<PAGE>
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 September 30, 2000
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
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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)
Registrants 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 8, 2000: 2,055,811
Exhibit index is located on page 15.
Page 1 of 15 pages
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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 Shareholders'Equity 5
Consolidated Statement of Cash Flow 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
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Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
THE NATIONAL SECURITY GROUP, INC.
CONSOLIDATED UNAUDITED STATEMENTS OF INCOME
(In thousands, except per share amounts)
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
Three Months Nine Months
Ended Sept 30 Ended Sept 30
2000 1999 2000 1999
Revenues
Net insurance premiums earned ............... $ 6,003 $ 6,292 $17,232 $19,790
Net investment income ....................... 1,104 1,114 3,262 3,269
Realized investment gains ................... 846 178 1,912 1,676
Other income ................................ 228 98 405 304
------- ------- ------- -------
Total revenues ............................ 8,181 7,682 22,811 25,039
------- ------- ------- -------
Benefits and Expenses
Policyholder benefits and settlement expenses 2,996 4,028 10,352 12,943
Policy acquisition costs .................... 1,503 1,485 3,691 4,244
General insurance expenses .................. 1,570 1,248 3,812 3,072
Insurance taxes, licenses and fees .......... 204 275 667 860
------- ------- ------- -------
Total benefits and expense ................ 6,273 7,036 18,522 21,119
------- ------- ------- -------
Income Before Income Taxes .................. 1,908 646 4,289 3,920
Income Taxes (Current and deferred) ......... 516 189 984 1,048
------- ------- ------- -------
Net Income .................................. $ 1,392 $ 457 $ 3,305 $ 2,872
======= ======= ======= =======
Earnings per share .......................... $ 0.68 $ 0.22 $ 1.61 $ 1.40
======= ======= ======= =======
Dividends Declared per Share ................ $ 0.21 $ 0.20 $ 0.63 $ 0.60
======= ======= ======= =======
</TABLE>
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>
<CAPTION>
<S> <C> <C>
As of As of
Sept 30, December 31,
2000 1999
(Unaudited)
Assets
Investments:
Debt Securities held-to-maturity at amortized cost
(estimated fair value: 2000 $29,326; 1999 $30,774) $ 29,519 $ 30,911
Debt Securities available-for-sale, at estimated fair value
(cost: 2000 $26,443; 1999 $ 23,065) 25,296 21,936
Equity Securities, at market
(cost: 2000--$13,069; 1999--$ 12,683) 25,160 27,676
Receivable for securities sold 0 0
Mortgage loans 94 112
Investment real estate, at cost 1,558 1,557
Policy loans 694 669
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Total investments 82,321 82,861
------- -------
Cash and cash equivalents 2,017 3,512
Accrued investment income 927 830
Reinsurance recoverable 3,688 4,687
Deferred policy acquisition costs 4,412 4,273
Prepaid reinsurance premiums 367 257
Other assets 2,842 1,685
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Total assets $ 96,574 $ 98,105
======= =======
Liabilities
Policy reserves $ 18,973 $ 18,987
Claim reserves 16,678 18,864
Unearned premiums 7,267 7,088
Other policyholder funds 1,534 1,526
Notes payable 2,465 2,672
Current income tax payable 990 53
Deferred income tax 2,850 3,014
Other liabilities 2,590 4,013
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Total liabilities $ 53,347 $ 56,217
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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 9,243 9,915
Retained earnings 35,208 33,197
Treasury stock, at cost (284,037 shares) (3,581) (3,581)
------- -------
Total shareholders' equity 43,227 41,888
------- -------
Total liabilities and shareholder's equity $ 96,574 $ 98,105
======= =======
Shareholders' Equity per Share 21.02 20.37
======= =======
</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 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, 1998 ............. $ 41,968 $ 31,106 $ 12,146 $ 2,340 $ 17 $ (3,641)
Comprehensive Income
Net Income for 1999 .................. 3,756 3,756
Other comprehensive income(net of tax)
Unrealized loss on securities, net
of reclassification adjustment ... (2,231) (2,231)
--------
Total Comprehensive Income ............... 1,525
--------
Cash dividends ($.81 per share) .......... (1,665) (1,665)
Treasury stock sold ...................... 60 60
-------- -------- -------- -------- -------- --------
Balance at December 31, 1999 ............. $ 41,888 $ 33,197 $ 9,915 $ 2,340 $ 17 $ (3,581)
Comprehensive Income
Net Income nine months ended 9/30/2000 3,305 3,305
Other comprehensive income(net of tax)
Unrealized loss on securities, net
of reclassification adjustment ... ( 672) ( 672)
--------
Total Comprehensive Income ............... 2,633
--------
Cash dividends ($.63 per share) .......... (1,294) (1,294)
Balance at Sept, 30 2000 (Unaudited) .... $ 43,227 $ 35,208 $ 9,243 $ 2,340 $ 17 $ (3,581)
======== ======== ======== ======== ======== ========
</TABLE>
The Notes to the Financial Statements are an integral part of these unaudited
financial statements.
5
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THE NATIONAL SECURITY GROUP. INC.
CONSOLIDATED UNAUDITED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
<S> <C> <C>
Nine Months
Ended Sept 30
2000 1999
Cash Flows from Operating Activities
Income from continuing operations $ 3,305 $ 2,872
Adjustments to reconcile income from continuing
operations to net cash provided by (used in)
operating activities:
Accrued investment income (97) (177)
Reinsurance receivables 999 774
Deferred Policy acquisition costs (139) 92
Income Taxes 773 (715)
Depreciation expense 99 75
Policy liabilities and claims (2,021) (2,830)
Other, net (2,743) (900)
------- -------
Net cash provided by operating activities 176 (809)
------- -------
Cash Flows from Investing Activities
Cost of investments acquired (6,329) (11,746)
Sale and maturity of investments 6,197 11,449
Purchase of property and equipment (46) (90)
Proceeds from disposal of property and equipment 0 0
Other, net 0 0
------- -------
Net cash used in investing activities (178) (387)
------- -------
Cash Flows from Financing Activities
Decrease in other policyholder funds 8 (81)
Payments on notes payable (207) (128)
Dividends paid (1,294) (1,233)
Treasury stock issued 0 60
------- -------
Net cash used in financing activities (1,493) (1,382)
------- -------
Net increase (decrease) in cash and cash equivalents (1,495) (2,578)
Cash and cash equivalents, beginning of period 3,512 4,073
------- -------
Cash and cash equivalents, end of period $ 2,017 $ 1,495
======= =======
</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 unaudited 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,
1999.
The accompanying consolidated unaudited financial statements include the
accounts of The National Security Group, Inc. (the Company) and its wholly owned
subsidiaries: National Security Insurance Company (NSIC), National Security Fire
and Casualty Company (NSFC) and Natsco, Inc. (Natsco). NSFC includes a wholly
owned subsidiary, Omega One Insurance Company.
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 September 30, 2000 was 2,056,000 and for the period ending
September 30, 1999 was 2,055,000.
Note 4-Changes in Shareholder's Equity (in thousands)
During the nine months ended September 30, 2000 and 1999, there were no changes
in shareholders' equity except for net income of $3,305 and $2,872 respectively;
dividends paid of $1,294 and $1,233 respectively; unrealized investment losses,
net of applicable taxes, of $(672) and ($2,241) respectively, and issuance of
treasury stock of $0 and $61 respectively.
Note 5 - Deferred Taxes
The tax effect of significant temporary differences representing deferred tax
assets and liabilities are as follows:
(in thousands)
September 30, January 1,
2000 2000
Deferred policy acquisition costs ...................... (1,500) (1,453)
Policy liabilities 436 488
Unearned premiums 440 327
Claims liabilities 479 548
General insurance expenses ............................. 713 711
Alternative minimum tax credit carry forward ........... 244 314
Unrealized gains on securities available-for-sale ...... (3,662) (3,950)
Other .................................................. 0 0
------- -------
Net deferred tax liability ............................. (2,850) (3,015)
======= =======
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.
National Security Fire & Casualty Company, a subsidiary of the Company, was
named as a defendant in a purported class action filed in Lee County, Alabama.
On January 4, 2000 the Circuit Court of Lee County preliminarily approved a
consent settlement to this action and the settlement was finalized in the second
quarter of 2000. A provision for this settlement was reflected in the 1999
results of operations of the Company.
During June and July of 2000 a subsidiary of the company, National Security
Insurance Company, received inquiries from the Alabama and Georgia Departments
of Insurance regarding the issuance of industrial life insurance policies with
race based premiums. NSIC is currently investigating the matter and intends to
fully cooperate with the inquiries of each Department. In two separate recently
filed actions, NSIC is named as a defendant in purported class actions relating
to the past sale of industrial burial insurance. The actions address whether the
premiums charged were excessive relative to the benefit provided and whether
the premiums charged were in any manner discriminatory relative to the race of
the person insured. These actions are in the initial phases and no discovery has
been undertaken and no class has been certified. The issues raised in these
actions are similar to the issues pending in numerous other actions currently
pending nationwide against numerous insurers. While NSIC did at one time sell
industrial burial insurance, no such plans have been sold for several decades.
The Company establishes and maintains reserves on contingent liabilities. In
many instances, however, it is not feasible to predict the ultimate outcome with
any degree of accuracy. While a resolution of these matters may significantly
impact consolidated earnings and the Company's consolidated financial position,
it remains management's opinion, based on information presently available, that
the ultimate resolution of these matters will not have a material impact on the
Company's consolidated financial position. However, it should be noted that
instances of class action lawsuits against insurance companies appear to be
increasing in several states in which insurance subsidiaries of the company
operate. Also, in Alabama, where the Company's subsidiaries have substantial
business, the possibility of a judgment in any given suit, including a large
punitive damage award by a jury, bearing little or no relation to actual
damages, continues to exists, creating the potential for unpredictable material
adverse financial results.
Note 7-Accounting for certain investments in debt and equity securities
The Company's investment 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 amoritization of premiums and accretion of
discounts which are recognized in interest 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.
8
<PAGE>
THE NATIONAL SECURITY GROUP, INC.
NOTES TO FINANCIAL STATEMENTS
(Continued)
Unrealized holding gains and losses, net of tax, on securities
available-for-sale are determined using the specific-identification method.
Mortgage loans and policy loans are stated at the unpaid principle balance of
such loans. Investment real estate is reported at cost, less allowance for
depreciation computed on the straight-line basis. Short-term investments are
carried at cost, which approximate market value. Investments with other than
temporary impairments in value are written down to estimated realizable values.
Note 8-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 primary additional component for The Company is unrealized
investment gains and losses. Total comprehensive income, net of reclassification
adjustment, was $2,633,000 and $631,000 at September 30, 2000 and 1999,
respectively.
9
<PAGE>
Item 2.
MANAGEMENTS' 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, 2000, compared with December 31, 1999
and its results of operations and cash flows for the nine months ending
September 30, 2000, compared with the same period last year.
The reader is assumed to have access to the Company's 1999 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:
Premium revenues are derived from the sale of property and casualty and life,
accident and health insurance in three subsidiaries. National Security Fire and
Casualty Company (NSFC) and Omega One Insurance Company (Omega), are property
and casualty insurance subsidiaries. National Security Insurance Company (NSIC)
is a life, accident and health insurance subsidiary. For the nine months ended
September 30, 2000 total premium revenues totaled $17,232,000 compared to
$19,790,000 last year. 80% of total premium revenues in the first nine months of
2000 have been generated from the sale of property and casualty insurance, 16%
of total premium revenues have been generated from the sale of life insurance,
and the remaining 4% of total premium revenues have been generated from the sale
of accident and health insurance.
Premium revenue in the life, accident and health insurance subsidiary, National
Security Insurance Company (NSIC), totaled $3,422,000 in the first nine months
of 2000, compared to $3,063,000 in the same period last year, an increase of
12%. The increase in NSIC premium revenues is due to a 16% increase in life
insurance sales. Life insurance sales in the first nine months of 2000 totaled
$2,778,000 compared to $2,395,000 in the same period last year. The primary
reason for the increase in new life insurance sales is the successful launch of
a new method of distribution of NSIC's insurance products. NSIC has
traditionally been a home service insurance company with employee agents selling
and collecting insurance premiums in insured's homes. During 1998, in an effort
to reach new markets, NSIC began offering independent agents the opportunity to
sell life insurance. The program produced minimal results in 1998 and 1999, but
has generated improved results in 2000.
Premium revenue in the property/casualty insurance subsidiaries totaled
$13,810,000 in the first nine months of 2000, compared to $16,727,000 in the
same period last year, a decrease of 17%. The primary reason for the decline in
property/casualty premium revenue is the discontinuation, during 1999 and 2000,
of several unprofitable insurance programs managed by managing general agents.
Due to unfavorable underwriting results, and in an effort to refocus on core
lines of business, the management of NSFC and Omega eliminated the last
significant managing general agent program in the second quarter of 2000.
In an effort to improve operating results and increase premium revenue,
management is now working on improving existing products that have performed
well in the past and focus marketing efforts on existing profitable lines of
business.
10
<PAGE>
Net investment income:
Net investment income was $3,262,000 for the first nine months of 2000, compared
to $3,269,000 in the same period in 1999. Investment income for the first nine
months of 2000 was composed of $2,762,000 in interest income, $494,000 in
dividend income, and $6,000 in other investment income. Investment income for
the same period in 1999 was composed of $2,759,000 in interest income, $504,000
in dividend income and $6,000 in other investment income.
Realized capital gains and losses:
Investment gains of $1.9 million were realized in the first nine months of 2000
compared to $1.7 million in the same period 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.
Other income:
Other income is $405,000 for the first nine months of 2000 compared to $304,000
for the same period last year. The increase in other income is due to an
increase in billing fees collected on a new monthly bill auto program launched
by Omega in the third quarter of 2000.
Policyholder benefits and settlement expenses:
Policyholder benefits and settlement expenses as a percent of earned premium is
down significantly compared to last year, 60% versus 65%. Even more significant
is the improvement shown in the three months ended September 30, 2000 compared
to the same period last year. In the third quarter of 2000 policyholder benefits
and settlement expenses were 49.9% of earned premium compared to 64% in the same
period in 1999.
The improvement in underwriting results is due to improved operating performance
in the property and casualty insurance subsidiary. The most significant
contributing factor to the improved operating performance is the previously
mentioned elimination of two unprofitable commercial and private passenger
general agent auto programs in the states of Louisiana and Georgia. The
elimination of another general agent auto program in Florida is expected to
further enhance underwriting performance in future periods. The property and
casualty subsidiaries have also had moderate improvements in underwriting
results from remaining programs.
Policy acquisition costs:
Policy acquisition costs are down $553,000 compared to last year, but as a
percent of earned premium is the same as in 1999. Again, the primary factor
contributing to the decrease in policy acquisition cost is the discontinuation
of several managing general agent programs over the last two years.
General insurance expenses:
General insurance expenses are up primarily due to an increase contingent
reserve on various actions discussed in note six to the financial statements.
The insurance subsidiaries have also incurred an increase in cost associated
with upgrading various insurance products including actuarial fees and marketing
related expenses.
Insurance taxes, licenses, and fees:
Insurance taxes, licenses and fees are down due to a decrease in written
premium. Insurance taxes are also down as a percent of premium earned due to the
discontinuation of several program in states with higher tax rates.
11
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Summary:
The Company has a year to date net income of $3,305,000 versus net income of
$2,872,000 in 1999. Improved underwriting results in the property/casualty
subsidiaries and an increase of $236,000 in realized capital gains were the
primary factors contributing to the increase in net income.
Investments:
Investments at September 30, 2000 were $82,321,000 compared to $82,861,000 at
December 31, 1999. The most notable change in the composition of investments
since December 31, 1999 is a decrease of $2,516,000 in equity securities. This
decrease is primarily due to the sale of a portion of several positions that had
significant increases in value relative to the entire portfolio. The proceeds
from the sale of the equity securities were primarily reinvested in available
for sale debt securities.
Capital resources:
At September 30, 2000, the Company had aggregate equity capital, unrealized
investment gains (net of income taxes) and retained earnings of $43,227,000, up
$1,339,000 from December 31, 1999. The increase reflects net income of
$3,305,000, a decrease in unrealized investment gains of $672,000, dividends
paid of $1,294,000.
The Company has $2.5 million in notes from local banks which management intends
to repay in full over the next four 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 in the subsidiaries for payments of policy benefits, the acquisition of
new business (principally commissions), operating expenses, and purchases of new
investments.
The Company had $2,017,000 in cash and cash equivalents at September 30, 2000.
Net cash provided in operating activities was $176,000 for the current period,
compared to net cash used of $809,000 for the period ended September 30, 2000.
The improved operating cash flow is primarily due to the previously discussed
improvement in underwriting results and the resulting decrease in claim
payments. The primary use of cash from operating activities was the repayment of
liabilities, primarily previously reserved property and casualty claims. Cash
used in investing activities was $178,000. Cash dividends paid to stockholders'
of $1,294,000 and payments on notes payable of $207,000 were the primary uses of
cash used in financing activities.
12
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Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
See Exhibit Index
13
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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 /s/ M.L. Murdock
M.L. Murdock
Senior Vice President and
Chief Financial Officer
Dated: November 14, 2000
14
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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
Incorporated by reference to the Registrant's Current Report on
Form 8-K filed on July 27, 2000.
15
