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TEXAS REPUBLIC CAPITAL CORP – 10-Q – : Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
Texas Republic Capital Corporation ("we" "us", "our", "TRCC" or the "Company") was incorporated inMay 2012 as a financial services holding company. We own and operate insurance subsidiaries: a life insurance company, a life insurance agency, and a property & casualty insurance agency. We sell and issue life insurance products and annuity contracts as part of the insurance company. As an insurance provider, we collect premiums and annuity considerations in the current period to pay future benefits to our policy and contract holders. Currently, we only issue our products in the state ofTexas . As a life insurance agency and a property & casualty insurance agency, we sell and place insurance products for other insurance carriers. If our life insurance company does not offer products that suit our client's needs, then we can meet their needs through other carrier products sold by our life agency. In addition, we have ability to cross-sell all current and prospective client's property and casualty insurance through the other agency, or the possibility of driving growth for the Company in other markets where participants are not seeking life insurance. The agencies collect commissions on the sale of those products. We also realize revenues from our investment portfolio, which is a key component of our operations. The revenues and funds we collect as premiums and annuity considerations from policyholders are invested to ensure future benefit payments under the policy contracts. Life insurance companies earn profits on the investment spread, which reflects the investment income earned on the premiums and annuity considerations paid to the insurer between the time of receipt and the time benefits are paid out under our policies and contracts. Changes in interest rates, changes in economic conditions and volatility in the capital markets can all impact the amount of earnings that we realize from our investment portfolio. The Company continues to incur overall losses since inception. These losses were fully expected, planned for, and fell within an expected range when considering the necessary start-up, infrastructure, distribution, and policy issuance costs of a new life insurance company. These losses have resulted from the costs incurred while raising capital and starting a new company, which involves investing in people, technology, infrastructure, marketing, brand awareness, distribution channels, regulatory and filing fees, legal costs, and other overhead expenses related to our operations. We expect to continue to incur operating losses until we achieve a volume of in-force life insurance policies that provides premiums and the associated investment income which are sufficient to cover our operating costs. In addition, the Company is aware that the evolving COVID-19 pandemic may impact the Company's results of operations, although the magnitude in not known at this time. The Company has not yet experienced any uptick in claim experience or significant adverse conditions to operations due to COVID-19.
Critical Accounting Policies and Significant Judgments and Estimates
Our management's discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements that have been prepared in accordance with accounting principles generally accepted inthe United States ("U.S. GAAP"). The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. On a continuing basis, we evaluate our estimates and assumptions. We base our estimates on historical experience and on various other factors that we believe are reasonable under the circumstances. The results of these estimates form the basis for making judgments about the carrying value 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. Investments
Fixed maturity securities are comprised of bonds that are classified as
available-for-sale and are carried at fair value with unrealized gains and
losses, net of applicable income taxes, reported in accumulated other
comprehensive income (loss). The amortized cost of fixed maturity securities
available-for-sale is generally adjusted for amortization of premium and
accretion of discount.
Interest income, as well as the related amortization of premium and accretion of
discount, is included in net investment income under the effective yield method.
The amortized cost of fixed maturity securities available-for-sale is written
down to fair value when a decline in value is considered to be
other-than-temporary.
The Company evaluates the difference between the cost or amortized cost and
estimated fair value of its investments to determine whether any decline in
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 recorded as an unrealized loss in shareholders'
equity.
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If a decline in a security's fair value is considered to be other-than-temporary, the Company then determines the proper treatment for the other-than-temporary impairment. For fixed maturity securities available-for-sale, 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. 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 the Company's intent to sell temporarily impaired securities prior to maturity or recovery in value, or if it becomes more likely than not that the Company 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, the Company amortizes the reduced book value back to the security's expected recovery value over the remaining term of the bond. The Company continues to review the security for further impairment that would prompt another write-down in the value. Purchases and sales of securities are recorded on a trade-date basis. Interest earned on investments is recorded on the accrual basis and is included in net investment income. The Company's mortgage loan portfolio is comprised entirely of residential properties with loan to appraised value ratios below 90%. Mortgage loans are carried at amortized book value. A mortgage loan allowance has been established for any unforeseen losses using an industry approach. While we utilize our best judgment and information available, the ultimate adequacy of this allowance is dependent upon a variety of factors beyond our control, including the performance of the residential mortgage loan portfolio, the economy and changes in interest rates. Our allowance for possible mortgage loan losses consists of specific valuation allowances established for probable losses on specific loans and a portfolio reserve for probable incurred losses but not for specifically identified loans. The fair values for mortgage loans are estimated using discounted cash flow analysis. The discount rate used to calculate fair values was indexed to the LIBOR yield curve adjusted for an appropriate credit spread. We consider mortgage loans on real estate impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the mortgage loan agreement. Impairment is measured on a loan-by-loan basis. Factors that we consider in determining impairment include payment status, collateral value of the real estate subject to the mortgage loan and the probability of collecting scheduled principal and interest payments when due. Mortgage loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. The Company's other long-term investments are comprised of lottery prize cash flows holdings held at amortized cost. These investments are categorized as other long-term investments in the statement of financial position and are assignments of the future rights from lottery winners purchased at a discounted price. Payments on these investments are made by state run lotteries. Cash and Cash Equivalents
Cash and cash equivalents include cash on hand and money market instruments.
Deferred Policy Acquisition Costs
Costs that relate to and vary with the successful production of new business are deferred over life of the policy. Deferred acquisition costs (DAC) consist of commissions and policy issuance, underwriting and agency expenses. DAC expenses are amortized primarily over the premium-paying period of life policies and as profits emerge on the annuity products, using the same assumptions as were used in computing liabilities for future policy benefits.
Deferred Sales Inducement Costs
Sales inducement costs (SIC) are related to policy bonuses issued on some of the
Company's annuity products. SIC is deferred at the issuance of the policy and
amortized over the bonus period on a straight-line basis. The amount deferred is
based on the difference between the fund value with the bonus and the fund value
without the bonus.
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Policyholders' Account Balances
The Company's liability for policyholders' account balances represents the contract value that has accrued to the benefit of the policyholder as of the financial statement date. This liability is generally equal to the accumulated account deposits plus applicable bonus and interest credited less policyholders' withdrawals and other charges assessed against the account balance. Interest crediting rates for individual annuities range from 1.55% to 5.125%. Future Policy Benefits Future policy benefit reserves have been computed by the net level premium method with assumptions as to investment yields, mortality and withdrawals based upon the Company's experience. The preparation of financial statements requires management to make estimates and assumptions that affect the reported amount of policy liabilities and the increase in future policy benefit reserves. Management's judgments and estimates for future policy benefit reserves provide for possible unfavorable deviation. Actual experience may emerge differently from that originally estimated. Any such difference would be recognized in the current year's consolidated statement of operations.
Recently Adopted and Issued Accounting Pronouncements
Please refer to the applicable paragraphs in Note 1 of the Notes to Consolidated
Financial Statements.
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 financial statements in the period in which such revisions are made.
Results of Operations - Three and Nine Months Ended
Revenues
Revenues are primarily from life insurance premium income, investment income,
and commission income. Realized gains and losses on investment holdings can
significantly impact revenues from period to period.
Three Months Ended September 30, Nine Months Ended September 30,
2022 2021 2022 2021
Revenues
Premiums and other considerations
Net investment income
420,901 256,010 1,229,212 848,754 Net realized gains on investments - 13,104 17,635 19,783 Commission income 427,048 124,799 494,017 190,006 Total revenues$ 1,299,315 $ 523,470 $ 3,129,759 $ 1,518,821 Total revenues increased by$775,845 and$1,610,938 for the three and nine months endedSeptember 30, 2022 compared to the three and nine months endedSeptember 30, 2021 . These increases were primarily a result of increased new policy sales and additional investment income earned through further investments in fixed maturity securities, mortgage loans, and other long-term investments. Also, there was a significant increase in commission income compared to the prior year. The Company also accepted annuity considerations during 2022 and 2021. Annuity considerations contribute to additional net investment income through increased investments but are not classified as premiums and other considerations under total revenues for GAAP reporting. 24
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Table of Contents Expenses
Our expenses relate to operating a financial services holding company, a life
insurance company, and two insurance agencies.
Expenses were
2021
Total Benefits and Claims - Increases to policyholder liabilities increased benefits and claims expense by$57,007 for the nine months endedSeptember 30, 2022 compared to the same period in the prior year. Expenses were$435,250 and$1,463,818 for the three and nine months endedSeptember 30, 2022 and$498,023 and$1,210,239 for the three and nine months endedSeptember 30, 2021 , respectively. The increase for the full nine months compared to the same period in the prior was primarily due to increases in future policy benefits and benefit payments. Those two increases are to be expected based on new sales production, increased insurance volume, number of insureds covered, and the passage of time since policy issuance. This coincides with the decrease in interest credited to policyholders as the Company looks to sell more life products and less annuity policies. Also, benefit payments can significantly impact expenses from period to period. There was an increase in benefit payments of$204,417 for the nine months endedSeptember 30, 2022 compared to the same period in the prior year. Total benefits and claims expenses decreased for the three months endedSeptember 30, 2022 compared to the same period in the prior year due to the timing of new business issued, death and other benefits, and other activity. Commissions - Commission expenses were$411,321 and$1,185,922 for the three and nine months endedSeptember 30, 2022 compared to$167,494 and$490,823 for the three and nine months endedSeptember 30, 2021 , respectively. These increases are consistent with the amounts of new business issued and renewal commissions paid on previously issued business, net of any applicable commission recaptured. The commission in the first year of policy issuance is typically significantly greater than the subsequent years. Salaries and Employee Benefits - Salary and employee benefits expense increased$154,261 and$270,442 for the three and nine months endedSeptember 30, 2022 compared to the same periods in the prior year. These increases are primarily related to the increased costs associated with new employee hires, wage increases, and increasing benefits costs consistent with the price increases seen due to inflation pressures over the last year. The Company hired five new employees in 2022. Alternatively, the Company continues to use more external consultants as opposed to hiring new employees for certain tasks and roles. This decision allows us to save on benefit costs, payroll taxes, other employee overhead expenses, and allows us to pay for their time as needed. This decision has helped to reduce the overall increases in salaries and employee benefits. Other Expenses - Third-party administration fees and professional fees continue to be two of the larger contributing expenses to the overall total expenses. The Company anticipates that these fees along with other general and administrative expenses will continue to increase over time due to new sales production, increased growth in the overall book of business, and the continued growth of the Company. The professional fees will continue to increase due to additional public accounting firm fees, consulting actuarial fees, and the external consultants mentioned above in the salaries and employee benefits section. Net Loss The net loss was$935,220 , or$(0.06) per share, for the nine months endedSeptember 30, 2022 compared to a net loss of$1,887,752 or$(0.13) per share, for the nine months endedSeptember 30, 2021 . For the three months endingSeptember 30 , the net income was$76,843 or$0.01 per share in 2022 compared to a net loss of$754,639 or$(0.05) per share in 2021. The improvement of the net loss for the three- and nine- months endingSeptember 30, 2022 , was primarily attributable to the increases in revenues and expenses described above. The weighted average common shares outstanding and subscribed were 14,962,247 and 14,780,035 for the nine months endedSeptember 30, 2022 and 2021, respectively. The weighted average common shares outstanding and subscribed were 15,242,473 and 14,782,027 for the three months endedSeptember 30, 2022 and 2021, respectively.
Financial Position - As of
Total assets of the Company increased from$37,381,933 as ofDecember 31, 2021 to$40,405,643 as ofSeptember 30, 2022 , an increase of$3,023,710 . Assets that increased or decreased materially in 2022 were fixed maturity securities, mortgage loans, other long-term investments, and deferred policy acquisition costs. The Company received funds from raising addition capital, funds from investment income, and premium receipts and commission income from policies that it continues to use a majority of those funds to invest in new mortgage loans and other investments to increase the overall investment yield of the portfolio and to increase net investment income. In addition, deferred policy acquisition costs increased as the Company continues to successfully sell more new business. Overall assets increased even though that increase was offset due to the change in net unrealized losses in the fixed maturity securities as interest rates have increased in the market as a result of inflation and other economic factors. 25
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Total investments increased by$2,414,101 , or 9.6%. This increase was due to the Company's continued efforts to maximize investment income by finding and making suitable investments. This increase was offset by the reduction in fixed maturity securities based on interest rate movements that was previously mentioned. The Company continues to reinvest and deploy more of our cash into higher yielding invested assets as we try to maximize our net investment income to boost total revenues. All non-operating cash is held in interest bearing cash equivalent accounts. The Company sold fixed maturity securities at net realized gains and received proceeds from prepayments, maturities, and sinking fund payments from fixed maturity securities and other long-term investments to allocate more funds into mortgage loan investments and other long-term investments at higher investment yields. Mortgage loans and other long-term investments increased by$2,817,105 and$654,071 from the prior year endedDecember 31, 2021 , respectively. This reallocation of the investment portfolio should provide meaningful increases to net investment income over the upcoming years. Similarly, new cash receipts from annuity considerations and premiums plan to be allocated in a similar manner to maximize total revenues. We continue to invest our excess cash in higher yielding investments as suitable options become available.
Policyholder liabilities include benefit reserves for both life and annuity
policies, claim reserves, deposit funds and advance premiums. Policyholder
liabilities increased by
2021
insurance volume, number of insureds covered, and the passage of time since
policy issuance.
Total shareholders' equity of the Company increased from$6,611,969 as ofDecember 31, 2021 to$8,590,078 as ofSeptember 30, 2022 , an increase of$1,978,109 . The increase is mainly due to the recently completed rights offering and the additional capital raised. That increase was primarily offset by a negative change of$1,421,858 in unrealized losses in the investment portfolio atSeptember 30, 2022 compared toDecember 31, 2021 because of interest rate increases in the market and the net loss for the nine months endedSeptember 30, 2022 . The Company issued$12,150 of its treasury shares in 2022 which increased total shareholders' equity and helped contribute to the overall increase mentioned above.
Liquidity and Capital Resources
Since inception, our operations have been financed primarily through an organizational offering, three private placement offerings, an intrastate public stock offering, and a rights offering to existing shareholders only. ThroughSeptember 30, 2022 , we received$24,747,637 from the sale of 15,546,619 shares and incurred offering costs of$2,737,311 . Since inception throughDecember 31, 2018 , the Company purchased 3,000 shares of the Company's common stock for$15,000 held as treasury stock. Additionally, TRLIC has purchased another 111,000 shares of TRCC common stock at a cost of$118,210 since 2018. The shares were purchased to compensate agents under TRLIC's Agent Stock Incentive Plan ("ASIP"). The Company has issued 16,080 treasury shares under the ASIP since inception of the plan and another 44,000 treasury shares as part of employment agreements and/or bonuses to employees. The remaining 50,920 shares held by TRLIC and the 3,000 shares held by TRCC total 53,920 shares. These shares are held as treasury shares in the consolidated financial statements. We had cash and cash equivalents totaling$7,889,620 as ofSeptember 30, 2022 . The Company maintains cash and cash equivalents at multiple institutions. TheFederal Deposit Insurance Corporation insures interest and non-interest-bearing accounts up to$250,000 . Uninsured balances aggregate$2,926,946 as ofSeptember 30, 2022 . Other funds are invested in mutual funds that invest inU.S. government securities. We monitor the solvency of all financial institutions in which we have funds to minimize the exposure for loss. The Company has not experienced any losses in such accounts. Capital provided from the previous offerings and current offering will provide a considerable amount of operating funds for current and future operations of TRCC. The operations of TRLIC should provide ample cash flows from premium income and investment income to meet operating requirements once a sufficient book of business has been established, or new policy sales are turned off, whichever happens first. Life insurance contract liabilities are generally long term in nature and are generally paid from future cash flows. The operations of TRLS and AIS should provide sufficient cash flows from commission income to meet their operating requirements. TRLS and AIS are also less capital intensive than TRLIC since it does not retain any of the policy risks or capital requirements. We believe that our existing cash and cash equivalents will be sufficient to fund our anticipated operating expenses and capital expenditures for at least the next 12 months. We have based this estimate upon assumptions that may prove to be wrong, and we could use our capital resources sooner than we currently expect. We are not aware of any commitments or unusual events that could materially affect our capital resources. We are not aware of any current recommendations by any regulatory authority which, if implemented, would have a material adverse effect on our liquidity, capital resources or operations.
Off-Balance Sheet Arrangements
The Company does not have any off-balance sheet arrangements.
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SPECIAL NOTE CONCERNING FORWARD-LOOKING STATEMENTS
Certain statements contained herein are forward-looking statements. The forward-looking statements are made pursuant to the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995, and include estimates and assumptions related to economic, competitive and legislative developments. Forward-looking statements may be identified by words such as "expects," "intends," "anticipates," "plans," "believes," "estimates," "will" or words of similar meaning; and include, but are not limited to, statements regarding the outlook of our business and financial performance. These forward-looking statements are subject to change and uncertainty, which are, in many instances, beyond our control and have been made based upon our expectations and beliefs concerning future developments and their potential effect upon us. There can be no assurance that future developments will be in accordance with our expectations, or that the effect of future developments on us will be as anticipated. These forward-looking statements are not a guarantee of future performance and involve risks and uncertainties. There are certain important factors that could cause actual results to differ, possibly materially, from expectations or estimates reflected in such forward-looking statements.
These factors include among others:
• general economic
conditions and
financial factors,
including the
performance and
fluctuations of
fixed income,
equity, real
estate, credit
capital and other
financial markets;
• differences
between actual
experience
regarding
mortality,
morbidity,
persistency,
surrenders,
investment
returns, and our
pricing
assumptions
establishing
liabilities and
reserves or for
other purposes;
• the effect of
increased claims
activity from
natural or
man-made
catastrophes,
pandemic disease,
or other events
resulting in
catastrophic loss
of life;
• inherent
uncertainties in
the determination
of investment
allowances and
impairments and in
the determination
of the valuation
allowance on the
deferred income
tax asset;
• investment losses
and defaults;
• competition in our
product lines;
• attraction and
retention of
qualified
employees and
agents;
• ineffectiveness of
risk management
policies and
procedures in
identifying,
monitoring and
managing risks;
• the availability,
affordability and
adequacy of
reinsurance
protection;
• the effects of
emerging claim and
coverage issues;
• the cyclical
nature of the
insurance
business;
• interest rate
fluctuations;
• changes in our
experiences
related to
deferred policy
acquisition costs;
• the ability and
willingness of
counterparties to
our reinsurance
arrangements and
derivative
instruments to pay
balances due to
us;
• rating
agencies' actions;
• domestic or
international
military actions;
• the effects of
extensive
government
regulation of the
insurance
industry;
• changes in tax and
securities law;
• changes in
statutory or U.S.
generally accepted
accounting
principles
("GAAP"),
practices or
policies;
• regulatory or
legislative
changes or
developments;
• the effects of
unanticipated
events on our
disaster recovery
and business
continuity
planning;
• failures or
limitations of our
computer, data
security and
administration
systems;
• risks of employee
error or
misconduct;
• the introduction
of alternative
healthcare
solutions;
• the assimilation
of life insurance
businesses we
acquire and the
sound management
of these
businesses;
• the availability
of capital to
expand our
business; and
• Coronavirus
Disease impact on
the economic
environment.
It is not our corporate policy to make specific projections relating to future
earnings, and we do not endorse any projections regarding future performance
made by others. In addition, we do not publicly update or revise forward-looking
statements based on the outcome of various foreseeable or unforeseeable
developments.
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