1 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, 1999 ----------------- 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 1-13004 CITIZENS, INC. ------------------------------------------------------ (Exact name of registrant as specified in its charter) Colorado 84-0755371 - ---------------------------------------- --------------------------------- (State of incorporation) (IRS Employer Identification No.) 400 East Anderson Lane, Austin, Texas 78752 - ---------------------------------------- --------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (512) 837-7100 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered Class A Common Stock American Stock Exchange -------------------- ----------------------------------------- Securities registered pursuant to Section 12(g) of the Act: None ---- 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 requirement 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] As of March 1, 2000, aggregate market value of the Class A voting stock held by non-affiliates of the Registrant was approximately $127,267,000. DOCUMENTS INCORPORATED BY REFERENCE Part III of this Report incorporates certain portions of the definitive proxy material of the Registrant in respect of its 2000 Annual Meeting of Shareholders. Number of shares of common stock outstanding as of March 1, 2000 Class A: 22,800,525 Class B: 664,523 2 PART I ITEM 1. BUSINESS (a) GENERAL DEVELOPMENT OF BUSINESS Citizens, Inc. (Citizens) operates primarily as an insurance holding company. It was incorporated in 1977. Citizens is the parent holding company that directly or indirectly owns 100% of Citizens Insurance Company of America (CICA), Computing Technology, Inc. (CTI), Insurance Investors, Inc. (III), Funeral Homes of America (FHA) (formerly Funeral Homes of Louisiana), Central Investors Life Insurance Company of Illinois (CILIC), United Security Life Insurance Co. (USLIC), National Security Life and Accident Insurance Company (NSLIC), First Investors Group, Inc. (Investors) and Excalibur Insurance Corporation (Excalibur). Collectively, Citizens and its subsidiaries are referred to herein as the "Company." Pertinent information relating to Citizens' subsidiary companies is set forth below: YEAR STATE OF BUSINESS SUBSIDIARY INCORPORATED INCORPORATION ACTIVITY ---------- ------------ ------------- -------- CICA 1968 Colorado Life insurance NSLIC 1954 Texas Life insurance USLIC 1967 Mississippi Life insurance CILIC 1965 Illinois Life insurance Investors 1996 Illinois Holding company Excalibur 1996 Illinois Life Insurance CTI 1986 Colorado Data processing III 1965 Texas Aircraft transportation FHA 1989 Louisiana Funeral home In June, 1997, CICA acquired American Investment Network, Inc. (AIN), a life insurance holding company and United Security Life Insurance Company (USLIC), its wholly-owned subsidiary, headquartered in Jackson, Mississippi with $7.5 million in assets, $3.4 million of stockholders' equity, revenues of $3.2 million and $67 million of life insurance in-force. AIN shareholders received 1 share of Citizens, Inc. Class A Common Stock for each 7.2 shares of AIN Common Stock owned. Citizens issued approximately 700,000 Class A shares in connection with the transaction, which was accounted for as a purchase. Subsequently, AIN was liquidated. In March, 1997, CICA merged CICA Acquisition, Inc. (a subsidiary organized for purposes of the transaction) into First American Investment Corporation (FAIC), which CICA had indirectly owned approximately 94.5% prior to the transaction. As part of this merger, CICA acquired the FAIC shares owned by minority investors at an exchange rate of 0.1111 shares of Class A Common Stock for each 1 share of FAIC owned by minority investors. Citizens issued approximately 134,000 shares of Class A Common Stock in this transaction which was accounted for as a purchase. Subsequently, FAIC was liquidated. 2 3 To streamline its corporate structure, in June, 1997, American Liberty Financial Corporation (ALFC), a wholly-owned subsidiary, was merged into Citizens. American Liberty Life Insurance Company (ALLIC), a subsidiary of ALFC, merged into CICA. In November, 1997, Citizens purchased 100% of the issued and outstanding shares of National Security Life and Accident Insurance Company (NSLIC) for $1,700,000, consisting of $1,000,000 cash and 96,000 restricted shares of Citizen's Class A Common Stock valued at $700,000. NSLIC is a Texas-domiciled life and accident and health insurer with assets of approximately $5 million and revenues of approximately $5 million. On September 10, 1998, Citizens entered into an agreement with First Investors Group, Inc. (Investors) of Springfield, Illinois to acquire 100% of the outstanding preferred and common shares of Investors for shares of Citizens' Class A Common stock. Investors is the parent of Excalibur Insurance Corporation (Excalibur), also of Springfield, Illinois. The agreement closed on January 26, 1999, with Citizens issuing approximately 609,000 shares to holders of Investors preferred and common stock. Certain statements contained in this Annual Report on Form 10-K are not statements of historical fact and constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act (the "Act"), including, without limitation, the italicized statements and the statements specifically identified as forward-looking statements within this document. In addition, certain statements in future filings by the Company with the Securities and Exchange Commission, in press releases, and in oral and written statements made by or with the approval of the Company which are not statements of historical fact constitute forward-looking statements within the meaning of the Act. Examples of forward-looking statements, include, but are not limited to: (i) projections of revenues, income or loss, earnings or loss per share, the payment or non-payment of dividends, capital structure, and other financial items, (ii) statements of plans and objectives of the Company or its management or Board of Directors including those relating to products or services, (iii) statements of future economic performance and (iv) statements of assumptions underlying such statements. Words such as "believes", "anticipates", "expects", "intends", "targeted", "may", "will" and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. Forward-looking statements involve risks and uncertainties which may cause actual results to differ materially from those in such statements. Factors that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited to: (i) the strength of foreign and U.S. economies in general and the strength of the local economies in which operations are conducted; (ii) the effects of and changes in trade, monetary and fiscal policies and laws; (iii) inflation, interest rates, market and monetary fluctuations and volatility; (iv) the timely development of and acceptance of new products and services and perceived overall value of these 3 4 products and services by existing and potential customers; (v) changes in consumer spending, borrowing and saving habits; (vi) concentrations of business from persons residing in third world countries; (vii) acquisitions; (viii) the persistency of existing and future insurance policies sold by the Company and its subsidiaries; (ix) the dependence of the Company on its Chairman of the Board; (x) the ability to control expenses; (xi) the effect of changes in laws and regulations (including laws and regulations concerning insurance) with which the Company and its subsidiaries must comply, (xii) the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies as well as the Financial Accounting Standards Board, (xiii) changes in the Company's organization and compensation plans; (xiv) the costs and effects of litigation and of unexpected or adverse outcomes in such litigation; and (xv) the success of the Company at managing the risks involved in the foregoing. Such forward-looking statements speak only as of the date on which such statements are made, and the Company undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made to reflect the occurrence of unanticipated events. (b) FINANCIAL INFORMATION REGARDING THE INSURANCE BUSINESS Citizens, through CICA, USLIC, NSLIC, CILIC and Excalibur, operates principally in two business segments: selling selected lines of individual life and accident and health (A&H) insurance policies in domestic markets and individual ordinary life insurance in international markets. Except for certain insignificant operations, Citizens has no present intention to engage in any non-insurance related business. The following tables set forth certain statistical information on the basis of Generally Accepted Accounting Principles (GAAP) concerning the operations of the Company for each of the five years ended December 31, 1999. TABLE I The following table sets forth (i) life insurance in-force and (ii) mean life insurance in-force. IN-FORCE MEAN LIFE BEGINNING IN-FORCE INSURANCE OF YEAR END OF YEAR IN-FORCE (a)(b) (a)(b) (a)(b) ------------------ ------------------ ------------------- 1999 $ 2,340,744 $ 2,197,844 $ 2,269,294 1998 2,250,197 2,340,744 2,295,471 1997 2,231,017 2,250,197 2,240,607 1996 2,151,955 2,231,017 2,191,486 1995 2,144,709 2,151,955 2,148,332 - ---------- (a) In thousands (000s) (b) Before ceding reinsurance to reinsurers 4 5 The increases in insurance in-force prior to 1999 as shown above reflect the volumes of new business written by the Company as well as the impact of acquisitions. Economic and other market disruptions in the Company's international markets had a negative impact on the Company's persistency in 1999, contributing to the decline in insurance in-force. Approximately $96,803,000 of the 1997 increases resulted from the acquisitions of USLIC and NSLIC. TABLE II The following table sets forth (i) the ratio of lapses and surrenders to mean life insurance in-force and (ii) life reinsurance ceded. RATIO OF REINSURANCE CEDED LAPSES AND ------------------------------------------------ SURRENDERS AMOUNT REINSURANCE LAPSES AND TO MEAN OF PREMIUM SURRENDERS (a) IN-FORCE REINSURANCE(a) CEDED(b) --------------------- ----------------- ----------------------- ------------------- 1999 $ 115,018 5.1% $ 278,689 $ 2,549,155 1998 100,906 4.4 306,070 3,368,690 1997 95,684 4.3 318,630 2,257,556 1996 101,860 4.6 296,378 2,511,318 1995 87,273 4.1 290,677 2,241,111 - --------- (a) In thousands (000s) (b) Approximately 95 percent of the reinsurance is yearly renewable term insurance, with the remainder being coinsurance. Premiums reflect both life and accident and health business. As described above, the disruption in certain international markets contributed to the increased lapsation and surrender activity in 1999. The decline in ceded premium in 1999 is related to the termination of a substantial portion of NSLIC's major medical business, much of which had been ceded. The increase in ceded premium in 1998 is due to the cession of a substantial portion of the major medical accident and health business of NSLIC. The increased lapses and surrenders during 1996 reflects the inclusion of the ALLIC insurance business. TABLE III The following table sets forth information with respect to total insurance premiums. ORDINARY ANNUITY & ACCIDENT LIFE(a) UNIVERSAL LIFE GROUP LIFE & HEALTH(a) TOTAL -------- -------------- ---------- ------------ ------- 1999 $47,687,414 $ 261,880 $ 484,746 $ 10,886,317 $ 59,320,357 1998 48,801,081 263,994 231,410 9,857,844 59,154,329 1997 49,412,066 366,135 284,632 5,299,783 55,362,616 1996 49,563,720 389,084 309,953 4,040,688 54,303,445 1995 45,120,631 119,335 306,256 698,206 46,244,428 - -------- (a) After deduction for reinsurance ceded. New sales of life insurance have remained relatively flat since 1996. The acquisition of ALLIC in late 1995 mitigated the decline in new life insurance sales and brought an increase in Accident 5 6 and Health premiums. Much of the 1998 increase in accident and health premiums relates to the acquisition of USLIC and NSLIC. TABLE IV The following table sets forth information relating to the ratio of underwriting and other expenses to insurance revenues. COMMISSIONS, UNDERWRITING AND OPERATING EXPENSES, POLICY RESERVE INCREASES, COMMISSIONS, UNDERWRITING POLICYHOLDER BENEFITS AND AND OPERATING EXPENSES DIVIDENDS TO POLICYHOLDERS ---------------------------- ---------------------------- RATIO TO RATIO TO INSURANCE INSURANCE INSURANCE PREMIUMS(a) AMOUNT PREMIUMS AMOUNT PREMIUMS ------------ ------------- ----------- -------------- --------- 1999 $59,320,357 $ 22,563,049 38.0% $ 68,043,243 114.7% 1998 59,154,329 23,580,491 39.9 66,914,063 113.1 1997 55,362,616 18,910,594 34.2 58,865,744 106.3 1996 54,303,445 21,948,637 40.4 59,113,575 108.9 1995 46,244,428 17,375,574 37.6 50,767,435 109.8 - ------- (a) After premiums ceded to reinsurers. Prior to 1996, the ratios of expenses to premiums had declined each year since 1989. These declines are the result of three factors: 1) underwriting and operating expenses have generally not increased at the same rate as premium income due to the Company's efficient method of operation; 2) sales commissions as a percentage of total premium income are declining annually as the business enters renewal stages and commissions are paid at a lower rate than the first year; and 3) the amount of new insurance written annually represents a smaller percentage of the Company's total premium income. However, in 1996, with the addition of ALLIC and the considerable expense associated with its marketing operation start-up, the ratio reached its highest level since 1993. Following the merger of ALLIC in 1997, significant reductions in operating expenses were realized. The 1997 acquisitions of NSLIC and USLIC and their related conversion expenses as well as increases in accident and health benefits were the primary reasons for the 1998 and 1999 increase in policyholder benefits and the 1998 increase in commission, underwriting and operating expenses. 6 7 TABLE V The following table sets forth changes in new life insurance business produced between participating and nonparticipating policies. PARTICIPATING NONPARTICIPATING TOTAL NEW ---------------------- -------------------- BUSINESS(a) AMOUNT(a) PERCENT AMOUNT(a) PERCENT ----------- ---------- ------- ---------- ------- 1999 $ 287,238 $ 180,800 62.9% $106,438 37.1% 1998 311,331 224,918 71.4 88,835 28.6 1997 286,698 245,547 85.6 41,151 14.4 1996 337,051 294,408 87.3 42,643 12.7 1995 296,811 271,108 91.3 25,703 8.7 - ----------- (a) In thousands (000s) The percentage of the new business produced that is participating represented the majority of new business from 1987 through 1995. The increase in non-participating business beginning in 1996 results from sales by USLIC and NSLIC, which sell only non-participating policies and a change in benefits in the Company's international business, as new or ordinary life products shifted away from participating to non-participating. The significant change in 1998 and 1999 is due to the volume of credit life business produced by NSLIC that is non-participating. TABLE VI The following table sets forth changes in new life insurance business issued according to policy types. WHOLE LIFE AND ENDOWMENT TERM CREDIT TOTAL NEW ---------------------- --------------------- ------------------- BUSINESS(a) AMOUNT(a) PERCENT AMOUNT(a) PERCENT AMOUNT(a) PERCENT ---------- --------- ------- --------- ------- --------- ------- 1999 $ 287,238 $ 183,726 63.9% $ 43,607 15.2% $59,905 20.9% 1998 311,331 224,918 72.2 51,531 16.6 34,882 11.2 1997 286,698 245,637 85.7 41,062 14.3 0 -- 1996 337,051 296,985 88.1 40,066 11.9 0 -- 1995 296,811 270,963 91.3 25,848 8.7 0 -- (a) In thousands (000s) This table illustrates that virtually all of the new business written prior to 1997 is whole life. The 1997 results reflect a decrease in new life business during the year which continued through 1999. Most of the 1998 and 1999 increases are due to the credit life business sold by NSLIC. The decline in 1998 and 1999 whole life production relates to the disruption in the Company's international market. 7 8 TABLE VII The following table sets forth deferred policy acquisition costs capitalized and amortized compared to new business life insurance issued. DEFERRED POLICY TOTAL NEW ACQUISITION COSTS BUSINESS ----------------------------------------- ISSUED CAPITALIZED AMORTIZED --------- ----------------- --------------- 1999 $ 287,238,000 $ 9,287,457 $ 10,028,806 1998 311,331,000 7,941,829 7,789,513 1997 286,698,000 9,804,022 9,630,705 1996 337,051,000 10,531,222 10,221,917 1995 296,811,000 10,579,704 8,511,876 The amortization of the capitalized costs has grown as the aggregate deferred acquisition cost asset has increased. In 1996, the amortization of deferred acquisition costs increased due to the increase in surrender activity. The decrease in costs capitalized for 1997 and 1998 reflects the reduction in the amount of new business produced and lower commission expenses incurred as a result thereof. In 1996, new business increased; however, the increase in capitalized costs was not as high due to changes in the commission structure of the Company. Amortization in 1999 was high due to increased surrender activity. TABLE VIII The following table sets forth investment results. RATIO OF NET INVESTMENT INCOME MEAN AMOUNT OF NET INVESTMENT TO MEAN AMOUNT INVESTED ASSETS(a) INCOME(b) OF INVESTED ASSETS(a) ------------------- -------------- --------------------- 1999 $ 175,305,342 $ 11,636,940 6.6% 1998 169,461,908 11,279,125 6.7 1997 150,481,414 10,038,736 6.7 1996 134,167,938 9,185,506 6.8 1995 111,926,695 7,026,909 6.3 - ------------- (a) The year 1997 includes assets acquired from NSLIC and USLIC. The year 1996 includes assets acquired from CILIC on March 12, 1996. The year 1995 includes assets acquired from ALLIC on September 14, 1995. (b) Does not include realized and unrealized gains and losses on investments. The Company hired an investment advisor in 1995, and this action contributed to the increased yield in 1996. Significant decreases in yields in the bond market caused the return on invested assets to drop slightly in 1997 and continued throughout 1998 and 1999. 8 9 (c) NARRATIVE DESCRIPTION OF BUSINESS (i) BUSINESS OF CITIZENS Citizens' principal business is ownership of CICA, Investors and their affiliates. Additionally, it provides management services to these companies under management services agreements. At December 31, 1999, Citizens had approximately 100 full and part-time employees. All intercompany fees and expenses have been eliminated in the consolidated financial statements. (ii) BUSINESS OF CICA Historically, CICA's revenues have been derived from life insurance premiums and revenues from investments. CICA is a Colorado-domiciled life insurance company marketing primarily ordinary whole-life products on an international basis through marketing companies. Additionally, it offers specialty individual accident and health policies to United States residents. All intercompany fees and expenses have been eliminated in the consolidated financial statements. During the fiscal year ended December 31, 1999, 93.1% of CICA's premium income was attributable to life, endowment and term insurance, 0.5% to individual annuities and 6.4% to accident and health insurance. During the fiscal year ended December 31, 1998, 93.2% of CICA's premium income was attributable to life, endowment and term insurance, 0.4% to individual annuities, and 6.4% to accident and health insurance. Of the life policies in force at December 31, 1999 and 1998, 39.9% and 39.6%, were nonparticipating and 60.1% and 60.4%, respectively were participating. From 1987 to 1997, CICA offered a series of participating whole life policies designed for international markets. All of the products were participating. Beginning January 1, 1998, CICA introduced a new series of policies as a replacement. Ten plans make up this series and, like those previously sold, are designed for the international market. They maintain many of the features of the previous series, and incorporate several new enhancements, such as terminal illness protection as well as dismemberment provisions. Additionally, following the merger with ALLIC, CICA began offering specialty individual accident and health products as well as ordinary whole life policies to residents of the United States. The sale of these products is focused in Oklahoma, Louisiana and Mississippi. In 1999 management began developing a domestic ordinary life sales program and filed such with the regulatory authorities for approval during the third quarter of 1999. CICA expects to place a significant emphasis on this program. Management expects that sales efforts will be commenced on a state-by-state basis which will target rural areas of the United States. Management began 9 10 recruiting associates in the State of Texas and expects sales efforts for the new product to begin in mid-2000. The CICA underwriting policy requires a medical examination of applicants for ordinary insurance in excess of certain prescribed limits. These limits are graduated according to the age of the applicant and the amount of insurance. Generally, the maximum amount of ordinary life insurance issued domestically without a medical examination is $200,000 for ages 0 through 35; $100,000 for ages 36 through 45; $50,000 for ages 46 through 50; $15,000 for ages 51 through 55; and $10,000 for ages 56 and over. Limits for insuring non-United States applicants without a medical examination are: $150,000 for ages 0 through 39; $50,000 for ages 40 through 65; and all amounts over age 65. The accident and health policies sold in the U.S. have only minimal, field underwriting. On life policies, CICA's maximum coverage on any one life is not limited by company policy. However, CICA reinsures the amount of coverage which is in excess of its retention policy. See "Business of CICA - Reinsurance." CICA does not accept substandard risks above Table 6 (generally policyholders who cannot qualify for standard ordinary insurance because of past medical history) in exchange for which CICA would charge higher premiums. CICA has $25.1 million of insurance in-force on individuals that are classified as substandard risks, the majority of such business having been acquired in the purchase of other companies. Management believes the exposure to loss as a result of insuring these individuals is minimal, since the premiums are increased to cover the nature of the risk, additional reserves are established, and the amount of this insurance represents approximately 1.0% of the total insurance in-force. GEOGRAPHICAL DISTRIBUTION OF BUSINESS The following table sets for CICA's total yearly premium income by geographic area for the years indicated. PERCENT OF CICA'S TOTAL PREMIUM INCOME AREA 1999 1998 1997 ---- ---- ---- ---- Oklahoma 5.4% 5.5% 6.2% Texas 2.3% 3.2% 2.7% Louisiana 1.2% 1.2% 1.5% Colorado --% --% 1.0% All Other States 5.6% 6.8% 5.7% Foreign 85.5% 83.3% 82.9% The participating whole life policies accepted by CICA on high net worth residents of foreign countries have an average face amount of approximately $70,000 and are marketed primarily to the top 5% of the population in terms of 10 11 household income. CICA accepts applications for international insurance policies marketed by several independent firms in these markets with whom CICA has non-exclusive consulting contracts. These firms specialize in marketing life insurance products to citizens of foreign countries. These life products are specially designed by CICA to be compatible with marketing methods and commission requirements. The international firms have many years' experience marketing life insurance products for CICA. These firms provide recruitment, training and supervision of their managers and associates in the placement of dollar-denominated life insurance products; however, all consultants and associates contract directly with CICA and receive their compensation from CICA. Accordingly, should the consulting arrangement between any firm and CICA be canceled for any reason, CICA believes it could continue suitable marketing arrangements with the individuals of the consulting firms without appreciable loss of present and future sales, as it has done in the past. There is, however, always a risk that sales could decrease. The contract with the consultants provides that they have the responsibility for recruiting and training their sales associates. They are responsible for all of their overhead costs and bear the expense of contests and awards. These firms guarantee any debts of marketers and their associates. In consideration for the services rendered, the marketing consultants receive a fee on all new policies placed by them or their associates. See "Business of CICA - Commissions." The marketing contracts may be terminated for various causes at any time by mutual consent of the parties or upon 30 days' notice by either party. At present, CICA is dependent on the non-U.S. markets for a large percentage of its new life insurance business. This subjects CICA to potential risks with regard to the continued ability to write such business should adverse events occur in the countries from which CICA receives applications. These potential risks include lapses of policies if funds that flow out of such countries were to become restricted. Based on more than 35 years experience in the marketplace in which CICA competes, management believes such risks are not material. The Company maintains no assets outside the U.S. and requires all premiums to be paid in the U.S. with U.S. dollars via drafts drawn on banks in the U.S.; therefore, it could lose no funds from currency devaluation or foreign appropriation. Many of the inherent risks in foreign countries, such as political instability, hyper-inflation and economic disruptions tend to improve rather than hurt CICA's business because it encourages individuals to convert assets out of local currencies to the more stable U.S. dollar. The development of CICA's U.S. market, will, in the opinion of management, reduce the dependence on foreign markets in the future. It is expected that the domestic program will take several years to build sales to a level approximating that sold internationally. 11 12 MARKETING OPERATIONS CICA holds licenses to do business in 15 states and accepts applications from numerous foreign countries. CICA's operations are conducted on the independent contractor basis, with a sales force at December 31, 1999 of 1,415 individuals, 615 individuals at December 31, 1998 and 777 individuals at December 31, 1997. The decrease in marketing consultants in 1998 reflects the loss of former ALLIC sales representatives described below, while the 1999 increase demonstrates the emphasis on recruiting placed by management. COMMISSIONS CICA's marketing managers are independent contractors, responsible for their respective expenses, and are compensated on a percentage of premium basis. Percentage amounts paid to salesmen on individual term, annuity and accident and health insurance are substantially less than the levels paid for individual ordinary life insurance. The marketing managers receive overriding first year and renewal commissions on business written by individuals under their supervision and all marketing expenses related thereto are included in the above percentages. RESERVES CICA establishes actuarial reserves as liabilities to meet obligations on all outstanding policies. Reserves and deferred acquisition costs are prepared in conformity with the American Academy of Actuaries Committee on Financial Reporting Principles and generally accepted accounting principles. In determining such reserves CICA used the 1955 to 1960, 1965 to 1970, and 1975 to 1980 Select and Ultimate Mortality Tables with interest rates at 4% or in a range graded from 9% to 5% with recent issues reserved at 7% graded to 6 1/2%. Withdrawal assumptions are based primarily on actual historical experience. Statutory reserves are used for paid-up life business. Claims reserves include an amount equal to the expected benefit to be paid on reported claims in addition to an estimate of claims that are incurred but not reported, based on actual historical experience. CICA receives an independent actuarial certification of its reserves prepared in accordance with both Generally Accepted Accounting Principles and Statutory Accounting Practices. The certifications have noted no deficiencies for the years presented herein. REINSURANCE CICA assumes and cedes insurance with other insurers, reinsurers and members of various reinsurance pools. Reinsurance arrangements are utilized to provide greater diversification of risk and minimize exposure on larger risks. 12 13 (a) INSURANCE CEDED CICA generally retains $75,000 of risk on any one person. As of December 31, 1999, the aggregate amount of life insurance ceded amounted to $259,060,000 or 10.8% of total direct and assumed life insurance in force, and $278,277,000 or 10.8% in 1998. CICA is contingently liable with respect to ceded insurance should any reinsurer be unable to meet the obligations reinsured. As of December 31, 1999, CICA had in effect automatic reinsurance agreements that provide for cessions of ordinary insurance from CICA. Additionally, CICA has reinsurance treaties in force with several reinsurers of life and accident and health insurance. These treaties provide for both automatic and facultative reinsurance of standard and substandard risks ceded to them by CICA for life, accident and health and supplemental benefits above CICA's retention limit on a yearly renewable term, coinsurance or modified coinsurance basis. Treaties with Employers Reassurance (ERC) and Businessmen's Assurance (BMA) historically have been the primary vehicle utilized by CICA for its international business. The treaties are structured in such a way as to allow CICA to "self administer" the cessions on a reduced cost basis. During 1995, a third carrier was added as a principal reinsurer, Riunione Adriatica di Sicurta, of Italy (RAS). The ERC and BMA agreements provide that for risks reinsured in specified countries, 70% of each risk in excess of CICA's retention will be ceded to ERC and 30% to BMA. The RAS agreement provides that on risks reinsured in specified countries, 100% of the risk in excess of CICA's retention is ceded to RAS. CICA pays premiums to ERC and BMA on an annual basis and is responsible for the production of the reporting monthly and annually to ERC and BMA to allow proper accounting for the treaties. The cessions are on a yearly renewable term basis and are automatic up to $333,333 for ERC, $500,000 for RAS and $166,667 for BMA at which point the reinsurance is subject to a facultative review by the reinsurers. At December 31, 1999, CICA had ceded $150,350,000 in face amount of insurance to ERC, $25,616,000 to BMA and $74,377,000 to RAS under these agreements. RAS is an unauthorized reinsurer in the state of Colorado; however RAS has agreed to comply with Colorado statutes regarding such companies. Under these statutes, RAS will provide a letter of credit, issued by a U.S. bank meeting the Colorado requirements, equal to any liabilities it incurs under this agreement. RAS notified CICA in late 1999 that it is withdrawing from the reinsurance market effective January 1, 2000. As a result, CICA is holding discussions with possible reinsurers for new international business. The Company anticipates little difficulty in finding a reinsurer to replace RAS and does not expect a change in structure or rates. 13 14 A reinsurance treaty with Connecticut General Life Insurance Company (CG) covers all of CICA's accidental death insurance supplementing its life insurance policies. These cessions are on a yearly renewable term basis and occur automatically if total accidental death benefits known to CICA are less than $250,000 or otherwise on a facultative review basis. At December 31, 1999, CICA had ceded $1.2 billion in face amount of business to CG under this treaty. CICA monitors the solvency of its reinsurers to minimize the risk of loss in the event of a failure by one of the parties. The primary reinsurers of CICA are large, well capitalized entities which have no current or prior history of financial difficulty. (b) INSURANCE ASSUMED At December 31, 1999, CICA had in-force reinsurance assumed as follows: TYPE OF AMOUNT BUSINESS IN-FORCE AT NAME OF COMPANY LOCATION ASSUMED END OF YEAR -------------------- ---------- ---------- ------------ Prudential Insurance Newark, Ordinary Company (Prudential) New Jersey Group Life $273,146,000 The reinsurance agreement with Prudential provides for CICA to assume a portion of the insurance under a group insurance policy issued by Prudential to the Administrator of Veterans' Affairs. CICA's portion of the total insurance under the policy is allocated to CICA in accordance with the criteria established by the Administrator. The agreement continues in full force and effect at December 31, 1999. CICA has also entered into a Serviceman's Group Life Insurance Conversion Pool Agreement with Prudential, under the above described agreement, whereby CICA assumed a portion of the risk of Prudential under the group policy due to excess mortality under the conversion pool agreement resulting from issuing conversion policies as prescribed for membership in the conversion pool. INVESTMENTS State insurance statutes prescribe the quality and percentage of the various types of investments which may be made by insurance companies and generally permit investment in qualified state, municipal, federal and foreign government obligations, high quality corporate bonds, preferred and common stock, real estate and mortgage loans within certain specified percentages. CICA's invested assets at December 31, 1999 were distributed as follows: fixed maturities - 86.2%, mortgage loans - 0.8%, policy loans - 12.9% and other long-term investments - 0.1%. CICA did not foreclose on any mortgage loans in 1999. All mortgage 14 15 loans are supported by independently appraised real estate. The investment policy of CICA is consistent with the provisions of the Colorado Insurance Code. At December 31, 1999, 81.3% of CICA's investments in fixed maturities were comprised of U.S. Treasury securities and obligations of U.S. government corporations and agencies, including U.S. government guaranteed mortgage-backed securities, compared to 85.1% at December 31, 1998. Of these mortgage-backed securities, all were guaranteed by U.S. government agencies or corporations that are backed by the full faith and credit of the U.S. government or that bear the implied full faith and credit of the U.S. government. REGULATION CICA is subject to regulation and supervision by the insurance department of each state or other jurisdiction in which it is licensed to do business. These departments have broad administrative powers relating to the granting and revocation of licenses to transact business, the licensing of marketing persons, the approval of policy forms, the advertising and solicitation of insurance, the form and content of mandatory financial statements, the reserve requirements, and the type of investments which may be made. CICA is required to file detailed annual reports with each such insurance department, and its books and records are subject to examination at any time. In accordance with state laws and the rules and practices of the National Association of Insurance Commissioners, CICA is examined periodically by examiners of its domiciliary state and by representatives (on an "association" or "zone" basis) of the other states in which it is licensed to do business. An examination was concluded in 1998 for the five years ended December 31, 1996, by a public accounting firm under contract with and supervision by the Colorado Division of Insurance. CICA is audited annually by an independent public accounting firm. Various states, including Colorado, have enacted "Insurance Holding Company" legislation which requires the registration and periodic reporting by insurance companies which control, or are controlled by, other corporations or persons. Under most of such legislation, control is presumed to exist with the ownership of ten percent or more of an insurance company's voting securities. The Company is subject to such regulation and has registered under such statutes as a member of an "insurance holding company system." The legislation typically requires periodic disclosure concerning the transactions between the registered insurer, the ultimate controlling party, and all affiliates and subsidiaries of the ultimate controlling party, and in many instances requires prior approval of intercorporate transfers of assets (including in some instances payment of dividends by the insurance subsidiary) within the holding company system. Since CICA does not physically conduct business in countries outside the U.S. but rather accepts applications from overseas marketers, it is not subject to regulation in countries where most of its insureds are residents. The prospect of such 15 16 regulation is viewed as remote by management of CICA because obtaining insurance through application by mail outside of one's country is a common practice in many foreign countries, particularly those where CICA's insureds reside. COMPETITION The life insurance business is highly competitive, and CICA competes with a large number of stock and mutual companies. CICA believes that its premium rates and its policies are generally competitive with those of other life insurance companies, many of which are larger than CICA, selling similar types of insurance. CICA's international marketing plan stresses making available dollar-denominated life insurance products available to high net worth individuals residing in foreign countries and the sale of individual, whole life and supplemental accident and health products to United States residents. A large percentage of CICA's first year and renewal life insurance premium income during 1998 and 1999 came from the international market. See "Business of CICA - Geographical Distribution of Business." Management believes CICA to be a significant competitor in the international market and attributes its market position to the expertise of management, the uniqueness of its life insurance products and competitiveness of its pricing methods. CICA faces offshore competition from numerous American life insurance companies that also sell U.S. dollar denominated policies to non-U.S. citizens, with no one company being dominant in the market. Some companies may be deemed to have a competitive advantage due to histories of successful operations and large agency forces. Management believes that its experience, combined with the special features of its unique policies, allows CICA to compete effectively in pursuing new business. Management believes that CICA competes indirectly with non-U.S. companies, particularly with respect to Latin American companies. CICA, as a U.S. domestic insurer paying claims in U.S. dollars in the U.S., has a different clientele and product than foreign-domiciled companies. CICA's product is usually acquired by persons in the top 5% of income of their respective countries. The policies sold by foreign companies are sold broadly and are priced based on the mortality of the entire populace of the respective geographic region. Because of the predominance of lower incomes in most of these countries, the mortality experience tends to be very high on the average, causing mortality charges which are considered unreasonable based on the life mortality experience of the upper five percent of income of the population. Additionally, the assets that back up the policies issued by foreign companies are invested in the respective countries, and thus, are exposed to the inflationary risks 16 17 and economic crises that historically have impacted many foreign countries. Another reason that CICA experiences an advantage is that many of its policyholders desire to transfer capital out of their countries due to the perceived financial strength and security of the United States by foreigners. Also, CICA competes indirectly with other U.S. and European insurers in countries where CICA's insureds reside. CICA's experience has been that its market niche is in attracting insureds who want the safety and security of a U.S. domestic insurer. Management of CICA considers it to be difficult and speculative to estimate the potential of the foreign market for U.S. insurers. However, based upon the volume of new premium generated by CICA that originates from many countries in Latin America, management believes that CICA receives a substantial share of such business. However, CICA does not have market share data to confirm management's belief. CICA intends to initiate a new domestic marketing thrust during 2000 focusing on the sale of individual ordinary life insurance products to residents of rural communities. This program will be initiated through one state at a time. Management believes this market is significantly ignored by the majority of U.S. insurers. Competition from many U.S. companies is significantly greater in the domestic market, particularly as banking institutions enter the insurance market due to the passage of the Graham Leach Bliley Act in 1999. In CICA's block of accident and health insurance (6.4% of total premium income), it is in competition with many insurance companies as well as with voluntary and government-sponsored plans for meeting hospitalization and medical expenses such as Blue Cross/Blue Shield, "Medicare" and "Medicaid." Future expansion of such programs or the establishment of additional government health programs could adversely affect the future of accident and health insurance on CICA's books, most of which has been acquired in the acquisition of other companies. FEDERAL INCOME TAXATION CICA is a "small company" as that term is defined in the Internal Revenue Code (the "Code"), section 806. As such, CICA qualified for a special small company deduction (presently equal to 60% of "tentative life insurance company taxable income") which serves to decrease significantly the amount of tax which might otherwise have to be paid. The Revenue Reconciliation Act of 1990 revised the method in which insurance companies claim deductions for policy acquisition costs. Previously, insurance companies were allowed to deduct actual policy acquisition costs as they were incurred. Beginning in 1990, policy acquisition costs are determined as a percentage of annual net premiums and are then deductible on a straight-line basis over a ten-year period rather than treated as an immediate deduction. This change in treatment for acquisition costs has had a significant impact on CICA's taxable 17 18 income due to the relatively large amounts of such deferrals caused by the increases in new business. CICA files a consolidated Federal income tax return with Citizens and its subsidiaries. (iii) BUSINESS OF NSLIC NSLIC was acquired in November, 1997. Domiciled in Arlington, Texas, NSLIC's revenues have historically been derived from revenues generated by the sale of ordinary whole life insurance, individual supplemental and major medical health insurance, credit insurance and investment income. All intercompany fees and expenses have been eliminated in the consolidated financial statements. During the year ended December 31, 1999, 7.3% of premium revenue was attributable to life, endowment and term insurance; 24.9% to credit insurance; and 67.8% to accident and health insurance. All of the life insurance in force is non-participating. Prior to the acquisition by Citizens, NSLIC's sales efforts centered on a major medical supplemental hospitalization policy and the credit business. The credit business is sold primarily through furniture stores in Texas. As a result, the average contract size is relatively small, and the average duration is approximately two years. NSLIC's block of business consists of large amounts of scheduled daily indemnity policies and major medical coverage. During the second half of 1998, NSLIC began to experience an increase in the volume of claims. As a result of the substantial increase in the volume of claims plus an increase in the accident and health loss ratio, in 1999 management canceled a large portion of these existing blocks of major medical business in order to curtail both claims and operational expenses. This action will result in a decrease of annual premium income of $1.6 million. However, due to the claims experience as well as the overhead necessary to administer such management believes that the action will enhance near and long-term profitability. In December, 1999, CICA filed a Plan and Agreement of Merger with the Insurance Departments of Texas and Colorado whereby NSLIC would be merged with and into CICA. The effective date of the Plan for accounting purposes is January 1, 2000. GEOGRAPHICAL DISTRIBUTION OF BUSINESS For the year ended December 31, 1999, 96.5% of NSLIC's total premium income was derived from residents of Texas; and 2.0% from Louisiana residents. For 1998, 97.3% of total premium income was derived from residents of Texas and 2.6% from Louisiana residents. 18 19 MARKETING OPERATIONS NSLIC holds licenses to do business in three states - Texas, Oklahoma and Louisiana. NSLIC's operations are conducted through independent contractors, with a sales force of 76 representatives at December 31, 1999 and 142 at December 31, 1998. RESERVES NSLIC establishes actuarial reserves as liabilities to meet obligations on all outstanding policies. Reserves and deferred acquisition costs are prepared in conformity with the American Academy of Actuaries Committee on Financial Reporting Principles and generally accepted accounting principles. Claims reserves include an amount equal to the expected benefit to be paid on reported claims in addition to an estimate of claims that are incurred but not reported, based on actual historical experience. NSLIC receives an independent actuarial review of its reserves. The independent actuaries have noted no deficiencies for the years presented herein. REINSURANCE NSLIC cedes insurance with other insurers, reinsurers and members of various reinsurance pools. Reinsurance arrangements are utilized to provide greater diversification of risk and minimize exposure on larger risks. INSURANCE CEDED As of December 31, 1999, NSLIC had in effect automatic reinsurance agreements that provide for cessions of ordinary insurance. Additionally, NSLIC has reinsurance treaties in force with several reinsurers of life and accident and health insurance. These treaties provide for both automatic and facultative reinsurance of standard and substandard risks for life, accident and health and supplemental benefits above NSLIC's retention limit on a yearly renewable term basis. NSLIC generally retains $20,000 of risk on any one person. A treaty with Life Reinsurance Corporation of America has historically been the primary vehicle utilized by NSLIC for its life business and a treaty with Reliastar is in effect on NSLIC's accident and health business. As of December 31, 1999, the aggregate amount of life insurance ceded amounted to $891,000 or 2.0% of total direct life insurance in force. Additionally, NSLIC ceded $154,000 of accident and health premium (approximately 4.9% of total A&H premium). NSLIC is contingently liable with respect to ceded insurance should any reinsurer be unable to meet the obligations reinsured. 19 20 NSLIC monitors the solvency of its reinsurers to minimize the risk of loss in the event of a failure by one of the parties. The primary reinsurers are large, well capitalized entities which have no current or prior history of financial difficulty. INVESTMENTS State insurance statutes prescribe the quality and percentage of the various types of investments which may be made by insurance companies and generally permit investment in qualified state, municipal, federal and foreign government obligations, high quality corporate bonds, preferred and common stock, real estate and mortgage loans by certain specified percentages. NSLIC's invested assets at December 31, 1999 were distributed as follows: fixed maturities - 99.8% and policy loans - 0.2%. REGULATION NSLIC is subject to regulation and supervision by the insurance department of each state or other jurisdiction in which it is licensed to do business. These departments have broad administrative powers relating to the granting and revocation of licenses to transact business, the licensing of marketing persons, the approval of policy forms, the advertising and solicitation of insurance, the form and content of mandatory financial statements, the reserve requirements, and the type of investments which may be made. NSLIC is required to file detailed annual reports with each such insurance department, and its books and records are subject to examination at any time. In accordance with state laws and the rules and practices of the National Association of Insurance Commissioners, NSLIC is examined periodically by examiners of its domiciliary state and by representatives (on an "association" or "zone" basis) of the other states in which it is licensed to do business. NSLIC's most recent examination which was completed during 1999, was for the three years ended December 31, 1997, by the Texas Department of Insurance. NSLIC is audited annually by an independent public accounting firm. Various states, including Texas, have enacted "Insurance Holding Company" legislation which requires the registration and periodic reporting by insurance companies which control, or are controlled by, other corporations or persons. Under most of such legislation, control is presumed to exist with the ownership of ten percent or more of an insurance company's voting securities. NSLIC is subject to such regulation and has registered under such statutes as a member of an "insurance holding company system." The legislation typically requires periodic disclosure concerning the transactions between the registered insurer, the ultimate controlling party, and all affiliates and subsidiaries of the ultimate controlling party, and in many instances requires prior approval of intercorporate transfers of assets (including in some instances payment of dividends by the insurance subsidiary) within the holding company system. 20 21 COMPETITION The life insurance business is highly competitive, and NSLIC competes with a large number of stock and mutual companies. NSLIC believes that its premium rates and its policies are generally competitive with those of other life insurance companies, many of which are larger than NSLIC, selling similar types of insurance. In NSLIC's block of accident and health insurance, it is in competition with many life insurance companies as well as with voluntary and government-sponsored plans for meeting hospitalization and medical expenses such as Blue Cross/Blue Shield, "Medicare" and "Medicaid." Future expansion of such programs or the establishment of additional government health programs could adversely affect the future of accident and health insurance on NSLIC's books. (iv) BUSINESS OF USLIC USLIC is a Mississippi-domiciled life and accident and health insurer offering whole life products and specialty accident and health products to residents of the Southeastern United States. USLIC is licensed in the states of Alabama, Arizona, Arkansas, Georgia, Indiana, Louisiana, Mississippi, New Mexico, Oklahoma, Tennessee and Texas. In February 2000, CICA filed a merger plan with regulatory authorities in Mississippi and Colorado, wherein USLIC would merge with and into CICA. All intercompany fees and expenses were eliminated in the consolidated financial statements. USLIC's in force block of business has consisted of large amounts of scheduled daily indemnity policies, major medical coverage and group dental business. In 1998 and early 1999, USLIC added approximately $3 million in premiums of new group dental business. During the second half of 1998, USLIC began to experience a significant increase in the volume of claims, which resulted from the high early utilization by holders of the dental certificates. As a result of the substantial increase in the volume of claims plus an increase in the accident and health loss ratio, in 1999 management canceled a large portion of the existing blocks of group dental business in order to curtail both claims and operation expenses. Approximately 60% of the group dental business was terminated prior to January 1, 2000 and management expects the remaining dental business to terminate by December 31, 2000, the earliest date allowed by contract for termination. This action will result in a decrease in annual premium income of $3 million; however, due to the claims experience as well as the overhead necessary to administer such, management believes that the action will enhance near and long-term profitability. As of December 31, 1999, USLIC had $27,492,000 of life insurance in force, of which $16,534,000 was reinsured and $10,958,000 retained. The maximum retention by USLIC on any one life for life insurance policies is $20,000. All of the accidental death benefit coverage is reinsured. 21 22 Since 1994, USLIC has emphasized several supplementary health insurance products, i.e., cancer, hospital indemnity, outpatient sickness, catastrophic illness, emergency accident, intensive care, disability income and Medicare supplement policies. Premiums are employer paid or paid through payroll deduction. USLIC issues only through Table 4 (100% extra mortality) on its primary life policy to improve the mortality and potential profitability on that product line. The substandard risks are those that by reason of health, occupation or avocation fall outside the normal anticipated mortality levels of the general population as developed by the actuarial sciences. All of its accidental death risk is reinsured. USLIC also has a reinsurance agreement on its cancer policy which limits its exposure to $35,000 in any calendar year on any one claim. Additionally, various other health products are reinsured to minimize risk. USLIC's selling efforts are not usually concentrated on any one economic, occupational, hazard or age group. The marketing territory is Alabama, Arkansas, Louisiana, Mississippi, Oklahoma, Tennessee and Texas. Policies are sold by direct licensed representatives and licensed general agents. None of these agents has underwriting authority. The commissions paid are believed by management to be competitive with commissions paid by other life insurance companies in the states in which USLIC is licensed to operate. USLIC is aware that there is considerable competition for obtaining qualified agents and that it competes with well-established insurance companies for agents to sell its policies. USLIC also recruits agents from among persons who are not now engaged in the selling of life and accident and health insurance, and USLIC trains such agents. USLIC presently has approximately 200 licensed agents. The agents recruited and licensed by USLIC hold licenses with other companies and possibly could sell other companies' policies that are similar in some respects to USLIC's policies. This arrangement is common with companies that recruit and license general agents. From 1997 through 1999, virtually all sales were supplemental accident and health or group dental products. For 1999, 12.0% premium income was from life policies and 88.0% from accident and health policies, and in 1998, 12.5% of premium income was from life products, and 87.5% from accident and health. INVESTMENTS USLIC invests and reinvests certain of its reserves and other funds. The investments of USLIC are limited as to type and amount by the Mississippi insurance laws which are designed to insure prudent investment policies. The investment of capital, paid-in and operating surplus and other funds of insurers organized under the laws of the State of Mississippi is specified by the Mississippi Insurance Code. These statutes include general and specific limitations on investments, records of investments and other matters. The 22 23 Mississippi insurance law regulating investments and other aspects of the management of insurance companies is designed primarily for the protection of policyholders rather than investors. The administration of USLIC's investment portfolio is handled by the same outside investment manager as CICA's, with all trades approved by a committee of the Board of Directors. The guidelines used require that bonds, both government and corporate, are of high quality and comprise a majority of the investment portfolio. The assets selected are intended to mature in accordance with the average maturity of the insurance products and to provide the cash flow for USLIC to meet its policyholder obligations. The type, quality and mix will enable USLIC to compete in the life insurance marketplace and to provide appropriate interest margins. REINSURANCE As is customary among insurance companies, USLIC will reinsure with other companies portions of the life insurance risks it will underwrite. The primary purpose of reinsurance agreements is to enable an insurance company to reduce the amount of its risk on any particular policy and, by reinsuring the amount exceeding the maximum amount the insurance company is willing to retain, to write policies in amounts larger than it could without such agreements. Even though a portion of the risk may be reinsured, USLIC will remain liable to perform all obligations imposed by the policies issued by it and is liable if its reinsurer should be unable to meet its obligation under the reinsurance agreements. USLIC's general policy is to reinsure business with insurance companies with an A.M. Best and Company rating of "A" or better. USLIC's life reinsurance is being ceded through automatic and facultative treaties with two unaffiliated insurance companies, Businessmen's Assurance Company, Kansas City, Missouri, and Optimum Reinsurance Co., Dallas, Texas. At December 31, 1999, USLIC had ceded to BMA, $7,834,000 in face amount, and $8,700,000 to Optimum Re. It is the practice of USLIC to reinsure all accidental death benefit risks that are written. USLIC has a reinsurance agreement with Reliastar Financial Corporation, Minneapolis, Minnesota, providing coverage of claims in excess of various amounts on several of its accident and health policies. Approximately $336,000 in premiums were ceded under this treaty in 1999. RESERVES USLIC has established actuarially computed reserves as liabilities to meet its policy obligations. These reserves are the amounts which, with additions from premiums to be received and with interest on such reserves, compounded annually at certain assumed rates, are calculated to be sufficient according to accepted actuarial principles to meet policy obligations as they mature. The various actuarial factors are determined from mortality tables and interest rates in effect 23 24 when the policies are issued. The reserves to be included in statutory filings will be valued on a basis that meets the requirements of the law in Mississippi. USLIC receives an independent actuarial certification of its reserves prepared in accordance with both GAAP and Statutory accounting practices. REGULATION Mississippi insurance laws and regulations generally govern the accounting practices and prescribe the procedures and forms for financial reports of insurance companies prepared on a Statutory accounting basis and filed with the Mississippi Insurance Department. Reports prepared in accordance with the prescribed or permitted statutory accounting practices are primarily intended to insure the ability of an insurance company to meet its obligations to policyholders and do not necessarily reflect going concern value. Balance sheets prepared in accordance with statutory accounting practices are designed primarily to reflect the financial position of insurance companies from the standpoint of solvency. Certain of the prescribed or permitted accounting practices differ in some respects from generally accepted accounting principles followed by other business enterprises in determining financial position and results of operations. The insurance laws of the State of Mississippi also provide that a life insurance company will be assessed a lower premium tax if up to 25% of the company's investments are in Mississippi securities. The management of USLIC has invested its assets in a manner to incur the lower tax rate. In common with other insurance companies operating in Mississippi, USLIC is subject to the regulation and supervision of the Mississippi Insurance Commissioner. After making application for admission and receiving proper license, USLIC may operate in other states and, at that time, will be subject to regulation and supervision in any other state where it may be permitted to transact business. Such regulation is primarily for the benefit and protection of insurance policyholders rather than shareholders of insurance companies. Broad administrative powers are possessed by the Mississippi Department of Insurance and other supervising agencies. Although the powers differ from state to state, in general they include authority to grant and revoke licenses to transact business, to be an agent, to supervise premium rates, to approve the form of insurance contracts, to supervise the form of financial statements filed with such agency, to regulate capital requirements, to regulate insurable interest on one life and to require the filing of detailed annual reports. USLIC's business and accounts are subject to examination by the Mississippi Department of Insurance which conducted an examination in 1997 for the three years ended December 31, 1996. (v) BUSINESS OF CILIC CILIC is an Illinois domiciled life insurer admitted to do business in four states. Dormant for several years, CILIC services a closed block of life insurance 24 25 policies. At December 31, 1999, CILIC had assets of $2.8 million and annual revenues of $195,000. All intercompany fees and expenses have been eliminated in the consolidated financial statements. (vi) BUSINESS OF INVESTORS Investors is an Illinois holding company that owns Excalibur. Investors became a wholly-owned subsidiary of Citizens on January 26, 1999. All intercompany fees and expenses have been eliminated in the consolidated financial statements. (vii) BUSINESS OF EXCALIBUR Excalibur is an Illinois-domiciled life insurer. It services a small block of ordinary life insurance. Excalibur is 100% owned by Investors which became a wholly-owned subsidiary of Citizens on January 26, 1999. At December 31, 1999, Excalibur had assets of $3.5 million and annual revenues of $225,000. All intercompany fees and expenses have been eliminated in the consolidated financial statements. (viii) BUSINESS OF CTI CTI is a wholly-owned subsidiary of CICA and engages in the business of providing data processing services and acquisition and leasing of furniture and equipment for its parent as well as data processing services and software to other companies. Pursuant to an Information Systems Management and Services Contract dated October 1, 1991, and subsequently amended, CTI provides data processing services to the Company for a fixed fee of $85,000 per month. As of and for the year ended December 31, 1999, CTI's total assets were $920,000 and revenues were $1,058,000. All intercompany fees and expenses have been eliminated in the consolidated financial statements. (iv) BUSINESS OF III In August, 1993, Citizens sold the stock of III to CICA for its book value. III provides aviation services to the Company. As of and for the year ended December 31, 1999, III's total assets were $1,119,000 and revenues were $205,000. All intercompany fees and expenses have been eliminated in the consolidated financial statements. (x) BUSINESS OF FHA Formed in 1989, FHA, formerly Funeral Homes of Louisiana, owns and operates a funeral home in Baker, Louisiana. Constructed in 1992, the operation of the Baker Funeral Home constitutes the primary business function of FHA. At December 31, 1999, FHA had total assets of $560,000 and total annual revenues of $472,000. All intercompany fees and expenses have been eliminated in the consolidated financial statements. 25 26 ITEM 2. DESCRIPTION OF PROPERTIES CICA owns its principal office in Austin, Texas, consisting of an 80,000 square foot office building. Approximately 45,000 square feet is occupied by CICA and its affiliates with the remainder of the building being leased. At December 31, 1999, the occupancy rate of the property was 100%. Through the acquisition of American Liberty Financial Corporation described above, the Company also owns a 6,324 square foot funeral home in Baker, Louisiana with a total cost of $473,000. This facility is owned and operated by a subsidiary, FHA. ITEM 3. LEGAL PROCEEDINGS In March 1999, the Company was served with a summons regarding an action entitled Berdeaux Living Trust v. First Investors Group, Inc., Donald L. Dennis, H. Marie Dennis, Winona Drewes and Citizens, Inc. in U.S. District Court, Southern District of Illinois. The complaint alleged that the defendants defrauded the plaintiffs and other persons who were preferred shareholders of Investors in connection with an acquisition of Investors completed by the Company in early 1999. In the acquisition, the Company issued approximately 610,000 shares of its Class A Common Stock to shareholders of Investors pursuant to a registration statement declared effective in December 1998. The plaintiffs sought class action certification on behalf of the approximately 1,860 persons who were preferred shareholders of Investors. Damages were alleged based upon alleged violations of Section 10(b) of the Securities Exchange Act of 1934 and the Illinois securities laws as well as under Illinois common law fraud and against the defendants other than the Company, for breach of fiduciary duty. The Company moved to dismiss the complaint on procedural and substantive grounds, and on October 22, 1999, the U.S. District Court dismissed the complaint without prejudice. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to shareholders of Citizens during the fourth calendar quarter of 1999. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Citizens' Class A common stock is traded on the American Stock Exchange (AMEX) under the symbol CIA. The high and low prices per share as supplied by the Amex Monthly Statistical Report are as follows. 26 27 1999 1998 --------------------------- ----------------------- QUARTER ENDED HIGH LOW HIGH LOW ----------------------- ----------- ----------- --------- --------- March 31 $ 5.69 $ 2.78 $ 6.81 $ 5.69 June 30 6.06 5.25 6.44 6.00 September 30 6.00 5.38 6.09 5.56 December 31 7.13 5.75 6.00 5.25 As of December 31, 1999, the approximate number of record owners of Citizens' Class A common stock was 16,300. Management estimates the number of beneficial owners to be approximately 56,000. On November 2, 1999, the Company's Board of Directors declared a 7% stock dividend, payable on December 31, 1999 to holders of record as of December 1, 1999. The dividend resulted in the issuance of 1,763,805 Class A shares (including 136,091 shares in treasury) and 43,474 Class B shares. Citizens has not paid cash dividends in any of the past four years and does not intend to pay such in the immediate future. For restrictions on the present and future ability to pay dividends, see Note 6 of the "Notes to Consolidated Financial Statements." ITEM 6. SELECTED FINANCIAL DATA The table below sets forth, in summary form, selective data of the Company. This data, which is not covered in the report of the independent auditors, should be read in conjunction with the consolidated financial statements and notes which are included elsewhere herein (amounts in thousands except per share amounts). The per share amounts have been adjusted retroactively for all periods presented to reflect the change in capital structure resulting from a 7% common stock dividend paid on December 31, 1999. YEAR ENDED DECEMBER 31, (IN THOUSANDS EXCEPT PER SHARE DATA) ---------------------------------------------------------- 1999 1998 1997 1996 1995 --------- --------- --------- --------- --------- NET OPERATING REVENUES $ 71,877 $ 72,685 $ 65,027 $ 63,822 $ 53,130 NET INCOME (LOSS) $ 1,271 $ (6,721) $ 3,426 $ 2,214 $ 2,750 NET INCOME (LOSS) PER SHARE $ .05 $ (.29) $ .15 $ .10 $ .15 TOTAL ASSETS $ 255,485 $ 253,384 $ 249,519 $ 218,277 $ 209,308 NOTES PAYABLE $ 0 $ 333 $ 937 $ 489 $ 773 TOTAL LIABILITIES $ 183,218 $ 178,480 $ 169,938 $ 151,394 $ 144,595 TOTAL STOCKHOLDERS' EQUITY $ 72,267 $ 74,904 $ 79,581 $ 66,883 $ 64,713 BOOK VALUE PER SHARE $ 3.09 $ 3.28 $ 3.56 $ 3.09 $ 3.42 See Part I (b) - Financial information regarding the insurance business and Item 7 - Management's Discussion and Analysis. 27 28 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS Net income of $1,271,072 or $.05 per share was earned during 1999, compared to a net loss of $6,720,693 or $0.29 per share for the year ended December 31, 1998 and net income of $3,425,523 or $.15 per share in 1997. A non-recurring charge of $9.5 million recorded in the third quarter of 1998 related to the non-recoverability of a portion of the excess of cost over net assets acquired ("goodwill") on the Company's books caused the 1998 loss. The writedown was related to the goodwill recorded in the 1995 acquisition of American Liberty Financial Corporation (ALFC) and was caused by a decline in new production from insurance agents formerly associated with American Liberty. Subsequent to the acquisition, management implemented a 50% reduction in the amount of commission paid to these agents. The commission reductions were necessary to preserve the profitability of the accident and health business which was negatively impacted by changes in state laws that established minimum claims ratios that severely limited profit margins, as well as mandated change in interest rates used to compute reserves on this business. In order to ascertain the recoverability of the goodwill balance, the Company performed an analysis of the relevant cash flows based upon estimated production, net of policy acquisition costs, policyholder benefits and other general expenses. As a result of this analysis, it was determined that the production of future business did not support goodwill of $9.5 million which was charged to earnings during third quarter 1998. Management's estimate of future production was re-evaluated based upon sales activity, the size of the active agency force, and the anticipated future production to be achieved in subsequent years. Management has continued to monitor production associated with these products. During 1998, management was successful in reviving production from some of the largest producers of American Liberty. During 1999, the assumed production levels were met. Should production fall below such estimates, additional write-offs could be necessary. Approximately $3 million of goodwill related to ALFC remains. Decreases in acquisition related expenses associated with American Liberty and economies of scale created by the combination of companies contributed to the increase in 1997 income. Total revenues for the year ended December 31, 1999 were $71,877,058 compared to $72,684,915 in 1998, a decrease of 1.1%. In 1997 revenues were $65,027,298. The decrease in 1999 revenues was related to a 80.7% decrease in realized gains on investments which were $310,890 for 1999 compared to $1,614,388 in 1998. The inclusion of the revenues from USLIC and NSLIC for the entire year was the primary reason for the increase during 1998. Decreased writing of new business by CICA in the international market and by ALLIC domestically was offset by the premium revenues of USLIC and NSLIC, which 28 29 contributed to the increase in revenue in 1998. Additionally, only six months of revenues of USLIC and only one month of NSLIC's revenues are included in the 1997 results. Premium income was $59,320,357 in 1999, a 0.3% increase compared to $59,154,329 of premium income in 1998. The 1998 amounts were a 6.8% increase over the previous year when premium income totaled $55,362,616. There was a significant increase in group dental business sold by the agents of USLIC from July 1998 through March 1999. However, during third quarter 1999, a large portion of the existing blocks of USLIC's group dental and NSLIC's major medical were cancelled. The 1999 cancellation of these blocks coupled with decreased writing of new business by CICA in the international market contributed to the small increase of premium income during 1999. Additionally, during 1999 there was a decrease in the Company's core book of ordinary life business resulting from the continued turmoil in Latin America caused by economic downturns in several countries, as well as increased competition from several U.S. companies entering the market. The comparison of 1998 to 1997 premium income is effected by USLIC and NSLIC not being included for the entire year 1997. In January, 1998, CICA introduced a new line of international products known as the Millennia 2000 series; however, in 1998 and 1999, CICA's international sales were hampered due to the contraction of several Latin American economies, as well as competition from new local companies, many of whom are subsidiaries of large U.S. insurers. Management believes the products are desirable and competitive and expects future sale of the Millennia products to increase. In addition, management began developing a domestic ordinary life sales program during 1999 and filed such with Texas regulatory authorities for approval during the third quarter of 1999. This program, targeting rural areas of the United States, is expected to be a major market for the Company in future years. Management began recruiting efforts for associates in the State of Texas for the new product in early 2000. The products previously sold by ALLIC in the United States were not available following the merger of ALLIC into CICA until late in 1997 because of delays in obtaining requisite approval from state insurance regulatory authorities. Management has been successful in returning the largest producing marketing organization of the former ALLIC agents (now representing CICA) to production and saw continuing increases in new production in 1999, compared to amounts seen in 1997 and 1998. Due to increases in claims, however, management anticipates implementing significant rate increases on several of these products during 2000. Because of these increases, it is uncertain whether increased production can be maintained. 29 30 During 1998, management discontinued selling the major medical products that NSLIC's prior management had begun to introduce in 1997. Management believes that the level of surplus and asset size of NSLIC are not sufficient to support the potential volatility that is inherent in such types of business. As previously discussed, management terminated the majority of such business in 1999. NSLIC's marketing efforts are now focused solely on the expansion of existing credit life and credit accident and health business. Net investment income increased 3.2% during 1999 to $11,636,940 from $11,279,125 during 1998. The 1998 results were up 12.4% compared to the $10,038,736 earned in 1997. The 1999 and 1998 results reflect the continuing expansion of the Company's asset base as well as the actions taken in previous years to change the mix and duration of the Company's invested assets. Overall, the duration decreased slightly from approximately 5.19 years in 1998 to 5.05 years in 1999. The yields available in the bond market during the past few years are not of a level to increase the return on the Company's invested assets without exposing the portfolio to undue risk. Management hired the investment advisory firm of Asset Allocation and Management, Inc. of Chicago ("AAM"), Illinois in late 1995 to manage the Company's fixed maturity portfolio. During 1996, a nominal reconfiguration was begun. In lieu of purchasing U.S. Treasury instruments, the Company began to purchase U.S. Government guaranteed mortgage pass-through securities. This program continued throughout 1999. Management expects to continue this strategy throughout 2000 as opportunities present themselves. Overall policyholder dividends decreased to $2,843,681 in 1999, down 6.0% over 1998 when such benefits were $3,025,746. The 1998 amounts represented an increase of 8.8% compared to $2,782,215 in 1997. The 1997 growth is primarily due to the acquisition of USLIC, which increased that year's expense by approximately $397,000. Virtually all CICA's policies that have been sold since 1989 are participating. Participating policies represent a large majority (59.1%) of the Company's business in-force, although the percentage of participating business has declined from approximately 91% due to the acquisitions in recent years. Additionally, due to the disruption in the Latin American markets mentioned above and the lower than usual persistency in that market, the growth in overall dividends has been slowed as policies lapse before the dividend amount can grow. Management expects continued growth in this item due to the fact that CICA will continue to focus on participating products internationally, subject to persistency and future sales. Claims and surrenders increased to $34,747,480 in 1999, an increase of 10.0% over 1998 when such benefits were $31,592,740. In 1997 claims and surrenders were $27,852,907. The increase in benefits in 1998 can be attributed to the inclusion of NSLIC and USLIC for an entire year. Increases in accident and 30 31 health benefits attributable to the respective blocks of business of these companies created most of the 1999 increase. Death benefits decreased to $5,135,808 in 1999, down from $5,150,647 in 1998, and $4,475,083 in 1997. The 1998 increase can be traced directly to the inclusion of NSLIC and USLIC for an entire year. During 1998, claims on NSLIC were $421,801, while claims from USLIC were $35,570. The small decrease in such claims in 1999 does not appear to be due to any trend. Additionally, the pre-need and burial policies formerly sold by ALLIC were marketed to an older clientele and as such, higher claims are anticipated and factored into the product. The Company has historically adhered to a strict underwriting policy which requires complete medical examinations on all applicants who are foreign residents, except children, regardless of age or face amount of the policy applied for. For 1996 and future years, management initiated a change to more selective medical examinations in conjunction with dry spot blood tests and extensive medical questions on the application in order to lower the cost of new business without sacrificing necessary information for the underwriter. Additionally, X-rays and electrocardiograms are required depending on age and face amount of the policy. On all policies of $150,000 or more, inspection reports are required which detail the background resources and lifestyle of the applicant. The Company has developed numerous contacts throughout Latin America with which its underwriters can validate information contained in the application, medical or inspection report. Accident and Health benefits grew to $8,468,124 in 1999 from $5,912,411 in 1998. Such claims were $2,948,257 in 1997. The increase reflects the growing block of accident and health premium on the Company's books, and more specifically the inclusion of NSLIC and USLIC. Claims on USLIC's A&H benefits in 1999 were $3,681,264, while NSLIC's were $2,270,718. In 1998, claims on USLIC's A&H benefits were $2,513,680, while NSLIC's were $1,653,367. In 1997, the addition of USLIC and NSLIC contributed approximately $740,000 to the benefit amounts. During the second half of 1998, the Company began to experience a significant increase in the volume of claims. The increase was created by the high early utilization by holders of the USLIC dental certificates. As a result of the substantial increase in the volume of claims plus an increase in the accident and health loss ratio, management has moved to cancel a large portion of these existing blocks of group dental and major medical business in order to curtail both claims and operating expenses. Most of the terminations were effective prior to January 1, 2000. This action will result in a decrease of approximately $3.8 million of annual premium income in 2000 and $5.3 million of annual premium income in 2001; however, due to the claims experience as well as the overhead necessary to administer such, management believes this action will enhance near and long-term profitability. Endowment benefits decreased from $5,258,881 in 1997 to $5,027,937 in 1998. In 1999, such expenses increased slightly to $5,048,973. Beginning in late 1990, 31 32 Citizens introduced a new series of plans called "Ultra Expansion Plus" which carried an immediate endowment benefit of an amount elected by the policyowner. This endowment is factored into the premium of the policy and is paid annually. The decline in 1998 and slight increase in 1999 reflect the decline in production of new business over the last three years. In 1999, policy surrenders increased 3.0% to $14,920,985. Policy surrenders were $14,481,335 in 1998, compared to $14,322,593 in 1997. The relative stability in 1999, 1998 and 1997 is, in the opinion of management, the result of a campaign begun in mid-1997 to inform policyowners about the benefits of their policies. Other claim expenses amounted to $1,173,590 in 1999, $1,020,410 in 1998 and $848,093 in 1997. These expenses are comprised of supplemental contract benefits, interest on policy funds and assorted other miscellaneous policy benefits. During 1999, commissions decreased to $12,234,053 from $12,501,426 in 1998. In 1997, commission expense was $11,918,192. The decrease reflects above-mentioned termination of business. Although group accident and health business produced by USLIC increased through March 1999, this business carries a relatively low commission. The majority of such amounts paid relates to first year commissions which were $7,938,818, $8,169,835, and $8,120,748 in 1999, 1998, and 1997, respectively. The increased proportion in new sales of accident and health and credit business contributed to the overall decline in first year commissions. Underwriting, acquisition and insurance expenses decreased to $10,328,996 in 1999 compared to $11,079,065 in 1998 and $6,992,402 in 1997. Approximately $2.5 million of the increase in 1998 relates to the inclusion of NSLIC and USLIC for the entire year. Additionally, because of the increased claims volume mentioned above, management was forced to significantly increase staff size in 1998 and 1999 and thus overhead on a temporary basis. Due to the consolidation of ALLIC's operations with CICA, management was able to achieve significant reductions in expenses through economies of scale which were reflected in the 1997 results. In order to convert a majority of CICA's marketing overhead from fixed to variable, management contracted in early 1997 with an independent international marketing company to serve as managing agent for the Company's international marketing activities. This firm receives an overriding commission on all new business sold internationally in exchange for the absorption of all marketing, management and promotion activities. By taking such actions, management believes a significant amount of fixed overhead has been converted to a variable expense. Management has utilized firms such as this in previous periods with great success at obtaining increases in sales and expense reductions. 32 33 Capitalized deferred policy acquisition costs were $9,287,457 in 1999, $7,941,829 in 1998, and $9,804,022 in 1997. The increase in 1999 reflects increased fourth quarter sales of a twenty-year endowment policy. The drop in 1998 reflects the sale of accident and health products described above which carry lower levels of commission and thus capitalization. Amortization of these costs was $9,236,020 $7,789,513 and $9,630,705, respectively in 1999, 1998 and 1997. Amortization of cost of insurance acquired, excess of cost over net assets acquired and other intangibles increased in 1999 to $2,120,017 from $2,100,433 in 1998. In 1997, such amortization was $2,305,127. As discussed above, management wrote off $9.5 million of the goodwill associated with the acquisition of American Liberty during the third quarter of 1998. Should production by the former agents of American Liberty, now representing CICA, not meet expected amounts due to the rate increases described above, additional write-offs could result. There remains approximately $3 million of goodwill related to American Liberty. LIQUIDITY AND CAPITAL RESOURCES Stockholders' equity decreased to $72,266,969 at December 31, 1999 from $74,903,679 in 1998. The decrease was attributable to unrealized gains declining by $7,334,920 during 1999 resulting in an unrealized loss of $3,711,456, net of tax at December 31, 1999. Declines in the market value of the Company's bond portfolio caused by lower bond prices resulted in the change in unrealized gains (losses), net of tax. Invested assets decreased to $174,338,561 in 1999 from $176,272,123 in 1998, a decrease of 1.1%. A 1.7% decrease in fixed maturities available-for-sale more than offset the 2.7% increase in policy loans. At December 31, 1999 and 1998, fixed maturities have been categorized into two classifications: fixed maturities held-to-maturity, which are valued at amortized cost, and fixed maturities available-for-sale which are valued at fair market. The Company did not plan to make material dispositions of fixed maturities during 1999; however, because of continued uncertainty regarding long-term interest rates, management cannot rule out sales during 2000. Fixed maturities held to maturity, amounting to $5,594,745 at December 31, 1999 consist of U.S. Treasury securities. Management has the intent and believes the Company has the ability to hold the securities to maturity. At December 31, 1999, decreases in interest rates of 100, 200 and 300 basis points, respectively, would result in increases in market values of approximately $385,000, $6,646,000 and $13,800,000, respectively. Conversely, increases in rates of 100, 200 and 300 basis points would generate decreases in market values of $10,981,000, $20,232,000 and $26,096,000, respectively. Additionally, at December 31, 1998, decreases in interest rates of 100, 200 and 300 basis points, respectively, would result in increases in market values of approximately $12,402,000, $19,666,000 and $23,588,000, respectively. Conversely, increases 33 34 in rates of 100, 200 and 300 basis points would generate losses of $1,041,000, $7,484,000 and $13,738,000, respectively. Policy loans comprise 12.4% of invested assets at December 31, 1999 compared to 11.9% at December 31, 1998. These loans, which are secured by the underlying policy values, have yields ranging from 5% to 10% percent and maturities that are related to the maturity or termination of the applicable policies. Management believes that the Company maintains more than adequate liquidity despite the uncertain maturities of these loans. Cash balances of the Company in its primary depository, Chase Bank of Texas, were significantly in excess of Federal Deposit Insurance Corporation (FDIC) coverage at December 31, 1999 and 1998. Management monitors the solvency of all financial institutions in which it has funds to minimize the exposure for loss. At December 31, 1999, management does not believe the Company is at significant risk for such a loss. During 2000, the Company intends to utilize short-term Treasury Bills and highly-rated commercial paper as cash management tools to minimize excess cash balances and enhance return. CICA owned 1,821,332 shares of Citizens Class A common stock at December 31, 1999 and 1998. Statutory accounting practices prescribed by the National Association of Insurance Commissioners (NAIC) and the State of Colorado require that the Company carry its investment at market value reduced by the percentage ownership of Citizens by CICA, limited to 2% of admitted assets. As of December 31, 1999 and 1998, the Company valued the shares in accordance with prescribed Statutory Accounting Practices. In the Citizens' consolidated financial statements, this stock is shown as treasury stock. The NAIC has established minimum capital requirements in the form of Risk-Based Capital ("RBC"). Risk-based capital factors the type of business written by a company, the quality of its assets, and various other factors into account to develop a minimum level of capital called "authorized control level risk-based capital" and compares this level to an adjusted statutory capital that includes capital and surplus as reported under Statutory Accounting Principles, plus certain investment reserves. Should the ratio of adjusted statutory capital to control level risk-based capital fall below 200%, a series of actions by the Company would begin. At December 31, 1999, CICA, NSLIC, USLIC, CILIC and Excalibur were above required minimum levels. INFORMATION SYSTEMS AND THE YEAR 2000 The Company successfully addressed the impact of the Year 2000 on its systems, procedures, customers and business processes. There was no adverse impact on any Company operations for the calendar change from 1999 to 2000. The Company used internal resources to modify, replace and test the Year 2000 modifications. The total cost for the project was negligible. The work was 34 35 performed with existing staff and the associated costs were expensed as incurred until completion. All critical suppliers or customers (external relationships) resolved their own third party Year 2000 issues and were able to interact with the Company. The Company encountered no loss of data or functionality related to the Year 2000. FINANCIAL ACCOUNTING STANDARDS In December 1997, the American Institute of Certified Public Accountants (AICPA) issued Statement of Position (SOP) 97-3 "Accounting by Insurance and Other Enterprises for Insurance-Related Assessments." SOP 97-3 provides: 1) guidance for determining when an entity should recognize a liability for guaranty fund and other insurance-related assessments, 2) guidance on how to measure a liability, 3) guidance on when an asset may be recognized for a portion or all of the assessment liability or paid assessment that can be recovered through premium tax offsets or policy surcharges and 4) requirements for disclosure of certain information. This SOP is effective for financial statements for fiscal years beginning after December 15, 1998. The Company adopted SOP 97-3 during 1999. Implementation did not have a material impact on the Company's financial statements. In March 1998, the AICPA issued SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." This SOP provides guidance for determining whether costs of software developed or obtained for internal use should be capitalized or expensed when incurred. In the past, the Company has expensed such costs as they were incurred. This SOP is also effective for fiscal years beginning after December 15, 1998. The Company adopted SOP 98-1 during 1999. Implementation did not have a material impact on the Company's financial statements. Statement of Financial Accounting Standard (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended by SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133," is effective January 1, 2001. Management does not believe that SFAS No. 133 and SFAS No. 137 will have a significant effect on the financial position, results of operations or liquidity of the Company. 35 36 ITEM 8. FINANCIAL STATEMENTS CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES PAGE REFERENCE --------- Independent auditors' report 41 Consolidated statements of financial position at December 31, 1999 and 1998 42-43 Consolidated statements of operations - years ended December 31, 1999, 1998 and 1997 44-45 Consolidated statements of stockholders' equity and comprehensive Income (loss)- years ended December 31, 1999, 1998 and 1997 46 Consolidated statements of cash flows - years ended December 31, 1999, 1998 and 1997 47-49 Notes to consolidated financial statements 50-70 Schedules at December 31, 1999 and 1998: Schedule II - Condensed Financial Information of Registrant 71-73 Schedules for each of the years in the three-year Period ended December 31, 1999: Schedule IV - Reinsurance 74 All other schedules have been omitted as the required information is inapplicable or the information required is presented in the financial statements or the notes thereto filed elsewhere herein. ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE During the 24 months preceding the date of the audited financial statements of Citizens included herein, there has been no change of accountants made by Citizens, nor has it reported on Form 8-K any disagreements between the Company and its independent accountants. 36 37 PART III Items 10, 11, 12, and 13 of this Report incorporate by reference the information in the Company's definitive proxy material under the headings "Stock and Principal Stockholders," "Control of the Company," "Election of Directors," "Executive Officers," "Executive Officer and Director Compensation" and "Certain Reports" to be filed with the Securities and Exchange Commission within 120 days after December 31, 1999. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) 1 AND 2 FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES The financial statements and schedules listed on the following index to financial statements and financial statement schedules are filed as part of this Form 10-K. (a) 3 EXHIBITS EXHIBIT EXHIBIT NO. DESCRIPTION PAGE NO. - ----------- ----------- -------- (1) Underwriting Agreement N/A (2) Plan of acquisition, reorganization, arrangement, liquidation or succession (e) (3) 3.1 Articles of Incorporation; as amended (d) 3.2 Bylaws (d) (4) Instruments defining the rights of security holders, including indentures N/A (5) Opinion re: Legality N/A (6) (Removed and Reserved) N/A (7) (Removed and Reserved) N/A (8) Opinion re: Tax Matters N/A (9) Voting Trust Agreement N/A (10) Material Contracts 10.1 Automatic Yearly Renewable term (NR) Life Reinsurance Agreement between Citizens Insurance Company of America and The Centennial Life Insurance Company dated March 1, 1982 (a) 10.2 Stock Purchase Agreement between Citizens Insurance Company of America and Citizens, Inc. (a) 37 38 10.3 Plan and Agreement of Merger and Exchange by and among Insurance Investors & Holding Co., Central Investors Life Insurance Company of Illinois, Citizens, Inc. and Citizens Acquisition, Inc. (g) 10.4 Self-Administered Automatic Reinsurance Agreement - Citizens Insurance Company of America and Riunione Adriatica di Sicurta, S.p.A. (h) 10.5 Plan and Agreement of Exchange dated October 28, 1996 between Citizens, Inc. and American Investment Network, Inc. (h) 10.6 Agreement and Plan of Merger dated October 31, 1996 between Citizens Insurance Company of America, CICA Acquisition, Inc., and First American Investment Corporation (h) 10.7 Plan and Agreement of Merger dated November 22, 1996 between Citizens, Inc. and American Liberty Financial Corporation, as amended (i) 10.8 Plan and Agreement of Merger dated November 22, 1996 between Citizens Insurance Company of America and American Liberty Life Insurance Company, as amended (i) 10.9 Bulk Accidental Death Benefit Reinsurance Agreement between Connecticut General Life Insurance Company and Citizens Insurance Company of America, as amended (i) 10.10 Plan and Agreement of Exchange dated October 28, 1996 between American Investment Network, Inc., United Security Life Insurance Co., Inc. and Citizens Insurance Company of America (j) 10.11 Stock Purchase Agreement dated November 20, 1997 between Jansen Enterprises, Inc. and Citizens, Inc. (j) 10.12 Plan and Agreement of Merger dated September 10, 1998 between First Investors Group, Inc., Citizens, Inc., and Excalibur Acquisition, Inc. (k) (11) Statement re: Computation of per share earnings N/A (12) Statement re: Computation of ratios N/A (13) Annual report to security holders, Form 10-Q or quarterly report to N/A security holders (14) (Removed and Reserved) N/A (15) Letter re: Unaudited interim financial statements N/A (16) Letter re: Change in certifying accountant N/A (17) Letter re: Director resignation N/A 38 39 (18) Letter re: Change in accounting principles N/A (19) Report furnished to security holders N/A (20) Other documents or statements to security holders N/A (21) Subsidiaries of the registrant Filed Herewith (22) Published report regarding matters submitted to a vote of security holders N/A (23) Consents of expert and counsel Filed Herewith (24) Power of Attorney See signature page (25) Statement of eligibility of trustee N/A (26) Invitations for competitive bids N/A (27) Financial Data Schedule Filed Herewith (28) (Removed and Reserved) N/A (99) Additional Exhibits N/A - ---------- (a) Filed as a part of the Amendment No. 1 to Registration Statement on Form S-4, SEC File No. 33--4753, filed on or about June 19, 1992. (b) Filed with or referenced in the Registrant's Annual Report on Form 10-K for the year ended December 31, 1991 and incorporated herein by reference. (c) Filed with or referenced in the Registrant's Annual Report on Form 10-K for the year ended December 31, 1992 and incorporated herein by reference. (d) Filed with or referenced in the Registrant's Annual Report on Form 10-K for the year ended December 31, 1993 and incorporated herein by reference. (e) Filed with or referenced in the Registrant's Current Report on Form 8-K dated December 9, 1994 and incorporated herein by reference. (f) Filed as a part of the Registration Statement on Form S-4, SEC File No. 33--59039, filed on or about May 2, 1995. (g) Filed as a part of the Registration Statement on Form S-4, SEC File No. 33--63275, filed on or about October 6, 1995. (h) Filed as a part of the Registration Statement on Form S-4, SEC File No. 333--16163, filed on or about November 14, 1996. (i) Filed with or referenced in the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996 and incorporated herein by reference. (j) Filed with or referenced in the Registrant's Annual Report on Form 10-K for the year ended December 31, 1997 and incorporated herein by reference. (k) Filed as a part of the Registration Statement on Form S-4, SEC File No. 333--67091, on or about November 10, 1998. (b) REPORTS ON FORM 8-K No Reports on Form 8-K were filed by Citizens during the fourth quarter of 1999. 39 40 CITIZENS, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES PAGE REFERENCE --------- Independent auditors' report 41 Consolidated statements of financial position at December 31, 1999 and 1998 42-43 Consolidated statements of operations - years ended December 31, 1999, 1998 and 1997 44-45 Consolidated statements of stockholders' equity and comprehensive income (loss)- years ended December 31, 1999, 1998 and 1997 46 Consolidated statements of cash flows - years ended December 31, 1999, 1998 and 1997 47-49 Notes to consolidated financial statements 50-70 Schedules at December 31, 1999 and 1998: Schedule II - Condensed Financial Information of Registrant 71-73 Schedules for each of the years in the three-year period ended December 31, 1999: Schedule IV - Reinsurance 74 All other schedules have been omitted as the required information is inapplicable or the information required is presented in the financial statements or the notes thereto filed elsewhere herein. 40 41 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders Citizens, Inc.: We have audited the consolidated financial statements of Citizens, Inc. and consolidated subsidiaries as listed in the accompanying index. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedules as listed in the accompanying index. These consolidated financial statements and financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedules based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards 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. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Citizens, Inc. and subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1999, in conformity with generally accepted accounting principles. Also in our opinion, the related financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly, in all material respects, the information set forth therein. KPMG LLP Dallas, Texas March 10, 2000 41 42 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL POSITION DECEMBER 31, 1999 AND 1998 ASSETS 1999 1998 ------ ---- ---- Investments: Fixed maturities held-to-maturity, at amortized cost $ 5,594,745 $ 5,606,374 Fixed maturities available-for-sale, at fair value 144,214,555 146,645,842 Equity securities available-for-sale, at fair value 717,812 862,287 Mortgage loans on real estate 1,374,204 1,560,757 Policy loans 21,556,344 20,996,919 Other long-term investments 880,901 599,944 ------------- ------------- Total investments 174,338,561 176,272,123 Cash and cash equivalents 11,149,084 10,168,728 Accrued investment income 1,761,071 1,806,065 Reinsurance recoverable 2,183,729 1,755,561 Deferred policy acquisition costs 36,518,037 37,259,386 Other intangible assets 1,982,525 2,289,725 Deferred federal income tax 6,182,764 699,848 Cost of insurance acquired 7,186,494 8,290,853 Excess of cost over net assets acquired 8,021,044 8,375,799 Property, plant and equipment 5,071,735 5,155,088 Other assets 1,089,742 1,311,019 ------------- ------------- Total assets $ 255,484,786 $ 253,384,195 ============= ============= (Continued) 42 43 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL POSITION, CONTINUED DECEMBER 31, 1999 AND 1998 LIABILITIES AND STOCKHOLDERS' EQUITY 1999 1998 ------------------------------------ ---- ---- Liabilities: Future policy benefit reserves: Life insurance $ 154,352,032 $ 147,170,436 Annuities 4,023,827 3,675,937 Accident and health 9,037,337 9,329,956 Dividend accumulations 4,854,835 4,818,915 Premium deposits 2,725,016 2,013,274 Policy claims payable 3,591,289 4,801,548 Other policyholders' funds 2,070,950 1,632,662 ------------- ------------- Total policy liabilities 180,655,286 173,442,728 Other liabilities 901,636 2,669,638 Commissions payable 530,928 833,881 Federal income tax payable 1,129,967 1,534,269 ------------- ------------- Total liabilities 183,217,817 178,480,516 ------------- ------------- Stockholders' equity: Common stock: Class A, no par value, 50,000,000 shares authorized, 24,880,731 shares issued in 1999 and 22,643,748 in 1998, including shares in treasury of 2,080,206 in 1999 and 1,944,115 in 1998 67,510,026 52,790,643 Class B, no par value, 1,000,000 shares authorized, 664,523 shares issued and outstanding in 1999 and 621,049 in 1998 584,863 283,262 Retained earnings 10,756,800 20,135,464 Accumulated other comprehensive income: Unrealized investment gain (loss), net of tax (3,711,456) 3,623,464 ------------- ------------- 75,140,233 76,832,833 Treasury stock, at cost (2,873,264) (1,929,154) ------------- ------------- Total stockholders' equity 72,266,969 74,903,679 ------------- ------------- $ 255,484,786 $ 253,384,195 ============= ============= See accompanying notes to consolidated financial statements. 43 44 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 1999 1998 1997 ---- ---- ---- Revenues: Premiums: Life insurance $ 48,172,160 $ 49,032,491 $ 49,696,698 Accident and health 10,886,317 9,857,844 5,299,783 Annuity and universal life considerations 261,880 263,994 366,135 Net investment income 11,636,940 11,279,125 10,038,736 Realized gains (losses) 310,890 1,614,388 (320,125) Other income 667,320 664,084 23,945 Interest expense (58,449) (27,011) (77,874) ------------- ------------- ------------- Total revenues 71,877,058 72,684,915 65,027,298 Benefits and expenses: Insurance benefits paid or provided: Increase in future policy benefit reserves 7,371,214 8,279,056 8,958,166 Policyholders' dividends 2,843,681 3,025,746 2,782,215 Claims and surrenders 34,747,480 31,592,740 27,852,907 Annuity expenses 517,819 436,030 361,862 ------------- ------------- ------------- Total insurance benefits paid or provided 45,480,194 43,333,572 39,955,150 Commissions 12,234,053 12,501,426 11,918,192 Other underwriting, acquisition and insurance expenses 10,328,996 11,079,065 6,992,402 Capitalization of deferred policy acquisition costs (9,287,457) (7,941,829) (9,804,022) Amortization of deferred policy acquisition costs 10,028,806 7,789,513 9,630,705 Amortization of cost of insurance acquired, excess of cost over net assets acquired and other intangibles 2,120,017 11,600,433 2,305,127 ------------- ------------- ------------- Total benefits and expenses 70,904,609 78,362,180 60,997,554 ------------- ------------- ------------- (Continued) 44 45 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS, CONTINUED YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 1999 1998 1997 ---- ---- ---- Income (loss) before Federal income tax $ 972,449 $ (5,677,265) $ 4,029,744 Federal income tax expense (benefit) (298,623) 1,043,428 604,221 ------------ ------------ ------------ Net income (loss) $ 1,271,072 $ (6,720,693) $ 3,425,523 ============ ============ ============ Basic and diluted earnings (loss) per share of common stock $ .05 $ (.29) $ .15 ============ ============ ============ See accompanying notes to consolidated financial statements. 45 46 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS) YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 ACCUMULATED COMMON STOCK OTHER TOTAL ---------------------------- RETAINED COMPREHENSIVE TREASURY STOCKHOLDERS' CLASS A CLASS B EARNINGS INCOME STOCK EQUITY ------------ ------------ ------------ ------------- ------------ ------------ BALANCE AT DECEMBER 31, 1996 $ 45,941,552 $ 283,262 $ 23,430,634 $ (710,166) $ (2,062,266) $ 66,883,016 ------------ ------------ ------------ ------------ ------------ ------------ Comprehensive income: Net income -- -- 3,425,523 -- -- 3,425,523 Unrealized investment gains, net -- -- -- 2,290,956 -- 2,290,956 ------------ ------------ ------------ ------------ ------------ ------------ Comprehensive income -- 3,425,523 2,290,956 -- 5,716,479 Acquisition of minority interest in FAIC 932,584 -- -- -- 133,112 1,065,696 Acquisition of AIN 5,320,895 -- -- -- -- 5,320,895 Acquisition of NSLIC 700,000 -- -- -- -- 700,000 Stock options exercised 130,500 -- -- -- -- 130,500 Stock issuance costs (234,888) -- -- -- -- (234,888) ------------ ------------ ------------ ------------ ------------ ------------ BALANCE AT DECEMBER 31, 1997 $ 52,790,643 $ 283,262 $ 26,856,157 $ 1,580,790 $ (1,929,154) $ 79,581,698 ------------ ------------ ------------ ------------ ------------ ------------ Comprehensive loss: Net loss -- -- (6,720,693) -- -- (6,720,693) Unrealized investment gains, net -- -- -- 2,042,674 -- 2,042,674 ------------ ------------ ------------ ------------ ------------ ------------ Comprehensive loss -- -- (6,720,693) 2,042,674 -- (4,678,019) ------------ ------------ ------------ ------------ ------------ ------------ BALANCE AT DECEMBER 31, 1998 $ 52,790,643 $ 283,262 $ 20,135,464 $ 3,623,464 $ (1,929,154) $ 74,903,679 ------------ ------------ ------------ ------------ ------------ ------------ Comprehensive loss: Net income -- -- 1,271,072 -- -- 1,271,072 Unrealized investment loses, net -- -- -- (7,334,920) -- (7,334,920) ------------ ------------ ------------ ------------ ------------ ------------ Comprehensive loss -- -- 1,271,072 (7,334,920) -- (6,063,848) Acquisition of Investors 3,427,138 -- -- -- -- 3,427,138 Stock dividend 11,292,245 301,601 (10,649,736) -- (944,110) -- ------------ ------------ ------------ ------------ ------------ ------------ BALANCE AT DECEMBER 31, 1999 $ 67,510,026 $ 584,863 $ 10,756,800 $ (3,711,456) $ (2,873,264) $ 72,266,969 ============ ============ ============ ============ ============ ============ See accompanying notes to consolidated financial statements. 46 47 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 1999 1998 1997 ---- ---- ---- Cash flows from operating activities: Net income (loss) $ 1,271,072 $ (6,720,693) $ 3,425,523 Adjustments to reconcile net income to net cash provided by operating activities, net of assets acquired: Realized (gains) losses on sale of Investments and other assets (310,890) (1,614,388) 320,125 Accrued investment income 79,319 204,447 (236,828) Net deferred policy acquisition costs 741,349 (152,316) (173,317) Amortization of cost of insurance acquired and excess cost over net assets acquired and other intangibles 2,120,017 11,600,433 2,305,127 Depreciation 510,755 493,691 507,829 Change in: Reinsurance recoverable (427,811) 313,862 (295,882) Future policy benefit reserves 7,169,153 8,057,287 9,511,158 Other policy liabilities (25,336) 1,105,031 (291,121) Deferred federal income tax (1,704,321) (1,477,949) (1,008,907) Federal income tax (404,302) 771,277 1,120,600 Commissions payable and other liabilities (1,763,567) (682,884) (569,763) Other, net 376,787 1,237,829 (687,210) ------------ ------------ ------------ Net cash provided by operating activities 7,632,225 13,135,627 13,927,334 ------------ ------------ ------------ Cash flows from investing activities: Sale of fixed maturities, available-for-sale 1,630,775 28,476,347 19,967,749 Maturity of fixed maturities, available-for-sale 10,260,075 688,037 3,596,134 Purchase of fixed maturities, available-for-sale (18,742,695) (39,392,056) (36,553,342) Sale of equity securities, available-for-sale 92,500 151,923 619,277 Purchase of equity securities -- -- (511,231) Principal payments on mortgage loans 186,553 391,538 510,561 Mortgage loans funded -- (665,000) (125,334) Guaranteed student loans funded (6,287) (32,338) (60,131) Guaranteed student loans sold 10,960 119,346 277,133 Sale of other long-term investments and property, plant and equipment 13,799 2,702,877 21,291 (Continued) 47 48 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 1999 1998 1997 ---- ---- ---- Cash and cash equivalents provided by (used by) mergers and acquisitions $ 1,512,255 -- (165,710) Increase in policy loans, net (559,425) (530,735) (638,141) Purchase of other long-term investments and property, plant and equipment (717,046) (1,027,697) (197,286) ------------- ------------- ------------- Net cash used by investing activities (6,318,536) (9,117,758) (13,259,030) ------------- ------------- ------------- Cash flows from financing activities: Payments on notes payable (333,333) (604,097) (94,343) Sale of stock, net -- -- (104,388) ------------- ------------- ------------- Net cash used by financing activities (333,333) (604,097) (198,731) ------------- ------------- ------------- Net increase in cash and cash equivalents 980,356 3,413,772 469,573 ------------- ------------- ------------- Cash and cash equivalents at beginning of year 10,168,728 6,754,956 6,285,383 ------------- ------------- ------------- Cash and cash equivalents at end of year 11,149,084 10,168,728 6,754,956 ============= ============= ============= Supplemental: 1999 1998 1997 ---- ---- ---- Cash paid during the year for: Interest $ 43,810 $ 41,650 $ 77,874 ------------- ------------- ============= Income taxes $ 1,810,000 $ 1,750,100 $ 800,000 ============= ============= ============= 48 49 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 Supplemental disclosures of non-cash investing and financing activities: The Company issued Class A stock and cash to purchase all of the capital stock of Investors in 1999 and AIN, NSLIC, and the minority ownership in FAIC in 1997. In conjunction with the acquisitions, cash and cash equivalents were provided by (used in) mergers and acquisitions as follows: 1999 1997 ---- ---- Fair value of capital stock issued $ 3,427,138 $ 7,086,591 Fair value of tangible assets acquired excluding cash and cash equivalents (1,658,547) (8,892,535) Fair value of intangible assets acquired (353,703) (6,795,488) Liabilities assumed 97,367 8,435,722 ------------ ------------ Cash and cash equivalents provided by (used in) mergers and acquisitions $ 1,512,255 $ (165,710) ============ ============ Issuance of 609,269 Class A shares in 1999 and 795,957 Class A and 134,125 treasury shares in 1997 $ 3,427,138 $ 7,086,591 ============ ============ See accompanying notes to consolidated financial statements. 49 50 CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1999, 1998 AND 1997 (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (a) NATURE OF BUSINESS The consolidated financial statements include the accounts and operations of Citizens, Inc. (Citizens), incorporated in the state of Colorado on November 8, 1977 and its wholly-owned subsidiaries, Citizens Insurance Company of America (CICA), Computing Technology, Inc. (CTI), Funeral Homes of America, Inc. (FHA), Insurance Investors, Inc. (III), National Security Life and Accident Insurance Company (NSLIC), United Security Life Insurance Company (USLIC), Central Investors Life Insurance Company of Illinois (CILIC), First Investors Group, Inc. (Investors) and Excalibur Insurance Corporation (Excalibur). Citizens and its consolidated subsidiaries are collectively referred to as "the Company." American Liberty Financial Corporation (ALFC) and its subsidiaries, American Liberty Life Insurance Company (ALLIC), First American Investment Corp. (FAIC), and American Liberty Exploration Company (ALEC) were acquired by Citizens in September 1995. Effective January 1, 1997, ALFC was merged into Citizens and ALLIC was merged into CICA. American Investment Network (AIN), which was acquired in June 1997, owned USLIC. During 1998, AIN was liquidated into CICA. Insurance Investors and Holding Company (IIH), which was acquired in March 1996 owned CILIC. During 1998, IIH was liquidated and merged into CICA. The merger of NSLIC and USLIC into CICA was pending at December 31, 1999. Citizens provides life and health insurance policies through five of its subsidiaries - CICA, USLIC, NSLIC, CILIC and Excalibur. CICA sells ordinary whole-life policies internationally, burial insurance, pre-need policies, accident and health specified disease, hospital indemnity and accidental death policies, throughout the southern United States. USLIC and NSLIC sell participating whole-life policies and specialty individual accident and health policies. Excalibur sells life insurance business throughout the State of Illinois. CILIC does not actively market insurance policies, but does administer an in-force block of life insurance. III provides aviation transportation to the Company. CTI provides data processing systems and services to the Company. FHA is a funeral home operator. 50 51 (b) BASIS OF PRESENTATION The accompanying consolidated financial statements of the Company and its wholly-owned subsidiaries have been prepared in conformity with generally accepted accounting principles (GAAP). All significant intercompany accounts and transactions have been eliminated. (c) INVESTMENTS, OTHER THAN AFFILIATES Fixed maturities, consist primarily of bonds, which the Company has the ability and intent to hold to maturity, and are carried at amortized cost. Fixed maturities, which may be sold prior to maturity to support the Company's investment strategies, are considered held as available-for-sale and carried at fair value as of the balance sheet date. Equity securities include non-redeemable preferred stock and are reported at fair value. Unrealized appreciation (depreciation) of equity securities and fixed maturities held as available-for-sale are shown as a separate component of stockholders' equity, net of tax, and is a separate component of comprehensive income. Mortgage loans on real estate, policy loans, and guaranteed student loans are reported at unpaid principal balances less an allowance for uncollectible amounts. Mortgage loans have an allowance for uncollectible amounts of $50,000 at December 31, 1999 and 1998 which was estimated by the Company based upon historical amounts that proved uncollectible. Other long-term investments consist primarily of real estate which is recorded at the lower of fair value, minus estimated costs to sell, or cost. If the fair value of the real estate minus estimated costs to sell is less than cost, a valuation allowance is provided for the deficiency. Increases in the valuation allowance are charged to income. A decline in the fair value of any available-for-sale or held-to-maturity security below cost that is deemed other than temporary is charged to earnings resulting in the establishment of a new cost basis for the security. Premiums and discounts are amortized or accreted over the life of the related security as an adjustment to yield using the effective interest method. Dividend and interest income are recognized when earned. Realized gains and losses for securities classified as available-for-sale and held-to-maturity are included in earnings and are derived using the specific identification method for determining the cost of securities sold. Policy loans and other investments are primarily reported at cost. 51 52 The Company has assets with a fair value of $9,261,668 at December 31, 1999 and $8,745,400 at December 31, 1998 on deposit with various state regulatory authorities to fulfill statutory requirements. (d) PREMIUM REVENUE AND RELATED EXPENSES Premiums on life and accident and health policies are reported as earned when due or, for short duration contracts, over the contract periods. Benefits and expenses are associated with earned premiums so as to result in recognition of profits over the estimated life of the contracts. This matching is accomplished by means of provisions for future benefits and the capitalization and amortization of deferred policy acquisition costs. Annuities are accounted for in a manner consistent with accounting for interest bearing financial instruments. Premium receipts are not reported as revenues but rather as deposit liabilities to annuity contracts. (e) DEFERRED POLICY ACQUISITION COSTS AND COST OF INSURANCE ACQUIRED Acquisition costs, consisting of commissions and policy issuance, underwriting and agency expenses which relate to and vary with the production of new business, are deferred. These deferred policy acquisition costs are amortized primarily over the estimated premium paying period of the related policies in proportion to the ratio of the annual premium recognized to the total premium revenue anticipated using the same assumptions as were used in computing liabilities for future policy benefits. The Company uses the factor method to determine the amount of costs to be capitalized and the ending asset balance. This method limits the amount of deferred cost to their estimated realizable value. The value of insurance acquired in the Company's various acquisitions, which is included in cost of insurance acquired in the accompanying consolidated financial statements, was determined based on the present value of future profits discounted at a risk rate of return. The cost of insurance acquired is being amortized over the anticipated premium paying period of the related policies. (f) POLICY LIABILITIES AND ACCRUALS Future policy benefit reserves have been computed by the net level premium method with assumptions as to investment yields, dividends on participating business, mortality and withdrawals based upon the Company's and industry experience, which provide for possible unfavorable deviation. Annuity benefits are carried at accumulated contract values based on premiums paid by participants, annuity rates of return ranging from 3.0% to 7.0% (primarily at 4.0% to 5.5%) and annuity withdrawals. 52 53 Premium deposits accrue interest at rates ranging from 3.5% to 8.25% per annum. Cost of insurance is included in premium when collected and interest is credited annually to the deposit account. Policy and contract claims are based on case-basis estimates for reported claims, and on estimates, based on experience, for incurred but unreported claims and loss expenses. (g) EXCESS OF COST OVER NET ASSETS ACQUIRED AND OTHER INTANGIBLE ASSETS The excess of cost over the fair value of net assets acquired in mergers and acquisitions is amortized on a straight-line basis ranging from 5 to 20 years. Other intangible assets, primarily the value of state licenses, are amortized on a straight-line basis ranging from 10 to 20 years. The Company continually monitors long-lived assets and certain intangible assets, such as excess of cost over net assets acquired and cost of insurance acquired, for impairment. An impairment loss is recorded in the period in which the carrying value of the assets exceeds the fair value or expected future cash flows. Any amounts deemed to be impaired are charged, in the period in which such impairment was determined, as an expense against earnings. (h) PARTICIPATING POLICIES At both December 31, 1999 and 1998, participating business approximated 59%, of life insurance in-force and premium income. The amount of dividends to be paid is determined annually by the Board of Directors. (i) EARNINGS PER SHARE Basic and diluted earnings per share have been computed using the weighted average number of shares of common stock outstanding during each period. The weighted average shares outstanding for the years ended December 31, 1999, 1998 and 1997 were 23,418,610, 22,883,167 and 22,329,745, respectively. The per share amounts have been adjusted retroactively for all periods presented to reflect the change in capital structure resulting from a 7% stock dividend declared on November 2, 1999, payable on December 31, 1999 to holders of record as of December 1, 1999. The stock dividend resulted in the issuance of 1,763,805 Class A shares (including 136,091 shares in treasury) and 43,474 Class B shares. (j) INCOME TAXES For the year ended December 31, 1999, the Company plans to file six separate tax returns as follows: 1) Citizens, Inc., CICA and all direct non-life subsidiaries, 2) Investors, 3) Excalibur, 4) USLIC, 5) NSLIC and 6) CILIC. 53 54 For the year ended December 31, 1998, the Company filed six separate tax returns as follows: 1) Citizens, Inc., CICA and all direct non-life subsidiaries, 2) Investors, 3) Excalibur, 4) USLIC, 5) NSLIC and 6) CILIC. For the year ended December 31, 1997, the Company filed four separate tax returns as follows: 1) Citizens, Inc., CICA, and all direct non-life subsidiaries, 2) USLIC, 3) NSLIC, and 4) CILIC. Deferred tax asset and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (k) ACCOUNTING PRONOUNCEMENTS In December 1997, the American Institute of Certified Public Accountants (AICPA) issued Statement of Position (SOP) 97-3 "Accounting by Insurance and Other Enterprises for Insurance-Related Assessments." SOP 97-3 provides: 1) guidance for determining when an entity should recognize a liability for guaranty fund and other insurance-related assessments, 2) guidance on how to measure a liability, 3) guidance on when an asset may be recognized for a portion or all of the assessment liability or paid assessment that can be recovered through premium tax offsets or policy surcharges and 4) requirements for disclosure of certain information. This SOP is effective for financial statements for fiscal years beginning after December 15, 1998. The Company adopted SOP 97-3 during 1999. Implementation did not have a material impact on the Company's financial statements. In March 1998, the AICPA issued SOP 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." This SOP provides guidance for determining whether costs of software developed or obtained for internal use should be capitalized or expensed when incurred. In the past, the Company has expensed such costs as they were incurred. This SOP is also effective for fiscal years beginning after December 15, 1998. The Company adopted SOP 98-1 during 1999. Implementation did not have a material impact on the Company's financial statements. Statement of Financial Accounting Standard (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended by SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133," is effective January 1, 2001. Management does not believe SFAS No. 133 and SFAS No. 137 will have a significant effect on the financial position, results of operations or liquidity of the Company. 54 55 (l) CASH EQUIVALENTS The Company considers as cash equivalents all securities whose duration does not exceed ninety days at the date of acquisition. (m) DEPRECIATION Depreciation is calculated on a straight line basis using estimated useful lives ranging from 3 to 10 years. Leasehold improvements are depreciated over the estimated life of 30 years. (n) USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates. (o) RECLASSIFICATIONS Certain reclassifications have been made to the 1998 and 1997 amounts to conform with the 1999 presentation. (2) INVESTMENTS The cost, gross unrealized gains and losses and fair value of investments of fixed maturities and equity securities available-for-sale, as of December 31, 1999 and 1998, are as follows: 55 56 1999 --------------------------------------------------------------------- GROSS GROSS UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ------------- ---------- ---------- ------------ Fixed maturities held-to-maturity: US Treasury securities $ 5,594,745 $ -- $ 388,495 $ 5,206,250 ============ ========== ========== ============ Fixed maturities available-for-sale: US Treasury securities and obligations of US government corporations and agencies 43,573,934 139,888 1,435,222 42,278,600 Public utilities 2,258,495 745 182,048 2,077,192 Debt securities issued by States of the United States and political subdivisions of the States 5,847,282 35,582 129,039 5,753,825 Corporate securities 22,243,158 228,217 551,430 21,919,945 Mortgage-backed securities 75,916,624 62,503 3,794,134 72,184,993 ------------- ---------- ---------- ------------ Total fixed maturities available-for-sale $149,839,493 $ 466,935 $6,091,873 $144,214,555 ============ ========== ========== ============ Total equity securities available-for-sale $ 716,293 $ 50,994 $ 49,475 $ 717,812 ============ ========== ========== ============ 1998 ---------------------------------------------------------------- GROSS GROSS UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ------------ ----------- ---------- ------------ Fixed maturities held-to-maturity: US Treasury securities $ 5,606,374 $ 562,626 $ -- 6,169,000 ============ =========== =========== ============ Fixed maturities available-for-sale: US Treasury securities and obligations of US government corporations and agencies 44,081,875 1,821,645 65,070 45,838,450 Public utilities 2,944,282 67,591 16,245 2,995,628 Debt securities issued by States of the United States and political subdivisions of the States 5,506,803 290,026 2,829 5,794,000 Corporate securities 14,540,959 928,747 31,986 15,437,720 Mortgage-backed securities 74,128,842 2,577,863 126,661 76,580,044 ------------ ----------- ---------- ------------ Total fixed maturities available-for-sale $141,202,761 $ 5,685,872 $ 242,791 $146,645,842 ============ =========== ========== ============ Total equity securities available-for-sale $ 815,271 $ 76,572 $ 29,556 $ 862,287 ============ =========== ========== ============ 56 57 The amortized cost and fair value of fixed maturities at December 31, 1999, by contractual maturity are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. FIXED MATURITIES HELD-TO-MATURITY AMORTIZED COST FAIR VALUE ---------- ---------- Due after ten years $5,594,745 $5,206,250 ========== ========== FIXED MATURITIES AVAILABLE-FOR-SALE AMORTIZED COST FAIR VALUE ---------- ------------ Due in one year or less $ 3,484,657 $ 3,483,754 Due after one year through five years 14,088,187 13,888,191 Due after five years through ten years 20,466,425 19,949,605 Due after ten years 35,883,600 34,708,012 ------------ ------------ 73,922,869 72,029,562 Mortgage-backed securities 75,916,624 72,184,993 ------------ ------------ Totals $149,839,493 $144,214,555 ============ ============ The Company had no investments in any one entity which exceeded 10% of stockholders' equity at December 31, 1999 other than investments guaranteed by the U.S. Government. The Company's investment in mortgage loans is concentrated 29% in Colorado, 43% in Texas, and 28% in Mississippi as of December 31, 1999. Major categories of net investment income are summarized as follows: YEAR ENDED DECEMBER 31 ------------------------------------------------------------ 1999 1998 1997 ---- ---- ---- Investment income on: Fixed maturities $ 9,795,297 $ 9,070,636 $ 8,086,920 Equity securities 52,252 61,623 37,042 Mortgage loans on real estate 121,818 145,325 140,629 Policy loans 1,571,863 1,492,733 1,425,301 Long-term investments 829,599 900,276 890,064 Other 451,411 616,958 463,938 ----------- ----------- ----------- 12,822,240 12,287,551 11,043,894 Investment expenses (1,185,300) (1,008,426) (1,005,158) ----------- ----------- ----------- Net investment income $11,636,940 $11,279,125 $10,038,736 =========== =========== =========== 57 58 Equity securities of $26,386 as of December 31, 1999, did not produce income during the preceding 12 months. Proceeds and gross realized gains (losses) from sales and maturities of fixed maturities available-for-sale for 1999, 1998 and 1997 are summarized as follows: YEAR ENDED DECEMBER 31, -------------------------------------------------------------- 1999 1998 1997 ---- ---- ---- Proceeds $11,890,850 $29,164,384 $23,563,883 =========== =========== =========== Gross realized gains $ 344,002 $ 452,105 $ 373,557 =========== =========== =========== Gross realized (losses) $ (36,325) $ (45,268) $ (178,296) =========== =========== =========== Proceeds and gross realized gains (losses) from sales of equity securities available-for-sale for 1999, 1998 and 1997 are summarized as follows: YEAR ENDED DECEMBER 31, -------------------------------------------------------------- 1999 1998 1997 ---- ---- ---- Proceeds $ 92,500 $ 151,923 $ 619,277 ======== ========= ========== Gross realized gains $ -- $ -- $ 1,973 ======== ========= ========== Gross realized (losses) $ (6,477) $ (16,319) $ (482,792) ======== ========= ========== Realized gains (losses) are as follows: YEAR ENDED DECEMBER 31, -------------------------------------------------------------- 1999 1998 1997 ---- ---- ---- Realized gains (losses): Fixed maturities $ 307,677 $ 406,837 $ 195,261 Equity securities (6,477) (16,319) (480,819) Other 9,690 1,223,870 (34,567) --------- --------- --------- Net realized gains (losses) $ 310,890 $1,614,388 $(320,125) ========= ========== ========= (3) COST OF INSURANCE ACQUIRED AND EXCESS OF COST OVER NET ASSETS ACQUIRED Cost of insurance acquired is summarized as follows: YEAR ENDED DECEMBER 31, -------------------------------------------------------------- 1999 1998 1997 ---- ---- ---- Balance at beginning of period $ 8,290,853 $10,639,667 $ 7,219,594 Increase (decrease) related to Acquisitions 50,000 (877,904) 4,253,354 Interest 625,251 797,975 541,470 Amortization (1,779,610) (2,268,885) (1,374,751) ----------- ----------- ----------- Balance at end of period $ 7,186,494 $ 8,290,853 $10,639,667 ----------- =========== =========== Accretion of interest on cost of insurance acquired is calculated based on the rates of interest used in setting the related policy reserves. These rates range from 6.5% to 8.5%. 58 59 Estimated amortization in each of the next five years is as follows. These amounts are equal to the carrying value due and exclude interest accretion at rates ranging from 6.5% to 8.5%. Actual future amortization will differ from these estimates due to variances from estimated future withdrawal assumptions. 2000 $1,400,928 2001 1,074,991 2002 963,973 2003 858,682 2004 791,139 Thereafter 2,096,781 Excess of cost over net assets acquired is summarized as follows: YEAR ENDED DECEMBER 31, -------------------------------------------------------------- ACCUMULATED GROSS AMORTIZATION NET ----- -------------- --- Balance at January 1, 1997 18,239,505 (1,483,072) 16,756,433 Increase related to acquisitions 1,939,837 -- 1,939,837 Amortization -- (1,230,147) (1,230,147) ------------ ------------ ------------ Balance at December 31, 1997 20,179,342 (2,713,219) 17,466,123 Increase related to acquisitions 852,498 -- 852,498 Impairment loss (9,500,000) -- (9,500,000) Amortization -- (442,822) (442,822) ------------ ------------ ------------ Balance at December 31, 1998 11,531,840 (3,156,041) 8,375,799 Increase related to acquisitions 303,703 -- 303,703 Amortization -- (658,458) (658,458) ------------ ------------ ------------ Balance at December 31, 1999 $ 11,835,543 $ (3,814,499) $ 8,021,044 ============ ============ ============ During 1998, the Company recognized an impairment loss in the amount of $9,500,000 relating to the goodwill recorded in the 1995 acquisition of ALLIC. The impairment loss was the result of a decline in production from agents formerly associated with ALLIC. The acquisition of NSLIC was consummated on November 20, 1997, therefore the balance of cost of insurance acquired as of December 31, 1997 was management's estimate based on the information available as of December 31, 1997. The Company revised its estimate related to this acquisition in 1998, which resulted in a reallocation of the purchase price. (4) POLICY LIABILITIES Various assumptions used to determine the future policy benefit reserves include the following: a) valuation interest rates from 4 to 9%, b) mortality assumptions are from the 1955 to 1960, 1965 to 1970, and 1975 to 1980 Select and Ultimate mortality tables and c) withdrawals are based primarily on actual historical termination rates. 59 60 The following table presents information on changes in the liability for accident and health policy and contract claims for the years ended December 31,1999 and 1998. 1999 1998 ---- ---- Policy and contract claims payable at January 1 $ 2,390,618 $ 2,083,591 Add claims incurred, related to: Current year 8,673,369 7,442,563 Prior years 12,849 (1,281,597) ----------- ----------- 8,686,218 6,160,966 Deduct claims paid, related to: Current year 5,450,160 5,295,960 Prior years 3,617,532 557,979 ----------- ----------- 9,067,692 5,853,939 ----------- ----------- Policy and contract claims payable, December 31 $ 2,009,144 2,390,618 =========== =========== The development of prior year claim reserves reflects normal changes in actuarial estimates. (5) REINSURANCE In the normal course of business, the Company reinsures portions of certain policies that it underwrites to limit disproportionate risks. The Company retains varying amounts of individual insurance up to a maximum retention of $75,000 on any life. On health policies there are varying retention limits ranging from $25,000 to $35,000 depending on the product with some of the supplemental hospital and surgical policies reinsured on a quota share basis. The Company's share of risk on the quota share reinsurance ranges from 25% to 50%. The Company remains contingently liable to the extent that the reinsuring companies cannot meet their obligations under these reinsurance treaties. Assumed and ceded reinsurance activity for 1999 and 1998 is summarized as follows: 1999 1998 ---- ---- Aggregate assumed life insurance in force $ 273,146,000 $ 333,719,000 ============== ============== Aggregate ceded life insurance in force $ (278,689,000) $ (306,070,000) ============== ============== Total life insurance in force $2,192,301,000 $2,340,744,000 ============== ============== Premiums and claims and surrenders assumed and ceded for the years ended December 31, 1999, 1998 and 1997: 1999 1998 1997 ---- ---- ---- Premiums assumed $ 484,746 $ 231,410 $ 284,632 =========== =========== =========== Premiums ceded $(2,549,155) $(3,368,690) $(2,257,556) =========== =========== =========== Claims and surrenders assumed $ 481,899 $ 234,037 $ 269,000 ============ =========== =========== Claims and surrenders ceded $(1,762,195) $(1,690,643) $ (976,000) =========== =========== =========== 60 61 Amounts paid or deemed to have been paid for reinsurance contracts are recorded as reinsurance receivables. The cost of reinsurance related to long duration contracts is accounted for over the life of the underlying reinsured policies using assumptions consistent with those used to account for the underlying policies. (6) STOCKHOLDERS' EQUITY AND RESTRICTIONS The two classes of stock of Citizens are equal in all respects, except (a) each Class A share receives twice the cash dividends paid on a per share basis to the Class B common stock; and (b) the Class B common stock elects a simple majority of the Board of Directors of Citizens and the Class A common stock elects the remaining directors. Generally, the net assets of the insurance subsidiaries available for transfer to Citizens are limited to the greater of the subsidiary net gain from operations during the preceding year or 10% of the subsidiary net statutory surplus as of the end of the preceding year as determined in accordance with accounting practices prescribed or permitted by insurance regulatory authorities. Payments of dividends in excess of such amounts would generally require approval by the regulatory authorities. Based upon statutory net gain from operations and surplus of the individual insurance companies as of and for the year ended December 31, 1999 approximately $5,057,661 of dividends could be paid to Citizens without prior regulatory approval. CICA, USLIC, NSLIC, CILIC and Excalibur have calculated their risk based capital (RBC) in accordance with the National Association of Insurance Commissioners' Model Rule and the RBC rules as adopted by their respective state of domicile. The RBC as calculated for CICA, USLIC, NSLIC, CILIC and Excalibur exceeded levels requiring company or regulatory action. (7) STOCK OPTIONS During 1989, the Company entered into an agreement granting a financial public relations consultant providing services to the Company the right and option to purchase 100,000 shares of Class A no par common stock of the Company at $2.50 per share, the fair market value of the common stock at the date of the agreement. The option, which would have expired on February 8, 1994, was extended for an additional 36 months during 1993. During 1996, options to purchase 41,500 shares were exercised. During 1997, 52,200 shares were issued in conjunction with the exercise of this option. The remaining option on 6,300 shares expired in 1997. (8) MERGERS AND ACQUISITIONS During March 1997, the Company acquired the remaining 5.2% minority interest in FAIC, a 94.8% subsidiary of ALFC. The Company issued 134,125 shares of the Company's Class A stock to consummate this transaction. The excess of cost over net assets acquired amounted to $1,065,696 (of which $399,353 was written off concurrent with the 61 62 acquisition) and is being amortized over 10 years. Effective January 1, 1997, AFLC was merged into Citizens and FAIC was merged into CICA. On October 28, 1996, CICA announced that it had signed definitive written agreements for the acquisition of AIN, a Jackson, Mississippi, based life insurance holding company and its wholly-owned subsidiary USLIC with $7.5 million in assets, $3.4 million of stockholders' equity, revenues of $3.2 million and $67 million of life insurance in-force. The AIN agreement provided that following the acquisition by CICA, AIN shareholders would receive 1 share of Citizens, Inc. Class A Common Stock for each 7.2 shares of AIN Common Stock owned. The Company issued approximately 700,000 Class A shares in connection with the transaction, which was accounted for as a purchase and was consummated on June 19, 1997. The excess of cost over net assets acquired amounted to $875,000 and is being amortized over 20 years. During 1998, AIN was liquidated and USLIC was merged into CICA. On August 13, 1997, Citizens signed a definitive agreement to acquire 100% of the outstanding shares of NSLIC of Arlington, Texas for $1.7 million in cash and restricted stock. The transaction, which was accounted for as a purchase, was consummated on November 20, 1997. The excess of cost over net assets acquired amounted to $625,567 and is being amortized over 10 years. In conjunction with the acquisition, the Company and two executives of NSLIC executed employment agreements which require the executives to provide services to the Company for 42 months. The employees will be compensated $8,333 a month for the first twelve months escalating to $12,500 a month for the remaining thirty months. The pro-forma unaudited results of operations for the year ended December 31, 1997, assuming the purchase of AIN, NSLIC and the minority ownership in FAIC, had been consummated at the beginning of fiscal 1997, are presented below. Adjustments have been made for amortization of amounts assigned to the fair value of historical assets. It is assumed in the pro-forma basic earnings per share calculations that the shares issued in connection with the acquisitions were outstanding from the beginning of the period presented (stated in thousands other than per share amounts). 1997 ---- Revenue $ 70,931 Net income 3,037 Basic earnings per share $ .14 The IIH agreement closed on March 12, 1996 and provided that Investors' shareholders would receive one share of Citizens' Class A Common Stock for each eight shares of Central Investors Common Stock owned. Additionally, Citizens acquired all shares of CILIC (a 94% owned subsidiary of Investors) not already owned by Investors, based upon an exchange ratio of one share of Citizens' Class A common stock for each four shares of Central Investors owned. The acquisition of these two companies involved the issuance of approximately 171,000 of Citizens' Class A shares which was accounted for as a purchase. The excess of cost over net assets acquired amounted to $419,878 and is being amortized 62 63 over 5 years. During 1998, IIH was liquidated and CILIC became a wholly-owned subsidiary of CICA. On September 15, 1998, Citizens announced that a definitive agreement had been reached between Citizens and Investors of Springfield, Illinois whereby Citizens would acquire 100% of the outstanding shares of Investors for shares of Citizens Class A Common stock. Investors is the parent of Excalibur, also of Springfield, Illinois. Pursuant to the terms of the Agreement, which was approved by Investors' shareholders and regulatory authorities, Citizens issued one share of Citizens Class A Common stock for each 6.6836 shares of Investors common and preferred stock issued and outstanding. The transaction closed on January 26, 1999. Citizens issued 609,269 shares of its Class A Common stock to consummate the transaction, which was accounted for as a purchase. The excess of cost over net assets acquired amounted to $303,703 and is being amortized over 10 years. In December, 1999, CICA filed a Plan and Agreement of Merger with the Insurance Departments of Texas and Colorado whereby NSLIC would be merged with and into CICA. The effective date of the Plan for accounting purposes is January 1, 2000. Additionally, in February, 2000, CICA filed a merger plan with regulatory authorities in Mississippi and Colorado, wherein USLIC would merge with and into CICA. (9) CONTINGENCIES The Company is a party to various legal proceedings incidental to its business. The Company has been named as a defendant in various legal actions seeking payments for claims denied by the Company and other monetary damages. In the opinion of management and its legal counsel, the ultimate liability, if any, resulting from any contingent liabilities that might arise from litigation are not considered material in relation to the financial position or results of operations of the Company. Reserves for claims payable are based on the expected claim amount to be paid after a case by case review of the facts and circumstances relating to each claim. A contingency exists with regard to these reserves until such time as the claims are adjudicated and paid. (10) SEGMENT INFORMATION The Company has two reportable segments identified by geographic area: International Business and Domestic Business. International Business consisting of ordinary whole-life business is sold throughout Central and South America. The Company has no assets, offices or employees outside of the United States of America (U.S.) and requires that all transactions be in U.S. dollars paid in the U.S. Domestic Business consisting of traditional life and burial insurance, pre-need policies, accident and health specified disease, hospital indemnity and accidental death policies are sold throughout the Southern U.S. The accounting policies of the segments are in accordance with GAAP and are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on GAAP net income (loss) before federal income taxes for its two reportable segments. 63 64 Geographic Areas - The following summary represents financial data of the Company's continuing operations based on their location. 1999 1998 1997 ---- ---- ---- REVENUES U.S. $19,844,710 $20,674,694 $14,066,801 Non-U.S. 52,032,348 52,010,221 50,960,497 ----------- ----------- ----------- Total Revenues $71,877,058 $72,684,915 $65,027,298 =========== =========== =========== 64 65 The following summary represents revenues and pretax income from continuing operations and identifiable assets for the Company's reportable segments as of and for the years ended December 31, 1999, 1998 and 1997, is as follows: YEARS ENDED DECEMBER 31 1999 1998 1997 ---- ---- ---- Revenue, excluding net investment income and realized gain (loss) on investments Domestic $ 16,546,005 $ 17,007,228 $ 11,964,457 International 43,383,223 42,784,174 43,344,230 ----------------- -------------- ------------- Total consolidated revenue $ 59,929,228 $ 59,791,402 $ 55,308,687 ================= ============== ============= Net investment income: Domestic 3,212,871 3,208,265 2,171,594 International 8,424,069 8,070,860 7,867,142 ---------------- -------------- ------------- Total consolidated net investment Income $ 11,636,940 $ 11,279,125 $ 10,038,736 ================ ============== ============= Amortization expense: Domestic 1,766,439 12,177,194 2,513,452 International 10,382,384 7,212,752 9,422,380 ----------------- -------------- ------------- Total consolidated amortization Expense $ 12,148,823 $ 19,389,946 $ 11,935,832 ================= ============== ============= Realized gain (loss) on investments Domestic 85,834 459,201 (69,250) International 225,056 1,155,187 (250,875) ----------------- -------------- ------------- Total consolidated realized gain (loss) on investments $ 310,890 $ 1,614,388 $ (320,125) ================= ============== ============= Income (loss) before federal income tax: Domestic 67,571 (7,767,586) 2,523,163 International 904,878 2,090,321 1,506,581 ----------------- -------------- ------------- Total consolidated net income (loss) before federal income taxes $ 972,449 $ (5,677,265) $ 4,029,744 ================= ============== ============= Year Ended December 31 1999 1998 ---- ---- Assets: Domestic 94,273,886 80,069,406 International 161,210,900 173,314,789 ----------- -------------- Total $ 255,484,786 $ 253,384,195 ================= ============== 65 66 (11) INCOME TAXES A reconciliation of Federal income tax expense computed by applying the federal income tax rate of 34% to income before Federal income tax expense are as follows: 1999 1998 1997 ------------ ------------ ------------ Computed normal tax expense (benefit) $ 330,633 $ (1,930,270) $ 1,370,113 Small life insurance company deduction (597,755) (447,690) (441,356) Change in valuation allowance (173,350) (24,479) (575,147) Amortization of excess of costs over net assets acquired 223,876 3,444,038 481,728 Other (82,027) 1,829 (231,117) ------------ ------------ ------------ Federal income tax expense (benefit) $ (298,623) $ 1,043,428 $ 604,221 ============ ============ ============ Income tax expense (benefit) for the years ended December 31, 1999, 1998 and 1997 consists of: 1999 1998 1997 ------------ ------------ ------------ Current $ 1,405,698 $ 2,521,377 $ 1,613,128 Deferred (1,704,321) (1,477,949) (1,008,907) ------------ ------------ ------------ $ (298,623) $ 1,043,428 $ 604,221 ============ ============ ============ The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 1999 and 1998 are presented below. 1999 1998 ------------ ------------ Deferred tax assets: Future policy benefit reserves $ 15,182,304 $ 14,568,354 Net operating loss carryforwards and alternative minimum tax credits 904,717 589,233 Investments available for sale 1,911,962 -- Other 715,649 1,109,691 ------------ ------------ Total gross deferred tax assets 18,714,632 16,267,278 Less valuation allowance -- 173,350 ------------ ------------ Net deferred tax assets $ 18,714,632 $ 16,093,928 ------------ ------------ Deferred tax liabilities: Deferred policy acquisition costs and cost of insurance acquired $ 11,526,363 $ 12,388,415 Depreciation 97,902 97,920 Investments available for sale -- 1,866,633 Other 907,603 1,041,112 ------------ ------------ Total gross deferred tax liabilities 12,531,868 15,394,080 ------------ ------------ Net deferred tax asset $ 6,182,764 $ 699,848 ============ ============ 66 67 During 1999 and 1998, the Company released the valuation allowance associated with NSLIC and ALFC net operating losses, respectively, as these losses can be utilized in the future by the Company and CICA. The Company and its subsidiaries have net operating losses at December 31, 1999 available to offset future taxable income of approximately $2,662,000 for Federal income tax substantially all of which expire through 2014. A portion of the net operating loss carryforward is subject to limitations under Section 382 of the Internal Revenue Code. At December 31, 1999, the Company had accumulated approximately $3,291,000 in its "policyholders' surplus account." This is a special memorandum tax account into which certain amounts not previously taxed, under prior tax laws, were accumulated. No new additions will be made to this account. Federal income taxes will become payable thereon at the then current tax rate (a) when and if distributions to the shareholder, other than stock dividends and other limited exceptions, are made in excess of the accumulated previously taxed income; or (b) when a company ceases to be a life insurance company as defined by the Internal Revenue Code and such termination is not due to another life insurance company acquiring its assets in a nontaxable transaction. The Company does not anticipate any transactions that would cause any part of this amount to become taxable. However, should the balance at December 31, 1999 become taxable, the tax computed at present rates would be approximately $1,119,000. (12) FAIR VALUE OF FINANCIAL INSTRUMENTS Estimates of fair values are made at a specific point in time, based on relevant market prices and information about the financial instrument. The estimated fair values of financial instruments presented below are not necessarily indicative of the amounts the Company might realize in actual market transactions. The carrying amount and fair value for the financial assets and liabilities on the consolidated balance sheets at each year-end were: 1999 1998 ------------------------------ ------------------------------ CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE ------------ ------------ ------------ ------------ Financial assets: Fixed maturities $149,809,300 $149,420,805 $152,252,216 $152,814,842 Equity securities 717,812 717,812 862,287 862,287 Cash and cash equivalents 11,149,084 11,149,084 10,168,728 10,168,728 Mortgage Loans 1,374,204 1,374,204 1,560,757 1,560,757 Financial Liabilities: Annuities 4,023,827 4,023,827 3,675,937 3,675,937 67 68 Fair values for fixed income securities and equity securities are based on quoted market prices. In cases where quoted market prices are not available, fair values are based on estimates using present value or other assumptions, including the discount rate and estimates of future cash flows. Mortgage loans are secured principally by residential properties. Weighted average interest rate for these loans as of December 31, 1999, was approximately 8.7% with maturities ranging from one to fifteen years. Management believes that reported amounts approximate fair value. The carrying value and fair values for the Company's liabilities under annuity contract policies are the same as the interest rates credited to these products and are periodically adjusted by the Company to reflect market conditions. The fair value of liabilities under all insurance contracts are taken into consideration in the overall management of interest rate risk, which minimizes exposure to changing interest rates through the matching of investment maturities with amounts due under insurance contracts. Policy loans have a weighted average interest rate of 7.2% as of December 31, 1999 and 1998 and have no specified maturity dates. The aggregate fair value of policy loans approximates the carrying value reflected on the consolidated balance sheet. These loans typically carry an interest rate that is tied to the crediting rate applied to the related policy and contract reserves. Policy loans are an integral part of the life insurance policies which the Company has in force and cannot be valued separately. For cash, accrued investment income, amounts recoverable from reinsurers, other assets, federal income tax payable and receivable, dividend accumulations, commissions payable, amounts held on deposit, and other liabilities, the carrying amounts approximate fair value because of the short maturity of such financial instruments. (13) OTHER COMPREHENSIVE INCOME (LOSS) The changes in the components of other comprehensive income (loss) are reported net of income taxes of 34% for the periods indicated as follows: YEAR ENDED DECEMBER 31, 1999 ------------------------------------------------- PRE-TAX TAX NET AMOUNT EFFECT AMOUNT ------------ ------------ ------------ Unrealized loss on securities: Unrealized holding loss arising during the period $(10,812,316) $ 3,676,186 $ (7,136,130) Less: reclassification adjustment for gains included in net income (301,200) 102,410 (198,790) ------------ ------------ ------------ Other comprehensive loss $(11,113,516) $ 3,778,596 $ (7,334,920) ============ ============ ============ 68 69 YEAR ENDED DECEMBER 31, 1998 ------------------------------------------------- PRE-TAX TAX NET AMOUNT EFFECT AMOUNT ------------ ------------ ------------ Unrealized gain on securities: Unrealized holding gain arising during the period $ 3,485,479 $ (1,185,063) $ 2,300,416 Add: reclassification adjustment for losses included in net income (390,518) 132,776 (257,742) ------------ ------------ ------------ Other comprehensive income $ 3,094,961 $ (1,052,287) $ 2,042,674 ============ ============ ============ YEAR ENDED DECEMBER 31, 1997 ------------------------------------------------- PRE-TAX TAX NET AMOUNT EFFECT AMOUNT ------------ ------------ ------------ Unrealized gain on securities: Unrealized holding (loss) arising during the period $ 3,185,587 $ (1,083,099) $ 2,102,488 Add: reclassification adjustment for losses included in net income 285,558 (97,090) 188,468 ------------ ------------ ------------ Other comprehensive income $ 3,471,145 $ (1,180,189) $ 2,290,956 ============ ============ ============ (14) QUARTERLY FINANCIAL INFORMATION (UNAUDITED) The following table contains selected unaudited consolidated financial data for each quarter. 1999 -------------------------------------------------------------------- FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER ------------ ------------ ------------ ------------ Revenues $ 18,883,005 $ 17,946,816 $ 18,229,167 $ 16,818,070 Expenses 19,150,093 16,816,910 18,455,771 16,481,835 Federal income tax expense 481,050 (239,427) 115,484 (58,484) (benefit) Net income (loss) 213,962 890,479 (111,120) 277,751 Basic and diluted earnings per share .01 .04 (.01) .01 69 70 1998 ---------------------------------------------------------------------- FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER --------- --------- --------- -------- Revenues $ 19,013,057 $ 19,049,196 $ 18,162,381 $ 16,460,281 Expenses 16,673,560 27,487,836 17,890,009 16,310,775 Federal income tax expense (benefit) (733,120) (200,870) (72,516) (36,922) Net income 1,606,377 (8,639,510) 199,856 112,584 Basic and diluted earnings per share .07 (.38) .01 .01 1997 ---------------------------------------------------------------------- FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER --------- --------- --------- -------- Revenues $ 16,795,936 $ 18,172,671 $ 15,918,698 $ 14,139,993 Expenses 15,309,437 16,267,692 15,089,776 14,330,649 Federal income tax expense (benefit) 178,033 (543,363) (307,863) 68,972 Net income 1,664,532 1,361,616 521,059 (121,684) Basic and diluted earnings per share .07 .06 .03 (.01) (15) YEAR 2000 ISSUES (UNAUDITED) The Company successfully addressed the impact of the Year 2000 on its systems, procedures, customers and business processes. There was no adverse impact on any Company operations for the calendar change from 1999 to 2000. The Company used internal resources to modify, replace and test the Year 2000 modifications. The total cost for the project was negligible, was performed with existing staff and the associated costs were expensed as incurred. All critical suppliers or customers (external relationships) resolved their own third party Year 2000 issues and were able to interact with the Company. The Company encountered no loss of data or functionality related to the Year 2000. 70 71 SCHEDULE II CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONDENSED FINANCIAL INFORMATION OF REGISTRANT CITIZENS, INC. (PARENT COMPANY) STATEMENTS OF FINANCIAL POSITION DECEMBER 31, 1999 AND 1998 1999 1998 ------------ ------------ Assets Investment in subsidiaries 68,043,909 71,163,025 Accrued investment income 14,410 14,410 Real estate 741,834 464,962 Cash 1,667,050 1,789,608 Notes receivable (1) 266,667 333,333 Other assets 1,701,898 1,536,456 ------------ ------------ $ 72,435,768 $ 75,301,794 ============ ============ Liabilities and Stockholders' Equity Liabilities: Notes payable $ -- $ 333,333 Accrued expense and other 168,799 64,782 ------------ ------------ $ 168,799 $ 398,115 Stockholders' equity: Common stock: Class A $ 67,510,026 $ 52,790,643 Class B 584,863 283,262 Retained earnings 10,756,800 20,135,464 Accumulated other comprehensive income: Unrealized investment gain (loss) of securities held by subsidiaries, net (3,711,456) 3,623,464 Treasury stock (2,873,264) (1,929,154) ------------ ------------ 72,266,969 74,903,679 ------------ ------------ $ 72,435,768 $ 75,301,794 ============ ============ (1) Eliminated in consolidation. See accompanying independent auditors' report. 71 72 SCHEDULE II, CONTINUED CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONDENSED FINANCIAL INFORMATION OF REGISTRANT CITIZENS, INC. (PARENT COMPANY) STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 31, 1999 AND 1998 AND 1997 1999 1998 1997 ------------ ------------ ------------ Revenues: Management service fees (1) $ 13,333,733 $ 13,033,492 $ 10,462,052 Investment income (1) 79,872 79,882 125,746 Other 6,437 4,425 82,668 Realized gain (loss) (7,281) -- -- ------------ ------------ ------------ 13,412,761 13,117,799 10,670,466 ------------ ------------ ------------ Expenses: General 12,126,181 12,019,676 9,516,881 Interest 18,537 27,011 30,186 Taxes 812,896 533,098 323,635 ------------ ------------ ------------ $ 12,957,614 $ 12,579,785 $ 9,870,702 ------------ ------------ ------------ Income before equity in income of unconsolidated subsidiaries 455,147 538,014 799,764 Equity in income (loss) of unconsolidated subsidiaries 815,925 (7,258,707) 2,625,759 ------------ ------------ ------------ Net income (loss) $ 1,271,072 $ (6,720,693) $ 3,425,523 ============ ============ ============ (1) Eliminated in consolidation. See accompanying independent auditors' report. 72 73 SCHEDULE II, CONTINUED CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES CONDENSED FINANCIAL INFORMATION OF REGISTRANT CITIZENS, INC. (PARENT COMPANY) STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 1999 1998 1997 ------------ ------------ ------------ Cash flows from operating activities: Net income (loss) $ 1,271,072 $ (6,720,693) $ 3,425,523 Adjustments to reconcile net income (loss) to net cash used by operating activities: Realized losses on sales 7,281 -- -- Equity in net (income) loss of unconsolidated subsidiaries (815,925) 7,258,707 (2,625,759) Accrued expenses and other liabilities 104,018 (11,777) (105,565) Accrued investment income -- 2,844 2,835 Other assets (138,184) 536,295 (246,993) ------------ ------------ ------------ Net cash provided by operating activities 428,262 1,065,376 450,041 ------------ ------------ ------------ Cash flows from investing activities: Acquisition of NSLIC -- -- (1,000,000) Capital contribution to subsidiaries -- -- (374,000) Cash provided by merger -- -- 540,450 Payments on notes receivable 66,666 66,667 69,198 Investment in real estate (284,153) (28,675) (79,948) ------------ ------------ ------------ Net cash provided (used) by investing activities (217,487) 37,992 (844,300) ------------ ------------ ------------ Cash flows from financing activities: Sale of common stock, net -- -- (104,388) Payment on notes payable (333,333) (66,667) (66,667) ------------ ------------ ------------ Net cash used by financing activities (333,333) (66,667) (171,055) ------------ ------------ ------------ Net increase (decrease) in cash (122,558) 1,036,701 (565,314) Cash at beginning of year 1,789,608 752,907 1,318,221 ------------ ------------ ------------ Cash at end of year $ 1,667,050 $ 1,789,608 $ 752,907 ============ ============ ============ See accompanying independent auditors' report. 73 74 SCHEDULE IV CITIZENS, INC. AND CONSOLIDATED SUBSIDIARIES REINSURANCE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 CEDED ASSUMED PERCENTAGE GROSS TO OTHER FROM OTHER NET OF AMOUNT AMOUNT COMPANIES COMPANIES AMOUNT ASSUMED TO NET --------------- ---------------- --------------- --------------- -------------- Year ended December 31, 1999: Life insurance in-force $ 2,197,844,000 $ 278,689,000 $ 273,146,000 $ 2,192,301,000 12.5% =============== ================ =============== =============== Premiums: Life insurance 49,654,207 1,966,793 484,746 48,172,160 1.0% Accident and health insurance 11,458,679 572,362 -- 10,886,317 -- --------------- ---------------- --------------- --------------- Total premiums $ 61,112,886 2,539,155 484,746 59,058,477 .8% =============== ================ =============== =============== Year ended December 31, 1998: Life insurance in-force $ 2,340,744,000 $ 306,070,000 $ 333,719,000 $ 2,368,393,000 14.1% =============== ================ =============== =============== Premiums: Life insurance 50,569,111 1,768,030 231,410 49,032,491 .5% Accident and health insurance 11,458,504 1,600,660 -- 9,857,844 -- --------------- ---------------- --------------- --------------- Total premiums $ 62,027,615 3,368,690 231,410 58,890,335 .4% =============== ================ =============== =============== Year ended December 31, 1997: Life insurance in-force $ 2,250,197,000 $ 318,630,000 $ 334,953,000 $ 2,266,520,000 14.8% =============== ================ =============== =============== Premiums: Life insurance 51,364,382 1,952,316 284,632 49,696,698 .6% Accident and health insurance 5,605,023 305,240 0 5,299,783 -- --------------- ---------------- --------------- --------------- Total premiums $ 56,969,405 2,257,556 284,632 54,996,481 .5% =============== ================ =============== =============== See accompanying independent auditors' report. 74 75 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, hereunto duly authorized. CITIZENS, INC. Date: March 14, 2000 By: /s/ MARK A. OLIVER ------------------------------------------------ Mark A. Oliver, President By: /s/ JEFFREY J. WOOD ------------------------------------------------ Jeffrey J. Wood, Executive Vice President, Chief Financial Officer and Secretary / Treasurer 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. Each individual whose signature appears below hereby designates and appoints Harold E. Riley and Mark A. Oliver, and each of them, as such person's true and lawful attorney's-in-fact and agents (the "Attorneys-in-Fact") with full power of substitution and resubstitution, for each person and in such person's name, place, and stead, in any and all capacities, to sign any and all amendments (including post-effective amendments) to this Annual Report on Form 10-K, which amendments may make such changes in this Annual Report on Form 10-K as either Attorney-in-Fact deems appropriate and to file therewith, with the Securities and Exchange Commission, granting unto such Attorneys-in-Fact and each of them, full power and authority to do and perform each and every act and think requisite and necessary to be done in and about the premises, as fully to all intents and purposes as such person might or could do in person, hereby ratifying and confirming all that such Attorneys-in-Fact or either of them, in their substitute or substitutes, may lawfully do or cause to be done by virtue hereof. /s/ MARK A. OLIVER /s/ HAROLD E. RILEY - ---------------------------------- --------------------------------------- Mark A. Oliver, Director Harold E. Riley, Chairman of the Board and Director /s/ RALPH M. SMITH - ---------------------------------- --------------------------------------- Ralph M. Smith, Director Joe R. Reneau, Director /s/ JAMES C. MOTT /s/ TIMOTHY T. TIMMERMAN - ---------------------------------- --------------------------------------- James C. Mott, Director Timothy T. Timmerman, Director /s/ RICK D. RILEY /s/ STEVE SHELTON - ---------------------------------- --------------------------------------- Rick D. Riley, Director Steve Shelton, Director /s/ T. ROBY DOLLAR - ---------------------------------- T. Roby Dollar, Director 75 76 INDEX TO EXHIBITS EXHIBIT PAGE - -------- ----- Exhibit 21 77 Exhibit 23 78 Exhibit 27 79 76