CITIZENS, INC. 10-Q

Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 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. These forward-looking statements are subject to a number of risks, uncertainties and assumptions including those factors discussed in the "Risk Factors" contained in our Annual Report on Form 10-K for the year ended December 31, 2022, which are incorporated herein by reference. 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 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 almost 50 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 32 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, 2022 to March 31, 2023 and the material changes in our results of operations for the three months ended March 31, 2023 as compared to the same period in 2022. We also discuss in the MD&A any trends that we believe may materially affect our future operations or financial condition. Prior year amounts have been revised to reflect the implementation ASU 2018-12 as noted in Part I, Item 1, Note 1. Financial Statements - " Significant Accounting Policies " and Note 2. Accounting Pronouncements in the notes to our consolidated financial statements. March 31, 2023 | 10-Q 41 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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 • 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. Our total first year premiums increased by 24% due primarily to a new whole life product that was introduced last year in our international markets, as well as focused marketing campaigns across both of our insurance segments. Our total renewal premium revenues decreased in the three months ended March 31, 2023 compared to the prior year period primarily due to impact from a higher level of surrenders during the last few years and from matured endowment benefits, which we expected due to contractual expiration dates. Our net investment income increased for the three months ended March 31, 2023 compared to the same prior year period due to the higher interest rate environment and investment income from our limited partnerships. March 31, 2023 | 10-Q 42 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS Payment of policyholder benefits for claims and surrenders is our largest expense and thus also key to our profitability. In the three months ended March 31, 2023, our death claim benefits decreased compared to the prior year period due to a lower number of reported death claims. Our surrenders were flat in the three months ended March 31, 2023, compared to the prior year period. As expected, matured endowments increased as many of our endowment policies are reaching their contractual maturity dates. Operating expenses are our second largest expense and thus also drive our operating results. Our general operating expenses for the three months ended March 31, 2023 increased slightly compared to the prior year period. FINANCIAL HIGHLIGHTS Our net income was $4.9 million for the three months ended March 31, 2023 compared to net income of $6.4 million in the prior year period. The decline in net income is primarily driven by lower renewal year premiums, higher federal income tax expense and higher insurance benefits paid or provided, which is partially offset by higher net investment income and lower investment related losses. Our net income per share of Class A common stock was $0.10 for the three months ended March 31, 2023 compared to $0.13 in prior year period. March 31, 2023 | 10-Q 43 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS Consolidated Revenue Highlights Insurance premiums and investment income are our primary sources of revenue. Collectively, insurance premiums and investment income were flat in the three months ended March 31, 2023 as compared to the same period in 2022. • Insurance premiums decreased by $1.1 million, or 2.8%. While first year premiums increased this was more than offset by a decline in renewal year premiums. • Net investment income increased by $1.6 million, or 10.2% 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 March 31, 2023 compared to the same period in 2022, total benefits and expenses increased by $1.0 million. • Claims and surrender benefits increased $1.9 million due primarily to increased matured endowment benefits partially offset by lower death claim benefits. • Increase in future policy benefits reserves decreased $1.1 million due to the impact of reserves released from higher matured endowment benefits partially offset by increases in our in force block of business. Financial Condition at March 31, 2023 • Total assets of $1.6 billion • Total investments of $1.4 billion; fixed maturity securities comprised 88.2% of total investments • $4.8 billion of direct insurance in force • No debt • Fully diluted income per share of Class A common stock of $0.10 IMPACT OF INFLATION AND RISING INTEREST RATES The impact of inflation, which has led to market volatility and rising interest rates, has affected the fair value of our equity securities, leading to investment related losses. Investment related gains and losses can cause significant fluctuations from period to period and are not indicative of our operating results. We believe that investment related gains and losses, whether realized from dispositions or unrealized from changes in market prices of equity securities, have no bearing in understanding our reported results or in evaluating the economic performance of our business. These gains and losses have caused and will continue to cause significant volatility in our periodic earnings. In addition, interest rates rose significantly in 2022 after being ultra-low for almost a decade. 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 we strive to match our asset duration to our liability duration, the vast majority of our total investments are invested in longer-term fixed maturity securities. We reported pre-tax net unrealized losses of $158.2 million on our available-for-sale securities at March 31, 2023. This compares to pre-tax net unrealized losses of $201.7 million at December 31, 2022, with the year-over-year change primarily driven by market interest rates. 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. March 31, 2023 | 10-Q 44 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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. Three Months Ended March 31, 2023 2022 Amount of Insurance Issued Number of Policies Issued Average Policy Face Amount Issued Amount of Insurance Issued Number of Policies Issued Average Policy Face Amount Issued Ordinary Life Policies: Life Insurance $ 83,892,034 902 $ 93,007 $ 42,524,454 633 $ 67,179 Home Service Insurance 86,437,227 6,524 13,249 54,823,369 5,431 10,095 Total $ 170,329,261 7,426 $ 97,347,823 6,064 As we previously disclosed, our strategic initiatives include the introduction of new products tailored to our specific markets. These new products helped drive the 75% increase in total insurance issued in the three months ended March 31, 2023, from $97.3 million in the first three months of 2022 to $170.3 million in 2023. The increase in total insurance issued was driven by an increase in total number of policies issued and higher average policy face amounts 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 72% of total insurance issued in this segment for the three months ended March 31, 2023. 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. March 31, 2023 | 10-Q 45 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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. Three Months Ended March 31, (In thousands) 2023 2022 Revenues: Premiums: Life insurance $ 36,934 37,746 Accident and health insurance 358 286 Property insurance 957 1,332 Net investment income 17,074 15,487 Investment related gains (losses), net (288) (582) Other income 879 1,088 Total revenues $ 55,914 55,357 Premium Income. Total life insurance premium revenues decreased $0.8 million for the three months ended March 31, 2023 compared to the same period in 2022 primarily driven by lower renewal premiums. Property insurance premiums were impacted by an increase in premiums paid for catastrophic reinsurance coverage. Net Investment Income. A summary of our net investment income and annualized net investment income performance are summarized as follows: Three Months Ended March 31, (In thousands, except for %) 2023 2022 Gross investment income: Fixed maturity securities $ 14,945 13,883 Equity securities 165 151 Policy loans 1,539 1,589 Long-term investments 921 523 Other investment income 124 21 Total investment income 17,694 16,167 Investment expenses (620) (680) Net investment income $ 17,074 15,487 Net investment income, annualized $ 68,297 61,948 Average invested assets, at amortized cost $ 1,519,149 1,473,240 Annualized yield on average invested assets 4.50 % 4.20 % March 31, 2023 | 10-Q 46 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS Income from our fixed maturity securities constitutes the vast majority of our net investment income, as they comprise 88.2% of our investment portfolio based on fair value. Our total investment income increased by 9.4% for the three months ended March 31, 2023 compared to the same period in 2022, primarily due to a higher average portfolio yield on our fixed maturity securities in the current period. Long-term investment income increased as our private equity investment asset base grew. Our yield increased 30 basis points to 4.50% in the first three months of 2023 compared to the prior year period due to the rising interest rate environment. Investment Related Gains (Losses), Net. We recorded investment related losses during the three months ended March 31, 2023 of $0.3 million compared to $0.6 million during the same prior year period. The losses are primarily related to the fair value change of our limited partnership and equity security investments resulting from the inflationary environment and volatility in equity markets. We did not sell these investments as 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. 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. BENEFITS AND EXPENSES Three Months Ended March 31, (In thousands) 2023 2022 Benefits and expenses: Insurance benefits paid or provided: Claims and surrenders $ 30,299 28,434 Increase (decrease) in future policy benefit reserves (978) 114 Policyholder liability remeasurement (gain) loss 880 668 Policyholders' dividends 1,108 1,353 Total insurance benefits paid or provided 31,309 30,569 Commissions 9,013 7,673 Other general expenses 11,260 11,030 Capitalization of deferred policy acquisition costs (6,358) (4,781) Amortization of deferred policy acquisition costs 3,814 3,559 Amortization of cost of insurance acquired 161 129 Total benefits and expenses $ 49,199 48,179 Claims and surrenders benefits and other general expenses are our primary expenses. Total benefits and expenses increased in the three months ended March 31, 2023 as compared to same period in 2022. March 31, 2023 | 10-Q 47 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS Claims and Surrenders. Three Months Ended March 31, (In thousands) 2023 2022 Claims and Surrenders: Death claim benefits $ 5,382 7,017 Surrender benefits 12,316 12,259 Endowment benefits 2,109 2,134 Matured endowment benefits 8,765 6,134 Property claims 342 142 A&H and other policy benefits 1,385 748 Total claims and surrenders $ 30,299 28,434 Death claim benefits decreased 23.3% for the three months ended March 31, 2023 compared to the same period in 2022 due primarily to a lower volume of reported death claims. Matured endowment benefits increased 42.9% for the three months ended March 31, 2023 compared to the same period in 2022. We anticipated this increase based upon the contractual maturity dates of the policies. Explanation of other benefits and expenses Increase (Decrease) 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. In the three months ended March 31, 2023, the change in future policy benefit reserves decreased compared to the same prior year period due to the impact of reserves released from higher matured endowment benefits despite increases in insurance issued and increases in our in force block of business policy benefit reserves. 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. As discussed above, in the three months ended March 31, 2023, we experienced a 24% increase in first year sales leading to an increase in commissions related expenses. 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 on a constant level basis for the grouped contracts over the expected term of the related contracts to approximate straight-line amortization. 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 March 31, 2023 | 10-Q 48 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS presented below to properly reconcile the segment information with the consolidated financial statements of the Company. The following table sets forth income (loss) before federal income taxes by segment during the periods indicated. Three Months Ended March 31, (In thousands) 2023 2022 Income (loss) before federal income tax expense: Segments: Life Insurance $ 6,372 5,864 Home Service Insurance 1,333 2,078 Total segments 7,705 7,942 Other Non-Insurance enterprises (990) (764) Total income (loss) before federal income tax expense $ 6,715 7,178 LIFE INSURANCE Detailed results of operations for the Life Insurance segment for the periods indicated are as follows: Three Months Ended March 31, (In thousands) 2023 2022 Revenues: Premiums $ 26,207 26,931 Net investment income 13,311 11,971 Investment related gains (losses), net (437) (293) Other income 879 1,088 Total revenues 39,960 39,697 Benefits and expenses: Insurance benefits paid or provided: Claims and surrenders 24,439 21,458 Increase (decrease) in future policy benefit reserves (1,820) 1,376 Policyholder liability remeasurement (gain) loss 816 414 Policyholders' dividends 1,101 1,350 Total insurance benefits paid or provided 24,536 24,598 Commissions 4,759 3,806 Other general expenses 5,459 5,691 Capitalization of deferred policy acquisition costs (4,360) (3,306) Amortization of deferred policy acquisition costs 3,162 3,020 Amortization of cost of insurance acquired 32 24 Total benefits and expenses 33,588 33,833 Income (loss) before federal income tax expense $ 6,372 5,864 March 31, 2023 | 10-Q 49 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS In our Life Insurance segment we reported income before federal income tax of $6.4 million in the three months ended March 31, 2023 as compared to income of $5.9 million in the prior year period primarily driven by higher net investment income, partially offset by lower renewal year premiums. Life Insurance segment premium breakout is detailed below. Three Months Ended March 31, (In thousands) 2023 2022 Premiums: First year $ 2,594 1,987 Renewal 23,613 24,944 Total premiums $ 26,207 26,931 Premiums. First year premiums increased 30.5% for three months ended March 31, 2023 compared to the same period in 2022, which we believe is due to sales campaigns and our new international whole life product, which launched in March 2022. Our total premiums for three months ended March 31, 2023 decreased 2.7% compared to the same period in 2022. We derive most of our premium revenue in the Life Insurance segment from renewal premiums, which decreased 5.3% in the three months ended March 31, 2023 as compared to the same period in 2022. International Life Insurance Premiums. Life insurance premiums are generated largely from our international policyholders from more than 70 different countries across the globe. The majority of our international premiums are derived from whole life and endowment products. The following table sets forth our premiums collected from the top five countries of our international life insurance business for the three months ended March 31, 2023 and 2022. Three Months Ended March 31, (In thousands) 2023 2022 Country: Colombia $ 6,057 6,030 Taiwan 5,302 4,923 Venezuela 3,722 4,090 Ecuador 3,246 3,026 Argentina 2,184 1,861 Other Non-U.S. 8,841 8,933 Total $ 29,352 28,863 Domestic Life Insurance Premiums. Domestic premiums in our Life Insurance segment remained consistent in the three months ended March 31, 2023 compared to the same prior year period. Our domestic in force business results primarily from receipt of renewal premiums from blocks of business of various insurance companies we have acquired over the years as we ceased selling ordinary life in 2017. We currently offer whole life, credit life, credit disability and critical illness products domestically. Net Investment Income . Our net investment income increased by 11.2% for the three months ended March 31, 2023 compared to the same period in 2022 due to our higher average portfolio yield. The majority of investment income is derived from fixed maturity securities; however, long-term investment income continued to increase as our limited partnership asset base grew. March 31, 2023 | 10-Q 50 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS Investment Related Gains (Losses), Net. We recorded investment related losses of $0.4 million during the three months ended March 31, 2023 compared to investment related losses of $0.3 million during the same prior year period resulting from the change in estimated fair market value for our limited partnerships, as previously discussed. Claims and Surrenders. The following table sets forth our primary claims and surrender benefits paid within our Life Insurance segment for the three months ended March 31, 2023 compared to the same period in 2022. Three Months Ended March 31, (In thousands) 2023 2022 Claims and Surrenders: Death claim benefits $ 748 990 Surrender benefits 11,628 11,637 Endowment benefits 2,108 2,129 Matured endowment benefits 8,620 6,007 A&H and other policy benefits 1,335 695 Total claims and surrenders $ 24,439 21,458 During the three months ended March 31, 2023 and 2022, the majority of our claims and surrender benefits in our Life Insurance segment were related to payment of surrender benefits and matured endowment benefits. Many of our endowment policies are reaching their contractual maturity dates and thus matured endowment benefits are increasing. Death claims benefits decreased for the three months ended March 31, 2023 compared to the prior year period. Mortality experience is closely monitored by the Company as a key performance indicator and these amounts were within expected levels. Increase (Decrease) in Future Policy Benefit Reserves. The change in future policy benefit reserves decreased as a result of reserves released from higher matured endowment benefits which is offset by increases in our in force block of business for the three months ended March 31, 2023 compared to the same period in 2022. March 31, 2023 | 10-Q 51 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS HOME SERVICE INSURANCE Detailed results of operations for the Home Service Insurance segment for the periods indicated are as follows: Three Months Ended March 31, (In thousands) 2023 2022 Revenues: Premiums $ 12,042 12,433 Net investment income 3,470 3,244 Investment related gains (losses), net 99 (242) Total revenues 15,611 15,435 Benefits and expenses: Insurance benefits paid or provided: Claims and surrenders 5,860 6,976 Increase (decrease) in future policy benefit reserves 842 (1,262) Policyholder liability remeasurement (gain) loss 64 254 Policyholders' dividends 7 3 Total insurance benefits paid or provided 6,773 5,971 Commissions 4,254 3,867 Other general expenses 4,468 4,350 Capitalization of deferred policy acquisition costs (1,998) (1,475) Amortization of deferred policy acquisition costs 652 539 Amortization of cost of insurance acquired 129 105 Total benefits and expenses 14,278 13,357 Income before federal income tax expense $ 1,333 2,078 In our Home Service Insurance segment we reported income before federal income tax of $1.3 million in the three months ended March 31, 2023 as compared to income of $2.1 million in the prior year period. This decrease is primarily driven by an increase in catastrophic reinsurance costs and higher total insurance benefits paid or provided partially offset by investment related gains due to the changes in the fair value of our equity securities. Premiums. Total premium revenue declined by 3.1% in the three months ended March 31, 2023 compared to the same period in 2022 despite an increase of 15.1% in first year premiums for three months ended March 31, 2023 compared to the same period in 2022. The decline in premium was attributed to lower property insurance premiums from an increase in catastrophic reinsurance costs and lower life insurance renewal year premiums. March 31, 2023 | 10-Q 52 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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: Three Months Ended March 31, (In thousands) 2023 2022 Claims and Surrenders: Death claim benefits $ 4,634 6,027 Surrender benefits 688 622 Endowment benefits 1 5 Matured endowment benefits 145 127 Property claims 342 142 A&H and other policy benefits 50 53 Total claims and surrenders $ 5,860 6,976 The majority of claims and surrender benefits in our Home Service Insurance segment relate to death claim benefits. Death claim benefits decreased 23.1% in the three months ended March 31, 2023 compared to the same 2022 period. The decrease in death claim benefits was due primarily to a lower volume of reported claims. Mortality experience is closely monitored by the Company as a key performance indicator and fluctuates from quarter-to-quarter based on reported claims. Increase in Future Policy Benefit Reserves. The change in future policy benefit reserves increased as a result of increases in insurance issued and lower total death claim benefits for the three months ended March 31, 2023 compared to the same period in 2022. OTHER NON-INSURANCE ENTERPRISES Three Months Ended March 31, (In thousands) 2023 2022 Income (loss) before income tax expense $ (990) (764) 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 March 31, 2023 were $1.4 billion, of which 87.0% 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. March 31, 2023 | 10-Q 53 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS The following table sets forth the carrying value of our investments by investment category and cash, cash equivalents and the percentage of each to total cash and invested assets. Carrying Value March 31, 2023 December 31, 2022 (In thousands, except for %) Amount % Amount % Cash, Cash Equivalents and Invested Assets Fixed maturity securities: U.S. Treasury and U.S. Government-sponsored enterprises $ 9,688 0.7 % $ 13,278 1.0 % Corporate 758,974 53.7 % 715,645 52.5 % States and political subdivisions (1) 308,580 21.8 % 307,358 22.5 % Mortgage-backed (2) 103,071 7.3 % 99,995 7.3 % Asset-backed 49,277 3.5 % 43,242 3.2 % Foreign governments 101 — % 101 — % Total fixed maturity securities 1,229,691 87.0 % 1,179,619 86.5 % Short-term investments 1,244 0.1 % 1,241 0.1 % Cash and cash equivalents 18,924 1.4 % 22,973 1.7 % Other investments: Policy loans 78,659 5.6 % 78,773 5.8 % Equity securities 11,899 0.8 % 11,590 0.8 % Other long-term investments 72,254 5.1 % 69,558 5.1 % Total cash, cash equivalents and invested assets $ 1,412,671 100.0 % $ 1,363,754 100.0 % (1) Includes $128.5 million and $133.2 million of securities guaranteed by third parties at March 31, 2023 and December 31, 2022, respectively. (2) Includes $102.7 million and $98.8 million of U.S. Government-sponsored enterprises at March 31, 2023 and December 31, 2022, respectively. The carrying value of the Company’s fixed maturity securities investment portfolio at March 31, 2023 was $1.23 billion compared to $1.18 billion at December 31, 2022. As discussed above, this increase 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 March 31, 2023 did not materially change from December 31, 2022 – the weighted average was “A” at both dates. Cash and cash equivalents decreased as of March 31, 2023 from December 31, 2022 and can fluctuate from period to period primarily due to the timing from operating and investing activities. Other long-term investments increased by $2.7 million as of March 31, 2023 from December 31, 2022 due to additional funding of our limited partnership investments. Obligations of States and Political Subdivisions The Company’s fixed maturity securities investment portfolio at March 31, 2023 and December 31, 2022 included $308.6 million and $307.4 million, respectively, of securities that are obligations of states and political subdivisions, including municipalities (collectively referred to as the municipal bond portfolio). March 31, 2023 | 10-Q 54 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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 March 31, 2023. General Obligation Special Revenue Other Total % Based on Amortized Cost (In thousands, except for %) Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost State and political subdivision fixed maturity securities including third-party guarantees AAA $ 14,073 13,949 6,494 6,584 — — 20,567 20,533 6.1 % AA 48,733 48,641 114,841 130,002 10,714 11,090 174,288 189,733 56.7 % A 5,956 6,252 88,770 97,907 4,474 4,403 99,200 108,562 32.4 % BBB 626 656 8,295 9,501 1,375 1,450 10,296 11,607 3.5 % BB and other 2,963 3,185 1,266 1,267 — — 4,229 4,452 1.3 % Total $ 72,351 72,683 219,666 245,261 16,563 16,943 308,580 334,887 100.0 % State and political subdivision fixed maturity securities excluding third-party guarantees AA $ 34,169 34,123 39,052 42,762 6,597 6,505 79,818 83,390 24.9 % A 16,823 17,178 121,766 136,950 6,952 7,133 145,541 161,261 48.2 % BBB 2,568 2,561 27,060 30,101 1,639 1,855 31,267 34,517 10.3 % BB and other 18,791 18,821 31,788 35,448 1,375 1,450 51,954 55,719 16.6 % Total $ 72,351 72,683 219,666 245,261 16,563 16,943 308,580 334,887 100.0 % 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 March 31, 2023. (In thousands) Fair Value Amortized Cost % of Total Fair Value Education $ 48,486 54,317 15.7 % Utilities 46,416 49,303 15.0 % Transportation 38,239 44,661 12.4 % 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 March 31, 2023. The Company holds 21.7% and 14.3% of its municipal bond portfolio in Texas and California issuers, respectively, as of March 31, 2023. There were no other states or individual issuer holdings that represented or exceeded 10% of the total municipal bond portfolio as of March 31, 2023. March 31, 2023 | 10-Q 55 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS The table below represents the Company's detailed exposure to municipal bonds in Texas at March 31, 2023. General Obligation Special Revenue Other Total (In thousands) Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost Texas state and political subdivision fixed maturity securities including third-party guarantees AAA $ 13,564 13,442 3,060 3,055 — — 16,624 16,497 AA 17,572 17,549 14,730 16,302 — — 32,302 33,851 A — — 17,458 22,195 — — 17,458 22,195 BB and other — — 500 501 — — 500 501 Total $ 31,136 30,991 35,748 42,053 — — 66,884 73,044 Texas state and political subdivision fixed maturity securities excluding third-party guarantees AA $ 25,137 24,997 3,002 2,982 — — 28,139 27,979 A 4,860 4,852 26,978 32,867 — — 31,838 37,719 BBB 1,139 1,142 3,274 3,421 — — 4,413 4,563 BB and other — — 2,494 2,783 — — 2,494 2,783 Total $ 31,136 30,991 35,748 42,053 — — 66,884 73,044 The table below represents the Company's detailed exposure to municipal bonds in California at March 31, 2023. General Obligation Special Revenue Other Total (In thousands) Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost Fair Value Amortized Cost California state and political subdivision fixed maturity securities including third-party guarantees AA $ 1,965 2,036 30,221 35,601 2,478 2,731 34,664 40,368 A 1,306 1,650 7,208 8,924 — — 8,514 10,574 BBB — — 866 865 — — 866 865 Total $ 3,271 3,686 38,295 45,390 2,478 2,731 44,044 51,807 California state and political subdivision fixed maturity securities excluding third-party guarantees AA $ 464 445 4,691 5,447 — — 5,155 5,892 A 2,807 3,241 15,766 18,971 2,478 2,731 21,051 24,943 BBB — — 3,713 3,929 — — 3,713 3,929 BB and other — — 14,125 17,043 — — 14,125 17,043 Total $ 3,271 3,686 38,295 45,390 2,478 2,731 44,044 51,807 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 months ended March 31, 2023 or 2022. Information on both unrealized and realized gains and losses by category is set forth in Part I, Item 1, Note 3. Investments of the notes to our consolidated financial statements herein. March 31, 2023 | 10-Q 56 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS LIQUIDITY AND CAPITAL RESOURCES Below are our primary capital resources (based on carrying value of each) as of the periods indicated. (In thousands) March 31, 2023 December 31, 2022 Fixed maturity securities $ 1,229,691 1,179,619 Cash and cash equivalents 18,924 22,973 Liquidity refers to a company's ability to generate sufficient cash flows to meet the needs of its operations. In the three months ended March 31, 2023 our operations resulted in $7.4 million in net cash. 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. 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, Puerto Rico 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 March 31, 2023, 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 three months ended March 31, 2023. 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 flow projections and cash flow tests under various market interest rate scenarios are performed annually to assist in evaluating liquidity needs and adequacy. March 31, 2023 | 10-Q 57 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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, invest in our business or make strategic acquisitions. In the three months ended March 31, 2023, our operations provided $7.4 million in net cash. Cash from Investing Activities. We have traditionally also had significant cash flows from both scheduled and unscheduled investment security maturities, redemptions, and prepayments. These cash flows, for the most part, are reinvested in fixed income securities and to a lesser extent limited partnerships or other alternative investments. Net cash outflows from investing activities totaled $11.0 million for the three months ended March 31, 2023. The investing activities fluctuate from period to period due to timing of securities activities such as calls and maturities and reinvestment of those funds. We purchased $25.1 million in fixed maturity securities and we also used $3.5 million to purchase other long-term investments. 87% of our total cash, cash equivalents and investments consist of marketable fixed maturity securities classified as available-for-sale that could be readily converted to cash for liquidity needs. Trends, Demands and Restrictions on our Uses of Cash Because claims and surrenders 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 experience. 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 three months ended March 31, 2023, surrender benefits have leveled. To the extent that early surrenders are higher than expected, our liquidity could be negatively impacted. We continue to monitor surrenders and early withdrawals. Our 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 March 31, 2023, 37% of the Company's total insurance in force was in endowment products. Approximately 17% 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 its investments 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. 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 March 31, 2023, our domestic insurance subsidiaries were above the required minimum RBC levels. March 31, 2023 | 10-Q 58 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS 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"). 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. CICA International had previously been granted a permitted practice by the BMA to report its fixed income maturity securities at amortized cost in its unconsolidated statutory financial statements. This permitted practice has expired. CICA PR is a Puerto Rico domiciled company. The Insurance Code does not specifically set forth minimum capital and surplus standards, but rather requires that an insurer submit a business plan for approval to the OIC that includes proposed minimum capital and surplus. CICA PR is required to maintain a minimum of $750,000 in capital and maintain a premium to surplus ratio of 7 to 1. CICA PR began issuing new business as of January 1, 2023 and since higher costs are associated with new business than renewal business (e.g., first year commissions), we expect that Citizens will have to contribute capital to CICA PR in the foreseeable future in order to maintain the required premium to surplus ratio. Like with CICA International, any capital that Citizens is required to contribute could negatively impact the Company's capital resources and liquidity. CONTRACTUAL OBLIGATIONS AND OFF-BALANCE SHEET ARRANGEMENTS As of March 31, 2023, 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 except as follows. The following items have changed due to adoption of Accounting Standard Update ("ASU") No. 2018-12, Financial Services-Insurance (Topic 944): Targeted Improvements to the Accounting for Long-Duration Contracts. DEFERRED POLICY ACQUISITION COSTS Deferred policy acquisition costs (“DAC”) are costs that are incremental and directly related to the successful acquisition of new or renewal insurance contracts. Such costs include the incremental direct costs of contract acquisition, such as sales commissions; the portion of employees’ total compensation and payroll-related fringe benefits related directly to time spent performing acquisition activities, such as underwriting, issuing, and processing policies for contracts that have actually been acquired; and other costs related directly to acquisition activities that would not have been incurred if the contract had not been acquired. Inherent in the capitalization and amortization of DAC are certain management judgements about what acquisition costs are deferred. Approximately 94.0% of our capitalized DAC are attributed to first year and renewal excess commissions. The remaining 6.0% are attributed to other costs that vary with and are directly related to the March 31, 2023 | 10-Q 59 Table of Contents CITIZENS, INC. MANAGEMENT'S DISCUSSION & ANALYSIS successful acquisition of new insurance business. Those costs generally include costs related to the production, underwriting and issuance of new business. DAC is amortized on a constant level basis over the expected term of the related contracts to approximate straight-line amortization. For the Life Insurance Segment, the constant level basis used is policy count in force. For the Home Service Insurance Segment, the constant level basis used is face amount in force. The constant level bases used for amortization are projected using mortality and lapse assumptions that are based on the Company’s experience, industry data, and other factors at the end of each reporting period and are consistent with those used for the liability for future policy benefit life reserves. Annually, the Company completes experience studies to evaluate mortality and lapse. If those assumptions are updated, the DAC amortization basis is recalculated and the impact of the assumption change will be reflected in the cohort level amortization in future periods. COST OF INSURANCE ACQUIRED The Company recognizes an intangible asset that arises in the application of GAAP purchase accounting as the difference between the reported value and the fair value of insurance contract liabilities, or comparable amounts determined in purchased insurance business combinations. This intangible asset is referred to as the Cost of Insurance Acquired (“COIA”), which is amortized on a basis consistent with DAC, such that it is amortized in proportion to policies in force for the Life Insurance Segment and face amount in force for the Home Service Insurance Segment to approximate straight-line amortization. Inherent in the amortization of COIA are certain management judgements about the ending asset balance and the annual amortization. The key assumptions are based upon interest, mortality and lapses at the time of purchase. A recoverability test that considers, among other things, actual experience and projected future experience is performed at least annually. These annual recoverability tests are based initially on an estimate of the available premium (gross premium less the benefit and expense portion of premium) for the next 50 years using best estimate assumptions related to interest rates, mortality and lapses. Management believes that our COIA is recoverable for the three months ended March 31, 2023. This belief is based upon the analysis performed on estimated future results of the block and our annual recoverability testing. POLICY LIABILITIES As premium revenue is recognized, a liability for future policy benefits is accrued. The liability for a future policy benefit is the present value of estimated future policy benefits to be paid to or on behalf of policyholders less the present value of estimated future net premiums to be collected from policyholders. The liability is estimated using current assumptions that include investment yields, discount rate, mortality and lapses and withdrawals. These current assumptions are based on judgements that consider the Company’s historical experience, industry data, and other factors. Annually, the Company completes experience studies to evaluate mortality and lapse. The results of these studies are used to update current year best estimate assumptions used in establishing benefit liabilities and DAC. The current discount rate assumption is a yield curve that equals the yield of an upper-medium grade fixed income instrument, based on an A-quality corporate bond. The current discount rate assumption is updated quarterly and used to remeasure the liability at the reporting date, with the resulting change reflected in other comprehensive income. For liability cash flows that are projected beyond the duration of market-observable A credit-rated fixed-income instruments, the Company uses the last market-observable yield level and uses linear interpolation to determine yield assumptions for durations that do not have market observable yields. The locked-in discount rate for policies issued prior to transition equals the rate set at contract issuance. For current year issues, the locked-in discount rate is the average of the current year quarterly discount rates and will change throughout the year as new discount rates are calculated, with the change reflected in net income. March 31, 2023 | 10-Q 60 Table of Contents CITIZENS, INC. Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As a smaller reporting company, we have elected to comply with certain scaled disclosure reporting obligations and therefore are not required to provide the information required by this Item.