UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

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FORM 10-Q

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QUARTERLY REPORT

Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended March 31, 2015

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000-01999

(Commission file number)

 

INVESTORS HERITAGE CAPITAL CORPORATION

(Exact Name of Registrant as Specified in its Charter)

 

KENTUCKY		61-6030333
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)
200 Capital Avenue,
Frankfort, Kentucky 40602
(Address of principal executive offices)
(502) 223-2361
(Registrant’s telephone number, including area code)

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Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes ☒   No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

 

Yes ☒    No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer	☐	Accelerated filer   ☐
Non-accelerated filer	☐ (Do not check if a smaller reporting company)	Smaller reporting company  ☒

            

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 

Yes ☐   No ☒

 

 

 

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

Common Capital Stock par value $1.00 per share

(Title of Class)

Number of outstanding shares as of May 15, 2015 - 1,123,166.033

 

 

CONTENTS

 

 

	PART I – FINANCIAL INFORMATION
			Page
ITEM 1.	Condensed Consolidated Financial Statements		4
ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		25
ITEM 4.	Controls and Procedures		34
	PART II – OTHER INFORMATION
ITEM 1.	Legal Proceedings		35
ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds		35
ITEM 3.	Defaults Upon Senior Securities		35
ITEM 4.	Mine Safety Disclosures		35
ITEM 5.	Other Information		35
ITEM 6.	Exhibits		35
SIGNATURES			36
EXHIBIT 31.1			37
EXHIBIT 31.2			39
EXHIBIT 32			41

 

 

 

PART I – FINANCIAL INFORMATION

 

ITEM 1. Condensed Consolidated Financial Statements

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

Condensed Consolidated Balance Sheets (Unaudited)

 

		March 31,				December 31,
		2015				2014
ASSETS
Investments:
Securities available-for-sale, at fair value:
Fixed maturities (amortized cost: $399,540,804 and $403,596,261)		$	430,771,661			$	430,117,478
Equity securities (cost: $6,476,827 and $6,331,436)			7,682,294				7,405,819
Mortgage loans on real estate			32,416,577				29,459,436
Policy loans			6,716,387				6,665,493
State-guaranteed receivables			7,759,795				7,917,379
Other invested assets			3,396,033				3,270,848
Total investments			488,742,747				484,836,453
Cash and cash equivalents			5,675,143				1,870,867
Accrued investment income			4,452,620				5,190,740
Due premiums			3,156,373				3,217,136
Deferred acquisition costs			17,484,035				17,847,907
Value of business acquired			279,625				301,037
Leased property under capital leases			655,027				555,251
Property and equipment			971,150				1,000,120
Cash value of company-owned life insurance			12,528,527				12,441,833
Other assets			2,564,656				2,041,050
Amounts recoverable from reinsurers			56,199,042				55,910,993
Total assets		$	592,708,945			$	585,213,387
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Policy liabilities:
Benefit reserves		$	490,752,576			$	490,126,730
Unearned premium reserves			7,927,412				7,812,972
Policy claims			2,635,852				2,821,106
Liability for deposit-type contracts			3,405,196				3,432,793
Reserves for dividends and endowments and other			398,205				391,439
Total policy liabilities			505,119,241				504,585,040
Deferred federal income tax liability			9,351,389				7,785,450
Obligations under capital leases			645,799				553,028
Notes payable			2,611,875				2,508,576
Accrued pension liability			4,995,939				5,141,442
Other liabilities			6,534,506				4,103,365
Total liabilities			529,258,749				524,676,901
STOCKHOLDERS' EQUITY
Common stock (shares issued: 1,123,980 and 1,123,980)			1,123,980				1,123,980
Paid-in surplus			8,908,243				8,908,243
Accumulated other comprehensive income			15,946,390				12,704,319
Retained earnings			37,471,583				37,799,944
Total stockholders' equity			63,450,196				60,536,486
Total liabilities and stockholders' equity		$	592,708,945			$	585,213,387

 

See notes to condensed consolidated financial statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

Condensed Consolidated Income Statements (Unaudited)

 

		Quarter Ended March 31,
		2015				2014
REVENUE
Premiums and other considerations		$	14,726,746			$	15,232,486
Premiums ceded			(3,364,065	)			(3,355,650	)
Net premiums			11,362,681				11,876,836
Investment income, net of expenses			5,223,812				5,078,982
Net realized gains (losses) on investments			158,828				(3,806	)
Other income			350,441				337,872
Total revenue			17,095,762				17,289,884
BENEFITS AND EXPENSES
Death and other benefits			11,724,062				11,021,044
Guaranteed annual endowments			103,396				103,810
Dividends to policyholders			84,285				83,383
Increase in benefit reserves and unearned premiums			1,273,496				1,978,691
Acquisition costs deferred			(1,388,344	)			(1,751,981	)
Amortization of deferred acquisition costs			1,633,163				1,787,601
Commissions			897,364				1,306,860
Other general and administrative expenses			2,865,069				2,828,181
Total benefits and expenses			17,192,491				17,357,589
LOSS BEFORE FEDERAL INCOME TAXES			(96,729	)			(67,705	)
PROVISION (BENEFIT) FOR FEDERAL INCOME TAXES
Current			80,037				26,587
Deferred			(104,219	)			(40,128	)
Total federal income taxes			(24,182	)			(13,541	)
NET LOSS		$	(72,547	)		$	(54,164	)
BASIC AND DILUTED NET LOSS PER SHARE		$	(0.06	)		$	(0.05	)
DIVIDENDS PER SHARE		$	0.21			$	0.20

 

See notes to condensed consolidated financial statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

Condensed Consolidated Statements of Comprehensive Income (Unaudited)

 

		Quarter Ended March 31,
		2015				2014
NET LOSS		$	(72,547	)		$	(54,164	)
OTHER COMPREHENSIVE INCOME:
Change in net unrealized gains on available-for-sale securities:
Unrealized holding gains arising during period			4,999,552				7,168,195
Reclassification adjustment for losses (gains) included in income			(158,828	)			3,806
Adjustment for effects of deferred acquisition costs			(119,053	)			(191,144	)
Net unrealized gains on investments			4,721,671				6,980,857
Change in defined benefit pension plan:
Amortization of actuarial net loss in net periodic pension cost			190,558				97,603
Other comprehensive income before income taxes			4,912,229				7,078,460
Income tax expense			1,670,158				2,406,676
OTHER COMPREHENSIVE INCOME, NET OF TAXES			3,242,071				4,671,784
COMPREHENSIVE INCOME		$	3,169,524			$	4,617,620

 

See notes to condensed consolidated financial statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

Condensed Consolidated Statements of Stockholders' Equity (Unaudited)

 

										Accumulated
										Other								Total
		Common				Paid-in				Comprehensive				Retained				Stockholders'
		Stock				Surplus				Income				Earnings				Equity
BALANCE, JANUARY 1, 2014		$	1,128,583			$	8,908,243			$	6,751,991			$	36,858,451			$	53,647,268
Net loss			-				-				-				(54,164	)			(54,164	)
Other comprehensive income, net			-				-				4,671,784				-				4,671,784
Cash dividends			-				-				-				(244,554	)			(244,554	)
BALANCE, MARCH 31, 2014		$	1,128,583			$	8,908,243			$	11,423,775			$	36,559,733			$	58,020,334
BALANCE, JANUARY 1, 2015		$	1,123,980			$	8,908,243			$	12,704,319			$	37,799,944			$	60,536,486
Net loss			-				-				-				(72,547	)			(72,547	)
Other comprehensive income, net			-				-				3,242,071				-				3,242,071
Cash dividends			-				-				-				(255,814	)			(255,814	)
BALANCE, MARCH 31, 2015		$	1,123,980			$	8,908,243			$	15,946,390			$	37,471,583			$	63,450,196

 

See notes to condensed consolidated financial statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

Condensed Consolidated Statements of Cash Flows (Unaudited)

 

		Three Months Ended March 31,
		2015				2014
NET CASH PROVIDED BY OPERATING ACTIVITIES		$	1,619,414			$	3,479,426
INVESTING ACTIVITIES
Purchases of available-for-sale securities			(8,820,837	)			(7,791,620	)
Sales of available-for-sale securities			3,201,808				449,727
Maturities of available-for-sale securities			9,618,212				6,700,321
Acquisitions of mortgage loans on real estate			(4,820,513	)			(732,640	)
Payments of mortgage loans on real estate			1,868,887				341,863
Payments of state-guaranteed receivables			298,260				298,260
Net change in payable (receivable) for securities			2,047,167				95,091
Net additions in other investments			(176,079	)			(75,317	)
Net additions to property and equipment			(203,665	)			(120,267	)
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES			3,013,240				(834,582	)
FINANCING ACTIVITIES
Receipts from universal life policies credited to policyholder account balances			1,061,173				1,295,052
Return of policyholder account balances on universal life policies			(1,992,850	)			(2,013,943	)
Payments on notes payable			(849,876	)			(817,548	)
Proceeds from notes payable			953,175				813,142
NET CASH USED IN FINANCING ACTIVITIES			(828,378	)			(723,297	)
INCREASE IN CASH AND CASH EQUIVALENTS			3,804,276				1,921,547
Cash and cash equivalents at beginning of period			1,870,867				4,143,291
CASH AND CASH EQUIVALENTS AT END OF PERIOD		$	5,675,143			$	6,064,838

 

See notes to consolidated financial statements.

 

 

INVESTORS HERITAGE CAPITAL CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2015

(Unaudited)

 

NOTE 1 - Nature of Operations 

Investors Heritage Capital Corporation is the holding company of Investors Heritage Life Insurance Company; Investors Heritage Printing, Inc., a printing company; Investors Heritage Financial Services Group, Inc., an insurance marketing company; is the sole member of At Need Funding, LLC, a limited liability company that provides advance funding of funerals in exchange for the irrevocable assignment of life insurance policies from other nonaffiliated companies; and is the sole member of Heritage Funding, LLC, a limited liability company that invests in various business ventures. These entities are collectively hereinafter referred to as the “Company”. In excess of 99% of Investors Heritage Capital’s consolidated revenue is generated by Investors Heritage Life.

 

Our principal operations involve the sale and administration of various insurance and annuity products, including, but not limited to, participating and non-participating whole life, limited pay life, universal life, annuity contracts, credit life, credit accident and health and group insurance policies. The principal markets for the Company’s products are in Kentucky, North Carolina, Georgia, Indiana, Michigan, Ohio, Pennsylvania, South Carolina, Tennessee, Texas and Virginia.

 

NOTE 2 - Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and 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 U.S. 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 the quarter ended March 31, 2015 are not necessarily indicative of the results that may be expected for the year ending December 31, 2015. For further information, refer to the consolidated financial statements and footnotes thereto for the year ended December 31, 2014, as included in our Annual Report on Form 10-K.

 

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

 

Management has evaluated all events subsequent to March 31, 2015 through the date that these financial statements have been issued.

 

NOTE 3 – New Accounting Pronouncements

All new accounting standards and updates of existing standards issued through the date of this filing were considered by management and did not relate to accounting policies and procedures pertinent to the Company at this time or were not expected to have a material impact to the consolidated financial statements.

 

 

NOTE 4 – Investments

Investments in available-for-sale securities are summarized as follows:

 

						Gross				Gross
March 31, 2015		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
Fixed maturity securities:
U.S. government obligations		$	27,058,920			$	1,136,850			$	-			$	28,195,770
States and political subdivisions			37,179,634				6,168,220				10,673				43,337,181
Corporate			221,515,492				18,149,584				595,008				239,070,068
Foreign			63,756,771				3,670,266				518,776				66,908,261
Asset-backed securities			1,432,996				20,269				-				1,453,265
Mortgage-backed securities (MBS):
Commercial MBS			7,705,874				413,781				-				8,119,655
Residential MBS			40,891,117				2,796,344				-				43,687,461
Total fixed maturity securities			399,540,804				32,355,314				1,124,457				430,771,661
Equity securities:
U.S. agencies			707,900				-				-				707,900
Mutual funds			318,284				38,002				-				356,286
Corporate common stock			5,450,643				1,325,475				158,010				6,618,108
Total equity securities			6,476,827				1,363,477				158,010				7,682,294
Total		$	406,017,631			$	33,718,791			$	1,282,467			$	438,453,955

 

						Gross				Gross
December 31, 2014		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
Fixed maturity securities:
U.S. government obligations		$	28,063,178			$	820,997			$	16,164			$	28,868,011
States and political subdivisions			38,021,271				5,985,975				-				44,007,246
Corporate			224,299,411				15,669,733				930,632				239,038,512
Foreign			63,792,040				2,934,542				751,369				65,975,213
Asset-backed securities			1,432,996				33,501				-				1,466,497
Mortgage-backed securities (MBS):
Commercial MBS			7,869,355				266,831				-				8,136,186
Residential MBS			40,118,010				2,507,809				6				42,625,813
Total fixed maturity securities			403,596,261				28,219,388				1,698,171				430,117,478
Equity securities:
U.S. agencies			707,900				-				-				707,900
Mutual funds			318,284				40,038				-				358,322
Corporate common stock			5,305,252				1,157,718				123,373				6,339,597
Total equity securities			6,331,436				1,197,756				123,373				7,405,819
Total		$	409,927,697			$	29,417,144			$	1,821,544			$	437,523,297

 

 

The following table summarizes, for all securities in an unrealized loss position as of the balance sheet dates, the estimated fair value, pre-tax gross unrealized loss and number of securities by length of time that those securities have been continuously in an unrealized loss position.

 

		March 31, 2015												December 31, 2014
						Gross				Number								Gross				Number
		Estimated				Unrealized				of				Estimated				Unrealized				of
		Fair Value				Loss				Securities				Fair Value				Loss				Securities
Fixed Maturities:
Less than 12 months:
States and political subdivisions		$	739,328			$	10,673				1			$	-			$	-				-
Corporate			9,069,557				330,560				6				12,473,068				508,818				7
Foreign			5,981,173				258,603				4				10,374,173				310,267				7
Residential MBS			-				-				-				16,862				6				1
Greater than 12 months:
U.S. government obligations			-				-				-				7,736,774				16,164				1
Corporate			3,985,662				264,448				3				3,828,887				421,814				3
Foreign			4,899,184				260,173				2				4,724,455				441,102				2
Total fixed maturities			24,674,904				1,124,457				16				39,154,219				1,698,171				21
Equities:
Less than 12 months:
Corporate common stock			574,114				97,184				8				527,614				103,438				4
Greater than 12 months:
Corporate common stock			165,471				60,826				4				525,865				19,935				4
Total equities			739,585				158,010				12				1,053,479				123,373				8
Total		$	25,414,489			$	1,282,467				28			$	40,207,698			$	1,821,544				29

 

As of March 31, 2015, all of the above fixed maturity securities individually had a fair value to cost ratio equal to or greater than 90% and the equity securities had a fair value to cost ratio equal to or exceeding 69%. As of December 31, 2014, all of the above fixed maturity securities had a fair value to cost ratio equal to or greater than 86% and the equity securities noted above had a fair value to cost ratio equal to or greater than 78%.

 

The Company’s decision to record an impairment loss is primarily based on whether the security’s fair value is likely to remain significantly below its book value in light of all the factors considered. Factors that are considered include the length of time the security’s fair value has been below its carrying amount, the severity of the decline in value, the credit worthiness of the issuer, and the coupon and/or dividend payment history of the issuer. The Company also assesses whether it intends to sell or whether it is more likely than not that it may be required to sell the security prior to its recovery in value. For any fixed maturity securities that are other-than-temporarily impaired, the Company determines the portion of the other-than-temporary impairment that is credit-related and the portion that is related to other factors. The credit-related portion is the difference between the expected future cash flows and the amortized cost basis of the fixed maturity security, and that difference is charged to earnings. The non-credit-related portion representing the remaining difference to fair value is recognized in other comprehensive income (loss). Only in the case of a credit-related impairment where management has the intent to sell the security, or it is more likely than not that it will be required to sell the security before recovery of its cost basis, is a fixed maturity security adjusted to fair value and the resulting losses recognized in realized gains (losses) in the consolidated statements of income. Any other-than-temporary impairments on equity securities are recorded in the consolidated statements of income in the periods incurred as the difference between fair value and cost. Based on our review, the Company experienced no other-than-temporary impairments during the quarters ended March 31, 2015 or 2014.

 

 

Management believes that the Company will fully recover its cost basis in the securities held at March 31, 2015, and management does not have the intent to sell nor is it more likely than not that the Company will be required to sell such securities until they recover or mature. The temporary impairments shown herein are primarily the result of the current interest rate environment rather than credit factors that would imply other-than-temporary impairment.

 

Net unrealized gains for investments classified as available-for-sale are presented below, net of the effect on deferred income taxes and deferred acquisition costs assuming that the appreciation (depreciation) had been realized.

 

		March 31,				December 31,
		2015				2014
Net unrealized appreciation on available-for sale securities		$	32,436,324			$	27,595,600
Adjustment to deferred acquisition costs			(830,703	)			(711,650	)
Deferred income taxes			(10,745,911	)			(9,140,543	)
Net unrealized appreciation on available-for sale securities		$	20,859,710			$	17,743,407

 

The amortized cost and fair value of fixed maturity securities at March 31, 2015, by contractual maturity, are presented below. 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.

 

		Available-for-Sale
		Amortized				Fair
		Cost				Value
Due in one year or less		$	8,830,253			$	9,030,285
Due after one year through five years			84,073,704				92,683,476
Due after five years through ten years			180,399,260				190,895,214
Due after ten years			52,812,115				60,644,458
Due at multiple maturity dates			73,425,472				77,518,228
Total		$	399,540,804			$	430,771,661

 

Proceeds for the quarters ended March 31, 2015 and 2014 from sales and maturities of investments in available-for-sale securities, as well as gross gains and gross losses realized, are presented below.

 

		Quarter Ended March 31,
		2015				2014
Proceeds from sales and maturities		$	12,820,020			$	7,150,048
Gross realized gains			160,792				21,672
Gross realized losses			(1,964	)			(25,478	)

 

 

The table below shows the change in net unrealized investment gains (losses) and the amount of realized investment gains (losses) on fixed maturities and equity securities for the quarters ended March 31, 2015 and 2014.

 

		Quarter Ended March 31,
		2015				2014
Change in unrealized investment gains:
Available-for-sale:
Fixed maturities		$	4,709,640			$	6,860,197
Equity securities			131,084				311,804
Net realized investment gains (losses):
Available-for-sale:
Fixed maturities		$	90,859			$	-
Equity securities			67,969				(3,806	)

 

The Company is required to hold assets on deposit for the benefit of policyholders in accordance with statutory rules and regulations. At March 31, 2015 and December 31, 2014, these required deposits had a total fair value of $23,640,234 and $23,951,372, respectively.

 

The Company also engages in commercial and residential mortgage lending. As of March 31, 2015, investments in commercial and residential properties comprised 38.2% and 61.8%, respectively, of the Company’s mortgage portfolio. At December 31, 2014, investments in commercial and residential properties comprised 41.9% and 58.1%, respectively, of the Company’s mortgage portfolio.

 

All commercial mortgage loans are either originated in-house or through two mortgage brokers, are secured by first mortgages on the real estate and generally carry personal guarantees by the borrowers. Loan-to-value ratios of 80% or less and debt service coverage from existing cash flows of 115% or higher are generally required. We minimize credit risk in our mortgage loan portfolio through various methods, including stringently underwriting the loan request, maintaining small average loan balances, and reviewing larger mortgage loans on an annual basis.

 

The Company purchases residential mortgage loans through the secondary market. Each mortgage loan opportunity is reviewed individually, considering both the value of the underlying property and the credit worthiness of the borrower. We are utilizing a third party servicer to administer these loans.

 

As of March 31, 2015 and December 31, 2014, there were no non-performing loans, loans on nonaccrual status, loans 90 days past due or more, loans in process of foreclosure, or restructured loans. The Company experienced no mortgage loan defaults during the quarters ended March 31, 2015 and 2014.

 

 

The Company’s investments in mortgage loans, by state, are as follows:

 

		March 31,				December 31,
		2015				2014
Florida		$	5,401,368			$	6,047,236
California			5,078,618				4,806,451
Illinois			4,631,248				3,392,446
Texas			3,485,045				2,290,700
Kentucky			3,440,569				3,492,854
Georgia			2,710,588				3,123,530
Ohio			1,777,594				1,805,093
Arizona			1,145,494				927,600
Tennessee			978,461				1,054,671
Indiana			625,664				95,434
West Virginia			433,772				440,725
Pennsylvania			383,560				-
Nevada			376,000				-
North Carolina			358,466				359,308
Missouri			267,324				267,996
New Jersey			251,423				252,612
South Carolina			242,707				248,815
Colorado			224,666				225,772
Massachusetts			219,363				239,399
Idaho			170,680				174,433
Kansas			136,172				136,442
Utah			77,795				77,919
Total		$	32,416,577			$	29,459,436

 

The Company owns certain investments in state-guaranteed receivables. These investments represent an assignment of the future rights to cash flows from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries and guaranteed by the states. The state-guaranteed receivables are carried at their amortized cost basis on the balance sheet. At March 31, 2015, the amortized cost and estimated fair value of state-guaranteed receivables, by contractual maturity, are summarized as follows:

 

		Amortized				Fair
		Cost				Value
Due in one year or less		$	739,517			$	755,505
Due after one year through five years			2,476,155				2,750,467
Due after five years through ten years			3,011,141				3,859,923
Due after ten years			1,532,982				2,284,232
Total		$	7,759,795			$	9,650,127

 

 

 

The amortized cost of state-guaranteed receivables, by state, is summarized as follows:

 

		March 31,				December 31,
		2015				2014
New York		$	3,579,778			$	3,694,805
Massachusetts			1,953,718				1,969,570
Georgia			1,447,195				1,467,774
Pennsylvania			305,144				299,851
Texas			231,722				227,649
California			171,233				188,131
Ohio			71,005				69,599
Total		$	7,759,795			$	7,917,379

 

Major categories of net investment income are summarized as follows: 

 

		Quarter Ended March 31,
		2015				2014
Fixed maturities		$	4,637,808			$	4,709,081
Equity securities			63,291				51,637
Mortgage loans on real estate			558,396				303,876
Policy loans			118,740				116,929
State-guaranteed receivables			140,675				143,795
Other			60,652				57,057
Gross investment income			5,579,562				5,382,375
Investment expenses			355,750				303,393
Net investment income		$	5,223,812			$	5,078,982

 

NOTE 5 – Fair Values of Financial Instruments

The fair value of a financial instrument is the estimated amount at which the instrument could be exchanged in an orderly transaction between knowledgeable, unrelated, willing parties, i.e., not in a forced transaction.  The estimated fair value of a financial instrument may differ from the amount that could be realized if the security was sold in an immediate sale, e.g., a forced transaction.  Additionally, the valuation of investments is more subjective when markets are less liquid due to the lack of market based inputs, which may increase the potential that the estimated fair value of an investment is not reflective of the price at which an actual transaction would occur.

 

The Company holds fixed maturities and equity securities that are measured and reported at fair market value on the balance sheet. The Company is also required to disclose fair value estimates for other financial instruments not required to be carried at market value on the balance sheet. The Company determines the fair market values of its financial instruments based on the fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value, as follows:

 

Level 1 - Quoted prices in active markets for identical assets or liabilities.

 

Level 2 - Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. The unobservable inputs reflect the Company’s own assumptions about the inputs that market participants would use.

 

 

The Company has categorized its financial instruments, based on the priority of the inputs to the valuation technique, into the three-level fair value hierarchy. If the inputs used to measure the financial instruments fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument. A review of fair value hierarchy classifications is conducted on a quarterly basis. Changes in the valuation inputs, or their ability to be observed, may result in a reclassification for certain financial assets or liabilities. Reclassifications impacting Level 3 of the fair value hierarchy are reported as transfers in/out of the Level 3 category as of the beginning of the period in which the reclassifications occur.

 

Valuation of Investments Reported at Fair Value in Financial Statements

 

The Company’s Level 1 investments include equity securities that are traded in an active exchange market, as well as one U.S. agency equity security whose value is set by government statute.

 

The Company’s Level 2 investments include fixed maturities with quoted prices that are traded less frequently than exchange-traded instruments or instruments whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes the majority of our fixed maturities, where fair values are obtained from a nationally recognized, third-party pricing service.

 

The Company’s Level 3 investments include financial instruments whose value cannot be obtained through a pricing service and must be determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. This category currently includes one private equity investment where independent pricing inputs were not able to be obtained. For fixed maturities that may fall within this level, the Company utilizes the assistance of its third-party investment advisor to estimate the fair value based on non-binding broker quotes and internal models using unobservable assumptions about market participants. For the private equity investment, the Company establishes fair value based on the most recent trading activity as well as a review of the underlying financial statements of the entity.

 

 

The following table presents the Company’s fair value hierarchy for those financial instruments measured and reported at fair value on a recurring basis as of March 31, 2015 and December 31, 2014.

 

		March 31, 2015
		Level 1				Level 2				Level 3				Total
Fixed maturities:
U.S. government obligations		$	-			$	28,195,770			$	-			$	28,195,770
States and political subdivisions			-				43,337,181				-				43,337,181
Corporate			-				239,070,068				-				239,070,068
Foreign			-				66,908,261				-				66,908,261
Asset-backed securities			-				1,453,265				-				1,453,265
Mortgage-backed securities:
Commercial MBS			-				8,119,655				-				8,119,655
Residential MBS			-				43,687,461				-				43,687,461
Total fixed maturities		$	-			$	430,771,661			$	-			$	430,771,661
Equity securities:
U.S. agencies		$	707,900			$	-			$	-			$	707,900
Mutual funds			356,286				-				-				356,286
Corporate common stock			6,266,108				-				352,000				6,618,108
Total equity securities		$	7,330,294			$	-			$	352,000			$	7,682,294

 

		December 31, 2014
		Level 1				Level 2				Level 3				Total
Fixed maturities:
U.S. government obligations		$	-			$	28,868,011			$	-			$	28,868,011
States and political subdivisions			-				44,007,246				-				44,007,246
Corporate			-				239,038,512				-				239,038,512
Foreign			-				65,975,213				-				65,975,213
Asset-backed securities			-				1,466,497				-				1,466,497
Mortgage-backed securities:
Commercial MBS			-				8,136,186				-				8,136,186
Residential MBS			-				42,625,813				-				42,625,813
Total fixed maturities		$	-			$	430,117,478			$	-			$	430,117,478
Equity securities:
U.S. agencies		$	707,900			$	-			$	-			$	707,900
Mutual funds			358,322				-				-				358,322
Corporate common stock			5,955,597				-				384,000				6,339,597
Total equity securities		$	7,021,819			$	-			$	384,000			$	7,405,819

 

 

 

The following table provides a summary of changes in fair value of our Level 3 financial instruments reported at fair value for the quarters ended March 31, 2015 and 2014.

 

		Quarter Ended March 31,
		2015				2014
Corporate common stock:
Beginning balance		$	384,000			$	384,000
Transfers into Level 3			-				-
Transfers out of Level 3			-				-
Purchases			-				-
Sales			-				-
Total gains or losses:
Included in earnings			-				-
Included in other comprehensive income			(32,000	)			-
Ending balance		$	352,000			$	384,000

 

The Company experienced no transfers between Level 1 and Level 2 during the quarters ended March 31, 2015 or 2014. The Company experienced no transfers between Level 2 and Level 3 during the quarters ended March 31, 2015 or 2014. Transfers in and/or out of Level 3 are primarily attributable to changes in the availability of market observable information and re-evaluation of the observability of pricing inputs.

 

The unrealized gains (losses) on Level 3 investments are recorded as a component of accumulated other comprehensive income (loss), net of tax, in accordance with required accounting for our available-for-sale portfolio.

 

 

Financial Instruments Disclosed, but not Carried, at Fair Value

 

The following disclosure presents the carrying values and estimated fair values of the Company’s financial instruments disclosed, but not carried, at fair value as of March 31, 2015 and December 31, 2014, and the level within the fair value hierarchy at which such assets and liabilities are measured on a recurring basis. The fair values for insurance contracts other than investment-type contracts are not required to be disclosed. The estimated fair value amounts have been determined using available market information and appropriate valuation methodologies. However, considerable judgment was required to interpret market data to develop these estimates. Accordingly, the estimates are not necessarily indicative of the amounts which could be realized in a current market exchange. The use of different market assumptions or estimation methodologies may have a material effect on the fair value amounts.

 

		March 31, 2015
		Carrying				Fair
		Amount				Value				Level 1				Level 2				Level 3
Assets:
Mortgage loans on real estate:
Commercial		$	12,390,295			$	13,050,138			$	-			$	-			$	13,050,138
Residential			20,026,282				22,180,264				-				-				22,180,264
Policy loans			6,716,387				6,716,387				-				-				6,716,387
State-guaranteed receivables			7,759,795				9,650,127				-				9,650,127				-
Other invested assets			3,396,033				3,396,033				-				-				3,396,033
Cash and cash equivalents			5,675,143				5,675,143				5,675,143				-				-
Accrued investment income			4,452,620				4,452,620				-				-				4,452,620
Cash value of company-owned life insurance			12,528,527				12,528,527				-				-				12,528,527
Liabilities:
Policyholder deposits (Investment-type contracts)			52,964,159				55,662,540				-				-				55,662,540
Policy claims			2,635,852				2,635,852				-				-				2,635,852
Obligations under capital leases			645,799				645,799				-				-				645,799
Notes payable			2,611,875				2,611,875				-				-				2,611,875

 

		December 31, 2014
		Carrying				Fair
		Amount				Value				Level 1				Level 2				Level 3
Assets:
Mortgage loans on real estate:
Commercial		$	12,961,492			$	13,693,557			$	-			$	-			$	13,693,557
Residential			16,497,944				18,392,927				-				-				18,392,927
Policy loans			6,665,493				6,665,493				-				-				6,665,493
State-guaranteed receivables			7,917,379				9,719,006				-				9,719,006				-
Other invested assets			3,270,848				3,270,848				-				-				3,270,848
Cash and cash equivalents			1,870,867				1,870,867				1,870,867				-				-
Accrued investment income			5,190,740				5,190,740				-				-				5,190,740
Cash value of company-owned life insurance			12,441,833				12,441,833				-				-				12,441,833
Liabilities:
Policyholder deposits (Investment-type contracts)			53,318,598				55,486,262				-				-				55,486,262
Policy claims			2,821,106				2,821,106				-				-				2,821,106
Obligations under capital leases			553,028				553,028				-				-				553,028
Notes payable			2,508,576				2,508,576				-				-				2,508,576

 

 

The following methods and assumptions were used in estimating the fair value disclosures for financial instruments in the accompanying financial statements and notes thereto:

 

Mortgage loans on real estate: The fair values for mortgage loans are estimated using discounted cash flow analyses. For commercial mortgage loans, the discount rate was assumed to be the interest rate of the last commercial mortgage acquired by the Company. For residential mortgage loans, the discount rate was assumed to be the average yield on recent purchases less an expense factor.

 

State-guaranteed receivables: The fair values for state-guaranteed receivables are estimated using discounted cash flow analyses, using the average Citigroup Pension Liability Index in effect at the end of each period.

 

Cash and cash equivalents: The carrying amounts reported for these financial instruments approximate their fair values given the highly liquid nature of the instruments.

 

Cash value of company-owned life insurance: The carrying values and fair values for these policies are based on the current cash surrender values of the policies.

 

Investment-type contracts: The fair value for liabilities under investment-type insurance contracts (accumulation annuities) is calculated using a discounted cash flow approach. Cash flows are projected using actuarial assumptions and discounted to the valuation date using risk-free rates adjusted for credit risk and the nonperformance risk of the liabilities.

 

Notes payable: The fair values for notes payable with floating interest rates and promissory notes approximate the unpaid principal balances on such notes.

 

Policy loans, other invested assets, accrued investment income, policy claims and obligations under capital leases: The carrying values of these instruments approximate their fair values and are disclosed in Level 3 of the hierarchy.

 

NOTE 6 - Earnings per Share

Earnings per share of common stock were computed based on the weighted average number of common shares outstanding during each period. The weighted average number of shares outstanding for the quarters ended March 31, 2015 and 2014 were 1,123,980 and 1,128,583, respectively.

 

 

NOTE 7 - Segment Data

The Company operates in four segments as shown in the following table. All segments include both individual and group insurance. Identifiable revenues, expenses and assets are assigned directly to the applicable segment. Net investment income, realized gains and losses, and invested assets are generally allocated to the insurance and the corporate segments in proportion to policy liabilities and stockholders' equity, respectively. Certain assets, such as property and equipment and leased property under capital leases, are allocated between the administrative and financial services segment and the corporate and other segment. Investors Heritage Financial revenue associated with credit administrative services is assigned to the administrative and financial services segment, along with fees relative to third party administrative services. Any remaining revenue is assigned to the corporate and other segment. Results for the parent company, Investors Heritage Printing, At Need Funding and Heritage Funding, after elimination of intercompany amounts, are allocated to the corporate and other segment.

 

		Quarter Ended March 31,
		2015				2014
Revenue:
Preneed and burial products		$	12,131,407			$	11,212,714
Traditional and universal life products			4,442,464				5,597,532
Administrative and financial services			302,094				277,436
Corporate and other			219,797				202,202
Total revenue		$	17,095,762			$	17,289,884
Pre-tax income (loss) from operations:
Preneed and burial products		$	(246,848	)		$	(308,578	)
Traditional and universal life products			71,578				192,491
Administrative and financial services			57,586				46,231
Corporate and other			20,955				2,151
Total pre-tax income		$	(96,729	)		$	(67,705	)

 

NOTE 8 – Federal Income Taxes

The provision for federal income taxes is based on the estimated effective annual tax rate. Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Income before federal income taxes differs from taxable income principally due to the dividends-received deduction; the 404(k) dividend deduction; the small life insurance company tax deduction; nondeductible travel and entertainment expenses; and non-taxable effects of company-owned life insurance premiums, cash value growth, and death benefit proceeds.

 

We file U.S. federal income tax returns and income tax returns in various state jurisdictions. Our 2011 through 2014 U.S. federal tax years remain subject to income tax examination by tax authorities. We have no known uncertain tax benefits within our provision for income taxes. In addition, we do not believe the Company will be subject to any penalties or interest relative to any open tax years and, therefore, have not accrued any such amounts. However, should such a circumstance arise, it is our policy to classify any interest and penalties (if applicable) as income tax expense in the financial statements.

 

 

 

NOTE 9 – Other Comprehensive Income (Loss)

The following tables present the pretax components of the Company’s other comprehensive income (loss), and the related income tax expense (benefit) for each component, for the quarters ended March 31, 2015 and 2014.

 

		Quarter Ended March 31, 2015
						Income Tax
						Expense
		Pretax				(Benefit)				Net of Tax
Other comprehensive income:
Change in net unrealized gains on available-for-sale securities:
Unrealized holding gains arising during period		$	4,999,552			$	1,679,372			$	3,320,180
Reclassification adjustment for gains included in income			(158,828	)			(33,526	)			(125,302	)
Adjustment for effect of deferred acquisition costs			(119,053	)			(40,478	)			(78,575	)
Net unrealized gains on investments			4,721,671				1,605,368				3,116,303
Change in defined benefit pension plan:
Amortization of actuarial net loss in net periodic pension cost			190,558				64,790				125,768
Total other comprehensive income		$	4,912,229			$	1,670,158			$	3,242,071

 

		Quarter Ended March 31, 2014
						Income Tax
						Expense
		Pretax				(Benefit)				Net of Tax
Other comprehensive income:
Change in net unrealized gains on available-for-sale securities:
Unrealized holding gains arising during period		$	7,168,195			$	2,437,718			$	4,730,477
Reclassification adjustment for losses included in income			3,806				761				3,045
Adjustment for effect of deferred acquisition costs			(191,144	)			(64,988	)			(126,156	)
Net unrealized losses on investments			6,980,857				2,373,491				4,607,366
Change in defined benefit pension plan:
Amortization of actuarial net loss in net periodic pension cost			97,603				33,185				64,418
Total other comprehensive income		$	7,078,460			$	2,406,676			$	4,671,784

 

Realized gains and losses on the sales of investments are determined based upon the specific identification method and include provisions for other-than-temporary impairments where appropriate.

 

 

The change in the components of the Company’s accumulated other comprehensive income, net of tax, for the quarters ended March 31, 2015 and 2014 are as follows:

 

		Unrealized Gains				Defined				Accumulated
		(Losses) on				Benefit				Other
		Available-For-Sale				Pension				Comprehensive
		Securities				Plan				Income
For the quarter ended March 31, 2015:
Beginning balance		$	17,743,407			$	(5,039,088	)		$	12,704,319
Other comprehensive income before reclassifications			3,241,605				-				3,241,605
Amounts reclassified from accumulated other comprehensive income			(125,302	)			125,768				466
Net current period other comprehensive income			3,116,303				125,768				3,242,071
Ending balance		$	20,859,710			$	(4,913,320	)		$	15,946,390
For the quarter ended March 31, 2014:
Beginning balance		$	9,916,148			$	(3,164,157	)		$	6,751,991
Other comprehensive income before reclassifications			4,604,321				-				4,604,321
Amounts reclassified from accumulated other comprehensive income			3,045				64,418				67,463
Net current period other comprehensive income			4,607,366				64,418				4,671,784
Ending balance		$	14,523,514			$	(3,099,739	)		$	11,423,775

 

The following table presents the pretax and the related income tax components of the amounts reclassified from the Company’s accumulated other comprehensive income to the Company’s consolidated statement of income for the quarters ended March 31, 2015 and 2014.

 

		Quarter Ended March 31,
Reclassification Adjustments		2015				2014
Unrealized gains on available-for-sale securities:
Realized gains (losses) on sale of securities (a)		$	158,828			$	(3,806	)
Income tax benefit (expense) (c)			(33,526	)			761
Net of tax			125,302				(3,045	)
Defined benefit pension plan:
Amortization of actuarial net loss (b)			(190,558	)			(97,603	)
Income tax benefit (c)			64,790				33,185
Net of tax			(125,768	)			(64,418	)
Total reclassifications for the period		$	(466	)		$	(67,463	)

 

(a) These items appear within net realized gains (losses) on investments in the consolidated income statements.

(b) These items are included in the computation of net periodic pension cost (see Note 10).

(c) These items appear within federal income taxes in the consolidated income statements.

 

 

 

NOTE 10 – Employee Benefit Plans

Investors Heritage Capital Corporation sponsors a noncontributory defined benefit pension plan, which was frozen in 2012 with respect to new benefit accruals. Participants in the plan at the time it was frozen may still continue to earn vesting credit towards their pension plan benefit. The following table provides the components of our net periodic benefit cost:

 

		Quarter Ended March 31,
		2015				2014
Service cost		$	-			$	-
Interest cost			222,566				261,264
Expected return on plan assets			(293,069	)			(299,418	)
Recognized actuarial net loss			190,558				97,603
Net periodic pension cost		$	120,055			$	59,449

 

We previously disclosed in our financial statements for the year ended December 31, 2014 that the Company expected to contribute $300,000 to our defined benefit pension plan during 2015. As of March 31, 2015, the Company had contributed $75,000 to the plan.

 

NOTE 11 – Notes Payable

The Company renewed the Investors Heritage Capital Corporation Line of Credit and the At Need Funding Line of Credit during the first quarter of 2015. The Investors Heritage Capital Corporation Line of Credit remains for $150,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, with a floor of 3.25%. The At Need Funding Line of Credit was increased to $1,500,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, which is currently 3.25%.

 

 

 

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

 

GENERAL

 

Investors Heritage Capital Corporation is incorporated under the laws of the Commonwealth of Kentucky and wholly owns Investors Heritage Life Insurance Company, a life insurance company also incorporated under the laws of the Commonwealth of Kentucky. Investors Heritage Capital also wholly owns Investors Heritage Financial Services Group, Inc., a Kentucky insurance marketing company; Investors Heritage Printing, Inc., a Kentucky printing company that provides printing to Investors Heritage Life and other unaffiliated parties; is the sole member of At Need Funding, LLC, a Kentucky limited liability company that provides advance funding of funerals in exchange for the irrevocable assignment of life insurance policies from other nonaffiliated companies; and is the sole member of Heritage Funding, LLC, a limited liability company that was formed to invest in various business ventures but is currently dormant.

 

Investors Heritage Life offers a full line of life insurance products including, but not limited to, whole life, term life, single premium life, multi-pay life and annuities. Investors Heritage Life’s primary lines of business are insurance policies and annuities utilized to fund preneed funeral contracts, policies sold in the senior wealth transfer market, final expense insurance, credit life and credit disability insurance, group term insurance sold through associations, and term life and reducing term life sold through financial institutions. We continue to actively develop new products and diversify distribution systems in order to broaden our marketing base.

 

In our preneed and burial product segment, we currently market the Legacy Gold and Heritage FX Final Expense products. The Legacy Gold life insurance and annuity product series is sold in the preneed market in conjunction with prearranged funerals. The Legacy Gold series includes both single premium and multi-pay policies, and both underwritten and guaranteed issue options are available. The Heritage FX Final Expense product is a non-participating whole life insurance product with simplified underwriting, sold in the final expense product. The Heritage FX product is structured to allow increased production while mitigating surplus strain through the use of reinsurance.

 

Within our traditional and universal life products segment, we currently market two products geared toward wealth preservation in the senior market – the Heritage Solution, a single premium life policy, and the Heritage Provider, a ten pay whole life and single premium immediate annuity combination. These products are currently being sold exclusively through our partnership with Puritan Financial Group and are being underwritten and issued using a third party underwriter with significant experience in that market. Prior to January 1, 2013, this business was being reinsured under a 50% coinsurance arrangement with Puritan Life Insurance Company of America. Effective January 1, 2013, this coinsurance agreement was amended to reinsure 25% of new business.

 

Investors Heritage Life assumes 75% of the risks on certain policies sold by Puritan Life Insurance Company of America and Sterling Investors Life Insurance Company. The products being assumed are identical to the Heritage Solution and Heritage Provider products currently being written by Investors Heritage Life. However, these reinsurance arrangements allow us to participate in the profitability of these products in certain states where we are not currently marketing.

 

Our traditional and universal life products also include the HLW Choice Whole Life product and the Heritage Protector IV product. The HLW Choice Whole Life product is designed with numerous options and with flexibility to achieve our customers’ goals. The Heritage Protector IV product is a term product marketed primarily by banks and other financial institutions in conjunction with consumer credit.

 

We introduced an association group term product during the second half of 2013. This product provides a monthly renewable term benefit and is being marketed to various association groups.

 

 

We also market the Heritage Youth Protector, which is a combination term/whole life plan marketed to parents and grandparents, with issue ages of 0-22. The policy is a term policy until age 25 at which time it automatically converts to a whole life policy with increased premium. Waiver of premium and guaranteed insurability option riders are also available. Initial coverage may be purchased in $5,000 increments from $5,000 to $20,000 per child, with single or annual payment options to age 25. At age 25, the policy becomes an annual pay plan.

 

We utilize a combination of yearly renewable term reinsurance and coinsurance to cede life insurance coverage in excess of our desired retention limits, which in most cases is $25,000 per life. Most of our business is written in the smaller face amount markets and, in the past, claims on larger-case ordinary business caused income fluctuations. This lower retention level has stabilized earnings fluctuations. The lowered retention was achieved by maintaining the established reinsurance treaties and adding additional yearly renewable term treaties for amounts between our desired net amount at risk and the previous retention of $100,000.

 

Investors Heritage Life continues to market its third party administrative (“TPA”) services as an additional revenue source. These agreements, for various levels of administrative services on behalf of each company, generate fee income for Investors Heritage Life. We currently have six TPA clients for which we provide tailored services to meet each client’s individual business needs. We have been able to perform our TPA services using our existing in-house resources.

 

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. Preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. We evaluate our estimates continually, including those related to investments, deferred acquisition costs, value of business acquired, policy liabilities, income taxes, employee benefit plans, regulatory requirements, contingencies and litigation. We base such estimates on historical experience and other assumptions believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following accounting policies, judgments and estimates are the most critical to the preparation of our consolidated financial statements.

 

Investments in Fixed Maturities, Equity Securities, Mortgage Loans and State-Guaranteed Receivables

We hold fixed maturities and equity interests in a variety of companies. Additionally, we originate, underwrite and manage commercial mortgage loans, and we purchase residential mortgage loans through the secondary market. We also own certain investments in state-guaranteed receivables consisting of the future cash flow rights from lottery prize winners. We continuously evaluate all of our investments based on current economic conditions, credit loss experience and other developments. We evaluate the difference between the cost/amortized cost and estimated fair value of our investments to determine whether any decline in fair value is other-than-temporary in nature. This determination involves a degree of uncertainty.

 

If a decline in the fair value of a security is determined to be temporary, the decline is recognized in other comprehensive income (loss) within stockholders’ equity. If a decline in a security’s fair value is considered to be other-than-temporary, we then determine the proper treatment for the other-than-temporary impairment. For fixed maturities, the amount of any other-than-temporary impairment related to a credit loss is recognized in earnings and reflected as a reduction in the cost basis of the security; and the amount of any other-than-temporary impairment related to other factors is recognized in other comprehensive income (loss) with no change to the cost basis of the security.  For equity securities, the amount of any other-than-temporary impairment is recognized in earnings and reflected as a reduction in the cost basis of the security.

 

 

The assessment of whether a decline in fair value is considered temporary or other-than-temporary includes management’s judgment as to the financial position and future prospects of the entity issuing the security. It is not possible to accurately predict when it may be determined that a specific security will become impaired. Future adverse changes in market conditions, poor operating results of underlying investments and defaults on mortgage loan payments could result in losses or an inability to recover the current carrying value of the investments, thereby possibly requiring an impairment charge in the future. Likewise, if a change occurs in our intent to sell temporarily impaired securities prior to maturity or recovery in value, or if it becomes more likely than not that we will be required to sell such securities prior to recovery in value or maturity, a future impairment charge could result.

 

If an other-than-temporary impairment related to a credit loss occurs with respect to a bond, we amortize the reduced book value back to the security’s expected recovery value over the remaining term of the bond. We continue to review the security for further impairment that would prompt another write-down in the book value.

 

We classify our fixed maturities and equity securities as available-for-sale and carry them at fair value on the balance sheet, with unrealized appreciation (depreciation) relating to temporary market value changes recorded as an adjustment to other comprehensive income (loss), net of adjustments to deferred acquisition costs and federal income taxes. Fair value for these investments is determined using Accounting Standards Codification principles covering Level 1, Level 2 and Level 3 instruments as further discussed in Note 5 to the consolidated financial statements.

 

Our fixed maturities are Level 2 instruments, for which the fair value is derived from readily available pricing services utilizing recent trades and broker information. Certain liquid equity securities are considered Level 1 instruments and are valued based on publicly available market quotes in an active market. We hold $352,000 in Level 3 financial instruments, comprising 0.1% of our total investments carried at fair value. Fair value for these instruments is derived from unobservable inputs such as non-binding broker quotes and internal models using unobservable assumptions about market participants.

 

Deferred Acquisition Costs

The recovery of deferred acquisition costs is dependent on the future profitability of the underlying business for which acquisition costs were incurred. Each reporting period, we evaluate the recoverability of the unamortized balance of deferred acquisition costs. We consider estimated future gross profits or future premiums, expected mortality or morbidity, interest earned and credited rates, persistency and expenses in determining whether the balance is recoverable. If we determine a portion of the unamortized balance is not recoverable, it is immediately charged to amortization expense. The assumptions we use to amortize and evaluate the recoverability of the deferred acquisition costs involve significant judgment. A revision to these assumptions may impact future financial results.

 

Deferred acquisition costs related to annuities and universal life insurance products are deferred to the extent deemed recoverable and amortized in relation to the present value of actual and expected gross profits on the policies. To the extent that realized gains and losses on securities result in adjustments to deferred acquisition costs related to annuities, such adjustments are reflected as a component of the amortization of deferred acquisition costs.

 

Deferred acquisition costs related to annuities are also adjusted, net of tax, for the change in amortization that would have been recorded if the unrealized gains (losses) from securities had actually been realized. This adjustment is included in the change in net unrealized appreciation (depreciation) on available-for-sale securities, a component of "Accumulated Other Comprehensive Income (Loss)" in the stockholders' equity section of the balance sheet.

 

 

Policy Liabilities 

Estimating liabilities for our long-duration insurance contracts requires management to make various assumptions, including policyholder persistency, mortality rates, investment yields, discretionary benefit increases, new business pricing, and operating expense levels. We evaluate historical experience for these factors when assessing the need for changing current assumptions. However, since many of these factors are interdependent and subject to short-term volatility during the long-duration contract period, substantial judgment is required. Actual experience may emerge differently from that originally estimated. Any such difference would be recognized in the current year’s consolidated statement of income. We utilize in-house actuaries in developing our actuarial assumptions and estimates and in monitoring such assumptions and estimates against actual experience.

 

Income Taxes

We evaluate our deferred income tax assets, which partially offset our deferred tax liabilities, for any necessary valuation allowances. In doing so, we consider our ability and potential for recovering income taxes associated with such assets, which involve significant judgment. Revisions to the assumptions associated with any necessary valuation allowances would be recognized in the consolidated financial statements in the period in which such revisions are made.

 

Under current tax law, we are allowed to utilize the small life insurance company deduction to limit the federal taxable income associated with Investors Heritage Life annually. Changes in tax law or the growth of the Company’s tax basis assets to an amount greater than $500 million could limit our ability to utilize this deduction in future years, which could give rise to higher current federal income tax expense.

 

Employee Benefit Plans

We maintain a defined benefit retirement plan on behalf of our employees. Measurement of the future benefit obligations associated with this plan involves significant judgment, particularly in regard to the expected long-term rate of return on plan assets and the current discount rate used to calculate the present value of future obligations. The long-term rate of return for plan assets is determined based on an analysis of historical returns on invested assets, anticipated future fixed income, equity investment markets, and diversification needs. Long term trends are evaluated relative to current market factors such as inflation, interest rates and investment strategies, including risk management, in order to assess the assumptions as applied to the plan. The discount rate utilized is determined based on reviews of market indices commonly used to measure such liabilities in the industry. Changes in our assumptions can significantly impact the accrued pension liability and net periodic benefit cost recorded in the consolidated financial statements. Additionally, funding of plan liabilities is sensitive to changes in investment returns as well as regulatory changes, which can significantly impact our consolidated financial statements. We continually monitor the performance of plan assets and growth in liabilities and funding necessities, utilizing independent and experienced consultants to assist in plan management.

 

During 2014, the Society of Actuaries released new mortality tables and a new mortality improvement scale for consideration with respect to defined benefit plan liability measurement. We have not yet adopted these new tables with respect to our plan given that more analysis is needed to determine their applicability and impact on our plan structure. While we do not currently expect these tables to have a significant impact on our plan, it is possible that their use could result in a significant increase in plan liabilities once fully analyzed and implemented.

 

We previously disclosed in our financial statements for the year ended December 31, 2014 that we expected to contribute $300,000 to our defined benefit pension plan during 2015. As of March 31, 2015, the Company had contributed $75,000 to the plan.

 

New Accounting Pronouncements

All new accounting standards and updates of existing standards issued through the date of this filing were considered by management and did not relate to accounting policies and procedures pertinent to the Company at this time or were not expected to have a material impact to the consolidated financial statements.

 

 

INVESTMENTS, LIQUIDITY AND CAPITAL RESOURCES

 

Investments

We maintain a sound, conservative investment strategy. At March 31, 2015, 88.1% of our total invested assets consisted of fixed income securities, compared to 88.7% at December 31, 2014. At March 31, 2015 and December 31, 2014, our fixed income investments were 98.4% and 98.5% investment grade, respectively, as rated by Standard & Poor’s. The Standard & Poor’s average quality rating of our fixed income portfolio holdings as of March 31, 2015 and December 31, 2014 was A.

 

We have reviewed our investment portfolio and do not believe that there are any securities that are other-than-temporarily impaired at March 31, 2015. None of our fixed income assets are in default and there has been no material change in the distribution of our fixed income portfolio. We recorded no other-than-temporary impairment charges in the consolidated statements of income during the quarters ended March 31, 2015 or 2014.

 

We continuously monitor the investment risk within our portfolio, including the risk associated with subprime lending with our CMO investments. As of March 31, 2015, we have no investments with any level of direct subprime exposure. Additionally, we have no Alt-A bond exposure within our current holdings.

 

We have an investment advisory agreement with an independent third-party investment advisor to purchase common and preferred stocks in stable areas within the real estate sector. The investment advisor has a history of strong performance within these markets. The majority of these funds have been invested in a diversified assortment of regularly traded, exchange listed common stocks. As of March 31, 2015, the largest individual stock position within this group is approximately $421,000. We believe the unrealized losses in our common stock portfolio are temporary in nature given the credit quality of the issuers. We believe that these investments will generate positive future results by providing a slightly increased and fully managed exposure to equity markets.

 

Additionally, we engage in commercial and residential mortgage lending. As of March 31, 2015, investments in commercial properties comprised 38.2% of our mortgage portfolio. Our commercial mortgage loans are either originated in-house or through two mortgage brokers, are secured by first mortgages on the real estate and generally carry personal guarantees by the borrowers. Loan-to-value ratios of 80% or less and debt service coverage from existing cash flows of 115% or higher are generally required. We minimize credit risk in our mortgage loan portfolio through various methods, including stringently underwriting the loan request, maintaining small average loan balances, and reviewing larger mortgage loans on an annual basis.

 

As of March 31, 2015, investments in residential properties comprised 61.8%, respectively, of our mortgage portfolio. We purchase residential mortgage loans through the secondary market. Each mortgage loan opportunity is reviewed individually, considering both the value of the underlying property and the credit worthiness of the borrower. We are utilizing a third party servicer to administer these loans. We currently anticipate evaluating and making additional residential mortgage loan investments assuming they meet our investment goals and criteria.

 

 

We are familiar with our mortgage loan markets and given our low loan-to-value ratios, we do not believe that there is a significant risk of loss on our mortgage loan portfolio. We have been successful in adding value to the total investment portfolio through mortgage loan originations and secondary market purchases due to the fact that yields realized from the mortgage loan portfolio are generally higher than yields realized from fixed income investments. Value has also been added because the mortgage loan portfolio has consistently performed well. As of March 31, 2015, we had no non-performing loans, loans on nonaccrual status, loans 90 days past due or more, loans in process of foreclosure, or restructured loans.

 

As of March 31, 2015, our average loan balance is $213,267 and the average loan-to-value is 60%. The largest loan currently held is $961,383. Our mortgage loans are spread across properties located in 22 states, with approximately 76.3% of our loans located in the states of Florida, California, Illinois, Texas, Kentucky, and Georgia. At March 31, 2015 and December 31, 2014, 6.6% and 6.1% of invested assets consisted of mortgage loans, respectively.

 

We own certain investments in state-guaranteed receivables. These investments represent an assignment of the future rights to cash flows from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries and guaranteed by the states. As these payment streams are secured by the states themselves, a key function of our due diligence is the assessment of the states’ ability to meet these obligations. Additionally, each state generally withholds income tax from each payment for which we must file for reimbursement of such tax annually. We carry the state-guaranteed receivables at their amortized cost basis on the balance sheet. As of March 31, 2015, we held approximately $7,760,000 in state-guaranteed receivables, with the largest concentrations in the states of New York, Massachusetts and Georgia totaling approximately $3,580,000, $1,954,000 and $1,447,000, respectively. At March 31, 2015 and December 31, 2014, 1.6% of invested assets consisted of state-guaranteed receivables.

 

Liquidity and Capital Resources

Investors Heritage Life’s principal sources of cash flow used to meet short-term and long-term cash requirements are insurance premiums, which include mortality and expense charges, investment income, and administrative service fees.

 

Investors Heritage Life’s short-term obligations consist primarily of policyholder benefits and operating expenses. Investors Heritage Life has historically been able to meet these obligations out of operating cash, premiums and investment income.

 

Investors Heritage Life’s principal long-term obligations are fixed contractual obligations incurred in the sale of its life insurance products. The premiums charged for these products are based on conservative and actuarially sound assumptions as to mortality, persistency and interest. We believe these assumptions will produce revenues sufficient to meet our future contractual benefit obligations and operating expenses, and provide an adequate profit margin.

 

Investors Heritage Capital’s principal sources of cash flow are rental income and dividends from its subsidiaries. Investors Heritage Capital’s principal long-term obligations are payments on long-term debt.

 

Investors Heritage Life’s conservative approach in the product development area and the strength and stability of its fixed income and mortgage loan portfolios provide adequate liquidity both in the short-term and the long-term.

 

We renewed the Investors Heritage Capital Corporation Line of Credit and the At Need Funding Line of Credit during the first quarter of 2015. The Investors Heritage Capital Corporation Line of Credit remains for $150,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, with a floor of 3.25%. The At Need Funding Line of Credit was increased to $1,500,000 with a new maturity date of March 24, 2017. Interest is paid on this note monthly at the prime rate, which is currently 3.25%.

 

 

We assess our compliance with prescribed debt covenant requirements as outlined in the terms of each debt agreement at least annually, if not otherwise required in the debt agreement. Management has assessed our position and as of March 31, 2015, we are in compliance with all debt covenant requirements.

 

We are not aware of any commitments or unusual events that could materially affect capital resources. We have the option to prepay certain notes payable at our discretion prior to their maturity dates.

 

We will continue to explore various opportunities including mergers and acquisitions and purchasing blocks of business from other companies, which may dictate a need for either long-term or short-term debt. There are no restrictions as to use of funds except the restriction on Investors Heritage Life as to the payment of cash dividends to Investors Heritage Capital.

 

RESULTS OF OPERATIONS

 

Overview

Premiums earned (net of reinsurance) were $11,362,681 for the first quarter of 2015 (a decrease of 4.3% compared to the first quarter of 2014). This decrease is primarily due to lower direct and assumed premiums relative to the Puritan product offerings in comparison to the corresponding period in 2014.

  

Net investment income was $5,223,812 for the first quarter of 2015 (an increase of 2.9% compared to the first quarter of 2014). This increase is primarily driven by increased income generated by our investments in residential mortgage loans. Our mortgage loan portfolio provides greater investment yields than the current fixed maturity market. Low new fixed maturity investment yields continue to put downward pressure on our investment income. We continue to seek high quality investments while considering alternative investments that can be used to enhance future investment income.

 

Net realized gains (losses) were $158,828 and ($3,806) for the quarters ended March 31, 2015 and 2014, respectively. All of the activity during these quarters was in the normal course of business. We experienced no other-than-temporary impairments during the quarters ended March 31, 2015 or 2014.

 

Other income was $350,441 for the first quarter of 2015 (an increase of 3.7% compared to the first quarter of 2014). This increase is driven by increased service fees relative to our current TPA clients as well as the addition of one new TPA client beginning in the second quarter of 2014. We currently expect no client terminations and anticipate adding additional clients in the future.

 

Total benefits and expenses were $17,192,491 for the first quarter of 2015 (a decrease of 1.0% compared to the first quarter of 2014). This decrease is primarily driven by lower reserve increases and reduced commissions relative to the lower sales volume in the first quarter of 2015. These reductions were partially offset by an increase in death benefits due to negative mortality experience in our preneed segment in the first quarter of 2015 and by an increase in the net amortization of deferred acquisition costs in excess of new deferrals as compared to the prior period.

 

After providing for federal income taxes, our net loss was $72,547 with a net loss per share of $0.06 for the first quarter of 2015 as compared to a net loss of $54,164 with a net loss per share of $0.05 for the first quarter of 2014.

 

We declared a dividend of $0.21 per share on February 12, 2015 to shareholders of record on March 20, 2015. This dividend was paid on April 7, 2015.

 

 

Business Segments 

FASB guidance requires a "management approach" in the presentation of business segments based on how management internally evaluates the operating performance of business units. The discussion of segment operating results that follows is being provided based on segment data prepared using this methodology.

 

Preneed & Burial Products

Preneed and burial products include both life and annuity products sold by funeral directors or affiliated agents to fund prearranged funerals. Revenues for this segment were $12,131,407 for the first quarter of 2015 (an increase of 8.2% compared to the first quarter of 2014). This increase is predominantly due to stronger sales of our preneed products during the first quarter of 2015, increased investment income and increased realized gains in comparison to the prior period.

 

Pre-tax loss from operations was $246,848 for the quarter ended March 31, 2015 compared to a pre-tax loss of $308,578 for the quarter ended March 31, 2014. This reduction in the pre-tax loss was driven primarily by the previously mentioned increases in sales volume, investment income and realized gains within the segment, but it was partially offset by the negative mortality experience within the preneed segment during the first quarter of 2015.

 

Traditional & Universal Life Products

Traditional and universal life products include traditional life and group life insurance products, certain annuities and universal life products. Revenues for this segment were $4,442,464 for the first quarter of 2015 (a decrease of 20.6% compared to the first quarter of 2014). This decrease is primarily due to the reduction in direct and assumed premiums generated from the Puritan product offerings in comparison to the prior period.

 

Pre-tax income from operations was $71,578 for the quarter ended March 31, 2015 compared to pre-tax income of $192,491 for the quarter ended March 31, 2014. This decrease in pre-tax income was driven primarily by the revenue reductions as previously discussed.

 

Administrative & Financial Services

Administrative and financial services include the administration of credit life and credit accident and health insurance products. We reinsure 100% of the related underwriting risk on credit products currently produced within this segment. Accordingly, credit product revenue is generated primarily from initiation fees as well as fees for servicing and administering the credit business for our reinsurers. Because the credit product revenue is fee-based, performance is in direct relation to new premium production coupled with fees generated as premiums are earned. Premium production within this segment is also significantly affected by economic conditions within our credit markets, particularly Kentucky.

 

In addition to credit administration, this segment includes fees generated relative to our third party administrative relationships. We currently provide tailored administrative services for six unaffiliated companies, comprised of four life insurance companies and two holding companies. Services provided to each company vary based on their needs and can include some or all aspects of back-office accounting, actuarial services and policy administration.

 

Revenues for this segment were $302,094 for the first quarter of 2015 (an increase of 8.9% compared to the first quarter of 2014). Pre-tax income from operations was $57,586 for the quarter ended March 31, 2015 compared to pre-tax income of $46,231 for the quarter ended March 31, 2014. The revenue and pre-tax income increases are primarily related to the amount and timing of service fees generated from our third party administration relationships compared to the prior period.

 

Corporate & Other

Corporate and other consists of corporate accounts measured primarily by stockholders’ paid-in capital, contributed surplus, earned surplus, property and equipment, corporate-owned life insurance and other minor business lines which include group annuities and group and individual accident and health products. Revenues for this segment were $219,797 for the quarter ended March 31, 2015 compared to $202,202 for the quarter ended March 31, 2014. Pre-tax income from operations was $20,955 for the quarter ended March 31, 2015 compared to pre-tax income from operations of $2,151 for the quarter ended March 31, 2014. These increases are primarily due to increased investment income within this segment in comparison to the prior period.

 

 

While we continue to expand the operations of Investors Heritage Financial, Investors Heritage Printing, At Need Funding and Heritage Funding, less than 1% of our consolidated revenues were generated by those subsidiaries. During the quarter ended March 31, 2015, Investors Heritage Capital received no dividends from Investors Heritage Life, Investors Heritage Financial or Investors Heritage Printing and no distributions from At Need Funding. Subsequent to March 31, 2015, Investors Heritage Capital has received $25,000 in dividends from Investors Heritage Financial and $20,000 in dividends from Investors Heritage Printing. The potential exists for dividend payments and distributions over the remainder of 2015 as any needs arise.

 

Federal Income Taxes 

The provision (benefit) for federal income taxes is based on the estimated effective annual tax rate. Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Income before federal income taxes differs from taxable income principally due to the dividends-received deduction; the 404(k) dividend deduction; the small life insurance company tax deduction; nondeductible travel and entertainment expenses; and non-taxable effects of company-owned life insurance premiums, cash value growth and death benefit proceeds. Our effective tax rate was 25.0% and 20.0% for the quarters ended March 31, 2015 and 2014, respectively.

 

OFF-BALANCE SHEET ARRANGEMENTS

 

We have no off-balance sheet arrangements as of March 31, 2015.

 

FORWARD LOOKING INFORMATION 

 

We caution readers regarding certain forward-looking statements contained in this report and in any other statements made by us or on our behalf, whether or not in future filings with the Securities and Exchange Commission. Forward-looking statements are statements not based on historical information and which relate to future operations, strategies, financial results, or other developments. Statements using verbs such as “expect”, “anticipate”, “believe” or words of similar import generally involve forward-looking statements. Without limiting the foregoing, forward-looking statements include statements which represent our beliefs concerning future levels of sales and redemptions of Investors Heritage Life’s products, investment spreads and yields, or our earnings and profitability.

 

Forward-looking statements are necessarily based on estimates and assumptions that are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control and many of which are subject to change. These uncertainties and contingencies could cause actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable factors and developments. Some of these may be national in scope, such as general economic conditions, changes in tax law and changes in interest rates. Some may be related to the insurance industry generally, such as pricing competition, regulatory developments, industry consolidation and the effects of competition in the insurance business from other insurance companies and other financial institutions operating in our market area and elsewhere. Others may relate to us specifically, such as credit, volatility and other risks associated with our investment portfolio. We caution that such factors are not exclusive. We disclaim any obligation to update forward-looking information. 

 

 

ITEM 4. Controls and Procedures

 

As of the end of the period covered by this Form 10-Q, we performed an evaluation, under the supervision and with the participation of management, including our Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in this Quarterly Report on Form 10-Q. There have been no changes in our internal control over financial reporting identified by that evaluation that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting during this most recent quarter or subsequent to the date we carried out our evaluation.

 

 

PART II – OTHER INFORMATION

 

ITEM 1. Legal Proceedings

 

Investors Heritage Capital is not involved in any legal proceedings. From time to time Investors Heritage Life is involved in litigation relating to claims arising out of its operations in the normal course of business. As of May 15, 2015, Investors Heritage Life is not a party to any legal proceedings, the adverse outcome of which, in management’s opinion, individually or in the aggregate, would have a material adverse effect on our financial condition or results of operations. 

 

ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

No share repurchases were made pursuant to a publicly announced plan or program. All share repurchases were shares tendered by original stockholders under our right of first refusal or by employees as part of our 401(k) plan. 

 

ITEM 3. Defaults Upon Senior Securities

 

None 

 

ITEM 4. Mine Safety Disclosures

 

None 

 

ITEM 5. Other Information

 

None 

 

ITEM 6. Exhibits

31.1 &  31.2	Certifications pursuant to Securities and Exchange Act Rule 13a-14(a)/15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.
32.1	Certifications Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

101.INS**	XBRL Instance
101.SCH**				XBRL Taxonomy Extension Schema
101.CAL**					XBRL Taxonomy Extension Calculation
101.DEF**			XBRL Taxonomy Extension Definition
101.LAB**					XBRL Taxonomy Extension Labels
101.PRE**		XBRL Taxonomy Extension Presentation

 

**

XBRL information is furnished and not filed or a part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, as amended, is deemed not filed for purposes of section 18 of the Securities Exchange Act of 1934, as amended, and otherwise is not subject to liability under these sections.

 

 

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. 

 

 

	INVESTORS HERITAGE CAPITAL CORPORATION
	BY: /s/Harry Lee Waterfield II
	Harry Lee Waterfield II
DATE: May 15, 2015	President
	BY: /s/Larry Johnson
	Larry Johnson
DATE: May 15, 2015	Vice President - Chief Financial Officer

 

 

 

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