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Subscription rights demutualization may lift growth prospects for life insurer

One life and annuity company that previously converted to a mutual insurance holding company structure seeking additional strategic and financial flexibility is using a similar rationale two years later in support of a subscription rights demutualization.

If successful, according to a registration statement filed with the SEC, Federal Life Insurance Co. would become a subsidiary of the publicly traded Federal Life Group Inc. in conjunction with the latter's sale of stock to eligible policyholders and select other individuals and entities in a subscription rights offering.

The earlier conversion, which closed in June 2016, had Federal Life reorganizing from a mutual to a stock company that was an indirect subsidiary of Federal Life Mutual Holding Co. Membership interests of Federal Life Insurance's policyholders automatically transferred to the new mutual holding company.

The demutualization would have Federal Life Mutual converting to a stock holding company and becoming a wholly owned subsidiary of Federal Life Group. Membership interests in the mutual holding company currently held by Federal Life Insurance members would be extinguished in exchange for subscription rights to purchase the new holding company's stock at a price of $10 per share. A subsequent community offering will provide the opportunity for company employees and a "limited number" of "possible strategic partners" to acquire shares, the filing said.

Insurance Capital Group LLC, as standby purchaser, agreed to participate in the community phase to acquire any unsubscribed shares up to the offering minimum of 3.4 million. Federal Life Group anticipates that the standby purchaser, which was founded in January with a focus on sponsored demutualizations and other complex conversion transactions by Reservoir Capital Group LLC veterans Matthew Popoli and Craig Huff, will own a majority of its outstanding shares upon the offering's completion.

Reservoir Capital partnered with Black Diamond Capital Partners in 2009 to form Prosperity Life Insurance Group LLC, which subsequently engaged in the sponsored demutualizations of Shenandoah Life Insurance Co. and SBLI USA Life Insurance Co. Inc. Among Insurance Capital Group's initial investments was a 49% position in Glacier Capital Holdings, LLC, the entity that acquired nonstandard auto insurer Capitol Insurance Co. earlier in 2018.

Popoli and Huff will be part of an eight-person Federal Life Group board after the offering's completion. The company expects that their expertise will benefit its growth plans.

Federal Life Insurance had eyed the earlier conversion as a way to more easily raise capital, enter business relations with mutual insurers and mutual holding companies, engage in expansion and enhance its profitability. Following the latest reorganization, according to the registration statement, Federal Life Group intends to use capital raised in the IPO to expand its distribution platform, pursue acquisitions of other life insurers, capitalize on its reputation as a provider of fixed indexed annuities, target the Hispanic market and the direct-to-consumer channel for growth, and launch a new variable annuity product to be sold through a broker/dealer subsidiary that is currently inactive.

Federal Life Insurance reported $11.3 million in sales of its indexed annuity product in 2017, up from $5.8 million in 2016. It reported statutory and GAAP losses in both years, however. Federal Life Group said in the registration statement that it is "committed to improving our profitability."

An independent valuation appraisal conducted by RP Financial LC and included as an exhibit to the registration statement indicates that while there had been no subscription rights demutualizations conducted for a period of more than seven years following an October 2009 transaction involving Penn Millers Holding Corp., two such conversions occurred in March 2017 involving ICC Holdings and NI Holdings Inc. In the former transaction, Illinois Casualty Co. engaged in a mutual-to-stock conversion. In the latter, Nodak Mutual Insurance Co. also converted, but a newly created mutual holding company serves as NI Holdings' majority shareholder.

RP Financial said the ICC Holdings deal might be the most comparable of the offerings. It noted that the company's subscription rights deal closed at a pro forma price-to-tangible book ratio of 56.3%. The firm calculated a pro forma price-to-tangible book ratio in a range from 50.8% to 58.8% with a midpoint of 55.1% based on its estimates of Federal Life Group's pro forma market value of between $34 million and $46 million.

"The fact that ICC Holdings was profitable on [a] pre-conversion basis represents a significant difference from Federal Life's history of operating losses," RP Financial said. "At the same time, the bull market environment has continued and Federal Life has developed a growth-oriented business plan which is dependent on the capital raised in the offering."