UTG INC - Quarter Report: 2018 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

OR

☐	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____________ to ____________

Commission File No. 0-16867

Registrant's telephone number, including area code: (217) 241-6300

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 ☒  No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulations S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or emerging growth company.  See the definitions of "large accelerated filer," accelerated filer," "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act.

 

The number of shares outstanding of the registrant's common stock as of October 31, 2018 was 3,294,527.

UTG, Inc.

(The "Company")

TABLE OF CONTENTS

Part 1.   Financial Information.

Item 1.  Financial Statements.

UTG, Inc.

Condensed Consolidated Balance Sheets (Unaudited)

* Balance sheet audited at December 31, 2017.

See accompanying notes.

 

UTG, Inc.

Condensed Consolidated Statements of Operations (Unaudited)

See accompanying notes.

 

UTG, Inc.

Condensed Consolidated Statements of Comprehensive Income (Loss) (Unaudited)

See accompanying notes.

UTG, Inc.

Condensed Consolidated Statements of Cash Flows (Unaudited)

See accompanying notes.

UTG, Inc.

Notes to Condensed Consolidated Financial Statements

Note 1 – Basis of Presentation

The accompanying Condensed Consolidated Balance Sheet as of December 31, 2017, which has been derived from audited consolidated financial statements, and the unaudited interim Condensed Consolidated Financial Statements include the accounts of UTG, Inc. (the "Parent") and its subsidiaries (collectively with the Parent, the "Company").  All significant intercompany accounts and transactions have been eliminated in consolidation.  The accompanying Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") for interim financial information and with the instructions to Form 10-Q and Article 8 of regulation S-X.  Accordingly, they do not include all of the information and notes required by GAAP for audited annual financial statements.  The information furnished includes all adjustments and accruals of a normal recurring nature, which in the opinion of Management, are necessary for a fair presentation of the results for the interim periods.  The unaudited Condensed Consolidated Financial Statements included herein and these related notes should be read in conjunction with the Company's consolidated financial statements, and the notes thereto, included in the Company's Annual Report on Form 10-K for the year ended December 31, 2017.  The Company's results of operations for the three and nine months ended September 30, 2018 are not necessarily indicative of the results that may be expected for the year ending December 31, 2018 or for any other future period.

This document at times will refer to the Registrant's largest shareholder, Mr. Jesse T. Correll and certain companies controlled by Mr. Correll.  Mr. Correll holds a majority ownership of First Southern Funding, LLC ("FSF"), a Kentucky corporation, and First Southern Bancorp, Inc. ("FSBI"), a financial services holding company.  FSBI operates through its 100% owned subsidiary bank, First Southern National Bank ("FSNB").  Banking activities are conducted through multiple locations within south-central and western Kentucky.  Mr. Correll is Chief Executive Officer and Chairman of the Board of Directors of UTG and is currently UTG's largest shareholder through his ownership control of FSF, FSBI and affiliates.  At September 30, 2018, Mr. Correll owns or controls directly and indirectly approximately  65.16% of UTG's outstanding stock.

UTG's life insurance subsidiary, Universal Guaranty Life Insurance Company ("UG"), has several wholly-owned and majority-owned subsidiaries.  The subsidiaries were formed to hold certain real estate investments.  The real estate investments were placed into the limited liability companies and partnerships to provide additional protection to the policyholders and to UG.

Note 2 – Recently Issued Accounting Standards

In August 2018, the FASB issued Accounting Standards Update No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement or ASU 2018-13. ASU 2018-13 modifies certain disclosure requirements related to fair value measurements including requiring disclosures on changes in unrealized gains and losses in other comprehensive income for recurring Level 3 fair value measurements and a requirement to disclose the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. The ASU is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted. The Company is currently evaluating the impact that the adoption of this guidance will have on its consolidated financial statements.

In August 2018, the FASB issued Accounting Standards Update No. 2018-12, Financial Services-Insurance (Topic 944): Targeted Improvements to the Accounting for Long-Duration Contracts or ASU 2018-12.  ASU 2018-12 significantly changes how insurers account for long-duration insurance contracts. The new guidance will require insurers to review and update, if necessary, the assumptions used to measure insurance liabilities periodically, rather than retain assumptions used at contract inception. The updated guidance also changes the recognition and measurement of deferred acquisition costs (DAC) and created a new category of benefit features called market risk benefits (MRB) that will be measured at fair value. The guidance also significantly expands the disclosure requirements for long-duration contracts.  The ASU is effective for fiscal years, an interim periods within those years, for years beginning after December 15, 2020 and early adoption is permitted.  The guidance on measuring the liabilities for future policy benefits and DAC will be adopted on a modified retrospective basis as of the earliest period presented in the year of adoption. The guidance on MRB will be adopted on a retrospective basis as of the earliest period presented in the year of adoption. The Company is currently evaluating the impact that the adoption of this guidance will have on its consolidated financial statements.

In June 2018, the FASB issued Accounting Standards Update No. 2018-07, Compensation-Stock Compensation (Topic 718): Improvements to Non-Employee Share Based Payment Accounting or ASU 2018-07. The amendment in ASU 2018-07 simplifies the accounting for nonemployee share based payments by aligning the measurement and classification guidance for share based payments to nonemployees with share based payments to employees. Under this guidance, the measurement of equity classified awards will fixed at the grant date. This guidance is effective in annual periods beginning after December 15, 2018. The Company has evaluated the impact of the ASU, and determined that it does not significantly impact the Company's financial statements.

In June 2016, the FASB issued Accounting Standards Update No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, or ASU 2016-13. The amendments included in ASU 2016-13 require the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better evaluate their credit loss estimates. Many of the loss estimation techniques applied today will still be permitted, although the inputs to those techniques will change to reflect the full amount of expected credit losses. In addition, the ASU amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. ASU 2016-13 is effective for public companies for fiscal years beginning after December 15, 2019. The Company is currently evaluating the impact that the adoption of this guidance will have on its consolidated financial statements.

In January 2016, the FASB issued Accounting Standards Update No. 2016-01, Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, or ASU 2016-01. The amendments in ASU 2016-01 change the accounting for non-consolidated equity investments that are not accounted for under the equity method of accounting by requiring changes in fair value to be recognized in income. Additionally, ASU 2016-01 simplifies the impairment assessment of equity investments without readily determinable fair values; requires entities to use the exit price when estimating the fair value of financial instruments; and modifies various presentation disclosure requirements for financial instruments. The Company adopted ASU 2016-01 on January 1, 2018 as a cumulative net effect adjustment and reclassified $18,277,328 of unrealized gains on equity investments, net of tax, from accumulated other comprehensive income (loss) to retained earnings on the Company's Condensed Consolidated Balance Sheet. Prior periods have not been restated to conform to current presentation. Effective January 1, 2018, the Company's results of operations include the changes in fair value of these financial instruments. During 2018, the FASB implemented ASU 2018-03, which clarifies ASU 2016-01 regarding the measurement alternative for equity securities without a readily determinable fair value as well as clarification for other presentation items. These amendments are effective for interim periods beginning after June 15, 2018.

In 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606), and related amendments, which created a new comprehensive revenue recognition standard, ASC 606, that serves as a single source of revenue guidance for all contracts with customers to transfer goods or services or contracts for the transfer of non-financial assets, unless those contracts are within the scope of other standards, such as insurance contracts. ASC 606 is not applicable to the Company's insurance premium revenues or revenues from its investment portfolio. The Company has evaluated the impact of the ASU, and has determined that it does not significantly impact the Company's financial statements.

Note 3 – Investments

Available for Sale Securities – Fixed Maturity and Equity Securities

The Company's insurance subsidiary is regulated by insurance statutes and regulations as to the type of investments they are permitted to make, and the amount of funds that may be used for any one type of investment.

Investments in available for sale securities are summarized as follows:

The amortized cost and estimated market value of debt securities at September 30, 2018, by contractual maturity, is shown below.  Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.

The fair value of investments with sustained gross unrealized losses at September 30, 2018 and December 31, 2017 are as follows:

Additional information regarding investments in an unrealized loss position is as follows:

(1)	Effective January 1, 2018, the Company adopted ASU No. 2016-01 and equity securities are no longer classified as available-for-sale. Prior periods have not been restated to conform to the current presentation. See Note 2 to the Condensed Consolidated Financial Statements for additional information.

Substantially all of the unrealized losses on fixed maturities available-for-sale and equity securities at  September 30, 2018 and December 31, 2017 are attributable to changes in market interest rates and general disruptions in the credit market subsequent to purchase.  The Company does not currently intend to sell nor does it expect to be required to sell any of the securities in an unrealized loss position.  Based upon the Company's expected continuation of receipt of contractually required principal and interest payments and its intent and ability to retain the securities until price recovery, as well as the Company's evaluation of other relevant factors, the Company deems these securities to be temporarily impaired as of  September 30, 2018 and December 31, 2017.

 

Net Investment Gains (Losses)

The following table presents net investment gains (losses) and the change in net unrealized gains on available-for-sale investments. 

(1)

Effective January 1, 2018, the Company adopted ASU No. 2016-01. As a result, equity securities are no longer classified as available-for-sale with unrealized gains and losses recognized in other comprehensive income; rather, all changes in the fair value of equity securities are now recognized in net income. Prior periods have not been restated to conform to the current presentation. See note 2.

Other-Than-Temporary Impairments

The Company regularly reviews its investment securities for factors that may indicate that a decline in fair value of an investment is other than temporary.  The factors considered by Management in its regular review to identify and recognize other-than-temporary impairment losses on fixed maturities include, but are not limited to: the length of time and extent to which the fair value has been less than cost; the Company's intent to sell, or be required to sell, the debt security before the anticipated recovery of its remaining amortized cost basis; the financial condition and near-term prospects of the issuer; adverse changes in ratings announced by one or more rating agencies; subordinated credit support, whether the issuer of a debt security has remained current on principal and interest payments; current expected cash flows; whether the decline in fair value appears to be issuer specific or, alternatively, a reflection of general market or industry conditions, including the effect of changes in market interest rates.  If the Company intends to sell a debt security, or it is more likely than not that it would be required to sell a debt security before the recovery of its amortized cost basis, the entire difference between the security's amortized cost basis and its fair value at the balance sheet date would be recognized by a charge to other-than-temporary losses in the Condensed Consolidated Statements of Operations.

Management regularly reviews its real estate portfolio in comparison to appraisal valuations and current market conditions for indications of other-than-temporary impairments. If a decline in value is judged by Management to be other-than-temporary, a loss is recognized by a charge to other-than-temporary impairment losses in the Consolidated Statements of Operations.

Based upon Management's review of the investment portfolio, the Company recorded an other-than-temporary impairment on real estate during the third quarter of 2018. The other-than-temporary impairment was taken as a result of Management's assessment and determination of value of the real estate. The real estate was written down to better reflect its current expected value.

Mortgage Loans

The Company, from time to time, acquires mortgage loans through participation agreements with FSNB.  FSNB has been able to provide the Company with additional expertise and experience in underwriting commercial and residential mortgage loans, which provide more attractive yields than the traditional bond market.  The Company is able to receive participations from FSNB for three primary reasons:  1) FSNB has already reached its maximum lending limit to a single borrower, but the borrower is still considered a suitable risk; 2) the interest rate on a particular loan may be fixed for a long period that is more suitable for UG given its asset-liability structure; and 3) FSNB's loan growth might at times outpace its deposit growth, resulting in FSNB participating such excess loan growth rather than turning customers away.  For originated loans, the Company's Management is responsible for the final approval of such loans after evaluation.  Before a new loan is issued, the applicant is subject to certain criteria set forth by Company Management to ensure quality control.  These criteria include, but are not limited to, a credit report, personal financial information such as outstanding debt, sources of income, and personal equity.  Once the loan is approved, the Company directly funds the loan to the borrower.  The Company bears all risk of loss associated with the terms of the mortgage with the borrower.

During 2018 and 2017, the Company acquired $16,453 and $354,306 in mortgage loans, respectively.  FSNB services the majority of the Company's mortgage loan portfolio.  The Company pays FSNB a .25% servicing fee on these loans and a one-time fee at loan origination of .50% of the original loan cost to cover costs incurred by FSNB relating to the processing and establishment of the loan.

During 2018 and 2017, the maximum and minimum lending rates for mortgage loans were:

Most mortgage loans are first position loans.  Loans issued are generally limited to no more than 80% of the appraised value of the property.

The Company has in place a monitoring system to provide Management with information regarding potential troubled loans.  Letters are sent to each mortgagee when the loan becomes 30 days or more delinquent.  Management is provided with a monthly listing of loans that are 60 days or more past due along with a brief description of what steps are being taken to resolve the delinquency.  All loans 90 days or more past due are placed on a non-performing status and classified as delinquent loans.  Quarterly, coinciding with external financial reporting, the Company reviews each delinquent loan and determines how each delinquent loan should be classified.  Management believes the current internal controls surrounding the mortgage loan selection process provide a quality portfolio with minimal risk of foreclosure and/or negative financial impact.

Changes in the current economy could have a negative impact on the loans, including the financial stability of the borrowers, the borrowers' ability to pay or to refinance, the value of the property held as collateral and the ability to find purchasers at favorable prices.  Interest accruals are analyzed based on the likelihood of repayment.  In no event will interest continue to accrue when accrued interest along with the outstanding principal exceeds the net realizable value of the property.  The Company does not utilize a specified number of days delinquent to cause an automatic non-accrual status.

A mortgage loan reserve is established and adjusted based on Management's quarterly analysis of the portfolio and any deterioration in value of the underlying property which would reduce the net realizable value of the property below its current carrying value.  The mortgage loan reserve was $0 at September 30, 2018 and December 31, 2017.

The following table summarizes the mortgage loan holdings of the Company for the periods ended:

Investment Real Estate

Real estate acquired through foreclosure, consisting of properties obtained through foreclosure proceedings or acceptance of a deed in lieu of foreclosure, is reported on an individual asset basis at the lower of cost or fair value, less disposal costs. Fair value is determined on the basis of current appraisals, comparable sales, and other estimates of value obtained principally from independent sources. When properties are acquired through foreclosure, any excess of the loan balance at the time of foreclosure over the fair value of the real estate held as collateral is recognized and charged to the Consolidated Statements of Operations. Based upon Management's evaluation of the real estate acquired through foreclosure, additional expense is recorded when necessary in an amount sufficient to reflect any declines in estimated fair value. Gains and losses recognized on the disposition of the properties are recorded as realized gains and losses in the Condensed Consolidated Statements of Operations.

Notes Receivable

Notes receivable represent collateral loans and promissory notes issued by the Company and are reported at their unpaid principal balances, adjusted for valuation allowances. Valuation allowances are established for impaired loans when it is probable that contractual principal and interest will not be collected. The valuation allowance as of  September 30, 2018 and December 31, 2017 was $0. Interest accruals are analyzed based on the likelihood of repayment.  The Company does not utilize a specified number of days delinquent to cause an automatic non-accrual status.

 

Before a new note is issued, the applicant is subject to certain criteria set forth by Company Management to ensure quality control.  Once the note is approved, the Company directly funds the note to the borrower. Several of the notes have participation agreements in place, whereas the Company has reduced its investment in the note receivable by participating a portion of the note to a third party.

Similar to the mortgage loans, FSNB services several of the notes receivable. The Company, and the participants in the notes, share in the risk of loss associated with the terms of the note with the borrower, based upon their ownership percentage in the note.  The Company has in place a monitoring system to provide Management with information regarding potential troubled loans. 

Note 4 – Fair Value Measurements

The Company measures its assets and liabilities recorded at fair value in the Condensed Consolidated Balance Sheets based on the framework set forth in the GAAP fair value accounting guidance.  The framework establishes a fair value hierarchy of three levels based upon the transparency of information used in measuring the fair value of assets or liabilities as of the measurement date.  The fair value hierarchy prioritizes the inputs in the valuation techniques used to measure fair value into three categories.

Level 1 – Valuation is based upon quoted prices for identical assets or liabilities in active markets that the Company is able to access.  Level 1 fair value is not subject to valuation adjustments.

Level 2 – Valuation is based upon quoted prices for similar assets and liabilities in active markets or quoted prices for identical or similar instruments in markets that are not active. In addition, the Company may use various valuation techniques or pricing models that use observable inputs to measure fair value.

Level 3 – Valuation is based upon unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. Unobservable inputs reflect the Company's own assumptions about the inputs that market participants would use in pricing the asset or liability.

The Company determines the existence of an active market for an asset or liability based on its judgment as to whether transactions for the asset or liability occur in such market with sufficient frequency and volume to provide reliable pricing information.  If the Company concludes that there has been a significant decrease in the volume and level of activity for an investment in relation to normal market activity for such investment, adjustments to transactions and quoted prices are made to estimate fair value.

The following table presents the Company's assets and liabilities measured at fair value in the Condensed Consolidated Balance Sheet on a recurring basis as of September 30, 2018.

The following table presents the Company's assets and liabilities measured at fair value in the Condensed Consolidated Balance Sheet on a recurring basis as of December 31, 2017.

The following table provides reconciliations for Level 3 assets measured at fair value on a recurring basis. Transfers into and out of Level 3 are recognized as of the end of the quarter in which they occur.

(1)	Effective January 1, 2018, the Company adopted ASU No. 2016-01 and equity securities are no longer classified as available-for-sale. Prior periods have not been restated to conform to the current presentation. See Note 2 to the Condensed Consolidated Financial Statements for additional information.

Certain assets are not carried at fair value on a recurring basis, including investments such as mortgage loans and policy loans. Accordingly, such investments are only included in the fair value hierarchy disclosure when the investment is subject to re-measurement at fair value after initial recognition and the resulting re-measurement is reflected in the Consolidated Financial Statements.

The carrying values and estimated fair values of certain of the Company's financial instruments not recorded at fair value in the Consolidated Balance Sheets are shown below. Because the fair value for all Consolidated Balance Sheet items are not required to be disclosed, the aggregate fair value amounts presented below are not reflective of the underlying value of the Company.

The above estimated fair value amounts have been determined based upon the following valuation methodologies. Considerable judgment was required to interpret market data in order to develop these estimates. Accordingly, the estimates are not necessarily indicative of the amounts which could be realized in a current market exchange.  The use of different market assumptions or estimation methodologies may have a material effect on the fair value amounts.

The fair values of mortgage loans on real estate are estimated using discounted cash flow analyses and interest rates being offered for similar loans to borrowers with similar credit ratings.  The inputs used to measure the fair value of our mortgage loans on real estate are classified as Level 3 within the fair value hierarchy.

Notes receivable are carried at their unpaid principal balances, which approximates fair value. The inputs used to measure the fair value of the loans are classified as Level 3 within the fair value hierarchy.

Policy loans are carried at the aggregate unpaid principal balances in the Condensed Consolidated Balance Sheets which approximate fair value, and earn interest at rates ranging from 4% to 8%. Individual policy liabilities in all cases equal or exceed outstanding policy loan balances.  The inputs used to measure the fair value of our policy loans are classified as Level 3 within the fair value hierarchy.

The carrying amount of cash and cash equivalents in the Condensed Consolidated Balance Sheets approximates fair value given the highly liquid nature of the instruments.  The inputs used to measure the fair value of our cash and cash equivalents are classified as Level 1 within the fair value hierarchy.

The carrying amount of short term investments in the Condensed Consolidated Balance Sheets approximates fair value.  The inputs used to measure the fair value of our short term investments are classified as Level 3 within the fair value hierarchy.

The carrying value is a reasonable estimate of fair value for notes payable subject to floating rates of interest.  The fair value of notes payable with fixed rate borrowings is determined based on the borrowing rates currently available to the Company for loans with similar terms and average maturities.  The inputs used to measure the fair value of our notes payable are classified as Level 2 within the fair value hierarchy.

Note 5 – Credit Arrangements

The UTG line of credit carries interest at a fixed rate of  4.00% and is payable monthly. As collateral, UTG has pledged 100% of the common voting stock of its wholly owned subsidiary, Universal Guaranty Life Insurance Company.  The Company is currently in the process of renewing this line of credit.

During May of 2018, the Federal Home Loan Bank approved UG's Cash Management Advance Application ("CMA"). The CMA gives the Company the option of selecting a variable rate of interest for up to 90 days or a fixed rate for a maximum of 30 days. The variable rate CMA is prepayable at any time without a fee, while the fixed CMA is not prepayable prior to maturity. The Company is currently in the process of renewing the CMA.

Note 6 – Shareholders' Equity

During 2018, the Company issued 9,870 shares of stock to management and employees as compensation at a cost of $246,757. These awards are determined at the discretion of the Board of Directors.

Earnings Per Share Calculations

Earnings per share are based on the weighted average number of common shares outstanding during each period.  For the three and nine months ended September 30, 2018 and 2017, diluted earnings per share were the same as basic earnings per share since the Company had no dilutive instruments outstanding.

Note 7 – Commitments and Contingencies

The insurance industry has experienced a number of civil jury verdicts which have been returned against life and health insurers in the jurisdictions in which the Company does business involving the insurers' sales practices, alleged agent misconduct, failure to properly supervise agents, and other matters.  Some of the lawsuits have resulted in the award of substantial judgments against the insurer, including material amounts of punitive damages.  In some states, juries have substantial discretion in awarding punitive damages in these circumstances.  In the normal course of business, the Company is involved from time to time in various legal actions and other state and federal proceedings.  Management is of the opinion that the ultimate disposition of the matters will not have a materially adverse effect on the Company's results of operations or financial position.

Under the insurance guaranty fund laws in most states, insurance companies doing business in a participating state can be assessed up to prescribed limits for policyholder losses incurred by insolvent or failed insurance companies.  Although the Company cannot predict the amount of any future assessments, most insurance guaranty fund laws currently provide that an assessment may be excused or deferred if it would threaten an insurer's financial strength.  Mandatory assessments may be partially recovered through a reduction in future premium tax in some states. The Company does not believe such assessments will be materially different from amounts already provided for in the condensed consolidated financial statements, though the Company has no control over such assessments.

The following table represents the total funding commitments and the unfunded commitment as of September 30, 2018 related to certain investments:

During 2012, the Company committed to invest in Sovereign's Capital, LP Fund I ("Sovereign's"), which invests in companies in emerging markets. Sovereign's makes capital calls to investors as funds are needed.

During 2015, the Company committed to invest in Sovereign's Capital, LP Fund II ("Sovereign's II"), which invests in companies in emerging markets. Sovereign's II makes capital calls to investors as funds are needed.

During 2016, the Company made a commitment to invest in Barton Springs Music, LLC ("Barton"), which invests in music royalties.  Barton makes capital calls to its investors as funds are needed to acquire the royalty rights. During 2018, the Company revised its investment commitments with Barton.

During 2018, the Company made a commitment to invest in Master Mineral Holdings III, LP ("MMH"), which purchases land for leasing opportunities to those looking to harvest natural resources.  MMH makes capital calls to its investors as funds are needed for continued land purchases.

Note 8 – Other Cash Flow Disclosures

On a cash basis, the Company paid the following expenses:

Note 9 – Concentrations of Credit Risk

The Company maintains cash balances in financial institutions that at times may exceed federally insured limits.  The Company maintains its primary operating cash accounts with First Southern National Bank, an affiliate of the largest shareholder of UTG, Mr. Jesse Correll, the Company's CEO and Chairman.  The Company has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk on cash and cash equivalents.

The Company owns a variety of investments associated with the oil and gas industry. These investments represent approximately 30% and 27% of the Company's total invested assets as of September 30, 2018 and December 31, 2017, respectively.

Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations

The following is Management's discussion and analysis of the financial condition and results of operations of UTG, Inc. and its subsidiaries (collectively with the Parent, the "Company").  The following discussion of the financial condition and results of operations of the Company should be read in conjunction with, and is qualified in its entirety by reference to, the Consolidated Financial Statements of the Company and the related Notes thereto appearing in the Company's annual report on Form 10-K for the year ended December 31, 2017, as filed with the Securities and Exchange Commission, and our unaudited Condensed Consolidated Financial Statements and related Notes thereto appearing elsewhere in this quarterly report.

Cautionary Statement Regarding Forward-Looking Statements

This report on Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which are intended to be covered by the safe harbors created by those laws. We have based our forward-looking statements on our current expectations and projections about future events. Our forward-looking statements include information about possible or assumed future results of operations. All statements, other than statements of historical facts, included or incorporated by reference in this report that address activities, events or developments that we expect or anticipate may occur in the future, including such things as the growth of our business and operations, our business strategy, competitive strengths, goals, plans, future capital expenditures and references to future successes may be considered forward-looking statements. Also, when we use words such as "anticipate," "believe," "estimate," "expect," "intend," "plan," "probably," or similar expressions, we are making forward-looking statements.

Numerous risks and uncertainties may impact the matters addressed by our forward-looking statements, any of which could negatively and materially affect our future financial results and performance.

Although we believe that the assumptions underlying our forward-looking statements are reasonable, any of these assumptions, and, therefore, the forward-looking statements based on these assumptions, could themselves prove to be inaccurate. In light of the significant uncertainties inherent in the forward-looking statements that are included in this report, our inclusion of this information is not a representation by us or any other person that our objectives and plans will be achieved. In light of these risks, uncertainties and assumptions, any forward-looking event discussed in this report may not occur.  Our forward-looking statements speak only as of the date made, and we undertake no obligation to update or review any forward-looking statement, whether as a result of new information, future events or other developments, unless the securities laws require us to do so.

Overview

UTG, Inc., a Delaware corporation, is a life insurance holding company.  The Company's dominant business is individual life insurance, which includes the servicing of existing insurance policies in force, the acquisition of other companies in the life insurance business, the acquisition of blocks of business and the administration and processing of life insurance business for other entities.

UTG has a strong philanthropic program.  The Company generally allocates a portion of its earnings to be used for its philanthropic efforts primarily targeted to Christ-centered organizations or organizations that help the weak or poor.  The Company also encourages its staff to be involved on a personal level through monetary giving, volunteerism, and use of their talents to assist those less fortunate than themselves. Through these efforts, the Company hopes to make a positive difference in the local community, state, nation and world.

Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect reported amounts and related disclosures. Actual results could differ significantly from those estimates.  The Company has identified certain estimates that involve a higher degree of judgment and are subject to a significant degree of variability.  The Company's critical accounting policies and the related estimates considered most significant by Management are disclosed in the Company's Annual Report on Form 10-K for the year ended December 31, 2017.  Management has identified the accounting policies related to cost of insurance acquired, assumptions and judgments utilized in determining if declines in fair values of investments are other-than-temporary, and valuation methods for investments that are not actively traded as those, due to the judgments, estimates and assumptions inherent in those policies, are critical to an understanding of the Company's Condensed Consolidated Financial Statements and this Management's Discussion and Analysis.

As a result of ASU No. 2016-01, Financial Instruments (Topic 825): Recognition and Measurement of Financial Assets and Financial Liabilities, changes in the fair value of equity securities are now recognized in net income rather than other comprehensive income. On January 1, 2018, cumulative net unrealized gains on equity securities of $18.3 million, net of deferred taxes of $4.9 million, were reclassified from accumulated other comprehensive income (loss) into retained earnings.

During the nine months ended September 30, 2018, there were no additions to or changes in the critical accounting policies disclosed in the 2017 Form 10-K, except for recently adopted accounting standards discussed in Note 2 of the Notes to the Condensed Consolidated Financial Statements.

Results of Operations

On a consolidated basis, the Company reported net income attributable to common shareholders' of approximately $22.7 million for the nine-month period ended September 30, 2018 and net income attributable to common shareholders' of approximately $11.9 million for the three-month period ended September 30, 2018.  For the nine-month period ended September 30, 2017, the Company reported a net loss attributable to common shareholders' of approximately of approximately $(2.4) million and net income attributable to common shareholders' of approximately $134,000 for the three-month period ended September 30, 2017.

Revenues

The Company reported total revenues of approximately $49 million for the nine months ended September 30, 2018, an increase of approximately $33 million as compared to the same period in 2017. The Company reported total revenues of approximately $23 million for the three months ended September 30, 2018, an increase of approximately $17 million as compared to the three month period ended September 30, 2017.  The variance in total revenues from the prior year to the current year is mainly attributable to the realized and unrealized investment gains reported by the Company during 2018. The unrealized investment gains are attributable to the adoption of ASU 2016-01, which requires the Company to report the change in the fair value of equity securities as a component of net income, rather than other comprehensive income. Prior periods have not been restated to conform to the current presentation. See below for further analysis regarding the implementation of ASU 2016-01.

Premium and policy fee revenues, net of reinsurance, decreased approximately 3% when comparing the nine-month period ended September 30, 2018 to the same period in 2017.  Premium and policy fee revenues, net of reinsurance, decreased by approximately 2% when comparing the third quarter of 2018 to the same quarter in 2017.  The Company writes minimal new business.  Premium and policy fee revenues, net of reinsurance, represented 11% and 34% of the Company's revenues as of September 30, 2018 and 2017, respectively.

The following table summarizes our investment performance.

(1)

Effective January 1, 2018, the Company adopted ASU No. 2016-01 and equity securities are no longer classified as available-for-sale with unrealized gains and losses recognized in other comprehensive income, rather, changes in the fair value of equity securities are now recognized in net income. Prior periods have not been restated to conform to the current presentation. See note 2 of the notes to consolidated financial statements.

As a result of adopting ASU No. 2016-01, net investment gains for the three and nine months ended September 30, 2018 included an increase in the fair value of equity securities of $6.7 million and $22 million, respectively. For the three and nine months ended September 30, 2017, the increase (decrease) in the fair value of equity securities, which totaled $3.1 million and $2.8 million, respectively, was included in the change in net unrealized investment gains in other comprehensive income. See Note 3 of the Notes to the Condensed Consolidated Financial Statements for details regarding the components of net investment gains (losses) and the change in net unrealized gains (losses) from investments.

The Company has seen significant unrealized gains on its equity investments during 2018.  The stock market as a whole has been very positive through the first nine months of 2018.  A significant portion of these gains are from two equity holdings, both in the area of oil and gas.  While the Company has had very strong unrealized gains during 2018, a pull back in the stock market, particularly in the oil and gas arena, could slow these gains or even result in future period unrealized losses. Management believes these equity investments continue to be solid investments for the Company and have further growth potential; however, changes in market conditions could cause volatility in market prices.

The Company reported net realized investment gains of approximately $11.7 million and $12.4 million for the three and nine months ended September 30, 2018, respectively. During 2018, the Company sold three parcels of real estate that resulted in gross gains of approximately $1.3 million. During the third quarter of 2018, the Company sold a substantial portion of a bond holding.  The bond holding was initially acquired during 2016 over a period of time at a deep discount, with an average cost of approximately 25% of its par value.  During the third quarter of 2018, the value of this security had recovered sufficiently enough that Management determined the time was right to sell a majority of the holding, realizing a gain of approximately $10 million. At September 30, 2018, the Company still holds $5 million of par value of this security at a cost basis of $651,000.

For the three and nine months ended September 30, 2017, the Company reported approximately $1.1 million and $1.7 million, respectively, in net realized investment gains. The 2017 net realized gains are attributable to the sales of certain fixed maturities and equity securities. During the third quarter of 2017, the Company sold certain equity securities that produced gains of approximately $800,000. The Company made the decision to sell some lower rated, higher yielding securities and replace them with higher rated, lower yielding securities.

Realized investment gains are the result of one-time events and are expected to vary from quarter to quarter.

The following table reflects net investment income of the Company:

Net investment income represented 18% and 54% of the Company's total revenues as of September 30, 2018 and 2017, respectively.  The Company reported net investment income of approximately $2.3 million for the three month period ended September 30, 2018, a decrease of approximately 26% compared to the same period in 2017.  When comparing the three and nine months ended September 30, 2018 and 2017, income from investing activities was comparable in the majority of the investment categories, with the largest variance being found in the real estate category.

During 2018, two of the Company's real estate subsidiaries sold certain real estate parcels and distributed earnings to the members.  Earnings from the real estate portfolio are expected to vary depending on the activities of the subsidiaries and the potential distributions that will occur based upon the activities.  The fluctuation in earnings from real estate, when comparing the three and nine months ended September 30, 2018 and 2017, are considered reasonable by Management.

The reclassification of the change in the fair value of equity securities to a component of net income (loss), as a result of ASU 2016-01, caused several of the revenue and expense categories to appear as though they did not represent the percentage of total revenues and expenses comparably from year to year. However, that is not the case. If you excluded the change in the fair value of equity securities from the calculations, the revenue and expenses, as a percentage of the total, are comparable for the current and prior period.

In summary, the Company's basis for future revenue growth is expected to come from the following primary sources: conservation of business currently in-force, the maximization of investment earnings and the acquisition of other companies or policy blocks in the life insurance business.  Management has placed a significant emphasis on the development of these revenue sources to enhance these opportunities.

Expenses

The Company reported total benefits and other expenses of approximately $20 million for the nine months ended September 30, 2018, an increase of approximately 2% from the same period in 2017.  For the three month period ended September 30, 2018, total benefits and other expenses increased approximately 28%, compared to the same quarter in 2017.  Benefits, claims and settlement expenses represented approximately 51% and 61% of the Company's total expenses for the three and nine months ended September 30, 2018, respectively.  The other major expense category of the Company is operating expenses, which represented approximately 47% and 37% of the Company's total expenses for the three and nine months ended September 30, 2018, respectively.

Life benefits, claims and settlement expenses, net of reinsurance benefits and claims, decreased approximately 10% in the nine months ended September 30, 2018, compared to the same period in 2017.  For the three months ended September 30, 2018, life benefits, claims and settlement expenses, net of reinsurance benefits and claims, decreased approximately 4%, compared to the same quarter in 2017.  Policy claims vary from period to period and therefore, fluctuations in mortality are to be expected and are not considered unusual by Management.

Net amortization of cost of insurance acquired decreased 4% during the three and nine months ended September 30, 2018 compared to the same period in 2017.  Cost of insurance acquired is established when an insurance company is acquired or when the Company acquires a block of in-force business.  The Company assigns a portion of its cost to the right to receive future profits from insurance contracts existing at the date of the acquisition.  Cost of insurance acquired is amortized with interest in relation to expected future profits, including direct charge-offs for any excess of the unamortized asset over the projected future profits. The interest rates may vary due to risk analysis performed at the time of acquisition on the business acquired. The Company utilizes a 12% discount rate on the remaining unamortized business.  The amortization is adjusted retrospectively when estimates of current or future gross profits to be realized from a group of products are revised.  Amortization of cost of insurance acquired is particularly sensitive to changes in interest rate spreads and persistency of certain blocks of insurance in-force.  This expense is expected to decrease, unless the Company acquires a new block of business.

Operating expenses were up approximately $1.7 million and $1.8 million when comparing the three and nine months ended September 30, 2018 and 2017. The increase in charitable expenses and accrued year end bonuses are the main cause of the 2018 expenses being higher than the 2017 expenses.  With the increased earnings during 2018, anticipated year end bonus accruals have increased over 2017.  Final determination of bonuses will be paid following year end results, by senior management, and the Compensation Committee of the Board of Directors. Charitable contributions are a function of the Company's earnings. As mentioned above in the Overview section of the Management Discussion and Analysis, UTG has a strong philanthropic program. The Company generally allocates a portion of its earnings to be used for its philanthropic efforts primarily targeted to Christ-centered organizations or organizations that help the weak or poor. Charitable contributions made by the Company are expected to vary from year to year depending on the earnings of the Company.

Management continues to place significant emphasis on expense monitoring and cost containment. Maintaining administrative efficiencies directly impacts net income.

Comprehensive Income (Loss) to Shareholders

Comprehensive income (loss) to shareholders was approximately $10 million and $5 million for the nine months ended September 30, 2018 and 2017, respectively. Included in the nine months ended September 30, 2018 and 2017 comprehensive income (loss) is a decrease of approximately $4 million and an increase of $8 million, respectively, in net unrealized gains on available-for-sale securities, net of taxes. Comprehensive income (loss) to shareholders was approximately $4.2 million and $4.5 million for the three months ended September 30, 2018 and 2017, respectively. Included in the three months ended September 30, 2018 and 2017 comprehensive income (loss) is an increase of approximately $1 million and $4.9 million, respectively, in net unrealized gains on available-for-sale securities, net of taxes. Effective January 1, 2018, the Company adopted ASU No. 2016-01 and equity securities are no longer classified as available-for-sale with unrealized gains and losses recognized in other comprehensive income (loss). Rather, all changes in fair value of equity securities are now recognized in net income (loss). For the three and nine months ended September 30, 2018, the change in fair value of equity securities included in net income (loss) gains of approximately $6.7 million and $22.1 million, respectively. For the three and nine months ended September 30, 2017, gains of approximately $3.1 million and $2.8 million were included in other comprehensive income. The change in presentation has no impact on comprehensive income to shareholders.

Financial Condition

Investment Information

Investments represent approximately 84% and 82% of total assets at September 30, 2018 and December 31, 2017, respectively.  Accordingly, investments are the largest asset group of the Company.  The Company's insurance subsidiary is regulated by insurance statutes and regulations as to the type of investments that it is permitted to make and the amount of funds that may be used for any one type of investment.  In light of these statutes and regulations, the majority of the Company's investment portfolio is invested in a diverse set of securities.

As of September 30, 2018, the carrying value of fixed maturity securities in default as to principal or interest was immaterial in the context of consolidated assets, shareholders' equity or results from operations.  To provide additional flexibility and liquidity, the Company has identified all fixed maturity securities as "investments available for sale".  Investments available for sale are carried at market, with changes in market value charged directly to shareholders' equity.  Changes in the market value of available for sale securities resulted in net unrealized gains of $1 million and net unrealized losses of $(4) million for the three and nine months ended September 30, 2018, respectively. Changes in the market value of available for sale securities resulted in net unrealized gains of $5 million and $8.1 million for the three and nine months ended September 30, 2017, respectively.  The variance in the net unrealized gains and losses is the result of normal market fluctuations and changes in interest rates.

Capital Resources

Total shareholders' equity increased by approximately 8% as of September 30, 2018 compared to December 31, 2017 and is mainly the result of realized and unrealized gains on investments.

The Company's investments are predominately in fixed maturity investments such as bonds, which provide sufficient return to cover future obligations.  The Company carries all of its fixed maturity holdings as available for sale, which are reported in the Condensed Consolidated Financial Statements at their market value.

Liquidity

The Company has two principal needs for cash - the insurance company's contractual obligations to policyholders and the payment of operating expenses.  Cash and cash equivalents represented 6% of total assets as of September 30, 2018 and December 31, 2017.  Fixed maturities, as a percentage of total assets, were approximately 39% and 44% as of September 30, 2018 and December 31, 2017, respectively.

The Company currently has access to funds for operating liquidity.  UTG has an $8,000,000 revolving credit note with Illinois National Bank.  At September 30, 2018, the Company had no outstanding borrowings against the UTG line of credit.

Future policy benefits are primarily long-term in nature and therefore, the Company's investments are predominantly in long-term fixed maturity investments such as bonds and mortgage loans which provide sufficient return to cover these obligations. Many of the Company's products contain surrender charges and other features which reward persistency and penalize the early withdrawal of funds.

Net cash used by operating activities was approximately $2 million for the nine months ended September 30, 2018 and net cash used by operating activities was approximately $7.1 million for the nine months ended September 30, 2017.  Sources of operating cash flows of the Company, as with most insurance entities, is comprised primarily of premiums received on life insurance products and income earned on investments.  Uses of operating cash flows consist primarily of payments of benefits to policyholders and beneficiaries and operating expenses.  The Company has not marketed any significant new products for several years.  As such, premium revenues continue to decline.  Management anticipates future cash flows from operations to remain similar to historic trends.

Net cash used by investing activities was approximately $3 million for the nine months ended September 30, 2018 and net cash provided by investing activities was approximately $10.5 million for the nine months ended September 30, 2017.The net cash provided by and used in investing activities is expected to vary from quarter to quarter depending on market conditions and management's ability to find and negotiate favorable investment contracts.

UTG is a holding Company that has no day-to-day operations of its own.  Funds required to meet its expenses, generally costs associated with maintaining the Company in good standing with states in which it does business and the servicing of its debt, are primarily provided by its subsidiaries.  On a parent only basis, UTG's cash flow is dependent on Management fees received from its insurance subsidiary, stockholder dividends from its subsidiary and earnings received on cash balances.  At September 30, 2018, substantially all of the consolidated shareholders' equity represented net assets of its subsidiary.  The Company's insurance subsidiary has maintained adequate statutory capital and surplus.  The payment of cash dividends to shareholders by UTG is not legally restricted.  However, the state insurance department regulates insurance Company dividend payments where the Company is domiciled.  No dividends were paid to shareholders in 2017 or the nine months ended September 30, 2018.

UG is an Ohio domiciled insurance company, which requires notification within five business days to the insurance commissioner following the declaration of any ordinary dividend and at least ten calendar days prior to payment of such dividend.  Ordinary dividends are defined as the greater of:  a) prior year statutory net income or b) 10% of statutory capital and surplus.  For the year ended December 31, 2017, UG had statutory net income of approximately $5.4 million.  At December 31, 2017 UG's statutory capital and surplus amounted to approximately $54.7 million.  Extraordinary dividends (amounts in excess of ordinary dividend limitations) require prior approval of the insurance commissioner and are not restricted to a specific calculation.  During 2017, UG paid UTG ordinary dividends of $2 million.  Through September 30, 2018, UG paid UTG ordinary dividends of $3.5 million. In October of 2018, UG paid UTG an ordinary dividend of $1.5 million. UTG used the dividends received during 2017 and 2018 for general operations of the Company.

ITEM 4.  CONTROLS AND PROCEDURES

The Company maintains a set of disclosure controls and procedures designed to ensure that information required to be disclosed in reports that it files or submits under the Securities Exchange Act of 1934, as amended (the Exchange Act), is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. In addition, the disclosure controls and procedures ensure that information required to be disclosed is accumulated and communicated to Management, including the principal executive officer and principal financial officer, allowing timely decisions regarding required disclosure. Under the supervision and with the participation of our Management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Exchange Act. Based on this evaluation, our principal executive officer and our principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report.

PART II.  OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

NONE

ITEM 1A.  RISK FACTORS

NONE

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

NONE

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

NONE

ITEM 4.  MINE SAFETY DISCLOSURES

NONE

ITEM 5.  OTHER INFORMATION

NONE

ITEM 6.  EXHIBITS

*Filed herewith

 

SIGNATURES

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.

(Registrant)

EXHIBIT INDEX

* Filed herewith