Citizens, Inc.: Form 10-Q for the period ended Sep 30, 2022

FORWARD-LOOKING STATEMENTS

This section and other parts of this Quarterly Report on Form 10-Q ("Form 10-Q") contain forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, that involve risks and uncertainties. Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. Forward-looking statements can also be identified by words such as “future,” “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “predicts,” “will,” “would,” “could,” “can,” “may,” and similar terms. Forward-looking statements are not guarantees of future performance and the Company’s actual results may differ significantly from the results discussed in the forward-looking statements. Factors that might cause such differences include, but are not limited to, statements concerning any potential future impact of the coronavirus disease (“COVID-19”) pandemic on our business and the inflationary environment that has led to market volatility and rising interest rates, as well as factors discussed in the "Risk Factors" contained in our Annual Report on Form 10-K for the year ended December 31, 2021, which are incorporated herein by reference. The Company assumes no obligation to revise or update any forward-looking statements for any reason, except as required by law.

The following discussion should be read in conjunction with the consolidated financial statements and accompanying notes included in Part I, Item 1 of this Form 10-Q. The Company assumes no obligation to revise or update any forward-looking statements for any reason, except as required by law.

The U.S. Securities and Exchange Commission ("SEC") maintains a website that contains reports, proxy and information statements, and other information regarding issuers, including the Company, that file electronically with the SEC. The public can obtain any documents that the Company files with the SEC at http://www.sec.gov. We also make available, free of charge, through our Internet website (http://www.citizensinc.com), our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Section 16 Reports filed by officers and directors, news releases, and, if applicable, amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as soon as reasonably practicable after we electronically file such reports with, or furnish such reports to, the SEC. We are not including any of the information contained on our website as part of, or incorporating it by reference into, this Form 10-Q.

OVERVIEW

For over 45 years, we have been fulfilling the needs of our policyholders and their families by providing insurance products that offer both living and death benefits. Citizens conducts insurance related operations through its insurance subsidiaries, which provide benefits to residents in 31 U.S. states and more than 70 different countries. We specialize in offering primarily ordinary whole life insurance, endowment products and final expense insurance in niche markets where we believe we can optimize our competitive position.

As an insurance provider, we collect premiums on an ongoing basis from our policyholders and invest the majority of the premiums to pay future benefits, including claims and surrenders and policyholder dividends. Accordingly, the Company derives its revenues principally from: (1) life insurance premiums earned for insurance coverages provided to insureds in our two operating segments – Life Insurance and Home Service Insurance; and (2) net investment income. In addition to paying and reserving for insurance benefits that we pay to our policyholders, our expenses consist primarily of the costs of selling our insurance products (e.g., commissions, underwriting, marketing expenses), operating expenses and income taxes.

Objective of our Management's Discussion and Analysis

We refer to our Management’s Discussion and Analysis of Financial Condition and Results of Operations as our “MD&A”. The objective of our MD&A is to provide investors with information in order to assess the material changes in our financial condition from December 31, 2021 to September 30, 2022 and the material changes in our results of operations for the three and nine months ended September 30, 2022 as compared to the same periods in 2021. We also discuss in the MD&A any trends that we believe may materially affect our future operations or financial condition.

The Factors that Drive our Operating Results

We see the following as the primary factors that drive our operating results:

• Sales (i.e., premium revenues)
• Investments
• Death claims and surrenders
• Operating expenses

Premium revenues and investment income are our two primary sources of income and thus key to our profitability.

Premium revenues consist of both new sales (first year premiums) and "resells" (i.e., retaining the policy), which lead to renewal premiums.

We experienced slight increases, 1.3% and 0.2%, respectively, in premium revenue in the three and nine months ended September 30, 2022 compared to the prior year periods. Premium revenues increased in both periods primarily due to higher property insurance premiums. Higher property insurance premiums were the result of the lack of hurricanes in Louisiana in the 2022 periods, as property insurance premiums in 2021 were negatively impacted due to reinstatement premiums we paid for catastrophic reinsurance as a result of Hurricane Ida.

Our net investment income increased during both the three and nine months ended September 30, 2022 compared to the same prior year periods due primarily to a growing diversified invested asset base and reinvestment into a higher interest rate environment.

Payment of policyholder benefits for death claims and surrenders and operating expenses are our largest expenses and thus also key to our profitability.

In both the three and nine months ending in September 2022, our death claims decreased compared to the same prior year periods. Death claims in the 2021 periods in both of our segments were negatively impacted by COVID-19 related deaths, which have decreased in the 2022 periods. While surrenders decreased in the first nine months of 2022, they slightly increased during the three month period due to higher surrenders in our Home Service Insurance segment. We believe the decrease in surrenders in the nine month period was in large part due to our retention initiatives; however, we believe the impact of inflation and curtailment of COVID-19 relief government aid in 2022 is negatively impacting retention in our Home Service Insurance segment.

Our general operating expenses for the three months ended September 30, 2022 increased compared to the prior year period due primarily to our international sales convention in 2022, which was cancelled in the prior year period due to COVID, as well as severance costs. General operating expenses in the nine months ended September 30, 2022 decreased compared to the prior year period, as we did not incur fees in the current year related to the change in control of the Company nor consulting fees paid to our former CEO as we did in 2021. These savings were partially offset by higher home office and convention expenses in the current year.

FINANCIAL HIGHLIGHTS

Due to the impact inflation has had on market volatility and rising interest rates during the first nine months of 2022, we had net losses of $5.1 million and $10.0 million, respectively, in the three and nine months ended September 30, 2022, compared to net losses of $2.8 million and $1.4 million, respectively, in the prior year periods. As an insurance company, we hold significant invested assets in order to pay future policy liabilities. Changes in the fair value of our limited partnership investments drove investment related losses of $5.0 million and $10.6 million, respectively, in the current year periods, compared to investment related gains of $2.1 million and $7.3 million in the prior year periods, respectively. We did not sell these investments during 2022, but as discussed in Part I, Item 1, Note 5. Investments, changes in fair values of our equity securities are reflected as investment related gains or losses, in addition to executed transactions that result in a gain or loss. Due to these investment related losses driving our net loss, loss per share of Class A common stock was $0.20 for the nine months ended September 30, 2022.

All other revenues (premiums, net investment income and other income) collectively increased by $1.7 million and $2.5 million, respectively, in the three and nine months ended September 30, 2022 as compared to the same prior year periods. Our total benefits and expenses decreased by $3.3 million and $5.8 million, respectively, in the current year periods as compared to the same prior year periods.

Consolidated Revenue Highlights

Insurance premiums and investment income are our primary sources of revenue and increased 2.9% in the three months ended September 30, 2022 compared to the same period in 2021.

• Insurance premiums increased by $0.5 million due primarily to higher first year premiums in our Life Insurance segment and higher property insurance premiums due to the negative impact of Hurricane Ida in 2021 described above, partially offset by a decrease in renewal premiums in both of our segments.
• Net investment income increased by $1.2 million, or 7.4%, from a higher average portfolio yield in the current year period as well as a growing invested asset base.

Insurance premiums and investment income collectively increased 1.3% in the nine months ended September 30, 2022 as compared to the same period in 2021.

• Insurance premiums increased by $0.3 million, or 0.2% as due to the increased property insurance premiums, partially offset by a decrease in first year premiums in both of our segments.
• Net investment income increased by $2.0 million, or 4.3% for the same reasons discussed above.

Consolidated Benefits and Expenses Highlights

The primary use of our funds is the payment of insurance benefits for claims and surrenders as well as our general operating expenses. In the three months ended September 30, 2022 compared to the same period in 2021, total benefits and expenses decreased by $3.3 million due primarily to:

• a $5.2 million decrease in insurance benefits paid or provided due to:
• $3.8 million lower future policy benefit reserves, which were a result of higher matured endowments in the quarter, partially offset by increases to the future policy benefit reserves due to improved first year sales and better persistency; and
• $1.1 million decrease in claims and surrenders benefits. This decrease was primarily related to lower death claims in both of our segments as 2021 included a higher number of reported death claims, including COVID-19 related deaths, partially offset by an increase in matured endowment benefits;
• both of the above partially offset by a $1.0 million increase in other general expenses.

In the nine months ended September 30, 2022 compared to the same period in 2021, total benefits and expenses decreased by $5.8 million due primarily to:

• a $5.4 million decrease in claims and surrender benefits due primarily to a decrease in COVID-19 related death benefits paid in 2022 and a decrease in surrender benefits as we have focused efforts on retaining policyholders; and
• a $0.4 million decrease in other general expenses.

Financial Condition at September 30, 2022

• Total assets of $1.5 billion.
• Total investments of $1.3 billion; fixed maturity securities comprised 88.3% of total investments.
• $4.7 billion of direct insurance in force.
• No debt.

IMPACT OF INFLATION AND RISING INTEREST RATES

The impact of inflation, which has led to market volatility and rising interest rates, has had a material impact on our results of operations and financial condition in the three and nine months ended September 30, 2022. In addition to the market volatility that affected the fair value of our equity securities, leading to the investment related losses, higher interest rates typically reduce the market values of fixed income assets, as the interest payments from existing fixed income assets become less competitive relative to newer higher rate fixed income instruments. Because the vast majority of our total investments are invested in fixed maturity securities, we reported a pre-tax net unrealized loss of $213.7 million on our available-for-sale securities at September 30, 2022. This compares to net unrealized gains of $126.9 million at December 31, 2021, with the year-over-year decrease primarily driven by higher interest rates. These unrealized losses led to stockholders' deficit of $(14.2) million at September 30, 2022.

In addition, we could experience higher surrenders and lapses and fewer sales in the coming months as our policyholders conserve cash due to concerns over inflation and rising costs, particularly in our Home Service Insurance segment, whose customer base is primarily middle- and lower-income individuals.

COVID-19 PANDEMIC

The overall impact of the COVID-19 pandemic and its related economic conditions on the Company's financial results continue to be highly uncertain and unpredictable. While the Company has implemented new strategies and processes to mitigate this impact, the scope, duration and magnitude of the direct and indirect effects of COVID-19 are difficult or impossible to anticipate. As a result, it is not possible to predict its impact on the Company's results in

2022 or beyond. While we don't believe that the COVID-19 pandemic materially impacted our results of operations for the three and nine months ended September 30, 2022, some of the most significant factors related to COVID-19 that could cause our future results to differ significantly from our prior results or expectations include:

• a higher level of claims due to COVID-19 deaths;
• decreased premium revenue due to disruption to our workforce or distribution channels resulting from required isolation, travel limitations and business restrictions;
• higher surrenders and lapses due to cash needs our policyholders may have due to concerns over COVID-19 economic impacts; and
• volatility in our investment portfolio due to market disruptions caused by COVID-19 related concerns such as inflation.

We continue to monitor the impact of the COVID-19 pandemic on our operations.

OUR OPERATING SEGMENTS

We manage our business in two operating segments, Life Insurance and Home Service Insurance.

Our insurance operations are the primary focus of the Company, as these operations generate most of our income. See the discussion under Segment Operations below for detailed analysis. The amount of insurance, number of policies, and average face amounts for ordinary life policies issued during the periods indicated are shown below.

As we have previously disclosed, our strategic initiatives include the introduction of new products tailored to our specific markets. These new products helped drive the 45.3% increase in total insurance issued in the nine months ended September 30, 2022, from $315.3 million in the first nine months of 2021 to $458.3 million in 2022. The growth in insurance issued was a result of both a greater number of policies issued and higher average policy face amounts issued in both segments.

The growth in our Life Insurance segment is attributable to strong sales from our new international whole life product, which accounted for 31% of total insurance issued in this segment for the nine months ended September 30, 2022. In our Home Service Insurance segment, the increase in average policy face amounts issued is attributable to sales campaigns that focused on increasing the face amount of insurance sold as well as the introduction of our new whole life product in this segment, which has a higher maximum face value than our legacy products.

CONSOLIDATED RESULTS OF OPERATIONS

A discussion of consolidated results is presented below, followed by a discussion of segment operations and financial results by segment.

REVENUES

Our revenues are generated primarily by insurance renewal premiums and investment income from invested assets.

(In thousands)

Premium Income. Total premium income increased $0.5 million and $0.3 million, or 1.3% and 0.2%, for the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021.

• Three months ended September 30, 2022: Total premiums increased due to higher property insurance premiums, which were the result of the lack of hurricanes in Louisiana in 2022, as property insurance premiums in 2021 were negatively impacted due to reinstatement premiums we paid for catastrophic reinsurance as a result of Hurricane Ida. Life insurance premiums decreased 1.9%, as higher first year premiums in our Life Insurance segment were offset by lower renewal premiums in both segments.
• Nine months ended September 30, 2022: Total premiums increased slightly due to the higher property insurance premiums as described above. Life insurance premiums declined 1.1%. We believe the decline in our first year premiums is attributed to lower average premiums associated with a change in the mix of business as we continue the introduction of new products. We believe the decline in Life Insurance segment renewal premium is due to the impact of increasing matured endowment benefits.

Net Investment Income. A summary of our net investment income and annualized net investment income performance are summarized as follows:

(In thousands, except for %)

Income from our fixed maturity securities constitutes the vast majority of our net investment income, as they comprise 88.3% of our investment portfolio based on fair value. Our total investment income increased by 7.9% and 4.5% for the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021, primarily due to a higher average portfolio yield on our fixed maturity securities in the current year period. Long-term investment income increased as our private equity investment asset base grew. Our yield increased 6 basis points to 4.30% in the first nine months of 2022 compared to the prior year period due to the rising interest rate environment.

Investment Related Gains (Losses), Net. We recorded investment related losses of $5.0 million and $10.6 million during the three and nine months ended September 30, 2022, respectively, as compared to investment related gains of $2.1 million and $7.3 million during the same prior year periods. The gains and losses are primarily related to the fair value change of our limited partnership and equity securities investments, mostly in our Life Insurance segment, due to the inflationary environment and volatility in equity markets. The Company also sold its former training facility located near Austin, Texas during the third quarter 2021, which resulted in a gain on the sale of $1.0 million.

Other Income. Other income consists primarily of supplemental contracts issued to policyholders in our Life Insurance segment upon the surrender or maturity of their original policies. We believe this income has been increasing over the past few quarters due to our retention initiatives.

BENEFITS AND EXPENSES

(In thousands)

Claims and surrenders benefits and other general expenses are our primary expenses. Total benefits and expenses decreased in the three and nine months ended September 30, 2022 as compared to same periods in 2021.

Claims and Surrenders.

(In thousands)

Death claim benefits decreased 37.4% and 24.7% for the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. These decreases in both segments were due primarily to a lower volume of reported death claims, including COVID-19 related deaths.

Surrender benefits decreased 6.0% for the nine months ended September 30, 2022, compared to the same period in 2021. Surrender benefits represented less than 0.8% of total direct ordinary whole life insurance in force of $4.7 billion as of September 30, 2022. We have focused our efforts on retaining policyholders and believe we have begun to see positive benefits from these efforts starting in the second half of 2021; however, we believe the impact of inflation and curtailment of COVID-19 relief government aid in 2022 is negatively impacting retention in our Home Service Insurance segment.

Matured endowment benefits increased 98.1% and 37.7% for the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. We anticipated this increase based upon the contractual maturity dates.

Explanation of other benefits and expenses

Other General Expenses. General expenses increased 9.6% and decreased 1.3% in the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021. General expenses for three months ended September 30, 2022 increased primarily due to expenses related to our sales convention, which we did not hold in 2021 due to COVID, as well as severance costs. General operating expenses in the nine months ended September 30, 2022 decreased as compared to the prior year period, as in 2021 we paid consulting fees to our former CEO and incurred professional fees in connection with the change in control of the Company. These savings in 2022 were partially offset by higher home office and travel and convention expenses in the current year.

Increase in Future Policy Benefit Reserves. Future policy benefit reserves reflect the liability established to provide for the payment of policy benefits that we expect to pay in the future and thus generally increase when we have a larger in force block of business due to higher sales and better persistency (i.e., more policies on which we expect to pay future benefits) and decrease when we have lower sales and persistency. Compared to the 2021 periods, the change in future policy benefit reserves decreased 34.9% in the three months ended September 30, 2022 due to the expected impact of matured endowments despite the increase in insurance issued, and increased 2.8% for the nine months ended September 30, 2022, due to significantly higher sales.

Commissions. Commission expenses are a cost of acquiring business, as commissions are the primary compensation paid to our independent consultants and independent agents for selling our products. First year commission rates are higher than renewal commission rates and thus commissions fluctuate directly in relation to first year sales.

Capitalization and Amortization of Deferred Policy Acquisition Costs. Costs capitalized include certain commissions, policy issuance costs, and underwriting and agency expenses that relate to successful sales efforts for insurance contracts and thus fluctuate primarily with first year sales. Amortization is impacted by persistency, surrenders, and new sales production and thus it may fluctuate from period to period depending on these factors.

SEGMENT OPERATIONS

Our business is comprised of two operating business segments, as detailed below.

• Life Insurance
• Home Service Insurance

These segments are reported in accordance with U.S. GAAP. The Company's Other Non-Insurance enterprises include non-insurance operations such as IT and corporate-support functions, which are included in the table presented below to properly reconcile the segment information with the consolidated financial statements of the Company.

The following table shows income (loss) before federal income taxes by segment during the periods indicated.

(In thousands)

LIFE INSURANCE

We had a net loss of $2.9 million and $4.3 million, respectively in the three and nine months ended September 30, 2022 as compared to net income of $1.7 million and $8.7 million, respectively, in the prior year periods. As discussed above in "Financial Highlights" this change was due primarily to investment related losses in the current year periods. We recorded investment related losses of $4.4 million and $8.6 million during the three and nine months ended September 30, 2022, respectively, as compared to investment related gains of $1.2 million and $5.7 million during the same prior year periods.

All other revenues (premiums, net investment income and other income) collectively increased in the three and nine months ended September 30, 2022 as compared to the same prior year periods due primarily to higher net investment income. Total benefits and expenses in this segment slightly decreased in each of the three and nine months ended September 30, 2022.

Detailed results of operations for the Life Insurance segment for the periods indicated are as follows:

(In thousands)

Life Insurance segment premium breakout is detailed below.

(In thousands)

Premiums. Total premiums for three and nine months ended September 30, 2022 decreased 1.6% and 1.0%, respectively, compared to the same periods in 2021. We derive most of our premium revenue in the Life Insurance segment from renewal premiums, which decreased 2.2% and 0.8% in the three and nine months ended September 30, 2022, respectively, as compared to the same periods in 2021. First year premiums increased slightly for three months ended September 30, 2022 compared to the same period in 2021, which we believe is due to sales campaigns and our new international whole life product, which launched in March 2022. First year premiums decreased for the nine months ended September 30, 2022 as compared to the same period in 2021. We believe that the decline is primarily related to a decline in production in Taiwan due in part to COVID-19 lock downs and continued decline in production in Venezuela due to one of our top distributors leaving our Company. As we discussed in Item 3 - Legal Proceedings in our Annual Report on Form 10-K for the year ended December 31, 2021, we believe these distributors are illegally competing with us and stealing our trade secrets and business.

International Life Insurance Premiums. The following table sets forth, for our top five producing countries, our direct premiums from our international life insurance business for the three and nine months ended September 30, 2022 and 2021.

(In thousands)

Domestic Life Insurance Premiums. Domestic premiums in our Life Insurance segment were $1.2 million and $3.4 million in the three and nine months ended September 30, 2022, respectively, compared to $1.2 million and $3.7 million in the same prior year periods. Our domestic in force business results primarily from blocks of business of insurance companies we have acquired over the years as we ceased selling ordinary life in 2017. We currently offer credit life, credit disability and critical illness products domestically.

Net Investment Income. Our net investment income increased by 6.8% and 4.7% for the three and nine months ended September 30, 2022, respectively, compared to the same periods in 2021 from higher average portfolio yield in the current year period. Long-term investment income increased as our limited partnership investments asset base grew.

Investment Related Gains (Losses), Net. The investment related losses for the three and nine months ended September 30, 2022 were a result of the change in estimated fair market value for our limited partnerships, as previously discussed.

Claims and Surrenders. The following table shows the primary claims and surrender benefits paid within the Life Insurance segment for the three and nine months ended September 30, 2022 compared to the same periods in 2021.

(In thousands)

During the three and nine months ended September 30, 2022 and 2021, the majority of our claims and surrender benefits in our Life Insurance segment were related to payment of surrender benefits and matured endowment benefits. Surrenders decreased 0.4% and 7.7% in the three and nine months ended September 30, 2022, respectively, as compared to the same prior year periods. We believe this improvement is due to the success of our retention programs aimed at curbing surrenders. Matured endowment benefits have generally been increasing but can fluctuate, which we expected due to the contractual timing of maturities. Death claims benefits decreased for the three and nine months ended September 30, 2022, as compared to the prior year periods. We believe that the COVID-19 pandemic contributed to high death claims in the 2021 period.

Increase in Future Policy Benefit Reserves. The change in future policy benefit reserves decreased 35.5% as a result of reserves released from higher matured endowment benefits offsetting increases in insurance issued and better persistency for the three months ended September 30, 2022, compared to the same period in 2021. The change in future policy benefit reserves increased 9.7% for the nine months ended September 30, 2022 compared to the same period in 2021 due to increases in insurance issued and improved persistency more than offset the release of reserves associated with higher matured endowment benefits. In addition, the change in future policy reserves for the nine months ended September 30, 2021 was lower due to an $0.8 million adjustment for the conversion of a small block of policies to our new actuarial valuation system during the second quarter of 2021.

Other General Expenses. General expenses increased in the three and nine months ended September 30, 2022 compared to the same periods in 2021 due primarily to expenses associated with our home office and expenses related to our convention and severance costs. We did not have a convention in 2021 due to the COVID-19 pandemic.

HOME SERVICE INSURANCE

We had a net loss before federal income tax expense in our Home Service Insurance segment which decreased by $3.4 million and $2.5 million in the three and nine months ended September 30, 2022, respectively, as compared to the prior year periods, driven by decreases in death claim benefits and fewer hurricane property claims, partially offset by investment related losses due to the changes in the fair value of our equity securities.

Detailed results of operations for the Home Service Insurance segment for the periods indicated are as follows:

(In thousands)

Premiums. Total premium revenue increased by 9.4% in the three months ended September 30, 2022 compared to the same period in 2021 due to the negative impact Hurricane Ida had on property premiums in 2021. We believe that our premium revenue is impacted by changes in our business mix as we continue the strategic transformation of this business and introduce new products, which are lower cost to policyholders than some of our legacy products. Premium revenue increased by 3.4% in the nine months ended September 30, 2022 compared to the same period in 2021. This increase is due to higher renewal premiums during the nine months ended September 30, 2022 as a result of collection efforts by our independent agents as well as the impact from a pricing increase on our property casualty business products and the change to property premiums due to the prior year impact of Hurricane Ida.

Claims and Surrenders. Claims and surrender benefits, which are the largest portion of our expenses in the Home Service Insurance segment, are summarized as follows:

(In thousands)

The majority of claims and surrender benefits in our Home Service Insurance segment relate to death claim benefits. Death claim benefits decreased 29.8% and 14.5% in the three and nine months ended September 30, 2022, respectively, compared to the same 2021 periods. The decrease in death claim benefits was due primarily to a lower volume of reported claims, including less COVID-19 related deaths. Mortality experience is closely monitored by the Company as a key performance indicator and fluctuates from quarter-to-quarter based on reported claims. Surrender benefits increased for the three and nine months ended September 30, 2022, compared to the same 2021 periods. We believe the impact of inflation and curtailment of COVID-19 relief government aid in 2022 is negatively impacting persistency. Property claims decreased due to no hurricanes impacting Louisiana in the 2022 periods.

Amortization of Deferred Policy Acquisition Costs. Amortization is impacted by persistency, surrenders, and new sales production and thus it may fluctuate from period to period depending on these factors. Amortization has increased for the three and nine months ended September 30, 2022, compared to the same 2021 periods from changes in persistency and higher surrenders as discussed above.

OTHER NON-INSURANCE ENTERPRISES

(In thousands)

This operating unit represents the administrative support entities to the insurance operations. Its revenues are primarily intercompany and have been eliminated in consolidation under U.S. GAAP, which typically results in a segment loss. Revenue in this operating unit consists primarily of net investment income and investment related gains or losses, while expenses consist of other general expenses related to corporate functions.

INVESTMENTS

Our investments are an integral part of our business success. Our cash and invested assets at September 30, 2022 were $1.3 billion, of which 86.9% was invested in fixed maturity securities, all of which are classified as available-for-sale. We closely monitor the duration of our fixed maturity investments, and investment purchases and sales are executed with the objective of having adequate funds available to satisfy our insurance obligations.

The following table shows the carrying value of our investments by investment category and cash, cash equivalents and the percentage of each to total cash and invested assets.

(In thousands, except for %)

(1) Includes $133.4 million and $158.6 million of securities guaranteed by third parties at September 30, 2022 and December 31, 2021, respectively.

(2) Includes $100.6 million and $133.7 million of U.S. Government-sponsored enterprises at September 30, 2022 and December 31, 2021, respectively.

The carrying value of the Company’s fixed maturity securities investment portfolio at September 30, 2022 was $1.2 billion compared to $1.5 billion at December 31, 2021. As discussed above, this decline reflects the impact of interest rate sensitivity on the fair value of our fixed maturity securities. The distribution of the credit ratings of our portfolio of fixed maturity securities by carrying value as of September 30, 2022 did not materially change from December 31, 2021 – the weighted average was “A” at both dates.

Cash and cash equivalents decreased as of September 30, 2022 from December 31, 2021 due primarily to the reinvestment of funds in higher interest rate securities.

Other long-term investments increased by $5.3 million as of September 30, 2022 from December 31, 2021 due to additional funding of our limited partnership investments.

Obligations of States and Political Subdivisions

The Company’s fixed maturity securities investment portfolio at September 30, 2022 and December 31, 2021 included $315.3 million and $384.0 million, respectively, of securities that are obligations of states and political subdivisions, including municipalities (collectively referred to as the municipal bond portfolio).

The Company's municipal bond portfolio includes third-party guarantees. Detailed below is a presentation by the Nationally Recognized Statistical Rating Organization ("NRSRO") rating of these holdings by funding type as of September 30, 2022.

(In thousands, except for %)

The table below shows the categories in which the Company held investments in special revenue bonds that were greater than 10% of fair value based upon the Company's total municipal bond portfolio at September 30, 2022.

(In thousands)

The Company's municipal bond portfolio is spread across many states, however, municipal bonds from Texas and California comprise the most significant concentration of the total municipal bond portfolio as of September 30, 2022. The Company holds 21.1% and 12.8% of its municipal bond portfolio in Texas and California issuers, respectively, as of September 30, 2022. There were no other states or individual issuer holdings that represented or exceeded 10% of the total municipal bond portfolio as of September 30, 2022.

The table below represents the Company's detailed exposure to municipal bonds in Texas at September 30, 2022.

(In thousands)

Texas state and political subdivision fixed maturity securities including third-party guarantees

The table below represents the Company's detailed exposure to municipal bonds in California at September 30, 2022.

(In thousands)

California state and political subdivision fixed maturity securities including third-party guarantees

IMPAIRMENT CONSIDERATIONS RELATED TO INVESTMENTS IN FIXED MATURITY AND EQUITY SECURITIES

The Company did not record any credit valuation allowances on fixed maturity securities in either of the three and nine months ended September 30, 2022 or 2021.

Information on both unrealized and realized gains and losses by category is set forth in Part I, Item 1, Note 5. Investments of the notes to our consolidated financial statements herein.

LIQUIDITY AND CAPITAL RESOURCES

Below are our primary capital resources (based on carrying value of each) as of the periods indicated.

(In thousands)

Liquidity refers to a company's ability to generate sufficient cash flows to meet the needs of its operations. We manage our insurance operations as described herein in order to ensure that we have stable and reliable sources of cash flow to meet our obligations. We currently anticipate meeting our short-term and long-term cash needs with cash generated by our insurance operations and from our invested assets. At September 30, 2022, we had $21.0 million in cash and cash equivalents and $1.3 billion in invested assets. As described above, cash and cash equivalents decreased as of September 30, 2022 from December 31, 2021 due primarily to the reinvestment of funds in higher interest rate securities and the decline in the fair value of our fixed maturity securities is due to rising interest rates. As discussed in Part I, Item 1. Note 5. Investments in the notes to our consolidated financial statements herein, we expect the fair value to recover as the securities approach maturity. We have recorded a $0.1 million unrealized gain on securities due in one year or less. From time-to-time, we may raise capital by selling shares in our SIP (as defined below) and we may also access our Credit Facility if needed (also as described below).

PARENT COMPANY LIQUIDITY AND CAPITAL RESOURCES

Citizens is a holding company and has minimal operations of its own. Our assets consist of the capital stock of our subsidiaries, cash and investments. Our liquidity requirements are met primarily from two sources: cash generated from our operating subsidiaries and our invested assets. Our ability to obtain cash from our insurance subsidiaries depends primarily upon the availability of statutorily permissible payments, including payments Citizens receives from service agreements with our insurance subsidiaries and dividends from the subsidiaries. The ability to make payments to the holding company is limited by applicable laws and regulations of Bermuda and U.S. states of domicile which subject insurance operations to significant regulatory restrictions. These laws and regulations require, among other things, that our insurance subsidiaries maintain minimum solvency requirements, which limit the amount of dividends that can be paid to the holding company. The regulations also require approval of our service agreements with the applicable regulatory authority in order to prevent insurance subsidiaries from moving large amounts of cash to the unregulated holding company.

In addition to the above-mentioned sources of cash, we offer a Stock Investment Plan ("SIP"), whereby investors, policyholders, independent contractors and agents, employees and directors can directly purchase our stock. At our option, purchases of stock under the SIP can be made from newly issued or treasury stock, rather than in the open market, in which case, we can raise capital by selling our shares.

In 2021, we entered into a Credit Facility with Regions Bank. See Part I, Item 1, Note 7. Commitments and Contingencies in the notes to our consolidated financial statements, herein, for a description of the Credit Facility. The Credit Facility provides additional liquidity to the Company for short-term and longer-term needs. As of September 30, 2022, we have not borrowed any money under the Credit Facility and have no immediate plans to do so.

INSURANCE COMPANY SUBSIDIARY LIQUIDITY AND CAPITAL RESOURCES

The liquidity requirements of our insurance operations are primarily met by premium revenues, investment income and investment maturities or sales. Primary cash needs relate to payments of policyholder benefits, investment purchases and operating expenses. Historically, cash flow from our operations has been sufficient to meet our cash needs. We have not had to liquidate a material amount of investments to pay our expenses and we did not do so in the nine months ended September 30, 2022. We believe that we have adequate capital resources to support the liquidity requirements of our insurance operations if the cash flow from our insurance operations is insufficient to meet our cash needs. See Contractual Obligations and Off-balance Sheet Arrangements in our Form 10-K and below for a discussion of known and estimated cash needs.

Cash from Operating Activities. Cash provided by or used in operating activities is an important liquidity metric because it reflects, during a given period, the amount of cash generated that is available to pay our operating expenses or make strategic acquisitions. In the nine months ended September 30, 2022, our operations provided $39.8 million in net cash.

Cash from Investing Activities. We have traditionally also had significant cash flows from investing activities due to both scheduled and unscheduled investment security maturities, redemptions, and prepayments. These cash flows, for the most part, are reinvested in new investments. Net cash used in investing activities totaled $46.1 million for the nine months ended September 30, 2022. Due to the higher interest rate environment, we purchased $102.3 million in fixed maturity securities and we also used $18.2 million to purchase other long-term investments. Our investing activities fluctuate from period to period due to timing of securities activities such as calls and maturities and reinvestment of those funds.

Trends, Demands and Restrictions on our Uses of Cash

Because claims and surrender benefits are our largest expense, a primary liquidity concern is the risk of either (i) an extraordinary level of early policyholder surrenders, or (ii) higher than expected mortality. In order to mitigate the risk of early policyholder surrenders, we include provisions in our insurance policies, such as surrender charges, that help limit and discourage early withdrawals. As previously discussed, surrender benefits had been higher than usual the last several years as many of our policies have reached the age where surrender charges have expired and due to other reasons, like the loss of one of our biggest distributors in Venezuela. However, we have been aggressively managing policyholder retention efforts and in the nine months ended September 30, 2022, surrender benefits slightly decreased.

Our whole life and endowment products provide the policyholder with alternatives once the policy matures - they can choose to take a lump sum payout or leave the money on deposit at interest with the Company. As of September 30, 2022, 39% of the Company's total insurance in force was in endowment products. Approximately 12% of the endowments in force will mature in the next five years. Policyholder election behavior is unknown, but if too many policyholders elect lump sum distributions, the Company could be exposed to liquidity risk in years of high maturities. Meeting these distributions could require the Company to sell securities at inopportune times to pay policyholder withdrawals. Alternatively, if the policyholders were to leave the money on deposit with the Company at interest, our profitability could be impacted if the product guaranteed rate is higher than the market rate we are earning on our investments. We currently anticipate that our available operating cash flow and capital resources will be adequate to meet our needs for funds, but we will monitor closely our policyholder behavior patterns.

Death claims, which were high in 2021 due in part to COVID, have decreased to pre-pandemic levels during the first nine months of 2022. We continue to closely monitor claim volumes to evaluate whether there is a delay in reporting or filing for benefits as a result of the COVID-19 pandemic.

As discussed above, we are subject to regulatory capital requirements that could affect the Company’s ability to access capital from our insurance operations or cause the Company to have to put additional cash in our wholly-owned subsidiaries.

Our domestic companies are subject to minimum capital requirements set by the NAIC in the form of risk-based capital ("RBC"). RBC considers the type of business written by an insurance company, the quality of its assets, and various other aspects of an insurance company's business to develop a minimum level of capital called "Authorized Control Level Risk-Based Capital". This level of capital is then compared to an adjusted statutory capital that includes capital and surplus as reported under statutory accounting principles, plus certain investment reserves. Should the ratio of adjusted statutory capital to control level RBC fall below 200% for our domestic companies, a series of remedial actions by the affected company would be required. Additionally, we have a parental guarantee between Citizens and CICA, Citizens' wholly-owned subsidiary domiciled in Colorado, to maintain a RBC level above 350%. At September 30, 2022, our domestic insurance subsidiaries were above the required minimum RBC levels.

CICA International is a Bermuda domiciled company. The BMA requires Bermuda insurers to maintain available statutory economic capital and surplus at a level equal to or in excess of the BMA's Enhanced Capital Requirement, which requires a certain Target Capital Level ("TCL"). Due to the rapidly rising interest rates that caused the increase in our unrealized losses reported in Other Comprehensive Income (Loss), CICA International fell below the required long-term business minimum solvency margin at September 30, 2022. As the Bermuda Insurance Act of 1978 permits, we have requested a modification under Section 6C Act to remove the impact of the unrealized gains or losses from the minimum solvency margin requirement. The BMA is currently evaluating our request and has not taken any action with respect to this matter. At the request of the BMA, on April 15, 2021, Citizens and CICA International entered into a Keep Well Agreement. The Keep Well Agreement requires Citizens to contribute up to $10 million in capital to CICA International as necessary to ensure that CICA International has a minimum capital level of 120%. Since CICA International’s capital level currently exceeds 120%, Citizens is not currently required to make a capital contribution. Any capital injection that Citizens is required to make under the parental guarantee with CICA or under the Keep Well Agreement with CICA International could negatively impact the Company’s capital resources and liquidity.

CONTRACTUAL OBLIGATIONS AND OFF-BALANCE SHEET ARRANGEMENTS

As of September 30, 2022, we have no additional contractual obligations or off-balance sheet arrangements other than those described in Part I. Item 1, Note 7. Commitments and Contingencies in the notes to our consolidated financial statements herein and in Part II, Item 7, Contractual Obligations and Off-Balance Sheet Arrangements in our Form 10-K. We do not utilize special purpose entities as investment vehicles, nor are there any such entities in which we have an investment that engage in speculative activities of any nature, and we do not use such investments to hedge our investment positions.

CRITICAL ACCOUNTING POLICIES

We believe that the accounting policies set forth in Part I, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations - "Critical Accounting Policies" and Part IV, Item 15, Note 1. Summary of Significant Accounting Policies of our consolidated financial statements in our Form 10-K continue to describe the significant judgments and estimates used in the preparation of our consolidated financial statements.

CITIZENS, INC.

GENERAL

For the Company’s disclosures about market risk, please see Part II, Item 7A, Quantitative and Qualitative Disclosures About Market Risk in our Form 10-K. Except as set forth below, there have been no material changes to the Company’s disclosures about market risk in Part II, Item 7A. of our Form 10-K. For additional information regarding market risks to which we are subject, see Part I, Item 1, Note 5. Investments - "Valuation of Investments" in the notes to our consolidated financial statements herein.

MARKET RISK RELATED TO INTEREST RATES

Our exposure to interest rate changes results from our significant holdings of fixed maturity investments, which comprised 86.9% of our investment portfolio based on carrying value as of September 30, 2022. These investments are mainly exposed to changes in U.S. Treasury rates. Changes in interest rates typically have a sizable effect on the fair values of our fixed maturity securities. The interest rate of the ten-year U.S. Treasury bond increased to 3.83% at September 30, 2022 from 1.52% at December 31, 2021. Net unrealized losses on fixed maturity securities totaled $213.7 million at September 30, 2022, compared to net unrealized gains of $126.9 million at December 31, 2021, based upon bond interest rates in relation to the ten-year U.S. Treasury yield.

To manage interest risk, we perform periodic projections of asset and liability cash flows to evaluate the potential sensitivity of our investments and liabilities. We assess interest rate sensitivity annually with respect to our AFS fixed maturity security investments using hypothetical test scenarios that assume either upward or downward shifts in the prevailing interest rates. The changes in fair values of our fixed maturity securities as of September 30, 2022 were within the expected range of this analysis.

All of the Company's fixed maturity securities were classified as AFS at September 30, 2022. At September 30, 2022 and December 31, 2021, there were no fixed maturity securities or other investments classified as trading instruments nor were there any investments held in derivative instruments or subprime loans.

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) that are designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial officer, to allow timely decisions regarding required disclosures.

Our management, including our principal executive officer and principal financial officer, evaluated the effectiveness of our disclosure controls and procedures pursuant to Rules 13a-15(e) and 15d-15(e) under the Exchange Act as of September 30, 2022. Based on such evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of September 30, 2022 to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC and such information is accumulated and reported to management, including our principal executive and financial officers, as appropriate to allow timely decisions regarding disclosure.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

During the nine months ended September 30, 2022, there were no changes in the Company's internal control over financial reporting (as defined in rules 13a-15(f) and 15d-15(f) under the Exchange Act) that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

CITIZENS, INC.

Part I, Item 1A, Risk Factors of our Form 10-K includes a discussion of our risk factors. There have been no material changes in the three and nine months ended September 30, 2022 from the risk factors included in our Form 10-K.