-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, FkCEfnr1cFkygi/VD+aU7yOLEDjTdXjSU7gxC77qRetfb4zF78wgEXqCttbyWZje OK/nXsx7T4AN1RKgky/Hvw== 0000035733-97-000008.txt : 19970520 0000035733-97-000008.hdr.sgml : 19970520 ACCESSION NUMBER: 0000035733-97-000008 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19970331 FILED AS OF DATE: 19970515 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: FINANCIAL INDUSTRIES CORP CENTRAL INDEX KEY: 0000035733 STANDARD INDUSTRIAL CLASSIFICATION: LIFE INSURANCE [6311] IRS NUMBER: 742126975 STATE OF INCORPORATION: TX FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-04690 FILM NUMBER: 97608339 BUSINESS ADDRESS: STREET 1: THE AUSTIN CENTER STREET 2: 701 BRAZOS 12TH FL CITY: AUSTIN STATE: TX ZIP: 78701 BUSINESS PHONE: 5124045050 MAIL ADDRESS: STREET 1: 701 BRAZOS 12TH FL CITY: AUSTIN STATE: TX ZIP: 78701 FORMER COMPANY: FORMER CONFORMED NAME: GOLDEN UNITED INVESTMENT CO STOCK PLAN DATE OF NAME CHANGE: 19731128 FORMER COMPANY: FORMER CONFORMED NAME: ILEX CORP DATE OF NAME CHANGE: 19730801 FORMER COMPANY: FORMER CONFORMED NAME: GOLDEN UNITED INVESTMENT CO DATE OF NAME CHANGE: 19730801 10-Q 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES ACT OF 1934 For the Quarterly Period Ended March 31, 1997 Commission File Number 0-4690 FINANCIAL INDUSTRIES CORPORATION (Exact Name of Registrant as specified in its charter) Texas 74-2126975 (State of Incorporation) (I.R.S. Employer Identification Number) The Austin Centre, 701 Brazos, 12th Floor Austin, Texas 78701 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (512) 404-5000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES X NO Number of common shares outstanding ($.20 par value) at end of period: 5,427,965 FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES INDEX Page No. Part I - Financial Information Consolidated Balance Sheets March 31, 1997 and December 31, 1996................... 3 Consolidated Statements of Income For the three month periods ended March 31, 1997 and 1996................................ 5 Consolidated Statements of Cash Flows For the three month periods ended March 31, 1997 and 1996................................ 6 Notes to Consolidated Financial Statements...................8 Management's Discussion and Analysis of Financial Conditions and Results of Operations..........9 Part II Other Information..........................................16 Signature Page.............................................17 Item 1.Financial Statements FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands of dollars) Mar. 31, Dec. 31, 1997 1996 (Unaudited) ASSETS Investments: Fixed maturities available for sale, at market value (amortized cost of $83,279 and $82,969) $ 82,498 $ 83,833 Equity securities, at market (cost approximately $11) 4 4 Policy loans 2,365 2,286 Short-term investments 25,319 25,615 Total investments 110,186 111,738 Cash 309 308 Investment in affiliate 50,933 52,925 Accrued investment income 1,059 1,233 Agent advances and other receivables 6,670 7,825 Reinsurance receivables 7,677 6,159 Due and deferred premiums 10,663 10,651 Property and equipment, net 9,381 8,799 Deferred policy acquisition costs 42,322 41,333 Present value of future profits of acquired business 39,053 40,604 Other assets 5,968 5,706 Separate account assets 449 449 Total assets $284,670 $287,730 (See Notes to Consolidated Financial Statements) FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands of dollars) Mar. 31, Dec. 31, 1997 1996 (Unaudited) LIABILITIES & SHAREHOLDERS' EQUITY Liabilities: Policy liabilities and contractholder deposit funds: Future policy benefits payable $58,805 $59,340 Contractholder deposit funds 43,444 41,434 Unearned premiums 104 129 Other policy claims & benefits payable 4,562 5,164 106,915 106,067 Subordinated notes payable to affiliate 58,403 59,940 Deferred federal income taxes 17,884 17,952 Other liabilities 10,783 11,248 Separate account liabilities 449 449 Total liabilities 194,434 195,656 Commitments and contingencies Shareholders' equity: Common stock, $.20 par value, 10,000,000 shares authorized; 5,845,300 shares issued, 5,427,965 shares outstanding in 1997 and 1996 1,169 1,169 Additional paid-in capital 7,225 7,225 Net unrealized (loss) gain on investments in fixed maturities available for sale (2,843) 1,220 Net unrealized gain on equity securities 22 25 Retained earnings 85,085 82,857 90,658 92,496 Common treasury stock, at cost, 417,335 shares in 1997 and 1996 (422) (422) Total shareholders' equity 90,236 92,074 Total liabilities and shareholders' equity $284,670 $287,730 (See Notes to Consolidated Financial Statements) FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME FOR THE THREE MONTH PERIOD ENDED March 31, 1997 AND 1996 (Unaudited) (in thousands of dollars, except per share data) 3 Months Ended Mar. 31, 1997 1996 Revenues: Net premiums $10,013 $10,432 Net investment income 2,220 1,816 Earned insurance charges 1,246 1,797 Other 597 968 Total revenues 14,076 15,013 Benefits and expenses: Benefits and other expenses 4,675 5,707 Interest on insurance policies 583 543 Amortization of present value of future profits of acquired business 1,552 1,381 Amortization of deferred policy acquisition costs 1,202 1,050 Operating expenses 2,809 3,572 Interest expense 883 884 Total benefits and expenses 11,704 13,137 Income before federal income taxes and equity in net earnings of affiliate 2,372 1,876 Provision for federal income taxes Current (148) (860) Deferred 734 1,267 586 407 Income before equity in net earnings of affiliate 1,786 1,469 Equity in net earnings of affiliate, net of tax 442 7,147 Net income $2,228 $8,616 Per Share Data: Common stock and common stock equivalents 5,581 5,555 Net income per share available to common shareholders $ .40 $1.55 (See Notes to Consolidated Financial Statements) FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE THREE MONTH PERIOD ENDED March 31, 1997 AND 1996 (Unaudited) (in thousands of dollars) 3 Months Ended Mar. 31, 1997 1996 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $2,228 $8,616 Adjustments to reconcile net income to net cash provided by operating activities: Amortization of present value of future profits 1,552 1,381 Amortization of deferred policy acquisition costs 1,202 1,050 Financing costs amortized -0- 84 Equity in undistributed earnings of affiliate (1,230) (8,484) Changes in assets and liabilities net of effects from purchase of insurance subsidiaries: Decrease in accrued investment income 174 297 (Increase) decrease in agent advances and other receivables (363) 978 Increase in due and deferred premiums (12) (102) Increase in deferred policy acquisition costs (2,191) (2,119) (Increase) decrease in other assets (263) 127 Increase in policy liabilities and accruals 848 176 (Decrease) Increase in other liabilities (465) 1,357 Increase in policy loans (79) (73) Increase (decrease) in deferred federal income taxes (68) 170 Other, net 220 (4) Net cash provided by operating activities $1,553 $3,454 (See Notes to Consolidated Financial Statements) FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE THREE MONTH PERIOD ENDED March 31, 1997 AND 1996 (Unaudited) (in thousands of dollars) 3 Months Ended Mar. 31, 1997 1996 CASH FLOWS FROM INVESTING ACTIVITIES: Investments purchased $(3,058) $(743) Proceeds from sale and maturities of investments 3,329 1,624 Net change in short-term investments 296 (2,401) Retirement of equipment (582) 6 Net cash (used in) provided by investing activities (15) (1,514) CASH FLOWS FROM FINANCING ACTIVITIES: Repayment of debt (1,537) (2,091) Net cash used in financing activities (1,537) (2,091) Net increase (decrease) in cash 1 (151) Cash, beginning of period 308 1,414 Cash, end of period $309 $1,263 (See Notes to Consolidated Financial Statements) FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) The financial statements included herein reflect all adjustments which are, in the opinion of management, necessary to present a fair statement of the interim results. The statements have been prepared to conform to the requirements of Form 10-Q and do not necessarily include all disclosures required by generally accepted accounting principles (GAAP). The reader should refer to Form 10-K for the year ended December 31, 1996 previously filed with the Commission for financial statements prepared in accordance with GAAP. Certain prior year amounts have been reclassified to conform with current year presentation. The consolidated financial statements include the accounts of Financial Industries Corporation ("FIC") and its wholly-owned subsidiaries. The investment of FIC in InterContinental Life Corporation ("ILCO") is presented using the equity method. All significant intercompany items and transactions have been eliminated. FIC's net income is affected by its equity interest in ILCO and ILCO's insurance subsidiaries. Net income for the first three months of 1996 includes $7.2 million resulting from the sale during the first quarter of 1996 of the Austin Centre, a hotel/office complex, located in Austin, Texas. The sale was completed by Investors Life Insurance Company of North America ("Investors-NA"), a wholly-owned subsidiary of ILCO. The selling price was $62.675 million, less $1 million paid to a capital reserve account for the purchaser. The property was purchased in 1991 for $31.275 million. The book value of the property, $36.8 million, net of improvements and amortization, was retained and reinvested by Investors-NA. The balance of the proceeds of the sale, net of federal income tax, was used to reduce the ILCO's senior loan obligations by $15 million. The sale closed on March 29, 1996. New Accounting Pronouncements In February 1997, the FASB issued FAS No. 128, "Earnings Per Share," which revises the standards for computing earnings per share previously found in APB Opinion No. 15, "Earnings Per Share." The Statement established two measures of earnings per share: Basic earnings per share and diluted earnings per share. Basic earnings per share is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were converted or exercised. The Statement requires dual presentation of basic and diluted earnings per share on the face of the income statement for all entities with potential dilutive securities outstanding. The Statement also requires a reconciliation of the numerator and denominator of the basic earnings per share computation to the numerator and denominator of the diluted earnings per share computation. The Statement is effective for interim and annual periods ending after December 15, 1997. Earlier application is not permitted. However, an entity may disclose pro forma earnings per share amounts that would have resulted if the entity had applied the Statement in an earlier period. The Company intends to adopt FAS 128 in its annual financial statements for the year ended December 31, 1997. The pro forma unaudited earnings per share amounts that would have resulted assuming the Company had computed its earnings per share in accordance with the provisions established by FAS 128 for the quarters ended March 31, 1997 and 1996 are as follows: Quarter Ended Quarter Ended March 31, 1997 March 31, 1996 Basic earnings per share $ 0.41 $ 1.59 Diluted earnings per share $ 0.40 $ 1.55 Item 2. Management's Discussion and Analysis of Financial Conditions and Results of Operation: For the three-month period ended March 31, 1997, FIC's net income was $2,228,000 (or $.40 per common share), as compared to $8,616,000 (or $1.55 per common share) in the first three months of 1996. The net income per share for the 1996 quarter has been restated to reflect the effect of the five-for-one stock split which was effective November 12, 1996. Net income from continuing operations (excluding the gain resulting from ILCO's sale of the Austin Centre, as described below) was $2,228,000 ($.40 per common share) for the three-month period ended March 31, 1997, as compared to $1,946,000 ($.35 per common share) for the first three months of 1996. FIC's net income is affected by its equity interest in InterContinental Life Corporation ("ILCO") and ILCO's insurance subsidiaries. Net income for the three-month period ended March 31, 1996 includes $6,670,000 ($1.20 per common share) resulting from ILCO's sale of the Austin Centre, a hotel/office complex, located in Austin, Texas. The sale was completed by Investors Life Insurance Company of North America ("Investors-NA"), a wholly-owned subsidiary of ILCO. The selling price was $62.675 million, less $1 million paid to a capital reserve account for the purchaser. The property was purchased in 1991 for $31.275 million. A portion of the sale proceeds, equal to the book value of the property, net of improvements and amortization ($36.8 million), was retained and reinvested by Investors-NA. The balance of the proceeds of the sale, net of federal income tax, was used to reduce ILCO's senior loan obligations by $15 million. The sale closed on March 29, 1996. The Company and its affiliates will continue to occupy space on three floors of the office tower as its headquarters, under a lease which runs through September 30, 1997. In September, 1997, the Company and its affiliates will move its headquarters to a building in an office complex known as Bridgepoint Square Offices, a 20-acre office building site which is being developed by Investors-NA. The statutory earnings of Family Life as required to be reported to insurance regulatory authorities before interest expense, capital gains and losses, and federal income taxes were $2,305,966 at March 31, 1997, as compared to $1,388,631 at March 31, 1996. These statutory earnings are the source to provide for the repayment of the indebtedness incurred in connection with the acquisition of Family Life. The increase in long-term interest rates during the first quarter of 1997, which was related to general economic conditions, had a negative effect upon the market value of the fixed maturities available for sale segment of the Company's portfolio. As of March 31, 1997, the market value of the fixed maturities available for sale segment was $82.5 million as compared to an amortized value of $83.3 million, or an unrealized loss of $.8 million. Such decrease reflects unrealized losses on such investments. The net of tax effect of this decrease has been recorded as a reduction in shareholders' equity. The operating strategy of the Company's management emphasizes several key objectives: expense management; marketing of competitively priced insurance products which are designed to generate an acceptable level of profitability; maintenance of a high quality portfolio of investment grade securities; and the provision of quality customer service. The consolidated balance sheets at March 31, 1997 include Separate Account assets of Family Life in the amount of $0.45 million. The Separate Account is maintained by Family Life, which was acquired by FIC on June 12, 1991. Under the provisions of the purchase agreement between FIC and Merrill Lynch Insurance Group, Inc., certain life insurance companies affiliated with Merrill Lynch agreed to assume (on an assumption reinsurance basis) the variable annuity contracts related to such Separate Account assets. The transfer of these assets, in accordance with the provisions of the reinsurance agreement, is subject to certain regulatory approvals. During the year 1996, Merrill Lynch received regulatory approvals in several additional jurisdictions. As a result, Separate Account assets in the amount of $8.1 million were transferred out of Family Life, in accordance with the provisions of the 1991 agreements. The Company has not obtained a definitive date from Merrill Lynch as to when the remaining regulatory approvals will be obtained, so as to enable Family Life to complete the transfer of Separate Account assets. Equity in Net Income of InterContinental Life Corporation General: Prior to the acquisition of Family Life in June of 1991, FIC's primary involvement in the life insurance business was through its equity interest in ILCO. For the three-month period ended March 31, 1997, the Company's equity in the net earnings of ILCO, net of federal income tax, was $442,000, as compared to $7,147,000 for the first three months of 1996. For the 1996 period, the equity in net earnings of affiliate includes $6,670,000 attributable to ILCO's net income resulting from the sale of the Austin Centre property. FIC currently owns 1,795,146 shares of ILCO's common stock, and holds options to acquire an additional 1,702,155 shares. The options were granted under an Option Agreement between FIC and ILCO which was entered into in March, 1986. In addition, Family Life currently owns 171,200 shares of ILCO common stock. As a result, FIC currently owns, directly and indirectly through Family Life, 1,966,346 shares (approximately 46%) of ILCO's common stock and holds options to acquire 1,702,155 shares. If all of FIC's rights under the Option Agreement were to be presently exercised, FIC's ownership would amount to approximately 61.5% of the issued and outstanding shares of ILCO's common stock. The increase in long-term interest rates during 1996, which was related to general economic conditions, had a negative effect upon the market value of the fixed maturities available for sale segment of ILCO's investment portfolio. As of March 31, 1997, the market value of the fixed maturities available for sale segment was $442.2 million as compared to an amortized cost of $450.5 million, or an unrealized loss of $8.3 million. Such decrease reflects unrealized losses on such investments. Since FIC owns approximately 46% of the common stock of ILCO, such unrealized losses, net of tax, are reflected in FIC's equity interest in ILCO, and had the effect of decreasing the reported value of such equity interest by approximately $3.2 million. Liquidity and Capital Resources of ILCO: ILCO is a holding company whose principal assets consist of the common stock of Investors-NA and its subsidiaries, InterContinental Life Insurance Company ("ILIC") and, since February, 1995, Investors-IN. ILCO's primary source of funds consists of payments under the surplus debentures from Investors- NA. The cash requirements of ILCO consist primarily of its service of the indebtedness created in connection with the 1988 acquisition of the Investors Life Companies and the 1995 acquisition of Investors- IN. As of December 31, 1995, the outstanding principal balance of ILCO's senior loan obligations was $59.4 million. In addition to making the scheduled principal payments under its senior loan, the Company made optional payments of $941,000 in March, 1996, $15.0 million in April, 1996 and $0.5 million in July, 1996. As of March 31, 1997, the principal balance of the senior loan was $20.4 million. ILCO's principal source of liquidity consists of the periodic payment of principal and interest to it by Investors-NA, pursuant to the terms of the two surplus debentures. The surplus debentures were originally issued by Standard Life Insurance Company and its terms were previously approved by the Mississippi Insurance Commissioner. Upon the merger of Standard Life into Investors-NA, the obligations of the surplus debentures were assumed by Investors-NA. As of March 31, 1997, the outstanding principal balance of the surplus debentures was $5.2 million and $28.8 million, respectively. Since Investors-NA is domiciled in the State of Washington, the Washington insurance law applies to the administration of the terms of the surplus debentures. Under the provisions of the surplus debentures and current law, no prior approval of the Washington Insurance Commissioner is required for Investors-NA to pay interest or principal on the surplus debentures; provided that, after giving effect to such payments, the statutory surplus of Investors-NA is in excess of $10 million (the "surplus floor"). However, Investors-NA has voluntarily agreed with the Washington Insurance Commissioner that it will provide at least five days advance notice of payments which it will make under the surplus debenture. As of March 31, 1997, the statutory capital and surplus of Investors-NA was $52.96 million, an amount substantially in excess of the surplus floor. The funds required by Investors-NA to meet its obligations to ILCO under the terms of the surplus debentures are generated from operating income generated from insurance and investment operations. In addition to the payments under the terms of the Surplus Debentures, ILCO has received dividends from Standard Life (now, from Investors-NA). Washington's insurance code includes the "greater of" standard for payment of dividends to shareholders, but has a requirement that prior notification of a proposed dividend be given to the Washington Insurance Commissioner and that cash dividends may be paid only from earned surplus. As of March 31, 1997, Investors-NA had earned surplus of $9.0 million. Since the law applies only to dividend payments, the ability of Investors-NA to make principal and interest payments under the Surplus Debentures is not affected. ILCO does not anticipate that Investors-NA will have any difficulty in making principal and interest payments on the Surplus Debentures in the amounts necessary to enable ILCO to service the Senior Loan for the foreseeable future. ILIC is domiciled in the State of New Jersey. Under the New Jersey insurance code, a domestic insurer may make dividend distributions upon proper notice to the Department of Insurance, as long as the distribution is reasonable in relation to adequate levels of policyholder surplus and quality of earnings. Any dividend must be paid from earned surplus. A proposed payment of a dividend or distribution which, together with dividends or distributions paid during the preceding twelve months, exceeds the greater of (i) 10% of statutory surplus as of the preceding December 31 or (ii) statutory net gain from operations for the preceding calendar year is treated as an "extraordinary dividend" and may not be paid until either it has been approved, or a waiting period shall have passed during which it has not been disapproved, by the insurance commissioner. ILIC had earned surplus of $4.7 million at March 31, 1997. Investors-IN is domiciled in the State of Indiana. Under the Indiana insurance code, a domestic insurer may make dividend distributions upon proper notice to the Department of Insurance, as long as the distribution is reasonable in relation to adequate levels of policyholder surplus and quality of earnings. Under Indiana law the dividend must be paid from earned surplus. Extraordinary dividend approval would be required where a dividend exceeds the greater of 10% of surplus or the net gain from operations for the prior fiscal year. Investors-IN had earned surplus of $12.0 million at March 31, 1997. The Form 10-Qs of ILCO for the three-month periods years ended March 31, 1997 and March 31, 1996, set forth the business operations and financial results of ILCO and its life insurance subsidiaries. Such 10-Q reports of ILCO, including the discussion by ILCO's management under the caption "Management's Discussion and Analysis of Financial Conditions and Results of Operations" are incorporated herein by reference. Results of Operations For the three-month period ended March 31, 1997, FIC's income from operations, before federal income tax and equity in net earnings of affiliate, was $2,372,000 (on revenues of $14,076,000), as compared to $1,876,000 (on revenues of $15,013,000) in the first quarter of 1996. Premiums for the first quarter of 1997, net of reinsurance ceded, were $10.0 million, as compared to $10.4 million in the first three months of 1996. Policyholder benefits and expenses were $4.7 million in the 1997 period, as compared to $5.7 million in the first quarter of 1996. Liquidity and Capital Resources FIC is a holding company whose principal assets consist of the common stock of Family Life and its equity ownership in ILCO. FIC's primary sources of capital consists of cash flow from operations of its subsidiaries and the proceeds from bank and institutional borrowings. The cash requirements of FIC and its subsidiaries consist primarily of its service of the indebtedness created in connection with its ownership of Family Life. As of March 31, 1997, the outstanding balance of such indebtedness was $58.4 million on the Subordinated Notes granted by Investors-NA. On April 17, 1996, the Senior Loan granted by a group of banks was completely paid off; the balance as of March 31, 1996 had been $4.67 million. The principal source of liquidity for FIC's subsidiaries consists of the periodic payment of principal and interest by Family Life pursuant to the terms of a Surplus Debenture. The terms of the Surplus Debenture were previously approved by the Washington Insurance Commissioner. Under the provisions of the Surplus Debenture and current law, no prior approval of the Washington Insurance Department is required for Family Life to pay interest or principal on the Surplus Debenture; provided that, after giving effect to such payments, the statutory surplus of Family Life is in excess of 6% of assets (the "surplus floor"). However, Family Life has voluntarily agreed with the Washington Insurance Commissioner that it will provide at least five days advance notice of payments which it will make under the surplus debenture. As of March 31, 1997, the statutory capital and surplus of Family Life was $24.7 million, an amount substantially in excess of the surplus floor. As of March 31, 1997, the principal balance of the Surplus Debenture was $37.9 million. The funds required by Family Life to meet its obligations under the terms of the Surplus Debenture are generated primarily from premium payments from policyholders, investment income and the proceeds from the sale and redemption of portfolio investments. Washington's insurance code includes the "greater of" standard for dividends but has requirements that prior notification of a proposed dividend be given to the Washington Insurance Commissioner and that cash dividends may be paid only from earned surplus. Family Life does not presently have earned surplus as defined by the regulations adopted by the Washington Insurance Commissioner and, therefore, is not permitted to pay cash dividends. However, since the new law applies only to dividend payments, the ability of Family Life to make principal and interest payments under the Surplus Debenture is not affected. The Company does not anticipate that Family Life will have any difficulty in making principal and interest payments on the Surplus Debenture in the amounts necessary to enable Family Life Corporation to service its indebtedness for the foreseeable future. The sources of funds for Family Life consist of premium payments from policy holders, investment income and the proceeds from the sale and redemption of portfolio investments. These funds are applied primarily to provide for the payment of claims under insurance and annuity policies, operating expenses, taxes, investments in portfolio securities, shareholder dividends and payments under the provisions of the Surplus Debenture. FIC's net cash flow provided by operating activities was $1.6 million in the first quarter of 1997, as compared to $3.5 million in the first quarter of 1996. Net cash flow used in financing activities was $1.5 million in the 1997 period, as compared to $2.1 million in the first quarter of 1996. In connection with the purchase of the Investors Life Companies by ILCO and the purchase of Family Life by a wholly- owned subsidiary of FIC, FIC guaranteed the payment of the indebtedness created in connection with such acquisitions. After giving effect to the refinancing of the ILCO Senior Loan and the repayment of the ILCO Subordinated Loans, the guaranty commitments of FIC with respect to the debt obligations of ILCO relate to the ILCO Senior Loan, with an outstanding balance at March 31, 1997 of $20.4 million. The guaranty commitments of FIC under the loans incurred in connection with the acquisition of Family Life (after taking into account the repayments and new loans which occurred in July, 1993) relate to: (i) the $22.5 million note issued by Family Life Corporation to Investors Life Insurance Company of North America, and (ii) the $34.5 million loaned by Investors-NA to two subsidiaries of FIC. Management believes that its cash, cash equivalents and short term investments are sufficient to meet the needs of its business and to satisfy debt service. There are no trends, commitments or capital asset requirements that are expected to have an adverse effect on the liquidity of FIC. Investments As of March 31, 1997, the Company's investment assets totaled $110.2 million, as compared to $111.7 million as of December 31, 1996. The level of short-term investments at March 31, 1997 was $25.3 million, as compared to $25.6 million as of December 31, 1996. The fixed maturities available for sale portion represents $82.5 million of investment assets as of March 31, 1997, as compared to $83.8 million at December 31, 1996. The amortized cost of fixed maturities available for sale as of March 31, 1997 was $83.3 million representing a net unrealized loss of $.8 million. This unrealized loss principally reflects changes in interest rates from the date the respective investments were purchased. To reduce the exposure to interest rate changes, portfolio investments are selected so that diversity, maturity and liquidity factors approximate the duration of associated policyholder liabilities. The assets held by Family Life must comply with applicable state insurance laws and regulations. In selecting investments for the portfolios of its life insurance subsidiaries, the Company's emphasis is to obtain targeted profit margins, while minimizing the exposure to changing interest rates. This objective is implemented by selecting primarily short- to medium-term, investment grade fixed income securities. In making such portfolio selections, the Company generally does not select new investments which are commonly referred to as "high yield" or "non-investment grade". The fixed maturities portfolio of Family Life, as of March 31, 1997, consisted solely of fixed maturities investments which, in the annual statements of the companies, as filed with state insurance departments, were designated under the National Association of Insurance Commissioners ("NAIC") rating system as a "1" (highest quality). Management believes that the absence of "high-yield" or "non- investment grade" investments (as defined above) in the portfolios of its life insurance subsidiary enhances the ability of the Company to service its debt, provide security to its policyholders and to credit relatively consistent rates of return to its policyholders. Family Life Insurance Company, an indirect, wholly-owned subsidiary of FIC, is the owner and developer of a 7.1 acre tract in Austin, Texas, adjacent to the 20-acre Bridgepoint Square Offices site being developed by a subsidiary of ILCO. The site was purchased by Family Life in May, 1996, for $1.3 million. In January, 1997, Family Life began construction on a four-story office building, with rentable space of approximately 71,500 square feet, and a parking garage with 350 parking spaces. The projected completion date is September, 1997. Upon completion of the project, the investment of Family Life will be approximately $9.6 million, including the cost of the land. The building is fully leased to a third party. Accounting Developments In February 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (FAS) No. 128, "Earnings Per Share," which revises the standards for computing earnings per share previously found in APB Opinion No. 15, "Earnings Per Share." The Statement established two measures of earnings per share: Basic earnings per share and diluted earnings per share. Basic earnings per share is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were converted or exercised. The Statement requires dual presentation of basic and diluted earnings per share on the face of the income statement for all entities with potential dilutive securities outstanding. The statement also requires a reconciliation of the numerator and denominator of the basic earnings per share computation to the numerator and denominator of the diluted earnings per share computation. The statement is effective for interim and annual periods ending after December 15, 1997. Earlier application is not permitted. However, a company may disclose pro forma earnings per share amounts that would have resulted if it had applied the statement in an earlier period. The Company intends to adopt FAS 128 in its annual financial statements for the year ended December 31, 1997. The pro forma unaudited earnings per share amounts that would have resulted assuming the Company had computed its earnings per share in accordance with the provisions established by FAS 128 for the quarters ended March 31, 1997 and 1996 are as follows: Quarter Ended Quarter Ended March 31, 1997 March 31, 1996 Basic earnings per share $ 0.41 $ 1.59 Diluted earnings per share $ 0.40 $ 1.55 FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES Part II. Other Information Item 1. Legal Proceedings The Company and its subsidiaries are defendants in certain legal actions related to the normal business operations of the Company. Management believes that the resolution of such legal actions will not have a material impact upon the financial statements. Item 2. Changes in Securities None Item 3. Defaults Upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None Item 6. Exhibits and Reports on Form 8-K (a) Exhibits Form 10-K Annual Report of Registrant for the year ended December 31, 1996 heretofore filed by Registrant with the Securities and Exchange Commission, which is hereby incorporated by reference. (b) Reports on Form 8-K: None FINANCIAL INDUSTRIES CORPORATION AND SUBSIDIARIES SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. FINANCIAL INDUSTRIES CORPORATION /s/ James M. Grace James M. Grace Treasurer Date: May 15, 1997 -----END PRIVACY-ENHANCED MESSAGE-----