UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended DECEMBER 31, 2002 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ COMMISSION FILE NUMBER: 0-4366 REGAN HOLDING CORP. (Exact name of registrant as specified in its charter) CALIFORNIA 68-0211359 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 2090 MARINA AVENUE, PETALUMA, CALIFORNIA 94954 (Address of principal executive offices and Zip Code) (707) 778-8638 (Registrant's telephone number, including area code) Securities registered under Section 12(g) of the Exchange Act: COMMON STOCK, NO PAR VALUE (Title of Class) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). YES [ ] NO [X ] State the aggregate market value of the voting stock held by non-affiliates of the registrant. The aggregate market value shall be computed by reference to the price at which the common equity was sold, or the average bid and asked prices of such common equity, as of June 28, 2002. $23,429,000 There is currently no trading market for the registrant's stock. Accordingly, the foregoing aggregate market value is as of June 28, 2002 and is based upon the price at which the registrant has repurchased its stock as of the last business day of the registrant's most recently completed second fiscal quarter. As of March 15, 2003, the number of shares outstanding of the registrant's Series A Common Stock was 24,158,000 and the number of shares outstanding of the registrant's Series B Common Stock was 560,000. The registrant has no other shares outstanding. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Definitive Proxy Statement for Regan Holding Corp.'s Annual Meeting of Stockholders to be held on June 6, 2003 are incorporated by reference into Part III of this Form 10-K. 2 TABLE OF CONTENTS Page Item 1. Description Of Business...........................................................................4 Item 2. Properties........................................................................................7 Item 3. Legal Proceedings.................................................................................7 Item 4. Submission Of Matters To A Vote Of Security Holders...............................................7 Item 5. Market For Registrant's Common Equity And Related Shareholder Matters.............................8 Item 6. Selected Consolidated Financial Data..............................................................8 Item 7. Management's Discussion And Analysis Of Financial Condition And Results Of Operations.............8 Item 7a. Quantitative And Qualitative Disclosure About Market Risk........................................19 Item 8. Financial Statements And Supplementary Data......................................................21 Item 9. Changes In And Disagreements With Accountants On Accounting And Financial Disclosure.............44 Item 10. Directors And Executive Officers Of The Company..................................................44 Item 11. Executive Compensation...........................................................................44 Item 12. Security Ownership Of Certain Beneficial Owners And Management...................................44 Item 13. Certain Relationships And Related Transactions...................................................44 Item 14. Controls And Procedures..........................................................................44 Item 15. Exhibits, Financial Statement Schedules, And Reports On Form 8-K.................................45 3 PART I Item 1. Description of Business Except for historical information contained herein, the matters discussed in this report contain forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, that involve risks and uncertainties that could cause actual results to differ materially. General Development of Business Regan Holding Corp. is a non-operating holding company, incorporated in the State of California, whose primary operating subsidiaries are Legacy Marketing Group ("Legacy Marketing") and Legacy Financial Services, Inc. ("Legacy Financial"). During 2002, Legacy Marketing generated approximately 95% of our consolidated revenues. Legacy Marketing designs, markets and administers fixed annuity products on behalf of certain unaffiliated insurance carriers in each of the United States, except Alabama and New York, and the District of Columbia. Legacy Marketing has marketing agreements with Transamerica Life Insurance and Annuity Company, American National Insurance Company, John Hancock Variable Life Insurance Company, and Investors Insurance Corporation. The marketing agreements grant us the exclusive right to market certain fixed annuity products issued by these insurance carriers. Fixed annuity products are insurance products that are sold to purchasers in the form of insurance policies. Under the terms of these agreements, we are responsible for appointing independent insurance producers (who we refer to as "Producers") who have contracted with us to sell fixed annuity products. For these services, the insurance carriers pay us marketing allowances and commissions based on the volume of insurance policies placed inforce. We are responsible for paying sales commissions to the Producers. Legacy Marketing sells fixed annuity products through a network of approximately 26,000 Producers, of whom approximately 4,000 generated business for us during 2002. Each Producer has entered into a non-exclusive agreement with Legacy Marketing which defines the parties' business relationship. The agreement may be terminated with up to ninety days prior written notice by either the Producer or Legacy Marketing, with or without cause. Our sales network is built on a multi-level structure in which Producers may sponsor other Producers. Sponsored Producers are referred to as "downline" Producers within the sponsoring Producer's network. Sponsored Producers may also sponsor other Producers, creating a hierarchy under the original sponsoring Producer. The Producer contract contains a nine-level design in which a Producer may advance from one level to the next based on sales commission amounts and the size of the Producer's downline network. As a Producer advances to higher levels within the system, he receives higher commissions on sales made through his downline network. This creates a financial incentive for Producers to build a hierarchy of downline Producers, which contributes to their financial growth and to the growth of Legacy Marketing. If a Producer leaves the network, his downline can still receive sales commissions. Advancements to higher levels can occur as often as every three months. Producers at the highest levels are called "Wholesalers." We had approximately 500 Wholesalers who generated business for Legacy Marketing during 2002. We provide tools and services that assist Wholesalers with recruiting, training and support responsibilities associated with the Producers in their hierarchy. In addition, we assist Producers with programs designed to increase their sales and better serve their clients. Recruiting and training programs include visual presentations, product videos and seminars, advertising material guidelines and sales flip charts. We also produce product information, sales brochures, pre-approved advertisements and recruiting material. Legacy Marketing also assists the insurance carriers in product design and development. Our marketing and actuarial departments work with the insurance carriers to design proprietary fixed annuity products to be marketed by Legacy Marketing. All of these products include guarantees for the benefit of policyholders. Although the guarantees are known as Legacy's Cornerstone Guarantees, they are guaranteed by the issuing insurance carriers. Legacy's Cornerstone Guarantees generally include: o a contractually guaranteed minimum interest rate, o a contractually guaranteed maximum administrative fee, and o the ability to allocate among various cash value strategies. 4 In addition to the marketing agreements, Legacy Marketing has administrative agreements with each of the four insurance carriers listed above and with IL Annuity and Insurance Company, whose marketing agreement with us terminated effective during the first quarter of 2002. Under the terms of the administrative agreements, we provide clerical, administrative and accounting services with respect to the insurance policies. These services include billing, collecting and remitting premium for the policies. For providing these services, the insurance carriers pay us a fee per transaction, with the amount of the fee depending on the type of policy and type of service. Administrative services with respect to the insurance policies are performed at our headquarters in Petaluma, California and at our facilities in Rome, Georgia. Neither the marketing agreements nor the administrative agreements prevent us from entering into similar arrangements with other insurance carriers. However, the marketing agreements with Transamerica and John Hancock, in general, prevent us from marketing products with other carriers which are defined as unique and proprietary under the terms of our marketing agreements with Transamerica and John Hancock. The marketing agreement with American National expires on November 15, 2007, and the administrative agreement with American National expires on February 15, 2008. Both agreements may be renewed by mutual agreement for successive one-year terms. The agreements may be terminated by either party upon twelve months prior written notice without cause, and may be terminated by either party immediately for cause. The marketing and administrative agreements with Transamerica and John Hancock do not have fixed terms but may be terminated by either party upon twelve months prior written notice without cause, and may be terminated by either party immediately for cause. The marketing and administrative agreements with John Hancock were entered into in January 2001, and we began marketing and administering products during the fourth quarter of 2001. In December 2001, Legacy Marketing and IL Annuity agreed that the IL Annuity product mix being marketed by Legacy Marketing did not provide a sufficient rate of return to IL Annuity. Accordingly, Legacy Marketing began phasing out the marketing of IL Annuity products. The phase-out was completed during the first quarter of 2002. A number of policyholders continue to hold IL Annuity products, however, which require certain administrative services. Legacy Marketing continues to administer IL Annuity products under the terms of an administrative services agreement with IL Annuity and intends to continue doing so for the foreseeable future. In June 2002, Legacy Marketing entered into marketing and administrative services agreements with Investors Insurance Corporation, an unaffiliated insurance carrier. Under these agreements, Legacy Marketing will sell and administer annuity products on behalf of Investors Insurance Corporation. Legacy Marketing has an option to buy Investors Insurance Corporation within the next five years. Sales on behalf of Investors Insurance Corporation began in June 2002. In November 2002, we announced a strategic plan to consolidate the life and annuity product portfolio marketing business of Legacy Marketing. The product consolidation will allow Legacy Marketing to focus its resources more efficiently. Legacy Marketing discontinued marketing life insurance products issued by American National effective during the first quarter of 2003. These products accounted for a nominal amount of revenue during each of the years ending December 31, 2002, 2001, and 2000. Legacy Marketing will continue to administer American National life insurance products, including acceptance of renewal premium. Certain Legacy Marketing employees who were supporting the life insurance product operations were either terminated or reassigned to other positions in Legacy Marketing. In addition, during the first quarter of 2003, Legacy Marketing discontinued the marketing of several annuity products issued by Transamerica. Legacy Marketing will continue to administer these annuity products and to accept additional premium payments, subject to applicable additional deposit rules for these products. The discontinued products accounted for approximately 31%, 59%, and 45% of our total consolidated revenue for the years ended December 31, 2002, 2001, and 2000. However, our sales of recently introduced Transamerica products have been strong. Furthermore, sales on behalf of our other carriers have increased during the two months ended February 28, 2003, and total sales of annuity products have increased by 26% during this period compared to the same period in 2002. Legacy Marketing is also developing new products that we expect will result in increased sales in 2003. 5 Through our wholly-owned broker-dealer subsidiary, Legacy Financial, we sell variable annuity and life insurance products, mutual funds, and debt and equity securities. Legacy Financial has entered into sales agreements with investment companies that give it the non-exclusive right to sell investment products on behalf of those companies. Sales of investment products are conducted through Legacy Financial's network of independent registered representatives (who we refer to as "Representatives"). Under the sales agreements, we are compensated based upon predetermined percentages of the sales generated by the Representatives. The agreements may be terminated by either party upon thirty days prior written notice. During 2002, Legacy Financial accounted for approximately 5% of our consolidated revenues. Legacy Financial is registered as a broker-dealer with, and is subject to regulation by, the SEC, NASD, and Municipal Securities Rulemaking Board. As a result of federal and state broker-dealer registration and self-regulatory organization memberships, Legacy Financial is subject to regulation that covers many aspects of its securities business. This regulation covers matters such as capital requirements, recordkeeping and reporting requirements, and employee-related matters, including qualification and licensing of supervisory and sales personnel. Also, these regulations include supervisory and organizational procedures intended to ensure compliance with securities laws and prevent improper trading on material nonpublic information. Rules of the self-regulatory organizations are designed to promote high standards of commercial honor and just and equitable principles of trade. A particular focus of the applicable regulations concerns the relationship between broker-dealers and their customers. As a result, many aspects of the broker-dealer customer relationship are subject to regulation, including "suitability" determinations as to customer transactions, limitations in the amounts that may be charged to customers, and correspondence with customers. During 2000, we invested in prospectdigital, LLC, which is developing an Internet-based customer relationship management product. In January 2002, we purchased all of the remaining outstanding equity interests in prospectdigital. Prospectdigital has generated nominal revenues to date. In December 2000, we acquired the assets and name of Values Financial Network, Inc. Values Financial Network is engaged in the business of values-based investment screening, and has generated nominal revenues to date. Competitive Business Conditions The annuity business is rapidly evolving and intensely competitive. Legacy Marketing's primary market is fixed annuities sold through independent producers. In addition, Legacy Marketing administers the products sold by Producers on behalf of the issuing insurance carriers. Fixed annuity sales in the United States were approximately $94 billion in 2002. Some of Legacy Marketing's top competitors selling fixed annuities through independent sales channels are Allianz Life of North America, Midland National Life Insurance Company, American Equity Investment Life, the North American Company for Life and Health Insurance, the AmerUs Group, and Jackson National Life Insurance Company. These competitors may have greater financial resources than we do. However, our business model allows us greater flexibility, as we can adjust the mix of business sold if one, or more, of our carriers were to experience capital constraints or other events that effect their business models. They may respond more quickly than us to new or emerging products and changes in customer requirements. We are not aware of any significant new means of competition, products or services that our competitors provide or will soon provide. However, in the highly competitive fixed annuity marketplace, new distribution models, product innovations and technological advances may occur at any time and could present us with competitive challenges. There can be no assurance that we will be able to compete successfully. In addition, our business model relies on Producers to effectively market our products competitively. Maintaining relationships with these Producers requires introducing new products to the market in an efficient and timely manner, offering competitive commission schedules, and providing superior marketing, training, and support. In the recent past, we have been reasonably successful in attracting and retaining Producers. We are not aware of any top Producers who may discontinue marketing our products. Due to competition among insurance companies and insurance marketing organizations for successful producers, there can be no assurance that we will be able to retain some or all of our top Producers. Regulatory Environment State insurance regulations and the National Association of Insurance Commissioners continually reexamine existing laws and regulations, and may impose changes in the future that materially adversely affect our business, results of operations and financial condition. In particular, rate rollback legislation and legislation to control premiums, policy terminations and other policy terms may affect the marketability of policies or the amount of premiums that can be charged for such policies, and thus the commissions we can earn. Also, recently a committee of Congress has been considering the advisability of enacting federal statutes providing for the regulation of insurance. Although there is not yet a specific proposal, additional regulation at the federal level could also affect 6 our business, results of operations and financial condition. The President of the United States is currently advocating the establishment of tax-deferred savings plans which would offer taxpayers the ability to contribute amounts substantially greater than IRA plans allow. If these plans are enacted, or if the tax code is revised to reduce the tax-deferred status of annuity products or to increase the tax-deferred status of competing products, our business could be adversely impacted because our competitive advantage could be weakened. Legacy Financial is registered as a broker-dealer with, and is subject to regulation by, the SEC, NASD, and Municipal Securities Rulemaking Board. This regulation covers matters such as capital requirements, recordkeeping and reporting requirements, and employee-related matters, including qualification and licensing of supervisory and sales personnel. Any proceeding alleging violation of, or noncompliance with, laws and regulations applicable to us or our subsidiaries could harm our business, financial condition, results of operations, and business prospects. In addition, changes in federal legislation, state legislation, court decisions and administrative policies could significantly and adversely affect the insurance industry generally and our business in particular. Employees As of February 28, 2003, we employed 502 employees. None of our employees is represented by a collective bargaining agreement. We consider our relations with our employees to be good, and we will continue to strive to provide a positive work environment for our employees. Financial Information about Segments The financial information about segments required by Item 101(b) of Regulation S-K is contained in our financial statements and supplementary data, Part II, Item 8 of this Form 10-K. Financial Information about Geographic Areas During the last three fiscal years, we have not depended on revenue from sources outside the United States. Also during that time, all long-lived assets have been located in the United States. Item 2. Properties In June 2001, we purchased the building that houses our headquarters and most of Legacy Marketing's operations in Petaluma, California. Item 3. Legal Proceedings We are involved in various claims and legal proceedings arising in the ordinary course of business. Although it is difficult to predict the ultimate outcome of these cases, we believe that the ultimate disposition of these claims will not have a material adverse effect on our financial condition, cash flows or results of operations. Item 4. Submission of Matters to a Vote of Security Holders No items were submitted to a vote of security holders during the fourth quarter of 2002. 7 PART II Item 5. Market for Registrant's Common Equity and Related Shareholder Matters As of March 15, 2003, Regan Holding Corp.'s Series A Common Stock was held by approximately 1,000 shareholders of record and our Series B Common Stock was held by approximately 10,000 shareholders of record. There is no established public trading market for our stock. Our Board of Directors may, at its sole discretion, declare and pay dividends on common stock, subject to capital and solvency restrictions under California law. To date, we have not paid any dividends on our common stock. Our ability to pay dividends is dependent on the ability of our wholly-owned subsidiaries to pay dividends or make other distributions to us. As of December 31, 2002, we do not anticipate paying dividends on any of our outstanding common stock in the foreseeable future. Item 6. Selected Consolidated Financial Data Year Ended December 31, --------------------------------------------------------------------------------- 2002 2001 2000 1999 1998 ------------ --------------- --------------- --------------- -------------- Selected Income Statement Data: Total revenue $ 50,049,000 $ 55,209,000 $ 42,432,000 $50,938,000 $ 46,575,000 Net income (loss) $ (60,000) $ (348,000) $ (3,564,000) $ 3,635,000 $ 9,770,000 Earnings (loss) per share - basic: Before cumulative effect of accounting change $ -- $ (0.03) $ (0.15) $ 0.11 $ 0.37 Cumulative effect of accounting change -- -- (0.01) -- -- ------------- ------------ ------------ ----------- ----------- $ -- $ (0.03) $ (0.16) $ 0.11 $ 0.37 Earnings (loss) per share - diluted: Before cumulative effect of accounting change $ -- $ (0.03) $ (0.15) $ 0.10 $ 0.36 Cumulative effect of accounting change -- -- (0.01) -- -- ------------- ------------ ------------ ----------- ----------- $ -- $ (0.03) $ (0.16) $ 0.10 $ 0.36 Selected Balance Sheet Data: Total assets $ 49,953,000 $ 46,260,000 $ 43,114,000 $47,158,000 $ 31,286,000 Total non current liabilities $ 11,630,000 $ 4,578,000 $ 3,578,000 $ 4,258,000 $ 663,000 Redeemable common stock $ 10,115,000 $ 11,124,000 $ 11,237,000 $11,563,000 $ 11,225,000 Cash dividends declared -- -- -- -- -- Selected Operating Data: Total fixed premium placed inforce(1) $1.3 billion $1.6 billion $1.1 billion $ 1.6 billion $1.7 billion Total fixed policies placed inforce(1) 24,000 30,000 20,000 28,000 32,000 Policies maintained at year end 107,000 101,000 89,000 85,000 64,000 (1) When a policyholder remits a premium payment with an accurate and completed application for an insurance policy, the policy is considered inforce. Inforce premium and policies are statistics of our carriers but are factors that directly affect our revenue. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Statements Certain statements contained in this document, including Management's Discussion and Analysis of Financial Condition and Results of Operations, that are not historical facts, constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results or performance of Regan Holding Corp. and its businesses to be materially different from that expressed or implied by such forward-looking statements. These risks, uncertainties and factors include, among other things, the following: general economic and business conditions; political and social conditions; government regulations, especially regulations affecting the insurance industry; demographic changes; the ability to adapt to changes resulting from acquisitions or new ventures; and various other factors referred to in Management's Discussion and Analysis of Financial Condition and Results of Operations. 8 Regan Holding Corp. assumes no obligation to update forward-looking statements to reflect actual results or changes in or additions to the factors affecting such forward-looking statements. General Overview of Our Business Regan Holding Corp. is a holding company, whose primary operating subsidiaries are Legacy Marketing and Legacy Financial. Legacy Marketing designs, markets and administers fixed annuity products on behalf of certain unaffiliated insurance carriers in each of the United States, except Alabama and New York, and the District of Columbia. Legacy Marketing has marketing agreements with Transamerica, American National, John Hancock, and Investors Insurance Corporation. The marketing agreements grant Legacy Marketing the exclusive right to market certain fixed annuity products issued by these insurance carriers. Legacy Marketing is responsible for appointing independent insurance producers who have contracted with Legacy Marketing to sell these products. For these services, the insurance carriers pay Legacy Marketing commissions and marketing allowances. Legacy Marketing also has administrative agreements with each of the insurance carriers listed above, and with IL Annuity, whose marketing agreement with us was terminated effective during the first quarter of 2002. Under the terms of the administrative agreements, Legacy Marketing provides clerical, administrative and accounting services with respect to the insurance policies. For providing these services, the insurance carriers pay Legacy Marketing administrative fees. Through our wholly-owned broker-dealer subsidiary, Legacy Financial, we sell variable annuity and life insurance products, mutual funds, and debt and equity securities. Sales of investment products are conducted through Legacy Financial's network of independent registered representatives. The results of our operations are generally affected by the conditions that affect other companies that market annuity and life insurance products, and third-party administrators of those products. These conditions are increased competition, changes in the regulatory and legislative environments, and changes in general economic and investment conditions. Critical Accounting Policies Management's Discussion and Analysis of Financial Condition and Results of Operations is based in large part on the consolidated financial statements of Regan Holding Corp., which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from those estimates. Legacy Marketing has marketing and administrative agreements with certain insurance carriers, listed above. Under the terms of the marketing agreements, Legacy Marketing is responsible for appointing producers who have contracted with Legacy Marketing to sell fixed annuity products to the general public. Under the terms of the administrative agreements, Legacy Marketing provides clerical, administrative and accounting services with respect to the insurance policies. For providing these services, the insurance carriers pay Legacy Marketing issuing, maintenance, and termination fees on a per transaction basis, with the amount of the fee depending on the type of policy and type of service. There are no significant management judgements associated with reporting these revenues. When a policyholder remits a premium payment with an accurate and completed application for an insurance policy, the policy is considered inforce and Legacy Marketing recognizes marketing allowances and commission income. Legacy Marketing's carriers grant policyholders a contractual right to terminate the insurance contract ten to thirty days after a policy is placed inforce. This return period varies depending on the carrier, the type of policy and the jurisdiction in which the policy is sold. Legacy Marketing gathers historical product return data that does not vary significantly from quarter to quarter, and has historically been predictive of future events. Returns are estimated using this data and have been reflected in the Consolidated Financial Statements. Legacy Marketing recognizes administrative fees on a per transaction basis as services are performed, with the amount of the fee depending on the type of policy and type of service. We capitalize external consulting fees, and salaries and benefits for employees who are directly associated with the development of software for internal use when both of the following occur: 9 o The preliminary project stage is completed and therefore the project is in the application development stage; and o Management authorizes and commits to funding a software project and it is probable that the project will be completed and the software will be used to perform the function desired. Modifications or enhancements made to an existing software product that result in additional functionality are also capitalized. When the new software is placed in production, we begin amortizing the asset over its estimated useful life. Training and maintenance costs are accounted for as expenses as they occur. We periodically review capitalized internal use software to determine if the carrying value is fairly stated. If our review determines that future cash flows related to the software are insufficient, or if new technology indicates that the value of replacement software is less than our carrying value, we record an impairment loss. During 2002, we began an evaluation of an internal use software project that we initially licensed in 1998. We began this project intending to replace our administration system after the vendor required us to migrate from the existing system to an alternative platform. In late 2002, we learned from our vendor that we might be able to retain our existing system. A financial analysis completed in February 2003 indicated that staying on the existing system may provide greater benefit than converting to a new system even after considering the investment to date. Our evaluation of the new software project, while still ongoing, is nearing conclusion. Our final decision is dependent upon successful conclusion of negotiations with our software vendor, allowing us to continue to use our existing system for an extended period. If we are successful in favorably concluding our negotiations, we will probably abandon most of the work associated with the replacement system. To date, we have $4.4 million capitalized relating to this software. We estimate that approximately $1.2 million of this asset has continuing value and can be used to upgrade our existing system. If our final decision is to abandon the new software, we expect to write-off the remaining $3.2 million in the period we make our decision. We have issued Series A and Series B redeemable common stock to certain shareholders. We are obligated to repurchase the redeemable common stock at the current fair market value. Because there is no active trading market for our stock that would establish market value, our Board of Directors approved a redemption value of $2.20 per share and $1.82 per share for Series A and Series B redeemable common stock as of December 31, 2002. This valuation by management was derived from an independent appraisal of our stock value based on financial information provided by us. When we purchased Values Financial Network, Inc. in 2000, part of the purchase price was for goodwill. Before January 1, 2002, we amortized the goodwill on a straight-line basis over 10 years, which was its estimated useful life. Pursuant to Statement of Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets," we ceased amortizing goodwill on January 1, 2002 (see Footnote 4 to the financial statements). As required by SFAS 142, we performed a transitional and annual goodwill impairment test during 2002. The impairment test required by the provisions of SFAS 142 required us to forecast the discounted value of future cash flows expected to be derived from Values Financial Network, Inc. During 2002, we revised the business model for Values Financial Network Inc. to focus on corporate and individual producer sales. Current projections support the balance of goodwill. When we perform our 2003 annual goodwill impairment analysis, we may conclude that some amount of goodwill impairment has occurred if revenues do not occur as planned. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of deferred tax assets will, or will not, be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which temporary differences become deductible. Management believes it is more likely than not that the deferred tax assets will be realized. Investments classified as available-for-sale are periodically reviewed to determine if declines in fair value below cost are other-than-temporary. Significant and sustained decreases in quoted market prices, a series of historical and projected operating losses by the investee or other factors are considered as part of the review. If the decline in fair value has been determined to be other-than-temporary, an impairment loss is recorded in investment income and the individual security is written down to a new cost basis. During 2001, we determined that certain investment securities had other-than-temporary declines in fair value below cost. As a result, in 2001 we recorded impairment losses of $642,000, and the individual securities were written down to a new cost basis. 10 Regan Holding Corp. Consolidated Year ended December 31, 2002 compared with year ended December 31, 2001 We had consolidated net losses of $60,000 in 2002, compared to consolidated net losses of $348,000 in 2001. The improved results are primarily due to reduced losses at Values Financial Network, Inc. and Legacy Financial, and the recognition of net income at our Other segments in 2002 compared to net losses in 2001, partially offset by lower net income at Legacy Marketing. Year ended December 31, 2001 compared with year ended December 31, 2000 We experienced consolidated net losses of $348,000 in 2001, compared to consolidated net losses of $3.6 million in 2000. The reduced losses are attributable to net income at Legacy Marketing during 2001 compared to net losses during 2000, and reduced net losses at our Other segments, partially offset by increased losses by Values Financial Network, Inc., Legacy Financial, and Imagent Online, LLC. Legacy Marketing Year ended December 31, 2002 compared with year ended December 31, 2001 During 2002, Legacy Marketing's net income totaled $1.6 million, compared to net income of $2.8 million during 2001. This decrease of $1.2 million is primarily due to decreased revenues, partially offset by decreased expenses and the recognition of investment income in 2002 compared to investment losses in 2001. Legacy Marketing's revenue decreased $5.6 million (10%) primarily due to decreased marketing allowances and commission income. Marketing allowances and commission revenue, combined, decreased $5.9 million (14%) due to a decrease in sales of fixed annuity and life policies. The sales decrease is primarily due to a shift in the marketplace toward more traditional fixed income-based annuities. Administrative fees increased $307,000 (3%) primarily due to an increase in the number of policies administered year over year, partially offset by a lower number of policies issued in 2002. In November 2002, we announced a strategic plan to consolidate the life and annuity product portfolio marketing business of Legacy Marketing. We believe this product consolidation will allow Legacy Marketing to focus its resources more efficiently. Legacy Marketing discontinued marketing life insurance products issued by American National effective during the first quarter of 2003. These products accounted for a nominal amount of revenue during each of the years ending December 31, 2002, 2001, and 2000. Legacy Marketing will continue to administer American National life insurance products, including acceptance of renewal premium. Certain Legacy Marketing employees who were supporting the life insurance product operations were either terminated or reassigned to other positions in Legacy Marketing. In addition, during the first quarter of 2003, Legacy Marketing discontinued the marketing of several annuity products issued by Transamerica. Legacy Marketing will continue to administer these annuity products and to accept additional premium payments, subject to applicable additional deposit rules for these products. The discontinued products accounted for approximately 31%, 59%, and 45% of our total consolidated revenue for the years ended December 31, 2002, 2001, and 2000. However, our sales of recently introduced Transamerica products have been strong. Furthermore, sales on behalf of our other carriers have increased during the two months ended February 28, 2003, and total sales of annuity products have increased by 26% during this period compared to the same period in 2002. Legacy Marketing is also developing new products that we expect to result in increased sales in 2003. As of December 31, 2002, Legacy Marketing sold products on behalf of four unaffiliated insurance carriers: Transamerica, American National, John Hancock and Investors Insurance Corporation. During the first quarter of 2002, Legacy Marketing ceased selling products on behalf of IL Annuity, as both parties mutually agreed to terminate their marketing agreement. Legacy Marketing currently intends to continue to administer IL Annuity products. The agreements with the following carriers generated a significant portion of the Company's total consolidated revenue (sales on behalf of Investors Insurance Corporation began in the second quarter of 2002): 2002 2001 ---- ---- Transamerica 52% 68% American National 17% 5% IL Annuity 12% 20% John Hancock 8% - 11 Although Legacy Marketing sells and administers several products on behalf of the insurance carriers, our consolidated revenues are derived primarily from sales and administration of the following annuity product series: 2002 2001 ---- ---- SelectMark(SM) series (sold on behalf of Transamerica) 51% 67% BenchMark(SM) series (sold on behalf of American National) 16% 4% VisionMark(SM) series (sold on behalf of IL Annuity) 11% 19% AssureMark(SM) series (sold on behalf of John Hancock) 8% - We expect that sales of the SelectMark (SM) series sold on behalf of Transamerica will decrease during 2003, as a result of the product consolidation discussed above. Legacy Marketing's expenses decreased $2.9 million (6%) primarily attributable to decreases in selling, general and administrative expenses. Selling, general and administrative expenses decreased $2.9 million (7%) primarily due to decreases in professional fees, commissions, compensation, and occupancy expenses. Professional fees decreased primarily due to lower consulting fees related to internal use software maintenance, and reduced legal expenses. The decrease in commissions was primarily related to lower sales. Compensation decreased primarily due to the effect of attrition, as Legacy Marketing's headcount decreased 4% in 2002. The decreased occupancy expense was primarily a result of our purchasing the building that houses our headquarters, which resulted in no rent expense after June 2001, partially offset by increased interest expense from financing the building purchase. Legacy Marketing recognized investment income of $638,000 in 2002 compared to investment losses of $239,000 in 2001. This shift was primarily because 2001 included impairment losses of $642,000 related to other-than-temporary declines in the value of certain investment securities. Year ended December 31, 2001 compared with year ended December 31, 2000 During 2001, Legacy Marketing's net income totaled $2.8 million, compared to losses of $1.6 million during 2000, primarily due to increased revenues partially offset by increased expenses and the recognition of non-operating losses in 2001 compared to non-operating income in 2000. Legacy Marketing's revenue increased $14 million (36%) primarily due to increased marketing allowances, commission income, and administrative fees. Marketing allowances and commission revenue, combined, increased $12.3 million (43%) due to an increase in sales of fixed annuity and life policies. The sales increase was primarily due to: i) favorable market conditions for fixed return investment products, ii) the implementation of marketing programs designed to strengthen relationships with existing producers and attract new producers, and, iii) the introduction of new products and enhancements of existing products. Administrative fees increased $2.2 million (23%) primarily due to increases in the number of policies issued and administered. Legacy Marketing's expenses increased $2.8 million (6%) primarily attributable to increases in selling, general and administrative expenses, depreciation and amortization. The increase in selling, general and administrative expenses of $1.6 million (4%) is primarily due to increases in compensation, partially offset by decreases in professional fees, sales promotion and support expenses, and occupancy expenses. Compensation increased primarily due to the effect of salary increases effective December 2000, and the addition of employees at higher salary levels. Professional fees decreased primarily due to lower consulting fees related to internal use software maintenance. Sales promotion and support expenses decreased primarily due to our discontinuing a broad-based stock option sales related program in 2001. The decreased occupancy expense was primarily a result of our purchasing the building that houses our headquarters, which resulted in no rent expense after June 2001. Depreciation and amortization expense increased $670,000 (20%) primarily related to a higher internal use software balance. During 2001, Legacy Marketing determined that certain investment securities had other-than-temporary declines in fair value below cost. As a result, Legacy Marketing recorded impairment losses of $642,000, and the individual securities were written down to a new cost basis. 12 Legacy Financial Year ended December 31, 2002 compared with year ended December 31, 2001 Legacy Financial incurred net losses of $595,000 during 2002, compared to net losses of $837,000 during 2001. The improved results are primarily due to increased revenues. Legacy Financial's major source of revenue is commission income, which is generated through sales of variable life and annuity products, mutual funds, and debt and equity securities. Levels of commission income are directly related to the volume of sales of such products. Legacy Financial revenue increased $387,000 (18%) primarily due to increases in the volume of sales resulting from a more attractive product mix for Legacy Financial's distribution network of registered representatives. Legacy Financial's total expenses were unchanged during 2002 compared to 2001. Legacy Financial has incurred cumulative losses since its inception in 1995. We have committed to make sufficient contributions to support Legacy Financial's operations through February 2004. Year ended December 31, 2001 compared with year ended December 31, 2000 Legacy Financial incurred net losses of $837,000 during 2001, compared to net losses of $143,000 during 2000, primarily due to decreased revenues and increased expenses. Legacy Financial revenue decreased $829,000 (28%) primarily due to decreases in the volume of sales resulting from adverse market conditions for variable investment products. Legacy Financial's expenses increased $266,000 (8%) primarily due to increases in selling, general and administrative expenses. Selling, general and administrative expenses increased $316,000 (11%) primarily attributable to compensation due to a higher number of employees, and increases in rent and legal fees, partially offset by decreased sales promotion and support expenses. Increased rent expense resulted from our sale in December 2000 of the building that houses Legacy Financial's operations and the subsequent office lease payments made by Legacy Financial to the new building owner. Legal fees increased primarily due to higher legal fees associated with litigation in the normal course of business. Sales promotion and support expenses decreased primarily due to costs incurred in 2000 to purchase sales leads and the discontinuance of a broad-based stock option sales incentive program in 2001. Values Financial Network, Inc. Year ended December 31, 2002 compared with year ended December 31, 2001 Values Financial Network, Inc. incurred net losses of $520,000 during 2002, compared to net losses of $1.2 million during 2001, primarily due to reduced expenses partially offset by lower revenues. Total revenues decreased $38,000 (84%) primarily due to decreased sales leads revenue. Total expenses decreased $1.2 million (58%) in 2002 primarily resulting from the termination of employees and decreased IT consulting fees. Year ended December 31, 2001 compared with year ended December 31, 2000 We purchased Values Financial Network, Inc. in December 2000. During 2001, Values Financial Network incurred net losses of $1.2 million, compared to net losses of $86,000 during 2000, primarily due to expenses incurred during the entity's start-up phase. Imagent Online In 2000, we purchased, through Imagent Online, a 33.3% ownership interest in a development stage company named prospectdigital, LLC ("prospectdigital") for $403,000. In January 2002, we purchased all of the remaining outstanding stock of prospectdigital for $225,000 in cash, a non-recourse note payable in the amount of $75,000 and payable out of the future profits of prospectdigital, and $100,000 of contingent consideration based on future income. Under the terms of the purchase agreement, prospectdigital remained liable for payment of the $1.5 million indebtedness, plus accrued interest, due to us. Prospectdigital is now a wholly owned subsidiary, and the results of prospectdigital's operations have been included in the Consolidated Financial Statements since the date of acquisition. 13 Year ended December 31, 2002 compared with year ended December 31, 2001 Imagent Online had net losses of $648,000 during 2002, compared to net losses of $660,000 during 2001. This favorable change of $12,000 is primarily due to increased revenues at prospectdigital in 2002. As discussed above, prospectdigital's results of operations are included in the Consolidated Financial Statements since our acquisition of it in January 2002. Prior to the acquisition, we accounted for our investment in prospectdigital under the equity method of accounting. Accordingly, our share of prospectdigital's losses during 2001 and 2000 were included in other expenses. Imagent Online had no revenue in 2001 and 2000, and its expenses primarily consisted of its share of prospectdigital's losses. Year ended December 31, 2001 compared with year ended December 31, 2000 Imagent Online recorded net losses of $660,000 during 2001, compared to net losses of $581,000 during 2000, primarily due to increased equity investment losses from its investment in prospectdigital. Other Segments Year ended December 31, 2002 compared with year ended December 31, 2001 During 2002, combined net income from other entities was $61,000, compared to combined net losses of $371,000 in 2001. This favorable change of $432,000 is primarily due to closing the operations of our LifeSurance Corporation subsidiary in late 2001. Year ended December 31, 2001 compared with year ended December 31, 2000 During 2001, combined net losses from other entities were $371,000, compared to combined net losses of $1.1 million in 2000. The reduced net losses are primarily due to the dissolution of our subsidiary LifeSurance Corporation, resulting from a plan announced during the first quarter of 2001. All employees were either terminated or transferred to Legacy Marketing. LifeSurance Corporation was dissolved in December 2001. Liquidity and Capital Resources We require cash for the following purposes: (i) to fund operating expenses, which consist primarily of selling, general and administrative expenses; (ii) to purchase and develop fixed assets, primarily internal use software and computer hardware, in order to increase operational efficiency; (iii) to fund continued product development; and (iv) as a reserve to cover possible redemptions of certain shares of our common stock, which are redeemable at the option of the shareholders. Our primary source of cash is cash flows from operating activities. Net cash provided by operating activities, which includes a series of transactions where we purchased investment securities, was $410,000 for the year ended December 31, 2002. During 2002, we sold equity securities that were classified as available-for-sale. The proceeds from these sales are reflected as cash provided from investing activities. Subsequently, we purchased equity securities that we classified as trading securities. These purchases are reflected as cash used in operating activities. Operating cash flows were also affected by improved operating results. Net cash provided by investing activities was $1.9 million, primarily due to net sales of equity securities as discussed above, offset in part by development of internal use software and our purchase of prospectdigital. Net cash provided by financing activities was $1.1 million. This was primarily due to net proceeds from loans, partially offset by repurchases of our common stock. During 2001, we purchased the office building which houses our headquarters for $10.6 million. In conjunction with the acquisition, we entered into a bridge loan agreement for $4.8 million. In July 2002, we replaced the bridge loan with permanent financing in the amount of $7.4 million. The note is payable over ten years in monthly installments of principal and interest based on a 25-year term. At the end of ten years, we must pay the balance of principal due on the note. For the first five years, the interest rate is 6.95%. Thereafter, the interest rate is equal to LIBOR plus 2.55%, adjusted semi-annually, subject to a maximum semi-annual 1.00% increase/decrease in the interest rate. The maximum interest rate is 10.50%. We are obligated to repurchase certain shares of our common stock. At December 31, 2002 and December 31, 2001, the total redemption value of all redeemable common stock outstanding was $10.1 million and $11.1 million. Cash paid to repurchase some of these shares totaled $964,000 during 2002, and $500,000 during 2001. As the value of our common stock rises, our monetary obligation with respect to the redeemable common stock also increases. 14 We lease office and warehouse premises and certain office equipment under non-cancelable operating leases. As of December 31, 2002, our total contractual cash obligations, including the building financing discussed above, were as follows: Payments Due by Period - --------------------- ------------------ ------------------- ------------------ ------------------- ------------------ Contractual Obligations Total Less than 1 year 1-3 years 4-5 years After 5 years - --------------------- ------------------ ------------------- ------------------ ------------------- ------------------ Long-Term Debt $7,308,000 $ 109,000 $ 241,000 $279,000 $6,679,000 Operating Leases 2,531,000 1,047,000 1,286,000 198,000 -- - --------------------- ------------------ ------------------- ------------------ ------------------- ------------------ Total Contractual Cash Obligations $9,839,000 $1,156,000 $1,527,000 $477,000 $6,679,000 - --------------------- ------------------ ------------------- ------------------ ------------------- ------------------ In 1998, we entered into an agreement with Lynda L. Regan, Chief Executive Officer and Chairman of the Board of Directors. Under the terms of this agreement, in the event of the death of Ms. Regan, we are obligated to repurchase from Ms. Regan's estate all of the shares of our common stock that were owned by Ms. Regan at the time of her death or that were transferred by her to one or more trusts prior to her death. The purchase price to be paid by us shall be equal to 125% of the fair market value of the shares. The purchase price was equal to $28 million at December 31, 2002. We have purchased two life insurance policies with a combined face amount of $29 million for the purpose of funding this obligation in the event of Ms. Regan's death. Management intends to continue to retain any earnings for use in its business and does not anticipate paying any cash dividends in the foreseeable future. We generated $410,000 and $10.9 million of cash flow from operations in 2002 and 2001. However, if requests to repurchase redeemable common stock increase significantly, a cash shortfall could ultimately occur. Management believes that existing cash and investment balances, together with anticipated cash flow from operations, will provide sufficient funding for the foreseeable future. However, in the event that a cash shortfall were to occur, management believes that adequate financing could be obtained to meet our cash flow needs. There can be no assurances that such financing would be available on favorable terms. Recent Accounting Pronouncements In June 2002, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146"). SFAS 146 nullifies Emerging Issues Task Force Issue No. 94-3 ("EITF 94-3"), "Liability Recognition for Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)." SFAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. Under EITF 94-3, a liability for an exit cost was recognized at the date of an entity's commitment to an exit plan. The provisions of SFAS 146 are effective for exit or disposal activities that are initiated after December 31, 2002. Our management anticipates that the implementation of SFAS 146 will not have a material effect on our consolidated results of operations or financial position. In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees and Indebtedness of Others". This interpretation requires the initial recognition and initial measurement, on a prospective basis only, to guarantees issued or modified after December 31, 2002. The Company anticipates that the implementation of this interpretation will not have a material effect on its 2003 consolidated results of operations or financial position. RISK FACTORS RISKS RELATED TO OUR COMPANY We have experienced losses in recent years and if losses continue, our business could suffer. We had a $60,000 net loss for the year ended December 31, 2002, and net losses of $348,000 and $3.6 million for the years ended December 31, 2001 and 2000. We intend to continue to invest in marketing, operations, technology, and product development. As a result, we will need to generate increases in revenue and reduce our operating costs to achieve profitability. If we fail to improve our operating results, our financial condition and prospects could be weakened. 15 We depend on a limited number of sources for our products, and any interruption, deterioration, or termination of the relationship with any of our insurance carriers could be disruptive to our business and harm our results of operations and financial condition. Legacy Marketing has marketing agreements with Transamerica Life Insurance and Annuity Company, American National Insurance Company, John Hancock Variable Life Insurance Company, and Investors Insurance Corporation. Legacy Marketing has also entered into administrative agreements with each of the four insurance carriers, and IL Annuity and Insurance Company, whose marketing agreement terminated during the first quarter of 2002. During 2002, 52%, 17%, 12%, and 8% of our total consolidated revenue resulted from agreements with Transamerica, American National, IL Annuity, and John Hancock. In December 2001, Legacy Marketing and IL Annuity agreed that the IL Annuity product mix being marketed by Legacy Marketing did not provide a sufficient rate of return to IL Annuity. Accordingly, Legacy Marketing began phasing out the marketing of IL Annuity products. The phase-out was completed during the first quarter of 2002. A number of policyholders continue to hold IL Annuity products, however, which require certain administrative services. Legacy Marketing continues to administer IL Annuity products under the terms of an administrative services agreement with IL Annuity and intends to continue doing so for the foreseeable future. In June 2002, Legacy Marketing entered into marketing and administrative services agreements with Investors Insurance Corporation, an unaffiliated insurance carrier. Under these agreements, Legacy Marketing will sell and administer annuity products on behalf of Investors Insurance Corporation. Legacy Marketing has an option to buy Investors Insurance Corporation within the next five years. Sales on behalf of Investors Insurance Corporation began in June 2002. In November 2002, we announced a strategic plan to consolidate the life and annuity product portfolio marketing business of Legacy Marketing. We believe this product consolidation will allow Legacy Marketing to focus its resources more efficiently. Legacy Marketing discontinued marketing life insurance products issued by American National effective during the first quarter of 2003. These products accounted for a nominal amount of revenue during each of the years ending December 31, 2002, 2001, and 2000. Legacy Marketing will continue to administer American National life insurance products, including acceptance of renewal premium. Certain Legacy Marketing employees who were supporting the life insurance product operations were either terminated or reassigned to other positions in Legacy Marketing. In addition, Legacy Marketing discontinued the marketing of several annuity products issued by Transamerica during the first quarter of 2003. Legacy Marketing will continue to administer these annuity products and to accept additional premium payments, subject to applicable additional deposit rules for these products. The discontinued products accounted for approximately 31%, 59%, and 45% of our total consolidated revenue for the years ended December 31, 2002, 2001, and 2000. The marketing agreement with American National expires November 15, 2007, and the administrative agreement with American National expires on February 15, 2008. Both agreements may be renewed by mutual agreement for successive one-year terms. The agreements may be terminated by either party upon twelve months prior written notice without cause, and may be terminated by either party immediately for cause. The marketing and administrative agreements with Transamerica and John Hancock do not have fixed terms but may be terminated by either party upon twelve months prior written notice without cause, and may be terminated by either party immediately for cause. Any interruption, deterioration, or termination of the relationship with any of our insurance carriers could be disruptive to our business and harm our results of operations and financial condition. If we fail to attract and retain key personnel, our business, operating results, and financial condition could be diminished. Our success depends largely on the skills, experience and performance of certain key members of our management. In the recent past, we have been successful at attracting and retaining key personnel. We have no agreements with these individuals requiring them to maintain their employment with us. If we lose one or more of these key employees, particularly Lynda L. Regan, Chairman of the Board and Chief Executive Officer, or 16 R. Preston Pitts, President, Chief Operating Officer and Secretary, our business, operating results, and financial condition could be diminished because we rely on their contacts, insurance carrier and Producer relationships, and strategic direction to drive our revenues. However, we are not aware of any key personnel who are planning to retire or leave our company in the near future. Although we maintain and are the beneficiary of key person life insurance policies on the lives of Lynda L. Regan and R. Preston Pitts, we do not believe the proceeds would be adequate to compensate us for their loss. Our success also depends on our continued ability to attract, retain, and motivate highly skilled employees. In the recent past, we have been successful attracting and retaining highly skilled personnel. Competition for employees in our industry is intense, particularly for personnel with training and experience. We may be unable to retain our highly skilled employees or to attract, assimilate, or retain other highly qualified employees in the future. Our performance will depend on the continued growth of Legacy Marketing. If Legacy Marketing fails to grow, our financial performance could suffer. Our growth is, and for the foreseeable future will continue to be, dependent on Legacy Marketing's ability to design, market and administer fixed annuity products. The ability of Legacy Marketing to successfully perform these services could be affected by many factors, including: o The ability of Legacy Marketing to recruit, train, and motivate Producers. o The degree of market acceptance of the products marketed on behalf of our insurance carriers. o The relationship between Legacy Marketing and our insurance carriers. o The failure of Legacy Marketing to comply with federal, state and other regulatory requirements applicable to the sale or administration of insurance products. o Competition from other financial services companies in the sale and administration of insurance products. A large percentage of our revenue is derived from sales of fixed annuities. The historical crediting rates of fixed annuities are directly affected by financial market conditions. Changes in market conditions can affect demand for these annuities. Our future success depends on our ability to introduce and market new products and services that are financially attractive and address our customers' changing demands. We may experience difficulties that delay or prevent the successful design, development, introduction, marketing, or administration of our products and services. These delays may cause customers to forego purchases of our products and services and instead purchase those of our competitors. The failure to be successful in our sales efforts could significantly decrease our revenue and operating results, resulting in weakened financial condition and prospects. We may be unable to effectively fund our working capital requirements, which could harm our operating results and earnings. If our cash inflows and existing cash and investments become insufficient to support future operating requirements or the redemption of our common stock, we will need to obtain additional funding either by incurring additional debt or issuing equity to investors in either the public or private capital markets. Our cash flows are primarily dependent upon the commissions we receive based on the premium generated from the sale of annuity products that we sell. The market for these products is extremely competitive. New products are constantly being developed to replace existing products in the marketplace. If we are unable to keep pace with the development of such new products, our cash inflows could decrease. Due to this changing environment in which we operate, we are unable to predict whether our cash inflows will be sufficient to support future operating requirements. Our failure to obtain additional funding when needed could delay new product introduction or business expansion opportunities which could cause a decrease in our operating results and financial condition. We are unaware of any material limitations on our ability to obtain additional funding. If additional funds are raised through the issuance of equity securities, the ownership percentage of our then-current shareholders would be reduced. Furthermore, any equity securities issued in the future may have rights, preferences, or privileges senior to that of our existing common stock. Significant repurchases of our common stock could materially decrease our cash position. 17 As of December 31, 2002, we are obligated to redeem 3,822,000 shares of Series A Common Stock at the option of the holders of these shares. Of the 560,000 shares of Series B Common Stock outstanding, we are obligated to redeem up to 10% of these shares at the option of the holders of these shares, limited to a specified twenty-day period each year. The price per share is based on the estimated fair market value of the stock on the redemption date. The redemption of all eligible shares during 2003 would require $8.5 million, which would materially decrease our cash position. RISKS RELATED TO OUR INDUSTRY We may not be able to compete successfully with competitors that may have greater resources than we do. The annuity business is rapidly evolving and intensely competitive. Legacy Marketing's primary market is fixed annuities sold through independent producers. In addition, Legacy Marketing administers the products sold by Producers on behalf of the issuing insurance carriers. Fixed annuity sales in the United States were approximately $94 billion in 2002. Some of Legacy Marketing's top competitors selling fixed annuities through independent sales channels are Allianz Life of North America, Midland National Life Insurance Company, American Equity Investment Life, the North American Company for Life and Health Insurance, the AmerUs Group, and Jackson National Life Insurance Company. These competitors may have greater financial resources than we do. However, our business model allows us greater flexibility, as we can adjust the mix of business sold if one or more of our carriers were to experience capital constraints or other events that affect their business models. Our competitors may respond more quickly than us to new or emerging products and changes in customer requirements. We are not aware of any significant new means of competition, products or services that our competitors provide or will soon provide. However, in the highly competitive fixed annuity marketplace, new distribution models, product innovations and technological advances may occur at any time and could present us with competitive challenges. There can be no assurance that we will be able to compete successfully. In addition, our business model relies on Producers to effectively market our products competitively. Maintaining relationships with these Producers requires introducing new products to the market in an efficient and timely manner, offering competitive commission schedules, and providing superior marketing, training, and support. In the recent past, we have been reasonably successful in attracting and retaining Producers. We are not aware of any top Producers who are planning to discontinue marketing our products. Due to competition among insurance companies and insurance marketing organizations for successful producers, there can be no assurance that we will be able to retain some or all of our top Producers. We may face increased governmental regulation and legal uncertainties, which could result in diminished financial performance. State insurance regulators and the National Association of Insurance Commissioners continually reexamine existing laws and regulations, and may impose changes in the future that materially adversely affect our business, results of operations and financial condition. In particular, rate rollback legislation and legislation to control premiums, policy terminations and other policy terms may affect the marketability of policies or the amount of premiums that can be charged for such policies, and thus the commissions we can earn. Also, recently a committee of Congress has been considering, in general, the advisability of enacting federal statutes providing for the regulation of insurance. Although there is not yet a specific proposal, additional regulation at the federal level could affect our business, results of operations and financial condition. Legacy Financial is registered as a broker-dealer with, and is subject to regulation by, the SEC, NASD, and Municipal Securities Rulemaking Board. This regulation covers matters such as capital requirements, recordkeeping and reporting requirements, and employee-related matters, including qualification and licensing of supervisory and sales personnel. Any proceeding alleging violation of, or noncompliance with, laws and regulations applicable to us or our subsidiaries could harm our business, financial condition, results of operations, and business prospects. In addition, changes in federal legislation, state legislation, court decisions and administrative policies could significantly and adversely affect the insurance industry generally and our business in particular. Adverse changes in tax laws could diminish the marketability of most of our products, resulting in decreased revenue. Under the Internal Revenue Code of 1986, as amended, income tax payable by policyholders on investment earnings is deferred during the accumulation period of most of the annuity products that we market. This favorable income tax treatment results in our policyholders paying no income tax on their earnings in the annuity products until they take a cash distribution. We believe that the tax deferral features contained within the annuity products that we market give our products a competitive advantage over other non-insurance investment products where income taxes may be due on current earnings. The President of the United States is currently advocating the 18 establishment of tax-deferred savings plans which would offer taxpayers the ability to contribute amounts substantially greater than IRA plans allow. If these plans are enacted, or if the tax code is revised to reduce the tax-deferred status of annuity products or to increase the tax-deferred status of competing products, our business could be adversely impacted because our competitive advantage could be weakened. In addition, some products that we sell receive favorable estate tax treatment under the tax code. If the tax code is revised to change existing estate tax laws, our business could be adversely affected. We cannot predict other future tax initiatives that the President or Congress may propose that may affect us. We operate in an industry in which there is significant risk of litigation. Substantial claims against us could diminish our financial condition or results of operations. As a professional services firm primarily engaged in marketing and administration of annuity products, we encounter litigation in the normal course of business. Although it is difficult to predict the ultimate outcome of these cases, management believes, based on discussions with legal counsel, that the ultimate disposition of these claims will not have a material adverse effect on our financial condition, cash flows or results of operations. In addition, companies in the life insurance industry have been subject to substantial claims involving sales practices, agent misconduct, failure to properly supervise agents, and other matters in connection with sales of life insurance, annuities, and other investment products. Increasingly, these lawsuits have resulted in the award of substantial judgments, including material amounts of punitive damages that are disproportionate to the actual damages. In some states juries have substantial discretion in awarding punitive damages that creates the potential for material adverse judgments in litigation. If any similar lawsuit or other litigation is brought against us, such proceedings may materially harm our business, financial condition, or results of operations. Item 7a. Quantitative and Qualitative Disclosure About Market Risk Our investments are categorized as trading or available-for-sale securities. Investments in fixed income instruments carry a degree of market risk. Market risk represents the potential for losses due to adverse changes in the fair market value of financial investments. The market risks faced by us relate primarily to our investment portfolio, which exposes us to risks related to interest rates, credit quality and equity prices. Interest rate risk is the price sensitivity of a fixed income security to changes in interest rates. The following table provides information about our fixed income investments, which are sensitive to changes in interest rates. Listed below are cash flows from principal amounts and related weighted average interest rates by expected maturity dates for fixed income investments held at December 31, 2002 and 2001. Actual cash flows could differ from expected amounts. Amortized Estimated December 31, 2002 2003 2004 2005 2006 2007 Thereafter Cost Fair Value ----------------- ---- ---- ---- ---- ---- ---------- ---- ---------- Fixed maturities $4,588,000 $-- $-- $-- $-- $340,000 $4,928,000 $4,890,000 Average interest rate 4.58% -- -- -- -- 7.03% Amortized Estimated December 31, 2001 2002 2003 2004 2005 2006 Thereafter Cost Fair Value ----------------- ---- ---- ---- ---- ---- ---------- ---- ---------- Fixed maturities $515,000 $6,407,000 $417,000 $-- $-- $1,025,000 $8,364,000 $8,243,000 Average interest rate 4.00% 4.53% 5.10% -- -- 7.03% We invest in marketable securities which are predominately investment grade. As a result, we believe we have minimal exposure to credit risk. Equity price risk is the potential loss arising from changes in the value of equity securities. In general, equity securities have more year-to-year price variability than intermediate term high-grade bonds. However, returns over longer time frames have been consistently higher. Our equity securities consist primarily of investments in mutual funds. As a result of unfavorable market conditions related to our mutual fund investments, the fair value of 19 our equity securities is below original cost at December 31, 2002 and 2001. The original cost and fair values of our marketable equity securities are shown below: Original Cost Fair Value ------------- ---------- December 31, 2002 $ 5,295,000 $ 4,261,000 December 31, 2001 $ 5,018,000 $ 4,328,000 All of the above risks are monitored on an ongoing basis. A combination of in-house review and consultation with our investment broker is used to analyze individual securities, as well as the entire portfolio. 20 Item 8. Financial Statements and Supplementary Data REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Shareholders of Regan Holding Corp. In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, shareholders' equity and cash flows present fairly, in all material respects, the financial position of Regan Holding Corp. and its subsidiaries (the "Company") at December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002 in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. As discussed in Note 1, the Company changed its method of recognizing revenue for contracts with sales obligation provisions in accordance with Staff Accounting Bulletin 101, Revenue Recognition in Financial Statements, during the year ended December 31, 2000, and changed its method of accounting for goodwill and other intangible assets in accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, during the year ended December 31, 2002. /s/ PricewaterhouseCoopers LLP San Francisco, California March 27, 2003 21 REGAN HOLDING CORP. AND SUBSIDIARIES Consolidated Balance Sheet December 31, 2002 2001 ------------- ------------ Assets Cash and cash equivalents $ 4,793,000 $ 1,376,000 Trading investments 4,261,000 - Available-for-sale investments 4,890,000 12,571,000 Accounts receivable, net of allowance of $702,000 and $348,000 at December 31, 2002 and 2001 3,180,000 2,733,000 Prepaid expenses and deposits 2,122,000 1,057,000 Income taxes receivable - 76,000 ------------- ------------ Total current assets 19,246,000 17,813,000 ------------- ------------ Net fixed assets 25,841,000 24,047,000 Deferred tax assets 1,715,000 1,529,000 Goodwill, net 1,170,000 1,170,000 Intangible assets, net 332,000 200,000 Other assets 1,649,000 1,501,000 ------------- ------------ Total non current assets 30,707,000 28,447,000 ------------ ------------ Total assets $ 49,953,000 $ 46,260,000 ============= ============ Liabilities, redeemable common stock, and shareholders' equity Liabilities Accounts payable and accrued liabilities $ 8,812,000 $ 8,302,000 Income taxes payable 2,327,000 -- Loan payable -- 4,750,000 Current portion of note payable 109,000 -- ------------- ------------ Total current liabilities 11,248,000 13,052,000 ------------- ------------ Deferred compensation payable 4,241,000 4,356,000 Other liabilities 190,000 222,000 Note payable, less current portion 7,199,000 -- ------------- ------------ Total non current liabilities 11,630,000 4,578,000 ------------- ------------ Total liabilities 22,878,000 17,630,000 ------------- ------------ Redeemable common stock, Series A and B 10,115,000 11,124,000 ------------- ------------ Shareholders' equity Preferred stock, no par value: Authorized: 100,000,000 shares; no shares issued or outstanding -- -- Series A common stock, no par value: Authorized: 45,000,000 shares; issued and outstanding: 20,495,000 and 20,769,000 at December 31, 2002 and 2001 3,324,000 3,596,000 Common stock committed 25,000 25,000 Paid-in capital 6,499,000 6,424,000 Retained earnings 7,135,000 7,405,000 Accumulated other comprehensive income (loss) (23,000) 56,000 ------------- ------------ Total shareholders' equity 16,960,000 17,506,000 ------------- ------------ Total liabilities, redeemable common stock and shareholders' equity $ 49,953,000 $ 46,260,000 ============= ============ See notes to financial statements. 22 REGAN HOLDING CORP. AND SUBSIDIARIES Consolidated Statement of Operations For the Year Ended December 31, 2002 2001 2000 ----------- ----------- ----------- Revenue Marketing allowances $21,178,000 $25,527,000 $17,525,000 Commissions 16,044,000 17,304,000 13,841,000 Administrative fees 12,007,000 11,700,000 9,550,000 Other income 820,000 678,000 1,516,000 ----------- ----------- ----------- Total revenue 50,049,000 55,209,000 42,432,000 ----------- ----------- ----------- Expenses Selling, general and administrative 43,521,000 47,575,000 45,590,000 Depreciation and amortization 4,339,000 4,578,000 3,518,000 Other 2,859,000 3,459,000 2,730,000 ----------- ----------- ----------- Total expenses 50,719,000 55,612,000 51,838,000 ----------- ----------- ----------- Operating loss (670,000) (403,000) (9,406,000) Other income (loss) Investment income (loss), net 652,000 (125,000) 999,000 Interest expense (76,000) (40,000) (260,000) Gain on sale of building -- -- 3,574,000 ----------- ----------- ----------- Total other income (loss) 576,000 (165,000) 4,313,000 Loss before income taxes and cumulative effect of accounting change (94,000) (568,000) (5,093,000) Income tax benefit (34,000) (220,000) (1,755,000) ----------- ----------- ----------- Net loss before cumulative effect of accounting Change (60,000) (348,000) (3,338,000) Cumulative effect of accounting change, net of tax -- -- (226,000) ----------- ----------- ----------- Net loss $ (60,000) $ (348,000) $(3,564,000) ============ =========== =========== Basic and diluted loss per share: Loss before cumulative effect of accounting change $ -- $ (0.01) $ (0.13) Accretion of redeemable common stock -- (0.02) (0.02) ----------- ----------- ----------- Loss available to common shareholders before cumulative effect of accounting change -- (0.03) (0.15) Cumulative effect of accounting change -- -- (0.01) ----------- ----------- ----------- Basic and diluted loss available to common shareholders $ -- $ (0.03) $ (0.16) =========== =========== =========== Weighted average shares outstanding 25,093,000 25,861,000 26,238,000 See notes to financial statements. 23 REGAN HOLDING CORP. AND SUBSIDIARIES Consolidated Statement of Shareholders' Equity Series A Common Stock Accumulated --------------------------------------- Other Common Stock Paid-in Retained Comprehensive Shares Amount Committed Capital Earnings Income (Loss) Total ------ ------ ------------ ------- -------- ------------- ----- Balance December 31, 1999 20,863,000 $3,659,000 $ -- $5,204,000 $12,385,000 $ (572,000) $20,676,000 Comprehensive Loss, net of tax: Net loss (3,564,000) (3,564,000) Net unrealized gains on investments 72,000 72,000 Less: Reclassification adjustment for losses included in net loss (11,000) (11,000) ----------- Total comprehensive loss (3,503,000) Accretion to redemption value (495,000) (495,000) Retirement upon voluntary repurchases of common stock (86,000) (89,000) (82,000) (171,000) Issuance of common stock 27,000 26,000 26,000 Common stock committed 66,000 100,000 100,000 Producer stock option expense 1,114,000 1,114,000 ---------- ---------- --------- ----------- ----------- ----------- ----------- Balance December 31, 2000 20,870,000 3,596,000 100,000 6,318,000 8,244,000 (511,000) 17,747,000 Comprehensive income, net of tax: Net loss (348,000) (348,000) Net unrealized gains on investments 1,036,000 1,036,000 Less: Reclassification adjustment for losses included in net loss (469,000) (469,000) ----------- Total comprehensive income 219,000 Retirement upon voluntary repurchases of common stock (149,000) (150,000) (94,000) (244,000) Retirement upon mandatory redemption 10,000 10,000 Accretion to redemption value (397,000) (397,000) Issuance of common Stock committed 33,000 150,000 (150,000) - Common stock committed 15,000 75,000 75,000 Producer stock option expense 96,000 96,000 ---------- ---------- --------- ----------- ----------- ----------- ----------- Balance December 31, 2001 20,769,000 3,596,000 25,000 6,424,000 7,405,000 56,000 17,506,000 24 Comprehensive loss, net of tax: Net loss (60,000) (60,000) Net unrealized losses on investments (211,000) (211,000) Less: Reclassification adjustment for gains included in net loss 132,000 132,000 ----------- Total comprehensive loss (139,000) Retirement upon voluntary repurchases of common stock (274,000) (272,000) (184,000) (456,000) Retirement upon mandatory redemption 71,000 71,000 Accretion to redemption value (26,000) (26,000) Producer stock option expense 4,000 4,000 ---------- ---------- --------- ----------- ----------- ----------- ----------- Balance December 31, 2002 20,495,000 $3,324,000 $ 25,000 $ 6,499,000 $7,135,000 $ (23,000) $16,960,000 ========== ========== ========= =========== =========== =========== =========== See notes to financial statements. 25 REGAN HOLDING CORP. AND SUBSIDIARIES Consolidated Statement of Cash Flows For the Year Ended December 31, 2002 2001 2000 ------------- ------------- ----------- Cash flows from operating activities: Net loss $ (60,000) $ (348,000) $ (3,564,000) Adjustments to reconcile net loss to net cash provided by operating activities: Depreciation and amortization 4,339,000 4,578,000 3,518,000 Loss (gain), on sale or disposal of fixed assets 255,000 381,000 (3,850,000) Provision for bad debts 393,000 342,000 369,000 Losses on equity investee -- 896,000 721,000 Common stock awarded to non-employees -- 75,000 100,000 Producer stock option expense 4,000 96,000 1,114,000 Investment impairment loss -- 642,000 -- Amortization (accretion) of investments 76,000 47,000 (138,000) Realized (gains) losses on sales of investments, net (219,000) 138,000 18,000 Unrealized losses on trading securities, net 1,034,000 -- -- Changes in operating assets and liabilities: Purchases of trading securities, net (5,276,000) -- -- Accounts receivable (840,000) (1,003,000) 200,000 Prepaid expenses and deposits (1,065,000) 236,000 (201,000) Income taxes receivable and payable 2,403,000 3,585,000 (767,000) Deferred tax assets (134,000) (133,000) 1,666,000 Accounts payable and accrued liabilities 510,000 15,000 (251,000) Deferred compensation payable (115,000) 1,359,000 1,632,000 Other operating assets and liabilities (895,000) 14,000 (319,000) ------------- ------------- ----------- Net cash provided by operating activities 410,000 10,920,000 248,000 ------------- ------------- ----------- Cash flows from investing activities: Purchases of available-for-sale securities (959,000) (10,150,000) (7,687,000) Proceeds from sales and maturities of available-for-sale securities 8,633,000 8,049,000 18,415,000 Proceeds from building sale -- -- 8,400,000 Proceeds from (issuance of) note receivable -- 5,750,000 (5,750,000) Purchases of fixed assets (5,580,000) (16,458,000) (5,635,000) Acquisition of Values Financial Network assets -- (2,350,000) Acquisition of prospectdigital assets (225,000) -- -- Equity in and advances to investee -- (358,000) (1,503,000) ------------- ------------- ----------- Net cash provided by (used in) investing activities 1,869,000 (13,167,000) 3,890,000 ------------- ------------- ----------- Cash flows from financing activities: Proceeds from loans payable 5,321,000 5,250,000 4,600,000 Payments toward loans payable (10,071,000) (2,765,000) (6,985,000) Proceeds from note payable 7,350,000 -- -- Payments toward note payable (42,000) -- -- Repurchases of redeemable common stock (964,000) (500,000) (821,000) Voluntary repurchases of common stock (456,000) (244,000) (171,000) Proceeds from stock option exercises -- -- 26,000 ------------- ------------- ----------- Net cash provided by (used in) in financing activities 1,138,000 1,741,000 (3,351,000) ------------- ------------- ----------- Net increase (decrease) in cash and cash equivalents 3,417,000 (506,000) 787,000 Cash and cash equivalents, beginning of period 1,376,000 1,882,000 1,095,000 ------------- ------------- ----------- Cash and cash equivalents, end of period $ 4,793,000 $ 1,376,000 $ 1,882,000 ============= ============= =========== Supplemental cash flow information: Taxes Paid $ 7,000 $ 14,000 $ -- Interest Paid $ 411,000 $ 180,000 $ 224,000 See notes to financial statements. 26 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS REGAN HOLDING CORP. AND SUBSIDIARIES 1. Organization and Summary of Significant Accounting Policies a. Organization Regan Holding Corp. (the "Company") is a holding company, incorporated in California in 1990, whose primary operating subsidiaries are Legacy Marketing Group ("Legacy Marketing") and Legacy Financial Services, Inc. ("Legacy Financial"). Legacy Marketing has marketing agreements with Transamerica Life Insurance and Annuity Company ("Transamerica"), American National Insurance Company ("American National"), John Hancock Variable Life Insurance Company ("John Hancock"), and Investors Insurance Corporation (the "carriers"). During 2002, Legacy Marketing terminated its marketing agreement with IL Annuity and Insurance Company ("IL Annuity"). The marketing agreements grant Legacy Marketing the exclusive right to market certain fixed annuity products issued by the carriers (the "policies"). In addition, Legacy Marketing is responsible for appointing independent insurance producers who contract with Legacy Marketing to sell policies. The highest producers are referred to as wholesalers. For providing these services, the carriers pay Legacy Marketing commissions and marketing allowances. Legacy Marketing also has administrative agreements with the carriers (including IL Annuity) pursuant to which Legacy Marketing provides clerical, administrative, and accounting services with respect to the policies. These services include billing, collecting and remitting premium for the policies. For providing these services, the carriers pay Legacy Marketing administrative fees. Through its wholly-owned broker-dealer subsidiary, Legacy Financial, the Company sells variable annuity and life insurance products, mutual funds and debt and equity securities. Legacy Financial has entered into sales agreements with investment companies that give it the non-exclusive right to sell investment products on behalf of those companies. Sales of investment products are conducted through Legacy Financial's network of independent registered representatives. b. Basis of Presentation The consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States of America and include the accounts of Regan Holding Corp. and its subsidiaries after elimination of intercompany accounts and transactions. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from those estimates. c. Revenue Recognition When a policyholder remits a premium payment with an accurate and completed application for an insurance policy, the policy is considered inforce and Legacy Marketing recognizes marketing allowances and commission income. Legacy Marketing's carriers grant policyholders a contractual right to terminate the insurance contract ten to thirty days after a policy is placed inforce. This return period varies depending on the carrier, the type of policy and the jurisdiction in which the policy is sold. Legacy Marketing gathers historical product return data that does not vary significantly from quarter to quarter, and has historically been predictive of future events. Returns are estimated using this data and have been reflected in the Consolidated Financial Statements. Legacy Marketing recognizes administrative fees on a per transaction basis as services are performed, with the amount of the fee depending on the type of policy and type of service. 27 Legacy Financial recognizes commission revenue when clients remit payment with a signed and completed variable annuity or investment contract. Under the terms of the sales agreements between Legacy Financial and various investment companies, Legacy Financial is compensated based upon predetermined percentages of actual sales levels. Effective January 1, 2000, the Company changed its revenue recognition policy in order to comply with SEC Staff Accounting Bulletin No. 101 with respect to a production premium deficiency requirement under one of its marketing agreements. This change is reflected in the statement of operations as a cumulative effect of accounting change of $226,000, net of taxes of $149,000, during the year ended December 31, 2000. d. Cash and Cash Equivalents Cash and cash equivalents include marketable securities with an original maturity of ninety days or less. e. Investments The Company's investments are classified as available-for-sale or trading securities and are carried at fair value. For available-for-sale securities, unrealized gains and losses, net of the related tax effect, are reported as a separate component of shareholders' equity. For trading securities, unrealized gains and losses are reported in Selling, general and administrative expenses. Premiums and discounts are amortized or accreted over the life of the related investment as an adjustment to yield using the effective interest method. Interest income is recognized when earned. Realized gains and losses on sales of investments are recognized in the period sold using the specific identification method for determining cost. Investments classified as available-for-sale are periodically reviewed to determine if declines in fair value below cost are other-than-temporary. Significant and sustained decreases in quoted market prices, a series of historical and projected operating losses by the investee or other factors are considered as part of the review. If the decline in fair value has been determined to be other-than-temporary, an impairment loss is recorded in Investment income and the individual security is written down to a new cost basis. f. Fixed Assets Fixed assets are stated at cost, less accumulated depreciation and amortization. The Company capitalizes consulting fees, and salaries and benefits for employees who are directly associated with the development of software for internal use when both of the following occur: o The preliminary project stage is completed and therefore the project is in the application development stage; and o Management authorizes and commits to funding a software project and it is probable that the project will be completed and the software will be used to perform the function desired. Modifications or enhancements made to an existing software product that result in additional functionality are also capitalized. When the new software is placed in production, we begin amortizing the asset over its estimated useful life. Training and maintenance costs are accounted for as expenses as they occur. Depreciation is computed using the straight-line method over the estimated useful life of each type of asset, as follows: Computer hardware and purchased software 3-5 years Internal use software development costs 3-5 years Leasehold improvements 2-10 years Furniture and equipment 5 years Building 40 years 28 g. Goodwill and Other Intangible Assets Goodwill and Other Intangible assets were acquired in the Company's purchase of Values Financial Network, Inc. in 2000 and prospectdigital, LLC in 2002. Prior to January 1, 2002, goodwill was amortized on a straight-line basis over 10 years, which is its estimated useful life. Pursuant to Statement of Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets," the Company ceased amortizing goodwill beginning January 1, 2002 (see Note 4). As required by SFAS 142, the Company performed a transitional and annual goodwill impairment test during 2002, and determined that goodwill was not impaired. Intangible assets are amortized on a straight-line basis over their estimated useful lives of 5 years. h. Impairment of Long-Lived Assets In accordance with Statement of Accounting Standards ("SFAS") No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," the Company reviews long-lived assets and intangible assets for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. Measurement of the impairment of long-lived assets is based upon management's estimate of undiscounted future cash flows. We periodically review capitalized internal use software to determine if the carrying value is fairly stated. If our review determines that future cash flows directly related to the software or the business unit of which it is a part, as applicable, are insufficient, or if new technology indicates that the value of replacement software is less than our carrying value, we record an impairment loss. If software in development is abandoned, the Company takes a charge to write off the capitalized amount in the period the decision is made to abandon it. i. Redeemable Common Stock Redeemable common stock is carried at the greater of the issuance value or the redemption value. Periodic adjustments to reflect increases or decreases in redemption value are recorded as accretion, with an offsetting adjustment to retained earnings. j. Income Taxes The Company provides deferred taxes based on the enacted tax rates in effect on the dates temporary differences between the book and the tax bases of assets and liabilities reverse. k. Stock Options At December 31, 2002, the Company has a stock-based employee compensation plan (see Note 12) and accounts for this plan under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related Interpretations. No stock-based employee compensation cost is reflected in net loss, as all options granted under the plan had an exercise price equal to the fair market value of the underlying common stock on the date of grant. The following table illustrates the effect on net loss and loss per share if the Company had applied the fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," to stock-based employee compensation: 2002 2001 2000 ---- ---- ---- Net loss, as reported: $ (60,000) $(348,000) $(3,564,000) Deduct: Total stock-based employee compensation expense determined under fair value method for all awards, net of related tax effects (478,000) (411,000) (414,000) --------- --------- ----------- Pro forma net loss $(538,000) $(759,000) $(3,978,000) Basic and diluted loss per share: As reported $ - $ (0.03) $ (0.16) Pro forma $ (0.02) $ (0.04) $ (0.17) 29 The fair value of the employee option grants for pro forma disclosure purposes was estimated using the minimum value method, with the following assumptions: 2002 2001 2000 ------------ ------------ -------- Risk-free interest rates 4.08%-4.52% 4.50%-4.88% 5.92%-6.67% Expected life 4 years 3-5 years 3-5 years Dividend yield None None None l. Accounting Pronouncement to be Adopted Subsequent to December 31, 2002 In June 2002, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 146, "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS 146"). SFAS 146 nullifies Emerging Issues Task Force Issue No. 94-3 ("EITF 94-3"), "Liability Recognition for Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)." SFAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. Under EITF 94-3, a liability for an exit cost was recognized at the date of an entity's commitment to an exit plan. The provisions of SFAS 146 are effective for exit or disposal activities that are initiated after December 31, 2002. The Company's management anticipates that the implementation of SFAS 146 will not have a material effect on its consolidated results of operations or financial position. In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees and Indebtedness of Others". This interpretation requires the initial recognition and initial measurement, on a prospective basis only, to guarantees issued or modified after December 31, 2002. The Company anticipates that the implementation of this interpretation will not have a material effect on its 2003 consolidated results of operations or financial position. 2. Investments Maturity in years: ------------------------------------------------------------------------- 1 to 5 5 to 10 Longer Than Years Years 10 Years Other Total ---------- ----------- ---------- ---------- ----------- December 31, 2002 Corporate bonds $4,588,000 $ -- $ 340,000 $ -- $ 4,928,000 Mutual funds -- -- -- 5,295,000 5,295,000 ---------- ----------- ---------- ---------- ----------- Amortized cost 4,588,000 -- 340,000 5,295,000 10,223,000 Gross unrealized gains 4,000 -- -- -- 4,000 Gross unrealized losses -- -- (42,000) (1,034,000) (1,076,000) ---------- ----------- ---------- ---------- ----------- Fair value $4,592,000 $ -- $ 298,000 $4,261,000 $ 9,151,000 ========== =========== ========== ========== =========== December 31, 2001 Corporate bonds $7,339,000 $ -- $1,025,000 $ -- $ 8,364,000 Mutual funds -- -- -- 4,376,000 4,376,000 ---------- ----------- ---------- ---------- ----------- Amortized cost 7,339,000 -- 1,025,000 4,376,000 12,740,000 Gross unrealized gains 8,000 -- -- -- 8,000 Gross unrealized losses -- -- (129,000) (48,000) (177,000) ---------- ----------- ---------- ---------- ----------- Fair value $7,347,000 $ -- $ 896,000 $4,328,000 $12,571,000 ========== =========== ========== ========== =========== 2002 2001 2000 ----------- ---------- ---------- Gross realized gains $ 281,000 $ 92,000 $ 144,000 Gross realized losses $ (62,000) $ (230,000) $ (162,000) During 2001, the Company determined that certain investment securities had other-than-temporary declines in fair value below cost. As a result, the Company recorded impairment losses of $642,000, and the individual securities were written down to a new cost basis. 30 3. Fixed Assets December 31, ------------------------- 2002 2001 ------------ ----------- Computer hardware and purchased software $ 7,796,000 $ 7,340,000 Internal use software development costs 16,345,000 10,996,000 Leasehold improvements 1,324,000 1,260,000 Furniture and equipment 3,169,000 3,174,000 Building 7,798,000 7,780,000 Land 2,703,000 2,689,000 ------------ ----------- 39,135,000 33,239,000 Accumulated depreciation and amortization (13,294,000) (9,192,000) ------------ ----------- Total $ 25,841,000 $24,047,000 ============ =========== 4. Goodwill and Other Intangible Assets On January 1, 2002, the Company adopted SFAS 142, which eliminates the requirement to amortize goodwill and indefinite-lived intangible assets, addresses the amortization of intangible assets with a defined life and addresses the impairment testing and recognition for goodwill and intangible assets. As of December 31, 2002, the balance of intangible assets included $1.2 million of goodwill related to the Company's purchase of Values Financial Network, Inc. in December 2000 that was being amortized over ten years prior to January 1, 2002. As required by SFAS 142, the Company is no longer amortizing goodwill. The Company completed a transitional and annual goodwill impairment test during the six months ended June 30, 2002 and year ended December 31, 2002 and determined that goodwill was not impaired. The following table provides comparative net loss and loss per share had the non-amortization provision of SFAS 142 been adopted for all periods presented: For the Year Ended December 31, ------------------------------- 2002 2001 ---- ---- Net loss $(60,000) $(348,000) Adjustments: Goodwill amortization, net of tax benefit of $- and $52,000 for years ended December 31, 2002 and 2001 - 78,000 ------------------------------- Adjusted net loss $(60,000) $(270,000) =============================== Reported basic and diluted loss per share $ - $ (0.03) Adjusted basic and diluted loss per share $ - $ (0.03) There was no amortization of goodwill for the year ended December 31, 2000, and the carrying amount of goodwill of $1.2 million did not change from December 31, 2001 to December 31, 2002. Acquired intangible assets, all subject to amortization: December 31, ------------ 2002 2001 -------------------------------------------------------------- Gross Carrying Accumulated Gross Carrying Accumulated Amount Amortization Amount Amortization -------------------------------------------------------------- Copyrights $250,000 $(100,000) $250,000 $(50,000) Software license 223,000 (41,000) - - -------------------------------------------------------------- Total $473,000 $(141,000) $250,000 $(50,000) ============================================================== The aggregate amortization expense for the year ended December 31, 2002 was $91,000. The estimated amortization expense for each of the next three years ended December 31, 2005 is $95,000, and the estimated amortization expense for the years ended December 31, 2006 and 2007 are $45,000 and $2,000. 31 5. Acquisition of prospectdigital, LLC In 2000, the Company purchased a 33.3% ownership interest in a development stage company named prospectdigital, LLC ("prospectdigital") for $403,000. Prospectdigital provides an on-line marketing service to brokers selling annuities and life insurance. To date, prospectdigital has had nominal revenue and has used its capital to develop software to support its business. In addition, the Company loaned $1.1 million to prospectdigital in 2000. The loan bears interest equal to the Prime Rate. In 2001, the Company extended a $400,000 line of credit to prospectdigital, which bears interest at 8.0%. As of December 31, 2001, prospectdigital had drawn $358,000 from the line of credit. The Company did not have control over prospectdigital, therefore, the investment in prospectdigital was accounted for under the equity method. In applying the equity method, the Company recorded its proportionate share of the operations (losses) of prospectdigital using a hypothetical liquidation at book value at each balance sheet date, net of the Company's estimate of any other-than-temporary impairment. The Company's recorded loss on its investment, loans payable and advances to prospectdigital was $896,000 and $721,000 during 2001 and 2000, and is included in other expenses. The amounts invested and advanced, net of the Company's share of cumulative losses, have been included in other assets at December 31, 2001. In January 2002, the Company purchased all of the remaining outstanding stock of prospectdigital for $225,000 in cash, a non-recourse note payable in the amount of $75,000 and payable out of the future profits of prospectdigital, and $100,000 of contingent consideration based on future income. Under the terms of the purchase agreement, prospectdigital remained liable for payment of the $1.5 million indebtedness, plus accrued interest, due to the Company. 6. Purchase of Values Financial Network, Inc. In 2000, the Company paid $3.7 million for the purchase of Values Financial Network assets. Among the assets acquired were a website, which incorporates sales lead management, investment screening and asset allocation functionalities, and copyrights related to two books. These assets were recorded at fair value, as determined by an independent appraisal. Payments in excess of the identifiable assets were recorded as goodwill. Results of Values Financial Network's operations have been included in the Consolidated Financial Statements since the date of acquisition. 7. Accounts Payable and Accrued Liabilities December 31, ----------------------------- 2002 2001 ------------ ----------- Accrued compensation $ 2,346,000 $ 2,871,000 Accrued sales convention costs 1,664,000 1,039,000 Commissions payable 1,110,000 1,366,000 Payable to insurance carrier 1,097,000 581,000 Accounts payable 728,000 845,000 Accrued production premium deficiency 637,000 485,000 Miscellaneous accrued expenses 1,230,000 1,115,000 ------------ ----------- Total $ 8,812,000 $ 8,302,000 ============ =========== 8. Loan Payable and Note Payable During 2001, the Company purchased the office building which houses its headquarters for $10.6 million. In conjunction with the acquisition, the Company entered into a bridge loan agreement for $4.8 million. In July 2002, the Company replaced the bridge loan with permanent financing in the amount of $7.4 million. This note is payable over ten years in monthly installments of principal and interest based on a 25-year term. At the end of ten years, the Company must pay the balance of principal due on the note. For the first five years, the interest rate is 6.95%. Thereafter, the interest rate is equal to LIBOR plus 2.55%, adjusted semi-annually, subject to a maximum 32 semi-annual 1.00% increase/decrease in the interest rate. The maximum interest rate is 10.50%. As of December 31, 2002, the Company made payments of $42,000 toward the principal balance of the note. The required principal payments over the next five years are as follows: $109,000, $116,000, $125,000, $135,000, and $144,000. 9. Deferred Compensation Payable The Company sponsors a qualified defined contribution 401(k) plan, which is available to all employees. The 401(k) plan allows employees to defer, on a pre-tax basis, up to 15% of their annual compensation as contributions to the 401(k) plan, subject to a maximum of $11,000. The Company matches 50% of each employee's contributions, up to 6% of their annual compensation, subject to a maximum of $5,500. The Company's matching contributions were $434,000, $439,000, and $409,000 for the years ended December 31, 2002, 2001, and 2000. The Company also sponsors a non-qualified tax deferred compensation plan, which is available to certain employees who, because of Internal Revenue Code limitations, are prohibited from contributing the maximum percentage of salary to the 401(k) Plan. Under this deferred compensation plan, certain employees may defer, on a pre-tax basis, a percentage of annual compensation, including bonuses. The Company matches 50% of each employee's contributions, up to a maximum of 6% of annual compensation, less amounts already matched under the 401(k) plan. The Company made matching contributions of $59,000, $55,000, and $48,000 during the years ended December 31, 2002, 2001, and 2000. As of December 31, 2002 and 2001, employee contributions and Company matching contributions, net of accumulated investment losses, totaled $650,000 and $575,000. The Company also sponsors a non-qualified tax deferred compensation plan under which producers who earn a minimum of $100,000 may defer, on a pre-tax basis, up to 50% of annual commissions. In addition, the Company will match producer contributions for those producers who earn over $250,000 in annual commissions at rates ranging from 1% to 5% of amounts deferred, depending on the level of annual commissions earned. During the years ended December 31, 2002, 2001, and 2000, matching contributions related to the producer commission deferral plan were $19,000, $36,000, and $32,000. As of December 31, 2002 and 2001, producer contributions and Company matching contributions, net of accumulated investment losses, totaled $3.6 million and $3.8 million. 10. Commitments and Contingencies The Company leases office and warehouse premises and certain office equipment under non-cancelable operating leases. Related rent expense of $585,000, $1.6 million, and $1.5 million is included in occupancy costs for the years ended December 31, 2002, 2001, and 2000. Total rentals for leases of equipment included in equipment expense were $1.1 million, $922,000, and $802,000 for the years ended December 31, 2002, 2001, and 2000. The Company's future minimum annual lease commitments under all operating leases as of December 31, 2002 are as follows: Year Ended December 31, 2003 $1,047,000 2004 505,000 2005 474,000 2006 307,000 2007 198,000 ---------- Total minimum lease payments $2,531,000 ========== In 1998, the Company entered into a Shareholder's Agreement with Lynda L. Regan, Chief Executive Officer of the Company and Chairman of the Company's Board of Directors. Under the terms of this agreement, in the event of the death of Ms. Regan, the Company shall repurchase from Ms. Regan's estate all shares of common stock that were owned by Ms. Regan at the time of her death, or were transferred by her to one or more trusts prior to her death. The purchase price to be paid by the Company shall be equal to 125% of the fair market value of the shares. The purchase price was equal to $28 million at December 31, 2002. The Company has purchased two life insurance policies with a combined face amount of $29 million for the purpose of funding this obligation in the event of Ms. Regan's death. The Company is involved in various claims and legal proceedings arising in the ordinary course of business. Although it is difficult to predict the ultimate outcome of these cases, management believes, based on 33 discussions with legal counsel, that the ultimate disposition of these claims will not have a material adverse effect on our financial condition, cash flows or results of operations. As part of the Company's agreements with certain of its insurance producers, the Company may, under certain circumstances, be obligated to offer to purchase the business of the producers. At December 31, 2002, there were no outstanding commitments by the Company relating to such obligations. 11. Redeemable Common Stock Between 1990 and 1992, the Company issued Series A and Series B redeemable common stock to certain shareholders. The Company is obligated to repurchase the redeemable common stock at the current fair market value. Because there is no active trading market for the Company's stock that would establish market value, the Company's Board of Directors approved a redemption value for Series A redeemable common stock of $2.20 per share and $2.19 per share, and a redemption value for Series B redeemable common stock of $1.82 and $2.19 per share, as of December 31, 2002 and 2001, based on an independent appraisal of the stock value obtained by management. Series A Series B Total Redeemable Common Redeemable Common Redeemable Common Stock Stock Stock ------------------------ ---------------------- ------------------------ Carrying Carrying Carrying Shares Amount Shares Amount Shares Amount ---------- ----------- -------- ----------- ---------- ----------- Balance January 1, 2000 4,921,000 $ 9,794,000 590,000 $ 1,769,000 5,511,000 $11,563,000 Redemptions and retirement of common stock (410,000) (810,000) (6,000) (11,000) (416,000) (821,000) Accretion to redemption value -- 495,000 -- -- -- 495,000 ---------- ----------- -------- ----------- ---------- ----------- Balance December 31, 2000 4,511,000 9,479,000 584,000 1,758,000 5,095,000 11,237,000 Redemptions and retirement of common stock (232,000) (500,000) (3,000) (10,000) (235,000) (510,000) Accretion to redemption value -- 397,000 -- -- -- 397,000 ---------- ----------- -------- ----------- ---------- ----------- Balance December 31, 2001 4,279,000 9,376,000 581,000 1,748,000 4,860,000 11,124,000 Redemptions and retirement of common stock (457,000) (996,000) (21,000) (39,000) (478,000) (1,035,000) Accretion to redemption value -- 26,000 -- -- -- 26,000 ---------- ----------- -------- ----------- ---------- ----------- Balance December 31, 2002 3,822,000 $ 8,406,000 560,000 $ 1,709,000 4,382,000 $10,115,000 ========== =========== ======== =========== ========== =========== The Company recorded redeemable common stock accretion of $26,000 and $397,000 and related to Series A redeemable common stock for the years ended December 31, 2002 and 2001. The carrying value of Series B redeemable common stock is greater than the redemption value, and has not been accreted. Holders of Series A redeemable common stock may redeem their holdings without limitation. Holders of Series B redeemable common stock may only redeem up to 10% of their holdings once per year, limited to a specified twenty-day period during November. 12. Stock Options and Stock Awards The Company currently sponsors two stock-based compensation plans. Under both plans, the exercise price of each option equals the estimated fair value of the underlying common stock on the date of grant, as estimated by management, except for incentive stock options granted to shareholders who own 10% or more of the Company's outstanding stock, where the exercise price equals 110% of the estimated fair value. Both plans are administered by committees, which are appointed by the Company's Board of Directors. Producer Option Plan -- Under the Regan Holding Corp. Producer Stock Option and Award plan (the "Producer Option Plan"), the Company may grant to Legacy Marketing producers and Legacy Financial registered representatives shares of the Company's common stock and non-qualified stock options (the "Producer Options") to purchase the Company's common stock. A total of 12.5 million shares have been reserved for grant under the Producer Option Plan. Total stock options granted to Producers for 2002, 2001, and 2000 were 10,000, 265,000, and 1.7 million. Total expenses recorded for Producer stock option grants were $4,000, $96,000, and $1.1 million 34 during 2002, 2001 and 2000. The Producer stock options granted for each of the three years ended December 31, 2002 vested immediately upon the grant date. The fair value of the Producer options were estimated using the Black-Scholes option-pricing model with the following assumptions: 2002 2001 2000 --------- ----------- ----------- Risk-free interest rates 4.78% 5.13%-6.80% 5.04%-6.52% Volatility 27% 27%-31% 28%-34% Dividend yield None None None Expected life 6 years 6-10 years 6-10 years The following table summarizes information with respect to shares of Series A common stock awarded to non-employees: 2001 2000 ----------- -------- Share grants 48,000 66,000 Fair value per share $1.53-$1.65 $ 1.53 Expense recorded $ 75,000 $100,000 There were no shares of Series A common stock awarded to non-employees during 2002. The share grant for 2001 listed above includes 15,000 shares of Series A common stock that the Company was obligated to award to a service provider, but had not been issued as of December 31, 2002. Employee Option Plan -- Under the Regan Holding Corp. 1998 Stock Option Plan (the "Employee Option Plan"), the Company may grant to employees and directors incentive stock options and non-qualified options to purchase the Company's common stock (collectively referred to herein as "Employee Options"). A total of 8.5 million shares have been reserved for grant under the Employee Option Plan. The Employee Options generally vest over four or five years and expire in ten years, except for incentive stock options granted to shareholders who own 10% or more of the outstanding shares of the Company's stock, which expire in five years. The Company uses the intrinsic value method of accounting for stock-based awards granted to employees and, accordingly, does not recognize compensation expense for its stock-based awards to employees. Stock option activity under both plans was as follows: Total Weighted average Shares Exercise Price ------ -------------- Outstanding at December 31, 1999 8,810,000 $1.13 Granted 5,118,000 $1.52 Exercised (27,000) $0.95 Forfeited (525,000) $1.08 Outstanding at December 31, 2000 13,376,000 $1.28 Granted 2,976,000 $1.62 Exercised -- $ -- Forfeited (788,000) $1.25 Outstanding at December 31, 2001 15,564,000 $1.35 Granted 1,153,000 $1.68 Exercised -- $ -- Forfeited (768,000) $1.22 Outstanding at December 31, 2002 15,949,000 $1.38 Exercisable at December 31, 2000 8,984,000 $1.25 Exercisable at December 31, 2001 11,512,000 $1.31 Exercisable at December 31, 2002 12,407,000 $1.32 35 The following table summarizes information about stock options outstanding at December 31, 2002 under both plans: Options Outstanding Options Exercisable ------------------------------- -------------------------- Weighted Weighted Weighted Average Average Average Remaining Exercise Exercise Range of exercise prices Shares Contractual Life Price Shares Price - ------------------------ ------ ---------------- ----- ------ ----- $ 0.73-$0.84 1,654,000 2.6 $ 0.73 1,614,000 $ 0.73 $ 1.03 120,000 1.3 $ 1.03 120,000 $ 1.03 $ 1.27-$1.40 5,832,000 2.5 $ 1.27 5,568,000 $ 1.27 $ 1.53 4,317,000 4.9 $ 1.53 3,132,000 $ 1.53 $ 1.61 2,081,000 4.8 $ 1.61 1,718,000 $ 1.61 $ 1.65 737,000 8.4 $ 1.65 203,000 $ 1.65 $ 1.68 1,208,000 8.5 $ 1.68 52,000 $ 1.68 13. Income Taxes Deferred tax assets and liabilities are recognized as temporary differences between amounts reported in the financial statements and the future tax consequences attributable to those differences that are expected to be recovered or settled. The benefit from federal and state income taxes consists of amounts currently (receivable) payable and amounts deferred which, for the periods indicated, are shown below: For the Year Ended December 31, ------------------------------------------------ 2002 2001 2000 --------- ---------- ------------ Current income taxes: Federal $ 76,000 $ (92,000) $(3,418,000) State 24,000 5,000 (3,000) --------- --------- ----------- Total current 100,000 (87,000) (3,421,000) --------- --------- ----------- Deferred income taxes: Federal (170,000) (117,000) 1,712,000 State 36,000 (16,000) (46,000) --------- --------- ----------- Total deferred (134,000) (133,000) 1,666,000 --------- --------- ----------- Benefit from income taxes $ (34,000) $(220,000) $(1,755,000) ========= ========= =========== The Company's deferred tax assets (liabilities) consist of the following: December 31, ------------------------ 2002 2001 ----------- ----------- Producer stock option and stock awards $ 2,182,000 $ 2,180,000 Producer deferred compensation 1,696,000 1,735,000 Accrued sales convention costs 663,000 414,000 State net operating loss carryforward, less valuation allowance of $362,000 and $264,000, net of federal taxes 248,000 321,000 Alternative minimum tax credit carryforward 304,000 304,000 Investment impairment charge -- 256,000 Capital loss 353,000 70,000 Unrealized losses 427,000 -- Other 817,000 335,000 ----------- ----------- Subtotal deferred tax assets 6,690,000 5,615,000 36 Fixed asset depreciation (3,611,000) (2,658,000) Deferred gain on building sale (1,364,000) (1,364,000) Unrealized gains -- (37,000) Other -- (27,000) ----------- ----------- Subtotal deferred tax liabilities (4,975,000) (4,086,000) ----------- ----------- Deferred tax assets, net $ 1,715,000 $ 1,529,000 =========== =========== In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of deferred tax assets will, or will not, be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which temporary differences become deductible. Management believes it is more likely than not that the deferred tax assets will be realized. The benefit from income taxes differs from the benefit computed by applying the statutory federal income tax rate (34%) to income before taxes, as follows: For the Year Ended December 31, -------------------------------------------------- 2002 2001 2000 -------- --------- ----------- Federal income taxes benefit earned at statutory rate (34%) $(32,000) $(193,000) $(1,710,000) Increases (reductions) in income taxes resulting from: State franchise taxes, net of federal income tax benefit 40,000 (7,000) (27,000) Other (42,000) (20,000) (18,000) -------- --------- ----------- Benefit from income taxes $(34,000) $(220,000) $(1,755,000) ======== ========= =========== As of December 31, 2002, the Company has state net operating loss carryforwards of $8.6 million that are expected to be utilized in the future. $4.9 million of these state net operating losses begin to expire on December 31, 2012. The Company also has, for state income tax purposes, $304,000 in alternative minimum tax credits which can be used to reduce income taxes in subsequent years to the extent regular tax exceeds tentative minimum tax. The credits have no expiration date. 14. Loss per Share The basic and diluted loss per share calculations are based on the weighted average number of common shares outstanding including shares of redeemable common stock. Loss Shares Per-share (Numerator) (Denominator) Amount ----------- ------------- ------ For the year ended December 31, 2002 Basic loss per share Loss $ (60,000) Accretion of redeemable common stock (26,000) ----------- Basic and diluted loss available to common shareholders $ (86,000) 25,093,000 $ -- =========== ============= ====== For the year ended December 31, 2001 Basic loss per share Loss $ (348,000) Accretion of redeemable common stock (397,000) Basic and diluted loss available to common shareholders $ (745,000) 25,861,000 $(0.03) =========== ============= ====== For the year ended December 31, 2000 Basic loss per share Loss before cumulative effect of accounting change $(3,338,000) Accretion of redeemable common stock (495,000) ------------ 37 Loss available to common shareholders before Cumulative effect of accounting change (3,833,000) 26,238,000 $(0.15) Cumulative effect of accounting change (226,000) -- 0.01) ----------- ------------- ------ Basic and diluted loss available to common shareholders $(4,059,000) 26,238,000 $(0.16) =========== ============= ====== The diluted loss per share calculation for the years ended December 31, 2002, 2001 and 2000 excludes antidilutive stock options of 4.1 million, 3.3 million and 6.8 million. 15. Segment Information The Company has identified its reportable segments based on its method of internal reporting and segregates its business into six primary reportable segments: Legacy Marketing, Legacy Financial, Imagent Online, Values Financial Network, and Other. Intersegment transactions are generally accounted for at amounts comparable to transactions with unaffiliated customers, and are eliminated in consolidation. The Legacy Marketing business segment includes the results of selling and administering fixed annuity products and general corporate expenses not allocated to the Company's other segments. Previously, general corporate expenses were reported as a separate business segment. The segment disclosures for the years ended December 31, 2001 and 2000 have been restated to reflect the change in the composition of reportable segments. Values Legacy Legacy Imagent Financial Marketing Financial Online Network ------------ ----------- ----------- ----------- Year Ended December 31, 2002 Total revenue $ 47,859,000 $ 2,519,000 $ 86,000 $ 7,000 Total expenses 45,786,000 3,475,000 1,141,000 841,000 ------------ ----------- ----------- ----------- Operating income (loss) 2,073,000 (956,000) (1,055,000) (834,000) Other income (loss) 571,000 7,000 (2,000) -- ------------ ----------- ----------- ----------- Income (loss) before tax 2,644,000 (949,000) (1,057,000) (834,000) Tax provision (benefit) 1,002,000 (354,000) (409,000) (314,000) ------------ ----------- ----------- ----------- Net income (loss) $ 1,642,000 $ (595,000) $ (648,000) $ (520,000) ============ =========== =========== =========== Year Ended December 31, 2001 Total revenue $ 53,446,000 $ 2,132,000 $ -- $ 45,000 Total expenses 48,615,000 3,475,000 1,142,000 2,004,000 ------------ ----------- ----------- ----------- Operating income (loss) 4,831,000 (1,343,000) (1,142,000) (1,959,000) Other income (loss) (273,000) 14,000 92,000 2,000 ------------ ----------- ----------- ----------- Income (loss) before tax 4,558,000 (1,329,000) (1,050,000) (1,957,000) Tax provision (benefit) 1,807,000 (492,000) (390,000) (726,000) ------------ ----------- ----------- ----------- Net income (loss) $ 2,751,000 $ (837,000) $ (660,000) $(1,231,000) ============ =========== =========== =========== Year Ended December 31, 2000 Total revenue $ 39,423,000 $ 2,961,000 $ 4,000 $ -- Total expenses 45,832,000 3,209,000 970,000 136,000 ------------ ----------- ----------- ----------- Operating loss (6,409,000) (248,000) (966,000) (136,000) Other income (loss) 4,235,000 27,000 42,000 -- ------------ ----------- ----------- ----------- Loss before tax (2,174,000) (221,000) (924,000) (136,000) Tax benefit (766,000) (78,000) (343,000) (50,000) ------------ ----------- ----------- ----------- Net loss before cumulative effect of accounting change (1,408,000) (143,000) (581,000) (86,000) Cumulative effect of accounting change (226,000) -- -- -- ------------ ----------- ----------- ----------- Net loss $ (1,634,000) $ (143,000) $ (581,000) $ (86,000) ============ =========== =========== =========== 38 Total assets December 31, 2002 $ 65,952,000 $ 1,188,000 $ 852,000 $ 2,969,000 ============ =========== =========== =========== December 31, 2001 $ 61,564,000 $ 1,631,000 $ 1,114,000 $ 4,012,000 ============ =========== =========== =========== Intercompany Other Subtotal Eliminations Total ----------- ------------ ------------ ------------ Year Ended December 31, 2002 Total revenue $ 134,000 $ 50,605,000 $ (556,000) $ 50,049,000 Total expenses 32,000 51,275,000 (556,000) 50,719,000 ----------- ------------ ------------ ------------ Operating income (loss) 102,000 (670,000) -- (670,000) Other income (loss) -- 576,000 -- 576,000 ----------- ------------ ------------ ------------ Income (loss) before tax 102,000 (94,000) -- (94,000) Tax provision (benefit) 41,000 (34,000) -- (34,000) ----------- ------------ ------------ ------------ Net income (loss) $ 61,000 $ (60,000) $ -- $ (60,000) =========== ============ ============ ============ Year Ended December 31, 2001 Total revenue $ 120,000 $ 55,743,000 $ (534,000) $ 55,209,000 Total expenses 910,000 56,146,000 (534,000) 55,612,000 ----------- ------------ ------------ ------------ Operating income (loss) (790,000) (403,000) -- (403,000) Other income (loss) -- (165,000) -- (165,000) ----------- ------------ ------------ ------------ Income (loss) before tax (790,000) (568,000) -- (568,000) Tax provision (benefit) (419,000) (220,000) -- (220,000) ----------- ------------ ------------ ------------ Net income (loss) $ (371,000) $ (348,000) $ -- $ (348,000) =========== ============ ============ ============ Year Ended December 31, 2000 Total revenue $ 535,000 $ 42,923,000 $ (491,000) $ 42,432,000 Total expenses 2,182,000 52,329,000 (491,000) 51,838,000 ----------- ------------ ------------ ------------ Operating loss (1,647,000) (9,406,000) -- (9,406,000) Other income (loss) 9,000 4,313,000 -- 4,313,000 ----------- ------------ ------------ ------------ Loss before tax (1,638,000) (5,093,000) -- (5,093,000) Tax benefit (518,000) (1,755,000) -- (1,755,000) ----------- ------------ ------------ ------------ Net loss before cumulative effect of accounting change (1,120,000) (3,338,000) -- (3,338,000) Cumulative effect of accounting Change -- (226,000) -- (226,000) ----------- ------------ ------------ ------------ Net loss $(1,120,000) $ (3,564,000) $ -- $ (3,564,000) =========== ============ ============ ============ Total assets December 31, 2002 $ 194,000 $ 71,155,000 $(21,202,000) $ 49,953,000 =========== ============ ============ ============ December 31, 2001 $ 244,000 $ 68,565,000 $(22,305,000) $ 46,260,000 =========== ============ ============ ============ 16. Concentration of Risk As of December 31, 2002, Legacy Marketing sold its products on behalf of four unaffiliated insurance carriers: American National, Transamerica, John Hancock and Investors Insurance Corporation. Effective during the first quarter of 2002, Legacy Marketing and IL Annuity terminated their marketing agreement. The agreements with the following carriers generated a significant portion of the Company's total consolidated revenue (sales on behalf of Investors Insurance Corporation began in the second quarter of 2002): 2002 2001 2000 ---- ---- ---- Transamerica 52% 68% 50% American National 17% 5% 10% IL Annuity 12% 20% 29% John Hancock 8% - - 39 Although Legacy Marketing sells and administers several annuity and life insurance products on behalf of the insurance carriers, its revenues are derived primarily from sales and administration of certain annuity product series: 2002 2001 2000 ---- ---- ---- SelectMark(SM) series (sold on behalf of Transamerica) 51% 67% 49% BenchMark(SM) series (sold on behalf of American National) 16% 4% 6% VisionMark(SM) series (sold on behalf of IL Annuity) 11% 19% 28% AssureMark(SM) series (sold on behalf of John Hancock) 8% - - During the first quarter of 2003, Legacy Marketing discontinued marketing life insurance products issued by American National. Certain Legacy Marketing employees who were supporting the life insurance product operations were either terminated or reassigned to other positions in Legacy Marketing. In addition, Legacy Marketing discontinued marketing certain fixed annuity products issued by Transamerica. 40 Supplementary Data Quarterly Financial Information (Unaudited) First Quarter Second Quarter Third Quarter Fourth Quarter Year - --------------------- ------------ ------------ ------------ ------------ ------------ 2002 Total revenue $ 11,754,000 $ 12,576,000 $ 11,505,000 $ 14,214,000 $ 50,049,000 Operating income (loss) $ (1,221,000) $ (205,000) $ (694,000) $ 1,450,000 $ (670,000) Net income (loss) $ (798,000) $ (2,000) $ (395,000) $ 1,135,000 $ (60,000) Basic earnings (loss) per share: Earnings (loss) available to common shareholders $ (0.03) $ -- $ (0.02) $ 0.05 $ -- Diluted earnings (loss) per share: Earnings (loss) available to common shareholders $ (0.03) $ -- $ (0.02) $ 0.04 $ -- 2001 Total revenue $ 11,757,000 $ 15,068,000 $ 15,108,000 $ 13,276,000 $ 55,209,000 Operating income (loss) $ (2,110,000) $ 1,023,000 $ 1,537,000 $ (853,000) $ (403,000) Net income (loss) $ (1,257,000) $ 744,000 $ 979,000 $ (814,000) $ (348,000) Basic earnings (loss) per share: Earnings (loss) available to common shareholders $ (0.05) $ 0.02 $ 0.04 $ (0.04) $ (0.03) Diluted earnings (loss) per share: Earnings (loss) available to common shareholders $ (0.05) $ 0.02 $ 0.03 $ (0.04) $ (0.03) 41 REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULES To the Board of Directors and Shareholders of Regan Holding Corp. Our audits of the consolidated financial statements referred to in our report dated March 27, 2003 also included an audit of the financial statement schedules listed in Item 15(a)(2) of this Form 10-K. In our opinion, these financial statement schedules present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. /s/ PricewaterhouseCoopers LLP San Francisco, California March 27, 2003 42 Schedule II - Valuation and Qualifying Accounts Additions Balance at Charged to Balance at beginning costs and end of of period expenses Deductions period --------- --------- ---------- ------ 2002 Allowance for uncollectible accounts $ 348,000 $ 393,000 $ (39,000) $ 702,000 State net operating loss carryforward valuation allowance $ 264,000 $ 98,000 $ -- $ 362,000 2001 Allowance for uncollectible accounts $ 94,000 $ 342,000 $ (88,000) $ 348,000 State net operating loss carryforward valuation allowance $ -- $ 264,000 $ -- $ 264,000 2000 Allowance for uncollectible accounts $ 30,000 $ 369,000 $(305,000) $ 94,000 State net operating loss carryforward valuation allowance $ -- $ -- $ -- $ -- 43 Item 9. Changes In and Disagreements With Accountants on Accounting and Financial Disclosure None. PART III Item 10. Directors and Executive Officers of the Company Information required by Item 10 is contained in the Company's Definitive Proxy Statement in the section titled "Election of Directors." Such information is incorporated herein by reference. Item 11. Executive Compensation Information required by Item 11 is contained in the Company's Definitive Proxy Statement in the section titled "Election of Directors." Such information is incorporated herein by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management Certain information required by Item 12 is contained in the Company's Definitive Proxy Statement in the section titled "Election of Directors." Such information is incorporated herein by reference. Securities Authorized For Issuance Under Equity Compensation Plans (a) (b) (c) - --------------------------- ------------------------- ---------------------- ----------------------------------------- Number of shares remaining available Number of shares to be Weighted-average for future issuance under equity issued upon exercise of exercise price of compensation plans (excluding Plan category outstanding options outstanding options securities reflected in column (a)) - --------------------------- ------------------------- ---------------------- ----------------------------------------- Equity compensation plans approved by stockholders (1) 15,949,000 $1.38 5,051,000 - --------------------------- ------------------------- ---------------------- ----------------------------------------- (1) Includes the Regan Holding Corp. Producer Stock Option and Award Plan and the Regan Holding Corp. 1998 Stock Option Plan Regan Holding Corp. stockholders have approved all equity compensation plans. Item 13. Certain Relationships and Related Transactions Information required by Item 13 is contained in the Company's Definitive Proxy Statement in the section titled "Election of Directors." Such information is incorporated herein by reference. Item 14. Controls and Procedures The Company maintains disclosure controls and procedures designed to ensure that information required to be disclosed in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the specified time periods. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and executed, can provide only reasonable assurance of achieving the desired control objectives. Within the 90 days prior to the date of this report, the Company's Chief Executive Officer and Chief Financial Officer evaluated, with the participation of Company's management, the effectiveness of the Company's disclosure controls and procedures. Based on that evaluation, which disclosed no significant deficiencies or material weakness, the Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures are effective. There were no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls subsequent to the evaluation. 44 PART IV Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (a) Index to Exhibits and Financial Statement Schedules: 1. The following financial statements are included in Item 8: (i) Independent Accountants Report. (ii) Consolidated Balance Sheet as of December 31, 2002 and 2001. (iii) Consolidated Statement of Operations for the years ended December 31, 2002, 2001, and 2000. (iv) Consolidated Statement of Shareholders' Equity for the years ended December 31, 2002, 2001, and 2000. (v) Consolidated Statement of Cash Flows for the years ended December 31, 2002, 2001, and 2000. (vi) Notes to Consolidated Financial Statements. 2. (i) Quarterly Financial Information. (ii) Schedule II - Valuation and Qualifying Accounts. 3. See(c) below. (b) Regan Holding Corp. filed a Form 8-K, dated November 26, 2002, announcing a strategic plan to consolidate the life insurance and annuity product portfolio marketing business of Legacy Marketing Group. (c) Exhibit Index: 3(a) Restated Articles of Incorporation. (1) 3(b)(2) Amended and Restated Bylaws of the Company. (5) 4(a) Shareholders' Agreement, dated as of May 29, 1998, by and among the Company, Lynda Regan, Alysia Anne Regan, Melissa Louise Regan and RAM Investments.(6) 10(a) Administrative Services Agreement effective January 1, 1991, as amended, between Allianz Life Insurance Company of North America and the Company.(2) 10(b)(1) Marketing Agreement effective June 1, 1993, as amended, between American National Insurance Company and the Company.(2) 10(b)(2) Amendment Three to Marketing Agreement with American National Insurance Company.(3) 10(b)(3) Amendment Four to Marketing Agreement with American National Insurance Company.(3) 10(b)(4) Amendment Five to Marketing Agreement with American National Insurance Company.(4) - ---------------------- (1) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1994. (2) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 1996. 45 (3) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and six months ended June 30, 1998. (4) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1998. (5) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 2000. (6) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 1998. 46 10(b)(5) Amendment Six to Marketing Agreement with American National Insurance Company (5) 10(b)(6) Amendment Seven to Marketing Agreement with American National Insurance Company.(2) 10(b)(7) Amendment Eight to Marketing Agreement with American National Insurance Company.(3) 10(b)(8) Amendment Nine to Marketing Agreement with American National Insurance Company.(3) 10(b)(9) Amendment Ten to Marketing Agreement with American National Insurance Company.(4) 10(b)(10) Amendment Eleven to Marketing Agreement with American National Insurance Company.(9) 10(b)(11) Amendment Twelve to Marketing Agreement with American National Insurance Company.(9) 10(b)(12) Amendment Thirteen to Marketing Agreement with American National Insurance Company. (10) 10(b)(13) Amendment Fourteen to Marketing Agreement with American National Insurance Company. (11) 10(b)(14) Amendment Sixteen to Marketing Agreement with American National Insurance Company. (12) 10(b)(15) Amendment Seventeen to Marketing Agreement with American National Insurance Company. (13) 10(b)(16) Amendment Eighteen to Marketing Agreement with American National Insurance Company. (13) 10(b)(17) Amendment Nineteen to Marketing Agreement with American National Insurance Company. (14) 10(b)(18) Amendment Twenty to Marketing Agreement with American National Insurance Company. (15) 10(b)(19) Amendment Twenty One to Marketing Agreement with American National Insurance Company. (16) 10(b)(20) Amendment Twenty Two to Marketing Agreement with American National Insurance Company. (17) 10(b)(21) Amendment Twenty Three to Marketing Agreement with American National Insurance Company. (17) 10(b)(22) Amendment Twenty Four to Marketing Agreement with American National Insurance Company. (18) 10(b)(23) Amendment Twenty Five to Marketing Agreement with American National Insurance Company. (19) 10(b)(24) Amendment Twenty Six to Marketing Agreement with American National Insurance Company. (20) 10(b)(25) Amendment Twenty Seven to Marketing Agreement with American National Insurance Company. (21) 10(b)(26) Marketing Agreement, effective November 15, 2002, between American National Insurance Company and Legacy Marketing Group. (22) 10(c)(1) Insurance Processing Agreement, effective June 1, 1993, as amended, between American National Insurance Company and Legacy Marketing Group.(1) 10(c)(2) Amendment to Insurance Processing Agreement with American National Insurance Company.(2) 10(c)(3) Amendment Two to Insurance Processing Agreement with American National Insurance Company.(3) 10(c)(4) Amendment Three to Insurance Processing Agreement with American National Insurance Company.(4) 10(c)(5) Amendment Four to Insurance Processing Agreement with American National Insurance Company.(5) 10(c)(6) Amendment Five to Insurance Processing Agreement with American National Insurance Company.(5) 10(c)(7) Amendment Six to Insurance Processing Agreement with American National Insurance Company.(6) 10(c)(8) Amendment Seven to Insurance Processing Agreement with American National Insurance Company.(7) 10(c)(9) Amendment Eight to Insurance Processing Agreement with American National Insurance Company.(7) 10(c)(10) Amendment Nine to Insurance Processing Agreement with American National Insurance Company.(8) 47 (1) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1994. (2) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months ended March 31, 1998. (3) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and six months ended June 30, 1998. (4) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 1998. (5) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1998. (6) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months ended March 31, 1999. (7) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and six months ended June 30, 1999. (8) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 1999. (9) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1999. (10) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months ended March 31, 2000. (11) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the three months and six months ended June 30, 2000. (12) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 2000. (13) Incorporated herein by reference to the Company's Form S-1/A Post Effective Amendment No. 1, dated February 2, 2001. (14) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 2000. (15) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the three months ended March 31, 2001. (16) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the six months ended June 30, 2001. (17) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the nine months ended September 30, 2001. (18) Incorporated herein by reference to the Company's Form S-2/A, Amendment No. 2, dated February 11, 2002. (19) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 2001. (20) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the six months ended June 30, 2002. (21) Incorporated herein by reference to the Company's amended annual report on Form 10-K/A for the year ended December 31, 2001. (22) Certain confidential commercial and financial information has been omitted from the indicated exhibits, but filed under separate cover with the U.S. Securities and Exchange Commission. 48 10(c)(11) Amendment Ten to Insurance Processing Agreement with American National Insurance Company.(4) 10(c)(12) Amendment Eleven to Insurance Processing Agreement with American National Insurance Company.(4) 10(c)(13) Amendment Twelve to Insurance Processing Agreement with American National Insurance Company. (5) 10(c)(14) Amendment Thirteen to Insurance Processing Agreement with American National Insurance Company. (6) 10(c)(15) Amendment Fifteen to Insurance Processing Agreement with American National Insurance Company.(7) 10(c)(16) Amendment Sixteen to Insurance Processing Agreement with American National Insurance Company. (9) 10(c)(17) Amendment Seventeen to Insurance Processing Agreement with American National Insurance Company. (9) 10(c)(18) Amendment Eighteen to Insurance Processing Agreement with American National Insurance Company. (10) 10(c)(19) Amendment Nineteen to Insurance Processing Agreement with American National Insurance Company. (11) 10(c)(20) Amendment Twenty to Insurance Processing Agreement with American National Insurance Company. (12) 10(c)(21) Amendment Twenty One to Insurance Processing Agreement with American National Insurance Company.(14) 10(c)(22) Amendment Twenty Two to Insurance Processing Agreement with American National Insurance Company.(14) 10(c)(23) Amendment Twenty Three to Insurance Processing Agreement with American National Insurance Company. (15) 10(c)(24) Amendment Twenty Four to Insurance Processing Agreement with American National Insurance Company. (16) 10(c)(25) Amendment Twenty Five to Insurance Processing Agreement with American National Insurance Company. (17) 10(c)(26) Amendment Twenty Six to Insurance Processing Agreement with American National Insurance Company. (18) 10(c)(27) Amendment Twenty Seven to Insurance Processing Agreement with American National Insurance Company. 10(c)(28) Administrative Services Agreement, effective February 15, 2003, between American National Insurance Company and Legacy Marketing Group. (21) 10(d) Form of Producer Agreement.(1) 10(e) Settlement Agreement dated June 18, 1993, among the State of Georgia as receiver for and on behalf of Old Colony Life Insurance Company, other related parties and the Company.(1) 10(f) 401(K) Profit Sharing Plan & Trust dated July 1, 1994.(1) 10(g) Marketing Agreement effective January 1, 1996 between IL Annuity and Insurance Company and Legacy Marketing Group.(2) 10(h) Insurance Processing Agreement effective January 1, 1996 between IL Annuity and Insurance Company and Legacy Marketing Group.(2) 10(i) Marketing Agreement effective May 29, 1998 between Transamerica Life Insurance and Annuity Company and Legacy Marketing Group.(3) 10(i)(1) Amendment Two to Marketing Agreement with Transamerica Life Insurance and Annuity Company.(12) 10(i)(2) Amendment Three to Marketing Agreement with Transamerica Life Insurance and Annuity Company.(14) 10(i)(3) Amendment Four to Marketing Agreement with Transamerica Life Insurance and Annuity Company.(21) 10(j)(1) Administrative Services Agreement effective May 29, 1998 between Transamerica Life Insurance and Annuity Company and Legacy Marketing Group, as amended.(3) 49 10(j)(2) Amendment to the Administrative Services Agreement with Transamerica Life Insurance and Annuity Company.(4) 10(j)(3) Amendment Two to the Administrative Services Agreement with Transamerica Life Insurance and Annuity Company.(4) 10(j)(4) Amendment Three to Administrative Services Agreement with Transamerica Life Insurance and Annuity Company. (12) 10(j)(5) Amendment Four to Administrative Services Agreement with Transamerica Life Insurance and Annuity Company.(14) 10(j)(6) Amendment Five to Administrative Services Agreement with Transamerica Life Insurance and Annuity Company.(21) 10(k) Marketing Agreement effective January 18, 2001 between John Hancock Life Insurance Company and Legacy Marketing Group. 10 (k)(1)Amendment to the Marketing Agreement with John Hancock Life Insurance Company. 10(l) Administrative Services Agreement effective January 18, 2001 between John Hancock Life Insurance Company and Legacy Marketing Group. 10(l)(1) Amendment to the Administrative Services Agreement with John Hancock Life Insurance Company. 10(m) Agreement of Purchase and Sale, dated March 8, 2001, by and between Regan Holding Corp. and G & W/Lakeville Corporate Center, LLC. (13) 10(n) Promissory Note by and between Regan Holding Corp. and Washington Mutual Bank FA, dated July 10, 2002. (17) 10(o) Producer Stock Award and Stock Option Plan, as amended.(8) 10(o)(1) 1998 Stock Option Plan, as amended.(8) 13.1 Annual Report filed on Form 10-K for the ended December 31, 2002. (19) 24 Power of Attorney. (20) 99.1 Certification of Lynda L. Regan pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.2 Certification of G. Steven Taylor pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (1) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1994. (2) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1995. (3) Incorporated herein by reference to the Company's Form 8-K, dated June 1, 1998. (4) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 1999. (5) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months ended March 31, 2000. (6) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and six months ended June 30, 2000. (7) Incorporated herein by reference to the Company's quarterly Form 10-Q for the three months and nine months ended September 30, 2000. (8) Incorporated herein by reference to the Company's Definitive Proxy Statement dated July 31, 2001. (9) Incorporated herein by reference to the Company's Form S-1/A Post Effective Amendment No. 1, dated February 2, 2001. (10) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 2000. (11) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the three months ended March 31, 2001. (12) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the six months ended June 30, 2001. (13) Incorporated herein by reference to the Company's Form 8-K, dated June 21, 2001. 50 (14) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the nine months ended September 30, 2001. (15) Incorporated herein by reference to the Company's Form S-2/A, Amendment No. 2, dated February 11, 2002. (16) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 2001. (17) Incorporated herein by reference to the Company's quarterly report on Form 10-Q for the six months ended June 30, 2002. (18) Incorporated herein by reference to the Company's amended annual report on Form 10-K/A for the year ended December 31, 2001. (19) Incorporated herein by reference to the Company's annual report on Form 10-K for the year ended December 31, 2002. (20) Previously filed. (21) Certain confidential commercial and financial information has been omitted from the indicated exhibits, but filed under separate cover with the U.S. Securities and Exchange Commission. 51 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. REGAN HOLDING CORP. By: /s/ Lynda L. Regan Date: March 31, 2003 - ---------------------- Lynda L. Regan Chairman and Chief Executive Officer By: /s/ G. Steven Taylor Date: March 31, 2003 - ------------------------ G. Steven Taylor Principal Accounting and Financial Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. By: /s/ Lynda L. Regan Date: March 31, 2003 - ---------------------- Lynda L. Regan Chairman and Chief Executive Officer By: /s/ R. Preston Pitts Date: March 31, 2003 - ------------------------ R. Preston Pitts President and Chief Operating Officer By: /s/ Donald Ratajczak Date: March 31, 2003 - ------------------------ Donald Ratajczak Director By: /s/ Ute Scott-Smith Date: March 31, 2003 - ------------------------ Ute Scott-Smith Director By: /s/ J. Daniel Speight, Jr. Date: March 31, 2003 - ------------------------------ J. Daniel Speight, Jr. Director 52 CERTIFICATIONS I, Lynda L. Regan, certify that: 1. I have reviewed this annual report on Form 10-K of Regan Holding Corp.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c. presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officer and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. /s/ Lynda L. Regan ---------------------------------------------------------------------------- Lynda L. Regan Chairman and Chief Executive Officer Date: March 31, 2003 53 I, G. Steven Taylor, certify that: 1. I have reviewed this annual report on Form 10-K of Regan Holding Corp.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c. presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officer and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. /s/ G. Steven Taylor -------------------------------------------------------------------------- G. Steven Taylor Chief Financial Officer Date: March 31, 2003 54