,824
<INCOME-PRETAX> 3,274
<INCOME-TAX> 859
<INCOME-CONTINUING> 2,415
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,415
<EPS-BASIC> 1.18
<EPS-DILUTED> 1.18
<RESERVE-OPEN> 0
<PROVISION-CURRENT> 0
<PROVISION-PRIOR> 0
<PAYMENTS-CURRENT> 0
<PAYMENTS-PRIOR> 0
<RESERVE-CLOSE> 0
<CUMULATIVE-DEFICIENCY> 0
</TABLE>
