News Column

INVESTORS HERITAGE CAPITAL CORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

August 14, 2014

GENERAL

Investors Heritage Capital Corporation is incorporated under the laws of the Commonwealth of Kentucky and wholly owns Investors Heritage Life Insurance Company, a life insurance company also incorporated under the laws of the Commonwealth of Kentucky. Investors Heritage Capital also wholly owns Investors Heritage Financial Services Group, Inc., a Kentucky insurance marketing company; Investors Heritage Printing, Inc., a Kentucky printing company that provides printing to Investors Heritage Life and other unaffiliated parties; is the sole member of At Need Funding, LLC, a Kentucky limited liability company that provides advance funding of funerals in exchange for the irrevocable assignment of life insurance policies from other nonaffiliated companies; and is the sole member of Heritage Funding, LLC, a limited liability company that was formed to invest in various business ventures but is currently dormant.

Investors Heritage Life offers a full line of life insurance products including, but not limited to, whole life, term life, single premium life, multi-pay life and annuities. Investors Heritage Life's primary lines of business are insurance policies and annuities utilized to fund preneed funeral contracts, policies sold in the senior wealth transfer market, final expense insurance, credit life and credit disability insurance, group term insurance sold through associations, and term life and reducing term life sold through financial institutions.

In our preneed and burial product segment, we currently market the Legacy Gold and Heritage FX Final Expense products. The Legacy Gold life insurance and annuity product series is sold in the preneed market in conjunction with prearranged funerals. The Legacy Gold series includes both single premium and multi-pay policies, and both underwritten and guaranteed issue options are available. The Heritage FX Final Expense product was introduced during the third quarter of 2013 as a replacement for the Heritage Final Expense II product. The Heritage FX product is a non-participating whole life insurance product with simplified underwriting, sold in the final expense product. The Heritage FX product is structured to allow increased production while mitigating surplus strain through the use of reinsurance.

We also marketed our Heritage Advantage final expense product through a third party national master general agent distribution system with an established record and extensive experience in this market. However, in late-2013, we ceased marketing this product in order to limit the production volume to effectively manage the initial surplus strain associated with the product.

Within our traditional and universal life products segment, we currently market two products geared toward wealth preservation in the senior market - the Heritage Solution, a single premium life policy, and the Heritage Provider, a ten pay whole life and single premium immediate annuity combination. These products are currently being sold exclusively through our partnership with Puritan Financial Group and are being underwritten and issued using a third party underwriter with significant experience in that market. Prior to January 1, 2013, this business was being reinsured under a 50% coinsurance arrangement with a life insurance company affiliated with Puritan Financial Group. Effective January 1, 2013, this coinsurance agreement was amended to reinsure 25% of new business with that life insurance company. Additionally, these products were re-priced effective January 1, 2013 to account for lower required valuation rates and the current economic environment.

During 2013, Investors Heritage Life began assuming 75% of the risks on policies sold by affiliated life insurance companies of Puritan Financial Group. The products being assumed are identical to the Heritage Solution and Heritage Provider products currently being written by Investors Heritage Life. However, these reinsurance arrangements allow us to participate in the profitability of these products in certain states where we are not currently marketing.

27 --------------------------------------------------------------------------------



Our traditional and universal life products also include the HLW Choice Whole Life product and the Heritage Protector IV product. The HLW Choice Whole Life product is designed with numerous options and with flexibility to achieve our customers' goals. The Heritage Protector IV product is a term product marketed primarily by banks and other financial institutions in conjunction with consumer credit.

We introduced an association group term product during the second half of 2013. This product provides a monthly renewable term benefit and is being marketed to various association groups.

We also market the Heritage Youth Protector, which is a combination term/whole life plan marketed to parents and grandparents, with issue ages of 0-22. The policy is a term policy until age 25 at which time it automatically converts to a whole life policy with increased premium. Waiver of premium and guaranteed insurability option riders are also available. Initial coverage may be purchased in $5,000 increments from $5,000 to $20,000 per child, with single or annual payment options to age 25. At age 25, the policy becomes an annual pay plan.

Investors Heritage Financial markets traditional insurance products through banks and other financial institutions. Investors Heritage Financial markets Investors Heritage Life products and continues to expand the portfolio of products available to our regular ordinary insurance agents by offering products of other unaffiliated companies. For a number of years, we have provided outlets for our agents with substandard business that Investors Heritage Life will not accept. Investors Heritage Financial has provided "second to die" policies, substandard life policies, larger term policies and health insurance products through other unaffiliated insurance companies. Investors Heritage Financial receives a fee for providing those services.

We utilize a combination of yearly renewable term reinsurance and coinsurance to cede life insurance coverage in excess of our desired retention limits, which in most cases is $25,000 per life. Most of our business is written in the smaller face amount markets and, in the past, claims on larger-case ordinary business caused income fluctuations. This lower retention level has stabilized earnings fluctuations. The lowered retention was achieved by maintaining the established reinsurance treaties and adding additional yearly renewable term treaties for amounts between our desired net amount at risk and the previous retention of $100,000.

Investors Heritage Life continues to market its third party administrative ("TPA") services as an additional revenue source. These agreements, for various levels of administrative services on behalf of each company, generate fee income for Investors Heritage Life. We currently have six TPA clients for which we provide tailored services to meet each client's individual business needs. We have been able to perform our TPA services using our existing in-house resources.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. Preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. We evaluate our estimates continually, including those related to investments, deferred acquisition costs, value of business acquired, policy liabilities, income taxes, employee benefit plans, regulatory requirements, contingencies and litigation. We base such estimates on historical experience and other assumptions believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe the following accounting policies, judgments and estimates are the most critical to the preparation of our consolidated financial statements.

28 --------------------------------------------------------------------------------



Investments in Fixed Maturities, Equity Securities, Mortgage Loans and State-Guaranteed Receivables

We hold fixed maturities and equity interests in a variety of companies. Additionally, we originate, underwrite and manage commercial mortgage loans, and we purchase residential mortgage loans through the secondary market. We also own certain investments in state-guaranteed receivables consisting of the future cash flow rights from lottery prize winners. We continuously evaluate all of our investments based on current economic conditions, credit loss experience and other developments. We evaluate the difference between the cost/amortized cost and estimated fair value of our investments to determine whether any decline in fair value is other-than-temporary in nature. This determination involves a degree of uncertainty.

If a decline in the fair value of a security is determined to be temporary, the decline is recognized in other comprehensive income (loss) within stockholders' equity. If a decline in a security's fair value is considered to be other-than-temporary, we then determine the proper treatment for the other-than-temporary impairment. For fixed maturities, the amount of any other-than-temporary impairment related to a credit loss is recognized in earnings and reflected as a reduction in the cost basis of the security; and the amount of any other-than-temporary impairment related to other factors is recognized in other comprehensive income (loss) with no change to the cost basis of the security. For equity securities, the amount of any other-than-temporary impairment is recognized in earnings and reflected as a reduction in the cost basis of the security.

The assessment of whether a decline in fair value is considered temporary or other-than-temporary includes management's judgment as to the financial position and future prospects of the entity issuing the security. It is not possible to accurately predict when it may be determined that a specific security will become impaired. Future adverse changes in market conditions, poor operating results of underlying investments and defaults on mortgage loan payments could result in losses or an inability to recover the current carrying value of the investments, thereby possibly requiring an impairment charge in the future. Likewise, if a change occurs in our intent to sell temporarily impaired securities prior to maturity or recovery in value, or if it becomes more likely than not that we will be required to sell such securities prior to recovery in value or maturity, a future impairment charge could result.

If an other-than-temporary impairment related to a credit loss occurs with respect to a bond, we amortize the reduced book value back to the security's expected recovery value over the remaining term of the bond. We continue to review the security for further impairment that would prompt another write-down in the book value.

We classify our fixed maturities and equity securities as available-for-sale and carry them at fair value on the balance sheet, with unrealized appreciation (depreciation) relating to temporary market value changes recorded as an adjustment to other comprehensive income (loss), net of adjustments to deferred acquisition costs and federal income taxes. Fair value for these investments is determined using Accounting Standards Codification principles covering Level 1, Level 2 and Level 3 instruments as further discussed in Note 5 to the consolidated financial statements.

The majority of our fixed maturities are Level 2 instruments, for which the fair value is derived from readily available pricing services utilizing recent trades and broker information. Certain liquid equity securities are considered Level 1 instruments and are valued based on publicly available market quotes in an active market. We hold approximately $384,000 in Level 3 financial instruments, comprising 0.1% of our total investments carried at fair value. Fair value for these instruments is derived from unobservable inputs such as non-binding broker quotes and internal models using unobservable assumptions about market participants.

29 --------------------------------------------------------------------------------

Deferred Acquisition Costs



The recovery of deferred acquisition costs is dependent on the future profitability of the underlying business for which acquisition costs were incurred. Each reporting period, we evaluate the recoverability of the unamortized balance of deferred acquisition costs. We consider estimated future gross profits or future premiums, expected mortality or morbidity, interest earned and credited rates, persistency and expenses in determining whether the balance is recoverable. If we determine a portion of the unamortized balance is not recoverable, it is immediately charged to amortization expense. The assumptions we use to amortize and evaluate the recoverability of the deferred acquisition costs involve significant judgment. A revision to these assumptions may impact future financial results.

Deferred acquisition costs related to annuities and universal life insurance products are deferred to the extent deemed recoverable and amortized in relation to the present value of actual and expected gross profits on the policies. To the extent that realized gains and losses on securities result in adjustments to deferred acquisition costs related to annuities, such adjustments are reflected as a component of the amortization of deferred acquisition costs.

Deferred acquisition costs related to annuities are also adjusted, net of tax, for the change in amortization that would have been recorded if the unrealized gains (losses) from securities had actually been realized. This adjustment is included in the change in net unrealized appreciation (depreciation) on available-for-sale securities, a component of "Accumulated Other Comprehensive Income (Loss)" in the stockholders' equity section of the balance sheet.

Policy Liabilities

Estimating liabilities for our long-duration insurance contracts requires management to make various assumptions, including policyholder persistency, mortality rates, investment yields, discretionary benefit increases, new business pricing, and operating expense levels. We evaluate historical experience for these factors when assessing the need for changing current assumptions. However, since many of these factors are interdependent and subject to short-term volatility during the long-duration contract period, substantial judgment is required. Actual experience may emerge differently from that originally estimated. Any such difference would be recognized in the current year's consolidated statement of income. We utilize in-house actuaries in developing our actuarial assumptions and estimates and in monitoring such assumptions and estimates against actual experience.

Income Taxes

We evaluate our deferred income tax assets, which partially offset our deferred tax liabilities, for any necessary valuation allowances. In doing so, we consider our ability and potential for recovering income taxes associated with such assets, which involve significant judgment. Revisions to the assumptions associated with any necessary valuation allowances would be recognized in the consolidated financial statements in the period in which such revisions are made.

Employee Benefit Plans



We maintain a defined benefit retirement plan on behalf of our employees. Measurement of the future benefit obligations associated with this plan involves significant judgment, particularly in regard to the expected long-term rate of return on plan assets and the current discount rate used to calculate the present value of future obligations. The long-term rate of return for plan assets is determined based on an analysis of historical returns on invested assets, anticipated future fixed income, equity investment markets, and diversification needs. Long term trends are evaluated relative to current market factors such as inflation, interest rates and investment strategies, including risk management, in order to assess the assumptions as applied to the plan. The discount rate utilized is determined based on reviews of market indices commonly used to measure such liabilities in the industry. Changes in our assumptions can significantly impact the accrued pension liability and net periodic benefit cost recorded in the consolidated financial statements. Additionally, funding of plan liabilities is sensitive to changes in investment returns as well as regulatory changes, which can significantly impact our consolidated financial statements.

30 --------------------------------------------------------------------------------



During 2012, the Company restructured its employee benefit plans. Effective June 30, 2012, the Company ceased all future benefit accruals and compensation increases under the IHCC Employee Retirement Plan, although participants can continue to earn vesting credit towards their plan benefit subsequent to June 30, 2012. We continually monitor the performance of plan assets and growth in liabilities and funding necessities, utilizing independent and experienced consultants to assist in plan management.

The Company also amended the IHCC Retirement Savings Plan and Trust (the "Old 401(k) Plan"), under which, effective June 30, 2012, participants in the Old 401(k) Plan are no longer eligible to elect to defer and contribute compensation earned to the Old 401(k) Plan; the Company will not make any matching contributions to the Old 401(k) Plan; and the Old 401(k) Plan will not accept rollover contributions.

The Company adopted a new traditional 401(k) retirement plan, the IHCC 401(k) Retirement Plan (the "Retirement Plan"). Employees are eligible to participate in the Retirement Plan on the first day of employment. Under the Retirement Plan, the Company matches employee contributions dollar for dollar up to 4% of employee compensation deferrals. Employees who have met certain employment criteria may also be eligible to receive an additional allocation after the end of each plan year. The Retirement Plan became effective January 1, 2012.

We expect these changes in our employee benefit plans to mitigate future uncertainty with respect to defined benefit pension plans while also maintaining a competitive benefit package for our employees.

We previously disclosed in our financial statements for the year ended December 31, 2013 that we expected to contribute $900,000 to our defined benefit pension plan during 2014. As of June 30, 2014, the Company had contributed $450,000 to the plan.

New Accounting Pronouncements



In May 2014, the Financial Accounting Standards Board issued guidance regarding accounting for revenue recognition that identifies the accounting treatment for an entity's contracts with customers. Certain contracts, including insurance contracts, are specifically excluded from this guidance. This guidance is effective for public entities for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. We have not yet adopted this guidance, but it is not expected to have a material impact on our financial position, cash flows or results of operations.

All other new accounting standards and updates of existing standards issued through the date of this filing were considered by management and did not relate to accounting policies and procedures pertinent to the Company at this time or were not expected to have a material impact to the consolidated financial statements.

INVESTMENTS, LIQUIDITY AND CAPITAL RESOURCES

Investments

Investors Heritage Life maintains a sound, conservative investment strategy. At June 30, 2014 and December 31, 2013, 90.9% and 90.8%, respectively, of invested assets consisted of fixed income securities. At June 30, 2014 and December 31, 2013, Investors Heritage Life's fixed income investments were 96.8% and 96.0% investment grade, respectively, as rated by Standard & Poor's.

We have reviewed our investment portfolio and do not believe that there are any securities that are other-than-temporarily impaired at June 30, 2014. None of Investors Heritage Life's fixed income assets are in default and there has been no material change in the distribution of its fixed income portfolio. We recorded no other-than-temporary impairment charges in the consolidated statements of income during the quarters or six months ended June 30, 2014 or 2013.

We continuously monitor the investment risk within our portfolio, including the risk associated with subprime lending with our CMO investments. As of June 30, 2014, we have only one CMO, with a fair value of approximately $2,700, which has any level of direct subprime exposure. Based on our analysis, we expect no losses as a result of subprime concerns. Additionally, we have no Alt-A bond exposure within our current holdings.

31 --------------------------------------------------------------------------------



During the second quarter of 2013, we entered into an investment advisory agreement to purchase common and preferred stocks in stable areas within the real estate sector. The investment advisor has a history of strong performance within these markets. The majority of these funds have been invested in a diversified assortment of regularly traded, exchange listed common stocks. As of June 30, 2014, the largest individual stock position within this group is approximately $307,000. We believe the unrealized losses associated with our common stocks are temporary in nature given the credit quality of the issuers. We believe that these investments will generate positive future results by providing a slightly increased and fully managed exposure to equity markets.

Additionally, Investors Heritage Life engages in commercial and residential mortgage lending. As of June 30, 2014, 69.5% of these investments were in commercial properties. Our commercial mortgage loans and certain residential mortgage loans are either originated in-house or through two mortgage brokers, are secured by first mortgages on the real estate and generally carry personal guarantees by the borrowers. Loan to value ratios of 80% or less and debt service coverage from existing cash flows of 115% or higher are generally required. We minimize credit risk in our mortgage loan portfolio through various methods, including stringently underwriting the loan request, maintaining small average loan balances, and reviewing larger mortgage loans on an annual basis.

During the third quarter of 2013, we began evaluating and purchasing residential mortgage loans through the secondary market. We review each mortgage loan opportunity individually, considering both the value of the underlying property and the credit worthiness of the borrower. These loans are typically purchased at a discount to their unpaid principal balance. During the quarter and six months ended June 30, 2014, we purchased residential mortgages through the secondary market totaling approximately $1,522,000 and $2,254,000, respectively. We are utilizing a third party servicer to administer these loans. We currently anticipate evaluating and making additional residential mortgage loan investments assuming they meet our investment goals and criteria.

At June 30, 2014 and December 31, 2013, 4.0% of invested assets consisted of mortgage loans. As of June 30, 2014, Investors Heritage Life had no non-performing mortgage loans, which would include loans past due 180 days or more, loans in process of foreclosure, restructured loans and real estate acquired through foreclosure.

We own certain investments in state-guaranteed receivables. These investments represent an assignment of the future rights to cash flows from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries and guaranteed by the states. As these payment streams are secured by the states themselves, a key function of our due diligence is the assessment of the states' ability to meet these obligations. Additionally, each state generally withholds income tax from each payment for which we must file for reimbursement of such tax annually. We carry the state-guaranteed receivables at their amortized cost basis on the balance sheet. As of June 30, 2014, we held approximately $7,939,000 in state-guaranteed receivables, with the largest concentrations in the states of New York, Massachusetts and Georgia totaling approximately $3,746,000, $1,918,000 and $1,511,000, respectively. At June 30, 2014 and December 31, 2013, 1.7% and 1.8%, respectively, of invested assets consisted of state-guaranteed receivables.

Liquidity and Capital Resources

Investors Heritage Life's principal sources of cash flow used to meet short-term and long-term cash requirements are insurance premiums, which include mortality and expense charges, investment income, and administrative service fees.

Investors Heritage Life's short-term obligations consist primarily of policyholder benefits and operating expenses. Investors Heritage Life has historically been able to meet these obligations out of operating cash, premiums and investment income.

32 --------------------------------------------------------------------------------



Investors Heritage Life's principal long-term obligations are fixed contractual obligations incurred in the sale of its life insurance products. The premiums charged for these products are based on conservative and actuarially sound assumptions as to mortality, persistency and interest. We believe these assumptions will produce revenues sufficient to meet our future contractual benefit obligations and operating expenses, and provide an adequate profit margin.

Investors Heritage Capital's principal sources of cash flow are rental income and dividends from its subsidiaries. Investors Heritage Capital's principal long-term obligations are payments on long-term debt.

Investors Heritage Life's conservative approach in the product development area and the strength and stability of its fixed income and mortgage loan portfolios provide adequate liquidity both in the short-term and the long-term.

We assess our compliance with prescribed debt covenant requirements as outlined in the terms of each debt agreement at least annually, if not otherwise required in the debt agreement. Management has assessed our position and as of June 30, 2014, we are in compliance with all debt covenant requirements.

We are not aware of any commitments or unusual events that could materially affect capital resources. We have the option to prepay certain notes payable at our discretion prior to their maturity dates.

We will continue to explore various opportunities including mergers and acquisitions and purchasing blocks of business from other companies, which may dictate a need for either long-term or short-term debt. There are no restrictions as to use of funds except the restriction on Investors Heritage Life as to the payment of cash dividends to Investors Heritage Capital.

RESULTS OF OPERATIONS Overview



Premiums earned (net of reinsurance) were $11,780,686 for the second quarter of 2014 (a decrease of 23.7% compared to the second quarter of 2013) and $23,657,522 for the six months ended June 30, 2014 (a decrease of 19.3% compared to the corresponding period in 2013). These decreases are primarily due to unanticipated weather-related impacts that hampered new sales across all segments during the first quarter of 2014 in addition to lower sales of the Puritan product offerings as compared to the prior year.

Net investment income was $5,174,624 for the second quarter of 2014 (a decrease of 1.8% compared to the second quarter of 2013) and $10,253,606 for the six months ended June 30, 2014 (a decrease of 2.6% compared to the corresponding period in 2013). These decreases are primarily driven by the reversal of previously recorded mark-to-market adjustments relative to our investment in derivative, which flows through investment income. This investment was sold during the third quarter of 2013. Low new fixed maturity investment yields continue to put downward pressure on our investment income. We continue to seek high quality investments while considering alternative investments that can be used to enhance future investment income.

Net realized gains (losses) on investments were $72,665 and $68,859 for the quarter and six months ended June 30, 2014, respectively, compared to ($24,716) and $63,251 for the quarter and six months ended June 30, 2013, respectively. Other than a realized loss of $14,006 relative to the demolition of a Company-owned building during the quarter and six months ended June 30, 2013, the activity during each of these periods was in the normal course of business. We experienced no other-than-temporary impairments during the quarters or six months ended June 30, 2014 or 2013.

Other income was $536,987 for the second quarter of 2014 (an increase of 46.8% compared to the second quarter of 2013) and $874,859 for the six months ended June 30, 2014 (an increase of 17.2% compared to the corresponding period in 2013). These increases are principally due to $141,907 of net life insurance proceeds received under a company-owned life insurance policy upon the death of a former board member during the second quarter of 2014.

33 --------------------------------------------------------------------------------



Total benefits and expenses were $17,272,022 for the second quarter of 2014 (a decrease of 23.4% compared to the second quarter of 2013) and $34,629,611 for the six months ended June 30, 2014 (a decrease of 17.1% compared to the corresponding period in 2013). These decreases are primarily driven by lower reserve increases and reduced commissions relative to the lower sales volume in the first six months of 2014. Additionally, for the quarter and six months ended June 30, 2013, death and other benefits included an additional amount totaling $2,029,462 relative to a comparison of our life insurance policies against the Social Security Death Master File. This comparison was performed in compliance with a recently enacted Kentucky state law which follows a model law adopted by the National Conference of Insurance Legislators. This amount primarily affects the traditional and universal life segment, along with a much smaller impact on the final expense portion of the preneed and burial segment. We are in the process of researching the potential matches to determine that a valid claim exists, to locate beneficiaries and to pay benefits accordingly.

After providing for federal income taxes, our net income was $234,352 with net income per share of $0.21 for the second quarter of 2014 compared to a net loss of $1,060,521 with a net loss per share of $0.93 for the second quarter of 2013. Our net income was $180,188 with net income per share of $0.16 for the six months ended June 30, 2014 compared to a net loss of $765,224 with a net loss per share of $0.67 for the six months ended June 30, 2013.

We declared a dividend of $0.20 per share on February 13, 2014 to shareholders of record on March 14, 2014. This dividend was paid on April 7, 2014.

Business Segments

FASB guidance requires a "management approach" in the presentation of business segments based on how management internally evaluates the operating performance of business units. The discussion of segment operating results that follows is being provided based on segment data prepared using this methodology.

Preneed & Burial Products

Preneed and burial Products include both life and annuity products sold by funeral directors or affiliated agents to fund prearranged funerals. Revenues for this segment were $12,378,694 for the second quarter of 2014 (a decrease of 4.1% compared to the second quarter of 2013) and $23,591,408 for the six months ended June 30, 2014 (a decrease of 6.6% compared to the corresponding period in 2013). These decreases are predominantly due to the previously mentioned unanticipated weather-related impacts that affected new sales of our preneed products during the first quarter of 2014. Additionally, revenue was impacted by the discontinuation of our Heritage Advantage product sold through the national master general agent distribution system. Low investment yields on new fixed maturity investments also continue to negatively affect our revenue.

Pre-tax loss from operations was $50,136 and $358,714 for the quarter and six months ended June 30, 2014, respectively, compared to pre-tax income of $72,185 and $7,210 for the quarter and six months ended June 30, 2013, respectively. These increases in the pre-tax loss were driven primarily by the previously mentioned reductions in sales volume and reduced net investment income within the segment given the current interest rate environment.

Traditional & Universal Life Products

Traditional and universal life products include traditional life and group life insurance products, certain annuities and universal life products. Revenues for this segment were $4,499,730 for the second quarter of 2014 (a decrease of 40.3% compared to the second quarter of 2013) and $10,097,262 for the six months ended June 30, 2014 (a decrease of 28.5% compared to the corresponding period in 2013). These decreases are primarily due to lower sales of the Puritan product offerings in comparison to the corresponding period in the prior year. Reduced investment income due to the previously discussed yield pressures has also affected revenue.

34 --------------------------------------------------------------------------------



Pre-tax income from operations was $88,686 and $281,177 for the quarter and six months ended June 30, 2014, respectively, compared to a pre-tax loss of $1,694,923 and $1,399,579 for the quarter and six months ended June 30, 2013, respectively. These improvements in pre-tax income are primarily a reflection of the impact of the additional claims liability established in the corresponding periods in 2013 relative to a comparison of our life insurance policies against the Social Security Death Master File, as previously discussed.

Administrative & Financial Services

Administrative and financial services include the administration of credit life and credit accident and health insurance products. We reinsure 100% of the related underwriting risk on credit products currently produced within this segment. Accordingly, credit product revenue is generated primarily from initiation fees as well as fees for servicing and administering the credit business for our reinsurers. Because the credit product revenue is fee-based, performance is in direct relation to new premium production coupled with fees generated as premiums are earned. Premium production within this segment is also significantly affected by economic conditions within our credit markets, particularly Kentucky.

In addition to credit administration, this segment includes fees generated relative to our third party administrative relationships. We currently provide tailored administrative services for six unaffiliated companies, comprised of four life insurance companies and two holding companies. Services provided to each company vary based on their needs and can include some or all aspects of back-office accounting, actuarial services and policy administration.

Revenues for this segment were $348,573 for the second quarter of 2014 (an increase of 10.3% compared to the second quarter of 2013) and $626,009 for the six months ended June 30, 2014 (a decrease of 2.7% compared to the corresponding period in 2013). Pre-tax income from operations was $67,678 and $113,909 for the quarter and six months ended June 30, 2014, respectively, compared to pre-tax income of $55,259 and $128,818 for the quarter and six months ended June 30, 2013. The revenue and pre-tax income changes are primarily related to the amount and timing of service fees generated from our third party administration relationships compared to the prior period. While revenue and pre-tax income for the six months ended June 30, 2014 are slightly lower than in the corresponding period of the prior year, amounts for the quarter ended June 30, 2014 are increased over the prior year due to additional special services being performed for certain clients as well as the addition of a new client during the current period.

Corporate & Other



Corporate and other consists of corporate accounts measured primarily by stockholders' paid-in capital, contributed surplus, earned surplus, property and equipment, corporate-owned life insurance and other minor business lines which include group annuities and group and individual accident and health products. Revenues for this segment were $337,965 and $540,167 for the quarter and six months ended June 30, 2014, respectively, compared to $290,906 and $628,670 for the quarter and six months ended June 30, 2013, respectively. Pre-tax income from operations was $186,712 and $188,863 for the quarter and six months ended June 30, 2014, respectively, compared to pre-tax income from operations of $52,449 and $170,374 for the quarter and six months ended June 30, 2013. Results for the quarter and six months ended June 30, 2014 include $141,907 of net life insurance proceeds received under a company-owned life insurance policy upon the death of a former board member. Additionally, 2013 segment results were impacted by the changes associated with mark-to-market adjustments relative to our previously owned investment in derivative. This adjustment was completely reversed during the third quarter of 2013 in conjunction with the sale of the market-linked note.

35 --------------------------------------------------------------------------------



While we continue to expand the operations of Investors Heritage Financial, Investors Heritage Printing, At Need Funding and Heritage Funding, less than 1% of our consolidated revenues were generated by those subsidiaries. During the six months ended June 30, 2014, Investors Heritage Capital received dividends of $55,000 and $10,000 from Investors Heritage Financial and Investors Heritage Printing, respectively. Investors Heritage Capital received no distributions from At Need Funding. Additionally, Investors Heritage Capital received dividends of $275,000 from Investors Heritage Life. The potential exists for dividend payments and distributions over the remainder of 2014 as any needs arise.

Federal Income Taxes



The provision (benefit) for federal income taxes is based on the estimated effective annual tax rate. Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Income before federal income taxes differs from taxable income principally due to the dividends-received deduction; the 404(k) dividend deduction; the small life insurance company tax deduction; and non-taxable effects of company-owned life insurance premiums, cash value growth and death benefit proceeds. Our effective tax rate was 20.0% for the quarter and six months ended June 30, 2014 compared to 30.0% for the quarter and six months ended June 30, 2013.

OFF-BALANCE SHEET ARRANGEMENTS

We have no off-balance sheet arrangements as of June 30, 2014.

FORWARD LOOKING INFORMATION



We caution readers regarding certain forward-looking statements contained in this report and in any other statements made by us or on our behalf, whether or not in future filings with the Securities and Exchange Commission. Forward-looking statements are statements not based on historical information and which relate to future operations, strategies, financial results, or other developments. Statements using verbs such as "expect", "anticipate", "believe" or words of similar import generally involve forward-looking statements. Without limiting the foregoing, forward-looking statements include statements which represent our beliefs concerning future levels of sales and redemptions of Investors Heritage Life's products, investment spreads and yields, or our earnings and profitability.

Forward-looking statements are necessarily based on estimates and assumptions that are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control and many of which are subject to change. These uncertainties and contingencies could cause actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf. Whether or not actual results differ materially from forward-looking statements may depend on numerous foreseeable and unforeseeable factors and developments. Some of these may be national in scope, such as general economic conditions, changes in tax law and changes in interest rates. Some may be related to the insurance industry generally, such as pricing competition, regulatory developments, industry consolidation and the effects of competition in the insurance business from other insurance companies and other financial institutions operating in our market area and elsewhere. Others may relate to us specifically, such as credit, volatility and other risks associated with our investment portfolio. We caution that such factors are not exclusive. We disclaim any obligation to update forward-looking information.

36



--------------------------------------------------------------------------------


For more stories on investments and markets, please see HispanicBusiness' Finance Channel



Source: Edgar Glimpses


Story Tools






HispanicBusiness.com Facebook Linkedin Twitter RSS Feed Email Alerts & Newsletters