SNFCA

Business Context and Reporting Period

Company: Security National Financial Corp (SNFCA)

Reporting Period: Fiscal year ended December 31, 2009

Business Segments: The Company operates three integrated segments: Life Insurance (funeral plans, annuities, higher education products), Cemetery and Mortuary (pre-need and at-need services), and Mortgage Loans (origination and underwriting of residential and commercial loans). The segments are designed to cross-sell products, with insurance assets often invested in mortgage loans originated by the mortgage subsidiary.

Key Financial Metrics (2009)

Material Changes vs. Prior Period

• Profitability: Net earnings increased significantly by 556% to $3.77 million, driven by a $5.6 million increase in comprehensive income and a reversal of realized investment losses from 2008 to a $897,000 gain in 2009.
• Revenue Mix: Total revenue decreased slightly (0.4%) due to a 25.2% drop in net investment income (lower interest rates) and a 5.9% decline in cemetery/mortuary sales. These were offset by a 1.0% increase in mortgage fee income and a 6.8% increase in insurance premiums.
• Expense Management: Selling, general, and administrative expenses decreased by 3.8% ($6.5 million), primarily due to reduced mortgage loan origination commissions. However, the provision for loan losses increased by 85.3% ($8.9 million) to $19.5 million due to higher loan loss reserves.
• Liquidity: Cash and cash equivalents doubled to $39.5 million, supported by operating cash flows of $17.2 million.

Guidance, Outlook, Risks, and Contingencies

Management Commentary: Management expects continued trends of focusing on niche insurance products, cemetery/mortuary business, and capitalizing on low interest rates for mortgage origination. The Company has ceased writing new insurance business in Florida pending regulatory resolution regarding asset classification.

Key Risks:

• Mortgage Industry Risk: Significant exposure to repurchase demands and indemnification losses from third-party investors regarding alleged defective loans. The Company has accrued $11.7 million for indemnification losses and $6.8 million for loan losses.
• Legal Proceedings:
  • CitiMortgage Litigation: Settled in February 2010 for an undisclosed amount (reserved in 2009 financials) regarding 19 alleged defective loans.
  • Florida Consent Order: A proposed order regarding the "New Success Life Program" could require refunds of up to $8.2 million plus penalties. The Company disputes the order and is negotiating.
  • Aurora Loan Services: Ongoing indemnification obligations for 54 loans; estimated potential losses of $2.8 million remain for the remaining loans.
• Regulatory Risk: Florida Office of Insurance Regulation has cited the Company for capital deficiency based on asset classification, restricting new business in the state until resolved.

Investor Verification Checklist

• Mortgage Repurchase Reserves: Verify the adequacy of the $11.7 million indemnification reserve and $6.8 million loan loss allowance given the industry-wide increase in repurchase demands.
• Florida Regulatory Status: Monitor the resolution of the Florida Office of Insurance Regulation consent order and the potential $8.2 million refund liability.
• Cash Flow Sustainability: Assess the impact of the 25% decline in investment income on future profitability as interest rates remain low.
• Foreclosure Portfolio: Review the $44.3 million in foreclosed mortgage loans and the strategy for liquidating these real estate assets.
• Settlement Terms: Confirm the final settlement amount paid to CitiMortgage in February 2010 to ensure it aligns with the 2009 reserves.