Citizens, Inc. — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016; unaudited. Comparisons are with the same 2015 periods unless stated otherwise. Amounts below are in U.S. dollars.
Business context
Citizens is an insurance holding company focused primarily on life insurance, with home service insurance and smaller non-insurance operations. A substantial share of its premiums comes from policyholders outside the U.S., particularly in Latin America and the Pacific Rim.
Financial performance and position
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Total revenue | $61.2 million | $60.1 million | $115.8 million | $115.9 million |
| Insurance premiums | $49.0 million | $48.5 million | $93.4 million | $93.0 million |
| Net investment income | $12.0 million | $11.2 million | $23.7 million | $22.3 million |
| Pre-tax income (loss) | $2.3 million | $(0.8) million | $0.5 million | $(0.5) million |
| Net income (loss) | $1.3 million | $(1.9) million | $(0.6) million | $(1.5) million |
| Operating cash flow | — | — | $43.0 million | $39.8 million |
Q2 pre-tax margin was about 3.8%, versus a loss margin of about 1.4% a year earlier. The first-half pre-tax margin was about 0.4%, compared with a loss margin of about 0.4% in 2015. First-half net loss per Class A share improved to $0.01 from $0.03.
At June 30, 2016, total assets were $1.547 billion, total liabilities $1.286 billion, and stockholders’ equity $261.1 million. Policy liabilities were $1.176 billion, including $1.027 billion of life policy reserves. Cash and cash equivalents were $52.9 million, down from $82.8 million at year-end 2015; total cash, cash equivalents and investments were $1.240 billion. The filing reports no off-balance-sheet arrangements and no material changes in contractual obligations; it does not provide a clear conventional debt balance.
Net cash used in investing activities was $74.2 million in the first half, principally reflecting purchases of fixed maturities; management said it did not need to liquidate investments for cash. The annualized yield on average invested assets was 4.31%, compared with 4.25% in the first half of 2015. Net unrealized gains on fixed maturities totaled $64.4 million, compared with $26.5 million at December 31, 2015; accumulated other comprehensive income was $32.8 million.
Material changes and management commentary
- Premiums rose 1.1% in Q2 and 0.5% year to date, mainly from renewal premiums, partly offset by lower first-year premiums. Net investment income increased 7.1% and 6.6%, respectively.
- Claims and surrenders increased 9.0% in Q2 and 3.4% year to date. Management highlighted higher life-segment surrender activity, particularly in earlier policy durations, and said it was investigating possible business transfers to other carriers.
- Other-than-temporary investment impairments were $0.4 million in Q2 and $2.3 million year to date, versus none in the comparable 2015 periods. Realized investment losses were $1.8 million for the first half.
- Management reduced discretionary dividends on certain international policies in response to prolonged low interest rates and is reviewing international products, investment strategy, technology, operations and organizational needs. It cautioned that product changes could reduce demand. No numerical earnings or revenue guidance is provided.
- Leadership changed during the quarter: Dr. Robert Sloan became non-executive Chairman, Kay Osbourn was appointed interim CEO, and Rick Riley retired and resigned from the Board.
Risks, contingencies and unusual items
- Tax qualification matter: Certain policies may not meet Internal Revenue Code Sections 7702 or 72(s). The estimated liability was $14.9 million after tax, with a probability-weighted estimated range of $7.0 million to $43.8 million after tax. The company said actual costs could exceed the reserve and even the high end of the range. It expected a further $1.0 million to $1.5 million of related costs in the second half of 2016.
- Unclaimed property audits: Louisiana, Arkansas and Texas authorities are conducting audits. Possible Louisiana exposure could be material to SPLIC, but the company could not estimate the amount.
- Foreign-market exposure: Political, economic, currency-transfer and insurance-regulation developments in foreign countries could affect sales and premium collections. Approximately 71% of direct premiums in the first half came from foreign countries.
- Interest-rate and investment risk: Low rates can pressure investment spreads; rate changes affect fixed-maturity values, and callable securities create reinvestment risk. About 97.3% of fixed maturities were investment grade, but the portfolio remains exposed to credit and impairment risk.
- Other matters: The company was enhancing its Bank Secrecy Act controls and could not yet estimate potential losses; management did not expect non-compliance to have a material impact. The company also disclosed an immaterial excess-interest payment involving a former officer, which was returned.
- Disclosure controls were considered effective, but the company continued remediation of a previously identified material weakness involving management review of complex external tax documentation.
Important facts for investors to verify
- How the 7702/72(s) tax exposure, reserve range and remediation costs develop, including any IRS or policyholder outcomes.
- Whether elevated life-policy surrenders persist and whether they affect cash needs, profitability or deferred acquisition cost recoverability.
- Progress and financial effects of strategic changes, international market reviews and discretionary dividend reductions.
- Results of the Louisiana, Arkansas and Texas unclaimed-property audits, especially any Louisiana exposure.
- Whether investment impairments, low interest rates, leadership changes or foreign-market developments materially affect earnings, capital or liquidity.