AAME

Business Context and Reporting Period

Company: Atlantic American Corporation (AAME)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2010
Business Overview: Atlantic American is an insurance holding company operating through two primary subsidiaries: American Southern Insurance Company (Property and Casualty) and Bankers Fidelity Life Insurance Company (Life and Health). The company focuses on well-defined specialty markets, including commercial automobile, general liability, surety bonds, Medicare supplement, and senior life insurance. It is classified as a smaller reporting company.

Key Financial Metrics

Material Changes vs. Prior Period

• Profitability Turnaround: The company returned to profitability in 2010 with net income of $2.5 million, reversing a net loss of $1.2 million in 2009. The 2009 loss was primarily driven by a $2.0 million increase in the deferred tax asset valuation allowance.
• Revenue Growth: Total revenue increased 6.3% to $109.2 million, driven by a 6.7% increase in insurance premiums ($97.6 million) and a significant rise in realized investment gains ($1.6 million vs. $0.3 million).
• Investment Yield Decline: Net investment income decreased 8.9% to $9.6 million due to a lower average yield on investments (4.4% in 2010 vs. 4.8% in 2009) as higher-yielding securities were called and could not be reinvested at equivalent rates.
• Underwriting Performance:
  • American Southern (P&C): Achieved an underwriting profit of $30,000 (Combined Ratio 99.9%), improving from a loss of $90,000 (Combined Ratio 100.3%) in 2009. The loss ratio increased to 60.7% due to large surety claims, but the expense ratio improved to 39.2%.
  • Bankers Fidelity (Life/Health): Reported an underwriting loss of $2.7 million, slightly improved from $2.9 million in 2009. Premiums grew 9.6% due to successful marketing initiatives.
• Reserve Development: Favorable loss development from prior years was $5.4 million in 2010, down from $6.7 million in 2009. This reduction in redundancy contributed to a decline in operating income before tax.

Guidance, Outlook, Risks, and Unusual Items

• Dividends: The company has not paid common dividends since 1988 but declared a special cash dividend of $0.02 per share on February 22, 2011. Preferred stock dividends of $0.5 million were paid in 2010.
• Liquidity and Capital: The Parent company held $25.0 million in unrestricted cash and investments. Subsidiaries held $70.6 million in statutory surplus. A $5.0 million revolving credit facility with Wells Fargo was undrawn and in compliance with all covenants.
• Debt Obligations: The company has $41.2 million in Junior Subordinated Debentures with an effective interest rate of 4.35%. Interest payments are based on LIBOR plus a margin. A zero-cost interest rate collar hedges a portion of this debt.
• Unusual Items:
  • Tax Valuation Allowance: The 2009 loss was heavily influenced by a reassessment of the realizability of capital loss carryforwards. In 2010, the valuation allowance decreased by $0.1 million due to the utilization of certain capital loss benefits.
  • Pension Plan Termination: The company incurred a non-recurring charge of $0.3 million in 2010 related to the termination and settlement of its qualified pension plan.
• Risks: Key risks include the uncertainty of loss reserve estimates (which could vary by 19.2% lower or 5.8% higher), dependence on investment income, reinsurance counterparty risk, and regulatory changes affecting the senior life and Medicare supplement markets.

Investor Verification Checklist

• Reserve Adequacy: Verify the assumptions used for loss reserves, particularly given the 19.2% potential downside range noted by management.
• Investment Portfolio Quality: Review the composition of the $184.6 million investment portfolio, noting that 97% is investment grade but includes $1.9 million in Level 3 (unobservable input) securities.
• Reinsurance Concentration: Confirm the financial strength of reinsurers, as 99% of reinsurance receivables were due from two carriers (Swiss Re and General Re).
• Dividend Sustainability: Assess the ability of subsidiaries to pay dividends to the Parent, which are limited to the greater of 10% of statutory surplus or statutory net income.
• Debt Covenants: Monitor compliance with the $5.0 million credit facility covenants, specifically regarding tangible net worth and risk-based capital levels.