Securities and Exchange Commission

FORM 10-K

OR

For the transition period from           to

Commission File Number 2-39729

Cotton States Life Insurance Company

Registrant’s telephone number, including area code: (404) 39l-8600

Securities registered pursuant to Section 12(b) of the Act:

NONE

Securities registered pursuant to Section 12(g) of the Act:

EXEMPT-UNDER SECTION 12(g)(2)(G)

Indicate by check mark whether the registrant 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 and has been subject to the filing requirements for at least the past 90 days. YES [X] NO [  ]

Indicate by check mark if the disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X]

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2)

YES [  ] NO [X]

The aggregate market value of the voting and non-voting common equity held by non affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity as of the last business day of the registrant’s most recently completed second quarter was $42,583,352 based on the closing price of $10.09 on June 30, 2003, as reported on the NASDAQ National Market.

As of March 26, 2004, there were 6,322,737 shares of registrant’s common stock outstanding.

The Exhibit Index is located on Page 71

The total number of pages in this document is 78

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Table of Contents

PART I

ITEM 1. BUSINESS

General

Cotton States Life Insurance Company (the “Company”) was organized under the laws of the State of Georgia in 1955. The Company is currently licensed to transact business in Alabama, Florida, Georgia, Kentucky, Louisiana, Mississippi, North Carolina, South Carolina, Tennessee and Virginia. The Company currently markets only individual life insurance, payroll deduction life insurance, guaranteed issue and simplified issue life insurance and individual annuities.

In July of 1989, the Company formed CSI Brokerage Services, Inc. (“CSI”). CSI brokers insurance products for the Company’s exclusive agents not offered by the Company’s affiliated property and casualty companies.

In November of 1989, the Company acquired 60% of the outstanding common stock of Cotton States Marketing Resources, Inc. (“CSMR”). During 1992, the Company acquired the remaining 40% of CSMR’s stock. CSMR brokers through the Company’s exclusive agents other insurance companies’ life and accident and health products not underwritten by the Company.

On February 21, 2002, the Company filed notice of its intent to withdraw its multi-line exclusive agents from Kentucky primarily due to losses incurred by the Company’s affiliate, Cotton States Mutual Insurance Company. Without objection from the Kentucky Department of Insurance, the Company’s withdrawal plan was accepted pursuant to Kentucky insurance regulations.

It was announced on December 30, 2003 that the Cotton States Insurance Group (which includes the Company and Cotton States Mutual Insurance Company) and COUNTRY Insurance & Financial Services (“COUNTRY”), located in Bloomington, Illinois, entered into definitive agreements regarding the acquisition of the Company by merger. Under the Agreement and Plan of Merger, the Company’s shareholders will receive $20.25 cash for each share of outstanding common stock of the Company. As a result, the Company will become a privately-held company and a wholly-owned subsidiary of COUNTRY. Subject to regulatory approval, shareholder approval, and other conditions set forth in the Agreement and Plan of Merger, it is anticipated that the transaction will close during the second quarter of 2004.

Principal Products and Methods of Distribution

The Company’s operations can be grouped into three major segments: (i) individual life insurance, (ii) guaranteed issue and simplified issue life insurance, and (iii) brokerage operations. These segments are differentiated primarily by their respective methods of distribution and the nature of related products, as the Company’s operations in each segment are concentrated within its southeastern states geographic market. Individual life insurance products are distributed through the Company’s multi-line exclusive agents, guaranteed issue and simplified issue products are distributed through independent agents as well as exclusive agents, and brokerage operations involve third party products distributed through the Company’s exclusive and independent agents. The Company does not group items on the consolidated balance sheet into segments, nor does it analyze those items by segment when making management decisions. The Company allocates net investment income and net realized gains to its individual life insurance and guaranteed issue and simplified issue life insurance segments based on the ratio of each segment’s reserves to total reserves. Net investment income and net realized gains for the Company’s brokerage segment is based on actual amounts earned by its brokerage subsidiaries.

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Narrative Description of Business Segments

(i)

Individual Life

The major forms of individual life insurance offered by the Company include universal life, graded premium whole life, participating whole life, term life, various supplemental riders including, but not limited to, accidental death, disability waiver and guaranteed insurability, and disability income riders. These products are sold by the Company’s 251 multi-line exclusive agents in Alabama, Florida, Georgia, and Tennessee.

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The Company offers its insurance through multi-line exclusive agents who also write all lines of property and casualty insurance offered by Cotton States Mutual Insurance Company (“Mutual”) and its subsidiary, Shield Insurance Company (“Shield”) (collectively, the “Cotton States Group”). See Item 13 of this report for an explanation of the relationship between the Company, Mutual, and Shield. Multi-line exclusive agents are under contract to the Company, Mutual, and Shield, and are paid on a commission basis. The Company’s multi-line exclusive agents are located in the following states:

Unless the need for a medical examination is indicated by the application or an investigation, the Company writes individual life insurance based on age without requiring blood and specimen in the following maximum amounts:

		As of December 31, 2003, less than 2.3% of the Company’s individual life premiums were represented by what the Company believes to be substandard risks. Substandard life insurance risks are accepted by the Company at increased rates. The Company has no fixed maximum on the size of substandard policies and will entertain any application on which it can obtain reinsurance which it believes to be adequate.
		The Company, as do others in the insurance industry, reinsures with other companies portions of the individual life insurance policies it underwrites. Reinsurance enables an insurance company to write a policy in an amount larger than the risk it desires to assume. A contingent liability exists on insurance ceded to the reinsurer which might become a liability of the Company in the event that the reinsurer fails to meet its obligations under the reinsurance treaty.
		The Company presently retains, with respect to individual life policies, generally no more than $100,000 of insurance on any one life, which may be reduced, depending upon the age and the physical classification of the insured. All accidental death riders are 100% reinsured.
(ii)		Guaranteed Issue and Simplified Issue Whole Life Insurance
		The Company offers Guaranteed Issue and Simplified Issue whole life insurance through its multi-line agency force and approximately 4,700 independent agents. The independent agents sell these products in all states in which the Company is licensed to conduct business.
		Both plans are level-premium, cash value permanent life insurance products issued from $2,500 to $35,000 face amounts. Both plans are frequently used by individuals to cover final expenses. They are designed to be sold as companion plans using a simple application with no medical exams or tests. If all health questions asked of the applicant by the Company can be answered “NO”, the Simplified Issue policy may be issued. Otherwise, the Guaranteed Issue policy will be issued.

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		Guaranteed Issue whole life is available for issue ages 46-80. The death benefit in policy years one through three is limited to a return of premium plus 10%. However, the full death benefit is payable in all years in case of accidental death. After three years, the full death benefit is payable for any cause of death.
		Simplified Issue whole life is available for issue ages 0-80. The full death benefit is payable from the issue date.
(iii)		Brokerage
		The Company owns two brokerage subsidiaries, CSI and CSMR. CSI provides the Company with commission income from brokerage agreements with other property and casualty insurance carriers. These carriers supply the Company’s multi-line agents with property and casualty products that the Company’s affiliated property and casualty companies do not underwrite, such as non-standard auto insurance, crop hail insurance, multi-peril crop insurance, mobile home insurance, poultry house insurance and flood insurance.
		Approximately 69% of CSI’s brokerage revenues come from the sale of non-standard auto insurance through two carriers. Approximately 11% of CSI’s revenue comes from the sale of crop hail and multi-peril crop insurance through one carrier.
		CSMR provides the Company with commission income from brokerage agreements with other life and health insurance companies. These companies supply the Company’s multi-line agents with life and health products that the Company does not choose to underwrite, such as individual major-medical policies, impaired risk life insurance, first to die life insurance, and group life and health insurance. CSMR has contracted with approximately 4,700 independent agents to write the Company’s Guaranteed Issue and Simplified Issue whole life insurance. Approximately 53% of CSMR’s brokerage revenues come from the sale of life and health insurance through five carriers.

For further information regarding the Company’s business segments, see Item 7, “Management’s Discussion and Analysis of Consolidated Financial Condition and Results of Operations.”

Investments

Insurance company investments must comply with applicable laws and regulations which prescribe the kind, quality and concentration of investments. In general, these laws and regulations permit investments in federal, state and municipal obligations, corporate bonds, preferred and common equity securities, mortgage loans, real estate and certain other investments, subject to specified limits and certain other qualifications.

The investments of the Company are directed by the Company’s Vice President of Finance and Assistant Treasurer under the supervision of the Company’s Board of Directors. The Company follows an investment policy which is regularly reviewed and revised. The Company’s policy emphasizes investment grade, fixed maturity securities and maximization of after-tax yields and places certain restrictions to limit portfolio concentrations and market exposure. Sales of securities are undertaken, with resulting gains or losses, in order to enhance after-tax yield and keep the portfolio in line with current market conditions.

Competition

The life insurance industry is highly competitive and includes a large number of insurance companies, many of which have substantially greater financial resources, broader and more diversified product lines, more favorable ratings from A.M. Best and Standard & Poor’s, and larger staffs than the Company. The operating results of companies in the life insurance industry have historically been subject to significant fluctuations due to competition, economic conditions, interest rates, investment performance, maintenance of insurance

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ratings from rating agencies and other factors. Competitive factors applicable to the Company’s business include product mix, policy benefits, service to policyholders, and premium rates. The Company believes that its current benefits and premium rates are generally competitive with those offered by other companies and that service to policyholders and prompt and fair payment of claims continue to be important factors in the Company’s ability to remain competitive.

The Company has certain advantages that it believes better enable it to keep its premium rates competitive with similar policies offered by competing companies, including the following:

	1.		The Company offers most of its insurance through the same agents who write property and casualty insurance for Mutual and Shield. The sale of insurance through the same agents who sell property and casualty insurance enables the Company to incur less agency development and sales expense than is customary in the industry;
	2.		Because the Company’s agents can provide customers with coverage for all major lines of individual insurance they may utilize “account” selling. Account selling enables insureds to contact one agent regarding their total insurance needs; and
	3.		The Company shares certain facilities, equipment and personnel with Mutual and Shield. The Company believes that sharing these expenses has a favorable impact on the ratio of expenses to premium income and enables the Company to enjoy economies of scale.

Regulation

General. The Company is subject to regulation and supervision in all jurisdictions in which it conducts business. In general, state insurance laws establish supervisory agencies with broad administrative powers relating to, among other things, the granting and revoking of licenses to transact business, regulation of trade practices, premium rate levels, premium rate increases, licensing of agents, approval of content and form of policies, maintenance of specified minimum statutory reserves and statutory capital and surplus, deposits of securities, form and content of required financial statements, nature of investments, and limitations on dividends to stockholders. The purpose of such regulation and supervision is primarily to provide safeguards for policyholders rather than to protect the interests of shareholders. The Company is domiciled in Georgia and is therefore subject to regulation under Georgia laws.

The National Association of Insurance Commissioners (“NAIC”) is a voluntary association of all of the state insurance commissioners in the United States. The primary function of the NAIC is to develop model laws on key insurance regulatory issues that can be used as guidelines for individual states in adopting or enacting insurance legislation. While the NAIC model laws are accorded substantial deference within the insurance industry, these laws are not binding on insurance companies unless enacted into state law and variations from the model laws from state to state are common.

Change of Control. Any transactions that would constitute a change in control of the Company would generally require prior approval by the insurance department of the State of Georgia, the Company’s state of domicile, and may require pre-acquisition notification in those states that have adopted pre-acquisition notification provisions and in which the Company is admitted to transact business. In conjunction with the proposed Agreement and Plan of Merger with COUNTRY, filings have been made for approval of the transaction under the insurance laws of Georgia, Illinois, and Connecticut.

Product Approvals. Generally, before an insurance company is permitted to market an individual insurance product in a particular state, it must obtain regulatory approval from that state and adhere to that state’s insurance laws and regulations, which include, among other things, specific requirements regarding the form, language, premium rates and policy benefits of that product. Such regulation may delay the introduction of new products and may impede, or impose burdensome conditions on, rate increases or other actions that the Company may wish to take in order to enhance its operating results. In addition, federal or state legislation

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or regulatory pronouncements may be enacted that may prohibit or impose restrictions on the ability to sell certain types of insurance products or impose other restrictions on the Company’s operations. No assurances can be given that future legislative or regulatory changes will not adversely affect the Company’s business, financial condition or results of operations.

Risk-Based Capital (“RBC”). In order to enhance the regulation of insurer solvency, the NAIC has adopted a formula and model law to implement RBC requirements for most life and health insurance companies which is designed to determine minimum capital requirements based on insurance and investment risks and to raise the level of protection that statutory surplus provides for policyholder obligations. Under laws adopted by individual states, insurers having total adjusted capital that is less than that required by the RBC calculation will be subject to varying degrees of regulatory action, depending on the level of capital inadequacy.

The RBC law provides for four levels of regulatory action. The extent of regulatory intervention and action increases as the level of surplus to RBC falls. The first level, the company action level as defined by the NAIC, requires an insurer to submit a plan of corrective actions to the regulator if surplus falls below 200% of the RBC amount. The regulatory action level, as defined by the NAIC, requires an insurer to submit a plan containing corrective actions and requires the relevant insurance commissioner to perform an examination or other analysis and issue a corrective order if surplus falls below 150% of the RBC amount. The authorized control level, as defined by the NAIC, authorizes the relevant insurance commissioner to take whatever regulatory actions considered necessary to protect the best interest of the policyholders and creditors of the insurer which may include the actions necessary to cause the insurer to be placed under regulatory control, i.e., rehabilitation or liquidation, if surplus falls below 100% of the RBC amount. The fourth action level is the mandatory control level as defined by the NAIC, which requires the relevant insurance commissioner to place the insurer under regulatory control if surplus falls below 70% of the RBC amount.

The formulas have not been designed to differentiate among adequately capitalized companies that operate with higher levels of capital. Therefore, it is inappropriate and ineffective to use the formulas to rate or to rank these companies. At December 31, 2003, the Company had total adjusted capital in excess of amounts requiring company or regulatory action at any prescribed RBC action level.

Dividends. Dividends paid by the Company are subject to the regulations of the insurance laws and practices of the Georgia Department of Insurance. Generally, the Georgia Insurance Code allows life and health insurance companies to make dividend payments equal to or less than the greater of 10% of statutory surplus as regards policyholders as of the preceding December 31 or the net gain from operations, excluding realized gains or losses, for the twelve (12) month period ending on the preceding December 31. Dividends exceeding the applicable threshold are considered extraordinary and require the prior approval of the Georgia Insurance Commissioner. Pursuant to the Agreement and Plan of Merger with COUNTRY, the Company agreed that after March 31, 2004 it would not declare any regular quarterly dividends until such time as either the agreement is terminated or the merger is consummated.

Guaranty Associations. The Company may be required, under the solvency or guaranty laws of most states in which they do business, to pay assessments (up to prescribed limits) to fund policyholder losses or liabilities of insurance companies that become insolvent. Non-affiliated insurance company insolvencies increase the possibility that such assessments may be required. These assessments may be deferred or forgiven under most guaranty laws if they would threaten an insurer’s financial strength and, in certain instances, may be offset against future premium taxes. The incurrence and amount of such assessments may increase in the future without notice. The Company pays the amount of such assessments as they are incurred. Assessments that cannot be offset against future premium taxes are charged to expense. Assessments that qualify for offset against future premium taxes are capitalized and are offset against such future premium taxes. As a result of such assessments, the Company paid approximately $2,500 during the year ended December 31, 2003.

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Employees

In addition to its principal officers, the Company shares 121 salaried employees with Shield and Mutual. The Company pays an allocated portion of the shared employees’ salaries, either based upon the Company’s premium income in relation to the premium income of Mutual and Shield or the actual time expended on each company’s affairs. The Company and its subsidiaries also have 35 salaried employees who work on a full-time basis in its home office, where all administrative functions, such as underwriting, billing and collection of premiums, are centralized and from which all sales activities are directed. None of the Company’s employees is subject to a collective bargaining agreement. The Company believes its employee relations are good.

Available Information

The Company’s Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to reports filed pursuant to Section 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended, are available on the Company’s website at www.cottonstatesinsurance.com via a link to the SEC website. These reports are made available at no cost.

The Company’s Code of Ethics is available on its website at www.cottonstatesinsurance.com and is available without charge in print to any shareholder who makes a request by writing to Corporate Secretary, Cotton States Life Insurance Company, 244 Perimeter Center Parkway N.E., Atlanta, Georgia 30346.

ITEM 2. PROPERTIES

The Company, Mutual, and Shield occupy offices located at 244 Perimeter Center Parkway, Atlanta, Georgia. The building is owned by a general partnership composed of Mutual and Gold Kist Inc. (“Gold Kist”). The Company has no ownership interest in the partnership. The facility consists of a three-story office building containing approximately 260,000 square feet of space of which the Company, Mutual and Shield share approximately 90,000 square feet. The Company believes that the facility is suitable to its business. Rental expense is allocated to the Company based on its proportionate share of square footage occupied.

ITEM 3. LEGAL PROCEEDINGS

The Company is a defendant in various actions incidental to the conduct of its business. While the ultimate outcome of these matters cannot be estimated with certainty, management does not believe the actions are reasonably likely to result in a material loss to the Company.

The Company has a reached partial settlement regarding $900,000 in reinsurance coverage. In addition, a lawsuit was initiated by the Company in the third quarter of 2001. To date the Company has received approximately $475,000 and continues to seek additional recoveries against the reinsurance brokers through already existing legal channels. During the fourth quarter of 2003 the Company determined it to be probable that approximately $200,000 of the outstanding balance would be uncollectible. Accordingly, the Company has reduced the receivable by that amount and charged the amount to benefits expense in the accompanying financial statements. The Company believes the remaining amount outstanding to be fully recoverable and has included it in reinsurance receivable on the consolidated balance sheet.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of shareholders by the Company during the fourth quarter of 2003. The Company expects to submit the matter of the proposed merger with COUNTRY for a vote by shareholders in the second quarter of 2004.

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PART II

ITEM 5. MARKET FOR THE COMPANY’S COMMON EQUITY, RELATED SHAREHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES

     On January 1, 2004, there were approximately 1,383 shareholders of record of the Company’s common stock. The stock (symbol “CSLI”) is traded over-the-counter on the NASDAQ National Market System. Price history as provided by NASDAQ and dividends declared during the past two years are presented below:

(1)

The prices presented above are sale prices which represent price between broker-dealers and do not include mark-ups or mark-downs or any commission to the broker-dealer. Therefore, the prices presented above do not reflect prices in actual transactions.

Securities Authorized for Issuance Under Equity Compensation Plans

The Equity Compensation Plan Information is set forth in Item 12 of this Form 10-K.

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ITEM 6. SELECTED FINANCIAL DATA

Ten-Year Selected Financial Data

Note: All share and per share amounts have been adjusted for the following stock splits:

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ITEM 7 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF CONSOLIDATED FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Significant Events

On December 30, 2003, it was announced that the Cotton States Insurance Group (which includes the Company and Mutual) and COUNTRY, located in Bloomington, Illinois, entered into definitive agreements regarding the acquisition of the Company by merger. Under the Agreement and Plan of Merger, the Company’s shareholders will receive $20.25 cash for each share of outstanding common stock of the Company. As a result, the Company will become a privately-held company. Subject to regulatory approval, shareholder approval, and other conditions to closing set forth in the Agreement and Plan of Merger, it is anticipated that the transaction will close during the second quarter of 2004.

Forward-Looking Statements

The following discussion contains forward-looking statements that are not strictly historical and that involve risks and uncertainties. Such statements include, without limitations, any statements containing the words “believe,” “anticipate,” “estimate,” “expect,” “intend,” “plan,” “seek,” and similar expressions. Investors are cautioned about such statements, including, without limitation, statements regarding projections of earnings, revenues, expected mortality rates, investment spreads and yields and their effects on net earnings, the ability to consummate the contemplated transaction with COUNTRY and the timing thereof, if at all, and the anticipated financial results and benefits of the proposed transaction with COUNTRY. The forward-looking statements set forth herein involve certain risks, uncertainties, estimates, and assumptions that could cause actual results to differ materially from those expressed or implied by such forward-looking statements. These risks and uncertainties include, without limitation, the following:

	•		The Company and COUNTRY must satisfy certain conditions to closing set forth in the Agreement and Plan of Merger, including, without limitation, receipt of necessary regulatory approvals and shareholder approval, which may not occur.
	•		Insurance is a highly competitive industry, and the Company encounters significant competition in all lines of business from other insurance companies, many of which have greater financial resources than the Company, as well as competition from other providers of financial services.
	•		Since insurance is a regulated business, with a high public profile, it is always possible that legislation may be enacted which would have an adverse effect on the Company’s business.
	•		The Company is subject to government regulation in each of the states in which it conducts business. Such regulation is vested in state agencies having broad administrative power dealing with many aspects of the insurance business, which may include premium rates, marketing practices, advertising, policy forms, and capital adequacy. The Company cannot predict the form of any future regulatory initiatives or its impact on the Company’s operations or its effect on the Company’s financial performance.
	•		Increased public and regulatory concerns regarding the financial stability of insurance companies have resulted in policyholders placing greater emphasis upon company ratings and have created some measure of competitive advantage for insurance carriers with higher ratings. As of the date of this Annual Report on Form 10-K, A.M. Best & Co., a leading insurance company rating agency, has assigned a B++ (Very Good) rating to the Company. If this rating is downgraded from its current level, sales of the Company’s products could be adversely affected.
	•		The Company’s financial results may fluctuate from year-to-year or be adversely affected on account of fluctuations in policy claims received by the Company.

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	•		The Company’s investments are subject to risks. The Company’s invested assets are subject to customary risks of defaults and changes in market values. Factors that may affect the overall default rate on, and market value of, the Company’s invested assets include interest rate levels, financial market performance, and general economic conditions.
	•		Through underwriting and reinsurance, the Company has attempted to limit its mortality and morbidity exposure and has established reserves for claims and future policy benefits based on accepted actuarial methodologies. There can be no assurance, however, that these estimated reserves will prove to be sufficient or that the Company will not experience adverse mortality or morbidity experience which would result in operating losses.
	•		In order to reduce risk and to increase its underwriting capacity, the Company obtains reinsurance from reinsurers. The Company is subject to credit risk with respect to its reinsurers because reinsurance does not relieve the Company of its liability to its insureds for the risks ceded to reinsurers. Although the Company places its reinsurance with reinsurers it believes to be financially stable, a reinsurer’s subsequent insolvency or inability to make payments under the terms of a reinsurance treaty could have a material adverse effect on the Company.
	•		The Company is in direct competition with a large number of insurance companies, many of which offer a greater number of products through a greater number of agents and have greater resources than the Company. This competitive environment could result in lower premiums, less favorable underwriting terms and conditions, loss of underwriting opportunities and reduced profitability.

The Company expressly disclaims any obligation to update these forward-looking statements.

Critical Accounting Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

The Company has identified the following estimates as critical in that they involve a higher degree of judgment and are subject to a significant degree of variability: deferred policy acquisition costs, investments, reserves, and accounting for income taxes. In developing these estimates management makes subjective and complex judgments that are inherently uncertain and subject to material change as facts and circumstances develop. Although variability is inherent in these estimates, management believes the amounts provided are appropriate based upon the facts available upon compilation of the financial statements.

		Deferred Policy Acquisition Costs
		Policy acquisition costs, which include commissions and certain other expenses that vary with and are primarily associated with acquiring business, are deferred and amortized with interest over the estimated lives of the contracts, usually 30 years. The principal expenses deferred are commissions and certain expenses of the policy issue, underwriting and agency departments. Policy acquisition costs deferred were $11.1 million in 2003, $10.2 million in 2002, and $9.8 million in 2001. For statutory accounting purposes, such costs are expensed as incurred.
		These deferred costs are recorded as an asset commonly referred to as deferred policy acquisition costs (“DAC”). The carrying value of the Company’s DAC asset was $63.8 million and $57.7 million at December 31, 2003 and 2002, respectively.

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		Statement of Financial Accounting Standard (“SFAS”) No. 60 “Accounting and Reporting by Insurance Enterprises” applies to our traditional life policies. For traditional life policies, deferred costs are amortized in proportion to the ratio of the annual premium income to the total present value of expected premium income. Future premium income is estimated using actuarial assumptions established at policy issue such as mortality, persistency and interest. Assumptions established at policy issue are based on anticipated experience, which, together with interest and expense assumptions, provide a margin for adverse deviation. Should the liabilities for future policy benefits plus the present value of expected future gross premiums for a product be insufficient to provide for expected future benefits and expenses for that product, deferred acquisition costs will be written off and thereafter, if required, a premium deficiency reserve will be established by a charge to income. Changes in the assumptions for mortality, persistency and interest could result in material changes to the financial statements.
		SFAS No. 97 “Accounting and Reporting by Insurance Enterprises for Certain Long-Duration Contracts and for Realized Gains and Losses from the Sale of Investments” applies to our universal life-type contracts. Acquisition costs are deferred and recognized as expense as a constant percentage of gross profit using assumptions as to mortality, persistency, maintenance expense and interest margins established at policy issue without provision for adverse deviation. First-year excess expense charges are also deferred and accreted to income in the same manner as deferrable costs are amortized. The amortized percentage of gross profit is revised periodically to reflect emerging actual experience and any material changes in expected future experience. Changes in the emerged actual experience or changes in expected future experience for mortality, persistency, maintenance expense and interest margins could result in material changes to the financial statements.
		Investments
		Investment income is an important source of revenue, and the Company’s return on invested assets has a material effect on net income. The Company’s investment policy is subject to the requirements of insurance regulatory authorities. In addition, certain assets are held on deposit in specified states and invested in specified securities in order to comply with state law. Although the Company closely monitors its investment portfolio, available yields on newly invested funds and gains or losses on existing investments depend primarily on general market conditions.
		Investment policy is determined by the Board of Directors of the Company. The Company’s current investment policy is to balance its portfolio between long-term and short-term investments so as to achieve long-term returns consistent with the preservation of capital and maintenance of adequate liquidity to meet the payment of the Company’s policy benefits and claims. The Company’s invested asset maturities correspond with the Company’s expectations regarding anticipated cash flow payments based on the Company’s policy benefit and claim cycle. The Company invests primarily in fixed maturity securities of the U.S. government and its related agencies, investment grade fixed maturity corporate securities and mortgage-backed securities.
		The Company’s investments in equity securities and the majority of its investments in fixed maturity securities are classified as “available-for-sale” as defined in SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” Accordingly, these securities are carried at fair value with the after-tax difference from amortized cost reflected in stockholder’s equity as a component of accumulated other comprehensive income. Approximately 2% of the Company’s investments in fixed maturity investments are classified as “held-for-investment” as defined in SFAS No. 115 and are carried at amortized cost. Policy loans are carried at the outstanding balance, which approximates fair value. Other investments primarily consist of mortgage loans and a partnership interest. Mortgage loans on real estate are recorded at the outstanding principal balance adjusted for amortization of premiums or discounts and net of valuation allowances, if any. The partnership is carried at cost.

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The following table provides information on the Company’s fixed maturity investments as of December 31 (dollars in thousands):

		Mortgage-backed securities comprised 22% of the Company’s fixed maturity portfolio at December 31, 2003 as compared to 21% at December 31, 2002. Mortgage-backed securities are subject to risks associated with variable pre-payments. This may result in these securities having a different actual cash flow and maturity than expected at the time of purchase. Securities that have an amortized cost greater than par and are backed by mortgages that prepay faster than expected will incur a reduction in yield or a loss. Those securities with an amortized cost lower than par that prepay faster than expected will generate an increase in yield or a gain. In addition, the Company may incur reinvestment risks if market yields are lower than the book yields earned on the securities. Prepayments occurring slower than expected have the opposite impact. The Company may incur disinvestment risks if market yields are higher than the book yields earned on the securities and the Company is forced to sell the securities. The degree to which a security is susceptible to either gains or losses is influenced by (a) the difference between its amortized cost and par, (b) the relative sensitivity of the underlying mortgages backing the assets to prepayment in a changing interest rate environment and (c) the repayment priority of the securities in the overall securitization structure. There are negligible default risks in the mortgage-backed securities portfolio as a whole as the vast majority of the assets are either guaranteed by U.S. government-sponsored entities or are supported in the securitization structure by junior securities enabling the assets to achieve high investment grade status.
		Other-Than-Temporary Impairments
		One of the significant estimations inherent in the valuation of investments is the evaluation of other-than-temporary impairments. The evaluation of impairments is a quantitative and qualitative process, which is subject to risks and uncertainties and is intended to determine whether declines in the fair value of investments should be recognized in current period earnings. The risks and uncertainties include changes in general economic conditions, the issuer’s financial condition or near term recovery prospects and the effects of changes in interest rates. The Company’s accounting policy requires that a decline in the value of a security below its amortized cost basis be assessed to determine if the decline is other-than-temporary. If so, the security is deemed to be other-than-temporarily impaired, and a charge is recorded in net realized capital losses equal to the difference between the fair value and amortized cost basis of the security. The fair value of the other-than-temporarily impaired investment becomes its new

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		cost basis. The Company has a security monitoring process that identifies securities that, due to certain characteristics, as described below, are subjected to an enhanced analysis on a quarterly basis.
		Securities that are depressed by 20% or more for 12 months or by 30% for six months are presumed to be other-than-temporarily impaired unless the depression is the result of rising interest rates or significant objective verifiable evidence supports that the security price is temporarily depressed and is expected to recover within a reasonable period of time. Securities depressed less than 20% or depressed 20% or more but for less than 12 months or depressed 30% or more but for less than six months are also reviewed to determine if an other-than-temporary impairment is present. The primary factors considered in evaluating whether a decline in value for securities is other-than-temporary include: (a) the length of time and the extent to which the fair value has been less than cost, (b) the financial condition, credit rating and near-term prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments and (d) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery.
		Reserves
		The Company establishes and carries as liabilities actuarially determined reserves which are calculated to meet the Company’s estimated future obligations. Reserves for life insurance and disability contracts are based on actuarially recognized methods using prescribed morbidity and mortality tables in general use in the United States, which are modified to reflect the Company’s actual experience when appropriate. These reserves are computed at amounts that, with additions from estimated premiums to be received and with interest on such reserves compounded annually at certain assumed rates, are expected to be sufficient to meet the Company’s policy obligations at their maturities or in the event of an insured’s death. Changes in or deviations from the assumptions used for mortality, morbidity, expected future premiums and interest can significantly affect the Company’s reserve levels and related future operations. Reserves also include unearned premiums, premium deposits, claims incurred but not reported and claims reported but not yet paid. Reserves for assumed and ceded reinsurance are computed in a manner that is comparable to direct insurance reserves.
		The liability for policy benefits for universal life-type contracts is equal to the balance that accrues to the benefit of policyholders, including credited interest, amounts that have been assessed to compensate the Company for services to be performed over future periods, and any amounts previously assessed against policyholders that are refundable on termination of the contract.
		Accounting for Income Taxes
		The Company accounts for income taxes using the asset and liability method prescribed by SFAS No. 109, “Accounting for Income Taxes.” Under the asset and liability method of SFAS No. 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities, and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which these temporary differences are expected to be recovered or settled. Under SFAS No. 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
		Income tax expense recognized by the Company in any one year is impacted by the extent to which the Company qualifies for the small life company deduction. The small life company deduction is 60% of life insurance company taxable income up to a maximum taxable income of $3 million. This deduction is phased out on taxable income above $3 million up to and including a maximum of $15 million. To the extent, if any, that the Company’s taxable income exceeds $3 million, its effective federal income tax rate will increase.

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Recent Accounting Pronouncements

In December 2002, the Financial Accounting Standards Board issued SFAS No. 148 “Accounting for Stock-Based Compensation – Transition and Disclosure,” which is effective for financial statements issued after December 15, 2002. The adoption of SFAS No. 148 did not affect the Company’s results of operations or financial position. The Company has complied with the disclosure requirements of SFAS No. 148 in these consolidated financial statements.

In January 2003, the FASB issued FASB Interpretation No. 46 (“FIN 46”), “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51.” FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. FIN 46 is effective for financial statements issued for periods ending after December 15, 2003. There is no impact on the Company’s financial position or results of operations for 2003 under FIN 46. The Company also expects no impact in future periods under FIN 46.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 addresses certain financial instruments that, under previous guidelines, could be accounted for as equity, but now must be classified as liabilities in the statement of financial position. These financial instruments include: (a) mandatorily redeemable financial instruments, (b) obligations to repurchase the issuer’s equity shares by transferring assets, and (c) obligations to issue a variable number of shares. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The implementation of SFAS No. 150 did not have an impact on the Company’s consolidated financial statements.

Consolidated Results of Operations

		Executive Summary
		The Company is headquartered in Atlanta, Georgia and sells individual life insurance products through a distribution force consisting of 251 multi-line exclusive agents and approximately 4,700 independent agents as of December 31, 2003. Payroll deduction universal life products are also marketed through a third party administrator. The Company’s two brokerage subsidiaries generate commission income from brokerage agreements with other non-affiliated property and casualty and life and health insurance carriers.
		The Company’s profitability is primarily a factor of the following:

	•		The volume of life insurance business in force, which is driven by the level of sales and the persistency of the business written.
	•		The ability to price life insurance products to earn acceptable margins over the cost of providing benefits and the expenses of acquiring and administering the products. Competitive conditions, mortality experience, persistency, investment results and our ability to maintain expenses in accordance with pricing assumptions drive the Company’s margins.
	•		The amount of spread (excess of net investment income earned over interest credited) earned on universal life contract holders’ account balances.
	•		The ability of the brokerage subsidiaries to generate commission income through the sale of other companies’ products.

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	•		The ability to manage the investment portfolio to maximize investment returns while providing adequate liquidity for obligations to policyholders and minimizing the risk of defaults or impairments of invested assets.
	•		The ability to manage the level of operating expenses.

Consolidated Summary of Results of Operation

NM = Not Meaningful

		Net Income
		Following is a summary of net income by business segment for the years ended December 31 (dollars in thousands):

2003 results declined as compared to 2002 due primarily to a significant increase in fourth quarter 2003

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		mortality experience in the Company’s individual life products. Additionally, 2003 results reflect an increase in operating expenses as compared to 2002, caused by an increase in standard operating costs as well as transaction costs associated with the anticipated merger with COUNTRY. Continued growth in premiums, mortality that was consistent with management’s expectations, and lower operating expenses accounted primarily for the improved results in 2002 compared to 2001. In addition, 2002 results reflect a favorable adjustment to the amortization of policy acquisition costs resulting from updating actuarial assumptions. Other lines consist of the Company’s participation in a federally sponsored group life pool and income from a closed block of individual accident and health business.
		Premiums
		Premiums from individual life, guaranteed issue and simplified issue products, and other lines are as follows (dollars in thousands):

		Guaranteed issue and simplified issue life insurance premiums continued to show significant growth for the three year period from 2001 to 2003, primarily as a result of sustained production by the Company’s independent agency force which had approximately 4,700 agents under contract at December 31, 2003 compared to approximately 4,300 in 2002 and approximately 4,400 in 2001. This product is also distributed by the Company’s multi-line exclusive agents and is available for purchase over the Internet at the Company’s home page (www.cottonstatesinsurance.com).
		Individual life insurance products are principally sold by the Company’s exclusive agent producers. Growth in individual life premiums largely reflects an increase in production of the Company’s universal life product. The exclusive agency force of 251 as of December 31, 2003 compares to 272 as of the same date in 2002 and 266 in 2001. Other premiums consist of the Company’s participation in a federally sponsored group life pool and income from a closed block of individual accident and health business.

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		Investment Income and Realized Gains and Losses
		The following table summarizes the Company’s investment results for the years ended December 31 (dollars in thousands):

(1)

Represents net investment income (excluding net realized capital gains (losses)) divided by average invested assets at cost or amortized cost, as applicable. Average invested assets are calculated by dividing the sum of the beginning and ending period amounts by two.

		The average gross annual yield on fixed maturities declined in both 2003 and 2002 due to declining market reinvestment interest rates. The Company’s portfolio has an average effective duration of approximately four years, which reflects the medium-term nature of its liabilities. As a result, a significant portion of the portfolio matures and is reinvested each year. Market interest rates dropped significantly from mid-2002 to mid-2003. The average yield on a five-year U.S. Treasury note declined from 4.45% for the first half of 2002 to 3.18% for the second half of 2002 to 2.75% for the first half of 2003, and increased to 3.20% for the last half of 2003. At December 31, 2003, the market yield for five year U.S. Treasury Securities was 3.27%. The Company anticipates that the investment yield on its portfolio will continue to decline if market interest rates remain at 2003 levels.
		Due to favorable market conditions caused by lower interest rates, the Company realized net gains of approximately $2,194,000, $2,885,000 and $27,000 in 2003, 2002, and 2001, respectively, from the sale of fixed maturity and equity securities.
		During the first quarter of 2003 the Company realized a pre-tax investment loss of $356,000 from the write-down of the carrying value of 12 equity securities. These write-downs were the result of the Company determining that an other-than-temporary impairment had occurred.
		During 2002 the Company sold a security out of its held-to-maturity portfolio due to evidence of a significant deterioration in the issuer’s creditworthiness. At the time of sale the security had an amortized cost of $499,768. The Company realized a loss of $49,768 on the transaction.
		During the second quarter of 2002 the Company realized a pre-tax investment loss of $850,000 from the write-down of the carrying value of a WorldCom, Inc. debt security. This write-down was the result of the Company determining that an other-than-temporary impairment had occurred. This debt security was subsequently disposed of in the third quarter of 2002 at an additional loss of $41,000.
		During the third quarter of 2002 the Company realized a pre-tax investment loss of $120,000 from the write-down of the carrying value of Intel common stock. This write-down was the result of the Company determining that an other-than-temporary impairment had occurred.

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		During the fourth quarter of 2002 the Company realized a pre-tax investment loss of $460,000 from the write-down of the carrying value of ten equity securities and a pre-tax investment loss of $418,000 from the write-down of the Company’s investment in a limited partnership. These write-downs were the result of the Company determining that an other-than-temporary impairment had occurred.
		Brokerage Commissions
		Exclusive agents sell products that the Cotton States Group does not underwrite (both life and property and casualty) but are provided through the Company’s brokerage operations, and for which the Company receives override commission. Brokerage commissions increased 16% in 2003 compared to 2002 due primarily to increased sales of non-standard automobile policies. Brokerage commissions for 2002 were flat as compared to 2001 due to decreased override commissions on the sale of multi-peril crop and crop hail products. This decrease in brokerage commissions was partially offset by an 11% increase in commissions on the sale of non-standard automobile policies.
		Benefits and Claims
		Life benefits and claims, including reserve increases on traditional life and guaranteed issue and simplified issue products, are as follows (dollars in thousands):

		Benefits and claims, as a percentage of premium, fluctuate within a normal range reflecting volatility in mortality, changes in mix of business, and age of policyholders. Guaranteed issue and simplified issue experience for the three year period is consistent with the Company’s future expectations for those products as the block of business matures. Individual life benefits increased in 2003 compared to 2002 due to a significant increase in mortality in the Company’s traditional life and universal life products during the fourth quarter of 2003. Individual life benefits increased in 2002 compared to 2001 due to higher traditional life reserve increases, which were the result of an overall improvement in persistency. Death benefits for 2002 were consistent with management’s expectations.
		Due to the Company’s small size, quarterly fluctuations, even when they remain within the normal range, will affect the total benefits and claims for the fiscal year. During 2003, 2002, and 2001, the Company experienced emerged mortality of 104%, 88%, and 89% of expected mortality, respectively, related to its traditional individual life insurance business. In addition, the Company’s general policy is to retain, with respect to individual life policies, generally no more than $100,000 of insurance on any one life and has also routinely purchased annual aggregate stop loss reinsurance coverage in excess of 120% of expected mortality. The Company did not experience any material impact on reinsurance costs as a result of the events of September 11, 2001.
		The Company has reached a partial settlement regarding $900,000 in reinsurance coverage. In addition,

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		a lawsuit was initiated by the Company in the third quarter of 2001. To date the Company has received approximately $475,000 and continues to seek additional recoveries against the reinsurance brokers through already existing legal channels. During the fourth quarter of 2003 the Company determined it to be probable that approximately $200,000 of the outstanding balance would be uncollectible. Accordingly, the Company has reduced the receivable by that amount and charged the amount to benefits expense in the accompanying financial statements. The Company believes the remaining amount outstanding to be fully recoverable and has included it in reinsurance receivable on the consolidated balance sheet.
		Other benefits and claims consist of participation in a federally sponsored group life pool and benefits on a closed block of individual accident and health business.
		Interest Credited to Policyholders
		Interest credited to universal life contracts for 2003 was flat as compared to 2002 and increased 7% in 2002 as compared to 2001 reflecting growth in universal life policy accumulations, offset by reductions to the annual interest rate credited to policyholders in 2003 and 2002. The annual interest rate credited to policyholders of universal life contracts was 5.75% for the first two months of 2003. Effective March 1, 2003, the annual rate credited to policyholders changed to 5.4%. The annual rate credited to policyholders was 5.75% for the final three months of 2002 and was 6.25% for the first nine months of 2002 and for the year 2001.
		Amortization of Policy Acquisition Costs and Operating Expenses
		The amortization of policy acquisition costs as a percentage of premium was 14% in 2003 compared to 11% in 2002 and 15% in 2001. Amortization for 2003 is within the Company’s expected range of 12-14%. The amortization of policy acquisition costs for 2002 reflects a favorable adjustment from updating actuarial assumptions and a decrease in the annual interest rate credited to policyholders. The adjustment represented a slow down of amortization as a result of higher estimated future profits from the improvement in mortality levels on universal life products. The after tax effect on net income for 2002 was $186,000 or $.03 per share. Amortization in 2001 reflects higher lapses in the traditional lines of business which reflects increased term rate competition in the market place.
		Operating expenses as a percentage of premiums were 26% for 2003 compared to 25% in 2002 and 28% in 2001. The increase in 2003 compared to 2002 reflects normal increases in standard operating costs plus certain costs associated with the anticipated merger with COUNTRY. These costs were anticipated by management. The Company experienced some expense savings in 2002 primarily due to the reduction of certain performance based compensation costs.
		Income Tax Expense
		The effective tax rate for 2003 was 33% compared to 29% in 2002 and 27% in 2001. The four percentage point increase from 2002 to 2003 and the two percentage point increase from 2002 to 2001 are the result of decreases in the allowable small company deduction.

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Financial Condition

		Investments
		The investment portfolios are managed based on the underlying characteristics and nature of the Company’s respective liabilities and within established risk parameters. (For a further discussion of the Company’s approach to managing risks, see the Investment Credit Risk section in Item 7A.)
		The investment portfolios are managed by three non-affiliated investment managers. Company management, under the direction of the Board of Directors, is responsible for monitoring and managing the asset/liability profile, establishing investment objectives and guidelines and determining, within specified risk tolerances and investment guidelines, the appropriate asset allocation, duration, convexity and other characteristics of the portfolios. Security selection and monitoring are performed by the investment managers’ asset class specialists working within dedicated portfolio management teams.
		The Company’s primary investment objective is to maximize after-tax returns consistent with acceptable risk parameters, including the management of the interest rate sensitivity of invested assets and the generation of sufficient liquidity relative to that of policyholder and corporate obligations.
		Return on invested assets is an important element of the Company’s financial results. Significant fluctuations in the fixed maturity or equity markets could weaken the Company’s financial condition or its results of operations. Additionally, changes in market interest rates may impact the period of time over which certain investments, such as mortgage-backed securities, are repaid and whether certain investments are called by the issuers. Such changes may, in turn, impact the yield on these investments and also may result in reinvestment of funds received from calls and prepayments at rates below the average portfolio yield. Net investment income and net realized capital gains and losses accounted for approximately 21%, 23%, and 23% of the Company’s consolidated revenues for the years ended December 31, 2003, 2002 and 2001, respectively.
		Fluctuations in interest rates affect the Company’s return on, and the fair value of, fixed maturity investments, which comprised approximately 92% and 91% of the fair value of its invested assets as of December 31, 2003 and 2002, respectively. Other events beyond the Company’s control could also adversely impact the fair value of these investments. Specifically, a downgrade of an issuer’s credit rating or default of payment by an issuer could reduce the Company’s investment return.
		The following table identifies the invested assets by type held as of December 31, 2003 and 2002 (dollars in thousands):

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The following table provides information on the Company’s fixed maturity investments as of December 31 (dollars in thousands):

The following table indicates by rating the composition of the Company’s fixed maturity securities portfolio at December 31 (dollars in thousands):

(1)

Ratings are the lower of those assigned primarily by Standard & Poor’s and Moody’s, when available, and are shown in the table using the Standard & Poor’s rating scale.

		The Company monitors the financial condition and operations of securities on which there are concerns regarding credit quality. In evaluating fixed maturities to determine whether any of the unrealized losses are other-than-temporary, management’s assessments as to the nature of declines in fair values are based upon historical operating trends, business prospects, status of the industry in which the Company operates, analyst ratings on the issuer and sector, the quality of the investments, the severity and duration of the unrealized losses and the Company’s ability or intent to hold the investments. If fair value is less than the carrying value and the decline in value is determined to be other-than-temporary, an appropriate write-down is recorded.
		Securities, both fixed maturities and equities, that are depressed by 20% or more for 12 months or by 30% or more for six months are presumed to be other-than-temporarily impaired unless the depression is the result of rising interest rates or significant objective verifiable evidence supports that the security

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		price is temporarily depressed and is expected to recover within a reasonable period of time. Securities depressed less than 20% or depressed 20% or more but for less than 12 months or depressed 30% or more but for less than six months are also reviewed to determine if an other-than-temporary impairment is present. The primary factors considered in evaluating whether a decline in value for securities is other-than-temporary include: (a) the length of time and the extent to which the fair value has been less than cost, (b) the financial condition, credit rating and near-term prospects of the issuer, (c) whether the debtor is current on contractually obligated interest and principal payments and (d) the intent and ability of the Company to retain the investment for a period of time sufficient to allow for recovery.
		The following table identifies the Company’s other-than-temporary impairments by security type (pre-tax dollars in thousands):

Certain fixed maturity and equity securities were in an unrealized loss position, where the Company’s cost basis in the security exceeds the security’s fair market value, at December 31, 2003. The following table summarizes the length of time that those securities have been in a continuous unrealized loss position as of December 31, 2003 (dollars in thousands):

		As of December 31, 2003 there were no debt or equity securities whose unrealized losses would be deemed by management to be other-than-temporary impairments that have not been recorded.
		Mortgage Loans
		The Company’s mortgage loan policy limits the amounts of loans to no more than 80% of the collateral value on residential loans and no more than 75% of the collateral value on commercial loans. The Company grants loans only to employees (excluding officers and directors) and agents.

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The geographic distribution of the loan portfolio is:

		Two loans representing $56,000 in principal are over 30 days delinquent. The loan-to-value ratio on delinquent loans is 15%.
		Transaction with Affiliates
		Mutual, through its wholly owned subsidiary, Shield, controls approximately 33% of the Company’s outstanding common stock. In addition, most of the officers and directors of the Company hold similar positions with these affiliates.
		Certain general expenses are allocated to the Company from its affiliates. These expenses, such as salaries, advertising, rents, etc., represent the Company’s share of expenses initially paid by Mutual and are allocated based on specific identification or, if undeterminable, generally on the basis of each company’s premium. Expenses allocated to the Company may not be the same as expenses incurred if the Company operated as a stand-alone entity. Expenditures allocated to the Company amounted to $3,704,114 in 2003, $3,471,048 in 2002 and $3,992,556 in 2001. At December 31, 2003 the Company owed $576,644 to Mutual and at December 31, 2002 the Company was owed $42,469 from Mutual.
		The Company expensed pension costs of $99,535 in 2003, $116,174 in 2002, and $93,347 in 2001.
		Rent for use of software of $106,000 in 2003, 2002, and 2001, has been charged to the affiliated companies.

Liquidity and Capital Resources

Liquidity is a measure of a company’s ability to generate sufficient cash flows to meet the short and long-term cash requirements of its business operations. The liquidity requirements of the Company’s business have been met primarily by funds generated from operations, asset maturities and income received on investments. Cash provided from these sources is used primarily for benefits and claims and operating expenses. The timing and amount of reinsurance recoveries may be affected by reinsurer solvency and by reinsurance coverage disputes. In the opinion of the Company’s management, the Company’s future liquidity needs will be met from all of the above sources.

Net cash flows provided by operating activities totaled $15.2 million, $17.0 million and $15.5 million in 2003, 2002 and 2001, respectively. Operating cash flow is primarily used to purchase debt securities. The Company received proceeds of $30.8 million from investment maturities and repayments in 2003, adding to available cash flows. Such proceeds were $14.3 million in 2002 and $10.5 million in 2001. When market opportunities arise, the Company disposes of selected debt securities available for sale in an attempt to improve future investment yields and/or improve duration matching of our assets and liabilities. Therefore, dispositions before maturity can vary significantly from year to year. Proceeds from sales prior to maturity were $66.0 million in 2003, $108.6 million in 2002 and $50.4 million in 2001.

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Net cash flows used in investing activities totaled $23.6 million, $10.1 million and $7.7 million in 2003, 2002 and 2001, respectively. The net cash flows used in investing activities primarily reflect the investing of net cash from operating activities.

Net cash flows used in financing activities totaled $1.1 million in 2003, 2002, and 2001. The Company’s principal financing activity is payment of dividends to the Company’s shareholders. Dividends are normally declared quarterly and must be approved by the Board of Directors. Pursuant to the Agreement and Plan of Merger with COUNTRY, the Company is prohibited from paying future dividends to shareholders, with the exception of the $.04 per share dividend declared February 24, 2004, payable April 5, 2004, without the express written consent of COUNTRY. Additionally, any dividends paid by the Company are subject to the regulations of the insurance laws and practices of the Georgia Department of Insurance, which generally allows life and health insurance companies to make dividend payments equal to or less than the greater of 10% of statutory surplus as regards policyholders as of the preceding December 31 or the net gain from operations, excluding realized gains or losses, for the twelve month period ending on the preceding December 31. Dividends exceeding the applicable threshold are considered extraordinary and require the prior approval of the Georgia Insurance Commissioner.

Net cash flows are generally invested in marketable securities. The Company closely monitors the duration of these investments, and investment purchases and sales are executed with the objective of having adequate funds available to satisfy the Company’s liabilities. As the Company’s investment strategy focuses on asset and liability durations, and not specific cash flows, asset sales may be required to satisfy obligations and/or rebalance asset portfolios. The effective average duration of fixed maturities was 4.6 years as of December 31, 2003, a 0.5 increase from 4.1 years as of December 31, 2002. The increase in effective average duration resulted from the investment of operating cash flows and investment maturities and sales proceeds in slightly longer-term investments.

Pursuant to the Agreement and Plan of Merger with COUNTRY, the Company will, concurrent with the closing of the merger and assuming regulatory and shareholder approvals and the satisfaction of all other conditions to closing, be required to pay approximately $6.2 million in order to fund the settlement of shares of the Company’s common stock that will immediately vest under the Company’s Performance Shares Awards Plan and the Company’s Directors’ Discounted Stock Option Plan. It is unlikely that the Company will be able to fully fund this payment out of operating cash flow. As a result, the Company anticipates having to liquidate some fixed maturity securities in order to pay the amount not covered by operating cash flow.

Other than noted above, the Company does not have any debt, lease obligations, purchase obligations, lines of credit, guarantees, off-balance sheet arrangements, trading activities involving non-exchange traded contracts accounted for at fair value or relationships with persons or entities that derive benefits from a non-independent relationship with the Company or the Company’s related parties.

Since December 31, 2002, there has not been a material change in mix or credit quality of the Company’s investment portfolio. All bond purchases have been available for sale and over 87% of the holdings at December 31, 2003 and 88% in 2002 are rated “A” or better by Standard & Poor’s Corporation. For all fixed maturities, 13% in 2003 and 12% in 2002 are rated BBB. Ratings of BBB and higher are considered investment grade by the rating services. Due to a deterioration in bond market conditions, the Company experienced a decrease in the unrealized gains on bonds of approximately $1,858,000 in 2003.

The amortized cost and estimated fair value of debt securities at December 31, 2003, by contractual maturity, are shown on the following page. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

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