Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following is Management's discussion and analysis of the financial condition and results of operations of UTG, Inc. and its subsidiaries (collectively
with the Parent, the "Company"). The following discussion of the financial condition and results of operations of the Company should be read in conjunction with, and is qualified in its entirety by reference to, the Consolidated Financial Statements
of the Company and the related Notes thereto appearing in the Company's annual report on Form 10-K for the year ended December 31, 2019, as filed with the Securities and
Exchange Commission, and our unaudited Condensed Consolidated Financial Statements and related Notes thereto appearing elsewhere in this quarterly report.
Cautionary Statement Regarding Forward-Looking Statements
This report on Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934, which are intended to be covered by the safe harbors created by those laws. We have based our forward-looking statements on our current expectations and projections about future events. Our forward-looking statements
include information about possible or assumed future results of operations. All statements, other than statements of historical facts, included or incorporated by reference in this report that address activities, events or developments that we expect
or anticipate may occur in the future, including such things as the growth of our business and operations, our business strategy, competitive strengths, goals, plans, future capital expenditures and references to future successes may be considered
forward-looking statements. Also, when we use words such as "anticipate," "believe," "estimate," "expect," "intend," "plan," "probably," or similar expressions, we are making forward-looking statements.
Numerous risks and uncertainties may impact the matters addressed by our forward-looking statements, any of which could negatively and materially affect
our future financial results and performance.
Although we believe that the assumptions underlying our forward-looking statements are reasonable, any of these assumptions, and, therefore, the
forward-looking statements based on these assumptions, could themselves prove to be inaccurate. In light of the significant uncertainties inherent in the forward-looking statements that are included in this report, our inclusion of this information
is not a representation by us or any other person that our objectives and plans will be achieved. In light of these risks, uncertainties and assumptions, any forward-looking event discussed in this report may not occur. Our forward-looking
statements speak only as of the date made, and we undertake no obligation to update or review any forward-looking statement, whether as a result of new information, future events or other developments, unless the securities laws require us to do so.
Overview
UTG, Inc., a Delaware corporation, is a life insurance holding company. The Company's dominant business is individual life insurance, which includes the
servicing of existing insurance policies in force, the acquisition of other companies in the life insurance business and the administration and processing of life insurance business for other entities. The Company's focus for the future is the
servicing of the existing insurance policies in force.
UTG has a strong philanthropic program. The Company generally allocates a portion of its earnings to be used for its philanthropic efforts primarily
targeted to Christ-centered organizations or organizations that help the weak or poor. The Company also encourages its staff to be involved on a personal level through monetary giving, volunteerism, and use of their talents to assist those less
fortunate than themselves. Through these efforts, the Company hopes to make a positive difference in the local community, state, nation and world.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to
make estimates and assumptions that affect reported amounts and related disclosures. Actual results could differ significantly from those estimates. The Company has identified certain estimates that involve a higher degree of judgment and are
subject to a significant degree of variability. The Company’s critical accounting policies and the related estimates considered most significant by Management are disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31,
2019. Management has identified the accounting policies related to cost of insurance acquired, assumptions and judgments utilized in determining if declines in fair values of investments are other-than-temporary, and valuation methods for
investments that are not actively traded as those, due to the judgments, estimates and assumptions inherent in those policies, are critical to an understanding of the Company’s Condensed Consolidated Financial Statements and this Management’s
Discussion and Analysis.
During the nine months ended September 30, 2020, there were no additions to or changes in the critical accounting policies disclosed in the 2019 Form 10-K.
Results of Operations
During March 2020, a global pandemic was declared by the World Health Organization related to the rapidly growing outbreak of a novel strain of coronavirus
(COVID-19). The pandemic has significantly impacted the economic conditions in the U.S. and globally, accelerating during the first half of March, as federal, state, and local governments reacted to the public health crisis, creating significant
uncertainties in the U.S. economy. The Company has not experienced a slow-down in activities, however government restrictions and client-imposed delays are evaluated daily and this could change. While the disruption is expected to be temporary, there
continues to be uncertainty around the duration or effects of resurgence of the virus. The Company cannot at this time predict the ultimate impact the pandemic will have on its results of operations, financial position, liquidity, or capital
resources, but such impact could be material.
On a consolidated basis, the Company reported a net loss attributable to common shareholders’ of approximately $(5.7) million for the nine-month period
ended September 30, 2020 and a net loss attributable to common shareholders’ of approximately $(2.4) million for the three-month period ended September 30, 2020. For the nine-month period ended September 30, 2019, the Company reported net income
attributable to common shareholders’ of approximately $13.2 million and a net loss attributable to common shareholders’ of approximately $(1.1) million for the three-month period ended September 30, 2019.
Revenues
The Company reported total revenues of approximately $9.9 million for the nine months ended September 30, 2020, a decrease of approximately $25.2 million
as compared to the same period in 2019. The variance in total revenues from the prior year to the current year is mainly attributable to the change in the fair
value of equity securities between periods. The Company reported total revenues of approximately $3.3 million for the three months ended September 30, 2020, a
decrease of approximately $954,000 as compared to the three-month period ended September 30, 2019. For the quarter, the fluctuations are also largely related to the change in the fair value of equity securities between the periods that is reported
as a component of total revenue on the Condensed Consolidated Statements of Operations.
The Company reported revenue before net investment gains of approximately $13.2 million and $14.2 million for the nine months ended September 30, 2020 and
2019, respectively. Revenue before net investment gains decreased only slightly when comparing the current year and prior year results and is due to minor decreases in premium and policy fee revenue and net investment income. For the three months
ended September 30, 2020, the Company reported revenue before net investment gains and losses of $3.9 million, down from $4.6 million from the same period in 2019.
Premium and policy fee revenues, net of reinsurance, are down 10% for the three months ended September 30, 2020 compared to the same period in 2019. For the
nine months ended September 30, 2020, premium and policy fee revenues, net of reinsurance are down 8% compared to 2019. Premium and policy fee revenues, net of reinsurance, represented 37% of the Company’s revenues before net investment gains
(losses) as of September 30, 2020 and 2019, respectively. The decline in premiums is not unusual as the Company is not actively marketing new business.
The following table summarizes our investment performance.
|
Three Months Ended
|
|
Nine Months Ended
|
|
September 30,
|
|
September 30,
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
Net investment income
|
$
|
2,231,360
|
|
$
|
2,818,669
|
|
$
|
8,083,200
|
|
$
|
8,632,402
|
Net investment gains (losses)
|
$
|
(523,587)
|
|
$
|
(318,919)
|
|
$
|
(3,307,910)
|
|
$
|
20,981,336
|
Change in net unrealized investment gains (losses) on available-for-sale securities, pre-tax
|
$
|
169,058
|
|
$
|
3,184,769
|
|
$
|
8,237,909
|
|
$
|
12,044,690
|
The Company reported total net investment losses of approximately $(524,000) and $(3.3) million for the three- and nine-month periods ended September 30,
2020, respectively. For the three- and nine-month periods ended September 30, 2020, the Company reported approximately $1.8 million and $10.7 million, respectively, in net realized investment gains comprised mainly from the sale of equity securities.
During 2019, the Company received an offer to purchase investments in certain music royalties held in the form of equity investments. As a result of this
event, the Company elected to change its valuation methodology from using discounted cash flow models to estimate fair value to marking the investment to the offer price to estimate the fair value. The change in methodology resulted in recording an
unrealized gain on investment of approximately $3.3 million during the year ended December 31, 2019. The investments were then sold during the first quarter of 2020. The Company recognized a gain of approximately $6.3 million on the sale.
The Company also sold equity securities in the area of oil & gas that resulted in a realized gain of $3.2 million during second quarter 2020.
In addition, in the total net investment gains are unrealized gains (losses) related to the change in the fair value of equity securities. The Company
reported unrealized equity gains (losses) of $(2.3) million and $(14) million for the three and nine-months ended September 30, 2020, respectively. For the three and nine-months ended September 30, 2019, the Company reported $(4.1) million and $10.8
million, respectively.
The Company holds certain investments that have been negatively impacted by ongoing market reactions to the pandemic. These investments primarily relate
to marketable equity securities, particularly in the area of oil and gas. The drop in the markets in March, resulted in an estimated unrealized losses of approximately $(24.7) million for the three months ending March 31, 2020. Since the end of the
first quarter 2020, the Company experienced a partial rebound on these investments of approximately $11 million in unrealized gains.
The Company recognized and disclosed in prior filings that a pullback in the stock market, particularly in the oil and gas arena, could slow these gains or
even result in future-period unrealized losses. Management believes these equity investments continue to be solid investments for the Company and have further growth potential. However, current market conditions remain volatile and Management
anticipates the Company will continue experience significant fluctuations in this line item in future periods.
The following table reflects net investment income of the Company:
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
|
|
|
|
|
|
|
|
|
Fixed maturities available for sale
|
$
|
1,301,923
|
$
|
1,445,341
|
$
|
4,023,342
|
$
|
4,371,895
|
Equity securities
|
|
238,082
|
|
287,462
|
|
1,182,308
|
|
1,256,794
|
Trading securities
|
|
1,581
|
|
-
|
|
1,581
|
|
-
|
Mortgage loans
|
|
147,202
|
|
83,528
|
|
392,286
|
|
369,132
|
Real estate
|
|
563,306
|
|
881,705
|
|
2,805,810
|
|
2,141,339
|
Notes receivable
|
|
244,473
|
|
485,288
|
|
783,406
|
|
1,435,947
|
Policy loans
|
|
139,602
|
|
149,979
|
|
444,280
|
|
460,995
|
Cash and cash equivalents
|
|
284
|
|
(1,407)
|
|
53,458
|
|
2,815
|
Short-term
|
|
38,429
|
|
59,980
|
|
141,509
|
|
143,620
|
Total consolidated investment income
|
|
2,674,882
|
|
3,391,876
|
|
9,827,980
|
|
10,182,537
|
Investment expenses
|
|
(443,522)
|
|
(573,207)
|
|
(1,744,780)
|
|
(1,550,135)
|
Consolidated net investment income
|
$
|
2,231,360
|
$
|
2,818,669
|
$
|
8,083,200
|
$
|
8,632,402
|
Net investment income represented 61% of the Company’s revenue before net investment gains (losses) as of September 30, 2020 and 2019, respectively. The
Company reported net investment income of approximately $8.1 million for the nine-month period ended September 30, 2020, comparable to 2019 net investment income. For
the three month period ended September 30, 2020, net investment income decreased approximately 21%, compared to the same quarter in 2019. When comparing the three and nine months ended September 30, 2020 and 2019, income from investing activities
was comparable in the majority of the investment categories, with the largest variance being found in the real estate and notes receivable categories.
Earnings from the real estate portfolio are expected to vary depending on the activities of the subsidiaries and the potential distributions that will
occur. For the nine-months ended September 30, 2020, real estate earnings were up approximately 31% compared to the same period in 2019. Excluding a one-time event that resulted in $1.2 million in earnings during second quarter 2020, real estate
income is lower compared to that of 2019.
For the nine-months ended September 30, 2020, notes receivable income is down 45% compared to September 30, 2019. The decrease is a result of fewer average
outstanding notes receivable, and consequently, a reduction in interest income.
In summary, the Company’s basis for future revenue growth is expected to come from the following primary sources: conservation of business currently
in-force, the maximization of investment earnings and the acquisition of other companies or policy blocks in the life insurance business. Management has placed a significant emphasis on the development of these revenue sources to enhance these
opportunities.
Expenses
The Company reported total benefits and other expenses of approximately $17.2 million for the nine month period ended September 30, 2020, a decrease of
approximately 4% from the same period in 2019. For the three month period ended September 30, 2020, total benefits and other expenses increased approximately 9%, compared to the same quarter in 2019. Benefits, claims and settlement expenses
represented approximately 58% and 61% of the Company’s total expenses for the three and nine months ended September 30, 2020, respectively. The other major expense category of the Company is operating expenses, which represented approximately 39%
and 36% of the Company’s total expenses for the three and nine month periods ended September 30, 2020, respectively.
Life benefits, claims and settlement expenses, net of reinsurance benefits and claims, decreased approximately 9% in the nine month period ended September
30, 2020, compared to the same period in 2019. For the three months ended September 30, 2020, life benefits, claims and settlement expenses, net of reinsurance benefits and claims are comparable to that of the same quarter in 2019. Overall, the
decrease is not considered unusual by Management as fluctuations in mortality are to be expected.
Net amortization of cost of insurance acquired decreased 4% during the three month and nine month periods ended September 30, 2020 compared to the same
period in 2019. Cost of insurance acquired is established when an insurance company is acquired or when the Company acquires a block of in-force business. The Company assigns a portion of its cost to the right to receive future profits from
insurance contracts existing at the date of the acquisition. Cost of insurance acquired is amortized with interest in relation to expected future profits, including direct charge-offs for any excess of the unamortized asset over the projected future
profits. The interest rates may vary due to risk analysis performed at the time of acquisition on the business acquired. The Company utilizes a 12% discount rate on the remaining unamortized business. The amortization is adjusted retrospectively
when estimates of current or future gross profits to be realized from a group of products are revised. Amortization of cost of insurance acquired is particularly sensitive to changes in interest rate spreads and persistency of certain blocks of
insurance in-force. This expense is expected to decrease, unless the Company acquires a new block of business.
Operating expenses increased by 32% for the three-month period ended September 30, 2020 compared to that of the same period in 2019. For the nine-months
ended September 30, 2020 operating expenses increased by 6% compared to that of the same period in 2019. Charitable contributions are primarily the reason for the increase during the quarter and year-to-date. Charitable contributions are a function
of the Company’s taxable earnings. UTG has a strong philanthropic program and the Company generally allocates a portion of its earnings to be used for its philanthropic efforts primarily targeted to Christ-centered organizations or organizations that
help the weak or poor. Charitable contributions made by the Company are expected to vary from year to year depending on the earnings of the Company. Otherwise, expenses were comparable in the remainder of the major expense categories.
Management continues to place significant emphasis on expense monitoring and cost containment. Maintaining administrative efficiencies directly affects net
income.
Financial Condition
Investment Information
Investments represent approximately 85% and 84% of total assets at September 30, 2020 and December 31, 2019, respectively. Accordingly, investments are the
largest asset group of the Company. The Company's insurance subsidiary is regulated by insurance statutes and regulations as to the type of investments that it is permitted to make and the amount of funds that may be used for any one type of
investment. Considering these statutes and regulations, the majority of the Company’s investment portfolio is invested in a diverse set of securities.
As of September 30, 2020, the carrying value of fixed maturity securities in default as to principal or interest was immaterial in the context of
consolidated assets, shareholders’ equity or results from operations. To provide additional flexibility and liquidity, the Company has identified all fixed maturity securities as "investments available for sale". Investments available for sale are
carried at market, with changes in market value charged directly to shareholders' equity. Changes in the market value of available for sale securities resulted in
net unrealized gains of $169,000 and $8.2 million for the three and nine-month periods ended September 30, 2020, respectively. The variance in the net unrealized gains and losses is the result of normal market fluctuations and lower interest rates.
Capital Resources
Total shareholders’ equity decreased by approximately 2% as of September 30, 2020 compared to December 31, 2019. The decrease is largely attributable to
the net loss of $(5.7) million and the net decrease of additional paid-in capital of $(3.0) million for the nine-months ended September 30, 2020. However, the decrease was offset by the increase in accumulated other comprehensive income of $6.2
million, resulting in a net decrease of $(2.3) million.
The Company’s investments are predominately in fixed maturity investments such as bonds. The Company carries all of its fixed maturity holdings as
available for sale, which are reported in the Condensed Consolidated Financial Statements at their market value.
During the third quarter of 2020, the Company purchased 88,341 shares from Cumberland Lake Shell, Inc. at a price of $29 per share for a total cost of
$2,561,889. This single transaction represented a majority of the third quarter activity related to the share repurchase program. Note 6 – Shareholders’ Equity
provides additional information regarding the Company’s stock repurchase program.
Liquidity
The Company has two principal needs for cash - the insurance company’s contractual obligations to policyholders and the payment of operating expenses.
Cash and cash equivalents represented 6% and 7% of total assets as of September 30, 2020 and December 31, 2019, respectively. Fixed maturities, as a percentage of total assets, were approximately 43% and 41% as of September 30, 2020 and December 31,
2019, respectively.
The Company currently has access to funds for operating liquidity. UTG has an $8,000,000 revolving credit note with Illinois National Bank. At September
30, 2020, the Company had no outstanding borrowings against the UTG line of credit. UG has a $10 million line of credit with the Federal Home Loan Bank. At September 30, 2020, the Company had no outstanding borrowings against the UG line of credit.
Future policy benefits are primarily long-term in nature and therefore, the Company's investments are predominantly long-term and provide sufficient return
to cover these obligations. Many of the Company's products contain surrender charges and other features that reward persistency and penalize the early withdrawal of funds.
Net cash used in operating activities was approximately $8.8 million and $5.3 million for the nine-months ended September 30, 2020 and 2019, respectively.
The difference between periods is largely a result of change in the deferred income taxes. Sources of operating cash flows of the Company, as with most insurance entities, is comprised primarily of premiums received on life insurance products and
income earned on investments. Uses of operating cash flows consist primarily of payments of benefits to policyholders and beneficiaries and operating expenses. The Company has not marketed any significant new products for several years. As such,
premium revenues continue to decline. Management anticipates future cash flows from operations to remain similar to historic trends.
Net cash provided by investing activities was approximately $7.5 million and $12.3 million for the nine-month period ended September 30, 2020 and 2019,
respectively. The net cash provided by investing activities is expected to vary from quarter to quarter depending on market conditions and management’s ability to find and negotiate favorable investment arrangements.
UTG is a holding Company that has no day-to-day operations of its own. Funds required to meet its expenses and general costs associated with maintaining
the Company in good standing with states in which it does business are primarily provided by its subsidiaries. On a parent only basis, UTG's cash flow is dependent on Management fees received from its insurance subsidiary, stockholder dividends from
its subsidiary and earnings received on cash balances. At September 30, 2020, substantially all of the consolidated shareholders’ equity represented net assets of its subsidiary. The Company's insurance subsidiary has maintained adequate statutory
capital and surplus. The payment of cash dividends to shareholders by UTG is not legally restricted. However, the state insurance department regulates insurance Company dividend payments where the Company is domiciled. No dividends were paid to
shareholders in 2019 or the nine months ended September 30, 2020.
UG is an Ohio domiciled insurance company, which requires notification within five business days to the insurance commissioner following the declaration of
any ordinary dividend and at least ten calendar days prior to payment of such dividend. Ordinary dividends are defined as the greater of: a) prior year statutory net income or b) 10% of statutory capital and surplus. For the year ended December
31, 2019, UG had statutory net income of approximately $8.3 million. At December 31, 2019 UG’s statutory capital and surplus amounted to approximately $66 million. Extraordinary dividends (amounts in excess of ordinary dividend limitations) require
prior approval of the insurance commissioner and are not restricted to a specific calculation. During 2019, UG paid UTG ordinary dividends of $6 million. During the second quarter of 2020, UG paid UTG an ordinary dividend of $1 million and another
$2 million dividend in the third quarter. UTG used the dividends received during 2019 and 2020 to purchase outstanding shares of UTG stock and for general operations of the Company.