United States Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] Quarterly Report Under Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended March 31, 2006.
[ ] Transition Report Under Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
----------------------------
----------------------------.
Commission file number : 0-25679
-------
FIRST AMERICAN CAPITAL CORPORATION
----------------------------------------------------
(Exact Name of small business issuer in its charter)
Kansas 48-1187574
- ------------------------ ---------------------------------------
(State of incorporation) (I.R.S. Employer Identification Number)
1303 S.W. First American Place Topeka, Kansas 66604
- --------------------------------------------------------------------------------
(Address of principal executive offices)
Issuer's telephone number (785) 267-7077
------------------------------------------------
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ ] No [X]
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
Common Stock, $.10 Par Value - 4,257,057 shares as of March 16, 2006
Transitional Small Business Disclosure Format (check one): Yes [ ] No [X ]
FIRST AMERICAN CAPITAL CORPORATION
INDEX TO FORM 10-QSB
Part I. FINANCIAL INFORMATION Page Numbers
- ------------------------------ ------------
Item 1. Financial Statements:
Condensed Consolidated Balance Sheets as of March 31, 2006
and December 31, 2005...................................................3
Condensed Consolidated Statements of Operations for the
three months ended March 31, 2006 and 2005..............................5
Condensed Consolidated Statements of Comprehensive Income for the
three months ended March 31, 2006 and 2005..............................6
Condensed Consolidated Statements of Cash Flows for the
three months ended March 31, 2006 and 2005..............................7
Notes to Condensed Consolidated Financial Statements..........................9
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations...............................................13
Item 3. Controls and Procedures.............................................19
Part II. OTHER INFORMATION
- --------------------------
Item 6. Exhibits and Reports on Form 8-K.....................................20
SIGNATURES...................................................................22
2
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
FIRST AMERICAN CAPITAL CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
March 31, December 31,
Assets 2006 2005
-------------------- --------------------
Investments:
Securities available-for-sale, at fair value:
Fixed maturities (amortized cost, $14,386,654
in 2006 and $13,960,005 in 2005) $ 13,952,177 $ 13,854,375
Equity securities (cost of $458,150 in 2006
and $458,150 in 2005) 482,964 456,760
Investments in real estate 274,564 274,564
Policy loans 127,069 103,493
Mortgage loans on real estate 1,552,792 1,566,382
Other investments 1,759,605 1,656,866
-------------------- --------------------
Total investments 18,149,171 17,912,440
Cash and cash equivalents 1,158,232 249,109
Accrued investment income 228,111 250,984
Accounts receivable 154,370 272,200
Reinsurance receivables 53,166 78,725
Deferred policy acquisition costs (net of accumulated
amortization of $3,868,285 in 2006 and $3,712,369 in 2005) 5,252,322 5,133,244
Property and equipment (net of accumulated depreciation
of $855,841 in 2006 and $820,415 in 2005) 2,728,355 2,756,025
Other assets 13,256 24,935
-------------------- --------------------
Total assets $ 27,736,983 $ 26,677,662
-------------------- --------------------
See notes to condensed consolidated financial statements.
3
FIRST AMERICAN CAPITAL CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS (continued)
(Unaudited)
March 31, December 31,
Liabilities and Shareholders' Equity 2006 2005
-------------------- --------------------
Policy and contract liabilities:
Future annuity benefits $ 11,511,988 $ 10,301,546
Future policy benefits 5,517,782 5,267,805
Liability for policy claims 172,749 190,050
Policyholder premium deposits 133,365 146,354
Deposits on pending policy applications 48,105 9,361
Reinsurance premiums payable 63,813 107,334
Amounts held under reinsurance 137,820 219,079
-------------------- --------------------
Total policy and contract liabilities 17,585,622 16,241,529
Commissions, salaries, wages and benefits payable 56,736 131,873
Other liabilities 239,060 180,086
Notes payable 2,248,197 2,272,986
Deferred federal income taxes payable 465,078 527,941
-------------------- --------------------
Total liabilities 20,594,693 19,354,415
Shareholders' equity:
Common stock, $.10 par value, 8,000,000 shares authorized;
5,449,578 shares issued and 4,257,057 shares outstanding
in 2006; and 5,449,578 issued and 4,257,057 shares
outstanding in 2005 544,958 544,958
Additional paid in capital 12,478,903 12,478,903
Accumulated deficit (3,437,581) (3,496,404)
Accumulated other comprehensive income (loss) (324,642) (84,862)
Less: Treasury stock held at cost (1,192,521 shares in 2006
and 1,192,521 in 2005) (2,119,348) (2,119,348)
-------------------- --------------------
Total shareholders' equity 7,142,290 7,323,247
-------------------- --------------------
Total liabilities and shareholders' equity $ 27,736,983 $ 26,677,662
==================== ====================
See notes to condensed consolidated financial statements.
4
FIRST AMERICAN CAPITAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three months ended
March 31, March 31,
2006 2005
------------------------ -------------------
Revenues:
Gross premium income $ 1,263,966 $ 1,156,197
Reinsurance premiums assumed 2,166 2,035
Reinsurance premiums ceded (162,353) (45,776)
------------------------ -------------------
Net premium income 1,103,779 1,112,456
Net investment income 265,966 189,933
Net realized investment gain (loss) (1,724) (1,669)
Rental income 59,058 45,780
Other income 250 -
------------------------ -------------------
Total revenue 1,427,329 1,346,500
Benefits and expenses:
Increase in policy reserves 249,977 411,748
Policyholder surrender values 71,365 49,609
Interest credited on annuities and
premium deposits 126,304 85,826
Death claims 132,564 72,556
Commissions 250,321 300,960
Policy acquisition costs deferred (274,994) (322,203)
Amortization of deferred policy
acquisition costs 155,916 196,132
Salaries, wages, and employee benefits 270,832 315,040
Miscellaneous taxes 27,128 31,979
Other operating costs and expenses 359,093 420,933
------------------------ -------------------
Total benefits and expenses 1,368,506 1,562,580
------------------------ -------------------
Income (Loss) before income tax expense 58,832 (216,080)
------------------------ -------------------
Income tax expense (benefit)
- 15,241
------------------------ -------------------
Net Income (Loss) $ 58,823 $ (231,321)
======================== ===================
Net Income (Loss) per common
share - basic and diluted $ 0.01 $ (0.05)
======================== ===================
See notes to condensed consolidated financial statements.
5
FIRST AMERICAN CAPITAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
Three months ended
March 31, March 31,
2006 2005
-------------------- -------------------
Net income (loss) $ 58,823 $ (231,321)
Unrealized gain (loss) on available-for-sale securities:
Unrealized holding gain (loss) during the period (304,367) (257,680)
Less: Reclassification for gains (loss) included in net income (1,724) (1,669)
Tax benefit (expense) 62,863 51,302
-------------------- -------------------
Other comprehensive income (loss) (239,780) (204,709)
-------------------- -------------------
Comprehensive loss $ (180,957) $ (436,030)
==================== ===================
Comprehensive loss per common share-basic and diluted $ (0.04) $ (0.10)
-------------------- -------------------
See notes to condensed consolidated financial statements.
6
FIRST AMERICAN CAPITAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three months ended
March 31, March 31,
2006 2005
--------------------- -----------------------
Operating activities:
Net income (loss) $ 58,823 $ (231,321)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Interest credited on annuities and premium deposits 126,304 85,826
Net realized investment (gain) loss 1,724 1,669
Provision for depreciation 35,425 41,347
Settlement loss - 35,465
Amortization of premium and accretion of discount on
fixed maturity and short-term investments (11,619) 20,869
Provision for deferred federal income taxes - 15,241
Decrease in accrued investment income 22,873 6,155
(Increase) decrease in accounts receivable 117,830 (68,309)
Decrease in reinsurance receivables 25,559 -
Acquisition costs capitalized (274,994) (322,203)
Amortization of deferred acquisition costs 155,916 196,132
Increase in policy loans (23,576) (10,400)
Decrease in other assets 11,679 17,488
Increase in future policy benefits 249,977 411,748
Increase (decrease) in liability for policy claims (17,301) 1,700
Increase in deposits on pending policy applications 38,744 2,868
Decrease in reinsurance premiums payable (43,521) (2,048)
Decrease in amounts held under reinsurance (81,259) -
Increase (decrease) in commissions, salaries, wages and
benefits payable (75,137) 10,796
Increase in other liabilities 58,974 69,852
--------------------- -----------------------
Net cash provided by (used in) operating activities $ 376,421 $ 282,875
See notes to condensed consolidated financial statements.
7
FIRST AMERICAN CAPITAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
(Unaudited)
March 31, March 31,
2006 2005
-------------------- -------------------
Investing activities:
Purchase of available-for-sale fixed maturities $ (565,852) $ (749,582)
Sale of available-for-sale fixed maturities 69,346 198,750
Maturity of available-for-sale fixed maturities 50,000 500,000
Additions to property and equipment (7,755) (1,207)
Purchase of other investments (130,800) (218,550)
Maturity of other investments 57,812 8,333
Purchase of mortgage loans - (299,000)
Payments received on mortgage loans 13,590 1,391
-------------------- -------------------
Net cash used in investing activities (513,659) (559,865)
Financing activities:
Proceeds from note payable - 570,355
Payments on notes payable (24,789) (19,061)
Deposits on annuity contracts 1,084,138 1,009,784
Surrenders on annuity contracts - (162,174)
Policyholder premium deposits - 16,842
Withdrawals on policyholder premium deposits (12,988) (18,347)
Purchase of treasury stock - (770,355)
-------------------- -------------------
Net cash provided by financing activities 1,046,361 627,044
-------------------- -------------------
(Decrease) Increase in cash and cash equivalents 909,123 350,054
Cash and cash equivalents, beginning of period 249,109 527,028
-------------------- -------------------
Cash and cash equivalents, end of period $ 1,158,233 $ 877,082
==================== ===================
Supplemental disclosure of cash activities:
Interest paid $ 36,446 $ 28,437
==================== ===================
Income taxes paid $ - $ -
-------------------- -------------------
See notes to condensed consolidated financial statements.
8
FIRST AMERICAN CAPITAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The accompanying condensed consolidated financial statements of First American
Capital Corporation and its Subsidiaries (the "Company") for the three month
periods ended March 31, 2006 and 2005 are unaudited. However, in the opinion of
the Company, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been reflected therein.
Certain financial information which is normally included in financial statements
prepared in accordance with accounting principles generally accepted in the
United States of America, but which is not required for interim reporting
purposes, has been omitted. The accompanying condensed consolidated financial
statements should be read in conjunction with the financial statements and notes
thereto included in the Company's Form 10-KSB for the fiscal year ended December
31, 2005. The results of operations for the period are not necessarily
indicative of the results to be expected for the full year.
2. Notes Payable
The Company maintained a $1,722,054 note to VisionBank as of March 31, 2006. The
note is secured by the home office building. The note will mature on April 22,
2013. The note is payable in 120 monthly payments of $13,534 each with a final
payment of the unpaid principal balance and interest on April 22, 2013. Interest
will be accrued at 6% until April 22, 2008 at which time the rate may change.
The interest rate change will be the Wall Street Journal Prime Rate of Interest,
subject to a floor of 6% and a ceiling of 9.5%.
On March 2, 2005 the Company borrowed $570,355 from Brooke Credit Corporation at
a fixed interest rate of 8% over a ten year period. The note is payable in 120
monthly payments of $6,897. The balance of the note at March 31, 2006 was
$526,143. In April 2006 both notes were repaid.
3. Net Earnings Per Common Share
Net income (loss) per common share for basic and diluted earnings per share is
based upon the weighted average number of common shares outstanding during each
period. On March 2, 2005 the Company acquired 450,500 shares of its common stock
from Brooke. The weighted average number of common shares outstanding was
4,257,057 and 4,541,917 for the three months ended March 31, 2006 and March 31,
2005, respectively.
4. Federal Income Taxes
Current taxes are provided based on estimates of the projected effective annual
tax rate. Deferred taxes reflect the net effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The Company has elected
to file a consolidated federal income tax return with its subsidiaries, First
Life America Corporation ("FLAC") and First Life Brokerage, Inc. (FLBI) for 2006
and 2005. FLAC is taxed as a life insurance company under the provisions of the
Internal Revenue Code and had to file a separate tax return for its initial five
years of existence, which covers the period from November 1998 through December
31, 2002.
5. Commitments and Contingencies
On November 12, 2003, the Company filed a petition in the District Court of
Shawnee County, Kansas asserting claims against Rickie D. Meyer ("Meyer"), the
Company's former President, arising, in part, out of Meyer's employment with the
Company. Among other things, the Company sought to recover expense
reimbursements previously paid to Meyer and Company funds allegedly
misappropriated by Meyer. On August 8, 2003, the Company settled a claim that it
had
9
breached various marketing agreements with AF&L, a long-term care insurance
company, and certain of its affiliates, through the payment to AF&L of $150,000
plus $15,000 in attorney fees.
On December 12, 2003, Meyer filed an Answer and Counterclaim against the Company
asserting claims for defamation and breach of employment agreement.
On August 1, 2005, the District Court of Shawnee County, Kansas entered an
order, by agreement, submitting the claims to binding arbitration. Following the
conclusion of the arbitration, the parties entered into a settlement agreement
in November of 2005, pursuant to which the Company agreed to pay Meyer $38,500
and Meyer and the Company agreed to settle all claims. The Company paid the
amount to Meyer in February of 2006. This award amount had been accrued as of
December 31, 2005.
6. Reinsurance
Effective September 29, 2005, the Company and Wilton Reassurance Company
("Wilton Re"), of Wilton, CT, executed a binding letter of intent whereby both
parties agreed that the Company would cede the simplified issue version of its
Golden Eagle Whole Life (Final Expense) product to Wilton Re on a 50/50 quota
share original term coinsurance basis. The letter of intent was executed on a
retroactive basis to cover all applicable business issued by the Company
subsequent to January 1, 2005. Wilton Re has agreed to provide various
commission and expense allowances to the Company in exchange for the Company
ceding 50% of the applicable premiums to Wilton Re as they are collected.
7. Liquidity and Capital Resources
During the quarters ended March 31, 2006, and 2005, the Company maintained
liquid assets sufficient to meet operating demands, while continuing to utilize
excess liquidity to purchase various investments. Net cash provided by operating
activities during the quarters ended March 31, 2006 and 2005 totaled $376,421
and $282,875, respectively.
As of March 31, 2006, the Company and its subsidiaries had consolidated cash
reserves and liquid investments of approximately $15,576,573, as compared with
$14,316,644 as if March 31, 2005. Of these amounts, cash reserves and liquid
investments at FLAC as of these dates were approximately $15,231,163 and
$13,282,629, respectively. FLAC generally receives adequate cash flow from
premium collections and investment income to meet the obligations of its
insurance operations. Insurance policy liabilities are primarily long-term and
generally are paid from future cash flows. Cash collected from deposits on
annuity contracts and policyholder premium deposits are recorded as cash flows
from financing activities. Due to insurance regulatory restrictions, as noted
above, cash generated by FLAC cannot necessarily be used to fund the cash needs
of the parent company on a stand-alone basis.
As of March 31, 2006, cash reserves and nonliquid investments at the parent
company level were approximately $340,052 as compared with $1,034,015 as of
March 31, 2005. Cash reserves for FLBI were $5,358 at March 31, 2006 and there
were none at March 31, 2005. Based on the decreasing level of cash reserves and
nonliquid investments at the parent company level over the past few years, in
2005, management began to pursue all reasonable alternatives for increasing cash
reserves at the parent company level. As an initial step in this process, the
Board of Directors of each of the parent company and FLAC approved a transaction
pursuant to which FLAC agreed to purchase the Company's home office building and
the real property on which it is located from the parent company at its value of
$2,800,000, which was determined based on an independent appraisal.
On March 28, 2006, the Kansas Insurance Department (KID) approved this
transaction pursuant to a Form D (Prior Notice of a Transaction) filed by the
Company. Proceeds from the sale were used by the parent company to pay off the
two creditors that held mortgages on the building, which resulting in interest
savings of approximately $890,000 over the life of the loans. In addition, the
transaction provided the parent company with approximately $500,000 in cash.
This cash will be used to fund operations at the parent company.
Based on currently forecasted cash flow levels, management anticipates that the
$500,000 in cash provided to the
10
parent company as a result of the aforementioned transaction plus the parent
company's existing cash reserves of approximately $380,000 will fund operations
at the parent company level into mid 2007. Therefore, in the interim, management
will continue to explore all reasonable opportunities to provide additional
capital to the parent company through the sale of new equity securities or debt
securities, or through borrowed funds. Successful efforts in this arena will not
only help to remedy the parent company's current cash situation, but also allow
management to fully implement its business development plan of expanding the
Company's product lines and marketing efforts through the infusion of additional
capital into FLAC's insurance operations and FLBI's brokerage operations. If
these efforts are not successful, however, then the Company will have no choice
but to cease operations as a public company and liquidate its assets, which
primarily are the insurance operations of its subsidiary FLAC. There is no
assurance of what if any value could be realized by the parent company in this
event.
Pursuant to these efforts, on October 6, 2006, the Company executed a Stock
Purchase and Sale Agreement (the "Agreement") with Brooke Corporation ("Brooke")
pursuant to which, subject to the conditions stated in the Agreement, Brooke has
agreed to acquire newly issued shares of the common stock of FACC in a two step
transaction that will result in Brooke owning 55% of the then issued and
outstanding shares of common stock. In consideration therefor, Brooke will (i)
pay to FACC $3,000,000 in cash and (ii) enter into a Brokerage Agreement
pursuant to which, among other things, CJD & Associates, L.L.C., a Brooke
subsidiary, will cause all of its new managing general agent loan brokerage
business to be transacted through First Life Brokerage, Inc. ("FLB"), a FACC
subsidiary. In the Agreement, the pretax profits of FLB over a three year period
shall be not less than $6,000,000 in pretax profits or Brooke shall be obligated
to contribute funds FACC as additional consideration for the issuance of the
shares of FACC common stock acquired pursuant to the Agreement to the extent the
pretax profit goal is not made under such schedule. The closing of the
transactions contemplated under the Agreement are subject to a number of
conditions, including the approval of the Kansas Department of Insurance.
Although there is no assurrance that these conditions will be met and that the
closing of these transactions will occur, management currently anticipates that
the closing will occur in the fourth quarter of 2006.
8. Other Regulatory Matters
FLAC is currently licensed to transact life and annuity business in the states
of Kansas, Texas, Illinois, Oklahoma, North Dakota, Kentucky and Nebraska. Due
to the varied processes of obtaining admission to write business in new states,
management cannot reasonably estimate the time frame of expanding its marketing
presence.
FLAC was previously licensed to transact business in the state of Ohio. FLAC's
license in Ohio was suspended during the fourth quarter of 2005. The suspension
resulted from FLAC's statutory basis capital and surplus as of September 30,
2005 of $2,495,616 being less than the minimum required level in Ohio of
$2,500,000. As of March 31, 2006, FLAC's statutory basis capital and surplus was
$2,951,924, which is in excess of the aforementioned minimum requirement. FLAC
has appealed the suspension and expects to have its license reinstated in 2006.
9. Segment Information
The operations of the Company and its subsidiaries have been classified into two
operating segments as follows: life and annuity insurance operations and
corporate and brokerage operations. Segment information for the three months
ended March 31, 2006 and 2005, and as of March 31, 2006 and December 31, 2005 is
as follows:
11
Three months ended
March 31, March 31,
2006 2005
--------------------- --------------------
Revenues:
Life and annuity insurance operations $ 1,365,394 $ 1,291,279
Corporate and brokerage operations 61,935 55,221
--------------------- --------------------
Total $ 1,427,329 $ 1,346,500
===================== ====================
Income (loss) before income taxes:
Life and annuity insurance operations $ 244,467 $ 83,692
Corporate and brokerage operations (185,644) (299,772)
--------------------- --------------------
Total $ 58,823 $ (216,080)
===================== ====================
Depreciation and amortization expense:
Life and annuity insurance operations $ 155,916 $ 196,132
Corporate and brokerage operations 35,425 41,347
--------------------- --------------------
Total $ 191,341 $ 237,479
===================== ====================
March 31, December 31,
2006 2005
--------------------- --------------------
Assets:
Life and annuity insurance operations $ 24,610,581 $ 23,337,149
Corporate and brokerage operations 3,126,402 3,340,513
--------------------- --------------------
Total $ 27,736,983 $ 26,677,662
--------------------- --------------------
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The Company makes forward-looking statements from time to time and desires to
take advantage of the "safe harbor" that is afforded such statements under the
Private Securities Litigation Reform Act of 1995 when they are accompanied by
meaningful cautionary statements identifying important factors that could cause
actual results to differ materially from those in the forward-looking
statements.
The statements contained in this report, which are not historical facts, are
forward-looking statements that involve risks and uncertainties that could cause
actual results to differ materially from those set forth in the forward-looking
statements. Any projections of financial performances or statements concerning
expectations as to future developments should not be construed in any manner as
a guarantee that such results or developments will, in fact, occur. There can be
no assurance that any forward-looking statement will be realized or that actual
results will not be significantly different from that set forth in such
forward-looking statement. In addition to the risks and uncertainties of
ordinary business operations, the forward-looking statements of the Company
referred to above are also subject to the following risks and uncertainties,
among others: (i) the strength of the United States economy in general and the
strength of the local economies in which the Company does business; (ii)
inflation, interest rates, market and monetary fluctuations and volatility;
(iii) the timely development of and acceptance of new products and services and
perceived overall value of these products and services by existing and potential
customers; (iv) the persistency of existing and future insurance policies sold
by the Company; (v) the effect of changes in laws and regulations with which the
Company must comply; and (vi) the cost and effects of litigation and of
unexpected or adverse outcomes in litigation.
The following discussion should be read in conjunction with the consolidated
financial statements and notes thereto.
Critical Accounting Policies and Estimates
- ------------------------------------------
The accounting policies below have been identified as critical to the
understanding of the results of operations and financial position. The
application of these critical accounting policies in preparing the financial
statements requires management to use significant judgments and estimates
concerning future results or other developments, including the likelihood,
timing or amount of one or more future transactions. Actual results may differ
from these estimates under different assumptions or conditions. On an ongoing
basis, estimates, assumptions and judgments are evaluated based on historical
experience and various other information believed to be reasonable under the
circumstances.
Investments
- -----------
The Company's principal investments are in fixed maturity securities.
Investments are exposed to three primary sources of investment risk: credit,
interest rate and liquidity. The fixed maturity securities, which are all
classified as available for sale, are carried at their fair value in the
Company's balance sheet. The investment portfolio is monitored regularly to
ensure that investments which may be other than temporarily impaired are
identified in a timely fashion and properly valued, and that impairments are
charged against earnings as realized investment losses. The valuation of the
investment portfolio involves a variety of assumptions and estimates, especially
for investments that are not actively traded. Fair values are obtained from
broker statements.
Deferred Policy Acquisition Costs
- ---------------------------------
Deferred policy acquisition costs, principally agent commissions and other
selling, selection and issue costs, which vary with and are directly related to
the production of new business, are capitalized as incurred. These deferred
costs are then amortized in proportion to future premium revenues or the
expected future profits of the business, depending upon the type of product.
Profit expectations are based upon assumptions of future interest spreads,
mortality margins, expense margins and policy and premium persistency
experience. These assumptions involve judgment and are compared to actual
experience on an ongoing basis.
13
Future Policy Benefits
- ----------------------
The Company establishes liabilities for amounts payable under insurance
policies. Generally, benefits are payable over an extended period of time and
the reserves established for future policy benefits are dependent on the
assumptions used in the pricing of the products. Principal assumptions used in
pricing policies and in the establishment of reserves for future policy benefits
are mortality, morbidity, expenses, persistency, investment returns and
inflation. Differences between actual experience and assumptions used in the
pricing of these policies and in the establishment of liabilities may result in
variability of net income in amounts which may be material.
Future Annuity Benefits
- -----------------------
Future annuity benefits relate to deferred annuity contracts. The account
balances for deferred annuity contracts are equal to the cumulative deposits
less any applicable contract charges plus interest credited. The profitability
of these products is also dependent on principal assumptions similar to
traditional insurance products, and differences between actual experience and
pricing assumptions may result in variability of net income in amounts which may
be material.
Premiums
- --------
Premiums for traditional life insurance products are reported as revenue when
due. Traditional insurance products include whole life and term life. Deposits
relate to deferred annuity products. The cash flows from deposits are credited
to policyholder account balances. Deposits are not recorded as revenue.
Income Taxes
- ------------
Deferred income taxes are recorded on the differences between the tax bases of
assets and liabilities and the amounts at which they are reported in the
consolidated financial statements. Recorded amounts are adjusted to reflect
changes in income tax rates and other tax law provisions as they become enacted.
Reinsurance
- -----------
Reinsurance is one of the tools that the Company uses to accomplish its business
objectives. A variety of reinsurance vehicles are currently in use. Reinsurance
supports a multitude of corporate objectives including managing statutory
capital, reducing volatility and reducing surplus strain. At the customer level
it increases the Company's capacity, provides access to additional underwriting
expertise, and generally makes it possible for the Company to offer products at
competitive levels that the Company could not otherwise bring to market without
reinsurance support.
Financial Condition
- -------------------
Significant changes in the condensed consolidated balance sheets from December
31, 2005 to March 31, 2006 are highlighted below.
Total assets increased from $26,677,662 at December 31, 2005 to $27,736,983 at
March 31, 2006. The increase in total assets is primarily attributable to the
investment of premiums received during the quarter. Given the long-term nature
of the policy and contract liabilities associated with these premiums,
management is able to invest these premiums for a period of time until a payout
of policy benefits is required.
The Company's available-for-sale fixed maturity securities had a fair value of
$13,952,177 and $13,854,375 at March 31, 2006 and December 31, 2005,
respectively. This investment portfolio is reported at market value with
unrealized gains and losses, net of applicable deferred taxes, reflected as a
separate component of accumulated other comprehensive income.
Credit risk is limited by emphasizing investment grade securities and by
diversifying the investment portfolio among various investment instruments.
Certain cash balances exceed the maximum insurance protection of $100,000
provided by the Federal Deposit Insurance Corporation. However, cash balances
exceeding this maximum are protected through
14
additional insurance. As a result, management believes that significant
concentrations of credit risk do not exist.
Mortgage loans on real estate decreased from $1,566,382 at December 31, 2005 to
$1,552,792 at March 31, 2006. The slight decrease is attributable to the
payments received during the quarter on mortgage loans purchased during the
quarter. No additional mortgage loans were purchased in the first quarter of
2006. The Company currently owns six mortgage loans. The Company may purchase
more of these types of investments in the future in limited quantities in an
effort to enhance the Company's investment portfolio yield.
Other investments increased from $1,656,866 at December 31, 2005 to $1,759,605
at March 31, 2006. The increase is attributable to the purchase of additional
investments in lottery prize cash flows during the three months ended March 31,
2006. These other investments involve purchasing assignments of the future
payment rights from the lottery winners at a discounted price sufficient to meet
the Company's yield requirements. Payments on these other investments will be
made by state run lotteries and as such are backed by the general credit of the
respective state. The Company may purchase more of these types of investments in
the future in limited quantities in an effort to enhance the Company's
investment portfolio yield.
Cash and cash equivalents increased to $1,158,232 at March 31, 2006 from
$249,109 at December 31, 2005. Refer to the statement of cash flows for sources
and uses of cash.
Accounts receivable decreased 43% from $272,200 at December 31, 2005 to $154,370
at March 31, 2006. The decrease is primarily due to a decrease of $121,467 in
amounts due from agents. An allowance for uncollectible items is not deemed
necessary with respect to these receivables.
Deferred policy acquisition costs, net of amortization, increased 2% from
$5,133,244 at December 31, 2005 to $5,252,322 at March 31, 2006 resulting from
the capitalization of acquisition expenses related to the sales of life
insurance. These acquisition expenses include commissions on first year
business, medical exam and inspection report fees, and salaries of employees
directly involved in the marketing, underwriting and policy issuance functions.
Management of the Company reviews the recoverability of deferred acquisition
costs on a quarterly basis based on current trends as to persistency, mortality
and interest. These trends are compared to the assumptions used in the
establishment of the original asset in order to assess the need for impairment.
Based on the results of the aforementioned procedures performed by management,
no impairments have been recorded against the balance of deferred acquisition
costs.
Liabilities increased to $20,594,693 at March 31, 2006 from $19,354,415 at
December 31, 2005. A significant portion of this increase is attributable to
future policy and annuity benefits related to sales of the Company's various
life insurance products. Reserves for future policy benefits established due to
the sale of life insurance increased $249,977, or 5% from December 31, 2005 to
March 31, 2006. These reserves are actuarially determined based on such factors
as insured age, life expectancy, mortality and interest assumptions. Reserves
for future annuity benefits increased $1,210,442 or 12% from December 31, 2005
to March 31, 2006. In 2005, annuity contract liabilities increased due to the
introduction of three new annuity products to the marketing force and continued
considerations received on the Company's FA2000 product. According to the design
of the Company's FA2000 product, first year premium payments are allocated 100%
to life insurance and renewal payments are split 50% to life and 50% to annuity.
Other liabilities increased $58,974 from $180,086 at December 31, 2005 to
$239,060 at March 31, 2006. The increase is attributable to timing factors
associated with the payment of significant invoices for professional services
and property taxes.
Notes payable decreased $24,789 from $2,272,986 at December 31, 2005 to
$2,248,197 at March 31, 2006. The decrease is attributable to payments made on
the construction loan as well as payments made to Brooke's note payable.
Deferred federal income taxes payable decreased to $465,078 at March 31, 2006
from $527,941 at December 31, 2005. Deferred federal income taxes payable are
established based on timing differences between income recognized for financial
statement purposes and taxable income for the Internal Revenue Service. These
deferred taxes are based on the
15
operations of the Company and FLAC and on unrealized losses on
available-for-sale securities. The decrease in deferred taxes payable is
primarily attributable to the increase in unrealized losses in the investment
portfolio at March 31, 2006 compared to December 31, 2005.
Results of Operations
- ---------------------
Significant components of revenues include life insurance premiums (net of
reinsurance) and net investment income. The following table provides information
concerning net premium income for the three months ended March 31, 2006 and
2005:
Three months ended
March 31, March 31,
2006 2005
------------ ------------
Whole life insurance:
First year $ 235,522 $ 221,134
Renewal 1,018,041 927,580
Term insurance:
First year 1,443 40
Renewal 1,960 1,723
Single premium 7,000 5,720
------------ ------------
Gross premium income 1,263,966 1,156,197
Reinsurance premiums assumed 2,166 2,035
Reinsurance premiums ceded (162,353) (45,776)
------------ ------------
Net premium income $ 1,103,779 $ 1,112,456
------------ ------------
Net premium income decreased $8,677 or 1% from the three months ended March 31,
2006 to the same period during 2005. Total first year whole life premium
increased $14,388 or 7% from 2005 to 2006. The increase is attributable to a
continuing increase in production of the Company's Golden Eagle Whole Life
(Final Expense) product.
Management spent a significant amount of time during 2004 developing new
products in an effort to enhance production going forward. Management released
several new annuity, term and whole life products during 2005. The Company's
goal in introducing these new products is to diversify the Company's product mix
and to manage its first year production to both the needs and capacity of the
Company.
Total renewal year whole life premiums increased $89,949 or 10% from the three
months ended March 31, 2005 to the same period during 2006. Renewal premiums
reflect the premium collected in the current year for those policies that have
surpassed their first anniversary. Renewal premiums will continue to increase
unless premiums lost from surrenders, lapses, settlement options or application
of the non-forfeiture options, exceed prior year's first year premium, other
than single premium.
Reinsurance premiums ceded increased $116,577 or 255% for the three months ended
March 31, 2006, compared to the same period in 2005. The increase is primarily
attributable to premiums paid to Wilton Re in conjunction with the reinsurance
of the Company's Golden Eagle Whole Life (Final Expense) product.
Net investment income increased $76,033 or 40% for the three months ended March
31, 2006, compared to the same period for 2005. The increase is due to an
increase of average yields on the Company's portfolio. The Company revised its
investment strategy and is now focused primarily on matching maturities to the
anticipated cash needs of the Company, but also attempts to match the investment
mix to others within the Company's industry peer group.
16
Benefits and expenses totaled $1,368,506 and $1,562,580 during the three months
ended March 31, 2006 and 2005, respectively. Included in total benefits and
expenses were policy reserve increases of $249,977 and $411,748 during three
months ended March 31, 2006 and 2005, respectively. Life insurance reserves are
actuarially determined based on such factors as insured age, life expectancy,
mortality and interest assumptions. As more life insurance is written and
existing policies reach additional durations, policy reserves will continue to
increase.
Policyholder surrender values increased $21,756 from $49,609 during the three
months ended March 31, 2005 to $71,365 during the same period in 2006. This
increase is attributable to the maturation of policies.
Interest credited on annuities and premium deposits totaled $126,304 and $85,826
for the three months ended March 31, 2006 and 2005, respectively. The increase
during 2006 of $40,478 or 47% is primarily a result of the increase in annuity
fund balances. Both interest credited on annuities and premium deposits have
increased as a result of the increase in the number of policies inforce. The
average interest credit rate on annuities and premium deposits has increased
from 4.6% to 4.9% during the three months ended March 31, 2005 and 2006,
respectively.
Death claims increased $60,008, or 83%, for the three months ended March 31,
2006, compared to the same period for 2005. The increase is attributable to the
increase in the number of policies inforce and the continued maturation of those
policies. Mortality experienced by the Company to date is within management's
expectations.
Commission expense totaled $250,321 and $300,960 for the three months ended
March 31, 2006 and 2005, respectively. Commission expense is based on a
percentage and is determined in the product design. Additionally higher
percentage commissions are paid for first year business rather than the renewal
year. Commission expense decreased $50,639 primarily due to commission
allowances received on reinsured business due from Wilton Re of $115,271 during
the quarter being netted against the commission expense. Commission allowances
received on reinsurance business essentially serve as a reimbursement to the
Company for acquisition costs incurred to write business.
Salaries, wages and employee benefits decreased $44,208 from $315,040 for the
three months ended March 31, 2005, to $270,832 for the same period in 2006. The
decrease in 2006 is primarily attributable to a decrease in employee headcount
along with decreased employee benefit expenses.
Other operating costs and expenses totaled $359,093 and $420,933 for the three
months ended March 31, 2006 and 2005, respectively. The net decrease of $61,840,
or 15%, was primarily due to a decrease in Wilton Re expense allowances of
$38,089, and a loss on a Treasury Stock transaction (Brooke) of $35,465
recognized in March 31, 2005. The Company had no Treasury Stock transactions for
the same period in 2006.
As a result of the items noted above the Company had a net income of $58,823 for
the three months ended March 31, 2006 and incurred a net loss of $231,321 for
the three months ended March 31, 2005.
Liquidity and Capital Resources
- -------------------------------
During the quarters ended March 31, 2006, and 2005, the Company maintained
liquid assets sufficient to meet operating demands, while continuing to utilize
excess liquidity to purchase various investments. Net cash provided by operating
activities during the quarters ended March 31, 2006 and 2005 totaled $376,421
and $282,875, respectively.
As of March 31, 2006, the Company and its subsidiaries had consolidated cash
reserves and liquid investments of approximately $15,576,573, as compared with
$14,316,644 as if March 31, 2005. Of these amounts, cash reserves and liquid
investments at FLAC as of these dates were approximately $15,231,163 and
$13,282,629, respectively. FLAC generally receives adequate cash flow from
premium collections and investment income to meet the obligations of its
insurance operations. Insurance policy liabilities are primarily long-term and
generally are paid from future cash flows. Cash collected from deposits on
annuity contracts and policyholder premium deposits are recorded as cash flows
from financing activities. Due to insurance regulatory restrictions, as noted
above, cash generated by FLAC cannot necessarily be used to fund the cash needs
of the parent company on a stand-alone basis.
As of March 31, 2006, cash reserves and nonliquid investments at the parent
company level were approximately $340,052 as compared with $1,034,015 as of
March 31, 2005. Cash reserves for FLBI were $5,358 at March 31, 2006 and there
were none at March 31, 2005. Based on the decreasing level of cash reserves and
nonliquid investments at the parent company level over the past few years, in
2005, management began to pursue all reasonable alternatives for increasing cash
reserves at the parent company level. As an initial step in this process, the
Board of Directors of each of the parent company and FLAC approved a transaction
pursuant to which FLAC agreed to purchase the Company's home office building and
the real property on which it is located from the parent company at its value of
$2,800,000, which was determined based on an independent appraisal.
On March 28, 2006, the Kansas Insurance Department (KID) approved this
transaction pursuant to a Form D (Prior Notice of a Transaction) filed by the
Company. Proceeds from the sale were used by the parent company to pay off the
two creditors that held mortgages on the building, which resulting in interest
savings of approximately $890,000 over the life of the loans. In addition, the
transaction provided the parent company with approximately $500,000 in cash.
This cash will be used to fund operations at the parent company.
Based on currently forecasted cash flow levels, management anticipates that the
$500,000 in cash provided to the
17
parent company as a result of the aforementioned transaction plus the parent
company's existing cash reserves of approximately $380,000 will fund operations
at the parent company level into mid 2007. Therefore, in the interim, management
will continue to explore all reasonable opportunities to provide additional
capital to the parent company through the sale of new equity securities or debt
securities, or through borrowed funds. Successful efforts in this arena will not
only help to remedy the parent company's current cash situation, but also allow
management to fully implement its business development plan of expanding the
Company's product lines and marketing efforts through the infusion of additional
capital into FLAC's insurance operations and FLBI's brokerage operations. If
these efforts are not successful, however, then the Company will have no choice
but to cease operations as a public company and liquidate its assets, which
primarily are the insurance operations of its subsidiary FLAC. There is no
assurance of what if any value could be realized by the parent company in this
event.
Pursuant to these efforts, on October 6, 2006, the Company executed a Stock
Purchase and Sale Agreement (the "Agreement") with Brooke Corporation ("Brooke")
pursuant to which, subject to the conditions stated in the Agreement, Brooke has
agreed to acquire newly issued shares of the common stock of FACC in a two step
transaction that will result in Brooke owning 55% of the then issued and
outstanding shares of common stock. In consideration therefor, Brooke will (i)
pay to FACC $3,000,000 in cash and (ii) enter into a Brokerage Agreement
pursuant to which, among other things, CJD & Associates, L.L.C., a Brooke
subsidiary, will cause all of its new managing general agent loan brokerage
business to be transacted through First Life Brokerage, Inc. ("FLB"), a FACC
subsidiary. In the Agreement, the pretax profits of FLB over a three year period
shall be not less than $6,000,000 in pretax profits or Brooke shall be obligated
to contribute funds FACC as additional consideration for the issuance of the
shares of FACC common stock acquired pursuant to the Agreement to the extent the
pretax profit goal is not made under such schedule. The closing of the
transactions contemplated under the Agreement are subject to a number of
conditions, including the approval of the Kansas Department of Insurance.
Although there is no assurrance that these conditions will be met and that the
closing of these transactions will occur, management currently anticipates that
the closing will occur in the fourth quarter of 2006.
18
ITEM 3. CONTROLS AND PROCEDURES
The Company maintains controls and procedures designed to ensure that
information required to be disclosed in the reports that the Company files or
submits under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported within the time periods specified in the rules and forms
of the Securities and Exchange Commission. This information is accumulated and
communicated to the Company's management to allow timely decisions regarding
disclosure. The Company's Chief Executive Officer and President conducted an
evaluation of the Company's disclosure controls and procedures as of the end of
the period covered by this report. Based upon the evaluation of those controls
and procedures, the Chief Executive Officer and President of the Company
concluded that the Company's disclosure controls and procedures are effective in
alerting on a timely basis, material information required to be disclosed in the
Company's periodic filings.
The Company made no significant changes in its internal controls over financial
reporting or in other factors that could significantly affect these controls
subsequent to the date of the evaluation of those controls by the Chief
Executive Officer and President.
19
PART II
OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Index to Exhibits
Exhibit No. Description
- ----------- -----------
3.1 Articles of Incorporation of First American Capital Corporation
(Incorporated by reference from Exhibit 2.1 to the Registrant's
amended Form 10-SB filed August 13, 1999)
3.2 Bylaws of First American Capital Corporation, as amended
(Incorporated by reference from Exhibit 3.2 to the Registrant's
Form 8-K filed April 11, 2005)
4 Certificate of Designations, Preferences and Relative,
Participating, Optional and Other Special Rights of Preferred
Stock and Qualifications, Limitations, and Restrictions Thereof
of 6% Non-Cumulative, Convertible, Callable Preferred Stock
(Incorporated by reference from Exhibit 3 to the Registrant's
amended Form 10-SB filed August 13, 1999)
10.1 Form of Advisory Board Contract (Incorporated by reference from
Exhibit 6.2 to the Registrant's amended Form 10-SB filed August
13, 1999)
10.2 Service Agreement amended and restated effective January 1, 2002
between First American Capital Corporation and First Life America
Corporation (Incorporated by reference from Exhibit 10.3 to the
Registrant's Form 10-KSB filed March 31, 2003)
10.3 Automatic Umbrella and Bulk ADB Reinsurance Agreements effective
September 1, 1998 between First Life America Corporation and
Business Men's Assurance Company of America (Incorporated by
reference from Exhibit 6.8 to the Registrant's Form 10-SB filed
August 13, 1999)
10.4 Employment Agreement effective February 16, 2004 between First
American Capital Corporation and John F. Van Engelen, as amended
(Incorporated by reference from Exhibit 10.5 to the Registrant's
Form 10-QSB filed November 15, 2004)
10.5 Inter-company Tax Sharing Agreement dated December 31, 2003
between First American Capital Corporation and First Life America
Corporation (Incorporated by reference from Exhibit 10.6 to the
Registrant's Form 10-KSB filed March 29, 2004)
10.6 Stock Repurchase Agreement between First American Capital
Corporation and Brooke Corporation dated March 2, 2005
(Incorporated by reference from Exhibit 10.7 to the Registrant's
Form 10-KSB filed March 31, 2005)
10.7 Warrant for 50,000 shares of First American Capital Corporation
common stock for $1.71per share issued to Brooke Corporation
effective March 2, 2005 (Incorporated by reference from Exhibit
10.8 to the Registrant's Form 10-KSB filed March 31, 2005)
10.8 Warrant for 50,000 shares of First American Capital Corporation
common stock for $3.35per share issued to Brooke Corporation
effective March 2, 2005 (Incorporated by reference from Exhibit
10.9 to the Registrant's Form 10-KSB filed March 31, 2005)
20
10.9 Warrant for 50,000 shares of First American Capital Corporation
common stock for $5.00 per share issued to Brooke Corporation
effective March 2, 2005 (Incorporated by reference from Exhibit
10.10 to the Registrant's Form 10-KSB filed March 31, 2005)
10.10 Employment Agreement effective February 7, 2005 between First
American Capital Corporation and Richard H. Katz (Incorporated by
reference from Exhibit 10.11 to the Registrant's Form 8-K filed
April 22, 2005)
31.1 Certification of Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002. (*)
31.2 Certification of Treasurer and Chief Financial Officer pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002. (*)
32.1 Certificate of Chief Executive Officer pursuant to Section 18
U.S.C. Section 1350 (*)
32.2 Certificate of Treasurer and Chief Financial Officer pursuant to
Section 18 U.S.C. Section 1350 (*)
(*) Filed herewith
b) Reports on Form 8-K
The Company filed current reports on Forms 8-K dated February 16,
2006, March 13, 2006, and June 5, 2006, announcing current
developments.
21
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
FIRST AMERICAN CAPITAL CORPORATION
Date: October 6, 2006 By: /s/ John F. Van Engelen
---------------------------- ---------------------------------
John F. Van Engelen
President & Chief Executive Officer
Date: October 6, 2006 By: /s/ Harland E. Priddle
---------------------------- ---------------------------------
Harland E. Priddle
Chairman & Secretary of the Board of
Directors
22