ATLANTIC AMERICAN CORP annual report, FY2017

Atlantic American Corporation — FY2017 Form 10-K

Business context and reporting period. This annual report covers the year ended December 31, 2017, compared with FY2016. Atlantic American is an insurance holding company operating through property and casualty insurer American Southern and life and health insurer Bankers Fidelity. The Parent depends primarily on subsidiary distributions and fees for cash flow.

Financial performance and condition

Metric	FY2017	FY2016
Total revenue	$181.1 million	$166.1 million
Insurance premiums	$163.3 million	$153.5 million
Net income	$4.5 million; $0.20 diluted EPS	$2.6 million; $0.11 diluted EPS
Operating income (loss), company-defined non-GAAP	$(3.8) million	$0.9 million
Net cash from operations	$2.6 million	$1.3 million
Cash and cash equivalents at year-end	$24.5 million	$13.3 million

Net realized investment gains were $9.2 million, versus $2.6 million in 2016; these substantially supported reported net income. Net investment income declined to $7.7 million from $9.3 million, and average investment yield fell to 3.1% from 3.8%.
American Southern’s underwriting income was $2.7 million; its combined ratio was 94.9% versus 94.6% (below 100% indicates underwriting profit). Net earned premiums were essentially flat at $53.7 million.
Bankers Fidelity’s underwriting loss widened to $8.1 million from $4.9 million. Its combined ratio rose to 107.4% from 104.9%. Earned premiums increased 10% to $109.7 million, led by Medicare supplement, while benefits and losses rose 20.7%.
Total assets were $343.2 million, total liabilities $230.3 million, and shareholders’ equity $113.0 million. Investments totaled $247.5 million; fixed maturities represented 86.9% of the portfolio, and 92% of the bond portfolio was investment grade.
Insurance reserves and policyholder funds totaled $173.6 million. Gross unpaid losses, claims and LAE reserves were $65.7 million, including $12.0 million recoverable from reinsurers.
Junior subordinated debentures had a carrying value of $33.7 million. They bear floating rates of three-month LIBOR plus 4.00% or 4.10%; the effective rate was 5.50% at year-end. The Parent reported $25.8 million of unrestricted cash and investments.

Material changes and management commentary

Revenue and net income increased, but the company-defined operating result moved from income to loss. Management attributed the operating deterioration principally to unfavorable life and health claims experience, alongside lower investment income and real estate partnership losses.
Medicare supplement premiums grew 11.3%; Bankers Fidelity also reported elevated mortality and morbidity beginning in late 2016 and continuing through the first quarter of 2017. Its 2017 loss ratio increased to 75.7% from 69.0%.
American Southern’s gross written premiums rose 3.6%, but net earned premiums edged down. Less favorable general liability and surety experience slightly increased its loss ratio.
Cash rose primarily because investment sales and maturities exceeded purchases, together with positive operating cash flow. The company paid $0.8 million in common and Series D preferred dividends and repurchased $0.7 million of common stock in 2017.

Outlook, risks and unusual items

The filing provides no quantitative earnings or revenue guidance. Management said existing cash, expected subsidiary dividends, fees and tax-sharing payments, and potential additional borrowing should meet liquidity needs for the foreseeable future.
Reserve estimates involve significant judgment. Management’s consolidated actuarial range indicated reserves could be approximately 8.5% lower or 10.1% higher than recorded; future revisions could materially affect results. Prior-year reserve development reduced incurred losses by $1.8 million in 2017.
Reinsurance recoverables were concentrated: approximately 99% were due from two reinsurers. The company remains liable to policyholders if reinsurers fail to pay.
Insurance subsidiaries reported $77.5 million of statutory surplus and exceeded required risk-based capital levels. Subsidiary dividends above approximately $4.8 million in 2018 required regulatory approval.
Tax reform enacted in December 2017 reduced the federal tax rate applied to deferred tax balances from 35% to 21%. The filing also identifies expected 2018 accounting changes, including greater net-income volatility from marking equity securities to market.
Other risks include claims severity and frequency, catastrophe losses, interest-rate and market movements, regulation, competition, guaranty-fund assessments, cybersecurity, and the collectibility of reinsurance. Ordinary-course litigation was not expected to materially affect financial condition, although results in a particular period could be affected.
Related-party matters include office leasing from an entity controlled by an affiliate of the controlling shareholder, Series D preferred stock held by that affiliate, and a $14.4 million investment in Gray Television securities. The Series D shares carry cumulative dividends and are not currently convertible.

The independent auditor issued an unqualified opinion on the consolidated financial statements. Management concluded disclosure controls and internal control over financial reporting were effective; the auditor did not provide an ICFR attestation because the company is a smaller reporting company.

Important facts for investors to verify

Whether Bankers Fidelity’s elevated claims experience and underwriting losses persist, especially in Medicare supplement.
How much reported earnings depend on realized investment gains, and whether lower recurring investment income continues.
Reserve development, actuarial ranges, and the adequacy and collectibility of reinsurance recoverables.
Parent-level liquidity, permitted subsidiary dividends, and floating-rate debt service as LIBOR changes.
Effects of tax reform and new accounting standards on future earnings, equity and reported volatility.
Terms and governance safeguards for related-party leases, preferred stock and Gray Television investments.