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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 1997
Commission file number: 811-6268
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SBM CERTIFICATE COMPANY
(Exact name of registrant as specified in its charter)
MINNESOTA 41-1671595
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
C/O ARM FINANCIAL GROUP, INC.
515 WEST MARKET STREET
LOUISVILLE, KENTUCKY 40202
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (502) 582-7900
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. /X/ Yes / / No
As of August 12, 1997, 250,000 shares of the registrant's common stock were
outstanding, all of which are privately owned and not traded on a public market.
The registrant meets the conditions set forth in General Instruction H(1)
(a) and (b) of Form 10-Q and is therefore filing this Form with the reduced
disclosure format.
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TABLE OF CONTENTS
Item Page
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PART I. FINANCIAL INFORMATION
1. Financial Statements (Unaudited)
Condensed Balance Sheets--June 30, 1997 and
December 31, 1996 . . . . . . . . . . . . . . . . . . . . . . . .3
Condensed Statements of Operations--Three and Six
Months Ended June 30, 1997 and 1996 . . . . . . . . . . . . . . .5
Condensed Statements of Cash Flows--Six Months
Ended June 30, 1997 and 1996. . . . . . . . . . . . . . . . . . .6
Notes to Condensed Financial Statements . . . . . . . . . . . . . . .7
2. Management's Analysis of Results of Operations. . . . . . . . . . . . . .8
PART II. OTHER INFORMATION
1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
6. Exhibits and Reports on Form 8-K. . . . . . . . . . . . . . . . . . . . 10
Signatures. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SBM CERTIFICATE COMPANY
CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
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(Unaudited)
<S> <C> <C>
ASSETS
Qualified assets:
Cash and investments:
Investments in securities of unaffiliated issuers:
Fixed maturities available-for-sale, at fair value
(amortized cost: June 30, 1997-$50,522,806;
December 31, 1996-$49,863,826) $ 50,616,626 $ 50,169,361
Equity securities, at fair value (cost:
June 30, 1997-$493,912; December 31,
1996-$493,912) 557,113 544,594
Certificate loans 186,603 273,368
Other invested assets 497,406 523,083
Cash and cash equivalents 2,013,804 3,247,192
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Total cash and investments 53,871,552 54,757,598
Receivables:
Dividends and interest 506,588 533,958
Receivable for investment securities sold -- 122,570
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Total receivables 506,588 656,528
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Total qualified assets 54,378,140 55,414,126
Deferred acquisition costs 137,943 132,163
Goodwill -- 113,095
Other assets 66,163 66,163
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Total assets $54,582,246 $55,725,547
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SBM CERTIFICATE COMPANY
CONDENSED BALANCE SHEETS (CONTINUED)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
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(Unaudited)
<S> <C> <C>
LIABILITIES AND SHAREHOLDER'S EQUITY
Liabilities:
Certificate reserves $ 48,586,319 $ 50,186,386
Payable for investment securities purchased 339,848 --
Deferred federal income taxes 389,427 445,419
Accounts payable and other liabilities 113,708 29,940
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Total liabilities 49,429,302 50,661,745
Shareholder's equity:
Common stock, 250,000 shares issued 250,000 250,000
Additional paid-in capital 3,050,000 3,050,000
Net unrealized gains on available-for-sale securities 102,064 231,541
Retained earnings 1,750,880 1,532,261
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Total shareholder's equity 5,152,944 5,063,802
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Total liabilities and shareholder's equity $ 54,582,246 $ 55,725,547
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SEE ACCOMPANYING NOTES.
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SBM CERTIFICATE COMPANY
CONDENSED STATEMENTS OF OPERATIONS (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
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1997 1996 1997 1996
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<S> <C> <C> <C> <C>
Investment income:
Interest income from securities $ 961,687 $ 1,023,658 $ 1,994,935 $ 2,023,722
Other investment income 51,891 49,628 95,404 99,147
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Total investment income 1,013,578 1,073,286 2,090,339 2,122,869
Investment and other expenses:
Management and investment advisory
fees 61,617 62,906 123,234 128,492
Deferred acquisition cost amortization
and renewal commissions 71,337 59,971 141,634 110,949
Real estate expenses 51,193 57,547 83,310 116,423
Amortization of goodwill 3,877 19,956 23,833 39,912
Other expenses 5,300 837 11,295 31,850
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Total investment and other expenses 193,324 201,217 383,306 427,626
Interest credited on certificate reserves 725,039 707,104 1,425,026 1,424,164
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Net investment income before federal
income taxes 95,215 164,965 282,007 271,079
Federal income tax expense (32,328) (66,455) (96,334) (107,314)
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Net investment income 62,887 98,510 185,673 163,765
Realized investment gains (losses) 58,976 (29,836) 53,604 (57,169)
Federal income tax benefit (expense) on
realized investment gains and losses (21,220) 5,560 (20,658) 10,960
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Net realized investment gains (losses) 37,756 (24,276) 32,946 (46,209)
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Net income $ 100,643 $ 74,234 $ 218,619 $ 117,556
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SEE ACCOMPANYING NOTES.
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SBM CERTIFICATE COMPANY
CONDENSED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND 1996
<TABLE>
<CAPTION>
1997 1996
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<S> <C> <C>
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES $ 2,038,696 $ 1,990,278
CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES:
Fixed maturity investments available-for-sale:
Purchases (25,876,935) (19,507,276)
Maturities and redemptions 2,257,083 3,259,392
Sales 23,283,764 15,952,438
Proceeds from sale or maturity of other invested assets 1,677 102,643
Repayments of certificate loans, net 86,765 6,112
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Cash flows used in investing activities (247,646) (186,691)
CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES:
Amounts paid to face-amount certificate holders (3,265,132) (3,092,579)
Amounts received from face-amount certificate holders 240,694 564,758
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Cash flows used in financing activities (3,024,438) (2,527,821)
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Net change in cash and cash equivalents (1,233,388) (724,234)
Cash and cash equivalents at beginning of period 3,247,192 3,900,494
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Cash and cash equivalents at end of period $ 2,013,804 $ 3,176,260
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SEE ACCOMPANYING NOTES.
</TABLE>
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SBM CERTIFICATE COMPANY
NOTES TO CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
1. BASIS OF PRESENTATION
The accompanying unaudited condensed financial statements have been
prepared in accordance with generally accepted accounting principles 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 generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for SBM Certificate Company (the "Company") for
the six months ended June 30, 1997, are not necessarily indicative of those to
be expected for the year ending December 31, 1997. For further information,
refer to the financial statements and footnotes thereto included in the
Company's annual report on Form 10-K for the year ended December 31, 1996.
2. SHAREHOLDER'S EQUITY AND REGULATORY CAPITAL
The Company is subject to two principal restrictions relating to its
regulatory capital requirements. First, under the Investment Company Act of
1940, as amended (the "1940 Act"), the Company is required to establish and
maintain qualified assets (as defined in Section 28(b) of the 1940 Act) having a
value not less than the aggregate of certificate reserves plus $250,000 ($48.8
million as of June 30, 1997). The Company had qualified assets of $54.2 million
at June 30, 1997 (which excludes $157,021 of unrealized pretax gains on fixed
maturities and equity securities classified as available-for-sale).
For purposes of determining compliance with the foregoing provision,
qualified assets are valued in accordance with the District of Columbia
Insurance Laws (the "D.C. Laws") as required by the 1940 Act. Qualified assets
for which no provision for valuation is made in the D.C. Laws are valued in
accordance with rules, regulations, or orders prescribed by the Securities and
Exchange Commission. These values are the same as the financial statement
carrying values, except that for financial statement purposes, fixed maturities
and equity securities classified as available-for-sale are carried at fair
value. For qualified asset purposes, fixed maturities classified as
available-for-sale are valued at amortized cost and equity securities are valued
at cost.
Second, the Minnesota Department of Commerce has historically recommended
to the Company that face-amount certificate companies should maintain a ratio of
shareholder's equity to total assets of a minimum of 5% based upon a valuation
of available-for-sale securities at amortized cost for purposes of this
calculation. Under this formula, the Company's capital ratio was 9.3% at
June 30, 1997.
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3. FEDERAL INCOME TAXES
Federal income taxes are different from the amount determined by
multiplying pretax earnings by the federal income tax rate of 35%. The
differences are primarily attributable to non-deductible goodwill amortization
and the dividends received deduction.
In the event that future tax assets are recognized on deductible temporary
differences for which a valuation allowance was provided at the date of the
acquisition of the Company, such benefits will be applied to first reduce the
balance of goodwill. During the six months ended June 30, 1997, goodwill was
reduced by $89,262 as a result of realizing such benefits.
ITEM 2. MANAGEMENT'S ANALYSIS OF RESULTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 1997 COMPARED WITH SIX MONTHS ENDED JUNE 30, 1996
Net income for the six months ended June 30, 1997 was $218,619 compared to
$117,556 for the six months ended June 30, 1996. The increase was primarily
attributable to realized investment gains and losses. Net investment income (net
income excluding realized investment gains and losses, net of tax) was $185,673
and $163,765 for the six months ended June 30, 1997 and 1996, respectively.
Net investment spread, which is the difference between investment income
and interest credited on certificate reserves, decreased to $655,313 during the
first six months of 1997 from $698,705 during the same period in 1996. These
amounts reflect net investment spread of 1.92% and 2.11% for the six months
ended June 30, 1997 and 1996, respectively, between the Company's annualized
investment yield on average cash and investments and the annualized average rate
credited on certificate reserves. The Company's investment income was
essentially flat at $2.1 million for the six months ended June 30, 1997 and
1996, reflecting annualized investment yields of 7.68% and 7.60% on average cash
and investments of $54.4 million and $55.8 million for the six months ended June
30, 1997 and 1996, respectively. This increase in annualized investment yield on
cash and investments was primarily attributable to benefits from the ongoing
management of the Company's investment portfolio.
Interest credited on certificate reserves was $1.4 million for both six
month periods ended June 30, 1997 and 1996, reflecting annualized average rates
of interest credited of 5.76% and 5.49% on average certificate reserves of $49.4
million and $51.9 million for the six months ended June 30, 1997 and 1996,
respectively. The majority of the Company's outstanding face-amount certificates
are fixed-rate three year contracts. The Company monitors credited interest
rates for new and renewal issues against competitive products, mainly bank
certificates of deposit. Credited interest rate adjustments (up or down) on new
certificates are made as the Company deems necessary. New and renewal contracts
issued during the past year have crediting rates that are generally higher than
contracts that matured during that period, resulting in the overall increase in
the average crediting rate.
Investment and other expenses were $383,306 and $427,626 for the six months
ended June 30, 1997 and 1996, respectively. The decrease in investment and other
expenses is primarily attributable
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to (i) a decrease in real estate expenses at the Company's Minnesota facility,
(ii) a decrease in other expenses resulting from a decrease in annual regulatory
examination expenses and franchise taxes, and (iii) a decrease in goodwill. Such
decreases were partially offset by an increase in renewal commissions.
Realized investment gains were $53,604 for the six months ended June 30,
1997 compared to realized investment losses of $57,619 for the six months ended
June 30, 1996. Such realized investment gains and losses were interest-rate
related and attributable to the asset/liability management strategies of the
Company. Fixed maturities and equity securities classified as available-for-sale
are sold during rising and falling interest rate environments which can result
in period-to-period swings in realized investment gains and losses.
The Company primarily invests in securities with fixed maturities with
the objective of providing reasonable returns while limiting liquidity and
credit risks. The Company's investments in fixed maturities were 98%
investment grade as of June 30, 1997 and December 31, 1996. Investment grade
securities are those classified as 1 or 2 by the National Association of
Insurance Commissioners or, where such classifications are not available,
securities are classified by a nationally recognized statistical rating
organization (i.e. Standard & Poor Corporation's rating of BBB- or above).
Additionally, the Company's investment portfolio has minimal exposure to real
estate, mortgage loans and common equity securities, which represented
approximately 1% of qualified assets at June 30, 1997 and December 31, 1996.
Fixed maturities include mortgage-backed and asset-backed securities,
corporate securities, U.S. Treasury securities and other government
obligations. Mortgage-backed securities ("MBSs"), which include pass-through
securities and collateralized mortgage obligations ("CMOs"), totaled $35.3
million at June 30, 1997, representing 65.0% of total qualified assets (58.9% at
December 31, 1996). The Company's investments in CMOs represented 45.9% and
52.8% of the Company's qualified assets as of June 30, 1997 and December 31,
1996, respectively. Currently, 65.1% of the CMOs are backed by the U.S.
Government or U.S. Government agencies. MBSs, including CMOs, are subject to
risks associated with prepayments of the underlying mortgage loans. Prepayments
cause these securities to have actual maturities different from those expected
at the time of purchase. The degree to which a security is susceptible to either
an increase or decrease in yield due to prepayment speed adjustments is
influenced by the difference between its amortized cost and par, the relative
sensitivity of the underlying mortgages backing the assets to prepayments in a
changing interest rate environment and the repayment priority of the securities
in the overall securitization structure. Prepayment sensitivity is evaluated and
monitored, giving full consideration to the collateral characteristics such as
weighted average coupon rate, weighted average maturity and the prepayment
history of the specific loan pool. Additionally, the Company routinely
reprojects three year liability and asset cash flows with the goal of
maintaining an adequate level of liquidity for maturing face-amount
certificates. The Company's asset/liability management strategies not only allow
the Company to monitor its short-term liquidity needs, but also aim to provide
protection to the investment portfolio from adverse changes in interest rates.
Certificate reserves decreased $1.6 million or 3.2% during the first six
months of 1997, as maturities and surrenders exceeded sales and renewals. The
Company believes a significant factor
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leading to the decrease is that the certificate of deposit marketplace is
currently very competitive. For certificates reaching their maturity date during
the six months ended June 30, 1997 and 1996, 64% and 69%, respectively, were
renewed.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is currently involved in no material legal or administrative
proceedings.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
REPORTS ON FORM 8-K
The Company did not file any reports on Form 8-K during the three months
ended June 30, 1997.
EXHIBITS
No exhibits are filed herewith.
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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, on August 12, 1997.
SBM CERTIFICATE COMPANY
By: /s/ EDWARD L. ZEMAN
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Edward L. Zeman
Executive Vice President-Chief
Financial Officer (Principal
Financial Officer)
By: /s/ BARRY G. WARD
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Barry G. Ward
Controller (Principal Accounting
Officer)
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